<PAGE>

                      SECURITIES AND EXCHANGE COMMISSION
                             Washington, DC 20549

                                   FORM 10-Q
                               QUARTERLY REPORT
    Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarter Ended                                   Commission File Number
  March 31, 2000                                                0-20706


                                DATA RACE, Inc.
            (Exact name of registrant as specified in its charter)


      Texas                                               74-2272363
(State of Incorporation)                    (I.R.S. Employer Identification No.)


                            12400 Network Boulevard
                           San Antonio, Texas 78249
                           Telephone (210) 263-2000
              (Address, including zip code, and telephone number,
       including area code, of registrant's principal executive offices)

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

 Securities registered pursuant to Section 12(g) of the Act:  Common Stock, no
                                   par value.



Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.  YES  X   NO
                                       -----    -----

On May 10, 2000, there were 22,936,953 outstanding shares of Common Stock, no
par value.

                                       1
<PAGE>

                                DATA RACE, Inc.
                              INDEX TO FORM 10-Q

                                                                          Page
                                                                          Number
                                                                          ------
PART I.  FINANCIAL INFORMATION
------------------------------

Item 1. Interim Condensed Financial Statements (Unaudited):

        Condensed Balance Sheets as of March 31, 2000 and June 30, 1999....   3

        Condensed Statements of Operations for the Three Months
        and Nine Months Ended March 31, 2000 and 1999......................   4

        Condensed Statements of Cash Flows for the Nine Months
        Ended March 31, 2000 and 1999......................................   5

        Notes to Interim Condensed Financial Statements....................   6

Item 2. Management's Discussion and Analysis of Financial
        Condition and Results of Operations................................   9

Item 3. Quantitative and Qualitative Disclosure about Market Risk..........  11


PART II.  OTHER INFORMATION
---------------------------

Item 1. Legal Proceedings..................................................  12

Item 2.  Changes in Securities.............................................  12

Item 3.  Defaults Upon Senior Securities...................................  12

Item 4.  Submission of Matters to a Vote of Security Holders...............  12

Item 5.  Other Information.................................................  12

Item 6.  Exhibits and Reports on Form 8-K..................................  12

SIGNATURES.................................................................  13
----------

                                       2
<PAGE>

                        PART I.  FINANCIAL INFORMATION

ITEM 1.  Interim Condensed Financial Statements
-----------------------------------------------


                                DATA RACE, Inc.
                           CONDENSED BALANCE SHEETS
<TABLE>
<CAPTION>
                                                                                                As of
                                                                       -----------------------------------------------------
                                                                                March 31, 2000             June 30, 1999
                                                                       -------------------------------  --------------------
<S>                                                                      <C>                            <C>
ASSETS

Current assets:
    Cash and cash equivalents....................................        $             7,114,625        $          7,654,978
    Accounts receivable, net.....................................                         10,182                      55,068
    Inventory....................................................                         83,860                      95,095
    Prepaid expenses and deposits...............................                           7,913                     153,615
    Net assets of discontinued operations.......................                         106,330                     319,351
                                                                         -----------------------        --------------------
        Total current assets........................................                   7,322,910                   8,278,107

Property and equipment, net......................................                      1,109,815                   1,178,309
Other assets.....................................................                         25,389                      25,389
        Total assets................................................        $          8,458,114        $          9,481,805
                                                                         =======================        ====================


LIABILITIES AND SHAREHOLDERS' EQUITY

Current liabilities:
    Accounts payable.............................................        $               106,442        $            230,216
    Accrued expenses.............................................                        554,197                     535,974
                                                                         -----------------------        --------------------
     Total current liabilities...................................                        660,639                     766,190

Commitments and contingencies....................................

