##### Table of Contents









UNITED STATES

SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549




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FORM 10-K

(Mark One)



| |                                                                                                                                  
| | ---------------------------------------------------------------------------------------------------------------------------------
| | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE 
	 SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED
	MARCH 31, 2001
|
| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE 
	 SECURITIES EXCHANGE ACT OF 1934                                      

Commission File Number

1-15681




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webMethods, Inc.

(Exact Name of Registrant as Specified in its
Charter)


|                                                                              |  |                                                
|----------------------------------------------------------------------------- |  | -----------------------------------------------
|                                                                             
|                                                                             
|                                                                             
|                                                                             
|Delaware(State or Other Jurisdiction of
	Incorporation or Organization)       |  | 54-1807654(I.R.S. Employer
	Identification No.)
|                                                                             
|                                                                             
|                                                                             
|                                                                             
|                                                                             
|3930 Pender Drive, Fairfax, Virginia(Address of Principal Executive
	Offices) |  | 22030(Zip Code)                                

Registrants telephone number, including area
code:  (703) 460-2500

Securities registered pursuant to Section 12(b) of the
Act:  None

Securities registered pursuant to Section 12(g) of the
Act:  Common Stock, $0.01 par value



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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 
     No

Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K is not
contained herein, and will not be contained, to the best of
registrants knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K.

The aggregate market value of webMethods Common Stock held by
non-affiliates of the registrant as of May 31, 2001, based
upon the closing price of webMethods Common Stock on the Nasdaq
National Market for such date, was $858,707,762.

As of June 22, 2001, there were outstanding 49,240,023
shares of webMethods Common Stock.

DOCUMENTS INCORPORATED BY REFERENCE

Certain portions of the definitive Proxy Statement to be used in
connection with webMethods annual meeting of stockholders,
to be held on August 23, 2001, and to be mailed to
stockholders on or about July 16, 2001, are incorporated by
reference into Part III of this Form 10-K.









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##### Table of Contents



WEBMETHODS, INC.

FORM 10-K

TABLE OF CONTENTS

|           |  |                                                                                              |  |   
|---------- |  | -------------------------------------------------------------------------------------------- |  | --
|Part I     |  |                                                                                             
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|Item 1.    |  | Business                                                                                     |  | 1 
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|           |  | Overview                                                                                     |  | 1 
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|           |  | Products and Services                                                                        |  | 9 
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|           |  | Customers                                                                                    |  | 14
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|           |  | Strategic Relationships                                                                      |  | 14
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|           |  | Sales and Marketing                                                                          |  | 15
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|           |  | Research and Development                                                                     |  | 16
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|           |  | Competition                                                                                  |  | 16
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|           |  | Intellectual Property and Other
	Proprietary Rights                                          |  | 17
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|           |  | Employees                                                                                    |  | 18
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|           |  | Executive Officers of webMethods                                                             |  | 18
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|           |  | Factors that May Affect Future
	Operating Results                                            |  | 19
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|Item 2.    |  | Properties                                                                                   |  | 26
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|Item 3.    |  | Legal Proceedings                                                                            |  | 26
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|Item 4.    |  | Submission of Matters to a Vote of Security
	Holders                                         |  | 26
|Part II    |  |                                                                                             
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|Item 5.    |  | Market for Registrants Common Stock and
	Related Stockholder Matters                        |  | 27
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|Item 6.    |  | Selected Consolidated Financial Data                                                         |  | 28
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|Item 7.    |  | Managements Discussion and Analysis of
	Financial Condition and Results of Operations       |  | 30
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|           |  | Overview                                                                                     |  | 30
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|           |  | Results of Operations                                                                        |  | 33
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|           |  | Liquidity and Capital Resources                                                              |  | 40
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|           |  | Recently Issued Accounting
	Pronouncements                                                   |  | 41
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|Item 7A.   |  | Quantitative and Qualitative Disclosures about
	Market Risk                                  |  | 41
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|Item 8.    |  | Financial Statements and Supplementary Data                                                  |  | 42
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|Item 9.    |  | Changes in and Disagreements with Accountants on
	Accounting and Financial Disclosure Issues |  | 42
|Part III   |  |                                                                                             
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|Item 10.   |  | Directors and Executive Officers of the Registrant                                           |  | 43
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|Item 11.   |  | Executive Compensation                                                                       |  | 43
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|Item 12.   |  | Security Ownership of Certain Beneficial Owners
	and Management                              |  | 43
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|Item 13.   |  | Certain Relationships and Related Transactions                                               |  | 43
|Part IV    |  |                                                                                             
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|Item 14.   |  | Exhibits, Financial Statement Schedules, and
	Reports on Form 8-K                            |  | 44
|          
|          
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|Signatures |  | 46                                                                                          



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TABLE OF CONTENTS



|                                                  |                                                                                                 |  |  |  |  |  |  | 
|------------------------------------------------- | ----------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I                                           
|                                                  | Item 1. BUSINESS                                                                               
|                                                  | Item 2. PROPERTIES                                                                             
|                                                  | Item 3. LEGAL PROCEEDINGS                                                                      
|                                                  | Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                    
|PART II                                          
|                                                  | Item 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS                   
|                                                  | Item 6.   SELECTED FINANCIAL DATA                                                              
|                                                  | Item 7.   Managements Discussion and Analysis of Financial Condition and Results of Operations
|                                                  | Item 7a.   Quantitative and Qualitative Disclosures About Market Risk                          
|                                                  | Item 8.   Financial Statements and Supplementary Data                                          
|                                                  | Item 9.   Changes in and Disagreements with Accountants on Accounting and Financial Disclosures
|PART III                                         
|                                                  | Item 10.   Directors and Executive Officers of the Registrant                                  
|                                                  | Item 11.   Executive Compensation                                                              
|                                                  | Item 12.   Security Ownership of Certain Beneficial Owners and Management                      
|                                                  | Item 13.   Certain Relationships and Related Transactions                                      
|PART IV                                          
|                                                  | Item 14.   Exhibits, Financial Statement Schedules and Reports on Form 8-K                     
|                                                  | SIGNATURES                                                                                     
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS       
|Fifth Amended and Restated Certificate of Incorp.
|Subsidiaries of the Registrant                   
|Consent of PricewaterhouseCoopers LLP            
|Inform. Incorp. by Ref. from Item 15 of Form S-1 



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##### Table of Contents






PART I

Some of the information contained in, or incorporated by
reference into, this report constitute forward-looking
statements. These statements relate to future events or future
financial performance and involve known and unknown risks,
uncertainties and other factors. Any statements contained herein
that are not statements of historical fact may be deemed to be
forward-looking statements. Without limiting the foregoing, the
words believes, anticipates,
plans, expects, intends,
may, will, should,
estimates, predicts,
continue and similar expressions are intended to
identify forward-looking statements. The important factors
discussed below under the caption Factors that May Affect
Future Operating Results, among others, could cause actual
results to differ materially from those indicated by
forward-looking statements made herein and presented elsewhere
by management from time to time. We do not undertake any
obligation to publicly update or revise any forward-looking
statements, whether as a result of new information, future
events or otherwise.




Item 1.  BUSINESS

The following description of our business contains
forward-looking statements that involve risks and uncertainties.
Our actual results may differ significantly from the results
discussed in the forward-looking statements. Some of the factors
that may cause such results to differ include, but are not
limited to, those discussed in Factors that May Affect
Future Operating Results contained in Item 1 and
Managements Discussion and Analysis of Financial
Condition and Results of Operations contained in
Item 7.

OVERVIEW

webMethods was organized in Delaware in 1996. We completed our
initial public offering in February 2000. Our executive
offices are located at 3930 Pender Drive, Fairfax, Virginia
22030 and we have offices across the United States, Europe and
Asia. Our telephone number is (703) 460-2500.

We are a leading provider of infrastructure software and
services for comprehensive end-to-end integration solutions that
enable our customers to achieve comprehensive automation of
business processes by integrating their systems in real time.
Our customers use our software, webMethods Enterprise,
webMethods B2B, and webMethods Mainframe Integration Server, to
integrate business processes among different systems within
their enterprise and to work more closely with their customers,
suppliers and other business partners through the real-time
exchange of information and transactions. We achieve this
comprehensive, real-time integration with the webMethods
Extended Enterprise Solution Suite (formerly webMethods B2Bi
Solutions Suite) software, the first end-to-end solution that
operates inside, outside and across corporate firewalls. With
the combined functionality of webMethods Enterprise, webMethods
B2B, and webMethods Mainframe Integration Server, webMethods
Extended Enterprise Solution Suite enables a company not only to
integrate its portfolio of existing enterprise applications, but
also to extend these applications to its customers, suppliers
and other business partners. As a result, a company can exchange
information in real time, enabling its business to operate
faster and more efficiently and to use intranets and the
Internet to conduct electronic transactions internally and with
customers, suppliers and business partners. In addition, our
software is incorporated into the operation of a number of major
industry-backed exchanges.

webMethods Extended Enterprise Solution Suite permits our
customers to rapidly and cost effectively deploy new real-time
business-to-business (B2B) e-commerce applications by both
integrating their existing internal enterprise systems and by
integrating these systems with those of their business partners.
For example, webMethods Enterprise can improve supply chain
management by automating, without costly custom programming,
various internal business processes such as procurement, order
processing, inventory management, shipping and fulfillment
systems and enterprise resource planning systems. webMethods B2B
can improve supply chain management by integrating the processes
of our customer with similar processes of its customers,
suppliers and business partners. webMethods Mainframe
Integration Server enables integration with existing mainframe
systems used in Global 2000 organizations. By using webMethods
Enterprise software, webMethods Mainframe Integration Server and
webMethods

1



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| |   |                                                                                                                                                                                                                                                                                  
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | increase return on investment from existing enterprise software
	systems;                                                                                                                                                                                                        
|
| |  | increase operational efficiency by reducing internal costs and
	inefficiencies and streamlining operations;                                                                                                                                                                      
|
| |  | improve supply chain efficiencies through shortened cycle times,
	lower inventories and reduced error rates;                                                                                                                                                                     
|
| |  | accelerate time-to-market for new products and services by
	integrating internal applications into a platform and
	integrating and synchronizing this platform with end-to-end
	information flow between enterprise applications and customers,
	suppliers and business partners;
|
| |  | strengthen relationships with their customers, suppliers and
	business partners due to new direct, secure connections across
	multiple computing platforms, applications and protocols; and                                                                                      
|
| |  | create new revenue opportunities due to improved customer
	retention, improved customer service and the ability to deliver
	additional value-added services and customized product offerings.                                                                                    

We market our software globally through a direct sales force and
a number of resellers and systems integrators. A key element of
our sales and marketing strategy is to leverage relationships
with our customers and business partners. We believe that by
providing solutions to leading buyers, suppliers, portals and
enterprise software and hardware companies pursuing enterprise
application integration, or EAI, solutions, business-to-business
e-commerce opportunities or comprehensive end-to-end-solutions,
our software sales will increase substantially as our
technologies become more widely deployed in the marketplace. Our
installed base of customers has helped fuel demand for our
products by introducing the customers, suppliers and other
business partners of our customers to our products.

webMethods Extended Enterprise Solution Suite, webMethods B2B,
webMethods Enterprise and webMethods Mainframe Integration
Server, have been licensed to customers in a variety of
industries including manufacturing, telecommunications,
financial services, shipping and logistics, chemicals and
insurance. As of March 31, 2001, we had over 625 customers,
including Cisco Systems, Citibank, Compaq Computer, Dell
Computer, Dun & Bradstreet, Eastman Chemical, Federal
Express, Ford Motor Company, W.W. Grainger, Hewlett-Packard,
Lexmark, Lucent, Motorola and Starbucks. In addition, we have
established strategic relationships with major industry-backed
exchanges, such as Covisint, Aeroxchange, Quadrem, Converge and
ForestExpress, to utilize our software to integrate their
trading partners. We also have strategic relationships with
enterprise application vendors, such as i2 Technologies, J.D.
Edwards and SAP AG, that incorporate our technology into their
software or resell our software. We have business relationships
with other leading independent software vendors and system
integrators, including Accenture, Ariba, BEA Systems, Commerce
One, Deloitte Consulting, Electronic Data Systems (EDS), IBM
Global Services, KPMG Consulting, Oracle, Siebel Systems and
others.

Industry Background

Proliferation and variety of
internal applications

Over the past decade, enterprise computing environments have
undergone a significant transformation. This transformation has
been driven by accelerating organizational demands for
flexibility, efficiency, and speed in order to more effectively
respond to a rapidly changing business environment and
increasingly global marketplace. In parallel, there has been a
shift from in-house, custom development of mission-critical
applications to the purchase of these applications and related
services from third-party vendors. Packaged applications have
spread throughout the enterprise to address many highly
strategic business functions, including resource planning,
management of supply and distribution networks, customer
relationship management, sales force automation, business
decision support and e-commerce. In this new corporate
environment, a single business process can require access to
data and information from many

2



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Companies have invested an enormous amount of financial and
technical resources in developing and deploying a broad range of
packaged and custom applications. To take full advantage of
these investments, it has become critical for companies to
efficiently integrate these applications. META Group estimates
that the average Fortune 1000 company maintains 49 distinct
enterprise applications and spends from one-quarter to one-third
of its total information technology budget on
integration-related efforts. The complexity of this integration
challenge has historically required time-consuming, expensive,
custom-developed in-house solutions or third-party specialized
consulting and system integration services. More recently, the
market for third-party EAI software has emerged to provide this
integration capability as a packaged solution. Driven by the
increasingly business-critical need for integration, the
e-business integration software and service market is projected
by IDC to reach a total size of $54 billion by 2005.

Growth of the Internet and
business-to-business electronic commerce

The competitive environment for businesses has intensified
dramatically in recent years, causing companies to seek new ways
to generate sustainable competitive advantages. As competition
has increased and markets have become more dynamic, companies
have begun to recognize that they must coordinate more closely
with their customers, suppliers and business partners.

Against this backdrop, the explosive emergence of the Internet
has further changed the nature and pace of business operations
and competition. The Internet has emerged as a crucial medium
for electronic commerce. The widespread adoption of the Internet
as a business communications platform has created a foundation
for business-to-business e-commerce that has already enabled
organizations to tap new revenue streams, streamline cumbersome
processes, lower costs and improve productivity. Companies are
now able to conduct business electronically through an
Internet-enabled real-time network of customers, suppliers and
partners. As a result, the ability to conduct business
electronically has become a critical strategic objective.
Companies need to integrate all aspects of their enterprises,
including back-office operations and processing, front-office
applications, such as sales, marketing and customer service, and
supplier management systems, such as planning, sourcing,
purchasing, fulfillment and inventory control. For example, a
company can now give its suppliers and partners real-time
electronic access to its scheduling, billing and inventory
information, thereby enhancing communication, reducing operating
costs and creating a networked organization that takes advantage
of supplier and partner strengths in ways not previously
possible. To compete successfully, a company needs an
integration platform that allows it to adapt quickly to changing
market conditions, accelerate time to market, enhance
relationships with customers, suppliers and partners, and reduce
operating costs.

Traditional enterprise applications alone, however, do not
readily support business processes beyond the borders of an
enterprise. As a result, companies relying only on their
enterprise applications have not been able to easily integrate
their business processes with those of their customers,
suppliers and other business partners to achieve productivity
gains.

We believe the next wave of business innovation will focus on
greater collaboration among businesses and the sharing of
business processes among members of a business community.
Businesses are seeking a comprehensive integration solution that
allows them to utilize their existing portfolio of enterprise
applications to exchange information and transact business with
customers, suppliers and other business partners over the
Internet.

Based on the growth of the Internet and the expectations for
growth in e-commerce, we believe the market opportunity for
integration software and services is substantial. Research has
been conducted to project the size of the integration software
market. This research is based on interviews and surveys of
industry associations and companies and measures only revenue to
be received from Internet commerce sites. According to Forrester
Research, revenue generated from business-to-business e-commerce
will exceed $2.7 trillion by 2003, representing a far larger
market opportunity than business-to-consumer

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Current approaches to
enterprise application integration are inadequate

We believe that traditional integration and EAI solutions fail
to fully capitalize on the benefits of Internet technologies and
do not adequately address the challenges of business-to-business
integration. These solutions are often inflexible and rigid,
lack key functionality, such as security and integration
management and monitoring, and do not offer the speed of
implementation and time-to-market benefits required in
todays business environment. As a result, we believe that
there is a significant opportunity for a vendor who can provide
a platform that enables seamless, real-time and efficient
integration across the extended enterprise of
business-to-business trading partners. This platform needs to
provide the following key capabilities:



| |   |                                                                                                                                                                                                                                                                         
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Comprehensive, Robust Solution: a comprehensive,
	end-to-end solution for extended enterprise integration, inside
	the enterprise and with business-to-business trading partners
	and customers over the Internet that does not require
	substantial custom programming;
|
| |  | Dynamic Adaptability: a system designed to adapt quickly
	and efficiently to changing business operations, rules and
	processes, and to accommodate change without additional
	programming;                                                                             
|
| |  | Scalability: a system that easily accommodates a wide
	range of transaction and data flow volumes across locally and
	globally-distributed networks;                                                                                                                    
|
| |  | Extensibility: flexibility to allow for the efficient
	incorporation of, and integration with, evolving technologies;                                                                                                                                                   
|
| |  | Security: inherent state-of-the-art security and
	administrative capabilities designed for integration among an
	enterprise and its customers, suppliers and business partners;
	and                                                                                    
|
| |  | Management and Monitoring: efficient, easy-to-use and
	centralized management and monitoring of the integration
	platform and all of its components.                                                                                                                    

The variety of computing environments and the inability to share
information across those environments have been a major
impediment to business-to-business integration. For example, the
co-existence of mainframe-based legacy systems and enterprise
applications within a single business often makes it difficult
to share information internally. More importantly, many
organizations applications, particularly their enterprise
resource planning, or ERP, systems, were not designed to
communicate outside of a single enterprise, making
business-to-business communication difficult.

Current integration approaches for business-to-business are
costly, problematic and ineffective. For example, traditional
electronic data interchange, or EDI, is inflexible because it is
based on pre-defined, fixed data formats that are not easily
adjusted. EDI usually requires the use of expensive and
proprietary communications networks and software and often
requires difficult and time-consuming point-to-point
integration. In addition, EDI is not readily scalable for large
numbers of business partners, and because it is batch processed,
it lacks real-time data exchange capability. It has taken years
and millions of dollars to implement EDI trading networks among
large communities of business partners.

EAI software and other middleware technologies alone also fail
to fully deliver comprehensive integration. These packages
integrate systems within a single company, but typically cannot
provide the open and scalable inter-company integration that is
critical for comprehensive integration. Traditional EAI
solutions rely on proprietary, custom architectures and
software, which must be implemented by all parties to enable any
inter-company usage. It is difficult to convince multiple
parties in a trading network to implement the same products or
technologies. In addition, EAI solutions experience operating
difficulties

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First generation e-business Web sites based on Hypertext Markup
Language, or HTML, also do not address the requirements of
comprehensive integration. HTML is designed chiefly for the
presentation of data, and does not directly support data
exchange between the enterprise applications of participating
companies. Since these Web sites were designed primarily for
human-to-system communication, they are difficult to incorporate
into shared multi-company business processes that require
system-to-system communication. Achieving this integration
usually requires significant re-keying of data from at least
one, if not both, parties to a transaction, increasing costs and
rates of error. For example, many large companies that procure
goods from their suppliers Web sites must first enter
orders into an internal enterprise application and then
completely re-key them into vendors Web sites through
their Web browsers.

While recently developed Internet procurement and order
management applications often reduce the overall cost of
procurement, they do not provide comprehensive integration.
These applications generally focus on ordering goods, such as
office supplies, that do not become part of a finished product,
rather than the procurement of goods that become part of a
companys own products. The automation of procurement over
the Internet of goods used to manufacture a product requires
inter-company, system-to-system integration of ERP and
manufacturing applications.

A comprehensive integration solution must integrate a
companys internal enterprise applications, while providing
companies with integrated direct links to their major customers
and suppliers, while also facilitating participation in
business-to-business exchanges to leverage their networks of
buyers and suppliers. It should also allow companies to offer
their business partners the ability to exchange information and
conduct transactions across the Internet securely, reliably and
in real time, regardless of installed technology infrastructure.
To meet the challenges raised by the changing competitive
environment, organizations are searching for a solution that
provides comprehensive integration. The existing approaches have
proven inadequate due to their high cost, inflexibility and
inability to easily adapt to large numbers of business partners.
In addition, existing approaches have typically encountered
difficulties working across many corporate security
infrastructures.

The webMethods Solution

Our solution provides the foundation for a new class of
comprehensive end-to-end software integration solutions for
companies and industry trading exchanges that can be delivered
with shorter, more cost-effective implementation cycles, the
ability to scale to large numbers of business partners, and
greater security and transactional integrity. webMethods
Extended Enterprise Solution Suite is the first end-to-end
solution that operates inside, outside and across corporate
firewalls. We believe that webMethods Enterprise, webMethods
Mainframe Integration Server and webMethods B2B, whether used
alone or together as part of a comprehensive end-to-end
solution, provide significant benefits to our customers.

Our EAI solution involves developing, marketing and supporting
comprehensive integration software products that enable our
customers to more quickly expand and capitalize upon greater
business opportunities. webMethods Enterprise software connects
a wide range of enterprise applications and systems and provides
a comprehensive software platform for integrating these
applications with minimal custom programming.

Increased Operational Efficiency. webMethods Extended
Enterprise Solution Suite is critical to the success of
customers because it integrates the last mile of
business processes that may span many partners, companies or
divisions inside a company. webMethods Enterprise enables
companies to increase their operational efficiency by
streamlining operations and providing up-to-date, accurate
information in real-time across a complete range of enterprise
applications. For example, a company may have an enterprise
resource planning system such as SAP, a customer relationship
management system such as Siebel as well as custom-developed
applications for managing inventory or production. By
integrating these systems in real time, we enable customers to
ensure that there is consistent, up-to-date information in all
systems at all times. This eliminates problems that arise from
data inconsistency that can impact quality of

5



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webMethods Mainframe Integration Server provides a unique
capability not found in competing products which enables
companies to easily integrate with existing legacy mainframe
systems. Because approximately 70% of the worlds
structured data resides in mainframe systems, this is a critical
differentiator for webMethods and has enabled us to be
successful with large Global 2000 organizations. webMethods
Mainframe Integration Server provides a non-invasive approach to
mainframe integration meaning it does not require extensive
programming or changes to the mainframe systems.

webMethods B2B provides companies with integrated direct links
to buyers and suppliers, connects them to major B2B exchanges
and enables real-time, interactive communication through the
Internet regardless of existing technology infrastructure. The
webMethods B2B software provides support for a broad range of
current and emerging business-to-business communication
standards, including eXtensible Markup Language, or XML,
traditional EDI, Open Buying on the Internet, or OBI, and
XML-based e-commerce frameworks, such as RosettaNet, cXML,
Commerce Ones xCBL and Microsoft BizTalk. With webMethods
B2B, the benefits provided by internally focused enterprise
applications can be extended beyond a single company to its
customers, suppliers and business partners. We also offer our
customers the ability to choose varying levels of business
partner integration, from minimal integration with a single
business partner to full integration across an entire trading
network. In addition, because webMethods B2B operates with many
disparate systems and supports many different
business-to-business communication standards, it can be
implemented by multiple business partners without long and
expensive implementation cycles or the need for consensus among
business partners regarding communication standards. We believe
the webMethods Extended Enterprise Solution Suite provides the
following compelling and strategic business benefits to our
customers:

New Revenue Opportunities. webMethods Extended Enterprise
Solution Suite enables companies to increase market share by
allowing them to bring products to market more quickly, and to
provide value-added services to their customers. For example, a
manufacturer can use our software to make it easier for
customers to purchase products by linking a customers
internal procurement application directly to the
manufacturers ordering system. Value-added services may
also include the provision of data concerning purchased goods
for direct incorporation into a customers asset management
system. In the financial services industry, the ability of
webMethods B2B to manage and exchange many XML document formats
can be used to create and configure new financial products and
services. This capability allows companies to rapidly offer new
and more targeted products and services to customers.

Strengthened Relationships with Customers, Suppliers and
Trading Partners. The webMethods Extended Enterprise
Solution Suite gives companies the ability to interact directly
and securely with a variety of customers, suppliers and other
business partners, resulting in improved coordination and
decreasing the time it takes to respond to increasingly rapid
changes in their markets. For example, to further improve their
relationships with their customers, companies may directly link
their customer relationship management, or CRM, systems through
the webMethods Extended Enterprise Solution Suite. This CRM
system integration allows customers to use their own uniform
problem reporting systems to enter and track product or service
problem reports, which are communicated to their vendors and
facilitates the coordination required to resolve open issues.
Furthermore, because webMethods Extended Enterprise Solution
Suite requires limited customization and does not require all
the parties in a trading network to install identical software,
trading partners are able to rapidly develop trading networks in
a cost effective manner.

Improved Supply Chain Efficiencies. Achieving a close
degree of collaboration with suppliers allows many companies to
realize cost efficiencies by outsourcing a significant share of
their manufacturing. With or without an outsourcing strategy,
companies can use our software to achieve significant cost
savings and

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Increased Return on Technology Investments and Rapid
Implementation.Over the years, companies have invested
significant amounts in ERP and other enterprise applications.
Our solution maximizes the returns on these investments by
extending the benefits provided by those applications to a
companys customers, suppliers and other business partners.
We believe our solution entails lower deployment costs than
competing products, in part because limited customization is
required. Implementation time for our software averages about
six weeks, which allows our customers to begin deriving benefits
quickly. Our solution is also easily scalable to accommodate the
growth of a customers trading network. As our
customers trading networks and the number of transactions
grow, they can continue to use our software for their e-business
requirements without having to acquire new software products.

The webMethods Growth Strategy

Our objective is to enhance our position as a leading global
provider of integration infrastructure software and services
that enable companies to easily and effectively link their
existing business applications and share data in real time over
the Internet. To achieve this goal, we are pursuing the
following strategies:

Leverage Customers and Partners as Distribution Channels.We believe that because we provide solutions to some of the
leading e-commerce buyers, suppliers, business-to-business
exchanges and enterprise software and hardware companies, our
product sales benefit from a multiplier effect as our customers
expose more of their business partners to our solution. As of
March 31, 2001, we had over 625 customers including Cisco
Systems, Citibank, Compaq Computer, Dell Computer, Dun &
Bradstreet, Eastman Chemical, Federal Express, Ford Motor
Company, W.W. Grainger, Hewlett Packard, Lexmark, Lucent,
Motorola and Starbucks. We also have strategic relationships
with major industry-backed exchanges, such as Covisint,
Aeroxchange, Quadrem, Converge, and ForestExpress, to utilize
our software to operate their trading networks. The members of,
and investors in, those exchanges are Global 2000 companies that
place significant weight on the technical decisions of the
exchange and may purchase additional licenses or licenses for
other webMethods products as a result of use of our products on
the trading networks.

We also have strong relationships with leading enterprise
application software providers, including i2 Technologies, J.D.
Edwards and SAP AG, who tightly integrate and distribute
webMethods products with their software. For example, our
relationship with SAP provides SAPs customers with the SAP
Business Connector, an OEM version of webMethods B2B used to
integrate SAP applications. SAP and webMethods jointly target
these customers to sell the full webMethods Extended Enterprise
Solution Suite, which supports integration of non-SAP
applications. In addition, SAP can resell certain webMethods
products to both SAP and non-SAP customers, as well as receive
referral fees for leads provided to webMethods. As another
example, i2 Technologies has selected webMethods as their
preferred integration platform, and has licensed webMethods
software to tightly integrate with their applications. i2 sales
representatives can sell both the integrated software as well as
the full range of webMethods products. We believe these
relationships, and similar relationships with J.D. Edwards,
Broadvision and others, are unique in nature and provide a
competitive advantage for webMethods. We also have relationships
with other leading enterprise application software providers,
including Ariba, BEA Systems, Commerce One, Hewlett-Packard,
Oracle and Siebel Systems.

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In addition, we have expanded and strengthened our partnerships
with major system integrators in order to provide services and
sales leverage to our software product-based business model. We
have established a series of formal partnerships with system
integrators, such as Accenture, American Management Systems,
Inc., Computer Services Corporation, Deloitte Consulting,
Electronic Data Systems, IBM Global Services and KPMG
Consulting, Each of these partners has established a formal
webMethods practice, thus increasing dramatically the number of
webMethodstrained resources available through our system
integrator partners. As a result of this expanded knowledge
base, as well as joint implementation successes, these
partnerships and alliances have resulted in a virtual extension
of our direct sales force. In addition, through joint
promotional and selling efforts with these partners, we are able
to reach a broader range of customers than would be possible
through our sales force alone. These relationships also enable
us to focus on being the provider of business-to-business
integration software and leveraging our unique capabilities and
technologies while providing our customers with a comprehensive
solution and enabling us to scale our business more quickly,
effectively and inexpensively.

Extend Technology and Product Leadership and Provide a
Complete Integration Solution.We believe that we have
developed the broadest and most comprehensive integration
software currently available, supporting more
application-to-application, business-to-business and mainframe
integration protocols and data format standards than any
competing product. We provide one of the most extensive
libraries of integration adapters to enable our customers to
achieve the highest levels of productivity when integrating
systems within their enterprise or with their business partners.
We have been a pioneer in the application of XML and Java
technologies for all areas of integration and e-commerce. We
intend to continue investing in research and development and to
remain actively involved with industry standards bodies to
ensure that our products incorporate developing technology and
industry standards. We also intend to increase the performance,
functionality and ease of use of our software by integrating new
technologies and supporting a wider range of enterprise
applications. In the future, we may acquire technology or
businesses that enhance or complement our technology.

We recognize that solving the integration challenges facing our
customers is critical to the continued success of their
businesses. Our approach is designed to help them meet those
challenges by offering a comprehensive integration solution that
is capable of integrating all key information system resources
of our customers, as well as those of their business partners.
We expect to continually add to the depth and breadth of the
entire webMethods integration platform, always with the ultimate
objective of making integration faster and easier for our
customers. For application-to-application integration, the
webMethods integration platform incorporates a high-speed
information broker, intelligent adapters and management
facilities necessary to provide a robust platform for
integrating applications that require extremely high-speed
exchange or synchronization of data. In addition, we have
developed a methodology that enables our customers to develop a
focused integration strategy and implementation plan. This
methodology is accompanied by pre-built standard integration
processes that can be readily customized and deployed.

In November 2000, we began offering as a service webMethods
Partner Connect (formerly B2B.com), the first platform for rapid
trading partner integration, and webMethods for Trading
Networks, a new product with enhanced functionality allowing
organizations to grow and manage large diverse trading networks.

Our key technical personnel have been recognized as innovators
in integration, middleware and networking technologies. We
believe that the recognition by industry analysts and the media
of our technical achievements is important in increasing market
awareness and generating business referral opportunities. In
addition, we understand that our customers success is
paramount and we partner with a variety of third parties whose
capabilities both complement and augment our own in order to
assist our customers in rapidly delivering successful business
results.

Leverage Professional Services Capabilities. We have
established strong relationships with our customers by designing
and developing successful integration solutions for them. In
order to continue this, we plan to continue to expand our direct
professional services capabilities by increasing the number of
professional services consultants and adding additional service
locations. In addition, we intend to offer

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Expand Global Sales Efforts. We are aggressively pursuing
a global, multi-channel distribution strategy that leverages
both our direct sales force and our relationships with
resellers, systems integrators and international distributors.
We currently have more than 30 offices around the world,
including more than 20 offices in North America and sales and
support offices in Australia, England, France, Germany, Hong
Kong, Japan, Korea, Mexico, the Netherlands, Singapore and
Taiwan. We expect to continue expanding our international
presence by establishing additional overseas offices in Europe,
Asia and Australia and expanding our indirect sales channels in
Europe and Asia. In addition, we plan to increase our customer
and partner base through aggressive sales and marketing
campaigns and by conducting joint marketing efforts with some of
our customers and partners. As of March 31, 2001, we had
399 employees dedicated to sales and marketing.

Continue to Emphasize Renewable License Model. While most
software providers only license their software on a perpetual
basis, we offer renewable term licenses to our customers as our
preferred licensing model. At the end of the license term,
customers can either renew for another term with a new license
fee due or terminate their license. We believe that, because of
the critical nature of the services performed by our software, a
majority of the licenses will be renewed, which will provide
future license revenues upon renewal of the licenses.

Facilitate broad acceptance and deployment of
webMethods Extended Enterprise Solution Suite.Our
objective is to establish the webMethods Extended Enterprise
Solution Suite as the integration software of choice across
multiple industries. To facilitate this broad acceptance, we
have designed our platform to be open, extensible and broadly
applicable to many different markets. For example, we have
licensed webMethods Enterprise or webMethods B2B to leading
enterprises in the financial services, technology,
telecommunications, government, utilities, retail, manufacturing
and transportation industry sectors.

