PERSISTENCE SOFTWARE INC - 10-K Annual Report

Back to GetFilings.com

1

- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------

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

------------------------

FORM 10-K
------------------------
(MARK ONE)

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

FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999

OR

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

FOR THE TRANSITION PERIOD FROM __________ TO __________.

COMMISSION FILE NUMBER: 000-25857

PERSISTENCE SOFTWARE, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

DELAWARE 94-3138935
(STATE OR OTHER JURISDICTION OF INCORPORATION OR (I.R.S. EMPLOYER
ORGANIZATION) IDENTIFICATION NO.)

1720 SOUTH AMPHLETT BLVD., THIRD FLOOR
SAN MATEO, CALIFORNIA 94402
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)

REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (650) 372-3600

SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT
NONE

SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK

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 than 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 [ ]

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 the voting stock held by non-affiliates of
the registrant was approximately $187.5 million as of February 29, 2000 based
upon the closing sale price on the Nasdaq National Market reported for such date
of $16.8125 per share. Shares of Common Stock held by each officer and director
and by each person who owns 10% of more of the outstanding Common Stock have
been excluded in that such persons may be deemed to be affiliates. This
determination of affiliate status is not necessarily a conclusive determination
for other purposes.

There were 19,362,158 shares of the registrant's Common Stock issued and
outstanding as of February 29, 2000.

DOCUMENTS INCORPORATED BY REFERENCE

Part III incorporates information by reference from the definitive proxy
statement for the 2000 Annual Meeting of Stockholders to be held on June 8,
2000.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
2

We own or have rights to trademarks or trade names that we use in
conjunction with the sale of our products and services. "Persistence," as well
as the logo for "Live Object Cache," are registered trademarks owned by us. We
have registrations pending for the use of our logo with "Persistence," as well
as "PowerTier." "PowerSync," "Command Center," "PowerPage" and "The Engine for
E-Commerce" are also trademarks of ours. This annual report on Form 10-K also
makes reference to trademarks and trade names of other companies that belong to
them.

PART I

ITEM 1. BUSINESS.

COMPANY OVERVIEW

Persistence is a leading provider of transactional application
servers -- software that processes transactions between users and back-end
computer systems in electronic commerce systems. By caching data, or moving
information stored in back-end computer systems closer to users, our software
dramatically reduces network traffic, resulting in both better network
performance and faster transaction processing. In addition, PowerTier
application servers implement Sun Microsystems' full Enterprise JavaBeans
standard to enable businesses to deploy sophisticated Java applications, which
readily scale, or accommodate rapidly increasing numbers of users. Our PowerTier
family of transactional application servers offers the speed, scalability and
reliability to enable the next generation of sophisticated, high-volume
electronic commerce applications. Our major customers include AT&T, Boeing,
Cisco, FedEx, Fujitsu, Instinet, Intershop, Lucent, Morgan Stanley Dean Witter,
Motorola, Nokia, Norwest and ShopNow.com.

INDUSTRY BACKGROUND

The Internet has evolved into a global communications medium enabling
millions of people to share information and conduct business electronically. As
the Internet's popularity has increased, companies in industries ranging from
securities trading to book selling are extending their core business processes
over the Web to conduct electronic commerce with customers, suppliers and
partners. The growth of these electronic commerce offerings has led to
significant growth in the number of users and transactions conducted over the
Web.

While creating new business opportunities, the significant growth of
electronic commerce has also created tremendous technological challenges for
electronic commerce companies struggling to meet the needs of rapidly increasing
numbers of users. These companies are discovering that their existing Internet
software infrastructure is unable to support thousands of concurrent users or
process up to thousands of transactions per second. Even casual observers of the
Internet are familiar with these limitations, which include:

- Poor performance: Initial electronic commerce offerings were not designed
to scale to handle large numbers of users. Internet users accessing these
systems often experience lengthy delays as the number of concurrent users
increases.

- System failures: Initial electronic commerce offerings did not anticipate
the level of robustness required to operate 24 hours a day, 7 days a
week. Internet users accessing these systems at peak volume can
experience frequent system crashes.

- Limited adaptability: Initial electronic commerce offerings were built on
software infrastructures that offered only limited ability for
customization and personalization. To remain competitive, companies must
continuously enhance and differentiate their electronic commerce
offerings.

While these problems have been well-publicized in the business-to-consumer
market, we believe that business-to-business interactions face even more
pronounced problems due to the added complexity of managing transactions between
multiple companies. In addition, the growth of the business-to-business
electronic commerce market is expected to outpace the growth of the
business-to-consumer market. While Forrester Research estimates that the
business-to-consumer market in the United States is expected to grow

2
3

from $7.8 billion in 1998 to $108 billion in 2003, they estimate that the
business-to-business electronic commerce market in the United States will grow
even more rapidly, from $43 billion to $1.3 trillion, in this same period.

In large part, the problems facing these organizations, both in
business-to-business and business-to-consumer electronic commerce, are derived
from the continuing evolution and increasing sophistication of web-based
applications. In the early days of the Internet, organizations turned to the Web
for information publishing, decision support and simple transaction processing.
This first generation of web-based applications focused on extending legacy
applications to the Internet. These applications were typically not business-
critical, and had relatively simple interactions and limited functionality. The
web application server emerged as the infrastructure used to support these first
generation applications.

Today, use of the Web has changed dramatically as the Web has emerged as a
leading platform for conducting electronic commerce. The number of individuals
and organizations conducting transactions over the Internet has increased
significantly, as organizations have offered increasingly sophisticated and
feature-rich electronic commerce applications. At the same time, as
organizations have begun to conduct significant volumes of business over the
Internet, system failures and delays in transaction processing have ceased to be
mere inconveniences and have become serious impediments to doing business. To
achieve a competitive advantage in today's environment, many businesses are
looking to create web-based electronic commerce offerings that are available 24
hours per day, 7 days per week and that enhance customer loyalty by leveraging
partner, supplier and third party relationships. Complicating these challenges
further is the need to rapidly develop and deploy these applications on
"Internet time."

As the Internet has evolved into a critical business platform, the
limitations of the software infrastructure used to support electronic commerce
have become apparent. The first generation web application servers were not
designed to accommodate the high transaction volumes and high performance
requirements that characterize electronic commerce today.

The next generation of electronic commerce will require a fundamentally new
software infrastructure, based on an application server platform optimized for
high volume transaction processing over the Internet. The platform must provide:

- Real-time scalability: accommodate up to thousands of end users with
consistent sub-second response times;

- High availability: handle system failures without interruption and
without losing critical information for potentially thousands of
concurrent users;

- Rapid adaptability: allow companies to continuously improve their
business processing through automated development and management of
differentiated electronic commerce offerings; and

- Business-to-business integration: enable businesses to extend their
processing across organizational boundaries.

PERSISTENCE SOLUTION

Our PowerTier family of products consists of transactional application
servers that are specifically designed to enable high volume, high performance
electronic commerce applications. Our products, PowerTier for EJB and PowerTier
for C++, address the scalability, availability and adaptability demands that
typically occur when delivering business solutions over the Internet. Our
products offer the following key benefits:

Real-Time Response for Thousands of Concurrent Users. Our PowerTierplatform
was designed specifically to accommodate high volume transaction processing and
the data integrity requirements of distributed applications. The platform
utilizes our patented caching technology. Caching is a process in which
relational data is pulled out of back-end systems and into the PowerTier server
cache, which allows the data to be shared and manipulated at the application
server level. Replication between PowerTier server caches using the PowerSync
feature allows a cluster of PowerTier servers to provide highly scalable
performance as the number
3
4

of users increases. This architecture helps reduce the work load on back-end
systems and accelerates application performance. The effect of this architecture
is to minimize unnecessary network traffic and thereby enable high performance
and reliability even with significant transaction volumes. We believe our
PowerTier platform offers performance that is orders of magnitude faster than
traditional non-caching application servers.

Dramatic Reductions In Time-to-Market for Electronic Commerce
Applications. Our PowerTier platform decreases time to market and development
cycles for sophisticated electronic commerce applications due to our proprietary
and patented object-to-relational mapping technology. This technology enables
the automatic generation of software code, which minimizes basic, low-level
programming tasks, such as security and database access. The PowerTier platform
accelerates development by giving developers access to data in a familiar way,
as software components, and provides application developers with a framework to
rapidly build electronic commerce applications.

Protects and Leverages Existing Information Technology Investments. The
PowerTier platform enables developers to build new electronic commerce
applications while simultaneously integrating existing back-end systems.
PowerTier's flexible architecture integrates with disparate database servers,
web servers and multiple clients, while supporting multiple programming
languages and computing platforms. PowerTier provides enhanced flexibility and
interoperability to link existing enterprise applications and systems, allowing
businesses to leverage their investments in information technology and extend
them over the Internet.

Leadership in Emerging Standards. Customers are increasingly seeking open,
standards-based technology solutions that enable them to develop and implement
new applications rapidly. Our PowerTier products provide application server
solutions that implement the full EJB specification to enable businesses to
deploy high performance, scalable Java applications for the enterprise. We
worked with the Sun Microsystems consortium to define an industry-wide component
standard to be used when building enterprise applications with the Java
language. It is this standard upon which our PowerTier platform is built, and we
believe that this emerging platform has the potential to dramatically simplify
the development of distributed, multi-tier electronic commerce applications. Sun
recently introduced the Java 2 Platform, Enterprise Edition (J2EE), which is a
suite of enterprise java technology specifications. EJB is now part of J2EE.
Persistence became one of Sun's first J2EE licensees, and we intend to certify
PowerTier for EJB as a J2EE compliant solution in 2000. As EJB and other
emerging electronic commerce standards evolve, we intend to continue to be a
leading adopter and contributor to these technologies.

Optimized Platform For Business-to-Business Electronic Commerce. Our
transactional application server is designed and optimized to enable complex
online transactions, providing the necessary scalable, reliable and secure
infrastructure. Platforms designed to support the next generation of
business-to-business electronic commerce applications must handle hundreds and
potentially thousands of concurrent users while simultaneously providing
reliability and security, and enabling connections to a myriad of existing and
emerging back-end applications. In addition, we believe our PowerTier products
are particularly well suited for multi-party, multi-step business-to-business
transactions that require server-to-server communication.

PERSISTENCE STRATEGY

Our objective is to become the leading provider of transactional
application server software products that comprise the Internet software
infrastructure for high volume, high performance electronic commerce
applications. To achieve this goal, we intend to:

Capture Market Share in the Emerging Business-to-Business Electronic
Commerce Market. We intend to become the market leader in providing software
infrastructure to enable sophisticated business-to-business electronic commerce
applications. To achieve this objective, we will continue to make significant
investments in building our sales and marketing organizations. We continue to
launch a variety of sales and marketing programs designed to capture market
share. For example, we use a seeding strategy to extend our market share by
offering a development version of our software that may be downloaded over the
Internet to provide wide dissemination of our product to developers. We also
offer educational courses and webcasts on our products and the advantages of
EJB. We will continue to collaborate with our innovative and advanced customers
to

4
5

develop and deliver product features that address their needs. We believe that
this collaboration focuses our overall product development effort and speeds our
time-to-market.

Extend Technology Leadership Position in Standards-Based Platforms for Next
Generation Electronic Commerce. We intend to extend our technology leadership in
the transactional application server market by enhancing our underlying
technology to offer real-time scalability, high availability and rapid
adaptability for the next generation of electronic commerce applications. To
achieve this objective, we will continue to make significant investments in our
research and development organization. In addition, we intend to be a leader in
the definition and adoption of emerging technology standards, such as EJB, which
we believe have the potential to dramatically simplify the development of
distributed, multi-tier applications. We have been a pioneer in the areas of
caching and object-relational mapping, and hold several patents on core
technologies. We intend to continue to innovate and create new enabling
technologies for electronic commerce.

Expand Product Platform to Offer Complementary Solutions. In addition to
extending our technology leadership, we intend to broaden and enhance our
product platform to incorporate complementary solutions for developing and
deploying sophisticated electronic commerce applications. We will continue to
make investments in our research and development organization for many of these
product initiatives. We will also consider, from time to time, bolstering these
internal efforts with strategic acquisitions. For example, we have recently
acquired servlet engine technology, which provides the network infrastructure
through which HTTP requests and responses are processed and routed to the
PowerTier for EJB application server. Thus, the servlet engine will be the link
between the world of HTML and the transaction processing world of our
application server. The addition of these complementary technologies will enable
us to offer a broader platform for our customers.