Shareholders' equity:
     Convertible preferred stock.................................                      1,620,001                   1,460,556
     Common stock................................................                     51,745,343                  46,489,610
     Additional paid in capital..................................                      7,673,309                   7,464,287
     Retained earnings (deficit).................................                    (53,241,178)                (46,698,838)

        Total shareholders' equity...............................                      7,797,475                   8,715,615
           Total liabilities and shareholders' equity...............     $             8,458,114        $          9,481,805
                                                                         =======================        ====================
</TABLE>



       See accompanying notes to interim condensed financial statements

                                       3
<PAGE>

                                DATA RACE, Inc.
                      CONDENSED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
                                                    Three Months Ended March 31,                Nine  Months Ended March 31,
                                              --------------------------------------    -------------------------------------------
                                                   2000                   1999                   2000                    1999
                                              ---------------        ---------------        ---------------        ----------------
<S>                                           <C>                    <C>                    <C>                    <C>
Total revenue...........................      $        45,077        $       231,918        $       308,142        $        765,100

Cost of revenue.........................              219,135                623,554                584,779               1,152,170
                                              ---------------        ---------------        ---------------        ----------------

   Gross profit(loss)...................             (174,058)              (391,636)              (276,637)               (387,070)
                                              ---------------        ---------------        ---------------        ----------------

Operating expenses:
 Engineering and product development....              763,496                519,174              2,417,579               1,655,185
 Sales and marketing....................              717,231                498,065              1,710,048               1,531,894
 General and administration.............              593,959                665,005              2,524,186               3,487,737
                                              ---------------        ---------------        ---------------        ----------------
   Total operating expenses.............            2,074,686              1,682,244              6,651,813               6,674,816
                                              ---------------        ---------------        ---------------        ----------------
   Operating loss.......................           (2,248,744)            (2,073,880)            (6,928,450)             (7,061,886)

Other income............................              100,775                 43,397                327,821                  99,526
                                              ---------------        ---------------        ---------------        ----------------

Loss from continuing operations........            (2,147,969)            (2,030,483)            (6,600,629)             (6,962,360)

Income from discontinued operations                    47,181                116,369                217,734                 496,289
                                              ---------------        ---------------        ---------------        ----------------
   Net loss.............................      $    (2,100,788)       $    (1,914,114)       $    (6,382,895)       $     (6,466,071)
                                              ===============        ===============        ===============        ================

Per share data:
   Net loss.............................      $    (2,100,788)       $    (1,914,114)       $    (6,382,895)       $     (6,466,071)
   Effect of beneficial conversion
    feature of convertible preferred
    stock...............................                   (0)            (1,072,462)              (159,445)             (3,526,497)
                                              ---------------        ---------------        ---------------        ----------------
   Net loss applicable to common stock..      $    (2,100,788)       $    (2,986,576)       $    (6,542,340)       $     (9,992,568)
Net basic/diluted loss from continuing
   operations per common share                $         (0.09)       $         (0.18)       $         (0.32)       $          (0.68)
                                              ===============        ===============        ===============        ================
Net basic/diluted loss per common share       $         (0.09)       $         (0.17)       $         (0.31)       $          (0.64)
                                              ===============        ===============        ===============        ================
Weighted average shares outstanding.....           22,819,767             17,099,358             21,421,480              15,517,285
</TABLE>


        See accompanying notes to interim condensed financial statements

                                       4
<PAGE>

                                DATA RACE, Inc.
                      CONDENSED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                                       Nine Months Ended March 31,
                                                                              ---------------------------------------------
                                                                                     2000                       1999
                                                                              ------------------         ------------------
<S>                                                                           <C>                        <C>
Cash flows from operating activities:
 Net loss from continuing                                                     $       (6,600,629)        $       (6,962,360)
  operations..............................................
 Adjustments to reconcile net loss to net cash provided by
   (used in) operating activities:
      Depreciation and amortization..............................                        217,452                    244,953
      Non-cash consulting fee....................................                        729,110                  1,890,813
      Gain on sales of property and equipment....................                          3,773                          0
      Changes in assets and liabilities:
         Accounts receivable.....................................                         44,886                    (92,115)
         Inventory...............................................                         11,235                    305,366
         Prepaid expenses, deposits, and other assets............                        145,702                          0
         Accounts payable........................................                       (123,774)                   (31,405)
         Accrued expenses........................................                         18,223                   (742,176)
                                                                              ------------------         ------------------
         Net cash used in operating activities...................                     (5,554,022)                (5,386,924)
                                                                              ------------------         ------------------