PRODUCTS AND SERVICES

webMethods Extended Enterprise Solution Suite contains features
that help integrate internal applications, business partners,
exchanges, buyers and suppliers into online trading networks.
Our software helps companies directly integrate with their
business partners while also participating in
business-to-business exchanges. Our software supports a broad
range of current and emerging standards for business-to-business
communications, including XML, traditional EDI, OBI and
XML-based e-commerce frameworks such as Commerce XML, xCBL and
FpML. In addition, webMethods B2B provides support for and
interoperability with EDI applications as well as leading
enterprise applications and systems.

Product Architecture and Technology

webMethods Extended Enterprise Solution Suite offers a complete
platform for automating business processes that span any system,
application, division or company. It provides a complete
end-to-end solution for integration inside the enterprise as
well as with trading partners and customers over the Internet.
webMethods Extended Enterprise Solution Suite has been designed
to allow our customers to achieve internal integration as well
as integration with business partners in less time, at lower
cost and with fewer alterations to their existing applications
than current alternatives.

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Scalability, Performance and Reliability.The webMethods
integration platform has been designed to handle thousands of
simultaneous integration connections and service a high volume
of transactions among those many connections. Using a clustered
multi-server, multi-threaded architecture, the softwares
performance is optimized for multi-processor systems, and
supports high-volume server-side processing of business
documents. For e-commerce implementations, a customer and their
business partners that are both running webMethods B2B can take
advantage of guaranteed delivery features that ensure that
critical messages or business documents get delivered from one
partner to another.

Reusable Integration Services Architecture.The
webMethods integration platform is built around a reusable
architecture for application-to-application,
business-to-business and mainframe integration services, which
models business processes and operations such as purchase order
submission and order tracking. The webMethods integration
platform includes graphical development tools permitting
integration services to be reused and combined across multiple
trading partner relationships.

Support for Large Numbers of Trading Partners.webMethods
B2B includes features that allow companies to readily manage
deployments across a large number of trading partners. For
instance, a package replication feature allows an administrator
to bundle a set of business-to-business service definitions,
code and data transformations that provide a certain
business-to-business capability, such as order receipt, into a
package that can be automatically replicated across an entire
network of business partners.

Security.The webMethods integration platform contains a
comprehensive set of security features that enable enterprises
to utilize their intranet, extranets or the public Internet to
transmit proprietary information with confidence. These features
can provide security even if the webMethods integration platform
is used by only one party to a transaction. The software
includes X.509 digital certificates, RSA public key encryption
and SSL encryption, which are ways to encode information
transmitted over the Internet to make it unintelligible to all
but intended recipients, and access control lists to ensure
authentication, authorization and data privacy. In addition,
because all communications sent through the webMethods B2B
Integration Server can be sent through public Internet
connections using HTTP, which passes through corporate
firewalls, the business partners of our customers are not
required to modify their applications security features.

Our product offerings are summarized below.

webMethods Enterprise Products

We market the webMethods Enterprise platform as a part of the
webMethods Extended Enterprise Solution Suite as well as a on a
standalone basis. Our integration methodology provides a
framework for accelerating integration projects implemented by
our customers and system integrator partners.

webMethods Enterprise consists of a number of products that work
together to provide our customers with a comprehensive
enterprise integration or EAI solution. These products include
the webMethods Enterprise Business Integrator for graphically
modeling integration projects; the Information Broker, which
provides the underlying technology for integrating different
sources of data in real time; Intelligent Adapters, which
provide dynamic connectivity to applications and systems; and
Graphical Management and Monitoring Tools, which make the
integration platform easy to deploy, manage and maintain.

webMethods Business Integrator.The webMethods Business
Integrator is a visual modeling tool that automates the design,
development and deployment of end-to-end business processes.
Once the design for integration is complete, the webMethods
Business Integrator automatically generates the underlying code
and runtime system, enabling customers to focus on business
process issues, not technical complexities. The webMethods
Business Integrator implements the webMethods Enterprise
integration methodology and eliminates much of the custom
programming involved in integrating complex systems.

webMethods Enterprise Information Broker.The Information
Broker is the central component of the webMethods Enterprise
platform. The Information Broker resides on a server and
mediates requests to and from applications, providing essential
queuing, filtering, routing and storage of information in a
secure

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Information Broker Options. Our customers may choose the
following Information Broker options, which increase
functionality and enhance the ability of webMethods Enterprise
to support mission-critical eBusiness integration projects:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                             
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | The Multi-Broker Option enables an unlimited number of
	Information Brokers to be configured to provide information
	sharing and automatic information delivery throughout the
	enterprise, including its network of customers, suppliers and
	business partners. Multiple Information Brokers collaborate to
	provide a single integrated system that efficiently delivers
	information among applications.
|
| |  | The High Availability Option ensures uninterrupted availability
	without data loss through server outages.                                                                                                                                                                                                                                                                                                  
|
| |  | The Secure Socket Layer, or SSL, Option enables customers to
	send encrypted data with digital signature authentication.                                                                                                                                                                                                                                                                                    

webMethods Enterprise Intelligent Adapters.Intelligent
Adapters connect individual software applications to the
webMethods Enterprise platform. Our partners and we have
developed a large number of Intelligent Adapters that work with
many enterprise applications and systems, including:



| |   |                                                                                                                                                       
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | front-office and eCommerce applications, including those from
	Clarify, Inc., Siebel Systems, Inc. and InterWorld Corporation;                        
|
| |  | back office enterprise applications, including those from
	PeopleSoft, Inc. and SAP;                                                                  
|
| |  | relational databases, including those from IBM (DB2), Informix
	Corporation, Microsoft Corporation (SQL Server), Oracle
	Corporation and Sybase, Inc.;
|
| |  | custom applications developed using ActiveX, C, C++, CORBA, Java
	and XML Languages.                                                                  

Our breadth of Intelligent Adapters enables easier and faster
integration of additional applications to an eBusiness
integration solution or project. The wide range of Intelligent
Adapters available from webMethods and our partners give
webMethods Enterprise a scope of integration not available from
other integration solution providers. We believe that our
webMethods Enterprise Intelligent Adapters are also more
configurable and adaptable than approaches available from other
vendors. webMethods Enterprise

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webMethods Enterprise Adapter Development Kit.The
webMethods Enterprise Adapter Development Kit enables customers,
partners and independent software vendors to create their own
custom adapters for the webMethods Enterprise platform, which
further extends the capabilities of the webMethods Enterprise
platform. Virtually any application can be integrated through
the use of custom adapters created with the Adapter Development
Kit, thereby ensuring that customers can successfully integrate
their current applications, as well as applications which may be
developed or acquired in the future.

webMethods B2B Products

The webMethods B2B Integration Server, the webMethods B2B
Integrator and the set of webMethods B2B Integration Modules
comprise the principal components of webMethods B2B. These
components work together to create and execute intercompany
applications and data exchanges that link enterprise and legacy
applications, databases, EDI software and Web sites between
companies participating in online trading networks.

webMethods B2B Integration Server. The webMethods B2B
Integration Server automates the exchange of data across the
Internet by securely and reliably transporting, mapping and
transforming business documents and data messages of different
types among a diverse array of applications and databases. An
integration server is a software product that processes requests
for sending and receiving data across the Internet. The requests
are submitted by existing enterprise applications. Using an
integration server, applications may directly access Web data
across the Internet in real-time without the need for costly
application redevelopment. The webMethods B2B Integration Server
can be used to integrate with applications developed in a
variety of languages and technologies. Because the webMethods
B2B Integration Server provides open application interfaces and
supports a wide array of current and emerging
business-to-business data standards, our software can
successfully integrate otherwise incompatible enterprise
applications, EDI and EAI deployments and XML and HTML-based Web
sites.

The webMethods B2B Integration Server can perform all
communications using standard Hypertext Transport Protocol, or
HTTP, as the data transport protocol. For this reason,
communications sent through the webMethods B2B Integration
Server are not rejected by corporate firewalls that generally
exclude communications sent using proprietary protocols. We have
invested significant resources so that our server software is
able to utilize HTTP without compromising security, reliability
or performance.

webMethods B2B Developer is a development, testing and
management environment used by application developers and system
integrators to define data flow definitions and transformations
between inbound and outbound business documents and messages,
and the enterprise applications or Web sites that will create
and receive them. These data flow definitions and
transformations are displayed and manipulated using familiar
visually oriented tools and metaphors. The webMethods B2B
Developer is also able to define conversions between XML
documents of different types. For instance, it can be used to
define a conversion from a purchase order in Commerce XML format
into the equivalent Open Applications Group data format. The
webMethods B2B Developer provides the capability to upload the
data flow definitions and transformations to the webMethods B2B
Integration Server, which executes them on actual business
documents and messages.

webMethods for Trading Networks is a graphical tool that
enables Global 2000 companies to build, manage and analyze
high-volume, real-time trading networks. These networks allow
companies to automate and streamline their business processes,
eliminate unnecessary manual procedures and reduce costs
associated with processing errors. Working in conjunction with
the webMethods B2B system, webMethods for Trading Networks
delivers a dynamic infrastructure with highly configurable
business analysis and operational control. webMethods for
Trading Networks accelerates integration, streamlines business
processes and increases visibility across the entire trading
network-providing real-time business views into trading partner
interactions.

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webMethods Partner Connect (formerly B2B.com) is a
web-based solution that enables Global 2000 companies and major
business-to-business trading exchanges to rapidly deploy trading
networks of any size. For companies seeking to aggressively
build out their business-to-business trading networks,
webMethods Partner Connect makes it possible to accelerate the
implementation process of thousands of partners by up to 50
percent. Through webMethods Partner Connect, Global 2000
companies and business-to-business exchanges can provide their
trading partners access to all the resources and expertise they
need to rapidly deploy, support and extend their trading
exchange or corporate hub. webMethods Partner Connect provides
all of the components necessary to help companies quickly deploy
a trading network. webMethods Partner Connect implements a
complete Implementation Methodology which presents each trading
partner with best practice templates and a graphically driven,
rapid implementation path to help accelerate the entire process.
webMethods Partner Connect supports software downloads, license
management, version control and software configuration
capabilities that reduce the manual steps required to integrate
partners. webMethods Partner Connect also provides Trading
Partner Management by providing comprehensive tracking,
administration and reporting of trading partners and their
initiatives. In June 2001, webMethods Partner Connect was
also enhanced to include an Enablement Center facility which
allows a developer of a trading network to test its partner
connections using webMethods Partner Connect before its trading
network is completed, thereby ensuring the most efficient path
to return on investment.

webMethods B2B for RosettaNet provides support for the
RosettaNet framework and all released RosettaNet partner
interchange processes. RosettaNet is a popular
business-to-business standard in the electronic components
industry. In addition to providing complete support for this
leading supply chain integration standard, webMethods B2B for
RosettaNet processes transactional data and offers scalable
trading partner profiles and business rule management.

Professional Services and Customer Care

As part of a complete solution, we offer comprehensive
professional services that complement our software, including
strategic planning, project management and systems integration,
as well as consulting services and training relating to our
software products. As of March 31, 2001, our professional
services and customer care group consisted of 219 employees.

Professional Services. A majority of our customers make
use of our professional services to help them design and develop
a successful business solution. Experienced consultants work
with customers to design a solution based on the customers
existing applications and required functionality and then ensure
that the selected solution is successfully implemented, from
installation to ongoing maintenance. Our consultants have
participated in or led a number of important integration
projects for our customers and partners. In addition, webMethods
has on-site professional services and development resources
working with major application vendors to deliver OEM
integration with partners such as i2 Technologies, J.D. Edwards
and SAP AG.

To supplement internal professional services capabilities, we
have established strategic relationships with several consulting
firms, including Accenture, Deloitte Consulting, EDS, IBM Global
Services and KPMG Consulting. These system integrators provide
us with a substantial body of expertise relating to enterprise
applications and the creation of business-to-business e-commerce
networks, as well as the flexibility to handle both large and
small projects and deliver complete solutions. These systems
integrators also give us feedback on our software and
implementation that can be incorporated into product
enhancements. We believe these relationships benefit our
business by exposing our software to the substantial customer
base of each of these systems integrators. While we generally
partner with system integrators to provide services such as
project implementation and management to our customers, our
professional services organization also directly supports our
customers by providing services related to integration
mentoring, integration process design and custom adapter
development.

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Services are provided by either our professional services group
or third-party systems integrators and include the following:



| |   |                                                                  
| | - | -----------------------------------------------------------------
| |  | architecture and application design services;                    
|
| |  | application development;                                         
|
| |  | installation services;                                           
|
| |  | Testing and implementation services and maintenance services; and
|
| |  | on-site support and coaching.                                    

We charge for these services on a time and materials basis and
provide them through our professional services groups based in
the Fairfax, Virginia; Atlanta, Georgia; Dallas, Texas; Denver,
Colorado; Santa Clara, California; Chicago, Illinois; San
Francisco, California; Sunnyvale, California; Australia;
England; France; Germany; Hong Kong; Korea; Japan; Mexico, the
Netherlands; Singapore and Taiwan facilities. We plan to
increase the number of our professional services consultants and
add additional service locations.

Customer Care. We believe that offering a superior level
of customer service is essential for our long-term success.
Because customer service is a standard feature of our licenses,
almost all of our customers utilize our customer support. We
offer our customers a choice of several levels of customer
support, all of which provide dependable and timely resolution
of customer technical inquiries. The most comprehensive option
offers support 24 hours a day, seven days a week. We are
committed to resolving customer inquiries in a rapid and
cost-effective manner. In addition, customers can access the
online customer newsgroup to benefit from the experiences of
other companies in using our software.

We also provide our customers with education and training. We
regularly offer training courses for the software professionals
responsible for implementing our software. These training
courses provide practical instruction on topics such as the
potential uses of our software, creation of XML schemas for
different types of business documents, integration of data from
multiple internal and external sources, automation of
data-sharing by business partners using the Web, bundling and
redeployment of usable business logic and administration and
maintenance of webMethods B2B and webMethods Enterprise. We also
provide customized classes at customer locations and offer a
certification program for customers and systems integration
partners that requires completion of designated courses, field
experience and a certification examination.

CUSTOMERS

As of March 31, 2001, we had licensed our software to over
625 customers. In the fiscal years ended March 31, 2001,
March 31, 2000 and March 31, 1999 no individual
customers accounted for more than 10% of our total revenues.
Many of our customers are Global 2000 companies and the
companies that serve them and represent a broad spectrum of
enterprises within diverse industry sectors, including
manufacturing, telecommunications, financial services, shipping
and logistics, chemicals, insurance, and business-to-business
exchanges.

STRATEGIC RELATIONSHIPS

To increase our leadership in the market, we have formed
strategic alliances with business-to-business e-commerce
exchanges, enterprise application vendors, business-to-business
e-commerce technology leaders and system integrators. These
relationships enable us to capitalize on the growing market for
e-commerce solutions by embedding and integrating our software
into the products and services provided by our

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|                                             |  |                                                                                                                                           |  |                                                                                                             
|-------------------------------------------- |  | ----------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------------------------------------------------------------------------------------------------
|Parties                                      |  | Relationship                                                                                                                              |  | Examples                                                                                                    
|                                             |  |                                                                                                                                           |  |                                                                                                             
|Enterprise Application Vendors and Resellers |  | Resell webMethods integration products as part of
	their offerings and/or include webMethods integration products
	in their own products. |  | J.D. Edwards, SAP AG, i2 Technologies,
	BroadVision                                                         
|Co-development Relationships                 |  | Dedicated resources for OEM and collaborative
	development projects.                                                                      |  | Hewlett-Packard, J.D. Edwards,
	SAP AG, i2 Technologies                                                     
|System Integrators                           |  | Provide consulting and technical services support
	for our products, including implementation and maintenance.                            |  | Accenture, Computer Sciences Corporation,
	Deloitte Consulting, EDS, IBM Global Services and KPMG Consulting

SALES AND MARKETING

We sell our software through our direct sales force, enterprise
application vendors who package our software with their product
suite, resellers and third-party systems integrators. While the
majority of our sales are made by our direct sales force or
through resellers, a number of our sales are the direct result
of leads generated by strategic relationships with systems
integrators. The sales cycle for our software typically ranges
from 60 to 180 days.

As of March 31, 2001, our sales and marketing group
consisted of 399 professionals located in our headquarters in
Fairfax, Virginia, and offices in California; Colorado; New
York; Texas; Georgia; Ohio; Illinois; Massachusetts; Australia;
Canada; England; France; Germany; Hong Kong; Japan; Korea;
Mexico; the Netherlands; Singapore; and Taiwan. Information on
revenues derived from North America, Europe and Asia-Pacific
countries, as well as long-lived assets located in those
geographic areas, is included in Note 18 of the Notes to
Consolidated Financial Statements included in Item 8 of
this report. We expect to continue expanding our sales and
marketing group through targeted recruitment of qualified
individuals.

Our system integrator partners and service, distribution and
marketing partners have capabilities that complement and augment
our own integration solution and extend our market reach. In
particular, our system integrator partners often contribute
industry-specific and application-specific expertise as well as
large scale project management capabilities that enable us to
address a broad range of markets. Many of our service,
distribution and marketing partners package or incorporate our
products with their products or solutions, enabling us to create
combined offerings with our partners that address specific
problems, focus on specific markets and provide more complete
and tailored offerings. Relationships with our partners may be
structured to include the ability for our partners to resell our
products directly or to embed products directly into our
partners products, or as referred relationships, where a
customer is referred by our partner to license our products
directly from us.

Our sales strategy involves targeting entities we view to be
critical e-commerce users, which are generally Global 2000
companies. Because we believe that our products can increase an
enterprises return on investment, we direct our marketing
efforts to officers and executives with responsibility for areas
such as procurement and supply chain management, as well as
chief information officers. In addition, we frequently
participate in trade shows, seminars and conferences. We intend
to leverage our existing customer relationships and strategic
alliances to gain new customers through exposure of our software
to the business partners of our customers, resellers and systems
integrators, some of which, in turn, may purchase our software.
We plan to continue conducting joint marketing and selling
efforts, such as informational seminars and joint sales calls,
with our customers. In the past, we have conducted such joint
efforts with Accenture, Ariba, Dell Computer, Eastman Chemical,
J.D. Edwards and SAP AG.

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RESEARCH AND DEVELOPMENT

We believe that strong product development capabilities are
essential to our strategy of continuing to enhance and expand
the capabilities of our products in order to continue to provide
our customers with a comprehensive integration platform. We have
invested significant time and resources in creating a structured
process for undertaking all product development. This process
involves several functional groups at all levels within our
organization and is designed to provide a framework for defining
and addressing the activities required to bring product concepts
and development projects to market successfully. In addition, we
have recruited key engineers and software developers with
experience in the application integration, networking and
Internet software markets.

We have made substantial investments in research and
development, primarily through internal development. We believe
that we have demonstrated significant innovations in our
application of Java and XML technologies to the problems of
integration. While we evaluate externally developed technologies
for integration into our products, most enhancements have been,
and are expected to continue to be, developed internally. The
majority of our research and development activity consists of
developing new versions of and enhancements to our products to
better serve the needs of our customers.

As of March 31, 2001, we had 283 employees dedicated to
research and development. Our research and development
expenditures in fiscal years 1999, 2000 and 2001 were
approximately $6.1 million, $14.8 million and
$45.2 million, respectively. We expect to continue
committing significant resources to research and development in
the future.

In addition to our proprietary research, we actively participate
in a number of major XML-based standards initiatives and
industry consortia and some non-XML-based B2B standards
initiatives and consortia. We participate in the following
business-to-business standards initiatives: Microsoft BizTalk
(business-to-business e-commerce), Information & Content
Exchange (content syndication), ACORD (insurance), OBI
(business-to-business e-commerce), Commerce XML (procurement),
FpML (financial derivatives), Directory Interoperability Forum
(directories) and RosettaNet (information technology supply
chain). We also are a member of the World Wide Web Consortium
where we have participated and contributed to several of the XML
working groups. We have collaborated with Microsoft on new XML
standards and technologies, such as the eXtensible Query
Language, or XQL, for querying against data contained in XML
documents.

COMPETITION

The market for integration software is rapidly changing and
intensely competitive and is likely to become more competitive
as the number of entrants and new technologies increases. While
none of our competitors or potential competitors currently
produces a solution that is identical to webMethods Extended
Enterprise Solutions Suite, we are subject to current or
potential competition in the integration software market from
large software vendors; business-to-business exchanges that
develop their own business-to-business integration solutions;
certain EDI vendors; and vendors of proprietary EAI and
application server products, who have added XML capabilities to
their products. We also compete with various providers of
application integration solutions, including CrossWorlds,
SeeBeyond Technology Corp., TIBCO Software, Inc. and Vitria
Technology, Inc. In addition, a number of other companies are
offering products and services that address specific aspects of
application integration, including IBM, Microsoft and BEA
Systems, Inc. We also face competition for some aspects of our
product and service offerings in the integration software market
from major system integrators, both independently and in
conjunction with in-house corporate information technology
departments, which have traditionally been the prevalent
resource for application integration. We expect additional
competition from other established and emerging companies. In
addition, customers and other companies with whom we have
strategic relationships may become competitors in the future.
Furthermore, our competitors may combine with each other, or
other companies may enter our markets by acquiring or entering
into strategic relationships with our competitors. For more
information regarding our competition, see Factors that
May Affect Future Operating

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We believe that the principal competitive factors affecting our
market include breadth and depth of solution, interoperability
of solution with existing applications, a substantial base of
customers and strategic alliances, core technology, product
quality and performance, product features (including security),
customer service, and speed and ease of deployment. We believe
our solution currently competes favorably with respect to these
factors. However, our market is relatively new and evolving
rapidly. We may not be able to maintain our competitive position
against current and potential competitors, especially those with
significantly greater financial, marketing, service, support,
technical and other resources.

Some large potential competitors have longer operating
histories, larger customer bases, greater brand recognition, and
significantly greater financial, marketing and other resources
than we do and may enter strategic or commercial relationships
with larger, more established and well-financed companies. Some
of our competitors may be able to secure alliances with
customers and affiliates on more favorable terms, devote greater
resources to marketing and promotional campaigns and devote
substantially more resources to systems development than we do.
In addition, new technologies and the expansion of existing
technologies may increase competitive pressures on us. We may
not be able to compete successfully against current and future
competitors, and the competitive pressures we face could harm
our business, operating results and financial condition.

INTELLECTUAL PROPERTY AND OTHER PROPRIETARY RIGHTS

Our success is heavily dependent upon our proprietary
technology, our brand name, and the goodwill associated with us.
We rely primarily on a combination of copyright, trade secret,
trademark and patent laws, confidentiality procedures,
contractual provisions and other similar measures to protect our
proprietary information and intellectual property rights. As
part of our confidentiality procedures, we enter into
non-disclosure agreements with certain employees, consultants,
customers, prospective customers and companies with which we
have strategic relationships. We also enter into license
agreements with respect to our technology, documentation and
other proprietary information. Such licenses are generally
non-transferable and often are renewable and have terms of two
years for end-users and up to five years for original equipment
manufacturers which integrate our technology into their
products. A small number of the agreements we have entered into
contain provisions that, under certain circumstances, would
allow third parties to obtain the source code for our software.

The unauthorized reproduction or other misappropriation of our
proprietary technology could enable third parties to benefit
from the technology developed by us without paying for it. In
addition, the steps we have taken to protect our proprietary
rights and intellectual property may not be adequate to deter
misappropriation. We may not be able to detect unauthorized use
of our proprietary information or take appropriate steps to
enforce our intellectual property rights effectively. Despite
efforts by us to protect our proprietary rights, unauthorized
parties may attempt to copy or otherwise obtain and use software
or technology that we consider proprietary and third parties may
attempt to develop similar technology independently. In
addition, other parties may breach confidentiality agreements or
other protective contracts into which we have entered, and we
may not be able to enforce our rights effectively in the event
of these breaches. Furthermore, we expect that we will increase
our international operations in the future, and the laws of many
foreign countries do not protect our intellectual property
rights to the same extent as the laws of the United States. For
more information regarding our proprietary rights, see
Factors that May Affect Future Operating Results  If
we are unable to protect our intellectual property, we may lose
a valuable asset, experience reduced market share, or incur
costly litigation to protect our rights.

We do not currently own any issued patents. We currently hold a
trademark registration in the United States for the webMethods
names. We also have a pending application for the trademark
registration of the B2B Integration Server name in the United
States and have pending applications for the registration of the
webMethods name in the European Union, Japan and Australia. In
addition, we have four pending patent applications for
technology related to our products. It is possible that the
patents, copyrights or

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The software industry is characterized by the existence of a
large number of patents and frequent litigation based on
allegations of patent infringement and the violation of other
intellectual property rights. Although we attempt to avoid
infringing known proprietary rights of third parties in our
product development efforts, we expect that we may be subject to
legal proceedings and claims for alleged infringement by us or
our licensees of third party proprietary rights, such as
patents, trademarks or copyrights, by us or our licensees from
time to time in the ordinary course of business. While we are
not aware that any of our products, patents, trademarks,
copyrights or other proprietary rights infringe the proprietary
rights of third parties, any infringement claims, with or
without merit, brought by such third parties could be
time-consuming and expensive to defend, or require us to enter
into royalty or license agreements, which are not advantageous
to us. In addition, parties making these claims may be able to
obtain an injunction, which could prevent us from selling our
products in the United States or abroad. Any of these results
could harm our business. We may increasingly be subject to
infringement claims as the number of products and competitors in
our industry grows and functionalities of products overlap.
Furthermore, former employers of our current and future
employees may assert that their employees have improperly
disclosed confidential or proprietary information to us. For
more information regarding our proprietary rights, see
Factors that May Affect Future Operating
Results  Third party claims that we infringe upon
their intellectual property rights could be costly to defend or
settle.

In addition, we license technology that is incorporated into our
products from third parties, and any significant interruption in
the supply or support of any licensed software could adversely
affect our sales, unless and until we can replace the
functionality provided by this licensed software. For more
information regarding our proprietary rights, see Factors
that May Affect Future Operating Results  Because our
products incorporate technology licensed from third parties, the
loss of our right to use this licensed technology could harm our
business.

EMPLOYEES

As of March 31, 2001, we employed 1,018 full-time
employees. These included 399 in sales and marketing, 219 in
professional services and customer care, 283 in research and
development and 117 in administration and finance. Our future
success will depend in part on our ability to attract, retain
and motivate highly qualified technical and management
personnel, for whom competition is intense. From time to time,
we have employed, and will continue to employ, independent
contractors and consultants to support research and development,
marketing and sales, and business development. Our employees are
not represented by a collective bargaining agreement and we have
never experienced a strike or similar work stoppage. We consider
relations with our employees to be good.

EXECUTIVE OFFICERS OF WEBMETHODS

Our executive officers and their ages and positions as of
May 31, 2001 are as follows:

|                |  |     |    |          |  |                                                       
|--------------- |  | --- | -- | -------- |  | ------------------------------------------------------
|Name            |  | Age |    | Position
|                |  |     |    |         
|Phillip Merrick |  |     | 38 |          |  | Chairman of the Board and Chief Executive Officer     
|               
|               
|               
|               
|David Mitchell  |  |     | 36 |          |  | President and Chief Operating Officer                 
|               
|               
|               
|               
|Mary Dridi      |  |     | 40 |          |  | Chief Financial Officer and Treasurer                 
|               
|               
|               
|               
|R. James Green  |  |     | 51 |          |  | Chief Technology Officer and Executive Vice
	President

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Phillip Merrick,the founder of webMethods, has served as
Chairman of the Board and Chief Executive Officer since its
inception in June 1996; he served as President of
webMethods from inception in June 1996 to August 2000.
Before founding webMethods, he served from December 1994 to
February 1996 as Vice President of Engineering at Open
Software Associates, an Internet and graphic user interface
tools company. From 1990 to 1994, Mr. Merrick was Director
of Development at Magna Software Corporation. Mr. Merrick
holds a BS in Computer Science from the University of Melbourne
in Australia.

David Mitchelljoined webMethods in December 1997 as
Vice President, Sales, became Chief Operating Officer in
January 2000 and became President in August 2000.
Mr. Mitchell served as Vice President of Worldwide Sales
from September 1999 to December 1999. From 1995 to
1997, Mr. Mitchell served as Director of Worldwide Sales
for the help desk and network management group at McAfee
Software, now Network Associates, Inc. From 1993 to 1995,
Mr. Mitchell was President and Chief Executive Officer of
VYCOR Corporation, a vendor of help desk and customer
interactivity software, which was acquired in 1995 by McAfee
Software. Mr. Mitchell served as Vice President of Sales of
VYCOR from 1989 to 1993. Mr. Mitchell holds a BS in
Marketing from Virginia Commonwealth University.

Mary Dridijoined webMethods in May 1998 as Chief
Financial Officer and Treasurer. From July 1991 to
April 1998, she served as the Controller and Vice President
of Finance for SRA International, Inc., an information
technology company. From 1987 to 1991, Ms. Dridi served as
the Director of Finance at Geostar Corporation, a mobile
satellite communications company. From 1983 to 1987,
Ms. Dridi provided audit and other business services with
the accounting firm of Peat Marwick. Ms. Dridi is a
Certified Public Accountant and holds a BS in Commerce and
Accounting from the University of Virginia.

R.  James Greenbecame Chief Technology Officer and
Executive Vice President of webMethods in August 2000 upon
the completion of its acquisition of Active Software, Inc.
Mr. Green founded Active Software in September 1995,
and served as its President and Chief Executive Officer from
October 1997 until August 2000, as a Director from
November 1995 until August 2000 and as its Chairman
from April 1996 until August 2000. Prior to founding
Active Software, Mr. Green established and managed the
distributed objects program at Sun Microsystems, Inc., a
provider of network computing products, where he was Director of
Engineering from 1988 to 1995. Mr. Green holds a B.A.
degree from Hanover College, an M.S. degree from North Carolina
State University and an M.S. degree in Computer Science from San
Jose State University.

FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS

Unanticipated fluctuations in our quarterly operating
results could affect the price of our stock.

We believe that quarter-to-quarter comparisons of our financial
results are not necessarily meaningful indicators of our future
operating results and should not be relied on as an indication
of our future performance. If our quarterly operating results
fail to meet the expectations of analysts, the trading price of
shares of our common stock could be negatively affected. Our
quarterly operating results have varied substantially in the
past and may vary substantially in the future depending upon a
number of factors, including the amount and timing of operating
costs relating to expansion of our business, operations and
infrastructure and the number and timing of new hires. We plan
to continue to increase our operating expenses to expand our
sales and marketing operations and fund greater levels of
research and development. Our operating expenses, which include
sales and marketing, research and development and general and
administrative expenses, are based on our expectations of future
revenues and are relatively fixed in the short term. If revenue
falls below our expectations in a quarter and we are not able to
quickly reduce our spending in response, our operating results
for that quarter could be harmed. It is possible that in some
future quarter our operating results may be below the
expectations of public market analysts and investors and, as a
result, the price of our common stock may fall. In addition, the
stock market, particularly the stock prices of Internet-related
companies, has been very volatile. This volatility is often

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Growth of our sales may slow down from time to time,
causing our quarterly operating results to fluctuate.

Due to customer demand, economic conditions or seasonal factors,
we may experience a lower growth rate for, or no growth in,
sales of our software products and services. For example, the
growth rate for the sale of our products and services during
summer months may be slower than at other times during year,
particularly in European markets. We also may have slower or no
growth due to patterns in the capital budgeting and purchasing
cycles of our current and prospective customers. These periods
of slower or no growth may lead to fluctuations in our quarterly
operating results. In addition, variations in sales cycles may
have an impact on the timing of our revenue, which in turn could
cause our quarterly operating results to fluctuate. To
successfully sell our software and services, we generally must
educate our potential customers regarding their use and
benefits, which can require significant time and resources. Any
delay in sales of our products and services could cause our
operating results to vary significantly from quarter to quarter,
which could result in volatility in the stock price of the
company.

Our executive officers and certain key personnel are
critical to our business, and these officers and key personnel
may not always remain with us.

Our success depends upon the continued service of our executive
officers and other key employees, and none of these officers or
key employees is bound by an employment agreement for any
specific term. If we lose the services of one or more of our
executive officers or key employees, or if one or more of them
decide to join a competitor or otherwise compete directly or
indirectly with us, our business, operating results and
financial condition could be harmed. In particular, Phillip
Merrick, our Chairman of the Board and Chief Executive Officer,
and R. James Green, our Chief Technology Officer and Executive
Vice President, would be particularly difficult to replace. Our
future success will also depend in large part on our ability to
attract and retain experienced technical, sales, marketing and
management personnel.