Increase Partnerships With Systems Integrators. We intend to continue to
develop and expand relationships with systems integrators. We believe these
third parties can effectively market our products through their existing
relationships with our target market customers. In addition, our PowerTier
platform is often included as part of an enterprise-wide system deployment, in
which the system integrator plays a leading role. We believe that these
relationships will provide additional marketing and sales channels for our
products and facilitate the successful deployment of customer applications. We
are currently working with a number of systems integrators, including Cambridge
Technology Partners, Computer Sciences Corporation, Cysive, Electronic Data
Systems, ENEA Data, Genesis Development Corporation, Lante, Leading Edge Systems
and Unisys.

Leverage Installed Customer Base. We believe that there are significant
opportunities to expand the use of our products throughout our current customer
base. Although most organizations initially deploy our products on a
departmental or pilot basis, we believe that initial customer success with these
deployments will lead to significant opportunities for enterprise-wide adoption.
Further, we believe that most companies, including our customers, are just
beginning to fully capitalize on the opportunities created by the Web. As these
companies increasingly migrate their core business processes to the Web, we
believe they will need additional licenses of our software to support and enable
their new electronic commerce applications.

Strengthen International Presence. We believe there are significant
international opportunities for our products and services. We intend to continue
to build our sales, marketing and services organizations in Europe and Asia to
capitalize on these opportunities. Currently, we have established direct sales
operations in the United Kingdom, Germany, France, Shanghai and Hong Kong. In
addition to our direct sales operations, we also distribute our products
throughout Europe and Asia with distributors and systems integrators. We intend
to continue to build and extend these international third-party distributor and
systems integrator relationships.

5
6

PRODUCTS

Our PowerTier platform is a family of transactional application server
products that deliver scalability, high availability and rapid adaptability for
high volume, high performance electronic commerce applications. Our current
product line consists of PowerTier for EJB, which was released in 1998, and
PowerTier for C++, which was released in 1997. The following table describes the
major features and benefits of our PowerTier platform.

- ------------------------------------------------------------------------------------------------
PRODUCT FEATURES BENEFITS
- ------------------------------------------------------------------------------------------------

POWERTIER FOR Shared transactional object cache Enables real-time scalability by
ENTERPRISE JAVABEANS reducing database traffic
Application server cache Allows cooperative processing
Synchronization across organizational boundaries
Application server failover Delivers high availability by
replicating information across
clusters of application server
caches
PowerPage Enhances developer productivity
Integrated end-to-end systems, Delivers out of box productivity
including: and an end-to-end development and
- Servlets deployment platform
- Web server
- XML server
- EJB application server
EJB 1.1-compliant security Simplifies developer inclusion of
encryption encryption
Support for EJB standard Protects customers' IT
investments as a result of open
solution
- ------------------------------------------------------------------------------------------------
POWERTIER FOR C++ Shared transactional object cache Enables real-time scalability by
reducing database traffic
Application server cache Allows cooperative processing
Synchronization across organizational boundaries
Application server failover Delivers high availability by
replicating information across
clusters of application server
caches
Support for CORBA standard Protects customers' IT
investments as a result of open
solution
- ------------------------------------------------------------------------------------------------

PowerTier for EJB

Our PowerTier for EJB application server platform incorporates our patented
technologies into one of the few J2EE-based transactional application servers.
The EJB and J2EE standards, as defined by the Java Software division of Sun
Microsystems, are gaining rapid acceptance as a programming language for complex
enterprise applications. J2EE provides a consistent way to program and integrate
services for companies building distributed business-to-business applications
with the Java programming language.

The EJB standard specifies container-managed persistent objects, which
automate the mapping between EJB components and relational database tables. This
feature allows programmers to build complex applications quickly by making
relational data look like software components, which can be easily manipulated.
We worked with the Sun Microsystems consortium to help define the initial EJB
standard, and we continue to contribute to new versions of the EJB standard. Our
PowerTier for EJB platform now runs on the Windows NT and Unix operating
systems, and we currently anticipate it will be available for running on the
Linux operating system in the second quarter of 2000.

6
7

Our latest version of PowerTier for EJB, PowerTier 6 with PowerPage, is
designed to simplify the complex task of developing high performance, scalable
web applications and eliminate the need to compromise between powerful
application servers and simplicity of web page creation. The PowerTier 6
application server is designed to have an end-to-end J2EE development platform
that enhances development team productivity and allows scalable, flexible
applications to be rolled out at internet speed.

PowerPage is designed to give web developers a head start by providing them
with a pre-built HTML framework from which to work, as well as an EJB-based
back-end for maintainability and scalability. PowerPage is also designed to
automatically generate Java Server Pages (JSPs), which provide the interface
between the browser and the EJB server. The end result of the design is to have
dynamic HTML pages with access to EJBs, thus greatly reducing the manual coding
of hundreds of lines required for a distributed application.

PowerTier 6 also:

- Is also designed to be security compliant with Sun's EJB 1.1
specification, providing integrated and comprehensive authorization,
authentication and encryption capability for new applications

- Includes an enterprise class Servlet Engine tightly integrated with
PowerTier 6, with support for Java servlets and JSPs. The Servlet Engine
is designed to be scalable and fault tolerant.
[POWERTIER 6 CHART]

PowerTier for C++

Our PowerTier for C++ product is a high-performance transactional
application server platform, which is based on our patented technologies and the
Common Object Request Broker Architecture, or CORBA, standard for communication
between distributed applications. The CORBA standard is managed by an industry
group called the Object Management Group, of which we are a contributing member.
We are also one of the authors, along with Oracle, IBM and others, of an
emerging component of the overall CORBA standard, called the Persistent State
Service specification. Our PowerTier for C++ platform runs on the Windows NT and
Unix operating systems. We have licensed the J2EE platform and are a contributor
to the Java standard.

7
8

Patented Technology Platform

Our application server cache software architecture and cache replication
technology have been designed to serve as the foundation for a variety of
scalable electronic commerce applications.

- Shared Caching. Our cache technology is the foundation for the high
performance characteristics of our transactional application server. To
maximize performance, dynamic information such as product inventory data
is retrieved from a database into the application server cache. This
in-memory information may be accessed simultaneously by multiple users,
saving each user from having to access a disk-based database for that
information. This feature reduces network traffic between the application
server and the database, delivering higher performance.

- Transactional Caching. To enable users to get a consistent view of
information within the shared cache, our technology prevents one user
from seeing uncommitted changes made by another user. The ability of our
shared application server cache to isolate users from dynamic changes to
component information, such as inventory data, differentiates our
application server cache from other caching technologies which can only
manage static information, such as web pages. This feature allows high
performance caching of dynamic or transactional information.

- Cache Replication. Our cache replication technology provides the
foundation for the scalability, stateful availability and fault tolerance
of our transactional application server. We define stateful availability
as a system that can transfer a user in the middle of a complex business
operation, such as a portfolio valuation, from one application server to
another without interruption or losing business state, such as the user's
portfolio information. To provide stateful scalability, information from
one application server cache can be synchronized with information in one
or more other application server caches. Companies can deploy additional
replicated application server caches to increase their ability to support
more users, allowing them to use several smaller computers to do the work
of one larger and more expensive computer. Users' requests are
automatically routed to the application server with the most free
capacity, enabling high performance, notwithstanding increases in user
volumes. In the event of an application server failure, that application
server's responsibilities are automatically reassigned to another
application server, improving system availability.

- Cluster Management. We have developed complementary, proprietary
administration software, which enables remote administration for clusters
of application servers, reducing both administrative costs and the
possibility of error. This management software also enables centralized
monitoring, via a standard web browser, of the cluster through any
individual application server. This feature contributes to greater system
availability and reduced administrative costs.

- Development Automation. Our PowerTier development environment includes
frameworks to automate or eliminate many development tasks. The
proprietary and patented object-relational mapping feature automatically
generates the software code to translate software components into
relational databases. This feature reduces the programming time required
to build enterprise applications. The PowerTier application server
includes pre-built software services for data management, transaction
management and communications, relieving the developer from having to
build these services from scratch.

- Standards-based. The PowerTier application server platform uses an open
architecture that is based on industry standards such as Java, C++,
CORBA, Windows NT, UNIX, SQL, J2EE, EJB and others.

We believe that research and product development will be a key to our
success as a leader in the transactional application server market. Our research
and development expenditures totaled $3.0 million for 1997, $4.2 million for
1998 and $6.4 million for 1999.

8
9

CUSTOMERS

Our software products are licensed to customers worldwide for use in a wide
range of electronic commerce applications, including real-time electronic
trading, supply chain management, internet network management, application
outsourcing and customer relationship management. The following table lists a
representative selection of customers who have purchased our products.

E-COMMERCE/INTERNET
budget.com
Cisco*
Computer Science Corp.
DiCarta
Fujitsu*
Globe ID Software
Imind*
Internet Pro
Intershop
Mercata
NBC Internet
Netscape
Object Space
Open Environment
Pipeline Software
ShopNow.com*
Smallworld.com
Systemax
Uyisys
4T Solutions

COMMUNICATIONS
AT&T*
Bell Atlantic
BellCore*
BellSouth
Bull Ingenerie (France Telecom)
CellularOne Group
Cross Keys Systems
Lucent*
Motorola*
Nextel
Nokia*
Qualcomm
Scientific-Atlanta
Sequel Systems
Sprint
Telstra (Australia)

FINANCIAL SERVICES/EXCHANGES
Capital Group
Capital One Financial
CNP Assurances*
Instinet*
JP Morgan
Morgan Stanley Dean Witter*
Nike Securities
Norwest*
Wofex

TRANSPORTATION & LOGISTICS
Air Canada
Air France
Executive Jet
FedEx*
Sabre Group Holdings (American Airlines)
Transquest Information (Delta Airlines)*

MANUFACTURING & DISTRIBUTION
Asea Brown Boveri Power T&D
Boeing
Enron
IBM*
Non-Stop Solutions
Perkin-Elmer*
Raytheon
SuperValu*
Titan Systems
Xerox

OTHER
Caldwell-Spartin
Fermi National Accelerator Laboratory
National Aeronautics and Space
Administration

- ---------------
* Denotes customers who have ordered at least $500,000 in products.

In 1999, sales of products and services to Cisco accounted for 13% of our
total revenues.

The following case studies illustrate how selected customers have used our
products to address their electronic commerce and core business application
needs. These case studies are based on information supplied by these customers,
however we believe the information is accurate in all material respects.
Reuters, the parent of Instinet, and Cisco are both major stockholders in our
company.

9
10

Real-Time Electronic Trading Network

Instinet Corporation. Instinet is the world's largest electronic agency
broker in equity securities. Historically, trading in fixed income securities
occurred almost exclusively over the telephone. Instinet revolutionized this
telephone-based fixed income trading with a global electronic broker trading
service for fixed income dealers that can accommodate up to 1,000 transactions
per second. It has designed a system that was just brought live in the U.S.,
which is expected to use hundreds of replicated PowerTier application servers
operating in concert when fully deployed to meet the performance and scalability
requirements of its electronic fixed income broker service.

Intranet Supply Chain Management

Federal Express Corporation. The world's largest express transportation
company, FedEx transports more than three million items to over 200 countries
each business day, using a fleet of more than 620 aircraft and 44,000 vehicles.
In its effort to improve on-time deliveries, FedEx has built a global operations
center to monitor and control the movement of shipments worldwide. The global
operations center functions as the nerve center of the FedEx transportation
system, handling daily occurrences including changing flight schedules,
emergency maintenance, inclement weather and excess package volumes. Because the
company's existing mainframe systems lacked the required flexibility and
performance, FedEx turned to us for help in building a high performance intranet
system. By managing complex flight schedule information from multiple data
sources within a PowerTier application server cache, the global operations
center can provide real-time contingency plans, enabling FedEx to provide
consistently high on-time package delivery rates and superior customer service.
FedEx estimates that, using the PowerTier development environment, it has been
able to significantly reduce development time for new system functionality
compared to development in its traditional mainframe environment.

Internet Service Provider Network Management

Cisco Systems, Inc. A worldwide leader in networking for the Internet,
Cisco Systems is committed to delivering hardware and software solutions that
enable Service Providers to meet the rapid growth of the Internet. The Cisco
Service Management System, or CSM, gives Service Providers sophisticated tools
to automate time consuming network management tasks. For this system, Cisco
required a highly scalable, standards-based application server platform for
deploying network management applications for managed business services such as
virtual private networks, Internet telephony and electronic commerce. To meet
these requirements, Cisco chose the PowerTier platform. For the Cisco IP Manager
product within the CSM system, PowerTier application server caching enables
real-time simulation of network configuration changes, preventing costly network
outages. The PowerTier development environment also enables Cisco to create a
common component framework that can be reused to reduce development time for
future CSM network services.