Cash flows from investing activities:
 Purchase of property and equipment..............................                       (133,245)                   (11,487)
 Proceeds from sale of property and equipment....................                              -                      2,835
                                                                              ------------------         ------------------
         Net cash used in investing activities...................                       (133,245)                    (8,652)
                                                                              ------------------         ------------------

Cash flows from financing activities:
  Net proceeds from the issuance of preferred stock..............                              -                  3,609,346
  Net proceeds from the issuance of common stock.................                      4,735,645                  3,045,255
                                                                              ------------------         ------------------
         Net cash provided by financing activities...............                      4,735,645                  6,654,601
                                                                              ------------------         ------------------

Cash flows provided by discontinued operations...................                        411,269                    418,625
                                                                              ------------------         ------------------

Net increase (decrease) in cash and cash equivalents.............                       (540,353)                 1,677,649

Cash and cash equivalents at beginning of period.................                      7,654,978                  1,644,294
                                                                              ------------------         ------------------

Cash and cash equivalents at end of period.......................             $         7,114,625         $        3,148,730
                                                                              ===================         ==================
</TABLE>


        See accompanying notes to interim condensed financial statements

                                       5
<PAGE>

                                DATA RACE, Inc.
                NOTES TO INTERIM CONDENSED FINANCIAL STATEMENTS


1)  Summary of Significant Accounting Policies
----------------------------------------------

Description of Business

DATA RACE, Inc. ("DATA RACE" or the "Company"), doing business as IPaxess, as of
May 1, 2000, is a leading provider of integrated IP based remote work solutions
over multiple access media.  The Company's VocalWare IP client/server product
line provides users in remote locations with simultaneous access to critical
corporate resources including phone, fax, Internet, and E-mail over a single
connection via: DSL, cable modem, LAN, or high speed dial up through VPN, local
ISP POP, or PSTN.

Basis of Presentation

The unaudited interim financial statements reflect all adjustments (consisting
of normal recurring accruals) that in the opinion of management are necessary
for a fair presentation of the financial position, results of operations and
cash flows for such periods.  These financial statements should be read in
conjunction with the Company's financial statements and notes thereto included
in the Annual Report on Form 10-K for the fiscal year ended June 30, 1999, and
the Quarterly Reports on Form 10-Q for the quarters ended September 30, 1999 and
December 31, 1999.  The balance sheet data as of June 30, 1999 included herein
have been derived from the audited financial statements included in such annual
report.  Interim period results are not necessarily indicative of the results to
be expected for any future periods or the full year.

2)   Earnings Per Share
-----------------------

In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 128, Earnings Per Share.  FASB
Statement No. 128 supersedes APB Opinion No. 15, Earnings Per Share, and
specifies the computation, presentation, and disclosure requirements for
earnings per share ("EPS").  It replaces Primary EPS and Fully Diluted EPS with
Basic EPS and Diluted EPS, respectively.  Basic EPS, unlike Primary EPS,
excludes all dilution while Diluted EPS, like Fully Diluted EPS, reflects the
potential dilution that could occur if securities or other contracts to issue
common stock were exercised or converted into common stock or resulted in the
issuance of common stock that then shared in the earnings of the entity.
Diluted loss per share approximates basic loss per share, as no potential common
shares are to be included in the computation when a loss from continuing
operations available to common shareholders exists.

At March 31, 2000, the Company had outstanding stock options to purchase
approximately 2,500,000 shares of common stock, 1,000 shares of Series D
Convertible Preferred Stock, 750 shares of Series E Convertible Preferred Stock,
750 shares of Series F

                                       6
<PAGE>

Convertible Preferred Stock, and warrants to purchase approximately 2,617,000
shares of common stock outstanding. At March 31, 1999, the Company had
outstanding stock options to purchase approximately 1,776,000 shares of common
stock, 1,000 shares of Series D Convertible Preferred Stock, 750 shares of
Series E Convertible Preferred Stock, 750 shares of Series F Convertible
Preferred Stock, and warrants to purchase approximately 1,772,000 shares of
common stock.