We rely on system integrators and other strategic
relationships to implement and promote our software products
and, if these relationships terminate, we may lose important
deals and marketing opportunities.

We have established strategic relationships with
business-to-business exchanges, resellers, enterprise
application software providers, hardware platform and software
applications developers, service providers, system integrators
and other technology leaders. These relationships expose our
software to many potential customers to which we may not
otherwise have access. In addition, these relationships provide
us with insights into new technology and with third-party
service providers that our customers can use for implementation
assistance. If our relationships with any of these organizations
were terminated or if we failed to work effectively with our
partners or to grow our base of these types of partners, we
might lose important opportunities, including sales and
marketing opportunities, and our business may suffer. In
general, our partners are not required to market or promote our
products and generally are not restricted from working with
competing software companies. Accordingly, our success will
depend on their willingness and ability to devote sufficient
resources and efforts to marketing our software products rather
than the products of others. If these relationships are not
successful, we will have to devote substantially more resources
to the distribution, sales and marketing, implementation and
support of our products than we would otherwise, and our efforts
may not be as effective as those of our partners, which would
harm our business.

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Our operating results may decline and our customers may
become dissatisfied if we do not expand our professional
services organization or if we are unable to establish and
maintain relationships with third-party implementation
providers.

We cannot be certain that we can attract or retain a sufficient
number of highly qualified professional services personnel.
Customers that license our software typically engage our
professional services staff or third party consultants to assist
with support, training, consulting and implementation. We
believe that growth in our software sales depends on our ability
to provide our customers with these services and to attract and
educate third-party consultants to provide similar services. As
a result, we plan to increase the number of our professional
services personnel and third party consultants to meet these
needs. New professional services personnel and service providers
will require training and education and take time to reach full
productivity. Competition for qualified personnel and service
providers is intense, particularly because we are in a new
market and only a limited number of individuals have acquired
the skills needed to provide the services our customers require.
Our business may be harmed if we are unable to expand our
professional services organization and establish and maintain
relationships with third-party implementation providers.

Because our products incorporate technology licensed from
third parties, the loss of our right to use this licensed
technology could harm our business.

We license technology that is incorporated into our products
from third parties. Any significant interruption in the supply
or support of any licensed software could adversely affect our
sales, unless and until we can replace the functionality
provided by this licensed software. Because our products
incorporate software developed and maintained by third parties,
we depend on these third parties to deliver and support reliable
products, enhance our current products, develop new products on
a timely and cost-effective basis and respond to emerging
industry standards and other technological changes. The failure
of these third parties to meet these criteria could harm our
business.

Our software must integrate with applications made by
third parties, and, if we lose access to the programming
interfaces for these applications, or if we are unable to modify
our products or develop new products in response to changes in
these applications, our business could suffer.

Our software uses software components called adapters to
communicate with our customers enterprise applications.
Our ability to develop these adapters is largely dependent on
our ability to gain access to the application programming
interfaces, or APIs, for the applications, and we may not have
access to necessary APIs in the future. APIs are written and
controlled by the application provider. Accordingly, if an
application provider becomes a competitor by entering the
business-to-business market, it could restrict access to its
APIs for competitive reasons. Our business could suffer if we
are unable to gain access to these APIs. Furthermore, we may
need to modify our software products or develop new adapters in
the future as new applications or newer versions of existing
applications are introduced. If we fail to continue to develop
adapters or respond to new applications or newer versions of
existing applications, our business could suffer. We rely in
part on third parties to develop adapters necessary for the
integration of applications using our software. We cannot be
certain that these companies will continue to develop these
adapters, or that, if they do not continue to do so, that we
will be able to develop these adapters internally in a timely or
efficient manner. In addition, we cannot be certain that
adapters developed by third parties will not contain undetected
errors or defects, which could harm our reputation, result in
product liability or decrease the market acceptance of our
products.

Our revenues may decline and we may lose important sales
and marketing opportunities if our relationship with some of our
strategic partners changes or terminates.

We currently have several strategic partners, such as
SAP AG, J. D. Edwards, EDS and i2 Technologies, that
we believe provide us with important sales and marketing
opportunities. In addition, these relationships may include
additional business opportunities, such as the SAP AG
development partner agreement, under which we are the supplier
of enterprise application integration technology for the

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If our customers do not renew their licenses, we may lose
a recurring revenue stream, which could harm our operating
results.

Although most enterprise software providers offer perpetual
licenses with a single payment received at the time of the
license grant, we offer renewable term licenses to our customers
as our preferred licensing model. We first shipped webMethods
B2B in June 1998 and we first began licensing webMethods
Enterprise on a renewable basis in August 2000. To date,
only a few of our more significant licenses have reached their
respective renewal dates. If a significant portion of our
customers were to elect not to renew their licenses for our
software or were to seek perpetual licenses in the future, we
would lose a recurring revenue stream that is a factor in our
business model, which could harm our business, operating results
and financial condition.

We may not be able to increase market awareness and sales
of our software if we do not expand our sales and distribution
capabilities.

We need to substantially expand our direct and indirect sales
and distribution efforts, both domestically and internationally,
in order to increase market awareness and sales of our software
products and the related services we offer. We have recently
expanded our direct sales force and plan to hire additional
sales personnel. Our software products require a sophisticated
sales effort targeted at multiple departments within an
organization. Competition for qualified sales and marketing
personnel is intense, and we might not be able to hire and
retain adequate numbers of such personnel to maintain our
growth. New hires will require training and take time to achieve
full productivity. Our competitors have attempted to hire
employees away from us, and we expect that they will continue
such attempts in the future. We also plan to expand our
relationships with system integrators, enterprise software
vendors and other third-party resellers to further develop our
indirect sales channel. As we continue to develop our indirect
sales channel, we will need to manage potential conflicts
between our direct sales force and third party reselling efforts.

We intend to continue expanding our international sales
efforts but do not have substantial experience in international
markets.

We have been, and intend to continue, expanding our
international sales efforts. We have limited experience in
marketing, selling and supporting our software and services
abroad. Expansion of our international operations will require a
significant amount of attention from our management and
substantial financial resources. If we are unable to continue
expanding our international operations successfully and in a
timely manner, our business and operating results could be
harmed. In addition, doing business internationally involves
additional risks, particularly: the difficulties and costs of
staffing and managing foreign operations; unexpected changes in
regulatory requirements, taxes, trade laws and tariffs;
differing intellectual property rights; differing labor
regulations; and changes in a specific countrys or
regions political or economic conditions.

The integration software market is highly competitive, and
we may not be able to compete effectively.

The market for integration software solutions is rapidly
changing and intensely competitive. There are a variety of
methods available for integration software. We expect that
competition will remain intense as the number of entrants and
new technologies increases. We do not know if our target markets
will widely adopt and deploy integration products such as our
software products. If integration products such as our software
products are not widely adopted by our target markets or if we
are not able to compete successfully against current or future
competitors, our business, operating results and financial
condition

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If we experience delays in developing our software, or if
our software contains defects, we could lose customers and
revenue.

We expect that the rapid evolution of Internet-based
applications and standards, as well as general technology trends
such as changes in or introductions of operating systems, will
require us to adapt our software products to remain competitive.
Our products could become obsolete and unmarketable if we are
unable to adapt to new technologies or standards. Software as
complex as ours often contains known and undetected errors or
performance problems. Many serious defects are frequently found
during the period immediately following introduction of new
software or enhancements to existing software. Internal quality
assurance testing and customer testing may reveal product
performance issues or desirable feature enhancements that could
lead us to postpone the release of new versions of our software.
The reallocation of resources associated with any postponement
could cause delays in the development and release of future
enhancements to our currently available software. Although we
attempt to resolve all errors that we believe would be
considered serious by our customers, our software is not
error-free. Undetected errors or performance problems may be
discovered in the future, and known errors that we consider
minor may be considered serious by our customers. This could
result in lost revenue or delays in customer deployment and
would be detrimental to our reputation, which could harm our
business, operating results and financial condition. If our
software products experience performance problems, we may have
to increase our product development costs and divert our product
development resources to address the problems. In addition,
because our customers depend on our software for their critical
systems and business functions, any interruptions could cause
our customers to initiate product liability suits against us.

We are a young company and have a limited operating
history with which to evaluate our respective business and
prospects.

We commenced operations in June 1996 and first shipped
webMethods B2B in June 1998. Active Software, with which we
completed a merger in August 2000, was incorporated in
September 1995 and commercially released its first software
product in August 1996. We have been operating as a
combined company since August 2000. If we do not generate
sufficient cash resources from our business to fund operations,
our growth could be limited unless we are able to obtain
additional capital through public or private equity or debt
financings. If we are unable to grow as planned, our chances of
achieving and maintaining profitability could be reduced, which,
in turn, could have a material adverse effect on the

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We have experienced significant growth in our business in
recent periods, and we may not be able to manage our future
growth successfully.

Our ability to successfully offer software and services and
implement our business plan in a rapidly evolving market
requires an effective planning and management process. Our
growth could be limited if we or our partners are unable to
provide to our customers in a timely manner the implementation
services sometimes required for the successful installation and
use of our products. In addition, our management team may not be
able to achieve the rapid execution necessary to fully exploit
the market for our products and services. We have increased, and
plan to continue to increase, the scope of our operations at a
rapid rate. Our total revenues have grown to approximately
$202.0 million for the year ended March 31, 2001, from
$60.1 million for the year ended March 31, 2000. The
number of people we employ has grown and will continue to grow
substantially. As of March 31, 2000, we had a total of 522
employees. As of March 31, 2001, we had a total of 1,018
employees. Future expansion efforts could be expensive and may
strain our managerial and other resources. To manage future
growth effectively, we must maintain and enhance our financial
and accounting systems and controls, integrate new personnel,
manage expanded operations and our relationships with our
customers, suppliers and partners. If we do not manage growth
properly, it could harm our business, operating results and
financial condition.

We may still face challenges that may prevent us from
successfully completing the integration of our recent
acquisitions.

The integration of acquired businesses into our existing
business is a complex, time-consuming and expensive process. We
have acquired several businesses in the past year and still face
certain challenges that, if not met successfully, may prevent us
from successfully completing the integration of these businesses
into our company. We may still encounter difficulties, costs and
delays involved in integrating operations, including: the
inability to market successfully an integrated line of products
and services to our customers; the inability to retain key
employees over a long period of time; and the diversion of
managements attention and financial resources from other
ongoing business concerns. If we do not successfully complete
the integration of these acquired businesses into our company,
or if we are unable to achieve the perceived benefits of these
acquisitions as rapidly as, or to the extent, anticipated by
financial or industry analysts, the market price of our common
stock may decline.

Any future acquisitions of companies or technologies may
result in disruptions to our business or the distraction of our
management.

We may acquire or make investments in other complementary
businesses and technologies in the future. We may not be able to
identify other future suitable acquisition or investment
candidates, and even if we identify suitable candidates, may not
be able to make these acquisitions or investments on
commercially acceptable terms, or at all. If we acquire or
invest in other companies, we may not be able to realize the
benefits we expected to achieve at the time of entering into the
transaction. In any future acquisitions, we will likely face
many or all of the risks inherent in integrating two corporate
cultures, product lines, operations and businesses. Further, we
may have to incur debt or issue equity securities to pay for any
future acquisitions or investments, the issuance of which could
be dilutive to our existing stockholders.

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We may not have sufficient resources available to us in
the future to take advantage of certain opportunities.

In the future, we may not have sufficient resources available to
us to take advantage of growth, product development or marketing
opportunities. We may need to raise additional funds in the
future through public or private debt or equity financings in
order to: take advantage of opportunities, including more rapid
international expansion or acquisitions of complementary
businesses or technologies; develop new products or services; or
respond to competitive pressures. Additional financing needed by
us in the future may not be available on terms favorable to us,
if at all. If adequate funds are not available, not available on
a timely basis, or are not available on acceptable terms, we may
not be able to take advantage of opportunities, develop new
products or services or otherwise respond to unanticipated
competitive pressures. In such case, our business, operating
results and financial condition could be harmed.

If we are unable to protect our intellectual property, we
may lose a valuable asset, experience reduced market share, or
incur costly litigation to protect our rights.

Our success depends, in part, upon our proprietary technology
and other intellectual property rights. To date, we have relied
primarily on a combination of copyright, trade secret, trademark
and patent laws, and nondisclosure and other contractual
restrictions on copying and distribution to protect our
proprietary technology. We have pending patent applications for
technology related to our software, but we cannot assure you
that these applications will be successful. A small number of
our agreements with customers and system integrators contain
provisions regarding the rights of third parties to obtain the
source code for our software, which may limit our ability to
protect our intellectual property rights in the future. Despite
our efforts to protect our proprietary rights, unauthorized
parties may copy aspects of our products and obtain and use
information that we regard as proprietary. In addition, other
parties may breach confidentiality agreements or other
protective contracts we have entered into, and we may not be
able to enforce our rights in the event of these breaches.
Furthermore, we expect to continue increasing our international
operations in the future, and the laws of certain foreign
countries may not protect our intellectual property rights to
the same extent as do the laws of the United States. Our means
of protecting our intellectual property rights in the United
States or abroad may not be adequate to fully protect our
intellectual property rights. Litigation to enforce our
intellectual property rights or protect our trade secrets could
result in substantial costs and may not be successful. Any
inability to protect our intellectual property rights could
seriously harm our business, operating results and financial
condition.

Third party claims that we infringe upon their
intellectual property rights could be costly to defend or
settle.

Litigation regarding intellectual property rights is common in
the Internet and software industries. We expect that Internet
technologies and software products and services may be
increasingly subject to third-party infringement claims as the
number of competitors in our industry segment grows and the
functionality of products in different industry segments
overlaps. We may from time to time encounter disputes over
rights and obligations concerning intellectual property.
Although we believe that our intellectual property rights are
sufficient to allow us to market our software without incurring
liability to third parties, third parties may bring claims of
infringement against us. Such claims may be with or without
merit. Any litigation to defend against claims of infringement
or invalidity could result in substantial costs and diversion of
resources. Furthermore, a party making such a claim could secure
a judgment that requires us to pay substantial damages. A
judgment could also include an injunction or other court order
that could prevent us from selling our software. Our business,
operating results and financial condition could be harmed if any
of these events occurred. Furthermore, former employers of our
current and future employees may assert that our employees have
improperly disclosed confidential or proprietary information to
us. In addition, we have agreed, and may agree in the future, to
indemnify certain of our customers against claims that our
software infringes upon the intellectual property rights of
others. We could incur substantial costs in defending ourself
and our customers against infringement claims. In the event of a
claim of infringement, we, as well as our customers, may be
required to obtain

25



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Because our products could interfere with the operations
of our customers other software applications, we may be
subject to potential product liability and warranty claims by
these customers, which may be time consuming, costly to defend
and may not be adequately covered by insurance.

Our software is integrated with our customers networks and
software applications and is often used for mission critical
applications such as Internet commerce. Errors, defects or other
performance problems could result in financial or other damages
to our customers. Customers could seek damages for losses from
us, which, if successful, could have a material adverse effect
on our business, operating results or financial condition. In
addition, the failure of our products to perform to customer
expectations could give rise to warranty claims. Although our
license agreements typically contain provisions designed to
limit our exposure to product liability claims, existing or
future laws or unfavorable judicial decisions could negate these
limitation of liability provisions. We have not experienced any
product liability claims to date. However, a product liability
claim brought against us, even if not successful, could be time
consuming and costly to defend and could harm our reputation. In
addition, although we carry general liability insurance, our
current insurance coverage would likely be insufficient to
protect us from all liability that may be imposed under these
types of claims.

Because market participants in some markets have adopted
industry specific technologies, we may need to expend
significant resources in order to address specific
markets.

Our strategy is to continue developing our integration software
to be broadly applicable to many industries. However, in some
markets, market participants have adopted core technologies that
are specific to their markets. For example, many companies in
the healthcare and financial services industries have adopted
industry-specific protocols for the interchange of information.
In order to successfully sell our products to companies in these
markets, we may need to expand or enhance our products to adapt
to these industry-specific technologies, which could be costly
and require the diversion of engineering resources.




Item 2.  PROPERTIES

Our principal administrative, sales, marketing and research and
development facilities are located in Fairfax, Virginia, and
consists of approximately 126,000 square feet of office space
held under leases that expire in March 2005 and
July 2007. We also maintain offices for sales and support
personnel in New York, New York; Northern New Jersey; San
Francisco, Sunnyvale, Berkeley, El Segundo, and San Diego,
California; Alpharetta, Georgia; Plano, Texas; Columbus, Ohio;
Chicago, Illinois; Englewood, Colorado; Boston, Massachusetts;
Hilversum, The Netherlands; Frankfurt, Germany; Paris, France;
Tokyo, Japan; Seoul, Korea; Taipei, Taiwan; Hong Kong;
Singapore; Sydney and Melbourne, Australia; Montreal and
Toronto, Canada; Atixopan, Mexico; and Reading, United Kingdom.




Item 3.  LEGAL PROCEEDINGS

We are involved from time to time in routine litigation that
arises in the ordinary course of our business, but are not
currently involved in any litigation that we believe could
reasonably be expected to have a material adverse effect on us.




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

No matters were submitted to a vote of security holders during
the fourth quarter of the fiscal year covered by this report.

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##### Table of Contents






PART II




|        |  |                                                                     
|------- |  | --------------------------------------------------------------------
|Item 5. |  | MARKET FOR REGISTRANTS COMMON STOCK AND RELATED STOCKHOLDER MATTERS

Since February 11, 2000, webMethods common stock has
been publicly traded on the Nasdaq National Market under the
symbol WEBM. Prior to February 11, 2000,
webMethods common stock was not publicly traded. The high and
low sales prices of our common stock as reported by the Nasdaq
National Market were:

|                           |                                                              |      |   |          |  |  |   |          | 
|-------------------------- | ------------------------------------------------------------ | ---- | - | -------- |  |  | - | -------- | 
|                           |                                                              | High |   | Low     
|                           |                                                              |      |   |         
|Year ended March 31, 2001: |                                                              |      |   |          |  |  |   |         
|                          
|                          
|                          
|                          
|                           | First Quarter (ended June 30, 2000)                          |      | $ | 189.9375 |  |  | $ | 61.2813  | 
|                          
|                          
|                          
|                          
|                           | Second Quarter (ended September 30, 2000)                    |      |   | 192.0000 |  |  |   | 88.8750  | 
|                          
|                          
|                          
|                          
|                           | Third Quarter (ended December 31, 2000)                      |      |   | 114.8750 |  |  |   | 62.9375  | 
|                          
|                          
|                          
|                          
|                           | Fourth Quarter (ended March 31, 2001)                        |      |   | 98.2500  |  |  |   | 20.8750  | 
|                          
|                          
|                          
|                          
|Year ended March 31, 2000: |                                                              |      |   |          |  |  |   |         
|                          
|                          
|                          
|                          
|                           | Fourth Quarter (February 11, 2000 to
        March 31, 2000) |      |   | 308.0625 |  |  |   | 173.8750 | 

As of March 30, 2001, there were approximately 500 holders
of record of webMethods common stock. The number of
holders of record our common stock is not representative of the
number of beneficial holders because many shares are held by
depositories, brokers or other nominees.

webMethods has never declared or paid any cash dividends on its
common stock. We currently intend to retain earnings, if any, to
support its growth strategy and does not anticipate paying cash
dividends in the foreseeable future.

During our fiscal year ended March 31, 2001, we sold
certain securities that were not registered under the Securities
Act of 1933, as amended, at the time of issuance, as described
below. On February 16, 2000, we sold a total of
518,135 shares of our common stock to a total of four
investors for $33.78, or an aggregate of $17,502,600, in a
private placement concurrent with our initial public offering.
We also sold unregistered securities prior to our IPO in
February 2000, as described in information in Item 15
of webMethods Registration Statement on Form S-1
(File No. 333-91039), which is incorporated by reference.

On February 5, 2001, we issued to Computer Network
Technology Corporation 273,542 shares of our common stock with a
fair value of 23.3 million, in addition to a cash payment, in
exchange for all of the issued and outstanding securities of
IntelliFrame Corporation, a wholly-owned subsidiary of Computer
Network Technology Corporation.

In connection with an expanded partnering and reseller
relationship between i2 Technologies, Inc. and webMethods, on
March 2, 2001, we issued to i2 Technologies a warrant to
purchase up to 750,000 shares of our common stock at an exercise
price of $40.88 per share, subject to certain adjustments. This
warrant and the underlying right to purchase shares expires upon
the earlier to occur of March 2, 2005 or ninety
(90) days after the expiration of the reseller agreement
between i2 Technologies and webMethods. On June 1, 2001, we
signed an amended warrant with i2 Technologies that reduced the
number of shares that i2 Technologies is able to purchase to
710,000 and reduces the exercise price per share from $40.88 to
$28.70. We believe that the fair value of the amended warrant
did not exceed the fair value of the original warrant at the
date of amendment.

None of the foregoing transactions involved any underwriters,
underwriting discounts or commissions, or any public offering,
and the registrant believes that each transaction was exempt
from the registration requirements of the Securities Act of
1933, as amended, by virtue of Section 4(2) thereof,
Regulation D promulgated thereunder or Rule 701
promulgated under Section 3(b) thereof, pursuant to
compensatory benefit plans and contracts relating to
compensation as provided under such Rule 701. The
recipients in such transactions represented their intention to
acquire the securities for investment only and not with a

27



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Item 6.  SELECTED FINANCIAL DATA

The following selected historical consolidated financial data
for webMethods should be read in conjunction with the
consolidated financial statements and Managements
Discussion and Analysis of Financial Condition and Results of
Operations of webMethods, which are included elsewhere in this
report. The historical consolidated statement of operations data
for the years ended March 31, 2001, 2000 and 1999 and the
historical consolidated balance sheet data as of March 31,
2001 and 2000 are derived from the consolidated financial
statements of webMethods, which have been audited by
PricewaterhouseCoopers LLP, independent accountants for
webMethods, and are included elsewhere in this report. The
historical consolidated statement of operations data for the
years ended March 31, 1999, 1998 and 1997 and the
historical consolidated balance sheet data as of March 31,
1998 and 1997 are derived from consolidated financial statements
of webMethods not contained in this report. Historical results
are not necessarily indicative of future results.

28



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##### Table of Contents



|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |     |       |       | 
|---------------------------------------------------------------------------------- | ---------------------------------------- | ------------------------------------------------ | ------------------------ | ------- | ------- | ------- | ------- | ------ | ------ | ------ | ------- | ------ | ------ | ------ | ------ | ----- | ----- | ------ | ------ | --- | ----- | ----- | 
|                                                                                   |                                          |                                                 
|                                                                                   |                                          | Year Ended March 31,                            
|                                                                                   |                                          |                                                 
|                                                                                   |                                          | 2001                                             |                          | 2000    |         | 1999    |         | 1998   |        | 1997  
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |       
|                                                                                   |                                          |                                                 
|                                                                                   |                                          | (in thousands, except shares and per share data)
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|Consolidated Statements of Operations Data:                                        |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|Revenue:                                                                           |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | License                                  |                                                  | $                        | 143,514 |         |         | $       | 42,822 |        |        | $       | 10,775 |        |        | $      | 3,458 |       |        | $      | 496 |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Professional services                    |                                                  |                          | 34,945  |         |         |         | 11,699 |        |        |         | 2,459  |        |        |        | 817   |       |        |        | 15  |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Maintenance                              |                                                  |                          | 23,498  |         |         |         | 5,624  |        |        |         | 1,036  |        |        |        | 10    |       |        |        | 10  |      
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|                                                                                   |                                          |                                                  | Total revenue            |         |         | 201,957 |         |        |        | 60,145 |         |        |        | 14,270 |        |       |       | 4,285  |        |     |       | 521   | 
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|Cost of revenue:                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | License                                  |                                                  |                          | 5,189   |         |         |         | 2,612  |        |        |         | 799    |        |        |        | 30    |       |        |        | 64  |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Professional services and maintenance:   |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |     |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                          | Stock based compensation                         |                          |         | 1,188   |         |         |        | 560    |        |         |        | 71     |        |        |       |      |        |        |     |      |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                          | Other professional services and maintenance      |                          |         | 46,304  |         |         |        | 16,102 |        |         |        | 3,803  |        |        |       | 804   |        |        |     | 165   |      
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|                                                                                   |                                          |                                                  | Total cost of revenue    |         |         | 52,681  |         |        |        | 19,274 |         |        |        | 4,673  |        |       |       | 834    |        |     |       | 229   | 
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|Gross profit                                                                       |                                          |                                                  | 149,276                  |         |         |         | 40,871  |        |        |        | 9,597   |        |        |        | 3,451  |       |       |        | 292    |    
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|Operating expenses:                                                                |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Sales and marketing:                     |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |     |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                          | Stock based compensation and warrant charge      |                          |         | 4,813   |         |         |        | 1,471  |        |         |        | 267    |        |        |       | 22    |        |        |     |      |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                          | Other sales and marketing costs                  |                          |         | 100,154 |         |         |        | 44,033 |        |         |        | 14,741 |        |        |       | 4,854 |        |        |     | 1,163 |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Research and development:                |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |     |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                          | Stock based compensation                         |                          |         | 12,447  |         |         |        | 1,250  |        |         |        | 182    |        |        |       |      |        |        |     |      |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                          | Other research and development costs             |                          |         | 45,158  |         |         |        | 14,780 |        |         |        | 6,066  |        |        |       | 3,525 |        |        |     | 1,642 |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | General and administrative:              |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |     |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                          | Stock based compensation                         |                          |         | 1,640   |         |         |        | 307    |        |         |        | 57     |        |        |       |      |        |        |     |      |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                          | Other general and administrative costs           |                          |         | 20,837  |         |         |        | 9,753  |        |         |        | 3,171  |        |        |       | 2,163 |        |        |     | 1,310 |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Acquisition related expenses             |                                                  |                          | 34,039  |         |         |         |       |        |        |         |       |        |        |        |      |       |        |        |    |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Amortization of goodwill and intangibles |                                                  |                          | 41,395  |         |         |         | 1,305  |        |        |         |       |        |        |        |      |       |        |        |    |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | In-process research and development      |                                                  |                          | 34,910  |         |         |         | 2,737  |        |        |         |       |        |        |        |      |       |        |        |    |      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Write off intellectual property          |                                                  |                          |        |         |         |         |       |        |        |         |       |        |        |        |      |       |        |        | 150 |      
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|                                                                                   |                                          |                                                  | Total operating expenses |         |         | 295,393 |         |        |        | 75,636 |         |        |        | 24,484 |        |       |       | 10,564 |        |     |       | 4,265 | 
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|Operating loss                                                                     |                                          |                                                  | (146,117                 | )       |         |         | (34,765 | )      |        |        | (14,887 | )      |        |        | (7,113 | )     |       |        | (3,973 | )  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|Interest income, net                                                               |                                          |                                                  | 14,503                   |         |         |         | 3,315   |        |        |        | 415     |        |        |        | 172    |       |       |        | 60     |    
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|Net loss                                                                           |                                          |                                                  | (131,614                 | )       |         |         | (31,450 | )      |        |        | (14,472 | )      |        |        | (6,941 | )     |       |        | (3,913 | )  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|Accretion and accrued dividends related to
	mandatorily redeemable preferred stock |                                          |                                                  |                         |         |         |         | (10,223 | )      |        |        | (605    | )      |        |        | (113   | )     |       |        |       |    
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|Net loss attributable to common shareholders                                       |                                          | $                                                | (131,614                 | )       |         | $       | (41,673 | )      |        | $      | (15,077 | )      |        | $      | (7,054 | )     |       | $      | (3,913 | )  
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|Basic and diluted net loss per share                                               |                                          | $                                                | (2.81                    | )       |         | $       | (2.23   | )      |        | $      | (1.75   | )      |        | $      | (0.83  | )     |       | $      | (0.52  | )  
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    
|Shares used in computing basic and diluted net
	loss per common share              |                                          |                                                  | 46,860                   |         |         |         | 18,717  |        |        |        | 8,633   |        |        |        | 8,490  |       |       |        | 7,485  |    
|                                                                                   |                                          |                                                  |                          |         |         |         |         |        |        |        |         |        |        |        |        |       |       |        |        |    

|                                                        |  |                |         |      |  |      |         |      |  |      |        |  |  |   |        |  |  |   |       | 
|------------------------------------------------------- |  | -------------- | ------- | ---- |  | ---- | ------- | ---- |  | ---- | ------ |  |  | - | ------ |  |  | - | ----- | 
|                                                        |  |               
|                                                        |  | March 31,     
|                                                        |  |               
|                                                        |  | 2001           |         | 2000 |  | 1999 |         | 1998 |  | 1997
|                                                        |  |                |         |      |  |      |         |      |  |     
|                                                        |  |               
|                                                        |  | (in thousands)
|                                                       
|                                                       
|                                                       
|                                                       
|Balance Sheet Data:                                     |  |                |         |      |  |      |         |      |  |      |        |  |  |   |        |  |  |   |       | 
|                                                       
|                                                       
|                                                       
|                                                       
|Cash and cash equivalents                               |  | $              | 109,713 |      |  | $    | 171,716 |      |  | $    | 8,874  |  |  | $ | 11,450 |  |  | $ | 405   | 
|                                                       
|                                                       
|                                                       
|                                                       
|Working capital                                         |  |                | 190,722 |      |  |      | 181,355 |      |  |      | 8,462  |  |  |   | 13,071 |  |  |   | 1,980 | 
|                                                       
|                                                       
|                                                       
|                                                       
|Total assets                                            |  |                | 375,288 |      |  |      | 299,187 |      |  |      | 19,738 |  |  |   | 14,236 |  |  |   | 1,332 | 
|                                                       
|                                                       
|                                                       
|                                                       
|Long-term obligation, net of current portion and
	other |  |                | 25,409  |      |  |      | 6,208   |      |  |      | 465    |  |  |   |       |  |  |   |      | 
|                                                       
|                                                       
|                                                       
|                                                       
|Mandatorily redeemable preferred stock                  |  |                |        |      |  |      |        |      |  |      | 11,118 |  |  |   | 4,076  |  |  |   |      | 
|                                                       
|                                                       
|                                                       
|                                                       
|Total stockholders equity                              |  |                | 265,609 |      |  |      | 252,169 |      |  |      | 345    |  |  |   | 7,916  |  |  |   | 236   | 

29



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##### Table of Contents








|        |                                                                                       
|------- | --------------------------------------------------------------------------------------
|Item 7. | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
	CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of the financial
condition and results of operations of webMethods should be read
in conjunction with the Selected Consolidated Financial
Data contained in Item 6, and webMethods
consolidated financial statements and related notes contained in
Item 8. This discussion and analysis contains
forward-looking statements within the meaning of
Section 21E of the Securities Exchange Act of 1934. Words
such as anticipates, expects,
intends, believes, plans,
seeks, estimates and similar expressions
identify such forward-looking statements. These forward-looking
statements are subject to risks, uncertainties and assumptions.
Our actual results may differ materially from those anticipated
in these forward-looking statements as a result of certain
factors, including, but not limited to, those set forth under
Factors that May Affect Future Operating Results in
Item 1 and elsewhere in this report.

OVERVIEW

Background

We are a leading provider of infrastructure software and
services for comprehensive end-to-end integration solutions that
enable our customers to achieve comprehensive automation of
business processes by integrating their systems in real time.
Our customers use our software, webMethods B2B, webMethods
Enterprise, and webMethods Mainframe Integration Server to
integrate business processes among different systems within the
enterprise through the real-time exchange of information and to
work more closely with their customers, suppliers and other
business partners through the real-time exchange of information
and transactions.

webMethods was founded in June 1996. In August 2000,
webMethods acquired Active Software, Inc. (Active)
in a transaction which was accounted for as a pooling of
interests. Active was founded in September 1995. We have
grown from 94 employees as of March 31, 1998 to 1,018
employees as of March 31, 2001. We shipped the first
version of webMethods B2B in June 1998 and have released
seven subsequent versions of webMethods B2B, the most recent of
which we began shipping in April 2001. The first version of
webMethods Enterprise Server was shipped in August 1996,
and eleven subsequent versions of the webMethods Enterprise
Server have been released since, the most recent of which began
shipping in March 2001. The first shipment of the
webMethods Mainframe Integration Server was in August 2000
and two subsequent versions have been released with the most
recent being in December 2000.