Application Outsourcing over the Internet

Celera Genomics. Celera provides gene discovery and characterization
services for drug discovery and development. Celera's GeneTag technology is a
novel gene expression analysis method that enables pharmaceutical companies to
develop new and potentially life-saving drugs by discovering and monitoring
genes involved in disease. Celera's BioScope software application allows
customers to access their data securely and remotely over the Internet. To allow
clients to quickly analyze and view the GeneTag results, Celera needed a
sophisticated software platform that could process hundreds of thousands of gene
expression comparisons while avoiding data bottlenecks. Celera selected
PowerTier to achieve these goals. The BioScope application utilizes the
PowerTier application server cache for high volume data analysis. With the
PowerTier development environment, Celera has been able to use both the Java and
C++ languages to deliver the BioScope software application in only four months.

10
11

SALES AND MARKETING

We sell our products through both a direct sales force and third party
distributors. As of December 31, 1999, we had 56 people in our sales and
marketing organization, of which 42 were in the United States, 11 were in our
United Kingdom, Germany, and France offices, and three were in our Hong Kong and
Shanghai offices. To support the complex enterprise nature of our sales, our
direct sales force is organized into two-member teams of one sales
representative and one sales engineer. We intend to increase the size of our
direct sales force and to establish additional sales offices domestically and
internationally.

Our sales cycle is relatively long, generally between three and nine
months. A successful sales cycle typically includes presentations to both
business and technical decision makers, as well as a limited pilot program to
establish technical fit.

We engage in a variety of marketing activities, including advertising,
public relations, seminars, trade shows and web site management. In particular,
we have made substantial marketing investments in education and training for the
EJB and C++ markets. We hold regular monthly seminars in order to train
developers in the EJB community. Our web site allows developers to download a
demonstration version of our products.

Systems integrators represent an important and growing referral channel for
our direct sales effort. Systems integrators frequently have relationships with
our target customers and often incorporate our PowerTier platform as part of a
much larger enterprise-wide system enhancement. Currently we have relationships
with global and regional systems integrators, including:

- Cambridge Technology Partners

- Cysive

- Computer Sciences Corporation

- Electronic Data Systems

- ENEA Data

- Genesis Development Corporation

- Lante

- Leading Edge Systems

- Unisys

In international markets, we plan to expand our sales through indirect
channels, such as distributors and original equipment manufacturers. As of
December 31, 1999, we were represented by eight international distributors, who
sell our products in Europe, Asia and Latin America.

COMPETITION

The market for our products is intensely competitive, subject to rapid
change and significantly affected by new product introductions and other market
activities of industry participants. We believe that the principal competitive
factors in our market are:

- performance, including scalability, integrity and availability;

- ability to provide a complete software platform;

- flexibility;

- use of standards-based technology;

- ease of integration with customers' existing enterprise systems;

- ease and speed of implementation;

- quality of support and service;
11
12

- security;

- company reputation; and

- price.

Our competitors include both publicly and privately-held enterprises,
including BEA Systems (WebLogic), Secant Technologies, IBM (WebSphere), Inprise,
Iona Technologies, Oracle (OAS) and Sun Microsystems (iPlanet). Many customers
may not be willing to purchase our PowerTier platform because they have already
invested heavily in databases and other enterprise software components offered
by these competing companies. Many of these competitors have preexisting
customer relationships, longer operating histories, greater financial,
technical, marketing and other resources, greater name recognition and larger
installed bases of customers than we do. Moreover, there are other very large
and established companies, including Microsoft, who offer alternative solutions
and are thus indirect competitors. Further, dozens of companies, such as
Allaire, have announced their intention to support EJB and may compete against
us in the future. These competitors and potential competitors may be able to
respond more quickly to new or emerging technologies and changes in customer
requirements, or to devote greater resources to the development, promotion and
sale of their products than we can. See also "Risk Factors -- Because we compete
with Sun Microsystems, who controls the EJB application server standard, we face
the risk that they may develop this standard to favor their own products" and
"-- Microsoft has established a competing application server standard, which
could diminish the market potential for our products if it gains widespread
acceptance."

In addition, in the PowerTier for C++ market, many potential customers
build their own custom application servers, so we effectively compete against
our potential customers' internal information technology departments.

INTELLECTUAL PROPERTY RIGHTS

Our performance may depend on our ability to protect our proprietary rights
to the technologies used in our principal products. If we are not adequately
protected, our competitors can use the intellectual property that we have
developed to enhance their products and services, which would harm our business.
We rely on a combination of patents, copyright and trademark laws, trade
secrets, confidentiality provisions and other contractual provisions to protect
our proprietary rights, but these legal means afford only limited protection. As
of February 29, 2000, we had four issued United States patents and two pending
United States patent application with allowable subject matter. Despite any
measures taken to protect our intellectual property, unauthorized parties may
attempt to copy aspects of our products or to obtain and use information that we
regard as proprietary. In addition, the laws of some foreign countries may not
protect our proprietary rights as fully as do the laws of the United States.
Thus, the measures we are taking to protect our proprietary rights in the United
States and abroad may not be adequate. Finally, our competitors may
independently develop similar technologies.

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. As the number of
entrants into our market increases, the possibility of an intellectual property
claim against us grows. For example, we may be inadvertently infringing a patent
of which we are unaware. In addition, because patent applications can take many
years to issue, there may be a patent application now pending of which we are
unaware, which will cause us to be infringing when it issues in the future. To
address these patent infringement claims, we may have to enter into royalty or
licensing agreements on disadvantageous commercial terms. Alternatively, we may
be unable to obtain a necessary license. A successful claim of product
infringement against us, and our failure to license the infringed or similar
technology, would harm our business. In addition, any infringement claims, with
or without merit, would be time-consuming and expensive to litigate or settle
and would divert management attention from administering our core business.

In March 1998, we entered into a license agreement with Sun Microsystems,
pursuant to which we granted Sun Microsystems rights to manufacture and sell, by
itself and not jointly with others, products under a number of our patents and
Sun Microsystems granted us rights to manufacture and sell, by ourselves and not

12
13

jointly with others, products under a number of Sun Microsystems' patents. As a
result, Sun Microsystems may develop and sell competing products that would, in
the absence of this license agreement, infringe our patents. Under this
agreement, Sun Microsystems made a one-time payment to us. Neither Sun
Microsystems nor we can transfer the license without the consent of the other
party.

As discussed below in Item 3,"Legal Proceedings," in December 1999 we filed
suit against The Object People and Secant Technologies alleging their
infringement of our patents. We believe our patents are crucial in
differentiating our PowerTier product in the marketplace and establishing
ourselves as a technology leader, enabling innovative e-commerce development,
and more scalable, personalized web sites.

EMPLOYEES

As of December 31, 1999, we had 127 full-time employees, including 56 in
sales and marketing, 46 in research and development, 12 in professional services
and 13 in general and administrative functions. From time to time, we also
employ independent contractors to support our sales and marketing, research and
development, professional services and administrative organizations.

EXECUTIVE OFFICERS

The following table sets forth specific information regarding our executive
officers as of February 29, 2000:

NAME AGE POSITION
---- --- --------

Chairman of the Board of Directors and Chief Executive
Christopher T. Keene..... 39 Officer
Laurence R. Hootnick..... 58 President and Director
Lyn Anderson............. 59 Vice President of Human Resources
Vice President of Strategic Technology and Chief Technology
James H. Barton.......... 36 Officer
Alan Cohen............... 47 Senior Vice President of Sales and International Operations
Carol Curry.............. 42 Vice President Marketing
Barry Goss............... 53 Vice President of Strategic Marketing
Derek Henninger.......... 37 Vice President of Engineering
Randy Hietter............ 44 Vice President Product Management
Christine Russell........ 50 Chief Financial Officer and Secretary

Each executive officer serves at the sole discretion of the Board of Directors.

CHRISTOPHER T. KEENE co-founded Persistence and has served as Chief
Executive Officer and a director since June 1991 and as Chairman of the Board
since April 1999. From June 1991 to April 1999, Mr. Keene also served as
President. Before founding Persistence, Mr. Keene was a Manager at McKinsey &
Co., a management consulting firm, from July 1987 to June 1991. Mr. Keene holds
a B.S. degree in Mathematical Sciences with honors from Stanford University and
an M.B.A. degree from The Wharton School at the University of Pennsylvania.

LAURENCE R. HOOTNICK joined Persistence as President and director in April
1999. From June 1996 to April 1999, Mr. Hootnick served as President and Chief
Executive Officer of Consilium, Inc., a manufacturer of factory control software
for integrated circuits. From December 1995 to May 1996, Mr. Hootnick served as
Senior Vice President of Power Computing, a manufacturer of personal computers.
From June 1995 to November 1995, he worked as a private investor and consultant.
Previously, Mr. Hootnick was employed as Senior Vice President, Chief Operating
Officer and director of NetManage, Inc., a developer of networking software, as
President and Chief Executive Officer of Maxtor, a manufacturer of hard disk
drives and as Senior Vice President of Intel, a semiconductor manufacturer. Mr.
Hootnick holds a B.S. degree in Industrial Management from The Massachusetts
Institute of Technology and an M.B.A. degree from the University of Maryland.

LYN ANDERSON joined Persistence as Vice President of Human Resources in
February 2000. From September 1990 to February 2000, Ms. Anderson served in
various human resources management positions

13
14

with Sun Microsystems' software division, most recently as Senior Human
Resources Manager from July 1994 to February 2000. She also served in human
resources positions with Cybeq Systems, a semiconductor capital equipment
manufacturer, and Unisys, a computer hardware, software and services company.
She holds a B.S. degree in Industrial Psychology and an M.S. degree in
Industrial Counseling from California State University, Hayward.

JAMES H. BARTON joined Persistence in October 1997 as a Senior Field
Engineer, a position he held until November 1999, when he was appointed Director
of Strategic Technology. In February 2000, he was appointed Vice President of
Strategic Technology and Chief Technology Officer. From June 1996 to October
1997, Mr. Barton was Director of Internet Products and Services for Applied
Reasoning Systems, an information technology company. From July 1994 to June
1996, he was a Senior Systems Engineer with ParcPlace Systems, a pioneering
company in distributed object technology. Previously, he held field engineering
positions at information technology companies Object Design, Rational Software,
and IBM. Mr. Barton holds a B.S. degree in Electrical Engineering from Tennessee
Technological University, an M.S. degree in Computer Engineering from Carnegie
Mellon University, and an M.B.A. degree from the University of Maryland.

ALAN COHEN joined Persistence as Vice President of Sales in December 1997
and was promoted to Senior Vice President of Sales and International Operations
in December 1998. From May 1996 to December 1997, Mr. Cohen served as Vice
President of Sales at Cygnus Solutions, a developer of open-source software.
From May 1994 to May 1996, he served as Vice President of Sales and Operations
at Information Handling Services, an information technology company. From 1990
to 1994, Mr. Cohen was Director of Sales and Marketing at International Business
Machines Corporation. Mr. Cohen holds B.S. and M.S. degrees in Biology from the
University of Connecticut.

CAROL CURRY joined Persistence as Vice President of Marketing in November
1999. Before joining Persistence, Ms. Curry was Vice President of Marketing for
POET Software, a data management software company, from July 1997 to November
1999. From June 1996 to July 1997, she served as Director of Database Marketing
for Informix, a database software company. Until June 1996, Ms. Curry was
Product Marketing Manager for eight years at Silicon Graphics, a 3D computer
graphics company. Ms. Curry holds B.S. degrees in Electrical Engineering and
Computer Science from Princeton University.

BARRY GOSS joined Persistence in December 1997 as Vice President of
Marketing, an office he held until October 1998, when he was appointed Vice
President of Strategic Marketing. From May 1994 to December 1997, Mr. Goss was
the founder and President of Congruent Concepts, a management consulting firm
serving emerging growth companies. From December 1988 to May 1994, Mr. Goss
served as Director of Marketing for Verity, Inc., a provider of content-based
search engine software. Mr. Goss holds a B.S. degree in Engineering Sciences
from the State University of New York at Stony Brook and an M.S. degree in
Mechanical Engineering and Ph.D. in Applied Mechanics from the University of
Connecticut.

DEREK HENNINGER co-founded Persistence and has served as Vice President of
Engineering since June 1991. Previously, Mr. Henninger worked as a senior
software engineer in the Data Interpretation Division of Metaphor Corporation, a
software and hardware company, from September 1990 to June 1991. Mr. Henninger
holds a B.A. degree in Economics and a B.S. degree in Computer Science and
Mathematics from the University of California at Davis.