3)  Inventory
-------------

Inventory is valued at the lower of standard cost (approximates first-in, first-
out) or market.   Inventory consists of the following:

<TABLE>
<CAPTION>
                                             March 31, 2000              June 30, 1999
                                         ---------------------        --------------------
<S>                                      <C>                          <C>
                Finished goods           $        16,667              $       19,889
                Work in process                   29,209                      82,832
                Raw materials                     37,984                     115,527
                                         ---------------------        --------------------
                Total inventory          $        83,860              $      218,248
                                         =====================        ====================
</TABLE>

4)  Convertible Preferred Stock
-------------------------------

In fiscal 1999, the Company completed the first and second closings of a private
placement of its Series E and F Convertible Preferred Stock ("Convertible
Preferred Stock") and related Common Stock Purchase Warrants ("Class B
Warrants") to First Capital Group of Texas L.P. (the "Investor"), an investment
firm managed by the Chairman of the Board of the Company, at an aggregate price
of $750,000 for each closing.  The Convertible Preferred Stock have a stated
value of $1,000 per share; bear an 8% premium payable upon conversion or
redemption or in liquidation (in the case of conversion the Company may elect to
pay such premium in Common Stock); are non-voting except in limited
circumstances; rank senior to the Common Stock in liquidation; and are
redeemable at a premium at the option of the holder upon the occurrence of
certain major corporate transactions and triggering events.

The Series E Convertible Preferred Stock is convertible into Common Stock at the
option of the holder (subject to acceleration in certain events) at a conversion
price equal to $1.00 (which represents a premium to the Common Stock closing
price of $0.5938 on July 8, 1998, the date the Company reached an agreement in
principle with the Investors regarding the terms of the Private Placement).  The
Series F Convertible Preferred Stock will be convertible into Common Stock at
the option of the holder, (subject to acceleration in certain events) at a
conversion price equal to the trailing five-day average closing bid price of the
Common Stock on the date of the second closing, which was $3.43125. Subject to
certain limitations, all Preferred Stock outstanding five years after the
issuance date will convert automatically into Common Stock at the applicable
conversion price.  In each case, the number of shares of Common Stock issuable
upon conversion of one share of Preferred Stock is computed by dividing the
share's stated value of $1,000 by the applicable

                                       7
<PAGE>

conversion price, plus any shares of Common Stock which the Company elects to
issue in payment of the accrued premium on the Preferred Stock. As of May 10,
2000 none of the 750 shares of Series E Convertible Preferred Stock or 750
shares of Series F Convertible Preferred Stock had been converted.

5)  December Private Placement
------------------------------

On December 10, 1999, the Company completed a private placement of 1,904,761
shares of its common stock and warrants to purchase 571,429 shares of common
stock to three institutional investors for an aggregate price of $4,000,000.
The warrants are exercisable at a price of $3.00 per share through December 10,
2001.   As of May 10, 2000, all warrants from the December private placement are
outstanding.

6)  Warrants
------------

The Company has outstanding warrants, issued in connection with its private
placement of Series C Convertible Preferred Stock, to purchase approximately
54,000 shares of common stock.  These warrants are exercisable until November
2000 at an exercise price of $6.44 per common share.

The Company has outstanding warrants, issued in connection with its private
placement of Series E and F Convertible Preferred Stock, to purchase
approximately 281,000 shares of common stock.  These warrants are exercisable
until January 2001 at an exercise price of $0.80 per common share.

The Company has outstanding warrants, issued in connection with its private
placement of Series D Convertible Preferred Stock, to purchase approximately
60,000 shares of common stock.  These warrants are exercisable until July 2000
at an exercise price of $0.6625 per common share.

The Company has outstanding warrants, issued in connection with its November
1998 private placement, to purchase approximately 957,000 shares of common
stock.  These warrants are exercisable until November 2000 at an exercise price
of $2.25 per common share.

The Company has outstanding warrants, issued in connection with its June 1999
private placement, to purchase approximately 694,000 shares of common stock.
These warrants, are exercisable until June 2001 at an exercise price of $4.02
per common share.