Business Merger

On August 15, 2000 webMethods completed a merger with
Active, a provider of software products for businesses that
allow users to integrate incompatible software applications
across their extended enterprises of customers, suppliers and
partners, which was a publicly held software company based in
Santa Clara, California. Active stockholders received
 .527 shares of common stock of webMethods for each share of
Active common stock, or an aggregate of 13.9 million
shares. The merger has been accounted for as a pooling of
interests, and accordingly the financial statements have been
retroactively restated as if the merger had occurred as of the
beginning of the earliest period presented. Active had a
calendar fiscal year end. In connection with the retroactive
restatement, the financial statements of Active were recast to a
March 31 year end to conform to webMethods
presentation.

Business Acquisitions

In April 2000, we acquired Premier Software
Technologies, Inc. (Premier), a provider of integration
products and services for e-commerce. In connection with this
transaction, 63,929 shares of our common stock were issued
and cash of $500,000 was paid in exchange for all of the
outstanding shares of capital stock of Premier. In addition,
outstanding options to purchase Premier capital stock were
converted into options to purchase an aggregate of 6,081 shares
of our common stock.

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In April 2000, we acquired TransLink Software, Inc.
(TransLink), a provider of high performance mainframe
integration solutions for e-commerce. In connection with this
transaction, 419,683 shares of our common stock were issued
and cash of $4.5 million was paid. In addition, the
outstanding options to purchase TransLink capital stock were
converted into options to purchase an aggregate of 22,682 shares
of our common stock.

Acquisition of Technology

In February 2001, we acquired Intelliframe Corporation, a wholly
owned subsidiary of Computer Network Technology Corporation
(Intelliframe). Through the acquisition, we acquired
Intelliframe, certain workflow technology and
Intelliframes Boston based research and development team.
The total purchase price for the acquisition was $32.1 million
consisting of a cash payment of $8.8 million and the
issuance of 273,542 shares of our common stock with a fair value
of $23.3 million on the date of issuance.

The Intelliframe workflow technology was purchased with the
intent to subsequently integrate certain parts of the technology
into a future product. The efforts required to complete and
incorporate the acquired in-process research and development
include the completion of all planning, designing and testing
activities that are necessary to meet its design requirements,
including functions, features and technical performance
requirements. No other significant assets were purchased.
Accordingly management has determined the product into which the
acquired technology is to be incorporated has not met
technological feasibility and as such substantially all of the
purchase price was charged to in-process research and
development during the quarter ended March 31, 2001.

Revenue

We enter into arrangements, which may include the sale of
licenses of our integration software, professional services and
maintenance or various combinations of each element. We
recognize revenue based on Statement of Position
(SOP) 97-2, Software Revenue
Recognition, as amended, and modified by SOP 98-9,
Modification of SOP 97-2, Software Revenue Recognition,
With Respect to Certain Transactions. SOP 98-9 modified
SOP 97-2 by requiring revenue to be recognized using the
residual method if certain conditions are met.
Revenue is recognized based on the residual method when an
agreement has been signed by both parties, the fees are fixed or
determinable, collection of the fees is probable, delivery of
the product has occurred and no other significant obligations
remain. Historically we have not experienced significant returns
or offered exchanges of our products.

For multi-element arrangements, each element of the arrangement
is analyzed and we allocate a portion of the total fee under the
arrangement to the undelivered elements, such as professional
services, training and maintenance. Revenue allocated to the
undelivered elements is deferred using vendor-specific objective
evidence of fair value of the elements and the remaining portion
of the fee is allocated to the delivered elements (generally the
software license), under the residual method. Vendor
specific-objective evidence of fair value is based on the price
the customer is required to pay when the element is sold
separately (i.e. hourly time and material rates charged for
consulting services when sold separately from a software license
and the optional renewal rates charged by us for maintenance
arrangements).

For electronic delivery, the product is considered to have been
delivered when the access code to download the software from our
website and activation key, as applicable, have been provided to
the customer. If an element of the license agreement has not
been delivered, revenue for the element is deferred based on its
vendor-specific objective evidence of fair value. If
vendor-specific objective evidence of fair value does not exist,
all revenue is deferred until sufficient objective evidence
exists or all elements have been delivered. If the fee due from
the customer is not fixed or determinable, revenue is recognized
as payments become due. If collectibility is not considered
probable, revenue is recognized when the fee is collected.

License Revenue: Amounts allocated to license revenue
under the residual method are recognized at the time of delivery
of the software when vendor-specific objective evidence of fair
value exists for the undelivered elements, if any, and all the
other revenue recognition criteria discussed above have been met.

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Professional Services Revenue: Revenue from professional
services is comprised of consulting, implementation services and
training. Consulting services are generally sold on a
time-and-materials basis and include services such as
installation and building non-complex interfaces to allow the
software to operate in customized environments. Services are
generally separable from the other elements under the
arrangement since the performance of the services is not
essential to the functionality (i.e. the services do not involve
significant production, modification or customization of the
software or building complex interfaces) of any other element of
the transaction. Revenue for professional services and training
is recognized when the services are performed.

Maintenance Revenue: Maintenance revenue consists
primarily of fees for providing when-and-if-available
unspecified software upgrades and technical support over a
specified term. Maintenance revenue is recognized on a
straight-line basis over the term of the contract.

Costs of Revenue

Our cost of license revenue primarily includes royalties related
to third parties software embedded in our products or sold
to our customers. Our cost of professional services and
maintenance revenue includes compensation and related expenses
for our professional services and technical support
organizations, costs of third-party consultants we use to
provide professional services to customers and an allocation of
overhead and recruitment costs.

Operating Expenses

Our operating expenses are classified as sales and marketing,
research and development and general and administrative. Each
category includes related expenses for compensation, employee
benefits, professional fees, travel, communications and
allocated facilities, recruitment and overhead costs. Our sales
and marketing expenses include expenses which are specific to
the sales and marketing activities, such as commissions, trade
shows, public relations, promotional costs and marketing
collateral. Also included in our operating expenses is the
amortization of deferred stock compensation and deferred warrant
charge.

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RESULTS OF OPERATIONS

The following table sets forth our historical consolidated
statement of operations data for each of the periods indicated
as a percentage of total revenue:

|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |      |       |       | 
|-------------------- | ---------------------------------------- | ------------------------------------------- | ------------------------ | ---- | ---- | ----- | ----- | ---- | ---- | ----- | ------ | ---- | ----- | ----- | 
|                     |                                          |                                            
|                     |                                          | Year Ended March 31,                       
|                     |                                          |                                            
|                     |                                          | 2001                                        |                          | 2000 |      | 1999 
|                     |                                          |                                             |                          |      |      |      
|Revenue:             |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|                    
|                    
|                    
|                    
|                     | License                                  |                                             |                          | 71.1 | %    |       |       | 71.2 | %    |       |        | 75.5 | %    
|                    
|                    
|                    
|                    
|                     | Professional services                    |                                             |                          | 17.3 |      |       |       | 19.5 |      |       |        | 17.2 |      
|                    
|                    
|                    
|                    
|                     | Maintenance                              |                                             |                          | 11.6 |      |       |       | 9.3  |      |       |        | 7.3  |      
|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|                     |                                          |                                             | Total revenue            |      |      | 100.0 |       |      |      | 100.0 |        |      |       | 100.0 | 
|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|Cost of revenue:     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|                    
|                    
|                    
|                    
|                     | License                                  |                                             |                          | 2.6  |      |       |       | 4.3  |      |       |        | 5.6  |      
|                    
|                    
|                    
|                    
|                     | Professional services and maintenance:   |                                             |                          |      |      |       |       |      |      |       |        |      |      
|                    
|                    
|                    
|                    
|                     |                                          | Stock based compensation                    |                          |      | 0.6  |       |       |      | 0.9  |       |        |      | 0.5   |      
|                    
|                    
|                    
|                    
|                     |                                          | Other professional services and maintenance |                          |      | 22.9 |       |       |      | 26.8 |       |        |      | 26.6  |      
|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|                     |                                          |                                             | Total cost of revenue    |      |      | 26.1  |       |      |      | 32.0  |        |      |       | 32.7  | 
|                    
|                    
|                    
|                    
|Gross profit         |                                          |                                             | 73.9                     |      |      |       | 68.0  |      |      |       | 67.3   |     
|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|Operating expenses:  |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|                    
|                    
|                    
|                    
|                     | Sales and marketing:                     |                                             |                          |      |      |       |       |      |      |       |        |      |      
|                    
|                    
|                    
|                    
|                     |                                          | Stock based compensation and warrant charge |                          |      | 2.4  |       |       |      | 2.4  |       |        |      | 1.9   |      
|                    
|                    
|                    
|                    
|                     |                                          | Other sales and marketing costs             |                          |      | 49.6 |       |       |      | 73.2 |       |        |      | 103.3 |      
|                    
|                    
|                    
|                    
|                     | Research and development:                |                                             |                          |      |      |       |       |      |      |       |        |      |      
|                    
|                    
|                    
|                    
|                     |                                          | Stock based compensation                    |                          |      | 6.2  |       |       |      | 2.1  |       |        |      | 1.3   |      
|                    
|                    
|                    
|                    
|                     |                                          | Other research and development costs        |                          |      | 22.4 |       |       |      | 24.6 |       |        |      | 42.5  |      
|                    
|                    
|                    
|                    
|                     | General and administrative:              |                                             |                          |      |      |       |       |      |      |       |        |      |      
|                    
|                    
|                    
|                    
|                     |                                          | Stock based compensation                    |                          |      | 0.8  |       |       |      | 0.5  |       |        |      | 0.4   |      
|                    
|                    
|                    
|                    
|                     |                                          | Other general and administrative costs      |                          |      | 10.3 |       |       |      | 16.2 |       |        |      | 22.2  |      
|                    
|                    
|                    
|                    
|                     | Acquisition related expenses             |                                             |                          | 16.8 |      |       |       |     |      |       |        |     |      
|                    
|                    
|                    
|                    
|                     | Amortization of goodwill and intangibles |                                             |                          | 20.5 |      |       |       | 2.2  |      |       |        |     |      
|                    
|                    
|                    
|                    
|                     | In-process research and development      |                                             |                          | 17.3 |      |       |       | 4.6  |      |       |        |     |      
|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|                     |                                          |                                             | Total operating expenses |      |      | 146.3 |       |      |      | 125.8 |        |      |       | 171.6 | 
|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|Operating loss       |                                          |                                             | (72.4                    | )    |      |       | (57.8 | )    |      |       | (104.3 | )   
|                    
|                    
|                    
|                    
|Interest income, net |                                          |                                             | 7.2                      |      |      |       | 5.5   |      |      |       | 2.9    |     
|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     
|Net loss             |                                          |                                             | (65.2                    | )%   |      |       | (52.3 | )%   |      |       | (101.4 | )%  
|                     |                                          |                                             |                          |      |      |       |       |      |      |       |        |     

Year Ended March 31, 2001 compared to Year Ended
March 31, 2000

Revenue

Total revenue increased by approximately $141.9 million, or
236%, to $202.0 million for the year ended March 31,
2001 from $60.1 million for the year ended March 31,
2000.

License. License revenue increased by approximately
$100.7 million, or 235%, to $143.5 million for the
year ended March 31, 2001 from $42.8 million for the
year ended March 31, 2000. License revenue as a percentage
of total revenue is 71.1% and 71.2% for the year ended
March 31, 2001 and 2000, respectively. The absolute dollar
increase is primarily attributable to an increase in sales to
new and existing customers resulting from increased sales force
headcount, new products, features and enhancements, a growing
acceptance of our integration software, new and expanded
relationships with many systems integrators and enterprise
application vendors and an increased presence internationally.

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Professional Services. Professional services revenue
increased by approximately $23.3 million, or 199%, to
$35.0 million for the year ended March 31, 2001 from
$11.7 million for the year ended March 31, 2000.
Professional services revenue as a percentage of total revenue
is 17.3% and 19.5% for the year ended March 31, 2001 and
2000, respectively. The absolute dollar increase is attributable
to the increased licensing activity described above, which has
resulted in increased customer implementation activity and
follow-on professional services.

Maintenance. Maintenance revenue increased by
approximately $17.9 million, or 320%, to $23.5 million
for the year ended March 31, 2001 from $5.6 million
for the year ended March 31, 2000. Maintenance revenue as a
percentage of total revenue is 11.6% and 9.3% for the year ended
March 31, 2001 and 2000, respectively. This increase is due
primarily to the increased license activity as described above
since most license contracts include post contract maintenance
and support which is recognized as revenue on a ratable basis
over the term of the maintenance agreement.

Cost of revenue

License. Cost of license revenue increased by
approximately $2.6 million, or 100%, to $5.2 million
for the year ended March 31, 2001 from $2.6 million for the
year ended March 31, 2000. Cost of license revenue as a
percentage of total revenue is 2.6% and 4.3% for the year ended
March 31, 2001 and 2000, respectively. The growth in cost
of license revenue on an absolute dollars basis was attributable
to an increase in revenue from licenses for which we pay
royalties related to third party software embedded in our
products or sold to our customers. Gross profit margin on
license revenue increased to 96% for the year ended
March 31, 2001 compared to 94% for the year ended
March 31, 2000. The improvement in gross margin was
attributable to a smaller proportion of our products sold,
incorporating third party technology for which we pay royalties.
We anticipate that the cost of license revenue will increase in
absolute dollars as we license additional products, although
cost of license revenue may vary as a percentage of license
revenue from period to period.

Professional Services and Maintenance. Cost of
professional services and maintenance revenue, excluding stock
based compensation, increased by approximately
$30.2 million, or 188% to $46.3 million for the year
ended March 31, 2001 from $16.1 million for the year
ended March 31, 2000. Cost of professional services and
maintenance revenue as a percentage of total revenue is 22.9%
and 26.8% for the years ended March 31, 2001 and 2000,
respectively. This increase on an absolute dollar basis was
primarily attributable to increases in the number of
professional service and technical support personnel, which
increased to 219 people as of March 31, 2001 from 114
people as of March 31, 2000, and to a lesser extent an
increase in subcontractor and travel expenses. Gross profit
margin on professional services and maintenance excluding stock
based compensation, increased to 21% of professional services
and maintenance revenue, for the year ended March 31, 2001
compared to 7% for the year ended March 31, 2000. The
increase in gross profit margin is due primarily to the increase
in maintenance revenue which has a lower cost associated with it
as well as an increase in the rates charged on professional
services.

Gross profit

Gross profit increased by approximately $108.4 million, or
265%, to $149.3 million for the year ended March 31,
2001 from $40.9 million for the year ended March 31,
2000. The increase is attributable to the growth in our customer
base, which contributed to increased revenue from software
licenses, professional services and maintenance, and, to a
lesser extent, a decrease in third party royalties as a
percentage of license revenue and a decrease in professional
services revenue as a percentage of total revenue. The gross
profit margin was 74% for the year ended March 31, 2001, up
from 68% for the year ended March 31, 2000.

Operating expenses

Sales and Marketing. Sales and marketing expenses,
excluding stock based compensation, increased by approximately
$56.2 million, or 128%, to $100.2 million, for the
year ended March 31, 2001 from

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Research and Development. Research and development
expenses, excluding stock based compensation, increased by
approximately $30.4 million, or 205%, to $45.2 million
for the year ended March 31, 2001 from $14.8 million
for the year ended March 31, 2000. Research and development
expense as a percentage of total revenue is 22.4% and 24.6% for
the years ended March 31, 2001 and 2000, respectively. The
absolute dollar increase in research and development expenses is
attributable to increases in the number of software development,
pre-commercial release quality assurance and documentation
personnel, and, to a lesser extent, third-party development
costs.

General and Administrative. General and administrative
expenses, excluding stock based compensation, increased by
approximately $11.0 million, or 112%, to $20.8 million
for the year ended March 31, 2001 from $9.8 million
for the year ended March 31, 2000. General and
administrative expense as a percentage of total revenue is 10.3%
and 16.2% for the years ended March 31, 2001 and 2000,
respectively. The absolute dollar increase in general and
administrative expenses is attributable to external legal,
accounting and other professional fees, provision for allowance
for doubtful accounts, increases in the number of accounting,
finance and human resources personnel and implementation of
systems infrastructure.

Acquisition Related Expenses. In connection with the
acquisition of Active, we expensed $34.0 million in
acquisition related expenses. These expenses included investment
banking, regulatory, legal and accounting fees.

Amortization of Goodwill and Acquired Intangibles.
Amortization of goodwill and acquired intangibles was
$41.4 million for the year ended March 31, 2001 and
$1.3 million for the year ended March 31, 2000. The
estimated useful life of the goodwill and the acquired
intangibles is 3 years for trained and acquired assembled
workforce, one year for license agreements, 2 years for
non-compete agreements, 3 years for goodwill and
4 years for favorable lease terms. The goodwill and
acquired intangibles relate to the acquisitions of Alier during
the year ended March 31, 2000, and Premier and Translink
during the year ended March 31, 2001.

In-process Research and Development. In-process research
and development was $34.9 million for the year ended
March 31, 2001 and $2.7 million for the year ended
March 31, 2000. The $34.9 million charge during
March 31, 2001 represent: (i) a one-time charge of
$32.1 million recorded in connection with the acquisition
and write-off of the Intelliframe workflow technology because in
the opinion of management, the product into which the acquired
workflow technology is to be incorporated had not met
technological feasibility and $490,000 in expenses related to
the acquisition; and (ii) $2.3 million of in-process
research and development acquired and written off in conjunction
with the Translink acquisition, which in the opinion of
management, had not reached technological feasibility and had no
other alternative future use. The charge during the year ended
March 31, 2000 represents a one-time charge of
$2.7 million recorded upon the acquisition of Alier in
February 2000. This charge relates to the in-process
research and development that was expensed upon consummation of
the acquisition as technology acquired had not reached
technological feasibility, and in the opinion of management, had
no alternative future use.

Stock Based Compensation and Warrant Charge. In
connection with the grant of stock options to employees and
non-employee directors during the years ended March 31,
2000 and 1999, we recorded aggregate unearned compensation of
$15.5 million, representing the difference between the
deemed fair value of our common stock at the date of grant and
the exercise price of such options. As a result of the
acquisitions of Alier, Premier and Translink we recorded a
deferred compensation charge of $27.9 million related to
restricted stock issued to Alier, Premier and Translink
stockholders. In connection with the

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In March 2001, we entered into an OEM/Reseller agreement with i2
and issued i2 a warrant to purchase 750,000 shares of our common
stock at an exercise price of $40.88 per share. The fair value
of the warrant based on the Black-Scholes valuation model was
$23.6 million on the date of issuance which has been
recorded as a deferred warrant charge. As part of the agreement,
i2 will pay us OEM fees of $10,000,000 over the term of the
agreement which will be recorded as a reduction to the deferred
warrant charge and will not be recorded as revenue. In March
2001 we received $4.0 million of OEM fees from i2 which was
recorded as a reduction to the deferred warrant charge.

The deferred stock compensation and deferred warrant charge is
presented as a reduction of stockholders equity and is
amortized over the vesting period of the applicable equity
arrangement and is shown by expense category. Of the total
deferred stock compensation and warrant charge recorded for
options, restricted stock and warrants, approximately
$20.1 million was amortized during the year ended
March 31, 2001, compared to $3.6 million during the
year ended March 31, 2000.

Interest income, net

Interest income, net increased by approximately
$11.2 million, or 339%, to $14.5 million for the year
ended March 31, 2001 from $3.3 million for the year
ended March 31, 2000. This increase is primarily
attributable to increases in interest income that resulted from
the approximately $169.4 million in net cash proceeds
resulting from issuance of common stock in our initial public
offering and the concurrent private placement in
February 2000.

Year Ended March 31, 2000 compared to Year Ended March 31,
1999

Revenue

Total revenue increased by approximately $45.8 million, or
320%, to $60.1 million for the year ended March 31,
2000 from $14.3 million for the year ended March 31,
1999.

License. License revenue increased by approximately
$32.0 million, or 296%, to $42.8 million for the year
ended March 31, 2000 from $10.8 million for the year
ended March 31, 1999. License revenue as a percentage of
total revenue is 71.2% and 75.5% for the years ended
March 31, 2000 and March 31, 1999 respectively. This
absolute dollar increase is primarily attributable to an
increase in sales to new and existing customers resulting from
increased sales force headcount and a growing acceptance of our
integration software.

Professional Services. Professional services revenue
increased by approximately $9.2 million, or 368%, to
$11.7 million for the year ended March 31, 2000 from
$2.5 million for the year ended March 31, 1999.
Professional services revenue as a percentage of total revenue
is 19.5% and 17.2% for the years ended March 31, 2000 and
March 31, 1999 respectively. This absolute dollar increase
is attributable to the increased licensing activity described
above, which has resulted in increased customer implementation
activity and follow-on professional services.

Maintenance. Maintenance revenue increased by
approximately $4.6 million, or 460%, to $5.6 million
for the year ended March 31, 2000 from $1.0 million
for the year ended March 31, 1999. Maintenance revenue as a
percentage of total revenue is 9.3% and 7.3% for the years ended
March 31, 2000 and March 31, 1999 respectively. This
absolute dollar increase is attributable to the increased
licensing activity described above. Because a majority of the
license contracts include post-contract maintenance and support,
an increased level of license revenue as well as renewal
maintenance on perpetual licenses results in an increased amount
of maintenance revenue recognized ratably over the term of the
maintenance agreement.

Cost of revenue

License. Cost of license revenue increased by
approximately $1.8 million, or 227%, to $2.6 million
for the year ended March 31, 2000 from $799,000 for the
year ended March 31, 1999. Cost of license

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Professional Services and Maintenance. Cost of
professional services and maintenance, exclusive of stock based
compensation, increased by approximately $12.3 million, or
324% to $16.1 million for the year ended March 31,
2000 from $3.8 million for the year ended March 31,
1999. Cost of professional services and maintenance revenue as a
percentage of total revenue is 26.8% and 26.6% for the years
ended March 31, 2000 and March 31, 1999 respectively.
This absolute dollar increase is primarily attributable to
increases in the number of professional service and technical
support personnel, which increased to 114 people as of
March 31, 2000 from 26 people as of March 31, 1999. In
addition, subcontractor, travel, and recruiting expenses
contributed to the increase in cost of professional services and
maintenance for the year ended March 31, 2000. Gross profit
margin on professional services and maintenance, exclusive of
stock based compensation, increased to 7% of professional
services and maintenance revenue in the year ended
March 31, 2000 compared to (9%) for the year ended
March 31, 1999.

Gross profit

Gross profit increased by approximately $31.3 million, or
326%, to $40.9 million for the year ended March 31,
2000 from $9.6 million for the year ended March 31,
1999. The increase is attributable to the growth in our customer
base, which contributed to increased revenue from software
licenses, professional services and maintenance. The gross
profit margin was 68% for the year ended March 31, 2000 up
from 67% for the year ended March 31, 1999.

Operating expenses

Sales and Marketing. Sales and marketing expenses,
exclusive of stock based compensation, increased by
approximately $29.2 million, or 197%, to $44.0 million
for the year ended March 31, 2000 from $14.8 million
for the year ended March 31, 1999. This expense as a
percentage of total revenue is 73.2% and 103.3% for the year
ended March 31, 2000 and March 31, 2001 respectively.
The absolute dollar increase in sales and marketing expenses is
primarily attributable to an increase in the number of sales and
marketing employees, international expansion and, to a lesser
extent, increases in marketing programs.

Research and Development. Research and development
expenses, exclusive of stock based compensation, increased by
approximately $8.7 million, or 143%, to $14.8 million
for the year ended March 31, 2000 from $6.1 million
for the year ended March 31, 1999. This expense as a
percentage of total revenue is 24.6% and 42.5% for the year
ended March 31, 2000 and March 31, 2001 respectively.
The absolute dollar increase in research and development
expenses is attributable to increases in the number of software
development, pre-commercial release quality assurance and
documentation personnel and in third-party development costs.

General and Administrative. General and administrative
expenses, exclusive of stock based compensation, increased by
approximately $6.6 million, or 206%, to $9.8 million
for the year ended March 31, 2000 from $3.2 million
for the year ended March 31, 1999. This expense as a
percentage of total revenue is 16.2% and 22.2% for the year
ended March 31, 2000 and March 31, 2001 respectively.
This absolute dollar increase is primarily attributable to
increases in the number of accounting and finance, human
resources, and office administration personnel. In addition,
professional service fees, corporate insurance and other general
corporate costs increased to support organizational growth.

Amortization of Goodwill and Acquired Intangibles.
Amortization of goodwill and acquired intangibles was
$1.3 million during the year ended March 31, 2000. The
estimated useful life of the goodwill and the acquired
intangibles is 3 years for trained and acquired assembled
workforce, one year for

37



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##### Table of Contents





In-process Research and Development. In-process research
and development was $2.7 million during the year ended
March 31, 2000. This amount represents a one-time charge of
$2.7 million recorded upon the acquisition of Alier in
February 2000. This charge relates to the in-process
research and development that was expensed upon consummation of
the acquisition as technology acquired had not reached
technological feasibility, and in the opinion of management, had
no alternative future use.

Amortization of Deferred Stock Compensation. Certain
options granted during the year ended March 31, 2000 have
been treated as compensatory because the estimated fair value
for accounting purposes was greater than the exercise price as
determined by our Board of Directors on the date of grant. The
total deferred stock compensation associated with these options
as of March 31, 2000 amounted to approximately
$11.1 million, net of amortization. In connection with the
acquisition of Alier, restricted stock was issued to two of the
Alier stockholders, which has been treated as deferred stock
compensation. These restrictions vest over a 2-year period. Of
the total deferred stock compensation, approximately
$3.6 million was amortized during the year ended
March 31, 2000 compared to $577,000 during the year ended
March 31, 1999. These remaining amounts are being amortized
over the respective vesting periods of these equity
arrangements, generally 48 months for the options and
24 months for the restricted stock.

Interest income, net

Interest income, net increased by approximately
$2.9 million, or 699%, to $3.3 million for the year
ended March 31, 2000 from $415,000 for the year ended
March 31, 1999. This increase is primarily attributable to
increases in interest income that resulted from the
approximately $169.4 million in net cash proceeds resulting
from issuance of common stock in our initial public offering and
the concurrent private placement in February 2000.

Quarterly results of operations

The following tables set forth consolidated statement of
operations data for us for each of the eight quarters ended
March 31, 2001, as well as that data expressed as a
percentage of the total revenue for the quarters presented. This
information has been derived from our unaudited consolidated
financial statements, which have been retroactively restated to
give effect to the pooling of interests in connection with the
merger between webMethods and Active. The unaudited consolidated
financial statements have been prepared on the same basis as the
audited consolidated financial statements contained in
Item 8 of this report and include all adjustments,
consisting only of normal recurring adjustments that we consider
necessary for a fair presentation of such information. You
should read this information in conjunction with our annual
audited consolidated financial statements and related notes
appearing in Item 8 of this report. You should not draw any
conclusions about our future results from the results of
operations for any quarter.

|                 |                                        |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |          |        |        |   |        |       |        |   |        |       |        |   |       |       |        |   |       |       |       | 
|---------------- | -------------------------------------- | ------------------------------------------- | --------------------- | -------- | ------ | --------- | - | -------- | ------ | -------- | - | -------- | ------ | --------- | - | -------- | ------ | ------ | - | ------ | ----- | ------ | - | ------ | ----- | ------ | - | ----- | ----- | ------ | - | ----- | ----- | ----- | 
|                 |                                        |                                            
|                 |                                        | Three Months Ended                         
|                 |                                        |                                            
|                 |                                        | Mar. 31,                                    |                       | Dec. 31, |        | Sept. 30, |   | June 30, |        | Mar. 31, |   | Dec. 31, |        | Sept. 30, |   | June 30,
|                 |                                        | 2001                                        |                       | 2000     |        | 2000      |   | 2000     |        | 2000     |   | 1999     |        | 1999      |   | 1999    
|                 |                                        |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |         
|                 |                                        |                                            
|                 |                                        | (in thousands)                             
|                
|                
|                
|                
|Revenue:         |                                        |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |          |        |        |   |        |       |        |   |        |       |        |   |       |       |        |   |      
|                
|                
|                
|                
|                 | License                                |                                             | $                     | 43,679   |        |           | $ | 43,425   |        |          | $ | 32,424   |        |           | $ | 23,986   |        |        | $ | 15,666 |       |        | $ | 13,575 |       |        | $ | 7,794 |       |        | $ | 5,787 |      
|                
|                
|                
|                
|                 | Professional services                  |                                             |                       | 9,981    |        |           |   | 8,780    |        |          |   | 8,441    |        |           |   | 7,743    |        |        |   | 5,148  |       |        |   | 2,509  |       |        |   | 2,243 |       |        |   | 1,799 |      
|                
|                
|                
|                
|                 | Maintenance                            |                                             |                       | 8,114    |        |           |   | 7,175    |        |          |   | 4,873    |        |           |   | 3,336    |        |        |   | 2,217  |       |        |   | 1,511  |       |        |   | 1,110 |       |        |   | 786   |      
|                 |                                        |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |          |        |        |   |        |       |        |   |        |       |        |   |       |       |        |   |      
|                 |                                        |                                             | Total revenue         |          |        | 61,774    |   |          |        | 59,380   |   |          |        | 45,738    |   |          |        | 35,065 |   |        |       | 23,031 |   |        |       | 17,595 |   |       |       | 11,147 |   |       |       | 8,372 | 
|                 |                                        |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |          |        |        |   |        |       |        |   |        |       |        |   |       |       |        |   |      
|Cost of revenue: |                                        |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |          |        |        |   |        |       |        |   |        |       |        |   |       |       |        |   |      
|                
|                
|                
|                
|                 | License                                |                                             |                       | 1,225    |        |           |   | 1,659    |        |          |   | 1,303    |        |           |   | 1,002    |        |        |   | 738    |       |        |   | 753    |       |        |   | 727   |       |        |   | 394   |      
|                
|                
|                
|                
|                 | Professional services and maintenance: |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |          |        |        |   |        |       |        |   |        |       |        |   |       |       |        |   |       |      
|                
|                
|                
|                
|                 |                                        | Stock based compensation                    |                       |          | 172    |           |   |          | 270    |          |   |          | 529    |           |   |          | 217    |        |   |        | 401   |        |   |        | 93    |        |   |       | 33    |        |   |       | 33    |      
|                
|                
|                
|                
|                 |                                        | Other professional services and maintenance |                       |          | 12,911 |           |   |          | 12,533 |          |   |          | 10,755 |           |   |          | 10,105 |        |   |        | 7,074 |        |   |        | 4,046 |        |   |       | 2,812 |        |   |       | 2,170 |      
|                 |                                        |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |          |        |        |   |        |       |        |   |        |       |        |   |       |       |        |   |      
|                 |                                        |                                             | Total cost of revenue |          |        | 14,308    |   |          |        | 14,462   |   |          |        | 12,587    |   |          |        | 11,324 |   |        |       | 8,213  |   |        |       | 4,892  |   |       |       | 3,572  |   |       |       | 2,597 | 
|                 |                                        |                                             |                       |          |        |           |   |          |        |          |   |          |        |           |   |          |        |        |   |        |       |        |   |        |       |        |   |       |       |        |   |      