RANDY HIETTER joined Persistence in January 1999 as Director of Product
Marketing, and was promoted to Vice President of Product Management in November
1999. Prior to joining Persistence, from November 1995 to November 1998, Mr.
Hietter served in various product marketing management positions, most recently
as Director of Product Marketing, at Inprise, an internet infrastructure and
application development tool software company. From September 1993 to October
1995, Mr. Hietter served as Senior Product Marketing Manager at Sybase, a
database software company. He holds a B.A. degree in Economics from Dartmouth
College and an M.B.A. from the Amos Tuck School at Dartmouth.

CHRISTINE RUSSELL joined Persistence in October 1997 and has served as
Chief Financial Officer and Secretary since December 1997. Previously, she
served as Chief Financial Officer for Cygnus Solutions, an

14
15

open source platform software company, from October 1995 to October 1997. From
April 1992 to October 1995, Ms. Russell served as Chief Financial Officer of
Valence Technology, a developer of lithium polymer batteries. Previously, she
served as Chief Financial Officer at Covalent Technologies, Inc., a vertical
software company, as Vice President of Finance of Stellar Systems, Inc. a
security software and hardware company, and as Corporate Controller of Shugart
Corporation, a subsidiary of Xerox. She holds a B.A. degree in English
Literature and an M.B.A. degree from Santa Clara University.

ITEM 2. PROPERTIES.

We are headquartered in San Mateo, California, where we lease approximately
20,000 square feet of office space under a lease expiring on June 30, 2000, with
renewal options extending through June 30, 2002. We also maintain sales offices
in nine U.S. states, the United Kingdom, Germany, France, Hong Kong and
Shanghai. We believe that our existing facilities are adequate to meet our
current and foreseeable requirements or that suitable additional or substitute
space will be available as needed.

ITEM 3. LEGAL PROCEEDINGS.

On December 6, 1999, the Company filed a patent infringement action in the
United States District Court for the Northern District of California against The
Object People Inc. and The Object People (U.S.) Inc. (collectively, "TOP"),
Persistence Software, Inc. v The Object People Inc., et al., Case No. C 99-5182
MMC (N.D. Cal.). On December 14, 1999, the Company filed a similar action
against Secant Technologies, Inc. ("Secant"), Persistence Software, Inc. v.
Secant Technologies, Inc., Case No. C 00-20210 SW (N.D. Cal.). A motion is
pending to consolidate the two actions into one lawsuit. The Company alleges in
both cases that TOP and Secant's software products infringe three of the
Company's patents, and TOP and Secant have contributed to the infringement of,
and induced the infringement of, the Company's patents by third parties (i.e.,
their respective customers). The three patents owned by the Company that are at
issue in these actions are U.S. Patent No. 5,499,371, No. 5,615,362, and No.
5,706,506. The Company also has asserted claims against TOP and Secant for
unfair business practices under California Business and Professions Code
sec.sec. 17200 et seq. ("Section 17200").

On December 22, 1999, TOP filed its Answer to the Company's Complaint and
asserted counterclaims for declaratory relief that the Company's patents are
invalid and unenforceable, as well as counterclaims that allege that the
Company's filing of the lawsuit itself constitutes a violation of the Lanham Act
and unfair business practices under Section 17200. On January 31, 2000, Secant
filed its Answer to the Company's Complaint and asserted only counterclaims for
declaratory relief that the Company's patents are invalid and unenforceable.

Both suits are in the early stages, and discovery has not been completed.
While management believes that the Company's claims are valid, that the
counterclaims asserted by TOP and Secant are without merit, and that any
potential liability that the Company might incur to TOP or Secant is immaterial
as the only counterclaims alleging damages are TOP's claims under the Lanham Act
and Section 17200, it is not possible at this time to determine the ultimate
outcome of these actions.

Except as described above, the Company is not currently subject to any
material legal proceedings, though it may from time to time become a party to
various legal proceedings that arise in the ordinary course of business.

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

None.

15
16

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

PRICE RANGE OF COMMON STOCK. Our Common Stock has been traded on the Nasdaq
National Market under the symbol PRSW since the effective date of our initial
public offering on June 24, 1999. Prior to the initial public offering, no
public market existed for our Common Stock. The price per share reflected in the
table below represents the range of low and high closing sale prices for our
Common Stock as reported in the Nasdaq National Market for the periods
indicated.

HIGH LOW
------ ------

For The Year Ended December 31, 1999:
Second Quarter from June 24, 1999......................... $13.81 $11.00
Third Quarter............................................. $28.88 $12.63
Fourth Quarter............................................ $26.06 $ 8.25

We had 242 stockholders of record as of February 29, 2000, including
several holders who are nominees for an undetermined number of beneficial
owners.

DIVIDEND POLICY. We have never paid dividends on our common stock or
preferred stock. We currently intend to retain any future earnings to fund the
development of our business. Therefore, we do not currently anticipate declaring
or paying dividends in the foreseeable future. In addition, our line of credit
agreement prohibits us from paying dividends.

USE OF PROCEEDS FROM SALES OF REGISTERED SECURITIES. Our registration
statement on Form S-1, SEC File No. 333-76867, for our initial public offering
of common stock became effective on June 24, 1999. We registered and sold an
aggregate of 3,450,000 shares of common stock under the registration statement
at a per share price of $11.00. Our underwriters were BancBoston Robertson
Stephens, U.S. Bancorp Piper Jaffray, and Soundview Technology Group. Offering
proceeds, net of aggregate underwriting commissions and discounts of $2.7
million and other offering transaction expenses of $1.1 million, were $34.1
million. None of the underwriting commissions and discounts or other offering
transaction expenses were direct or indirect payments to our directors,
officers, or holders of 10% or more of our stock. From June 24, 1999 through
December 31, 1999, we have used the net offering proceeds as follows:

Working capital expenditures................................ $ 6.7 millio
Acquiring technologies...................................... 2.4 millio
-----
9.1 millio
Investing in short-term, investment grade, interest-bearing
securities................................................ 25.0 millio
-----
$34.1 millio
=====

Each of the above amounts represents our best estimate of our use of the
net proceeds. None of the net offering proceeds were paid directly or indirectly
to our directors, officers, or holders of 10% or more of our stock.

16
17

ITEM 6. SELECTED FINANCIAL DATA.

The following selected consolidated financial data should be read in
conjunction with the Consolidated Financial Statements and Notes thereto and
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations," which are included elsewhere in this report on Form 10-K. The
consolidated statements of operations data for the years ended December 31,
1999, 1998 and 1997, and the consolidated balance sheet data at December 31,
1999 and 1998, are derived from audited consolidated financial statements
included elsewhere in this report on Form 10-K. The consolidated statements of
operations data for the years ended December 31, 1996 and 1995, and the
consolidated balance sheet data as of December 31, 1997, 1996 and 1995 are
derived from audited financial statements not included in this report on Form
10-K.

YEARS ENDED DECEMBER 31,
---------------------------------------------------
1999 1998 1997 1996 1995
-------- ------- ------- ------- ------
(IN THOUSANDS, EXCEPT PER SHARE DATA)

CONSOLIDATED STATEMENTS OF OPERATIONS
DATA:
Revenues:
License................................ $ 10,890 $ 7,478 $ 3,546 $ 2,603 $3,053
Service................................ 3,553 2,682 1,867 1,171 954
-------- ------- ------- ------- ------
Total revenues................. $ 14,443 $10,160 $ 5,413 $ 3,774 $4,007
-------- ------- ------- ------- ------
Loss from operations..................... (12,165) (4,090) (4,686) (3,345) (119)
Net loss................................. (11,306) (4,089) (4,674) (3,311) (118)
Basic and diluted net loss per
share(1)............................... $ (0.86) $ (0.59) $ (0.73) $ (0.54) $(0.02)
======== ======= ======= ======= ======
Shares used in basic and diluted net loss
per share calculation.................. 13,091 6,879 6,366 6,135 5,365
======== ======= ======= ======= ======
Pro forma basic and diluted net loss per
share(2)............................... $ (0.68) $ (0.31)
======== =======
Shares used in pro forma basic and
diluted net loss per share
calculation............................ 16,674 13,183
======== =======

AS OF DECEMBER 31,
-----------------------------------------------
1999 1998 1997 1996 1995
------- ------ ------ ------ ------
(IN THOUSANDS)

CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and short-term
investments................................ $29,652 $4,938 $2,610 $4,535 $ 370
Working capital.............................. 29,804 3,384 1,604 4,437 264
Total assets................................. 39,092 7,064 5,447 6,478 1,424
Long-term obligations........................ 354 714 419 528 121
Total stockholders' equity................... 32,018 3,422 2,057 4,697 592

- ---------------
(1) Basic net loss per common share excludes dilution and is computed by
dividing net loss by the weighted average number of common shares
outstanding for the period (excluding shares subject to repurchase). Diluted
net loss per common share was the same as basic net loss per common share
for all periods presented since the effect of any potentially dilutive
securities is excluded as they are anti-dilutive because of the Company's
net losses.

(2) Upon the initial public offering, all outstanding shares of convertible
preferred stock were converted into an equal number of shares of common
stock. The pro forma basic and diluted net loss per share calculation
includes the weighted average number of shares of outstanding convertible
preferred stock as if they were outstanding shares of common stock.

17
18

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.

The following Management's Discussion and Analysis of Financial Condition
and Results of Operations should be read in conjunction with our consolidated
financial statements as of December 31, 1999 and 1998 and for each of the years
ended December 31, 1999, 1998, and 1997, included elsewhere in this annual
report on Form 10-K. In addition, this Management's Discussion and Analysis of
Financial Condition and Results of Operations and other parts of this annual
report on Form 10-K contain forward-looking statements that involve risks and
uncertainties. Words such as "anticipates," "believes, "plans," "expects,"
"future," "intends, and similar expressions identify forward-looking statements.
These statements are not guarantees of future performance and are subject to
certain risks and uncertainties that could cause actual results to differ
materially from those expressed or forecasted. Factors that might cause such
differences include, but are not limited to, those discussed in the section
entitled "Additional Factors That May Affect Future Results" and those appearing
elsewhere in this annual report on Form 10-K. Readers are cautioned not to place
undue reliance on these forward-looking statements, which reflect management's
analysis only as of the date hereof. We assume no obligation to update these
forward-looking statements to reflect actual results or changes in factors or
assumptions affecting forward-looking statements.

OVERVIEW

We are a leading provider of transactional application server software
products that comprise the Internet software infrastructure for high volume,
high performance electronic commerce applications. We were incorporated and
began operations in 1991. Our first products incorporated patented
object-to-relational mapping and caching technologies, which have since become
the foundation for our PowerTier product family. From 1992 to 1996, we
introduced a variety of enhancements to these products, including a patented
data transformation technology for mapping objects to database tables, and
caching capabilities.

In 1996, we developed our PowerTier transactional application server, which
integrates all of the previously released Persistence products with new shared
transactional caching technologies, which enable multiple users to
simultaneously access the same cached data. We first shipped our PowerTier for
C++ transactional application server in 1997. Sales of PowerTier for C++
accounted for the majority of our revenues in 1997, 1998, and 1999, during which
years we added a professional services staff to enable our customers to
implement PowerTier more rapidly. We were one of the first companies to adopt
and implement the EJB specification. In 1998, we introduced PowerTier for
EJB,which customers have frequently purchased together with PowerTier for C++.
Our next version of PowerTier for EJB is currently in use by several major
customers and was commercially released in 1999. We currently plan to continue
to focus product development efforts on enhancements to both the PowerTier for
C++ and the PowerTier for EJB products.

Our revenues, which consist of software license revenues and service
revenues, totaled $5.4 million in 1997, $10.2 million in 1998, and $14.4 million
in 1999. License revenues consist of licenses of our software products, which
generally are priced based on the number of users or servers. Service revenues
consist of professional services consulting, customer support and training.
Because we only commenced selling application servers in 1997, we have a limited
operating history in the application server market. We expect that, as a
percentage of total revenues, sales of PowerTier for EJB transaction servers
will increase and sales of PowerTier for C++ will decrease in the future.

We market our software and services primarily through our direct sales
organizations in the United States, the United Kingdom, France, Germany, Hong
Kong and Shanghai. Revenues from PowerTier licenses and services to customers
outside the United States represented $639,000, or 12% of total revenues, in
1997, $2.9 million, or 29% of total revenues, in 1998, and $4.1 million, or 28%
of total revenues, in 1999. Our future success will depend, in part, on our
successful development of international markets for our products.

Historically, we have received a substantial portion of our revenues from
product sales to a limited number of customers. Sales of products to our top
five customers accounted for 15% of total revenues in 1997, 55% of total
revenues in 1998, and 35% of total revenues in 1999. In the future, it is
possible that a relatively few large customers could continue to account for a
relatively large proportion of our revenues.