The Company also has outstanding warrants, issued in connection with its
December 1999 private placement, to purchase approximately 571,000 shares of
common stock.  These warrants are exercisable until December 2001 at an exercise
price of $3.00 per common share.

                                       8
<PAGE>

7)  Segment Information
-----------------------

In January 2000, the Company exited the network multiplexer business to
concentrate all its efforts and resources on the VocalWare remote access system.
The Company, after exiting the network multiplexer business, operates in one
business segment.

There are no intersegment revenues recorded by the Company.

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


Results of Operations

Total revenue from continuing operations for the three months ended March 31,
2000 decreased 81% to $45,000 from $232,000 in the comparable period of the
prior fiscal year.  Revenue from continuing operations for the nine months ended
March 31, 2000 decreased 60% to $308,000 from $765,000 in the comparable period
of the prior fiscal year.  These decreases were primarily due to decreased
shipments to Sabratek, Inc. as a result of that customer's bankruptcy filing and
declines in custom modem revenue from fiscal 1999.  The Company discontinued
custom modem production in the second quarter of fiscal 1999.

Gross margin loss for the three and nine months ended March 31, 2000, were down
from the comparable periods of the prior fiscal year.  The decrease in the loss
is attributable to the decrease in workforce personnel associated with the
discontinuance of the custom modem segment and the selling of the network
multiplexer business to HT Communications on March 1, 2000.

Engineering and product development expenses for the three and nine months ended
March 31, 2000 increased 47% and 46%, respectively, from the comparable periods
of the prior fiscal year.  These increased expenditures where primarily due to
workforce increases associated with the development of the VocalWare product
line and are expected to continue over the next several quarters as the product
line is expanded and additional VocalWare products are introduced.

Sales and marketing expenses for the three and nine months ended March 31, 2000
increased 44% and 12% from the comparable periods of the prior fiscal year.
These increases were primarily due to the Company's increased sales and
marketing staff to support the new and next generation VocalWare product line.

General and administrative expenses for the three and nine months ended March
31, 2000 decreased 11% and 28% respectively from the comparable periods of the
prior fiscal year.  These decreases were attributable to decreases in non-cash
fees associated with the consulting agreement with Liviakis Financial
Communications and non-cash legal expenses associated with the Company's patent
infringement lawsuit with Lucent Technologies.  Further decreases were the
result of the Company successfully recovering

                                       9
<PAGE>

100% of bad debt previously written off associated with the Sabratek Inc.
bankruptcy, offset impart by the retirement package for Ben Barker.

Income tax benefits related to the losses for the three and six months ended
March 31, 2000 were not recognized because the utilization of such benefits is
not assured.  As of March 31, 2000, the Company had federal tax net operating
loss carryforwards exceeding $45,000,000, which expire beginning in 2008. The
Internal Revenue Code section 382 limits NOL carryforwards when an ownership
change of more than 50% of the value of stock in a loss corporation occurs
within a three year period.  Accordingly, the ability to utilize remaining NOL
carryforwards may be significantly restricted.

Liquidity and Capital Resources

Operating losses have had and continue to have a substantial negative effect on
the Company's cash balance.  At March 31, 2000, the Company had $7,114,625 in
cash and cash equivalents.

Historically, the majority of the Company's revenue was derived from shipments
of custom modem and network multiplexer products. Revenue from shipments of
custom modems has ended as the market has shifted away from custom modem
products.  The Company on March 1, 2000 sold its network multiplexer products
business to HT Communications, Inc. for $350,000, which will be paid out in 15
equal monthly payments begining June 1, 2000.  Also effective May 1, 2000, the
Company discontinued its internet service provider OnePhoneLine.net.  The
Company is focusing its resources on the VocalWare business.

The Company's strategy is to focus its sales efforts on establishing an
increasing number of large customers using the VocalWare product, to develop a
new generation of products that will address the market's need for an easy-to-
install software client that can run over the new broadband communications
services, including DSL, cable modems, and IP networks, and to establish one or
more strategic partnerships with well-established companies that would enhance
the Company's market presence and credibility and provide financial assistance.
The ability of the Company to successfully execute its strategy to increase
sales is subject to numerous risks and such success cannot be assured.  The
Company's return to profitability and development of a more dependable revenue
base depends on the success of the VocalWare product line, which has not
generated substantial revenue to date.  The Company does not anticipate a return
to profitability as long as its expenditures on the VocalWare system remain
disproportionate to attendant revenue.