38



---



##### Table of Contents



|                     |                                     |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |   |       |       | 
|-------------------- | ----------------------------------- | ---------------------------------------- | ------------------------ | -------- | ------ | --------- | ------- | -------- | ------ | -------- | ------- | -------- | ------ | --------- | ------- | -------- | ------ | ------ | ------- | ----- | ------ | ------ | ------ | - | ------ | ------ | ------ | - | ----- | ------ | ------ | - | ----- | ----- | 
|                     |                                     |                                         
|                     |                                     | Three Months Ended                      
|                     |                                     |                                         
|                     |                                     | Mar. 31,                                 |                          | Dec. 31, |        | Sept. 30, |         | June 30, |        | Mar. 31, |         | Dec. 31, |        | Sept. 30, |         | June 30,
|                     |                                     | 2001                                     |                          | 2000     |        | 2000      |         | 2000     |        | 2000     |         | 1999     |        | 1999      |         | 1999    
|                     |                                     |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |         
|                     |                                     |                                         
|                     |                                     | (in thousands)                          
|                    
|                    
|                    
|                    
|Gross profit         |                                     |                                          | 47,466                   |          |        |           | 44,918  |          |        |          | 33,151  |          |        |           | 23,741  |          |        |        | 14,818  |       |        |        | 12,703 |   |        |        | 7,575  |   |       |        | 5,775  |  
|                     |                                     |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |  
|Operating expenses:  |                                     |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |  
|                    
|                    
|                    
|                    
|                     | Sales and marketing:                |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |   |      
|                    
|                    
|                    
|                    
|                     |                                     | Stock based compensation                 |                          |          | 720    |           |         |          | 1,060  |          |         |          | 2,006  |           |         |          | 1,027  |        |         |       | 943    |        |        |   | 225    |        |        |   | 152   |        |        |   | 151   |      
|                    
|                    
|                    
|                    
|                     |                                     | Other sales and marketing                |                          |          | 31,261 |           |         |          | 27,317 |          |         |          | 22,102 |           |         |          | 19,474 |        |         |       | 16,919 |        |        |   | 12,413 |        |        |   | 8,728 |        |        |   | 5,973 |      
|                    
|                    
|                    
|                    
|                     | Research and development:           |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |   |      
|                    
|                    
|                    
|                    
|                     |                                     | Stock based compensation                 |                          |          | 3,051  |           |         |          | 3,007  |          |         |          | 3,637  |           |         |          | 2,752  |        |         |       | 956    |        |        |   | 124    |        |        |   | 85    |        |        |   | 85    |      
|                    
|                    
|                    
|                    
|                     |                                     | Other research and development           |                          |          | 13,851 |           |         |          | 12,774 |          |         |          | 10,872 |           |         |          | 7,661  |        |         |       | 5,102  |        |        |   | 4,127  |        |        |   | 3,674 |        |        |   | 1,877 |      
|                    
|                    
|                    
|                    
|                     | General and administrative:         |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |   |      
|                    
|                    
|                    
|                    
|                     |                                     | Stock based compensation                 |                          |          | 66     |           |         |          | 402    |          |         |          | 310    |           |         |          | 862    |        |         |       |       |        |        |   | 241    |        |        |   | 33    |        |        |   | 33    |      
|                    
|                    
|                    
|                    
|                     |                                     | Other general and administrative costs   |                          |          | 5,901  |           |         |          | 5,723  |          |         |          | 4,754  |           |         |          | 4,459  |        |         |       | 3,380  |        |        |   | 2,926  |        |        |   | 2,241 |        |        |   | 1,206 |      
|                    
|                    
|                    
|                    
|                     | Acquisition related expenses        |                                          |                          |          |        |           |         |         |        |          |         | 34,039   |        |           |         |         |        |        |         |      |        |        |        |  |        |        |        |  |       |        |        |  |      
|                    
|                    
|                    
|                    
|                     |                                     | Amortization of goodwill and intangibles |                          |          | 10,507 |           |         |          | 10,604 |          |         |          | 10,604 |           |         |          | 9,680  |        |         |       | 1,305  |        |        |   |       |        |        |   |      |        |        |   |      |      
|                    
|                    
|                    
|                    
|                     | In-process research and development |                                          |                          | 32,599   |        |           |         |         |        |          |         |         |        |           |         | 2,311    |        |        |         | 2,737 |        |        |        |  |        |        |        |  |       |        |        |  |      
|                     |                                     |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |  
|                     |                                     |                                          | Total operating expenses |          |        | 97,956    |         |          |        | 60,887   |         |          |        | 88,324    |         |          |        | 48,226 |         |       |        | 31,342 |        |   |        | 20,056 |        |   |       | 14,913 |        |   |       | 9,325 | 
|                     |                                     |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |  
|Operating loss       |                                     |                                          | (50,490                  | )        |        |           | (15,969 | )        |        |          | (55,173 | )        |        |           | (24,485 | )        |        |        | (16,524 | )     |        |        | (7,353 | ) |        |        | (7,338 | ) |       |        | (3,550 | )
|                    
|                    
|                    
|                    
|Interest income, net |                                     |                                          | 3,653                    |          |        |           | 3,300   |          |        |          | 3,984   |          |        |           | 3,566   |          |        |        | 1,945   |       |        |        | 796    |   |        |        | 445    |   |       |        | 129    |  
|                     |                                     |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |  
|Net loss             |                                     | $                                        | (46,837                  | )        |        | $         | (12,669 | )        |        | $        | (51,189 | )        |        | $         | (20,919 | )        |        | $      | (14,579 | )     |        | $      | (6,557 | ) |        | $      | (6,893 | ) |       | $      | (3,421 | )
|                     |                                     |                                          |                          |          |        |           |         |          |        |          |         |          |        |           |         |          |        |        |         |       |        |        |        |   |        |        |        |   |       |        |        |  

|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |      |      |       | 
|-------------------- | ---------------------------------------- | ------------------------------------------- | ------------------------ | -------- | ---- | --------- | ----- | -------- | ---- | -------- | ------ | -------- | ---- | --------- | ----- | -------- | ---- | ----- | ----- | ---- | ---- | ----- | ----- | ---- | ---- | ----- | ----- | ---- | ---- | ----- | ----- | ---- | ---- | ----- | 
|                     |                                          |                                            
|                     |                                          | As a Percentage of Total Revenue           
|                     |                                          |                                            
|                     |                                          | Mar. 31,                                    |                          | Dec. 31, |      | Sept. 30, |       | June 30, |      | Mar. 31, |        | Dec. 31, |      | Sept. 30, |       | June 30,
|                     |                                          | 2001                                        |                          | 2000     |      | 2000      |       | 2000     |      | 2000     |        | 1999     |      | 1999      |       | 1999    
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |         
|Revenue:             |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|                    
|                    
|                    
|                    
|                     | License                                  |                                             |                          | 70.7     | %    |           |       | 73.1     | %    |          |        | 70.8     | %    |           |       | 68.4     | %    |       |       | 68.0 | %    |       |       | 77.2 | %    |       |       | 69.9 | %    |       |       | 69.1 | %   
|                    
|                    
|                    
|                    
|                     | Professional services                    |                                             |                          | 16.2     |      |           |       | 14.8     |      |          |        | 18.5     |      |           |       | 22.1     |      |       |       | 22.4 |      |       |       | 14.3 |      |       |       | 20.1 |      |       |       | 21.5 |     
|                    
|                    
|                    
|                    
|                     | Maintenance                              |                                             |                          | 13.1     |      |           |       | 12.1     |      |          |        | 10.7     |      |           |       | 9.5      |      |       |       | 9.6  |      |       |       | 8.5  |      |       |       | 10.0 |      |       |       | 9.4  |     
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|                     |                                          |                                             | Total revenue            |          |      | 100.0     |       |          |      | 100.0    |        |          |      | 100.0     |       |          |      | 100.0 |       |      |      | 100.0 |       |      |      | 100.0 |       |      |      | 100.0 |       |      |      | 100.0 | 
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|Cost of revenue:     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|                    
|                    
|                    
|                    
|                     | License                                  |                                             |                          | 2.0      |      |           |       | 2.8      |      |          |        | 2.8      |      |           |       | 2.9      |      |       |       | 3.3  |      |       |       | 4.3  |      |       |       | 6.5  |      |       |       | 4.7  |     
|                    
|                    
|                    
|                    
|                     | Professional services and maintenance:   |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |      |     
|                    
|                    
|                    
|                    
|                     |                                          | Stock based compensation                    |                          |          | 0.3  |           |       |          | 0.5  |          |        |          | 1.2  |           |       |          | 0.6  |       |       |      | 1.7  |       |       |      | 0.5  |       |       |      | 0.3  |       |       |      | 0.4  |      
|                    
|                    
|                    
|                    
|                     |                                          | Other professional services and maintenance |                          |          | 20.9 |           |       |          | 21.1 |          |        |          | 23.5 |           |       |          | 28.8 |       |       |      | 30.7 |       |       |      | 23.0 |       |       |      | 25.2 |       |       |      | 25.9 |      
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|                     |                                          |                                             | Total cost of revenue    |          |      | 23.2      |       |          |      | 24.4     |        |          |      | 27.5      |       |          |      | 32.3  |       |      |      | 35.7  |       |      |      | 27.8  |       |      |      | 32.0  |       |      |      | 31.0  | 
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|Gross profit         |                                          |                                             | 76.8                     |          |      |           | 75.6  |          |      |          | 72.5   |          |      |           | 67.7  |          |      |       | 64.3  |      |      |       | 72.2  |      |      |       | 68.0  |      |      |       | 69.0  |     
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|Operating expenses:  |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|                    
|                    
|                    
|                    
|                     | Sales and marketing:                     |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |      |     
|                    
|                    
|                    
|                    
|                     |                                          | Stock based compensation                    |                          |          | 1.2  |           |       |          | 1.8  |          |        |          | 4.4  |           |       |          | 2.9  |       |       |      | 4.1  |       |       |      | 1.3  |       |       |      | 1.4  |       |       |      | 1.8  |      
|                    
|                    
|                    
|                    
|                     |                                          | Other sales and marketing                   |                          |          | 50.6 |           |       |          | 46.0 |          |        |          | 48.3 |           |       |          | 55.5 |       |       |      | 73.5 |       |       |      | 70.5 |       |       |      | 78.3 |       |       |      | 71.3 |      
|                    
|                    
|                    
|                    
|                     | Research and development:                |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |      |     
|                    
|                    
|                    
|                    
|                     |                                          | Stock based compensation                    |                          |          | 4.9  |           |       |          | 5.0  |          |        |          | 7.9  |           |       |          | 7.9  |       |       |      | 4.1  |       |       |      | 0.7  |       |       |      | 0.8  |       |       |      | 1.0  |      
|                    
|                    
|                    
|                    
|                     |                                          | Other research and development              |                          |          | 22.4 |           |       |          | 21.5 |          |        |          | 23.8 |           |       |          | 21.8 |       |       |      | 22.1 |       |       |      | 23.5 |       |       |      | 33.0 |       |       |      | 22.4 |      
|                    
|                    
|                    
|                    
|                     | General and administrative:              |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |      |     
|                    
|                    
|                    
|                    
|                     |                                          | Stock based compensation                    |                          |          | 0.1  |           |       |          | 0.7  |          |        |          | 0.7  |           |       |          | 2.5  |       |       |      |     |       |       |      | 1.4  |       |       |      | 0.3  |       |       |      | 0.4  |      
|                    
|                    
|                    
|                    
|                     |                                          | Other general and administrative costs      |                          |          | 9.5  |           |       |          | 9.6  |          |        |          | 10.4 |           |       |          | 12.7 |       |       |      | 14.7 |       |       |      | 16.6 |       |       |      | 20.0 |       |       |      | 14.5 |      
|                    
|                    
|                    
|                    
|                     | Acquisition related expenses             |                                             |                          |          |      |           |       |         |      |          |        | 74.4     |      |           |       |         |      |       |       |     |      |       |       |     |      |       |       |     |      |       |       |     |     
|                    
|                    
|                    
|                    
|                     | Amortization of goodwill and intangibles |                                             |                          | 17.0     |      |           |       | 17.9     |      |          |        | 23.2     |      |           |       | 27.6     |      |       |       | 5.7  |      |       |       |     |      |       |       |     |      |       |       |     |     
|                    
|                    
|                    
|                    
|                     | In-process research and development      |                                             |                          | 52.8     |      |           |       |         |      |          |        |         |      |           |       | 6.6      |      |       |       | 11.9 |      |       |       |     |      |       |       |     |      |       |       |     |     
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|                     |                                          |                                             | Total operating expenses |          |      | 158.5     |       |          |      | 102.5    |        |          |      | 193.1     |       |          |      | 137.5 |       |      |      | 136.1 |       |      |      | 114.0 |       |      |      | 133.8 |       |      |      | 111.4 | 
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|Operating loss       |                                          |                                             | (81.7                    | )        |      |           | (26.9 | )        |      |          | (120.6 | )        |      |           | (69.8 | )        |      |       | (71.7 | )    |      |       | (41.8 | )    |      |       | (65.8 | )    |      |       | (42.4 | )   
|                    
|                    
|                    
|                    
|Interest income, net |                                          |                                             | 5.9                      |          |      |           | 5.6   |          |      |          | 8.7    |          |      |           | 10.1  |          |      |       | 8.4   |      |      |       | 4.5   |      |      |       | 4.0   |      |      |       | 1.5   |     
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     
|Net loss             |                                          |                                             | (75.8                    | )%       |      |           | (21.3 | )%       |      |          | (111.9 | )%       |      |           | (59.7 | )%       |      |       | (63.3 | )%   |      |       | (37.3 | )%   |      |       | (61.8 | )%   |      |       | (40.9 | )%  
|                     |                                          |                                             |                          |          |      |           |       |          |      |          |        |          |      |           |       |          |      |       |       |      |      |       |       |      |      |       |       |      |      |       |       |     

39



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Income taxes

We have recorded a valuation allowance for the full amount of
our net deferred tax assets, as the realizability of the
deferred tax assets is not currently predictable.

As of March 31, 2001, we had net operating loss carry
forwards of approximately $148.0 million. These net
operating loss carryforwards are available to reduce future
taxable income and begin to expire in fiscal 2010. Under the
provisions of the Internal Revenue Code, certain substantial
changes in our ownership have limited the amount of net
operating loss carry-forwards that could be utilized annually in
the future to offset taxable income.

LIQUIDITY AND CAPITAL RESOURCES

We have financed our operations through an initial public
offering of our common stock and a concurrent private placement
which was completed on February 10, 2000 and as a result
webMethods received net proceeds of $169.4 million. In
addition, we had private sales of mandatorily redeemable,
convertible preferred stock, resulting in net proceeds from
inception to March 31, 2001, of approximately
$38.7 million, and, to a lesser extent, we received funds
through bank loans and financed equipment through leases. Prior
to the Active merger, Active had private sales of convertible
redeemable preferred stock resulting in net proceeds from
inception to date of acquisition, of approximately
$25.1 million and also completed an initial public offering
with net proceeds of $40.0 million. As of March 31, 2001,
we had approximately $109.7 million in cash and cash
equivalents, approximately $96.7 million in short-term
investments, and approximately $190.7 million in working
capital.

Net cash used in operating activities was approximately $16.7
million in fiscal 2001, approximately $3.2 million in
fiscal 2000, and approximately $13.8 million in fiscal
1999. The increase in net cash used in operating activities was
due primarily to $34.0 million of acquisition related expenses
paid in connection with the Active merger.

Net cash used in investing activities was approximately
$65.1 million in fiscal 2001, approximately
$73.1 million in fiscal 2000, and approximately
$2.6 million in fiscal 1999. Cash used in investing
activities reflects purchases of property, equipment, marketable
securities investments in private companies, Intelliframe
workflow technology and the acquisitions of Premier and
Translink. We paid approximately $8.8 million in connection
with the acquisition of the Intelliframe workflow technology and
$4.7 million for the acquisitions of Premier and Translink.
Capital expenditures were approximately $10.7 million in
fiscal 2001, approximately $5.7 in fiscal 2000, and
approximately $1.1 million in fiscal 1999. Capital
expenditures consisted of purchases of operating resources to
manage operations, including computer hardware and software,
office furniture and equipment and leasehold improvements. Since
inception we have generally funded capital expenditures either
through capital leases, the use of working capital, or bank
loans. We expect that our capital expenditures will continue to
increase in the future as we continue to expand the business.

Net cash provided by financing activities was approximately
$19.9 million in fiscal 2001, approximately
$239.1 million in fiscal 2000, and approximately
$13.2 million in fiscal 1999. These cash flows primarily
reflect net cash proceeds from exercises of stock options in
fiscal 2001 and from private sales of mandatorily redeemable,
convertible preferred stock in fiscal 2000 and fiscal 1999. In
addition, we received $169.4 million in net proceeds from
the issuance of common stock from our initial public offering
and our concurrent private placement in February 2000 and
$40.0 million in net proceeds from the initial public
offering of Active Software, in August 1999. As of
March 31, 2000 we had a line of credit to borrow up to a
maximum principal amount of $3,000,000. This note bears interest
at the banks prime rate plus 1% per annum. As of
March 31, 2001, we had not borrowed against this line of
credit. In connection with the line of credit, we obtained a
letter of credit totaling $750,000 which expires in
June 2001 and relates to the new office lease. Subsequent
to year-end, we amended the line of credit to borrow up to a
maximum principal amount of $10,000,000 with a maturity date of
July 10, 2002. Borrowings under this note are limited to
80% of eligible accounts receivable. Interest is payable on the
unpaid principal balance at the banks prime rate.

40



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We expect to experience growth in our operating expenses,
particularly sales and marketing expenses, research and
development and customer care, for the foreseeable future in
order to execute our business plan. As a result, we anticipate
that such operating expenses, as well as planned capital
expenditures, will result in a use of our cash resources. In
addition, we may utilize cash resources to fund acquisitions or
investments in complementary businesses, technologies or product
lines. We believe that our existing working capital and our
amended line of credit will be sufficient to meet our working
capital and operating resource expenditure requirements for at
least the next twelve months. Thereafter, we may find it
necessary to obtain additional equity or debt financing. In the
event additional financing is required, we may not be able to
raise it on acceptable terms or at all.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In December 1999, the Securities and Exchange Commission
(SEC) released Staff Accounting Bulletin
(SAB) No. 101, Revenue Recognition in
Financial Statements, which provides guidance on the
recognition, presentation and disclosure of revenue in financial
statements filed with the SEC. The SEC released SAB 101A, which
delayed the implementation date of SAB 101 for registrants
with fiscal years that begin between December 16, 1999 and
March 15, 2000. Subsequently, the SEC released
SAB 101B, which further delays the implementation date of
SAB 101 until no later than the fourth fiscal quarter of years
beginning after December 15, 1999. We did not have a
material effect on our financial position, results of operations
or cash flows as a result of SAB 101.

In March 2000, FASB issued Interpretation
(FIN) No. 44, Accounting for Certain
Transactions Involving Stock Compensation  An
Interpretation of APB Opinion No. 25. FIN 44
clarifies the application of APB Opinion No. 25 and, among
other issues, clarifies the following: the definition of an
employee for purposes of applying APB Opinion No. 25; the
criteria for determining whether a plan qualifies as a
non-compensatory plan; the accounting consequence of various
modifications to the terms of previously fixed stock options or
awards; and the accounting for an exchange of stock compensation
awards in a business combination. FIN 44 was effective
July 1, 2000, but certain conclusions in FIN 44 cover
specific events that occurred after either December 15,
1998 or January 12, 2000. The adoption did not to have a
material impact on our financial position or results of
operations.

In June 2000, SFAS No. 138, Accounting for
Certain Hedging Activities, an amendment of FASB
No. 133, was issued. We adopted SFAS No. 133,
137 and 138 in June 2000. In July 1999, SFAS
No. 137, Accounting for Derivative Instruments and
Hedging Activities  Deferral of Effective Date
of FASB No. 133, was issued. In September 1998,
SFAS No. 133, Accounting for Derivative instruments
and Hedging Activities, was issued. This statement
establishes accounting and reporting standards requiring that
every derivative instrument, including certain derivative
instruments embedded in other contracts, be recorded in the
balance sheet as either an asset or liability measured at its
fair value. The statement also requires that changes in the
derivatives fair value be recognized in earnings unless
specific hedge accounting criteria are met. We have not entered
into derivative contracts and do not have near term plans to
enter into such contracts, accordingly the adoption of SFAS
No. 133, SFAS No. 137 and SFAS 138 did not have a
material effect on the financial statements.




Item 7a.  QUANTITATIVE AND QUALITATIVE
DISCLOSURES ABOUT MARKET RISK

We are exposed to a variety of risks, including changes in
interest rates affecting the return on our investments and
foreign currency fluctuations. We have established policies and
procedures to manage our exposure to fluctuations in interest
rates and foreign currency exchange rates.

Interest rate risk. We maintain our funds in money market
and certificate of deposit accounts at financial institutions.
Our exposure to market risk due to fluctuations in interest
rates relates primarily to our interest earnings on our cash
deposits. These securities are subject to interest rate risk in
as much as their fair value will fall if market interest rates
increase. If market interest rates were to increase immediately
and uniformly by 10% from the levels prevailing as of
March 31, 2001, the fair value of the portfolio would not
decline by a material amount. We do not use derivative financial
instruments to

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Foreign currency exchange rate risk. Our exposure to
market risk due to fluctuations in foreign currency exchange
rates relates primarily to the intercompany balances with our
subsidiaries located in Australia, England, France, Germany,
Japan, the Netherlands and Singapore. Although we transact
business in various foreign countries, settlement amounts are
usually based on U.S. currency. Transaction gains or losses have
not been significant in the past, and there is no hedging
activity on foreign currencies. We would not experience a
material foreign exchange loss based on a hypothetical 10%
adverse change in the price of the euro, Great Britain pound,
Singapore dollar, Australian dollar, or yen against the U.S.
dollar. Consequently, we do not expect that a reduction in the
value of such accounts denominated in foreign currencies
resulting from even a sudden or significant fluctuation in
foreign exchange rates would have a direct material impact on
our financial position, results of operations or cash flows.

Notwithstanding the foregoing, analysis of the direct effects of
interest rate and foreign currency exchange rate fluctuations on
the value of certain of our investments and accounts, the
indirect effects of fluctuations in foreign currency could have
a material adverse effect on our business, financial condition
and results of operations. For example, international demand for
our products is affected by foreign currency exchange rates. In
addition, interest rate fluctuations may affect the buying
patterns of our customers. Furthermore, interest rate and
currency exchange rate fluctuations have broad influence on the
general condition of the U.S. foreign and global economics,
which could materially adversely affect our business, financial
condition results of operations and cash flows.




Item 8.  FINANCIAL STATEMENTS AND
SUPPLEMENTARY DATA

The consolidated financial statements of webMethods are
submitted on pages F-1 through F-23 of this report.






|        |                                                                                       
|------- | --------------------------------------------------------------------------------------
|Item 9. | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
	AND FINANCIAL DISCLOSURES

None.

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##### Table of Contents






PART III

The following information contained in the definitive Proxy
Statement of webMethods in connection with our annual meeting of
stockholders to be held on August 23, 2001, which
webMethods intends to mail to its stockholders on or about
July 16, 2001 is incorporated by reference into this report:




Item 10.  DIRECTORS AND EXECUTIVE OFFICERS OF
THE REGISTRANT

Information regarding directors of webMethods will be set forth
in the definitive Proxy Statement for the annual meeting of
stockholders to be held on August 23, 2001 and is
incorporated into this report by reference. Information
regarding executive officers of webMethods is set forth in Item
1 of this report.




Item 11.  EXECUTIVE COMPENSATION

Information regarding executive compensation will be set forth
in the definitive Proxy Statement for the annual meeting of
stockholders to be held on August 23, 2001 and is
incorporated into this report by reference.




Item 12.  SECURITY OWNERSHIP OF CERTAIN
BENEFICIAL OWNERS AND MANAGEMENT

Information regarding security ownership of certain beneficial
owners and management will be set forth in the definitive Proxy
Statement for the annual meeting of stockholders to be held on
August 23, 2001 and is incorporated into this report by
reference.




Item 13.  CERTAIN RELATIONSHIPS AND RELATED
TRANSACTIONS

Information regarding certain relationships and related
transactions will be set forth in the definitive Proxy Statement
for the annual meeting of stockholders to be held on
August 23, 2001 and is incorporated into this report by
reference.

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##### Table of Contents






PART IV




Item 14.  EXHIBITS, FINANCIAL STATEMENT
SCHEDULES AND REPORTS ON FORM 8-K

(a)  Documents filed as part of the report:



| |     |                                  
| | --- | ---------------------------------
| | (1) | Report of Independent Accountants

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

|                                                                                                                 |  |      |      | 
|---------------------------------------------------------------------------------------------------------------- |  | ---- | ---- | 
|                                                                                                                 |  | Page
|                                                                                                                 |  |     
|Report of Independent Accountants                                                                                |  |      | F-1  | 
|                                                                                                                
|                                                                                                                
|                                                                                                                
|                                                                                                                
|Consolidated Balance Sheets at March 31,
	2001 and 2000                                                          |  |      | F-2  | 
|                                                                                                                
|                                                                                                                
|                                                                                                                
|                                                                                                                
|Consolidated Statements of Operations and
	Comprehensive Loss for the years ended March 31, 2001, 2000
	and 1999 |  |      | F-3  | 
|                                                                                                                
|                                                                                                                
|                                                                                                                
|                                                                                                                
|Consolidated Statements of Changes in
	Stockholders Equity for the years ended March 31,
	2001, 2000 and 1999.  |  |      | F-4  | 
|                                                                                                                
|                                                                                                                
|                                                                                                                
|                                                                                                                
|Consolidated Statements of Cash Flows for the
	years ended March 31, 2001, 2000 and 1999                         |  |      | F-5  | 
|                                                                                                                
|                                                                                                                
|                                                                                                                
|                                                                                                                
|Notes to Consolidated Financial Statements                                                                       |  |      | F-6  | 
|                                                                                                                
|                                                                                                                
|                                                                                                                
|                                                                                                                
|Schedule II  Valuation and
	Qualifying Accounts                                                                 |  |      | F-24 | 
|                                                                                                                
|                                                                                                                
|                                                                                                                
|                                                                                                                
|Report of Independent Accountants on Financial
	Statement Schedules                                              |  |      | F-25 | 



| |     |                                                
| | --- | -----------------------------------------------
| | (2) | Financial Statement Schedule and Report thereon
|
| | (3) | Exhibits                                       

|        |      |             |  |     |  |                                                                                                                                         
|------- | ---- | ----------- |  | --- |  | ----------------------------------------------------------------------------------------------------------------------------------------
|        |      |            
|Exhibit |      |            
|Number  |      | Description
|        |      |            
|        | 2.1  |             |  | (1) |  | Agreement and Plan of Merger dated as of May 20,
	2000, by and among webMethods, Inc., Wolf Acquisition, Inc.
	and Active Software, Inc.
|        | 3.1  |             |  | *   |  | Fifth Amended and Restated Certificate of
	Incorporation of webMethods, Inc., as amended                                                
|        | 3.2  |             |  | (2) |  | Amended and Restated Bylaws of
	webMethods, Inc.                                                                                        
|        | 4.1  |             |  | (2) |  | Specimen certificate for shares of webMethods
	Common Stock                                                                             
|        | 10.1 |             |  | (2) |  | Second Amended and Restated Investor Rights
	Agreement                                                                                  
|        | 10.2 |             |  | (3) |  | webMethods, Inc. Amended and Restated Stock
	Option Plan                                                                                
|        | 10.3 |             |  | (2) |  | Employee Stock Purchase Plan                                                                                                            
|        | 10.4 |             |  | (2) |  | Indemnification Agreement entered into between
	webMethods,  Inc. and each of its directors                                             
|        | 21   |             |  | *   |  | Subsidiaries of webMethods, Inc.                                                                                                        
|        | 23.1 |             |  | *   |  | Consent of PricewaterhouseCoopers LLP                                                                                                   
|        | 24   |             |  |     |  | Power of Attorney (included on signature page of
	this report)                                                                          
|        | 99.1 |             |  | *   |  | Information incorporated by reference from Item
	15 of Form  S-1 registration statement of webMethods, Inc.                             




|    |                                                                                                                                                            
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Incorporated by reference to webMethods Registration
	Statement on Form S-4, as amended (File No. 333-39572).                                             
|   
|(2) | Incorporated by reference to webMethods Registration
	Statement on Form S-1, as amended (File No. 333-91309).                                             
|   
|(3) | Incorporated by reference to webMethods definitive Proxy
	Statement filed with the Securities and Exchange Commission on
	July 21, 2000 (File No. 1-15681)
|   
|*   | Filed herewith.                                                                                                                                            

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(b)  Reports on
Form 8-K.webMethods, Inc. filed the
following reports on Form 8-K since the beginning of its
fiscal quarter on January 1, 2001:

|                 |  |          |   |               |  |                                                                                                                                                       
|---------------- |  | -------- | - | ------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------
|Date of Report   |  | Item No. |   | Item Reported
|                 |  |          |   |              
|January 26, 2001 |  |          | 5 |               |  | Announcement of definitive agreement to acquire
	Intelliframe Corporation                                                                             
|March 6, 2001    |  |          | 5 |               |  | Announcement of multi-year OEM and reseller
	agreement by and between webMethods and i2 Technologies, Inc.
	and issuance of warrant to i2 Technologies
|June 1, 2001     |  |          | 5 |               |  | Announcement of amendment and restatement of
	warrant issued to i2 Technologies                                                                       

(c)  Exhibits.The exhibits required by
this Item are listed under Item 14(a)(3).

(d)  Financial Statement Schedule.The
consolidated financial statement schedule required by this Item
is listed under Item 14(a)(2).

| |  |          |     |             |  |                                  
| |  | -------- | --- | ----------- |  | ---------------------------------
| |  | Schedule |     | Description
| |  |          |     |            
| |  |          | II. |             |  | Valuation and Qualifying Accounts

All other schedules for which provision is made in the
applicable accounting regulation of the Securities and Exchange
Commission are not required under the related instructions or
are applicable, and therefore have been omitted.

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##### Table of Contents






SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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, in the city of Fairfax, Virginia on
the 25th day of June, 2001.



| |                 
| | ----------------
| | WEBMETHODS, INC.



| |     |                    
| | --- | -------------------
| | By: | /s/ PHILLIP MERRICK

| |                          
| | -------------------------
| |                          
| | Phillip Merrick          
| | Chairman of the Board and
| | Chief Executive Officer  

We, the undersigned officers and directors of webMethods, Inc.,
hereby severally constitute and appoint Phillip Merrick and Mary
Dridi, and each of them individually, with full powers of
substitution and resubstitution, our true and lawful attorneys,
with full power to them, to sign for us in our names in the
capacities indicated below, amendments to this report, and
generally to do all things in our names and on our behalf in
such capacities to enable webMethods, Inc. to comply with the
provisions of the Securities Exchange Act of 1934, as amended,
and call requirements of the Securities and Exchange Commission.

|                                             |  |                                                   |  |              
|-------------------------------------------- |  | ------------------------------------------------- |  | -------------
|Signature                                    |  | Title                                             |  | Date         
|                                             |  |                                                   |  |              
|/s/ PHILLIP MERRICKPhillip Merrick           |  | Chairman of the Board and Chief Executive Officer |  | June 20, 2001
|/s/ MARY DRIDIMary Dridi                     |  | Chief Financial Officer and Treasurer             |  | June 20, 2001
|/s/ R. JAMES GREENR. James Green             |  | Director                                          |  | June 20, 2001
|/s/ JAMES P. GAUERJames P. Gauer             |  | Director                                          |  | June 20, 2001
|/s/ GENE RIECHERSGene Riechers               |  | Director                                          |  | June 20, 2001
|/s/ JACK L. LEWISJack L. Lewis               |  | Director                                          |  | June 20, 2001
|/s/ MICHAEL J. LEVINTHALMichael J. Levinthal |  | Director                                          |  | June 20, 2001
|/s/ ROBERT T. VASANRobert T. Vasan           |  | Director                                          |  | June 20, 2001
|/s/ DENNIS H. JONESDennis H. Jones           |  | Director                                          |  | June 20, 2001

46



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REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholders of 
 webMethods, Inc.

In our opinion, the accompanying consolidated balance sheets and
the related consolidated statements of operations and
comprehensive loss, changes in stockholders equity and
cash flows present fairly, in all material respects, the
financial position of webMethods, Inc. and its subsidiaries at
March 31, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in
the period ended March 31, 2001 in conformity with
accounting principles generally accepted in the United States of
America. These financial statements are the responsibility of
the Companys management; our responsibility is to express
an opinion on these financial statements based on our audits. We
conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States of
America, which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by
management, and evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable
basis for our opinion.

/s/ PRICEWATERHOUSECOOPERS LLP

McLean, Virginia







F-1



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##### Table of Contents



WEBMETHODS, INC.