18
19

To date, we have sold our products primarily through our direct sales
force, and we will need to continue to hire many more sales people in order to
meet our sales goals. In addition, our ability to achieve significant revenue
growth will depend in large part on our success in establishing and leveraging
relationships with systems integrators and other third parties.

For 1997 and prior years, we recognized revenues in accordance with the
American Institute of Certified Public Accountants Statement of Position 91-1.
Commencing in 1998, we began recognizing revenues in accordance with the
American Institute of Certified Public Accountants Statement of Position 97-2,
"Software Revenue Recognition," as amended by Statements of Position 98-4 and
98-9. Our adoption of these new standards has not to date had a material effect
on our revenue recognition. Future implementation guidance relating to these
standards may result in unanticipated changes in our revenue recognition
practices, and these changes could affect our future revenues and earnings.

We recognize license revenues upon shipment of the software if collection
of the resulting receivable is probable, an executed agreement has been signed,
the fee is fixed or determinable and vendor-specific objective evidence exists
to allocate a portion of the total fee to any undelivered elements of the
arrangement. Undelivered elements in these arrangements typically consist of
services. For sales made through distributors, revenue is recognized upon
shipment. Distributors have no right of return. We recognize revenues from
customer training, support and consulting services as the services are
performed. We generally recognize support revenues ratably over the term of the
support contract. If support or professional services are included in an
arrangement that includes a license agreement, amounts related to support or
professional services are allocated based on vendor-specific objective evidence.
Vendor-specific objective evidence for support and professional services is
based on the price when such elements are sold separately, or, when not sold
separately, the price established by management having the relevant authority.
Arrangements which require significant modification or customization of software
are recognized under the percentage of completion method.

Since inception, we have incurred substantial research and development
costs and have invested heavily in the expansion of our sales, marketing and
professional services organizations to build an infrastructure to support our
long-term growth strategy. The number of our employees increased from 77 as of
December 31, 1998 to 127 as of December 31, 1999, representing an increase of
65%. As a result of investments in our infrastructure, we have incurred net
losses in each fiscal quarter since 1996 and, as of December 31, 1999, had an
accumulated deficit of $24.1 million. We anticipate that our operating expenses
will increase substantially for the foreseeable future as we expand our product
development, sales and marketing and other staff. In addition, we expect to
incur substantial expenses associated with sales personnel, referral fees,
marketing programs and increased administrative expenses associated with being a
public company. Accordingly, we expect to incur net losses for the foreseeable
future.

We believe that period-to-period comparisons of our operating results are
not meaningful and should not be relied upon as indicative of future
performance. Our prospects must be considered in light of the risks, expenses
and difficulties frequently encountered by companies in early stages of
development, particularly companies in new and rapidly evolving markets. We may
not achieve or maintain profitability in the future. Our success depends
significantly upon broad market acceptance of our PowerTier for EJB application
server. Because Sun Microsystems controls the EJB standard, we need to maintain
a good working relationship with them to develop future versions of PowerTier
for EJB, as well as additional products using the EJB standard. Our performance
will also depend on the growth and widespread adoption of the market for
business-to-business electronic commerce over the Internet.

RESULTS OF OPERATIONS

YEARS ENDED DECEMBER 31, 1998 AND 1999

Revenues

Our revenues were $10.2 million for 1998 and $14.4 million for 1999,
representing an increase of 42%. International revenues were $2.9 million for
1998 and $4.1 million for 1999. In 1998, sales of software licenses

19
20

to Cisco accounted for 14% of total revenues, and sales of software licenses to
Instinet accounted for 17% of total revenues. In 1999, sales of products to
Cisco accounted for 13% of total revenues.

License Revenues. License revenues were $7.5 million for 1998 and $10.9
million for 1999, representing an increase of 46%. License revenues represented
74% of total revenues for 1998 and 75% of total revenues for the 1999. The
increase in software license revenues was primarily due to sales of our new
PowerTier for EJB application server and the increased size and productivity of
our sales team.

Service Revenues. Our service revenues were $2.7 million for 1998 and $3.6
million for 1999, representing an increase of 33%. The increase in service
revenues was primarily due to an increase in customer support fees related to
increased sales of our PowerTier platform. Service revenues represented 26% of
total revenues 1998 and 25% of total revenues for 1999.

Cost of Revenues

Cost of License Revenues. Cost of license revenues consists of packaging,
documentation and associated shipping costs. Our cost of license revenues was
$239,000 for 1998 and $170,000 for 1999. As a percentage of license revenues,
cost of license revenues were 3% for 1998 and 2% for 1999. This decrease was
primarily attributable to lower packaging and document distribution costs as a
result of a change to electronic distribution of these materials.

Cost of Service Revenues. Cost of service revenues consists of personnel
and other costs related to professional services, technical support and
training. Our cost of service revenues was $1.4 million for 1998 and $2.6
million for 1999, representing an increase of 92%. This increase was primarily
due to increased staffing in our support organization to support a greater
installed base of customers. As a percentage of service revenues, cost of
service revenues were 51% for 1998 and 74% for 1999. In particular, cost of
service revenues as a percentage of service revenues may vary between periods
due to our use of third party professional services.

Operating Expenses

Sales and Marketing. Sales and marketing expenses consist primarily of
salaries, commissions and bonuses earned by sales and marketing personnel,
travel and entertainment, and promotional expenses. Our sales and marketing
expenses were $7.2 million for 1998 and $14.1 million for 1999, representing an
increase of 96%. This increase was primarily due to our investment in our sales
and marketing infrastructure, which included significant personnel-related costs
to recruit and hire sales people and sales engineers, their compensation,
including sales commissions, advertising and travel expenses, additional sales
office costs, professional services and trade show expenses. Sales and marketing
expenses represented 70% of total revenues for 1998 and 97% of total revenues
for 1999. We believe that a significant increase in our sales and marketing
efforts is essential for us to maintain our market position and further increase
acceptance of our products. Accordingly, we anticipate we will continue to
invest significantly in sales and marketing for the foreseeable future, and
sales and marketing expenses will increase in future periods.

Research and Development. Research and development expenses consist
primarily of salaries and benefits for software developers, product managers and
quality assurance personnel and payments to outside software developers. Our
research and development expenses were $4.2 million for 1998 and $6.4 million
for 1999, representing an increase of 52%. This increase was primarily related
to an increase in employee and consultant software developers and program
management and documentation personnel hired to support product development.
Research and development expenses for 1999 also include a one-time $303,000
compensation charge associated with the issuance of common stock to an investor
at a price which was less than the deemed fair value for accounting purposes.
Research and development expenses represented 42% of total revenues for 1998 and
45% of total revenues for 1999. We believe that a significant increase in our
research and development investment is essential for us to maintain our market
position, to continue to expand our product line and to enhance our technology.
Accordingly, we anticipate that we will continue to invest significantly in
product research and development for the foreseeable future, and research and
development expenses are likely to increase in future periods.
20
21

General and Administrative. General and administrative expenses consist
primarily of salaries, benefits and related costs for our finance,
administrative and general management personnel. Our general and administrative
expenses were $1.2 million for 1998 and $2.8 million for 1999, representing an
increase of 123%. This increase was primarily the result of the hiring of
additional finance and administrative personnel, additional professional
services and insurance costs associated with being a public company, and
bad-debt write-off of $467,000. General and administrative expenses represented
12% of total revenues for 1998 and 20% of total revenues for 1999 (16% without
the bad-debt write off). We believe that our general and administrative expenses
will continue to increase as a result of the expenses associated with being a
public company, including annual and other public reporting costs, directors'
and officers' liability insurance, investor relations programs and accounting
and legal expenses.

Net Interest Income. Net interest income consists primarily of earnings on
our cash cash equivalent and short-term investment balances, offset by interest
expense related to obligations under capital leases and other borrowings. Net
interest income was $1,000 for 1998 and $859,000 for 1999, representing an
increase of $858,000. This increase was earned on the net proceeds received from
our initial public offering of common stock on June 24, 1999. We expect that net
interest income will decrease as we continue to use our net proceeds from our
initial public offering.

Stock-Based Compensation. Some options granted and common stock issued
during the years ended December 31, 1997 and 1998 and during 1999 have been
considered to be compensatory, as the estimated fair value for accounting
purposes was greater than the stock price as determined by the board of
directors on the date of grant or issuance. Total deferred stock compensation
associated with equity transactions as of December 31, 1999 was $1.2 million,
net of amortization. Deferred stock compensation is being amortized ratably over
the vesting periods of these securities. Amortization expense was $331,000 in
1998 and $971,000 in 1999. We expect to record amortization expense related to
these securities of approximately $411,000 in 2000 and $320,000 in 2001.

Provision for Income Taxes. Since inception, we have incurred net operating
losses for federal and state tax purposes and have not recognized any tax
provision or benefit. As of December 31, 1999, we had $20.6 million of federal
and $8.2 million of state net operating loss carryforwards available to offset
future taxable income. The federal net operating loss carryforwards expire
through 2019, while the state net operating loss carryforwards expire through
2004. The net operating loss carryforwards for state tax purposes are
substantially less than for federal tax purposes, primarily because only 50% of
state net operating loss carryforwards can be utilized to offset future state
taxable income. The Tax Reform Act of 1986 limits the use of net operating loss
carryforwards in situations where changes occur in the stock ownership of a
company. If we should be acquired or otherwise have an ownership change, as
defined in the Tax Reform Act of 1986, our utilization of these carryforwards
could be restricted.

As of December 31, 1999, the Company also had research and development tax
credit carryforwards of $968,000 and $529,000 available to offset future federal
and state income taxes, respectively. The federal credit carryforward expires in
2019, while the state credit carryforward has no expiration.

We have placed a full valuation allowance against our net deferred tax
assets due to the uncertainty surrounding the realization of these assets. We
evaluate on a quarterly basis the recoverability of the net deferred tax assets
and the level of the valuation allowance. If and when we determine that it is
more likely than not that the deferred tax assets are realizable, the valuation
allowance will be reduced.

YEARS ENDED DECEMBER 31, 1997 AND 1998

Revenues

Our revenues were $5.4 million in 1997 and $10.2 million in 1998,
representing an increase of 88%. Revenues derived from international operations
were $639,000 in 1997 and $2.9 million in 1998. In 1997, sales of products to
Lucent accounted for 11% of total revenues. In 1998, sales of software licenses
to Cisco accounted for 14% of total revenues, and sales of software licenses to
Instinet accounted for 17% of total revenues.

21
22

License Revenues. Our license revenues were $3.5 million in 1997 and $7.5
million in 1998, representing an increase of 111% . License revenues represented
66% of total revenues in 1997 and 74% of total revenues for 1998. The increase
in license revenues was attributable primarily to an increase in the size and
productivity of our sales force, including the introduction of our direct sales
team in Europe, and the release of our PowerTier for EJB product

Service Revenues. Our service revenues were $1.9 million in 1997 and $2.7
million in 1998, representing an increase of 44%. Service revenues represented
34% of total revenues in 1997 and 26% of total revenues in 1998. The increase in
service revenues was primarily due to an increase in customer support fees
related to an increase in our installed base of PowerTier customers, and, to a
lesser extent, an increase in professional services fees.

Cost of Revenues

Cost of License Revenues. Cost of license revenues was $342,000 in 1997 and
$239,000 in 1998, representing a decrease of 30%. Cost of license revenues as a
percentage of license revenues was 10% for 1997 and 3% for 1998. The decrease in
cost of license revenues was attributable primarily due to lower packaging and
document distribution costs.

Cost of Service Revenues. Cost of service revenues was $729,000 in 1997 and
$1.4 million in 1998, representing an increase of 88%. Cost of service revenues
as a percentage of service revenues was 39% in 1997 and 51% for 1998. The
increase was due to increased staffing in our professional services and support
organizations.

Operating Expenses

Sales and Marketing. Sales and marketing expenses were $4.7 million in 1997
and $7.2 million in 1998, representing an increase of 52%. Sales and marketing
expenses were 87% of total revenues in 1997 and 71% of total revenues for 1998.
The dollar increase primarily reflected our investment in our sales and
marketing infrastructure, which included significant personnel-related expenses
such as salaries, benefits and commissions, and, to a lesser extent, travel and
entertainment expenses, trade shows and other marketing expenses.

Research and Development. Research and development expenses were $3.0
million in 1997 and $4.2 million in 1998, representing an increase of 43%.
Research and development expenses represented 55% of total revenues in 1997 and
42% of total revenues in 1998. This dollar increase was primarily related to the
increase in headcount to support product development and, to a lesser extent, an
increase in average compensation.