The Company's ability to sustain operations, make future capital expenditures
and fund the development and marketing of new or enhanced products is highly
dependent on existing cash, the ability to raise additional capital, and the
ability to successfully attract a strategic partner.  The timing and amount of
the Company's future capital requirements can not be accurately predicted.  The
failure to obtain such financing when needed and to attract a strategic partner
would have a substantial adverse effect on the Company.

                                       10
<PAGE>

Year 2000 Compliance

The Company has evaluated and adjusted all known date-sensitive systems and
equipment for Year 2000 compliance.   Company personnel performed virtually all
of the compliance test work.  The total estimated cost of the Year 2000
conversion was not deemed material to the Company and has been expensed as
incurred.

Although the Company to date has not experienced any problems associated with
Year 2000 issues, the Company can not be certain that unexpected Year 2000
compliance problems of its products or its computer systems or the systems of
its vendors, customers and service providers, will not occur.  Any such problems
could have a material and adverse affect on the Company's business, financial
condition or operating results.


Disclosure Regarding Forward Looking Statements

Except for the historical information, this report contains various "forward-
looking statements" which represent the Company's expectations or beliefs
concerning future events, including expectations regarding the rate of use of
existing cash and regarding the success of the Company's strategy to increase
sales and return to profitability.  The Company cautions that these forward-
looking statements involve a number of risks and uncertainties and are qualified
by important factors that could cause actual results to differ materially from
those in the forward-looking statements.  Such factors include lack of adequate
capital; changing market trends and market needs; uncertainty regarding the
breadth of market acceptance of the teleworker products; uncertainty regarding
the length of the sales process; rapid or unexpected technological changes; new
or increased competition from companies with greater resources than the Company;
inability to resolve technical issues or overcome other development obstacles
and the Company's success in developing new strategic and financial
partnerships. Additional factors which qualify forward-looking statements are
set forth in the Company's other SEC filings, including the Form 10-K for fiscal
1999 and the Form 10-Qs for the quarters ended September 30, 1999 and
December 31, 1999. The Company's failure to succeed in its efforts, including
its development of new strategic and financial partnerships, could have a
material adverse effect on the Company's financial condition and operations.


ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
------------------------------------------------------------------

The Company does not believe that it is currently exposed to material risks
associated with market risk sensitive instruments.

                                       11
<PAGE>

                          Part II - Other Information

                                DATA RACE, Inc.

Item 1.  Legal proceedings
---------------------------

On October 29, 1999, the United States Magistrate Court (the "Court") issued its
opinion in the Company's patent infringement lawsuit against Lucent Technologies
("Lucent").  The Court found that the Lucent Virtual Telephone product does not
infringe upon the Company's patent claims.  The Court also found that Lucent had
failed in its challenge to the patent's validity and enforceability.  The
Company has discontinued its pursuit of an appeal of this decision.


Item 2.  Changes in securities
------------------------------

None.

Item 3.  Defaults upon senior securities
----------------------------------------

None.

Item 4.  Submission of matters to a vote of security holders
------------------------------------------------------------

None.

Item 5.  Other information
--------------------------

None.

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

(a)  Exhibits.
--------------

Exhibit
-------

27.0      Financial Data Schedule for the nine months ended March 31, 2000.(a)

__________________

(a)       Filed herewith.

(b)       Reports on Form 8-K.

No reports on Form 8-K were filed during the quarter.

                                       12
<PAGE>

                                  SIGNATURES

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

                             DATA RACE, INC.

                             By:  /s/ James G. Scogin
                                ---------------------
                                James G. Scogin, Senior Vice President
                                Chief Financial Officer, Treasurer and Secretary
                                (Principal Financial and Accounting Officer)

                             Date:  May 12, 2000

                                       13