CONSOLIDATED BALANCE SHEETS

|                                         |                                                                                                                         |                                            |        |          |         |  |        |         |         | 
|---------------------------------------- | ----------------------------------------------------------------------------------------------------------------------- | ------------------------------------------ | ------ | -------- | ------- |  | ------ | ------- | ------- | 
|                                         |                                                                                                                         |                                           
|                                         |                                                                                                                         | Year Ended March 31,                      
|                                         |                                                                                                                         |                                           
|                                         |                                                                                                                         | 2001                                       |        | 2000    
|                                         |                                                                                                                         |                                            |        |         
|                                         |                                                                                                                         |                                           
|                                         |                                                                                                                         | (in thousands, except                     
|                                         |                                                                                                                         | share data)                               
|ASSETS                                   |                                                                                                                         |                                            |        |          |         |  |        |        
|                                        
|                                        
|                                        
|                                        
|Current assets:                          |                                                                                                                         |                                            |        |          |         |  |        |        
|                                        
|                                        
|                                        
|                                        
|                                         | Cash and cash equivalents                                                                                               |                                            | $      | 109,713  |         |  | $      | 171,716 |        
|                                        
|                                        
|                                        
|                                        
|                                         | Marketable securities available for sale                                                                                |                                            |        | 96,676   |         |  |        | 25,256  |        
|                                        
|                                        
|                                        
|                                        
|                                         | Accounts receivable, net of allowances of $4,342
	and $1,394, respectively                                              |                                            |        | 58,757   |         |  |        | 18,578  |        
|                                        
|                                        
|                                        
|                                        
|                                         | Prepaid expenses and other current assets                                                                               |                                            |        | 9,846    |         |  |        | 6,615   |        
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        
|                                         |                                                                                                                         | Total current assets                       |        |          | 274,992 |  |        |         | 222,165 | 
|                                        
|                                        
|                                        
|                                        
|Marketable securities available for sale |                                                                                                                         |                                            |       |          |         |  | 37,138 |        
|                                        
|                                        
|                                        
|                                        
|Property and equipment, net              |                                                                                                                         |                                            | 17,364 |          |         |  | 6,310  |        
|                                        
|                                        
|                                        
|                                        
|Goodwill and acquired intangibles, net   |                                                                                                                         |                                            | 68,535 |          |         |  | 28,263 |        
|                                        
|                                        
|                                        
|                                        
|Other assets                             |                                                                                                                         |                                            | 14,397 |          |         |  | 5,311  |        
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        
|                                         |                                                                                                                         | Total assets                               |        | $        | 375,288 |  |        | $       | 299,187 | 
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        
|LIABILITIES AND STOCKHOLDERS EQUITY     |                                                                                                                         |                                            |        |          |         |  |        |        
|                                        
|                                        
|                                        
|                                        
|Current liabilities:                     |                                                                                                                         |                                            |        |          |         |  |        |        
|                                        
|                                        
|                                        
|                                        
|                                         | Accounts payable                                                                                                        |                                            | $      | 8,368    |         |  | $      | 4,208   |        
|                                        
|                                        
|                                        
|                                        
|                                         | Accrued expenses                                                                                                        |                                            |        | 13,008   |         |  |        | 7,323   |        
|                                        
|                                        
|                                        
|                                        
|                                         | Accrued salaries and commissions                                                                                        |                                            |        | 15,536   |         |  |        | 8,035   |        
|                                        
|                                        
|                                        
|                                        
|                                         | Deferred revenue                                                                                                        |                                            |        | 45,585   |         |  |        | 20,334  |        
|                                        
|                                        
|                                        
|                                        
|                                         | Current portion of capital lease obligations                                                                            |                                            |        | 1,773    |         |  |        | 148     |        
|                                        
|                                        
|                                        
|                                        
|                                         | Current portion of notes payable and lines of
	credit                                                                   |                                            |        |         |         |  |        | 762     |        
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        
|                                         |                                                                                                                         | Total current liabilities                  |        |          | 84,270  |  |        |         | 40,810  | 
|                                        
|                                        
|                                        
|                                        
|                                         | Capital lease obligations, net of current portion
	and other                                                            |                                            |        | 2,613    |         |  |        | 426     |        
|                                        
|                                        
|                                        
|                                        
|                                         | Note payable, net of current portion                                                                                    |                                            |        |         |         |  |        | 267     |        
|                                        
|                                        
|                                        
|                                        
|                                         | Long term deferred revenue                                                                                              |                                            |        | 22,796   |         |  |        | 5,515   |        
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        
|                                         |                                                                                                                         | Total liabilities                          |        |          | 109,679 |  |        |         | 47,018  | 
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        
|Commitments and contingencies            |                                                                                                                         |                                            |        |          |         |  |        |        
|                                        
|                                        
|                                        
|                                        
|Stockholders equity:                    |                                                                                                                         |                                            |        |          |         |  |        |        
|                                        
|                                        
|                                        
|                                        
|                                         | Common stock, $0.01 par value; 500,000,000 shares
	authorized; 48,732,800 and 45,429,382 shares issued and
	outstanding |                                            |        | 487      |         |  |        | 454     |        
|                                        
|                                        
|                                        
|                                        
|                                         | Additional paid-in capital                                                                                              |                                            |        | 499,825  |         |  |        | 344,019 |        
|                                        
|                                        
|                                        
|                                        
|                                         | Deferred stock compensation and warrant charge                                                                          |                                            |        | (38,154  | )       |  |        | (26,634 | )      
|                                        
|                                        
|                                        
|                                        
|                                         | Accumulated deficit                                                                                                     |                                            |        | (197,155 | )       |  |        | (65,541 | )      
|                                        
|                                        
|                                        
|                                        
|                                         | Accumulated other comprehensive gain (loss)                                                                             |                                            |        | 606      |         |  |        | (129    | )      
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        
|                                         |                                                                                                                         | Total stockholders equity                 |        |          | 265,609 |  |        |         | 252,169 | 
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        
|                                         |                                                                                                                         | Total liabilities and stockholders equity |        | $        | 375,288 |  |        | $       | 299,187 | 
|                                         |                                                                                                                         |                                            |        |          |         |  |        |        

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

F-2



---



##### Table of Contents



WEBMETHODS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS AND OTHER COMPREHENSIVE
LOSS

|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |         |        |         |  
|---------------------------------------------------------------------------------- | -------------------------------------------- | -------------------------------------------------------- | ------------------------ | -------- | ------- | -------- | ---------- | ------- | ------ | ------- | --------- | ------- | ------ | ------- | -
|                                                                                   |                                              |                                                         
|                                                                                   |                                              | Year Ended March 31,                                    
|                                                                                   |                                              |                                                         
|                                                                                   |                                              | 2001                                                     |                          | 2000     |         | 1999    
|                                                                                   |                                              |                                                          |                          |          |         |         
|                                                                                   |                                              |                                                         
|                                                                                   |                                              | (in thousands, except share and                         
|                                                                                   |                                              | per share data)                                         
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|Revenue:                                                                           |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | License                                      |                                                          | $                        | 143,514  |         |          | $          | 42,822  |        |         | $         | 10,775  |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Professional services                        |                                                          |                          | 34,945   |         |          |            | 11,699  |        |         |           | 2,459   |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Maintenance                                  |                                                          |                          | 23,498   |         |          |            | 5,624   |        |         |           | 1,036   |       
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                   |                                              |                                                          | Total revenue            |          |         | 201,957  |            |         |        | 60,145  |           |         |        | 14,270  |  
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|Cost of revenue:                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | License                                      |                                                          |                          | 5,189    |         |          |            | 2,612   |        |         |           | 799     |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Professional services and maintenance:       |                                                          |                          |          |         |          |            |         |        |         |           |         |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Stock based compensation                                 |                          |          | 1,188   |          |            |         | 560    |         |           |         | 71     |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Other professional services and maintenance              |                          |          | 46,304  |          |            |         | 16,102 |         |           |         | 3,803  |        
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                   |                                              |                                                          | Total cost of revenue    |          |         | 52,681   |            |         |        | 19,274  |           |         |        | 4,673   |  
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|Gross profit                                                                       |                                              |                                                          | 149,276                  |          |         |          | 40,871     |         |        |         | 9,597     |        
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|Operating expenses:                                                                |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Sales and marketing:                         |                                                          |                          |          |         |          |            |         |        |         |           |         |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Stock based compensation and warrant charge              |                          |          | 4,813   |          |            |         | 1,471  |         |           |         | 267    |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Other sales and marketing costs                          |                          |          | 100,154 |          |            |         | 44,033 |         |           |         | 14,741 |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Research and development:                    |                                                          |                          |          |         |          |            |         |        |         |           |         |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Stock based compensation                                 |                          |          | 12,447  |          |            |         | 1,250  |         |           |         | 182    |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Other research and development costs                     |                          |          | 45,158  |          |            |         | 14,780 |         |           |         | 6,066  |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | General and administrative:                  |                                                          |                          |          |         |          |            |         |        |         |           |         |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Stock based compensation                                 |                          |          | 1,640   |          |            |         | 307    |         |           |         | 57     |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Other general and administrative costs                   |                          |          | 20,837  |          |            |         | 9,753  |         |           |         | 3,171  |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Acquisition related expenses                 |                                                          |                          | 34,039   |         |          |            |        |        |         |           |        |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Amortization of goodwill and intangibles     |                                                          |                          | 41,395   |         |          |            | 1,305   |        |         |           |        |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | In-process research and development          |                                                          |                          | 34,910   |         |          |            | 2,737   |        |         |           |        |       
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                   |                                              |                                                          | Total operating expenses |          |         | 295,393  |            |         |        | 75,636  |           |         |        | 24,484  |  
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|Operating loss                                                                     |                                              |                                                          | (146,117                 | )        |         |          | (34,765    | )       |        |         | (14,887   | )      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|Interest income, net                                                               |                                              |                                                          | 14,503                   |          |         |          | 3,315      |         |        |         | 415       |        
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                   | Net loss                                     |                                                          |                          | (131,614 | )       |          |            | (31,450 | )      |         |           | (14,472 | )     
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|Accretion and accrued dividends related to
	mandatorily redeemable preferred stock |                                              |                                                          |                         |          |         |          | (10,223    | )       |        |         | (605      | )      
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                   | Net loss attributable to common stockholders |                                                          | $                        | (131,614 | )       |          | $          | (41,673 | )      |         | $         | (15,077 | )     
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|Basic and diluted net loss per share                                               |                                              | $                                                        | (2.81                    | )        |         | $        | (2.23      | )       |        | $       | (1.75     | )      
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|Shares used in computing basic and diluted net
	loss per common share              |                                              |                                                          | 46,860,324               |          |         |          | 18,716,943 |         |        |         | 8,633,488 |        
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|Comprehensive loss:                                                                |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Net loss                                     |                                                          | $                        | (131,614 | )       |          | $          | (31,450 | )      |         | $         | (14,472 | )     
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   | Other comprehensive loss:                    |                                                          |                          |          |         |          |            |         |        |         |           |         |       
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Unrealized gain (loss) on securities available
	for sale |                          |          | 919     |          |            |         | (114   | )       |           |         | (1     | )      
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                  
|                                                                                   |                                              | Foreign currency cumulative translation adjustment       |                          |          | (184    | )        |            |         | (14    | )       |           |         |       |        
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        
|                                                                                   |                                              |                                                          | Total comprehensive loss |          | $       | (130,879 | )          |         | $      | (31,578 | )         |         | $      | (14,473 | )
|                                                                                   |                                              |                                                          |                          |          |         |          |            |         |        |         |           |        

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

F-3



---



##### Table of Contents



WEBMETHODS, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS
EQUITY (DEFICIT)

for the years ended March 31, 1999, 2000 and 2001


|                                                                                                      |  |              |        |            |  |              |     |                |  |   |         |   |  |   |         |  
|----------------------------------------------------------------------------------------------------- |  | ------------ | ------ | ---------- |  | ------------ | --- | -------------- |  | - | ------- | - |  | - | ------- | -
|                                                                                                      |  |              |        |            |  |              |     | Deferred      
|                                                                                                      |  |              |        |            |  | Stock       
|                                                                                                      |  | Common Stock |        | Additional |  | Compensation
|                                                                                                      |  |              |        | Paid-in    |  | and         
|                                                                                                      |  | Shares       |        | Amount     |  | Capital      |     | Warrant Charge
|                                                                                                      |  |              |        |            |  |              |     |               
|Balance, March 31, 1998                                                                               |  |              | 14,704 |            |  | $            | 147 |                |  | $ | 19,707  |   |  | $ | (577    | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Stock options exercised, net                                                                          |  |              | 709    |            |  |              | 7   |                |  |   | 343     |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Fair value of warrants issued to non-employees                                                        |  |              |       |            |  |              |    |                |  |   | 301     |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Repayments of notes receivable                                                                        |  |              |       |            |  |              |    |                |  |   |        |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Deferred compensation related to stock option
	grants                                                 |  |              |       |            |  |              |    |                |  |   | 4,437   |   |  |   | (4,437  | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Amortization of deferred stock compensation                                                           |  |              |       |            |  |              |    |                |  |   |        |   |  |   | 577     |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Accretion of preferred stock                                                                          |  |              |       |            |  |              |    |                |  |   | (13     | ) |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Accrued dividends on preferred stock                                                                  |  |              |       |            |  |              |    |                |  |   | (592    | ) |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Issuance of common stock, net of issuance costs                                                       |  |              | 811    |            |  |              | 8   |                |  |   | 6,232   |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Other comprehensive loss                                                                              |  |              |       |            |  |              |    |                |  |   | 0       |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net Loss                                                                                              |  |              |       |            |  |              |    |                |  |   | 0       |   |  |   |        |  
|                                                                                                      |  |              |        |            |  |              |     |                |  |   |         |   |  |   |         |  
|Balance, March 31, 1999                                                                               |  |              | 16,224 |            |  |              | 162 |                |  |   | 30,415  |   |  |   | (4,437  | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Stock options and warrants exercised, net                                                             |  |              | 2,362  |            |  |              | 24  |                |  |   | 1,185   |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Fair value of warrants issued to non-employees                                                        |  |              |       |            |  |              |    |                |  |   | 585     |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Repayments of notes receivable                                                                        |  |              |       |            |  |              |    |                |  |   |        |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Deferred compensation related to stock option
	grants                                                 |  |              |       |            |  |              |    |                |  |   | 11,079  |   |  |   | (11,079 | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Amortization of deferred stock compensation                                                           |  |              |       |            |  |              |    |                |  |   |        |   |  |   | 3,588   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Deferred dividend in connection with the
	beneficial conversation feature in series E preferred stock |  |              |       |            |  |              |    |                |  |   | 8,307   |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Accretion to redemption                                                                               |  |              |       |            |  |              |    |                |  |   | (44     | ) |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Accrued dividends on preferred stock                                                                  |  |              |       |            |  |              |    |                |  |   | (1,871  | ) |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Issuance of common stock pursuant to webMethods
	initial public offering                              |  |              | 4,715  |            |  |              | 47  |                |  |   | 164,978 |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net issuance of common stock pursuant to
	Actives initial public offering                            |  |              | 2,121  |            |  |              | 21  |                |  |   | 39,974  |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Issuance of common stock pursuant to the
	concurrent private placement                                |  |              | 518    |            |  |              | 5   |                |  |   | 17,495  |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Initial public offering and concurrent private
	placement issuance costs                              |  |              |       |            |  |              |    |                |  |   | (13,158 | ) |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Conversion of preferred stock to common stock                                                         |  |              | 19,283 |            |  |              | 193 |                |  |   | 41,496  |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Alier acquisition                                                                                     |  |              | 206    |            |  |              | 2   |                |  |   | 43,578  |   |  |   | (14,706 | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Other comprehensive loss                                                                              |  |              |       |            |  |              |    |                |  |   |        |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net loss                                                                                              |  |              |       |            |  |              |    |                |  |   |        |   |  |   |        |  
|                                                                                                      |  |              |        |            |  |              |     |                |  |   |         |   |  |   |         |  
|Balance, March 31, 2000                                                                               |  |              | 45,429 |            |  |              | 454 |                |  |   | 344,019 |   |  |   | (26,634 | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Stock options exercised, net                                                                          |  |              | 2,315  |            |  |              | 23  |                |  |   | 11,422  |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|ESPP common stock issuances                                                                           |  |              | 231    |            |  |              | 2   |                |  |   | 6,143   |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Amortization of deferred compensation related to
	employee and non-employee directors stock options   |  |              |       |            |  |              |    |                |  |   |        |   |  |   | 19,805  |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Adjustment of deferred stock compensation related
	to forfeitures                                     |  |              |       |            |  |              |    |                |  |   | (1,279  | ) |  |   | 1,279   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Premier acquisition                                                                                   |  |              | 64     |            |  |              | 1   |                |  |   | 12,992  |   |  |   | (5,932  | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Translink acquisition                                                                                 |  |              | 420    |            |  |              | 4   |                |  |   | 79,674  |   |  |   | (7,349  | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Acquisition of Intelliframe workflow technology                                                       |  |              | 274    |            |  |              | 3   |                |  |   | 23,248  |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Deferred warrant charge related to
	i2 warrants                                                       |  |              |       |            |  |              |    |                |  |   | 23,606  |   |  |   | (23,606 | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Cash collection from i2 applied to deferred
	warrant charge                                           |  |              |       |            |  |              |    |                |  |   |        |   |  |   | 4,000   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Amortization of deferred warrant charge related
	to i2 warrants                                       |  |              |       |            |  |              |    |                |  |   |        |   |  |   | 283     |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Other comprehensive loss                                                                              |  |              |       |            |  |              |    |                |  |   |        |   |  |   |        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net loss                                                                                              |  |              |       |            |  |              |    |                |  |   |        |   |  |   |        |  
|                                                                                                      |  |              |        |            |  |              |     |                |  |   |         |   |  |   |         |  
|Balance, March 31, 2001                                                                               |  |              | 48,733 |            |  | $            | 487 |                |  | $ | 499,825 |   |  | $ | (38,154 | )
|                                                                                                      |  |              |        |            |  |              |     |                |  |   |         |   |  |   |         |  

[Additional columns below]

[Continued from above table, first column(s) repeated]

|                                                                                                      |  |              |     |             |  |               |          |       |  |   |      |   |  |   |          |  
|----------------------------------------------------------------------------------------------------- |  | ------------ | --- | ----------- |  | ------------- | -------- | ----- |  | - | ---- | - |  | - | -------- | -
|                                                                                                      |  | Notes        |     |             |  | Accumulated   |          |      
|                                                                                                      |  | Receivable   |     |             |  | Other         |          |      
|                                                                                                      |  | from         |     | Accumulated |  | Comprehensive |          |      
|                                                                                                      |  | Stockholders |     | Deficit     |  | Loss          |          | Total
|                                                                                                      |  |              |     |             |  |               |          |      
|Balance, March 31, 1998                                                                               |  | $            | (50 | )           |  | $             | (11,312  | )     |  | $ |     |   |  | $ | 7,915    |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Stock options exercised, net                                                                          |  |              | 29  |             |  |               |         |       |  |   |     |   |  |   | 379      |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Fair value of warrants issued to non-employees                                                        |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 301      |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Repayments of notes receivable                                                                        |  |              | 11  |             |  |               |         |       |  |   |     |   |  |   | 11       |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Deferred compensation related to stock option
	grants                                                 |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 0        |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Amortization of deferred stock compensation                                                           |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 577      |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Accretion of preferred stock                                                                          |  |              |    |             |  |               |         |       |  |   |     |   |  |   | (13      | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Accrued dividends on preferred stock                                                                  |  |              |    |             |  |               |         |       |  |   |     |   |  |   | (592     | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Issuance of common stock, net of issuance costs                                                       |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 6,240    |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Other comprehensive loss                                                                              |  |              |    |             |  |               |         |       |  |   | (1   | ) |  |   | (1       | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net Loss                                                                                              |  |              |    |             |  |               | (14,472  | )     |  |   |     |   |  |   | (14,472  | )
|                                                                                                      |  |              |     |             |  |               |          |       |  |   |      |   |  |   |          |  
|Balance, March 31, 1999                                                                               |  |              | (10 | )           |  |               | (25,784  | )     |  |   | (1   | ) |  |   | 345      |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Stock options and warrants exercised, net                                                             |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 1,209    |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Fair value of warrants issued to non-employees                                                        |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 585      |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Repayments of notes receivable                                                                        |  |              | 10  |             |  |               |         |       |  |   |     |   |  |   | 10       |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Deferred compensation related to stock option
	grants                                                 |  |              |    |             |  |               |         |       |  |   |     |   |  |   |         |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Amortization of deferred stock compensation                                                           |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 3,588    |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Deferred dividend in connection with the
	beneficial conversation feature in series E preferred stock |  |              |    |             |  |               | (8,307   | )     |  |   |     |   |  |   |         |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Accretion to redemption                                                                               |  |              |    |             |  |               |         |       |  |   |     |   |  |   | (44      | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Accrued dividends on preferred stock                                                                  |  |              |    |             |  |               |         |       |  |   |     |   |  |   | (1,871   | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Issuance of common stock pursuant to webMethods
	initial public offering                              |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 165,025  |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net issuance of common stock pursuant to
	Actives initial public offering                            |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 39,995   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Issuance of common stock pursuant to the
	concurrent private placement                                |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 17,500   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Initial public offering and concurrent private
	placement issuance costs                              |  |              |    |             |  |               |         |       |  |   |     |   |  |   | (13,158  | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Conversion of preferred stock to common stock                                                         |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 41,689   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Alier acquisition                                                                                     |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 28,874   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Other comprehensive loss                                                                              |  |              |    |             |  |               |         |       |  |   | (128 | ) |  |   | (128     | )
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net loss                                                                                              |  |              |    |             |  |               | (31,450  | )     |  |   |     |   |  |   | (31,450  | )
|                                                                                                      |  |              |     |             |  |               |          |       |  |   |      |   |  |   |          |  
|Balance, March 31, 2000                                                                               |  |              |    |             |  |               | (65,541  | )     |  |   | (129 | ) |  |   | 252,169  |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Stock options exercised, net                                                                          |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 11,445   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|ESPP common stock issuances                                                                           |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 6,145    |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Amortization of deferred compensation related to
	employee and non-employee directors stock options   |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 19,805   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Adjustment of deferred stock compensation related
	to forfeitures                                     |  |              |    |             |  |               |         |       |  |   |     |   |  |   |         |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Premier acquisition                                                                                   |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 7,061    |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Translink acquisition                                                                                 |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 72,329   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Acquisition of Intelliframe workflow technology                                                       |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 23,251   |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Deferred warrant charge related to
	i2 warrants                                                       |  |              |    |             |  |               |         |       |  |   |     |   |  |   |         |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Cash collection from i2 applied to deferred
	warrant charge                                           |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 4,000    |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Amortization of deferred warrant charge related
	to i2 warrants                                       |  |              |    |             |  |               |         |       |  |   |     |   |  |   | 283      |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Other comprehensive loss                                                                              |  |              |    |             |  |               |         |       |  |   | 735  |   |  |   | 735      |  
|                                                                                                     
|                                                                                                     
|                                                                                                     
|                                                                                                     
|Net loss                                                                                              |  |              |    |             |  |               | (131,614 | )     |  |   |     |   |  |   | (131,614 | )
|                                                                                                      |  |              |     |             |  |               |          |       |  |   |      |   |  |   |          |  
|Balance, March 31, 2001                                                                               |  | $            |    |             |  | $             | (197,155 | )     |  | $ | 606  |   |  | $ | 265,609  |  
|                                                                                                      |  |              |     |             |  |               |          |       |  |   |      |   |  |   |          |  

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

F-4



---



##### Table of Contents



WEBMETHODS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |         |        |  
|--------------------------------------------------------- | ------------------------------------------------------------------------------ | -------------------------------------------------------------------------------------------------------------- | ------- | -------- | ------- | ---- | ------- | ------- | ------- | - | ------ | ------- | ------ | -
|                                                          |                                                                                |                                                                                                               
|                                                          |                                                                                | Year Ended March 31,                                                                                          
|                                                          |                                                                                |                                                                                                               
|                                                          |                                                                                | 2001                                                                                                           |         | 2000     |         | 1999
|                                                          |                                                                                |                                                                                                                |         |          |         |     
|Cash flows from operating activities:                     |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Net loss                                                                       |                                                                                                                | $       | (131,614 | )       |      | $       | (31,450 | )       |   | $      | (14,472 | )     
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Adjustments to reconcile net loss to net cash
	used in operating activities:   |                                                                                                                |         |          |         |      |         |         |         |   |        |         |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Depreciation and amortization                                                                                  |         |          | 4,181   |      |         |         | 1,429   |   |        |         | 610    |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Provision for allowance for doubtful accounts                                                                  |         |          | 4,808   |      |         |         | 917     |   |        |         | 223    |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Provision for warranty                                                                                         |         |          | 88      |      |         |         | 205     |   |        |         |       |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Loss on buyout of capital leases                                                                               |         |          |        |      |         |         |        |   |        |         | 10     |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Loss on disposal of equipment                                                                                  |         |          | 46      |      |         |         |        |   |        |         |       |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Expense related to fair value of options issued
	to non-employees                                              |         |          |        |      |         |         | 585     |   |        |         | 301    |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Amortization of deferred stock compensation
	related to employee stock options and non-employee stock warrants |         |          | 20,088  |      |         |         | 3,588   |   |        |         | 577    |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Amortization of goodwill and acquired intangibles                                                              |         |          | 41,395  |      |         |         | 1,305   |   |        |         |       |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Write off of in-process research and development                                                               |         |          | 34,910  |      |         |         | 2,737   |   |        |         |       |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Increase (decrease) in cash resulting from
	changes in assets and liabilities: |                                                                                                                |         |          |         |      |         |         |         |   |        |         |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Accounts receivable                                                                                            |         |          | (45,459 | )    |         |         | (13,019 | ) |        |         | (5,316 | )
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Prepaid expenses and other current assets                                                                      |         |          | (3,250  | )    |         |         | (5,675  | ) |        |         | (831   | )
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Other non-current assets                                                                                       |         |          | (1,937  | )    |         |         | (434    | ) |        |         | (533   | )
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Accounts payable                                                                                               |         |          | 5,320   |      |         |         | 2,483   |   |        |         | 979    |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Accrued expenses                                                                                               |         |          | 4,787   |      |         |         | 6,198   |   |        |         | 929    |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Accrued salaries and commissions                                                                               |         |          | 7,573   |      |         |         | 6,244   |   |        |         | 1,043  |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Deferred revenue                                                                                               |         |          | 42,369  |      |         |         | 21,947  |   |        |         | 2,975  |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Other current liabilities                                                                                      |         |          |        |      |         |         | (108    | ) |        |         | 16     |  
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          |                                                                                | Other non-current liabilities                                                                                  |         |          | 34      |      |         |         | (148    | ) |        |         | (266   | )
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|                                                          | Net cash used in operating activities                                          |                                                                                                                |         | (16,661  | )       |      |         | (3,196  | )       |   |        | (13,755 | )     
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|Cash flows from investing activities:                     |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Purchases of property and equipment                                            |                                                                                                                |         | (10,720  | )       |      |         | (5,715  | )       |   |        | (1,122  | )     
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Net purchases of marketable securities available
	for sale                     |                                                                                                                |         | (33,269  | )       |      |         | (56,495 | )       |   |        | (1,525  | )     
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Purchases of investments in private companies                                  |                                                                                                                |         | (7,000   | )       |      |         | (3,000  | )       |   |        |        |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Purchase of other assets                                                       |                                                                                                                |         |         |         |      |         | (5,539  | )       |   |        |        |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Purchase of Intelliframe workflow technology and
	related expenses             |                                                                                                                |         | (9,324   | )       |      |         |        |         |   |        |        |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Acquisition of businesses, net of cash acquired                                |                                                                                                                |         | (4,741   | )       |      |         | (2,316  | )       |   |        |        |       
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|Net cash used in investing activities                     |                                                                                |                                                                                                                | (65,054 | )        |         |      | (73,065 | )       |         |   | (2,647 | )      
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|Cash flows from financing activities:                     |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Proceeds from issuance of common stock                                         |                                                                                                                |         |         |         |      |         |        |         |   |        | 6,240   |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Borrowings under notes payable and lines of credit                             |                                                                                                                |         |         |         |      |         | 87      |         |   |        | 283     |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Repayments under notes payable and lines of credit                             |                                                                                                                |         | (1,029   | )       |      |         | (94     | )       |   |        | (35     | )     
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Payments on capital leases                                                     |                                                                                                                |         | (685     | )       |      |         | (112    | )       |   |        | (156    | )     
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Repayments of notes receivable from shareholders                               |                                                                                                                |         |         |         |      |         | 10      |         |   |        | 40      |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Proceeds from issuance of preferred stock                                      |                                                                                                                |         |         |         |      |         | 28,852  |         |   |        | 6,500   |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Issuance costs related to preferred stock
	offerings                           |                                                                                                                |         |         |         |      |         | (196    | )       |   |        | (64     | )     
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Proceeds from exercise of stock options and
	warrants                          |                                                                                                                |         | 11,445   |         |      |         | 1,208   |         |   |        | 350     |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Proceeds from ESPP common stock issuances                                      |                                                                                                                |         | 6,145    |         |      |         |        |         |   |        |        |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Proceeds from OEM fees applied to deferred
	warrant charge                     |                                                                                                                |         | 4,000    |         |      |         |        |         |   |        |        |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Gross proceeds from webMethods initial
	public offering                       |                                                                                                                |         |         |         |      |         | 165,025 |         |   |        |        |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Proceeds from concurrent private placement                                     |                                                                                                                |         |         |         |      |         | 17,500  |         |   |        |        |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Issuance costs related to common stock offering                                |                                                                                                                |         |         |         |      |         | (13,158 | )       |   |        |         |       
|                                                         
|                                                         
|                                                         
|                                                         
|                                                          | Net proceeds from Actives initial public
	offering                            |                                                                                                                |         |         |         |      |         | 39,996  |         |   |        |        |       
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|Net cash provided by financing activities                 |                                                                                |                                                                                                                | 19,876  |          |         |      | 239,118 |         |         |   | 13,158 |        
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|Effect of the exchange rate on cash and cash
	equivalents |                                                                                |                                                                                                                | (164    | )        |         |      | (15     | )       |         |   |       |        
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|Net (decrease) increase in cash and cash
	equivalents     |                                                                                |                                                                                                                | (62,003 | )        |         |      | 162,842 |         |         |   | (3,244 | )      
|                                                         
|                                                         
|                                                         
|                                                         
|Cash and cash equivalents at beginning of period          |                                                                                |                                                                                                                | 171,716 |          |         |      | 8,874   |         |         |   | 12,118 |        
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        
|Cash and cash equivalents at end of period                |                                                                                | $                                                                                                              | 109,713 |          |         | $    | 171,716 |         |         | $ | 8,874  |        
|                                                          |                                                                                |                                                                                                                |         |          |         |      |         |         |         |   |        |        

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

F-5



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##### Table of Contents



WEBMETHODS, INC.






NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


1.  Organization

webMethods, Inc. (the Company) is a leading provider of software
and services for business integration. The Companys
products enable customers to integrate business processes among
different systems within the enterprise through real time
exchange of information and to work closely with their
customers, suppliers and other business partners through
real-time exchange of information and transaction. The Company
was incorporated in Delaware on June 12, 1996 and changed its
name from TransactNet, Inc. to webMethods, Inc. on
January 21, 1997. The Company has subsidiaries in Europe
and Asia Pacific regions which provide technical support,
marketing and distribution support in their geographic regions.

The Companys operations are subject to certain risks and
uncertainties, including, among others, rapid technological
changes, success of the Companys product marketing and
product distribution strategies, the need to manage growth, the
need to retain key personnel and protect intellectual property,
and the availability of additional capital financing on terms
acceptable to the Company.

2.  Summary of significant accounting policies

Principles of Consolidation

The accompanying consolidated financial statements include the
accounts of webMethods, Inc. and all wholly owned subsidiaries.
All material intercompany accounts and transactions have been
eliminated.

Use of estimates

The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and
disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenue and
expenses during the period. Actual results could differ from
these estimates.

Fair value information

The carrying amount of current assets and current liabilities
approximates fair value because of the short maturity of these
instruments. The carrying amount of the Companys line of
credit approximates market based on the floating interest rates.

Cash and cash equivalents

The Company considers all highly liquid investments with
original maturities of three months or less to be cash
equivalents.

Marketable securities

The Companys marketable securities consist of corporate
bonds, commercial paper and U.S. government and agency
securities with maturities of less than two years. Securities
are classified as available for sale since management intends to
hold the securities for an indefinite period and may sell the
securities prior to their maturity. The marketable securities
are carried at aggregate fair value based generally on quoted
market prices. Gains and losses are determined based on the
specific identification method. Available for sale securities
that are reasonably expected by management to be sold within one
year from the balance sheet date are classified as current
assets.

F-6



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)

2.  Summary of significant accounting
policies  (Continued)

Property and equipment

Property and equipment are stated at cost. Depreciation is
computed on the straight-line method over the estimated useful
lives of the related assets, ranging from three to five years.
Leasehold improvements are amortized over the shorter of the
lease term or their useful life. Leased property or equipment
meeting certain criteria is capitalized and the present value of
the related lease payments is recorded as a liability.
Amortization of capitalized leased assets is computed on the
straight-line method over the term of the lease. Repairs and
maintenance are expensed as incurred. At the time of retirement
or other disposal of property and equipment, the cost and
related accumulated depreciation are removed from their
respective accounts and any resulting gain or loss is included
in operations.

Investments in Private Companies

Investments in private companies in which the Company owns less
than a 20% voting equity interest and has no significant
influence are accounted for using the cost method. Such
investments are periodically evaluated for impairment and
appropriate adjustments are recorded, if necessary. Included in
other assets as of March 31, 2001 and 2000, is $10,000,000
and $3,000,000, respectively, of preferred stock carried at cost
and convertible debt carried at book value of various private
companies, some of which are business partners.

Software development costs

Software development costs are expensed as incurred until
technological feasibility has been established, at which time
such costs are capitalized until the product is available for
general release to customers. The Company defines the
establishment of technological feasibility as the completion of
all planning, designing, coding and testing activities that are
necessary to establish products that meet design specifications
including functions, features and technical performance
requirements. Under the Companys definition, establishing
technological feasibility is considered complete only after the
majority of customer testing and customer feedback has been
incorporated into product functionality. To date, the period
between technological feasibility and general availability has
been short, and thus all software development costs qualifying
for capitalization are insignificant.