General and Administrative. General and administrative expenses were $1.4
million in 1997 and $1.2 million in 1998, representing a decrease of 9%. General
and administrative expenses represented 25% of total revenues in 1997 and 12% of
total revenues in 1998. The dollar decrease in general and administrative
expenses was attributable primarily to a decrease in consulting fees, offset in
part by an increase in headcount and average compensation.

Net Interest Income. Net interest income was $12,000 in 1997 and $1,000 in
1998. This decrease in net interest income was due to an increase in interest
expense related to obligations under capital leases and an equipment loan.

Stock-Based Compensation. We recorded no stock-based compensation expense
for 1997. As of December 31, 1998, total deferred stock compensation associated
with equity transactions amounted to $2.2 million, net of amortization.
Amortization expense was $331,000 in 1998.

22
23

QUARTERLY RESULTS OF OPERATIONS

The following table sets forth unaudited consolidated statement of
operations data for the each of the twelve quarters in the three-year period
ended December 31, 1999, as well as this data expressed as a percentage of our
total revenues for the periods indicated. This data has been derived from our
unaudited consolidated financial statements, which have been prepared on the
same basis as the audited consolidated financial statements and, in the opinion
of our management, include all adjustments, consisting of normal recurring
adjustments, necessary for a fair presentation of the information when read in
conjunction with the consolidated financial statements and notes thereto. Our
quarterly results have been in the past and may in the future be subject to
significant fluctuations. As a result, we believe that results of operations for
interim periods should not be relied upon as any indication of the results to be
expected in any future period.

QUARTER ENDED
--------------------------------------------------------------------------------------
MAR. 31, JUN. 30, SEP. 30,, DEC. 31, MAR. 31, JUN. 30, SEP. 30, DEC. 31,
1997 1997 1997 1997 1998 1998 1998 1998
-------- -------- --------- -------- -------- -------- -------- --------
(IN THOUSANDS, EXCEPT PERCENTAGE DATA)

CONSOLIDATED STATEMENT OF
OPERATIONS DATA
Revenues:
License...................... $ 659 $ 1,044 $ 696 $ 1,147 $ 1,004 $ 1,447 $2,250 $2,777
Service...................... 271 315 414 867 706 604 643 729
------- ------- ------- ------- ------- ------- ------ ------
Total revenues......... 930 1,359 1,110 2,014 1,710 2,051 2,893 3,506
------- ------- ------- ------- ------- ------- ------ ------
Cost of revenues:
License...................... 39 67 120 116 56 63 93 27
Service...................... 59 123 164 383 326 345 334 367
------- ------- ------- ------- ------- ------- ------ ------
Total cost of
revenues............. 98 190 284 499 382 408 427 394
------- ------- ------- ------- ------- ------- ------ ------
Gross profit................... 832 1,169 826 1,515 1,328 1,643 2,466 3,112
------- ------- ------- ------- ------- ------- ------ ------
Operating expenses:
Sales and marketing.......... 1,069 1,257 1,116 1,270 1,687 1,449 1,885 2,147
Research and development..... 558 724 722 950 1,038 1,072 1,032 1,092
General and administrative... 257 336 306 463 311 272 290 364
Amortization of purchased
intangibles................ -- -- -- -- -- -- -- --
------- ------- ------- ------- ------- ------- ------ ------
Total operating
expenses............. 1,884 2,317 2,144 2,683 3,036 2,793 3,207 3,603
------- ------- ------- ------- ------- ------- ------ ------
Loss from operations........... (1,052) (1,148) (1,318) (1,168) (1,708) (1,150) (741) (491)
Interest income (expense),
net.......................... 9 6 -- (3) 4 (20) (20) 37
------- ------- ------- ------- ------- ------- ------ ------
Net loss....................... $(1,043) $(1,142) $(1,318) $(1,171) $(1,704) $(1,170) $ (761) $ (454)
======= ======= ======= ======= ======= ======= ====== ======
AS A PERCENTAGE OF TOTAL
REVENUES:
Revenues:
License...................... 70.9% 76.8% 62.7% 57.0% 58.7% 70.6% 77.8% 79.2%
Service...................... 29.1 23.2 37.3 43.0 41.3 29.4 22.2 20.8
------- ------- ------- ------- ------- ------- ------ ------
Total revenues......... 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0
------- ------- ------- ------- ------- ------- ------ ------
Cost of revenues:
License...................... 4.2 4.9 10.8 5.8 3.3 3.1 3.2 0.8
Service...................... 6.3 9.1 14.8 19.0 19.0 16.8 11.5 10.4
------- ------- ------- ------- ------- ------- ------ ------
Total cost of
revenues............. 10.5 14.0 25.6 24.8 22.3 19.9 14.7 11.2
------- ------- ------- ------- ------- ------- ------ ------
Gross margin................... 89.5 86.0 74.4 75.2 77.7 80.1 85.3 88.8
------- ------- ------- ------- ------- ------- ------ ------
Operating expenses:
Sales and marketing.......... 114.9 92.5 100.5 63.1 98.7 70.6 65.2 61.2
Research and development..... 60.1 53.3 65.0 47.2 60.7 52.3 35.7 31.1
General and administrative... 27.6 24.7 27.6 22.9 18.1 13.3 10.0 10.5
Amortization of purchased
intangibles................ -- -- -- -- -- -- -- --
------- ------- ------- ------- ------- ------- ------ ------
Total operating
expenses............. 202.6 170.5 193.1 133.2 177.5 136.2 110.9 102.8
------- ------- ------- ------- ------- ------- ------ ------
Loss from operations........... (113.1) (84.5) (118.7) (58.0) (99.8) (56.1) (25.6) (14.0)
Interest income (expense),
net.......................... 0.9 0.5 -- (0.1) 0.2 (0.9) (0.7) 1.1
------- ------- ------- ------- ------- ------- ------ ------
Net loss....................... (112.2)% (84.0)% (118.7)% (58.1)% (99.6)% (57.0)% (26.3)% (12.9)%
======= ======= ======= ======= ======= ======= ====== ======

QUARTER ENDED
-----------------------------------------
MAR. 31, JUN. 30, SEP. 30, DEC. 31,
1999 1999 1999 1999
-------- -------- -------- --------
(IN THOUSANDS, EXCEPT PERCENTAGE DATA)

CONSOLIDATED STATEMENT OF
OPERATIONS DATA
Revenues:
License...................... $ 2,116 $ 3,463 $ 1,747 $ 3,564
Service...................... 747 784 878 1,144
------- ------- ------- -------
Total revenues......... 2,863 4,247 2,625 4,708
------- ------- ------- -------
Cost of revenues:
License...................... 42 56 19 53
Service...................... 580 695 490 868
------- ------- ------- -------
Total cost of
revenues............. 622 751 509 921
------- ------- ------- -------
Gross profit................... 2,241 3,496 2,116 3,787
------- ------- ------- -------
Operating expenses:
Sales and marketing.......... 2,015 2,965 4,057 5,024
Research and development..... 1,806 1,305 1,533 1,713
General and administrative... 383 538 1,146 753
Amortization of purchased
intangibles................ -- 63 188 325
------- ------- ------- -------
Total operating
expenses............. 4,204 4,862 6,924 7,815
------- ------- ------- -------
Loss from operations........... (1,963) (1,366) (4,808) (4,028)
Interest income (expense),
net.......................... 48 42 410 358
------- ------- ------- -------
Net loss....................... $(1,915) $(1,324) $(4,398) $(3,670)
======= ======= ======= =======
AS A PERCENTAGE OF TOTAL
REVENUES:
Revenues:
License...................... 73.9% 81.5% 66.6 75.7
Service...................... 26.1 18.5 33.4 24.3
------- ------- ------- -------
Total revenues......... 100.0 100.0 100.0 100.0
------- ------- ------- -------
Cost of revenues:
License...................... 1.5 1.3 0.7 1.1
Service...................... 20.2 16.4 18.7 18.4
------- ------- ------- -------
Total cost of
revenues............. 21.7 17.7 19.4 19.6
------- ------- ------- -------
Gross margin................... 78.3 82.3 80.6 80.4
------- ------- ------- -------
Operating expenses:
Sales and marketing.......... 70.4 69.6 154.6 106.7
Research and development..... 63.1 30.7 58.4 38.0
General and administrative... 13.4 12.7 43.7 16.0
Amortization of purchased
intangibles................ -- 1.5 7.1 5.3
------- ------- ------- -------
Total operating
expenses............. 146.9 114.5 263.8 166.0
------- ------- ------- -------
Loss from operations........... (68.6) (32.2) (183.2) (85.6)
Interest income (expense),
net.......................... 1.7 1.0 15.7 7.6
------- ------- ------- -------
Net loss....................... (66.9)% (31.2)% (167.5)% (78.0)%
======= ======= ======= =======

23
24

Our quarterly operating results have fluctuated significantly in the past,
and may continue to fluctuate in the future, as a result of a number of factors,
many of which are outside our control. These factors include:

- our ability to close relatively large sales on schedule;

- delays or deferrals of customer orders or deployments;

- delays in shipment of scheduled software releases;

- demand for and market acceptance of our PowerTier for C++ and PowerTier
for EJB products;

- the possible loss of sales people;

- introduction of new products or services by us or our competitors;

- annual or quarterly budget cycles of our customers;

- the level of product and price competition in the application server
market;

- our lengthy sales cycle;

- our success in expanding our direct sales force and indirect distribution
channels;

- the mix of direct sales versus indirect distribution channel sales;

- the mix of products and services licensed or sold;

- the mix of domestic and international sales; and

- our success in penetrating international markets and general economic
conditions in these markets.

The typical sales cycle of our products is long and unpredictable, and is
affected by seasonal fluctuations as a result of our customers' fiscal year
budgeting cycles and slow summer purchasing patterns in Europe. We typically
receive a substantial portion of our orders in the last two weeks of each
quarter because our customers often delay purchases of our products to the end
of the quarter to gain price concessions. Because a substantial portion of our
costs are relatively fixed and based on anticipated revenues, a failure to book
an expected order in a given quarter would not be offset by a corresponding
reduction in costs and could adversely affect our operating results.

Our license revenues in the first quarter of 1998 were lower than those in
the fourth quarter of 1997 and our license revenues in the first quarter of 1999
were lower than those in the fourth quarter of 1998. In the future, we expect
this trend to continue, with the fourth quarter of each year accounting for the
greatest percentage of total revenues for the year and with an absolute decline
in revenues from the fourth quarter to the first quarter of the next year.

LIQUIDITY AND CAPITAL RESOURCES

Since inception, we have financed our business primarily through our
initial public offering of common stock in June 1999, which totaled $34.1
million in aggregate net proceeds, and private sales of convertible preferred
stock, which totaled $19.9 million in aggregate net proceeds, through December
31, 1999. We have also financed our business through a loan in the principal
amount of $800,000 and capitalized leases. As of December 31, 1999, we had $29.7
million of cash, cash equivalents and short-term investments and $29.8 million
of working capital.

Net cash used for operating activities was $3.1 million in 1997, $3.0
million in 1998, and $10.9 million for 1999. For each of 1997, 1998, and 1999,
cash used for operating activities was attributable primarily to net losses,
increases in accounts receivable.

Those increases were primarily offset by depreciation and amortization,
amortization of deferred stock compensation and deferred revenues.

Net cash used for investing activities was $589,000 for 1997, $436,000 for
1998, and $10.0 million for 1999. For each of the periods, cash used in
investing activities primarily reflected investments in property and

24
25

equipment and deposits. For 1999, cash used in investing activities also
primarily consisted of purchases of short-term investments and purchased
intangibles.

Net cash provided by financing activities was $1.8 million for 1997, $5.7
million for 1998, and $38.2 million for 1999. Cash provided by financing
activities during these periods was primarily attributable to proceeds from the
issuance of preferred and common stock and, in 1998, borrowings under a term
loan of $800,000, primarily offset by repayments of a capital lease obligations.

In November 1999, we renewed our credit facilities with Comerica Bank.
Under those credit facilities, the Company has a $5.0 million revolving line of
credit facility available through August 15, 2000 and a second equipment
financing facility for an amount up to $1,000,000 under which drawdowns are
available through July 15, 2000. As of December 31, 1999 we had no borrowings
outstanding under the revolving line of credit facility or the second equipment
financing facility. As of December 31, 1999, we had a promissory note in favor
of Comerica, under which $600,000 out of an original $800,000 was outstanding.
We are required to make principal payments of $22,222 per month plus interest of
7.75% per annum on the unpaid principal balance, payable in 27 monthly
installments. The credit facilities with Comerica Bank are collateralized by
substantially all of our assets, including our patents and intellectual
property.