Goodwill and Acquired Intangible Assets

The cost of business acquisitions accounted for using the
purchase method is allocated first to identifiable assets and
liabilities based on estimated fair values. The excess of cost
over identifiable assets and liabilities is recorded as
goodwill. Identifiable intangible assets related to the
acquisition of favorable lease terms are amortized on a
straight-line basis over four years. Goodwill and assembled
workforce are amortized on a straight-line basis over three
years. Non-compete agreements are amortized on a straight-line
basis over two years. License agreements are amortized on a
straight-line basis over one year. The carrying amounts of
intangible assets and goodwill are reviewed if facts or changes
in circumstances suggest they may be impaired. If this review
indicates the carrying amounts of intangible assets and goodwill
will not be recoverable, as determined based on estimated
undiscounted future cash flows of the acquired assets, the
carrying amounts of the intangible assets and goodwill are
reduced based on the difference between the carrying value and
estimated fair value. Fair value is determined using discounted
cash flows or other methods. No impairments of intangible assets
have been identified as of March 31, 2001.

F-7



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



2.  Summary of significant accounting
policies  (Continued)


Impairment of long-lived assets

The Company periodically evaluates the recoverability of its
long-lived assets. This evaluation consists of a comparison of
the carrying value of the assets with the assets expected
future cash flows, undiscounted and without interest costs.
Estimates of expected future cash flows represent
managements best estimate based on reasonable and
supportable assumptions and projections. If the expected future
cash flows, undiscounted and without interest charges, exceed
the carrying value of the asset, no impairment is recognized.
Impairment losses are measured as the difference between the
carrying value of long-lived assets and their fair value, based
on discounted future cash flows of the related asset.

Income taxes

Deferred tax assets and liabilities are recognized for the
estimated future tax consequences of temporary differences and
income tax credits. Temporary differences are primarily the
result of the differences between the tax bases of assets and
liabilities and their financial reporting amounts. Deferred tax
assets and liabilities are measured by applying enacted
statutory tax rates applicable to the future years in which
deferred tax assets or liabilities are expected to be settled or
realized. Valuation allowances are established when necessary to
reduce deferred tax assets to the amount expected to be
realized. The Company has provided a full valuation allowance
against its net deferred tax asset as of March 31, 2001 and
2000.

Foreign currency translations

The functional currency for the Companys foreign
subsidiaries is the local currency. Assets and liabilities of
the Companys foreign operations are translated into U.S.
dollars at the exchange rates in effect at the balance sheet
date; revenues and expenses are translated using the average
exchange rates in effect during the period. The cumulative
translation adjustments are included in accumulated other
comprehensive income or loss, which is a separate component of
stockholders equity. Foreign currency transaction gains or
losses are included in the results of operations.

Revenue recognition

The Company enters into arrangements, which may include the sale
of licenses of the Companys B2B and Enterprise software,
professional services and maintenance or various combinations of
each element. The Company recognizes revenue based on Statement
of Position (SOP) 97-2, Software Revenue
Recognition, as amended, and modified by SOP 98-9,
Modification of SOP 97-2, Software Revenue Recognition,
With Respect to Certain Transactions. SOP 98-9 modified
SOP 97-2 by requiring revenue to be recognized using the
residual method if certain conditions are met.
Revenues are recognized based on the residual method when an
agreement has been signed by both parties, the fees are fixed or
determinable, collection of the fees is probable, delivery of
the product has occurred and no other significant obligations
remain. Historically the Company has not experienced significant
returns or offered exchanges of its products.

For multi-element arrangements, each element of the arrangement
is analyzed and the Company allocates a portion of the total fee
under the arrangement to the undelivered elements, such as
professional services, training and maintenance. Revenues
allocated to the undelivered elements are deferred using
vendor-specific objective evidence of fair value of the elements
and the remaining portion of the fee is allocated to the
delivered elements (generally the software license), under the
residual method. Vendor specific-objective evidence of fair
value is based on the price the customer is required to pay when
the element is sold separately (i.e. hourly time and material
rates charged for consulting services when sold

F-8



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



2.  Summary of significant accounting
policies  (Continued)


separately from a software license and the optional renewal
rates charged by the Company for maintenance arrangements).

For electronic delivery, the product is considered to have been
delivered when the access code to download the software from the
Companys web site and activation key, as applicable, has
been provided to the customer. If an element of the license
agreement has not been delivered, revenue for the element is
deferred based on its vendor-specific objective evidence of fair
value. If vendor-specific objective evidence of fair value does
not exist, all revenue is deferred until sufficient objective
evidence exists or all elements have been delivered. If the fee
due from the customer is not fixed or determinable, revenue is
recognized as payments become due. If collectibility is not
considered probable, revenue is recognized when the fee is
collected.

License revenue: Amounts allocated to license revenues under the
residual method are recognized at the time of delivery of the
software when vendor-specific objective evidence of fair value
exists for the undelivered elements, if any, and all the other
revenue recognition criteria discussed above have been met.

Professional services revenue: Revenues from professional
services are comprised of consulting, implementation services
and training. Consulting services are generally sold on a
time-and-materials basis and include services such as
installation and building non-complex interfaces to allow the
software to operate in customized environments. Services are
generally separable from the other elements under the
arrangement since the performance of the services is not
essential to the functionality (i.e. the services do not involve
significant production, modification or customization of the
software or building complex interfaces) of any other element of
the transaction. Revenues for professional services and training
are recognized when the services are performed.

Maintenance revenue: Maintenance revenues consist primarily of
fees for providing when-and-if-available unspecified software
upgrades and technical support over a specified term.
Maintenance revenues are recognized on a straight-line basis
over the term of the contract.

Stock-based compensation

The Company measures compensation expense for its employee
stock-based compensation using the intrinsic value method and
provides pro forma disclosures of net loss as if the fair value
method had been applied in measuring compensation expense. Under
the intrinsic value method of accounting for stock based
compensation, when the exercise price of options granted to
employees is less than the fair value of the underlying stock on
the grant date, compensation expense is recognized over the
applicable vesting period.

Stock-based compensation to non-employees
and warrant charge

The Company measures expense for its non-employee stock-based
compensation and warrant charge using the fair value method.
Under the fair value method, the fair value of each option or
warrant is estimated on the date of the grant using the
Black-Scholes valuation model with the following weighted
average assumptions used for grants: risk-free interest rate at
the date of grant, expected life of the instrument, expected
dividends and volatility at the date of the grant. The risk-free
interest rate and the volatility are based on the expected term
of the instrument.

Net loss per share

Basic loss per share is computed based on the weighted average
number of outstanding shares of common stock. Diluted loss per
share adjusts the weighted average for the potential dilution
that could

F-9



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)

2.  Summary of significant accounting
policies  (Continued)

occur if stock options or warrants or convertible securities
were exercised or converted into common stock. Diluted loss per
share is the same as basic loss per share for all periods
presented because the effects of such items were anti-dilutive
given the Companys losses.

Segment reporting

The Company operates as a single segment and will evaluate
additional segment disclosure requirements as it expands its
operations. See Note 18 for required geographic segment
information.

Recent accounting pronouncements

In December 1999, the Securities and Exchange Commission
(SEC) released Staff Accounting Bulletin
(SAB) No. 101, Revenue Recognition in Financial
Statements, which provides guidance on the recognition,
presentation and disclosure of revenue in financial statements
filed with the SEC. The SEC released SAB 101A, which delayed the
implementation date of SAB 101 for registrants with fiscal years
that begin between December 16, 1999 and March 15, 2000.
Subsequently, the SEC released SAB 101B which further delays the
implementation date of SAB 101 until no later than the fourth
fiscal quarter of years beginning after December 15, 1999.
The adoption did not have a material effect on the
Companys financial position, results of operations or cash
flows as a result of SAB 101.

In March 2000, FASB issued Interpretation
(FIN) No. 44, Accounting for Certain
Transactions Involving Stock Compensation  An
Interpretation of APB Opinion No. 25. FIN 44
clarifies the application of APB Opinion No. 25 and, among
other issues, clarifies the following: the definition of an
employee for purposes of applying APB Opinion No. 25; the
criteria for determining whether a plan qualifies as a
non-compensatory plan; the accounting consequence of various
modifications to the terms of previously fixed stock options or
awards; and the accounting for an exchange of stock compensation
awards in a business combination. FIN 44 was effective
July 1, 2000, but certain conclusions in FIN 44 cover
specific events that occurred after either December 15,
1998 or January 12, 2000. The adoption did not have a
material impact on the Companys financial position or
results of operations.

In June 2000, SFAS No. 138, Accounting for
Certain Hedging Activities, an amendment of FASB
No. 133, was issued. The Company adopted SFAS Nos.
133, 137 and 138 in June 2000. In July 1999, SFAS
No. 137, Accounting for Derivative Instruments and
Hedging Activities  Deferral of Effective Date of
FASB No. 133, was issued. In September 1998, SFAS
No. 133, Accounting for Derivative Instruments and
Hedging Activities, was issued. This statement establishes
accounting and reporting standards requiring that every
derivative instrument, including certain derivative instruments
embedded in other contracts, be recorded in the balance sheet as
either an asset or liability measured at its fair value. The
statement also requires that changes in the derivatives
fair value be recognized in earnings unless specific hedge
accounting criteria are met. The Company has not entered into
derivative contracts and does not have near term plans to enter
into such contracts, accordingly the adoption of SFAS No. 133,
SFAS No. 137 and SFAS 138 did not have a material effect on
the financial statements.

3.  Related-party transactions

An individual who is a director, corporate secretary and
stockholder of the Company is associated with a law firm that
has rendered various legal services for the Company. For the
years ended March 31, 2001, 2000 and 1999, the Company has
paid the firm approximately $2,194,000, $909,000 and $178,000,
respectively. As of March 31, 2001 and 2000, the aggregate
amounts due for these services was approximately $169,000 and
$249,000, respectively.

F-10



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



3.  Related-party transactions 
(Continued)


For the year ended March 31, 2000, the Company entered into
certain contractual arrangements with several third parties that
invested in the Company through the purchase of Series D
and Series E mandatorily redeemable, cumulative,
convertible preferred stock (see Note 15). Revenue generated
from these related parties was $6,100,000 for the year ended
March 31, 2000. Accounts receivable from these related
parties as of March 31, 2000 was $241,000. Additionally,
the Company paid $432,000 for services and equipment from
related parties during the year ended March 31, 2000.
Accounts payable to these related parties was $113,000 as of
March 31, 2000. These individuals are not considered to be
related parties subsequent to the initial public offering, which
converted their mandatorily redeemable, convertible preferred
stock for shares of the Companys common stock.

4.  Concentrations of credit risk

Financial instruments, which potentially expose the Company to
concentration of credit risk, consist primarily of cash and cash
equivalents, marketable securities and accounts receivable. The
Company maintains its cash and cash equivalents in bank
accounts, which, at times, may exceed federally insured limits.
The Company has not experienced any losses on such accounts.
Accounts receivable consists principally of amounts due from
large, credit-worthy companies. The Company monitors the
balances of individual accounts to assess any collectibility
issues.

5.  Marketable Securities

The cost and estimated fair value of marketable securities,
which consist of corporate bonds, commercial paper and US
government and agency securities, by contractual maturity are as
follows:

|                                     |  |                |        |                |  |      |        |            |  |   |        |  |  |   |        | 
|------------------------------------ |  | -------------- | ------ | -------------- |  | ---- | ------ | ---------- |  | - | ------ |  |  | - | ------ | 
|                                     |  |                |        |               
|                                     |  | March 31, 2001 |        | March 31, 2000
|                                     |  |                |        |               
|                                     |  | Cost           |        | Fair Value     |  | Cost |        | Fair Value
|                                     |  |                |        |                |  |      |        |           
|                                     |  |                |        |               
|                                     |  | (in thousands) |        | (in thousands)
|                                    
|                                    
|                                    
|                                    
|Due in one year or less              |  | $              | 95,551 |                |  | $    | 96,676 |            |  | $ | 25,305 |  |  | $ | 25,256 | 
|                                    
|                                    
|                                    
|                                    
|Due after one year through two years |  |                |       |                |  |      |       |            |  |   | 37,255 |  |  |   | 37,138 | 
|                                     |  |                |        |                |  |      |        |            |  |   |        |  |  |   |        | 
|                                     |  | $              | 95,551 |                |  | $    | 96,676 |            |  | $ | 62,560 |  |  | $ | 62,394 | 
|                                     |  |                |        |                |  |      |        |            |  |   |        |  |  |   |        | 

The gross unrealized holding losses were $0 and $166,000 for the
years ended March 31, 2001 and 2000, respectively. The
gross unrealized holding gains were $1,125,000 and $0 for the
years ended March 31, 2001 and 2000, respectively. The
unrealized holding gains and losses have been included, net of
the related tax effect, in accumulated other comprehensive loss,
which is a separate component of stockholders equity.

F-11



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)

6.  Property and equipment

Property and equipment consisted of the following:

|                                          |  |                 |        |      |  |   |        |  
|----------------------------------------- |  | --------------- | ------ | ---- |  | - | ------ | -
|                                          |  |                
|                                          |  | March 31,      
|                                          |  |                
|                                          |  | 2001            |        | 2000
|                                          |  |                 |        |     
|                                          |  |                
|                                          |  | ( in thousands)
|                                         
|                                         
|                                         
|                                         
|Equipment                                 |  | $               | 14,822 |      |  | $ | 4,893  |  
|                                         
|                                         
|                                         
|                                         
|Software                                  |  |                 | 3,428  |      |  |   | 1,488  |  
|                                         
|                                         
|                                         
|                                         
|Furniture                                 |  |                 | 3,887  |      |  |   | 1,402  |  
|                                         
|                                         
|                                         
|                                         
|Leasehold improvements                    |  |                 | 2,052  |      |  |   | 1,098  |  
|                                          |  |                 |        |      |  |   |        |  
|                                          |  |                 | 24,189 |      |  |   | 8,881  |  
|                                         
|                                         
|                                         
|                                         
|Accumulated depreciation and amortization |  |                 | (6,825 | )    |  |   | (2,571 | )
|                                          |  |                 |        |      |  |   |        |  
|                                          |  | $               | 17,364 |      |  | $ | 6,310  |  
|                                          |  |                 |        |      |  |   |        |  

During the year ended March 31, 2001, the Company acquired
certain equipment and software under capital leases. Included in
equipment as of March 31, 2001 and 2000, respectively, is
$4,819,000 and $428,000 in assets under capital leases. Included
in software as of March 31, 2001 and 2000 is $258,000 in
assets under capital leases. Related to these capital leases and
included in the accumulated depreciation and amortization is
$849,000 and $90,000 at March 31, 2001 and 2000,
respectively.

7.  Income taxes

The Company has recorded no provision for income taxes for the
year ended March 31, 2001, as the Company has incurred
operating losses since its inception. Net operating loss
carryforwards (NOLs) as of March 31, 2001 and 2000 are
approximately $148,035,000 and $38,200,000 respectively, both of
which begin to expire in 2010. The realization of the benefits
of the NOLs is dependent on sufficient taxable income in future
years. Lack of future earnings, a change in the ownership of the
Company, or the application of the alternative minimum tax rules
could adversely affect the Companys ability to utilize the
NOLs. Deferred income taxes reflect the net tax effects of
temporary differences between the carrying amount of assets and
liabilities for financial reporting purposes and the amounts
used for income tax purposes.

The tax effect of each temporary difference is as follows:

|                                 |  |           |         |      |  |   |         |  
|-------------------------------- |  | --------- | ------- | ---- |  | - | ------- | -
|                                 |  |          
|                                 |  | March 31,
|                                 |  |          
|                                 |  | 2001      |         | 2000
|                                 |  |           |         |     
|Net operating loss carryforwards |  | $         | 60,561  |      |  | $ | 14,690  |  
|                                
|                                
|                                
|                                
|Accrued expenses                 |  |           | 4,583   |      |  |   | 4,560   |  
|                                
|                                
|                                
|                                
|Deferred revenue                 |  |           | 2,365   |      |  |   | 800     |  
|                                
|                                
|                                
|                                
|Accounts receivable              |  |           | 1,946   |      |  |   | 430     |  
|                                
|                                
|                                
|                                
|Property and equipment           |  |           | 1,100   |      |  |   | 50      |  
|                                
|                                
|                                
|                                
|Prepaid Assets                   |  |           | (2,966  | )    |  |   | (270    | )
|                                
|                                
|                                
|                                
|Stock option compensation        |  |           | 252     |      |  |   | 210     |  
|                                
|                                
|                                
|                                
|Acquired intangibles             |  |           | 7,256   |      |  |   | (1,030  | )
|                                
|                                
|                                
|                                
|Other                            |  |           | 80      |      |  |   | 910     |  
|                                
|                                
|                                
|                                
|Valuation allowance              |  |           | (75,177 | )    |  |   | (20,350 | )
|                                 |  |           |         |      |  |   |         |  
|Net Deferred Tax Assets          |  | $         |        |      |  | $ |        |  
|                                 |  |           |         |      |  |   |         |  

F-12



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



7.  Income taxes  (Continued)


Though management believes that future taxable income of the
Company may be sufficient to utilize a substantial amount of the
benefits of the Companys net operating loss carryforwards
and to realize its deferred tax assets, a valuation allowance
has been recorded to completely offset the carrying value of the
deferred tax assets as management has concluded that the
realization of the deferred tax assets does not meet the
more likely than not criteria under SFAS 109.
The change in the valuation allowance was an increase of
$10,460,000, which can be attributed primarily to accrued
deferred tax liabilities and additional operating losses.

The provision for income taxes differs from the amount of taxes
determined by applying the U.S. Federal statutory rate to income
before income taxes as a result of the following:

|                                                          |                    |           |       |      |   |      |       |   |   |  |       |   |  
|--------------------------------------------------------- | ------------------ | --------- | ----- | ---- | - | ---- | ----- | - | - |  | ----- | - | -
|                                                          |                    |          
|                                                          |                    | March 31,
|                                                          |                    |          
|                                                          |                    | 2001      |       | 2000 |   | 1999
|                                                          |                    |           |       |      |   |     
|U.S. Federal statutory rate                               |                    |           | 34.0  | %    |   |      | 34.0  | % |   |  | 34.0  | %
|                                                         
|                                                         
|                                                         
|                                                         
|State and local taxes, net of Federal income tax
	benefit |                    |           | 2.6   |      |   |      | 3.8   |   |   |  | 4.5   |  
|                                                         
|                                                         
|                                                         
|                                                         
|Change in valuation allowance                             |                    |           | (13.9 | )    |   |      | (32.7 | ) |   |  | (39.3 | )
|                                                         
|                                                         
|                                                         
|                                                         
|Amortization of nondeductible goodwill                    |                    |           | (5.9  | )    |   |      | (2.1  | ) |   |  |      |  
|                                                         
|                                                         
|                                                         
|                                                         
|In-process research and development write-off             |                    |           |      |      |   |      | (3.0  | ) |   |  |      |  
|                                                         
|                                                         
|                                                         
|                                                         
|Stock option compensation                                 |                    |           |      |      |   |      | (0.1  | ) |   |  | (0.1  | )
|                                                         
|                                                         
|                                                         
|                                                         
|Change in general business credit                         |                    |           |      |      |   |      | 0.8   |   |   |  | 1.9   |  
|                                                         
|                                                         
|                                                         
|                                                         
|Acquisition costs                                         |                    |           | (8.9  | )    |   |      |      |   |   |  |      |  
|                                                         
|                                                         
|                                                         
|                                                         
|Purchase price adjustment                                 |                    |           | (7.1  | )    |   |      |      |   |   |  |      |  
|                                                         
|                                                         
|                                                         
|                                                         
|Other                                                     |                    |           | (0.8  | )    |   |      | (0.7  | ) |   |  | (1.0  | )
|                                                          |                    |           |       |      |   |      |       |   |   |  |       |  
|                                                          | Effective Tax Rate |           |       |     | % |      |       |  | % |  |       |  | %
|                                                          |                    |           |       |      |   |      |       |   |   |  |       |  

8.  Notes Payable and Lines of Credit

As of March 31, 2001, the Company had a line of credit agreement
with a bank to borrow up to a maximum principal amount of
$3,000,000 with a maturity date of April 16, 2001 and an
interest rate on unpaid principal balances of the banks
prime rate plus 1%. Subsequent to year end, the Company amended
the line of credit agreement to borrow up to a maximum principal
amount of $10,000,000 with a maturity date of July 10,
2002. Borrowings under this note are limited to 80% of eligible
accounts receivable. Interest is payable on any unpaid principal
balance at the banks prime rate. The agreement includes
restrictive covenants which require the Company to maintain,
among other things, a ratio of quick assets to current
liabilities, excluding deferred revenue of at least 1.5 to 1.0
and a quarterly revenue covenant such that total revenue for
each fiscal quarter must be the greater of $50 million or
85% of the total revenue for the immediately preceding fiscal
quarter.

As of March 31, 2001, the Company had not borrowed against
this line of credit. In connection with the line of credit
agreement, the Company obtained a letter of credit totaling
$750,000 related to a new office lease. The letter of credit
expires in June 2001.

As of March 31, 2000 the Company had a balance of $153,000
under a previous line of credit with the same bank which was
paid in October 2000. In connection with this line of credit,
the Company issued the bank options to purchase 46,788 shares of
the Companys common stock at approximately $0.27 per
share. The fair value of these options was determined using the
Black Scholes valuation model and was insignificant to the
overall financial statements. These options were exercised
during the year ended March 31, 2001.

F-13



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



8.  Notes Payable and Lines of Credit 
(Continued)


As a result of the acquisition of Alier, the Company assumed a
line of credit agreement that expired in July 2000. The
amount outstanding as of March 31, 2000 was $419,000 which
was repaid in June 2000. The Company also assumed two notes
payable with March 31, 2000 balances of $90,000 and
$367,000, which was repaid in June and August 2000, respectively.

9.  Lease commitments

The Company has an equipment line of credit with a leasing
company for the purchase of equipment and software. Under this
arrangement, the Company can enter into leases for equipment and
software for a period of one year from the date of the
arrangement. The interest rate under these leases is fixed at
the date of each individual lease, based on the 36-month
treasury yield plus 3.7%. Principal and interest is payable
under each lease in 36 monthly installments. At expiration
of the lease term, the Company will have the option to purchase
the equipment at fair market value not to exceed 10% of the
original cost. This arrangement includes a restrictive covenant
that requires the Company to maintain a minimum of $2,500,000 of
cash and marketable securities.

The Company leases office space in various locations under
operating leases expiring through fiscal 2009. Total rent
expense was approximately $8,148,000, $1,878,000 and $636,000
for the years ended March 31, 2001, 2000 and 1999,
respectively. In December 1999, the Company entered into a
five-year lease agreement for office space for the
Companys new headquarters in Virginia. The Company
occupied the new facility in March 2000.

Future minimum lease payments under the Companys capital
and operating leases, net of expected sublease income, are as
follows:

|                                                            |            |                |        |         |  |   |        |       | 
|----------------------------------------------------------- | ---------- | -------------- | ------ | ------- |  | - | ------ | ----- | 
|                                                            |            | Operating      |        | Capital
|                                                            |            |                |        |        
|                                                            |            |               
|                                                            |            | (in thousands)
|Years ending March 31,                                      |            |                |        |         |  |   |        |      
|                                                           
|                                                           
|                                                           
|                                                           
|                                                            | 2002       |                | $      | 8,400   |  |   | $      | 2,128 | 
|                                                           
|                                                           
|                                                           
|                                                           
|                                                            | 2003       |                |        | 5,214   |  |   |        | 1,822 | 
|                                                           
|                                                           
|                                                           
|                                                           
|                                                            | 2004       |                |        | 4,393   |  |   |        | 786   | 
|                                                           
|                                                           
|                                                           
|                                                           
|                                                            | 2005       |                |        | 3,765   |  |   |        |      | 
|                                                           
|                                                           
|                                                           
|                                                           
|                                                            | 2006       |                |        | 2,136   |  |   |        |      | 
|                                                           
|                                                           
|                                                           
|                                                           
|                                                            | Thereafter |                |        | 4,237   |  |   |        |      | 
|                                                            |            |                |        |         |  |   |        |      
|                                                            |            | $              | 28,145 |         |  |   | 4,736  |      
|                                                            |            |                |        |         |  |   |        |      
|Less amounts representing interest                          |            |                |        |         |  |   | (498   | )    
|                                                            |            |                |        |         |  |   |        |      
|                                                            |            |                |        |         |  |   | 4,238  |      
|                                                           
|                                                           
|                                                           
|                                                           
|Less current portion                                        |            |                |        |         |  |   | (1,773 | )    
|                                                            |            |                |        |         |  |   |        |      
|Capital lease obligation, net of current portion            |            |                |        |         |  |   | 2,465  |      
|                                                           
|                                                           
|                                                           
|                                                           
|Other long term liability                                   |            |                |        |         |  |   | 148    |      
|                                                            |            |                |        |         |  |   |        |      
|Capital lease obligation, net of current portion
	and other |            |                |        |         |  | $ | 2,613  |      
|                                                            |            |                |        |         |  |   |        |      

During the year ended March 31, 1999, the Company issued an
option to purchase 6,132 shares of the Companys common
stock at an exercise price of $1.08 per share to the landlord of
one of their leased facilities. The fair value of this option on
the grant date was determined using the Black-Scholes valuation
model and was insignificant to the overall financial statements.
These options were exercised during the year ended
March 31, 2001.

F-14



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)

10.  Stockholders equity

Preferred Stock

The Companys Certificate of Incorporation, as amended,
authorized 50,000,000 shares of undesignated preferred stock
with a par value of $.01, none of which was outstanding as of
March 31, 2001.

Common Stock Split

On February 10, 2000, the Company consummated a 1.533 for
one stock split. All references to the number of shares
authorized, issued and outstanding and per-share information for
all periods presented have been adjusted to reflect the effects
of the stock split and share authorization.

Initial Public Offering and Concurrent Private
Placement

The Company completed its initial public offering of 4,715,000
of its $.01 par value common stock, priced at $35.00 per share
on February 10, 2000 (the IPO) including 615,000 shares
sold in connection with the exercise of the underwriters
over-allotment. Concurrent with the IPO, the Company sold an
additional 518,058 shares of its common stock in a private
placement transaction at a price per share equal to $33.78 (the
IPO price less one-half of the underwriting discounts and
commissions).

Prior to the Companys merger with Active Software, Active
completed its initial public offering of 2,121,175 shares of
common stock at an initial public offering price of $20.87 per
share. The net proceeds from the offering, after deducting
underwriting discounts and commissions and offering expenses
incurred by Active, were approximately $39,995,000.

Warrant

In March 2001, the Company entered into an OEM/ Reseller
agreement with i2 Technologies (i2). In connection with the
agreement the Company issued to i2 a warrant to purchase 750,000
shares of the Companys common stock at an exercise price
of $40.88 per share. The fair value of the warrant based on the
Black-Scholes valuation model was $23,606,000 on the date of
issuance which has been recorded as a deferred warrant charge.
As part of the agreement i2 will pay the Company OEM fees of
$10,000,000 over the term which will reduce the deferred warrant
charge. In March 2001, the Company received $4,000,000 of
OEM fees from i2 which was recorded as a deduction to the
deferred warrant charge and recorded $283,000 of amortization of
the deferred warrant charge to sales and marketing expense. In
June 2001 a Form 8-K was filed reporting that the Company
signed an amended warrant agreement which reduced the number of
shares of common stock i2 can purchase from 750,000 to 710,000
and, in addition, reduced the exercise price per share from
$40.88 to $28.70. Based on the remeasurement of the warrant
using the Black-Scholes valuation model the fair value of the
amended warrant does not exceed the current fair value of the
original warrant. The Company will not incur an additional
charge as a result of this amendment. The fair value of the
warrants granted to i2 was estimated on the date of grant and
amendment, using the following weighted average assumptions or
range of weighted average assumption: Risk-free interest rate of
4.9%, term of 3.75 to 4 years, volatility of 114% to 159%,
and no dividends are anticipated.

The Company issued warrants to system integrators in connection
with services rendered to purchase 72,153 shares of common stock
at $1.46 per share. An expense of $300,600 was recorded in 1999
related to the issuance of such warrants, which was based on the
warrants estimated fair market value at the date of
issuance. All 72,153 warrants were exercised in July 1999.

The Company issued a warrant to a strategic partner to purchase
19,375 shares of common stock at $7.74 per share, which expire
in October 2005. In August 1999, the warrant which
became exercisable

F-15



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



10.  Stockholders equity 
(Continued)


based on achievement of certain software performance
improvements. Accordingly, the Company recorded a research and
development expense of approximately $350,000 in 1999,
representing the fair value of the warrant at the time the
contingency was resolved.

11.  Active merger

On August 15, 2000, the Company completed a merger with
Active Software, Inc. (Active), a publicly traded
company that develops and markets software products for
businesses that allow users to integrate incompatible software
applications across their extended enterprises of customers,
suppliers and partners. Active stockholders received .527 shares
of common stock of webMethods for each share of Active common
stock, or an aggregate of 13.9 million shares. The merger
was accounted for as a pooling of interests, and accordingly the
financial statements have been retroactively restated as if the
merger had occurred as of the beginning of the earliest period
presented. Prior to the acquisition, Active had a calendar
fiscal year end. In connection with the retroactive restatement
the financial statements of Active were recast to a
March 31 year end to conform to webMethods
presentation. The Company incurred transaction costs of
approximately $34,000,000 directly related to the merger.

12.  Business Acquisitions

In February 2000, the Company acquired Alier, Inc. (Alier)
a provider of enterprise application integration solutions to
financial institutions. In connection with this transaction, all
outstanding shares of capital stock of Alier were exchanged for
205,991 shares of the Companys common stock valued at
$31,180,000 and paid cash of $2,000,000. In addition, the
outstanding options to purchase Alier capital stock were
converted into options to purchase 83,412 shares of the
Companys common stock valued at $12,400,000. The Company
incurred approximately $316,000 in transaction costs related to
this acquisition. The acquisition was accounted for as a
purchase and, accordingly, the results of operations of Alier
have been included in the Companys financial statements
from the date of acquisition. In connection with the
acquisition, the purchase price was allocated, based on an
independent valuation, to goodwill and acquired intangibles of
$29,568,000, deferred stock compensation of $14,706,000 related
to restricted stock, and acquired in-process research and
development of $2,737,000. The $2,737,000 allocated to
in-process research and development was expensed upon
consummation of the acquisition as it had not reached
technological feasibility and, in the opinion of management, has
no alternative future use.

In April 2000, the Company acquired Premier Software
Technologies, Inc. (Premier), a provider of integration products
and services for e-commerce. In connection with this
transaction, the Company issued 63,929 shares of common stock
valued at $11,864,000 and paid cash of $500,000 in exchange for
all of the outstanding shares of capital stock of Premier. In
addition, outstanding options to purchase Premier capital stock
were converted into options to purchase an aggregate of 6,081
shares of the Companys common stock valued at $1,129,000.
The Company incurred $166,000 in transaction fees. The
acquisition was accounted for as a purchase and, accordingly,
the results of operations of Premier have been included in the
Companys financial statements from the date of
acquisition. In connection with the acquisition, the purchase
price was allocated based on an independent valuation, to
goodwill and acquired intangibles of $7,503,000 and deferred
stock compensation of $5,932,000 related to restricted stock.

In April 2000, the Company acquired TransLink Software,
Inc. (TransLink), a provider of high performance mainframe
integration solutions for e-commerce. In connection with this
transaction, the Company issued 419,683 shares of its common
stock valued at $76,053,000 and paid cash of $4,500,000. In
addition, the outstanding options to purchase TransLink capital
stock were converted into options to purchase an aggregate of
22,683 shares of the Companys common stock valued at
$3,625,000. The

F-16



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



12.  Business Acquisitions 
(Continued)


Company incurred $248,000 in transaction fees. The acquisition
was accounted for as a purchase and, accordingly, the results of
operations of Translink have been included in the Companys
financial statements from the date of acquisition. In connection
with the acquisition, the purchase price was allocated based on
an independent valuation, to goodwill and acquired intangibles
of $74,164,000, deferred stock compensation of $7,349,000
related to restricted stock and acquired in-process research and
development of $2,311,000. The in-process research and
development was expensed upon consummation of the acquisition as
it had not reached technological feasibility and, in the opinion
of management has no alternative future use.