Although we have no material commitments for capital expenditures, we
anticipate a substantial increase in capital expenditures and lease commitments
consistent with our anticipated growth in operations, infrastructure and
personnel. We also may increase our capital expenditures as we expand into
additional international markets.

We believe that the our current cash, cash equivalents and short-term
investments, will be sufficient to meet our anticipated cash needs for working
capital and capital expenditures for at least the next year. If cash generated
from operations is insufficient to satisfy our liquidity requirements, we may
seek to sell additional equity or debt securities or to obtain a credit
facility. If additional funds are raised through the issuance of debt
securities, these securities could have rights, preferences and privileges
senior to holders of common stock, and the term of this debt could impose
restrictions on our operations. The sale of additional equity or convertible
debt securities could result in additional dilution to our stockholders, and we
may not be able to obtain additional financing on acceptable terms, if at all.
If we are unable to obtain this additional financing, we may be required to
reduce the scope of our planned product development and marketing efforts, which
could harm our business.

RECENTLY ISSUED ACCOUNTING STANDARDS

In June 1998, the Financial Accounting Standards Board issued accounting
statement No. 133, Accounting for Derivative Instruments and Hedging Activities.
This statement requires companies to record derivatives on the balance sheet as
assets or liabilities measured at fair value. Gains or losses resulting from
changes in the values of those derivatives would be accounted for depending on
the use of the derivative and whether it qualifies for hedge accounting. SFAS
No. 133 will be effective for us beginning in 2001. We are currently evaluating
the impact of SFAS No. 133 on our financial statements and related disclosures.

YEAR 2000 COMPLIANCE

We have not experienced a year 2000 error in our software. We believe all
current versions of our products to be "year 2000 compliant," as defined below,
when configured and used in accordance with the related documentation, and
provided that the underlying operating system of the host machine and any other
software used with or in the host machine or with our products are also year
2000 compliant. We have not tested our products on all platforms or all versions
of operating systems that we currently support.

We have defined "year 2000 compliant" as the ability to:

- correctly handle date information needed for the December 31, 1999 to
January 1, 2000 date change;

- function according to the product documentation provided for this date
change, without changes in operation resulting from the advent of a new
century, assuming correct configuration;

25
26

- if the date elements in interfaces and data storage specify the century,
store and provide output of date information in ways that are unambiguous
as to century; and

- recognize the year 2000 as a leap year.

We have tested software obtained from third parties, including licensed
software, shareware and freeware, that is incorporated into our products, and we
sought assurances from our vendors that licensed software is year 2000
compliant. Through December 31, 1999, we incurred nominal expenses relating to
our year 2000 compliance activities and do not currently expect to incur any
additional expenses in this regard. We have not experienced a year 2000 error in
any software incorporated into our products. Despite testing and assurances, our
products may contain undetected errors or defects associated with year 2000 date
functions. Any errors or defects in our products could result in the delay or
loss of revenue, increased service costs and damage to our reputation. We are
aware of lawsuits against software vendors involving year 2000 claims, and,
despite testing our products, we may be sued by a customer on a year 2000 claim.

ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS

You should carefully consider the following risks in addition to the other
information contained in this annual report on Form 10-K. The risks and
uncertainties described below are intended to be the ones that are specific to
our company or industry and that we deem to be material, but are not the only
ones that we face.

We Have A Limited Operating History In The Application Server Market.

Because we only commenced selling application servers in 1997, we have a
limited operating history in the application server market. We thus face the
risks, expenses and difficulties frequently encountered by companies in early
stages of development, particularly companies in the rapidly changing software
industry. These risks include:

- our substantial dependence for revenue from our PowerTier for C++
product, which was first introduced in 1997 and has achieved only limited
market acceptance;

- our substantial dependence for revenue from our PowerTier for EJB
product, which was first introduced in 1998 and has achieved only limited
market acceptance;

- our need to expand our distribution capability through both a direct
sales organization and third party distributors and systems integrators;

- our unproven ability to anticipate and respond to technological and
competitive developments in the rapidly changing market for application
servers;

- our unproven ability to compete in a highly competitive market;

- uncertainty as to the growth rate in the electronic commerce market and,
in particular, the business-to-business electronic commerce market;

- our dependence on Enterprise JavaBeans, commonly known as EJB, becoming a
widely accepted standard in the transactional application server market;
and

- our dependence upon key personnel.

Because We Have A History Of Losses And Negative Cash Flow, We May Never
Become Or Remain Profitable.

Our revenues may not continue to grow and we may not be able to achieve or
maintain profitability in the future. We have incurred net losses each year
since 1996. In particular, we incurred losses of $4.7 million in 1997, $4.1
million in 1998 and $11.3 million in 1999. As of December 31, 1999, we had an
accumulated deficit of approximately $24.1 million. In addition, while we are
unable to predict accurately our future operating expenses, we currently expect
these expenses to increase substantially, as we expand our product development
and sales and marketing efforts and assume the increased administrative duties
associated with our public

26
27

company status. Thus, we will need to increase our revenues to become
profitable. Because our product market is new and evolving, we cannot accurately
predict either the future growth rate, if any, or the ultimate size of the
market for our products.

We Have Financed Our Business Through The Sale Of Stock And Not Through Cash
Generated By Our Operations.

Since inception, we have generally had negative cash flow from operations.
To date, we have financed our business primarily through sales of common stock
and convertible preferred stock and not through cash generated by our
operations. We expect to continue to have negative cash flow from operations.

We May Need To Raise Additional Capital In The Future.

Although we believe that our current cash, cash equivalents and short-term
investment balances will be sufficient to meet our anticipated operating cash
needs for the next 12 months, we may need to raise additional funds prior to
that time. We face several risks in connection with this possible need to raise
additional capital:

- the issuance of additional securities could result in:

- debt securities with rights senior to the common stock;

- dilution to existing stockholders as a result of issuing additional
equity or convertible debt securities;

- debt securities with restrictive covenants that could restrict our
ability to run our business as desired; or

- securities issued on disadvantageous financial terms.

- the failure to procure needed funding could result in:

- a reduction in scope in our planned product development or marketing
efforts; or

- an inability to respond to competitive pressures or take advantage of
market opportunities, which could adversely affect our ability to achieve
profitability or positive cash flow.

The Unpredictability Of Our Quarterly Results May Adversely Affect The Price
Of Our Common Stock.

Our operating results have fluctuated significantly in the past and may
fluctuate significantly in the future as a result of a variety of factors, many
of which are outside our control. In particular, the fourth quarter of each year
has in the past tended to account for the greatest percentage of total revenues
for the year, and we have often experienced an absolute decline in revenues from
the fourth quarter to the first quarter of the next year. If our future
quarterly operating results are below the expectations of securities analysts or
investors, the price of our common stock would likely decline. The factors that
may cause fluctuations of our operating results include the following:

- our ability to close relatively large sales on schedule;

- delays or deferrals of customer orders or deployments;

- delays in shipment of scheduled software releases;

- demand for and market acceptance of our PowerTier for C++ and PowerTier
for EJB products;

- the possible loss of sales people;

- introduction of new products or services by us or our competitors;

- annual or quarterly budget cycles of our customers;

- the level of product and price competition in the application server
market;

- our lengthy sales cycle;

- our success in expanding our direct sales force and indirect distribution
channels;

27
28

- the mix of direct sales versus indirect distribution channel sales;

- the mix of products and services licensed or sold;

- the mix of domestic and international sales; and

- our success in penetrating international markets and general economic
conditions in these markets.

We typically receive a substantial portion of our orders in the last two
weeks of each fiscal quarter because our customers often delay purchases of our
products to the end of the quarter to gain price concessions. Because a
substantial portion of our costs are relatively fixed and based on anticipated
revenues, a failure to book an expected order in a given quarter would not be
offset by a corresponding reduction in costs and could adversely affect our
operating results.

Our Sales Cycle Is Long, Unpredictable And Subject To Seasonal Fluctuations,
So It Is Difficult To Forecast Our Revenues.

Any delay in sales of our products or services could cause our quarterly
revenues and operating results to fluctuate. The typical sales cycle of our
products is long and unpredictable and requires both a significant capital
investment decision by our customers and our education of potential customers
regarding the use and benefits of our products. Our sales cycle is generally
between three and nine months. A successful sales cycle typically includes
presentations to both business and technical decision makers, as well as a
limited pilot program to establish technical fit. Our products typically are
purchased as part of a significant enhancement to a customer's information
technology system. The implementation of our products involves a significant
commitment of resources by prospective customers. Accordingly, a purchase
decision for a potential customer typically requires the approval of several
senior decision makers. Our sales cycle is affected by the business conditions
of each prospective customer. Due to the relative importance of many of our
product sales, a lost or delayed sale could adversely affect our quarterly
operating results. Our sales cycle is affected by seasonal fluctuations as a
result of our customers' fiscal year budgeting cycles and slow summer purchasing
patterns in Europe.

We Depend On A Relatively Small Number Of Significant Customers, And The Loss
Of One Or More Of These Customers Could Result In A Decrease In Our Revenues.

Historically, we have received a substantial portion of our revenues from
product sales to a limited number of customers. In 1999, sales of products and
services to Cisco accounted for 13% of our total revenues, and sales of products
and services to our top five customers accounted for 35% of total revenues. In
1998, sales of products and services to Cisco accounted for 14% of our total
revenues, sales of products and services to Instinet accounted for 17% of our
total revenues, and sales of products and services to our top five customers
accounted for 55% of total revenues. In 1997, sales of products and services to
Lucent accounted for 11% of our total revenues, and sales of products and
services to our top five customers accounted for 15% of our total revenues. In
addition, the identity of our top five customers has changed from year to year.
If we lose a significant customer, or fail to increase product sales to an
existing customer as planned, we may not be able to replace the lost revenues
with sales to other customers. In addition, because our marketing strategy is to
concentrate on selling products to industry leaders, any loss of a customer
could harm our reputation within the industry and make it harder for us to sell
our products to other companies in that industry. The loss of, or a reduction in
sales to, one or more significant customers would likely result in a decrease in
our revenues.

We Depend On The Java Programming Language, The Enterprise JavaBeans Standard
And The Emerging Market For Distributed Object Computing, And If These
Technologies Fail To Gain Acceptance, Our Business Could Suffer.

We are focusing significant marketing efforts on our PowerTier for EJB
application server, which is based on three relatively new technologies, none of
which has been widely adopted by companies. These three technologies are a
distributed object computing architecture, Sun Microsystems' Java programming
language and Enterprise JavaBeans, or EJB. Distributed object computing combines
the use of software modules, or

28
29

objects, communicating across a computer network to software applications, such
as our PowerTier application server. EJB is the Java programming standard for
use in an application server. In 1998, we launched our PowerTier for EJB
product, which is a transactional application server that uses Java and conforms
to the EJB standard. Sun Microsystems released the EJB standard in 1998, and
thus far EJB has had limited market acceptance. Since our PowerTier for EJB
product depends upon the specialized EJB standard, we face a limited market
compared to competitors who may offer application servers based on more widely
accepted standards, including the Java programming language. We expect a
substantial portion of our future revenues will come from sales of products
based on the EJB standard. Thus, our success depends significantly upon broad
market acceptance of distributed object computing in general, and Java
application servers in particular. If EJB does not become a widespread
programming standard for application servers, our revenues and business could
suffer.

If We Do Not Deliver Products That Meet Rapidly Changing Technology Standards
And Customer Demands, We Will Lose Market Share To Our Competitors.

The market for our products and services is characterized by rapid
technological change, dynamic customer demands and frequent new product
introductions and enhancements. Customer requirements for products can change
rapidly as a result of innovation in software applications and hardware
configurations and the emergence or adoption of new industry standards,
including Internet technology standards. We need to increase our research and
development investment to maintain our technological leadership. Our future
success depends on our ability to continue to enhance our current products and
to continue to develop and introduce new products that keep pace with
competitive product introductions and technological developments. For example,
as Sun Microsystems introduces new EJB specifications, we will need to introduce
new versions of PowerTier for EJB designed to support these new specifications
to remain competitive. If we do not bring enhancements and new versions of our
products to market in a timely manner, our market share and revenues could
decrease and our reputation could suffer. If we fail to anticipate or respond
adequately to changes in technology and customer needs, or if there are any
significant delays in product development or introduction, our revenues and
business could suffer.

Because Our Direct Sales Team Is Currently Our Most Critical Sales Channel,
Any Failure To Build And Train This Team May Result In Lower Revenues.