For the years ended March 31, 2001 and 2000, respectively,
the Company recorded $41,395,000 and $1,305,000 for amortization
of goodwill and acquired intangibles in connection with these
acquisitions. In addition, during the year ended March 31,
2001 and 2000, respectively, the Company recorded $12,998,000
and $613,000 of amortization of deferred stock compensation
which is based on the vesting period of related restricted
stock. Pro forma information for these acquisitions is not
considered necessary as differences between actual and pro forma
information are not material.

13.  Acquisition of Technology

In February 2001, the Company acquired Intelliframe Corporation,
a wholly owned subsidiary of Computer Network Technology
Corporation (Intelliframe). Through the acquisition,
the Company acquired Intelliframe, certain workflow intellectual
property and a research and development team of 14 people.
The total purchase price for the acquisition was $32,109,000,
which is comprised of $8,834,000 of cash and 273,542 shares of
the Companys common stock which had a fair value of
$23,251,000 on the date of issuance. The Company also paid
$490,000 in costs related to the acquisition.

The Intelliframe workflow technology was purchased with the
intent of the Company to subsequently integrate certain parts of
the technology into a future product. The efforts required to
complete and incorporate the acquired in-process research and
development included the completion of all planning, designing
and testing activities that are necessary to meet its design
requirements, including functions, features and technical
performance requirements. There were no other significant assets
purchased. Because the product into which the acquired
technology is to be incorporated has not met technological
feasibility, substantially all the purchase price and related
acquisition costs were charged to in-process research and
development during March 2001.

14.  Stock based compensation

Stock Incentive Plan

On November 1, 1996, the Company adopted the 1996 Stock
Incentive Plan (the Plan). The Plan is administered by a
Committee appointed by the Board of Directors, which has the
authority to determine which officers, directors and key
employees are awarded options pursuant to the Plan and to
determine the terms and option exercise prices of the stock
options.

In August 2000, the Company increased the number of shares
to 20,731,000 shares of the Companys common stock for
issuance upon the exercise of options granted under the Plan. At
March 31, 2001, options to purchase 15,743,245 shares
were outstanding. In connection with the Active merger, the
Company assumed the Active stock option plan.

Qualified incentive stock options granted pursuant to the plans
have an exercise price equal to the fair value of the underlying
common stock at the date of grant, vest at either the rate of
33.3% or 25% per year, beginning one year after the date of
award, and have a term of ten years. Prior to the Companys

F-17



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



14.  Stock based compensation 
(Continued)


initial public offering, the Board of Directors determined the
fair value of the underlying common stock on the date of grant
based on contemporaneous sales of the Companys preferred
stock for cash to third party investors.

The following table summarizes the Companys activity for
all of its stock option awards:

|                            |           |         |            |                |   |                  |        |         |  |   |        |        |  |   |       |       | 
|--------------------------- | --------- | ------- | ---------- | -------------- | - | ---------------- | ------ | ------- |  | - | ------ | ------ |  | - | ----- | ----- | 
|                            |           |         |            |                |   |                 
|                            |           | Stock   |            | Range of       |   | Weighted Average
|                            |           | Options |            | Exercise Price |   | Exercise Price  
|                            |           |         |            |                |   |                 
|                            |           |         |            |                |   |                  |        |        
|                           
|                           
|                           
|                           
|Outstanding, March 31, 1998 |           |         | 3,514,333  |                |   | $                | 0.05  |         |  | $ | 0.27   |        |  | $ | 0.29  |      
|                           
|                           
|                           
|                           
|                            | Granted   |         |            | 5,106,397      |   |                  |        | 0.11   |  |   |        | 33.15  |  |   |       | 0.89  | 
|                           
|                           
|                           
|                           
|                            | Exercised |         |            | (693,215       | ) |                  |        | 0.11   |  |   |        | 10.30  |  |   |       | 0.43  | 
|                           
|                           
|                           
|                           
|                            | Cancelled |         |            | (2,321,902     | ) |                  |        | 0.05   |  |   |        | 10.27  |  |   |       | 0.30  | 
|                            |           |         |            |                |   |                  |        |         |  |  
|Outstanding, March 31, 1999 |           |         | 5,605,613  |                |   |                  | 0.11  |         |  |   | .33    |        |  |   | 0.70  |      
|                           
|                           
|                           
|                           
|                            | Granted   |         |            | 6,308,576      |   |                  |        | 2.17   |  |   |        | 254.27 |  |   |       | 20.91 | 
|                           
|                           
|                           
|                           
|                            | Exercised |         |            | (2,261,923     | ) |                  |        | 0.11   |  |   |        | 20.87  |  |   |       | 0.47  | 
|                           
|                           
|                           
|                           
|                            | Cancelled |         |            | (420,281       | ) |                  |        | 0.11   |  |   |        | 174.34 |  |   |       | 8.39  | 
|                            |           |         |            |                |   |                  |        |         |  |  
|Outstanding, March 31, 2000 |           |         | 9,231,985  |                |   |                  | 0.11  |         |  |   | 254.27 |        |  |   | 14.25 |      
|                           
|                           
|                           
|                           
|                            | Granted   |         |            | 10,728,772     |   |                  |        | 23.84  |  |   |        | 187.00 |  |   |       | 84.02 | 
|                           
|                           
|                           
|                           
|                            | Exercised |         |            | (2,314,831     | ) |                  |        | 0.11   |  |   |        | 89.18  |  |   |       | 4.91  | 
|                           
|                           
|                           
|                           
|                            | Cancelled |         |            | (1,902,681     | ) |                  |        | 0.11   |  |   |        | 254.27 |  |   |       | 70.36 | 
|                            |           |         |            |                |   |                  |        |         |  |  
|Outstanding, March 31, 2001 |           |         | 15,743,245 |                |   | $                | 0.01  |         |  | $ | 254.27 |        |  | $ | 58.18 |      
|                            |           |         |            |                |   |                  |        |         |  |  

Information regarding stock options outstanding as of
March 31, 2001 is as follows:

|                  |  |             |            |                     |  |                  |      |           |  |                  |        |  |  |  |           |  |  |   |        | 
|----------------- |  | ----------- | ---------- | ------------------- |  | ---------------- | ---- | --------- |  | ---------------- | ------ |  |  |  | --------- |  |  | - | ------ | 
|                  |  |             |            |                    
|                  |  | Outstanding |            | Options Exercisable
|                  |  |             |            |                    
|                  |  |             |            | Weighted Average    |  |                  |      |          
|Range of          |  | Number of   |            | Remaining           |  | Weighted Average |      | Number of |  | Weighted Average
|Exercise Prices   |  | Shares      |            | Contractual Life    |  | Exercise Price   |      | Shares    |  | Exercise Price  
|                  |  |             |            |                     |  |                  |      |           |  |                 
|$  0.01  $  2.88 |  |             | 1,475,706  |                     |  |                  | 7.50 |           |  | $                | 0.87   |  |  |  | 648,751   |  |  | $ | 0.85   | 
|                 
|                 
|                 
|                 
|2.88     6.05    |  |             | 1,783,602  |                     |  |                  | 8.46 |           |  |                  | 4.09   |  |  |  | 531,417   |  |  |   | 4.04   | 
|                 
|                 
|                 
|                 
|7.59    12.00    |  |             | 1,313,652  |                     |  |                  | 8.75 |           |  |                  | 9.41   |  |  |  | 291,139   |  |  |   | 9.44   | 
|                 
|                 
|                 
|                 
|12.00    30.81   |  |             | 1,507,224  |                     |  |                  | 9.09 |           |  |                  | 23.51  |  |  |  | 357,077   |  |  |   | 21.78  | 
|                 
|                 
|                 
|                 
|33.15    72.19   |  |             | 1,814,598  |                     |  |                  | 9.57 |           |  |                  | 62.07  |  |  |  | 86,450    |  |  |   | 55.92  | 
|                 
|                 
|                 
|                 
|75.31    81.75   |  |             | 1,856,160  |                     |  |                  | 9.65 |           |  |                  | 80.25  |  |  |  | 93,038    |  |  |   | 78.21  | 
|                 
|                 
|                 
|                 
|82.38    86.63   |  |             | 391,635    |                     |  |                  | 9.59 |           |  |                  | 85.66  |  |  |  | 1,318     |  |  |   | 85.39  | 
|                 
|                 
|                 
|                 
|87.18    88.88   |  |             | 2,772,839  |                     |  |                  | 9.44 |           |  |                  | 88.80  |  |  |  | 3,017     |  |  |   | 87.18  | 
|                 
|                 
|                 
|                 
|88.88   114.88   |  |             | 1,908,997  |                     |  |                  | 9.43 |           |  |                  | 99.82  |  |  |  | 129,361   |  |  |   | 100.78 | 
|                 
|                 
|                 
|                 
|115.50   254.27  |  |             | 918,832    |                     |  |                  | 9.18 |           |  |                  | 139.19 |  |  |  | 300,159   |  |  |   | 165.79 | 
|                  |  |             |            |                     |  |                  |      |           |  |                  |        |  |  |  |           |  |  |   |        | 
|$  0.01  $254.27 |  |             | 15,743,245 |                     |  |                  | 9.08 |           |  | $                | 58.18  |  |  |  | 2,441,727 |  |  | $ | 36.25  | 
|                  |  |             |            |                     |  |                  |      |           |  |                  |        |  |  |  |           |  |  |   |        | 

Certain options for employee and non-employee directors granted
during the years ended March 31, 2000, 1999 and 1998
resulted in deferred stock compensation as the estimated fair
value (derived by reference to contemporaneous sales of
convertible preferred stock) was greater than the exercise price
on the date of grant. The total deferred stock compensation
associated with these options was approximately $16,093,000.
This amount is being amortized over the respective vesting
periods of these options, ranging from three to four years.
Approximately $6,807,000 and $2,975,000 was amortized during the
years ended March 31, 2001 and 2000, respectively, related
to these options.

F-18



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)

14.  Stock based compensation 
(Continued)

Included in the above table are options to purchase an aggregate
of 45,990 shares of the Companys common stock granted to
three non-employees during the year ended March 31, 2000.
The options granted to non-employees were granted in exchange
for services provided. Options to purchase 15,330 of these
shares have an exercise price of $2.17 per share and the options
to purchase the remaining 30,660 shares have an exercise price
of $2.88 per share. All of these options granted to
non-employees were fully exercisable and non-forfeitable on
September 30, 1999. These options were recorded at their
aggregate fair value on September 30, 1999 of $235,000 and
amortized over the terms of the respective consulting
agreements. As of March 31, 2000, they have been fully
amortized. The Company valued these options using the
Black-Scholes valuation model with the following assumptions:
Risk-free interest rate of 5.50%; expected life of 6 years;
no anticipated dividends; expected volatility of 85%; and a fair
market value of the underlying common stock on the date of grant
equal to the exercise price.

In April 2001, the Company implemented an option exchange
program whereby employees were offered the opportunity to
exchange stock options with split-adjusted exercise prices of
$40.00 and above for new options to purchase an equal number of
shares. The new options will be granted at least six months and
one day following the date the options were accepted for
exchange but no later than December 31, 2001. The exercise
price of the new options will be the closing market price of the
Companys common stock on the Nasdaq Stock Market on the
grant date of the new options, 7,489,000 options have been
exchanged under this plan.

Had compensation expense for the Plans been determined based on
the fair value of the related options at the grant dates,
consistent with SFAS No. 123, the Companys net loss
and net loss per share would have increased by the pro forma
amounts indicated below:

|                                                           |  |                      |          |      |  |      |         |   |  |   |         |  
|---------------------------------------------------------- |  | -------------------- | -------- | ---- |  | ---- | ------- | - |  | - | ------- | -
|                                                           |  |                     
|                                                           |  | Year ended March 31,
|                                                           |  |                     
|                                                           |  | 2001                 |          | 2000 |  | 1999
|                                                           |  |                      |          |      |  |     
|Net loss attributable to common shareholders, as
	reported |  | $                    | (131,614 | )    |  | $    | (41,673 | ) |  | $ | (15,077 | )
|                                                          
|                                                          
|                                                          
|                                                          
|Net loss attributable to common shareholders, pro
	forma   |  |                      | (259,735 | )    |  |      | (46,188 | ) |  |   | (14,594 | )
|                                                          
|                                                          
|                                                          
|                                                          
|Basic and diluted net loss per common share, as
	reported  |  |                      | (2.81    | )    |  |      | (2.23   | ) |  |   | (1.75   | )
|                                                          
|                                                          
|                                                          
|                                                          
|Basic and diluted net loss per common share, pro
	forma    |  |                      | (5.35    | )    |  |      | (2.47   | ) |  |   | (1.69   | )

The fair value of each option grant is estimated on the date of
grant using the Black-Scholes valuation model with the following
weighted average assumptions: Risk-free interest rates of 4.90%,
6.10%, and 4.69% for the years ended March 31, 2001, 2000
and 1999, respectively; expected volatility of 122%, 90% and 0%
for the years ended March 31, 2001, 2000 and 1999,
respectively; expected life of 4 years; and no anticipated
dividends.

The weighted average fair value per share for stock option
grants that were awarded during the years ended March 31,
2001, 2000 and 1999 was $84.02, $10.49, and $0.15, respectively.

Employee Stock Purchase Plan

In January 2000, the Board of Directors approved the
Companys 2000 Employee Stock Purchase Plan (the ESPP). The
ESPP became effective upon the completion of the Companys
initial public offering on February 10, 2000. A total of
1,500,000 shares of common stock are initially available for
issuance under the ESPP. The number of shares of common stock
available for issuance under the ESPP will be increased on the
first day of each calendar year during the remaining nine year
term of the ESPP by 750,000 shares of common stock.

F-19



---



##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



14.  Stock based compensation 
(Continued)


The ESPP, which is intended to qualify under Section 423 of
the IRS Code, is implemented by a series of overlapping offering
periods of 24 months duration, with new offering
periods, other than the first offering period, commencing on or
about January 1 and July 1 of each year. Each offering period
consists of four consecutive purchase periods of approximately
six months duration, and at the end of each offering
period, an automatic purchase is made for participants. The
initial offering period commenced on February 10, 2000 and
ends on December 31, 2001; the initial purchase period
began on February 10, 2000 and ended on June 30, 2000.
Participants generally may not purchase more than 1,000 shares
on any purchase date or stock having a value measured at the
beginning of the offering period greater than $25,000 in any
calendar year.

The purchase price per share is 85% of the lower of (1) the
fair market value of the Companys common stock on the
purchase date and (2) the fair market value of a share of
the Companys common stock on the last trading day before
the offering date, or, in the case of the first offering period
under the plan, the price at which one share of the
Companys common stock is offered to the public in the
Companys initial public offering.

In June 1999, Active approved the 1999 Employee Stock
Purchase Plan (the Purchase Plan). In connection
with the merger of Active, the Company assumed the Purchase Plan
for all currently eligible employees of Active. Eligible
employees of the Purchase Plan may purchase a limited number of
shares of the Companys common stock. Each participant is
granted the option to purchase the Companys common stock
on the first day of each 24 month offering period (which
begins on May 1 and November 1 of each year) and such option is
automatically exercised on the last day of each six month
purchase period during the offering period. The purchase price
for the Companys common stock under the Purchase Plan is
85% of the lesser of the fair market value of the common stock
(1) on the first day of the applicable offering period and
(2) on the last day of the applicable purchase period. The
Purchase Plan terminates on October 30, 2001.

The following table summarizes shares of common stock available
for issuance and shares purchased as of March 31, 2001.

|           |  |                |       |        |  |       |      |   |  |  |       |  
|---------- |  | -------------- | ----- | ------ |  | ----- | ---- | - |  |  | ----- | -
|           |  | webMethods     |       | Active |  |      
|           |  | Plan           |       | Plan   |  | Total
|           |  |                |       |        |  |      
|           |  |               
|           |  | (in thousands)
|          
|          
|          
|          
|Authorized |  |                | 2,250 |        |  |       | 708  |   |  |  | 2,958 |  
|          
|          
|          
|          
|Purchased  |  |                | (111  | )      |  |       | (120 | ) |  |  | (231  | )
|           |  |                |       |        |  |       |      |   |  |  |       |  
|Available  |  |                | 2,139 |        |  |       | 588  |   |  |  | 2,727 |  

15.  Mandatorily redeemable, convertible preferred
stock

The Company raised capital prior to its initial public offering
through private sales of common stock and mandatorily
redeemable, convertible preferred stock (Preferred Stock). The
Companys preferred stock had cumulative dividends at a
rate equal to 8% per annum payable on a liquidation value equal
to the issuance price per share for each series of Preferred
Stock, as adjusted for stock splits, stock dividends, stock
combinations and recapitalizations. Prior to April 1, 1999
the Company exchanged 1,446,335 shares of existing common stock
for 47,174 shares of Series A Preferred Stock. In addition,
the Board authorized and the Company issued: (i) 180,750
shares of Series B Preferred Stock for net proceeds of
$3,577,000; (ii) 195,783 shares of Series C Preferred
Stock for net proceeds of $6,436,451; and (iii) 158,000
shares of Series D Preferred Stock for net proceeds of
$11,733,000.

F-20



---



##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)



15.  Mandatorily redeemable, convertible preferred
stock  (Continued)


An investor in the round of Series D Preferred Stock had
the right to purchase the number of common shares equal to
$2,500,000 at the initial public offering price per share less
one-half of the underwriting discount and commission, concurrent
with an underwritten initial public offering. Such right was
exercised in connection with the concurrent private placement.

For the year ended March 31, 1999 the Company recorded
accretion to redemption value and accrued dividends of $34,000,
$296,000 and $275,000 for Preferred Stock Series A, B and
C, respectively.

On November 4, 1999, the Company authorized the issuance of
up to 68,770 shares of mandatorily redeemable, convertible
Series E Preferred Stock. Based on the short period of time
elapsed between the issuance of the Series E Preferred
Stock on November 4, 1999 and the initial filing of the
Companys Registration Statement on Form S-1 on
November 19, 1999, the Company had recorded a deemed
dividend of $8,300,000. The deemed dividend has been included in
the accretion and accrued dividends related to mandatorily
redeemable preferred stock for purposes of determining basic and
diluted net loss per common share.

Each outstanding share of Series A, Series B,
Series C, Series D and Series E Preferred Stock
was automatically converted into 30.66 shares of the
Companys common stock immediately upon the closing of the
Companys initial public offering. In addition, at the time
of the initial public offering common stock was issued for
accrued and unpaid dividends based on the $35.00 fair market
value of the stock at the time of the offering.

The Series A, Series B, Series C, Series D
and Series E Preferred Stock activity during the year ended
March 31, 2000 is summarized as follows:

|                                                                     |  |          |         |          |  |          |          |          |  |        |          |        |  |        |            |        |  |  |          |   |  |   |            |   |  |  |          |   |  |   |             |  
|-------------------------------------------------------------------- |  | -------- | ------- | -------- |  | -------- | -------- | -------- |  | ------ | -------- | ------ |  | ------ | ---------- | ------ |  |  | -------- | - |  | - | ---------- | - |  |  | -------- | - |  | - | ----------- | -
|                                                                     |  |          |         |          |  |          |          |         
|                                                                     |  | Series A |         | Series B |  | Series C |          | Series D
|                                                                     |  |          |         |          |  |          |          |         
|                                                                     |  | Shares   |         | Amount   |  | Shares   |          | Amount   |  | Shares |          | Amount |  | Shares |            | Amount
|                                                                     |  |          |         |          |  |          |          |          |  |        |          |        |  |        |            |       
|Balance, April 1, 1999                                               |  |          | 47,174  |          |  | $        | 434,919  |          |  |        | 180,750  |        |  | $      | 3,970,521  |        |  |  | 195,783  |   |  | $ | 6,712,288  |   |  |  |         |   |  | $ |            |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Sale of Series D preferred stock, net of
	issuance costs of $119,370 |  |          |        |          |  |          |         |          |  |        |         |        |  |        |           |        |  |  |         |   |  |   |           |   |  |  | 134,075  |   |  |   | 11,732,860  |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Sale of Series E preferred stock, net of
	issuance costs of $76,469  |  |          |        |          |  |          |         |          |  |        |         |        |  |        |           |        |  |  |         |   |  |   |           |   |  |  |         |   |  |   |            |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Accretion to redemption price                                        |  |          |        |          |  |          |         |          |  |        |         |        |  |        | 5,827      |        |  |  |         |   |  |   | 11,225     |   |  |  |         |   |  |   | 20,982      |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Accrued dividends                                                    |  |          |        |          |  |          | 29,655   |          |  |        |         |        |  |        | 256,844    |        |  |  |         |   |  |   | 461,822    |   |  |  |         |   |  |   | 732,989     |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Conversion to common stock                                           |  |          | (47,174 | )        |  |          | (464,574 | )        |  |        | (180,750 | )      |  |        | (4,233,192 | )      |  |  | (195,783 | ) |  |   | (7,185,335 | ) |  |  | (134,075 | ) |  |   | (12,486,831 | )
|                                                                     |  |          |         |          |  |          |          |          |  |        |          |        |  |        |            |        |  |  |          |   |  |   |            |   |  |  |          |   |  |   |             |  
|Balance, March 31, 2000                                              |  |          |        |          |  | $        |         |          |  |        |         |        |  | $      |           |        |  |  |         |   |  | $ |           |   |  |  |         |   |  | $ |            |  
|                                                                     |  |          |         |          |  |          |          |          |  |        |          |        |  |        |            |        |  |  |          |   |  |   |            |   |  |  |          |   |  |   |             |  

[Additional columns below]

[Continued from above table, first column(s) repeated]

|                                                                     |  |          |         |        |  |   |             |  
|-------------------------------------------------------------------- |  | -------- | ------- | ------ |  | - | ----------- | -
|                                                                     |  |         
|                                                                     |  | Series E
|                                                                     |  |         
|                                                                     |  | Shares   |         | Amount
|                                                                     |  |          |         |       
|Balance, April 1, 1999                                               |  |          |        |        |  | $ |            |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Sale of Series D preferred stock, net of
	issuance costs of $119,370 |  |          |        |        |  |   |            |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Sale of Series E preferred stock, net of
	issuance costs of $76,469  |  |          | 68,770  |        |  |   | 16,923,475  |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Accretion to redemption price                                        |  |          |        |        |  |   | 5,539       |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Accrued dividends                                                    |  |          |        |        |  |   | 390,183     |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Conversion to common stock                                           |  |          | (68,770 | )      |  |   | (17,319,197 | )
|                                                                     |  |          |         |        |  |   |             |  
|Balance, March 31, 2000                                              |  |          |        |        |  | $ |            |  
|                                                                     |  |          |         |        |  |   |             |  

There was no additional Preferred Stock activity during the year
ended March 31, 2001.

16.  Employee benefit plan

As of April 1, 1997, the Company adopted a contributory
401(k) plan covering all full-time employees who meet prescribed
service requirements. There are no required Company matching
contributions. The plan provides for discretionary contributions
by the Company. The Company made no contributions during the
years ended March 31, 2001, 2000 and 1999.

F-21



---



##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)

17.  Supplemental disclosures of cash flow
information:

|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |     |  | 
|-------------------------------------------- | --------------------------------------------------------------- | ----------------------------------- | ----- | ------- | - | ---- | ---- | ------- | - | - | -- | --- |  | 
|                                             |                                                                 |                                    
|                                             |                                                                 | Year Ended March 31,               
|                                             |                                                                 |                                    
|                                             |                                                                 | 2001                                |       | 2000    |   | 1999
|                                             |                                                                 |                                     |       |         |   |     
|                                             |                                                                 |                                    
|                                             |                                                                 | (in thousands)                     
|                                            
|                                            
|                                            
|                                            
|Cash paid during the period for interest     |                                                                 | $                                   | 156   |         |   | $    | 93   |         |   | $ | 52 |    
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|Non-cash investing and financing activities: |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                            
|                                            
|                                            
|                                            
|                                             | Accrual of preferred stock dividends                            |                                     | $     |        |   |      | $    | 1,871   |   |   | $  | 592 | 
|                                            
|                                            
|                                            
|                                            
|                                             | Preferred stock accretion                                       |                                     |       |        |   |      |      | 44      |   |   |    | 13  | 
|                                            
|                                            
|                                            
|                                            
|                                             | Equipment purchased under capital lease                         |                                     |       | 4,350   |   |      |      | 686     |   |   |    |    | 
|                                            
|                                            
|                                            
|                                            
|                                             | Conversion of preferred stock to common stock                   |                                     |       |        |   |      |      | 41,689  |   |   |    |    | 
|                                            
|                                            
|                                            
|                                            
|                                             | Deemed discount in connection with the beneficial
	conversion   |                                     |       |        |   |      |      | 8,307   |   |   |    |    | 
|                                             |                                                                 | feature on Series E Preferred Stock |       |         |   |      |      |         |   |   |    |     |  | 
|                                            
|                                            
|                                            
|                                            
|                                             | Change in net unrealized gain or loss on
	marketable securities |                                     |       | (1,125  | ) |      |      | 166     |   |   |    | 2   | 
|                                            
|                                            
|                                            
|                                            
|                                             | Fair value of option issued to non-employees                    |                                     |       |        |   |      |      | 235     |   |   |    |    | 
|Alier Acquisitions                           |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                            
|                                            
|                                            
|                                            
|                                             | Fair value of assets acquired, net of cash
	acquired            |                                     | $     |        |   |      | $    | 44,623  |   |   | $  |    | 
|                                            
|                                            
|                                            
|                                            
|                                             |                                                                 | Less:                               |       |         |   |      |      |         |   |   |    |     |  | 
|                                            
|                                            
|                                            
|                                            
|                                             | Liabilities assumed                                             |                                     |       |        |   |      |      | (1,464  | ) |   |    |    | 
|                                            
|                                            
|                                            
|                                            
|                                             | Common stock issued in connection with the
	acquisition         |                                     |       |        |   |      |      | (43,580 | ) |   |    |    | 
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                             |                                                                 |                                     |      |         |   |      | (421 | )       |   |   |   |    
|                                            
|                                            
|                                            
|                                            
|                                             | Write-off of in-process research and development                |                                     |       |        |   |      |      | 2,737   |   |   |    |    | 
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                             | Cash paid for acquisition                                       |                                     | $     |        |   |      | $    | 2,316   |   |   | $  |    | 
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|Translink Acquisition:                       |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                            
|                                            
|                                            
|                                            
|                                             | Fair value of assets acquired, net of cash
	acquired            |                                     | $     | 82,209  |   |      | $    |        |   |   | $  |    | 
|                                            
|                                            
|                                            
|                                            
|                                             |                                                                 | Less:                               |       |         |   |      |      |         |   |   |    |     |  | 
|                                            
|                                            
|                                            
|                                            
|                                             | Liabilities assumed                                             |                                     |       | (593    | ) |      |      |        |   |   |    |    | 
|                                            
|                                            
|                                            
|                                            
|                                             | Common stock issued in connection with the
	acquisition         |                                     |       | (79,678 | ) |      |      |        |   |   |    |    | 
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                             |                                                                 |                                     | 1,938 |         |   |      |     |         |   |   |   |    
|                                            
|                                            
|                                            
|                                            
|                                             | Write-off of in-process research and development                |                                     |       | 2,311   |   |      |      |        |   |   |    |    | 
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                             | Cash paid for acquisition, net of cash acquired                 |                                     | $     | 4,249   |   |      | $    |        |   |   | $  |    | 
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|Premier Acquisition:                         |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                            
|                                            
|                                            
|                                            
|                                             | Fair value of assets acquired, net of cash
	acquired            |                                     | $     | 13,947  |   |      | $    |        |   |   | $  |    | 
|                                            
|                                            
|                                            
|                                            
|                                             |                                                                 | Less:                               |       |         |   |      |      |         |   |   |    |     |  | 
|                                            
|                                            
|                                            
|                                            
|                                             | Liabilities assumed                                             |                                     |       | (462    | ) |      |      |        |   |   |    |    | 
|                                            
|                                            
|                                            
|                                            
|                                             | Common stock issued in connection with the
	acquisition         |                                     |       | (12,993 | ) |      |      |        |   |   |    |    | 
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    
|                                             | Cash paid for acquisition, net of cash acquired                 |                                     | $     | 492     |   |      | $    |        |   |   | $  |    | 
|                                             |                                                                 |                                     |       |         |   |      |      |         |   |   |    |    

F-22



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##### Table of Contents



WEBMETHODS, INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 
(Continued)

18.  Segment information

The Company markets it products in the United States and in
foreign countries. Information regarding geographic areas for
the years ended March 31, 2001, 2000 and 1999 are as
follows:

|                  |       |                      |         |         |  |      |        |        |  |   |        |        | 
|----------------- | ----- | -------------------- | ------- | ------- |  | ---- | ------ | ------ |  | - | ------ | ------ | 
|                  |       |                     
|                  |       | Year Ended March 31,
|                  |       |                     
|                  |       | 2001                 |         | 2000    |  | 1999
|                  |       |                      |         |         |  |     
|                  |       |                     
|                  |       | (in thousands)      
|                 
|                 
|                 
|                 
|Revenues          |       |                      |         |         |  |      |        |        |  |   |        |       
|                  |       |                      |         |         |  |      |        |        |  |   |        |       
|North America     |       | $                    | 180,192 |         |  | $    | 55,051 |        |  | $ | 14,043 |       
|                 
|                 
|                 
|                 
|Europe            |       |                      | 17,801  |         |  |      | 5,094  |        |  |   | 227    |       
|                 
|                 
|                 
|                 
|Asia Pacific      |       |                      | 3,965   |         |  |      |       |        |  |   |       |       
|                  |       |                      |         |         |  |      |        |        |  |   |        |       
|                  | Total |                      | $       | 201,958 |  |      | $      | 60,145 |  |   | $      | 14,270 | 
|                  |       |                      |         |         |  |      |        |        |  |   |        |       
|Long Lived Assets |       |                      |         |         |  |      |        |        |  |   |        |       
|                  |       |                      |         |         |  |      |        |        |  |   |        |       
|North America     |       | $                    | 97,853  |         |  | $    | 39,742 |        |  | $ | 2,197  |       
|                 
|                 
|                 
|                 
|Europe            |       |                      | 1,236   |         |  |      | 142    |        |  |   |       |       
|                 
|                 
|                 
|                 
|Asia Pacific      |       |                      | 1,207   |         |  |      |       |        |  |   |       |       
|                  |       |                      |         |         |  |      |        |        |  |   |        |       
|                  | Total |                      | $       | 100,296 |  |      | $      | 39,884 |  |   | $      | 2,197  | 
|                  |       |                      |         |         |  |      |        |        |  |   |        |       

F-23



---



##### Table of Contents



SCHEDULE II  VALUATION AND QUALIFYING
ACCOUNTS

For the years ended March 31, 1999, 2000 and 2001.

|                                |  |              |       |            |  |            |       |            |  |  |       |  |  |  |       | 
|------------------------------- |  | ------------ | ----- | ---------- |  | ---------- | ----- | ---------- |  |  | ----- |  |  |  | ----- | 
|                                |  | Balance at   |       |            |  |            |       | Balance at
|                                |  | beginning of |       |            |  |            |       | end of    
|                                |  | Period       |       | Provisions |  | Deductions |       | Period    
|                                |  |              |       |            |  |            |       |           
|Year ended March 31, 1999       |  |              |       |            |  |            |       |            |  |  |       |  |  |  |       | 
|                               
|                               
|                               
|                               
|Allowance for doubtful accounts |  |              | 94    |            |  |            | 223   |            |  |  |      |  |  |  | 317   | 
|Year ended March 31, 2000       |  |              |       |            |  |            |       |            |  |  |       |  |  |  |       | 
|                               
|                               
|                               
|                               
|Allowance for doubtful accounts |  |              | 317   |            |  |            | 1,077 |            |  |  |      |  |  |  | 1,394 | 
|Year ended March 31, 2001       |  |              |       |            |  |            |       |            |  |  |       |  |  |  |       | 
|                               
|                               
|                               
|                               
|Allowance for doubtful accounts |  |              | 1,394 |            |  |            | 4,808 |            |  |  | 1,860 |  |  |  | 4,342 | 

F-24



---



##### Table of Contents



Report of Independent Accountants on

Financial Statement Schedules


To the Board of Directors and Stockholders 
 of webMethods Inc.:

Our audits of the consolidated financial statements referred to
in our report dated April 25, 2001, except for Notes 8 and
10, as to which the date is June 22, 2001, appearing in this
Form 10-K of webMethods, Inc. for the year ended
March 31, 2001 also included an audit of the financial
statement schedules listed in Item 14(a)(2) of this
Form 10-K. In our opinion, these financial statement
schedules present fairly, in all material respects, the
information set forth therein when read in conjunction with the
related consolidated financial statements.

/s/ PRICEWATERHOUSECOOPERS LLP 
 ____________________________________

McLean, Virginia 
 April 25, 2001

F-25