We must expand our direct sales team to generate increased revenue. In
1998, we hired several new salespeople, replacing most of our preexisting sales
force. In 1999, we continued to hire new salespeople. In order to meet our
future sales goals, we will need to hire many more salespeople within the next
two years for both our domestic and international sales efforts. In the past,
newly hired employees have required training and approximately six to nine
months experience to achieve full productivity. Because our entire sales team is
relatively new, they may not meet our sales goals. In addition, our recently
hired employees may not become productive, and we may not be able to hire enough
qualified individuals in the future.

Because Our Future Revenue Goals Are Based On Our Development Of A Strong
Sales Channel Through Systems Integrators And Other Third Parties, Any Failure
To Develop This Channel May Result In Lower Revenues.

To date, we have sold our products primarily through our direct sales
force, but our ability to achieve significant revenue growth in the future will
depend in large part on our success in establishing and leveraging relationships
with systems integrators and other third parties. It may be difficult for us to
establish these relationships, and, even if we establish these relationships, we
will then depend on the systems integrators' and other third parties' sales
efforts. In addition, because these relationships are nonexclusive, systems
integrators may choose to use application servers or other alternative solutions
offered by our competitors, and not our products. If we fail to successfully
build our third-party distribution channels or if our systems integrator and
other third party partners do not perform as expected, our business could be
harmed.

29
30

Because Our Products Are Often Incorporated Into Enterprise-Wide System
Deployments, Any Delays In These Projects May Result In Lower Revenues.

Because our products are often incorporated into multi-million dollar
enterprise projects, we depend on the successful and timely completion of these
enormous projects to fully deploy our products and achieve our revenue goals.
These enterprise projects often take many years to complete and can be delayed
by a variety of factors, including general or industry-specific economic
downturns, our customers' budget constraints, other customer-specific delays,
problems with other system components or delays caused by the systems
integrators who may be managing the system deployment. If our customers cannot
successfully implement large-scale deployments, or they determine for any reason
that our products cannot accommodate large-scale deployments or that our
products are not appropriate for widespread use, our business could suffer. In
addition, if a systems integrator fails to complete a project utilizing our
product for a customer in a timely manner, our revenues or business reputation
could suffer.

Because We Compete With Sun Microsystems, Who Controls The EJB Application
Server Standard, We Face The Risk That They May Develop This Standard To Favor
Their Own Products.

Our success depends on achieving widespread market acceptance of our
PowerTier for EJB application server. Because Sun Microsystems controls the EJB
standard, we need to maintain a good working relationship with Sun Microsystems
to develop future versions of PowerTier for EJB, as well as additional products
using EJB, that will gain market acceptance. In March 1998, we entered into a
license agreement with Sun Microsystems, pursuant to which we granted Sun
Microsystems rights to manufacture and sell, by itself and not jointly with
others, products under a number of our patents and Sun Microsystems granted us
rights to manufacture and sell, by ourselves and not jointly with others,
products under a number of Sun Microsystems' patents. As a result, Sun
Microsystems may develop and sell some competing products that would, in the
absence of this license agreement, infringe our patents. Because Sun
Microsystems controls the EJB standard, it could develop the EJB standard in a
more proprietary way to favor a product offered by its subsidiary, iPlanet, or a
third party, which could make it much harder for us to compete in the EJB
application server market.

Microsoft Has Established A Competing Application Server Standard, Which Could
Diminish The Market Potential For Our Products If It Gains Widespread
Acceptance.

Microsoft has established a competing standard for distributed computing,
COM, which includes an application server product. If this standard gains
widespread market acceptance over the EJB or CORBA standards, on which our
products are based, our business would suffer. Because of Microsoft's resources
and commanding position with respect to other markets and technologies,
Microsoft's entry into the application server market may cause our potential
customers to delay purchasing decisions. We expect that Microsoft's presence in
the application server market will increase competitive pressure in this market.

We Face Significant Competition From Companies With Greater Resources Than We
Have And May Face Additional Competition In The Future.

The market for our products is intensely competitive, subject to rapid
change and significantly affected by new product introductions and other market
activities of industry participants. We believe that the principal competitive
factors in our market are:

- performance, including scalability, integrity and availability;

- ability to provide a complete software platform;

- flexibility;

- use of standards-based technology;

- ease of integration with customers' existing enterprise systems;

- ease and speed of implementation;

30
31

- quality of support and service;

- security;

- company reputation; and

- price.

Our competitors include both publicly and privately-held enterprises,
including BEA Systems (WebLogic), Secant Technologies, IBM (WebSphere), Inprise,
Iona Technologies, Oracle (OAS) and i-Planet (Sun Microsystems). Many customers
may not be willing to purchase our PowerTier platform because they have already
invested heavily in databases and other enterprise software components offered
by these competing companies. Many of these competitors have preexisting
customer relationships, longer operating histories, greater financial,
technical, marketing and other resources, greater name recognition and larger
installed bases of customers than we do. In addition, some competitors offer
products that are less complex than our PowerTier products and require less
customization to implement with potential customers' existing systems. Thus,
potential customers engaged in simpler business-to-business e-commerce
transactions may prefer these "plug-and-play" products to our more complex
offerings. Moreover, there are other very large and established companies,
including Microsoft, who offer alternative solutions and are thus indirect
competitors. Further, dozens of companies, such as Allaire, have announced their
intention to support EJB and may compete against us in the future. These
competitors and potential competitors may be able to respond more quickly to new
or emerging technologies and changes in customer requirements, or to devote
greater resources to the development, promotion and sale of their products than
we can. In addition, in the PowerTier for C++ market, many potential customers
build their own custom application servers, so we effectively compete against
our potential customers' internal information technology departments.

If The Market For Business-To-Business Electronic Commerce Over The Internet
Does Not Develop As We Currently Envision, Our Business Model Could Fail And Our
Revenues Could Decline.

Our performance and future success will depend on the growth and widespread
adoption of the market for business-to-business electronic commerce over the
Internet. If business-to-business electronic commerce does not develop in the
manner currently envisioned, our business could be harmed. Moreover, critical
issues concerning the commercial use of the Internet, including security, cost,
accessibility and quality of network service, remain unresolved and may
negatively affect the growth of the Internet as a platform for conducting
business-to-business electronic commerce. In addition, the Internet could lose
its viability due to delays in the development or adoption of new standards and
protocols to handle increased activity or due to increased government regulation
and taxation of Internet commerce.

Our Failure To Manage Growth Could Impair Our Business.

Achieving our planned revenue growth and other financial objectives will
place significant demands on our management and other resources. We anticipate
increasing our headcount significantly over the next two years. Our ability to
manage this growth effectively will require us to continue to develop and
improve our operational, financial and other internal systems and controls, as
well as our business development capabilities, and to train, motivate and manage
our employees. If we are unable to manage our growth effectively, we may not be
able to retain key personnel and the quality of our services and products may
suffer.

Our Business Could Suffer If We Cannot Attract And Retain The Services Of Key
Employees.

Our future success depends on the ability of our management to operate
effectively, both individually and as a group. We are substantially dependent
upon the continued service of our existing executive personnel, especially
Christopher T. Keene, our Chief Executive Officer and Chairman of the Board. We
do not have a key person life insurance policy covering Mr. Keene or any other
officer or key employee. Our success will depend in large part upon our ability
to attract and retain highly-skilled employees, particularly sales personnel and
software engineers. There is significant competition for skilled employees,
especially for people who have experience in both the software and Internet
industries. If we are not successful in attracting and retaining

31
32

these skilled employees, our sales and product development efforts would suffer.
In addition, if one or more of our key employees resigns to join a competitor or
to form a competing company, the loss of that employee and any resulting loss of
existing or potential customers to a competitor could harm our business. If we
lose any key personnel, we may not be able to prevent the unauthorized
disclosure or use of our technical knowledge or other trade secrets by those
former employees.

Our Software Products May Contain Defects Or Errors, And Shipments Of Our
Software May Be Delayed.

Complex software products often contain errors or defects, particularly
when first introduced or when new versions or enhancements are released. Our
products have in the past contained and may in the future contain errors and
defects, which may be serious or difficult to correct and which may cause delays
in subsequent product releases. Delays in shipment of scheduled software
releases or serious defects or errors could result in lost revenues or a delay
in market acceptance, which could have a material adverse effect on our revenues
and reputation.

We May Be Sued By Our Customers For Product Liability Claims As A Result Of
Failures In Their Critical Business Systems.

Because our customers use our products for important business applications,
errors, defects or other performance problems could result in financial or other
damages to our customers. They could pursue claims for damages, which, if
successful, could result in our having to make substantial payments. Although
our purchase 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. A
product liability claim brought against us, even if meritless, would likely be
time consuming and costly for us to litigate or settle.

A Portion Of Our Revenues Is Derived From International Sales, Which Could
Decline As A Result Of Legal, Business And Economic Risks Specific To
International Operations.

Our future success will depend, in part, on our successful development of
international markets for our products. Approximately 28% of our revenues came
from sales of products and services outside the United States during 1999, and
approximately 29% of our revenues came from sales of products and services
outside the United States during 1998. We expect international revenues to
continue to represent a significant portion of our total revenues. To date,
almost all of our international revenues have resulted from our direct sales
efforts. In international markets, however, we expect that we will depend more
heavily on third party distributors to sell our products in the future. The
success of our international strategy will depend on our ability to develop and
maintain productive relationships with these third parties. The failure to
develop key international markets for our products could cause a reduction in
our revenues. Additional risks related to our international expansion and
operation include:

- difficulties of staffing and managing foreign operations;

- our dependence on the sales efforts of our third party distributors;

- longer payment cycles typically associated with international sales;

- tariffs and other trade barriers;

- failure to comply with a wide variety of complex foreign laws and
changing regulations;

- exposure to political instability and economic downturns;

- failure to localize our products for foreign markets;

- restrictions on the export of technologies;

- potentially adverse tax consequences;

- reduced protection of intellectual property rights in some countries; and

32
33

- currency fluctuations.

We sell products outside the United States in U.S. dollars. We do not
currently engage in any hedging transactions to reduce our exposure to currency
fluctuations as a result of our foreign operations. We are not currently ISO
9000 compliant, nor are we attempting to meet all foreign technical standards
that may apply to our products. Our failure to develop our international sales
channel as planned could cause a decline in our revenues.

If We Do Not Protect Our Intellectual Property Rights, Our Competitive
Position May Be Impaired.

Our success may depend on our ability to protect our proprietary rights to
the technologies used in our products, and yet the measures we are taking to
protect these rights may not be adequate. If we are not adequately protected,
our competitors could use the intellectual property that we have developed to
enhance their products, which could harm our business. We rely on patent
protection, as well as a combination of copyright, trade secret and trademark
laws, and nondisclosure and other contractual restrictions to protect our
proprietary technology, but these legal means afford only limited protection.
Unauthorized parties may attempt to copy aspects of our products or to obtain
and use information that we regard as proprietary. In addition, the laws of some
foreign countries may not protect our intellectual property rights to the same
extent as do the laws of the United States. We have commenced patent
infringement actions against two competitors -- See "Item 3. Legal Proceedings."
Further litigation may be necessary to enforce our intellectual property rights,
which could result in substantial costs and diversion of management attention
and resources.

We May Be Sued For Patent Infringement.

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. As the number of
competitors in the application server market grows and the functionality of
products in different market segments overlaps, the possibility of an
intellectual property claim against us increases. For example, we may
inadvertently infringe a patent of which we are unaware. In addition, because
patent applications can take many years to issue, there may be a patent
application now pending of which we are unaware, which will cause us to be
infringing when it is issued in the future. To address these patent infringement
or other intellectual property claims, we may have to enter into royalty or
licensing agreements on disadvantageous commercial terms. Alternatively, we may
be unable to obtain a necessary license. A successful claim against us, and our
failure to license the infringed or similar technology, would harm our business.
In addition, any infringement or other intellectual property claims, with or
without merit, which are brought against us could be time consuming and
expensive to litigate or settle and could divert management attention from
administering our core business.

Future Sales Of Our Common Stock May Depress Our Stock Price.

If our current stockholders sell substantial amounts of common stock,
including shares issued upon the exercise of outstanding options and warrants,
in the public market, the market price of our common stock could fall. In
addition, these sales of common stock could impede our ability to raise funds at
an advantageous price through the sale of securities. As of February 29, 2000,
we had 19.4 million shares of common stock outstanding. Beginning in December
1999, approximately 14.4 million shares of restricted common stock held by our
stockholders became eligible for sale in the public market. Approximately 7
million of these restricted shares are subject to volume and other restrictions
under Rule 144.

33
34

Our Stock Price Has Been, And May Continue To Be, Volatile.

Our common stock has only been available in the public market since June
24, 1999. An active public market for our common stock may not completely
develop or be sustained in the future. To date, the market price of our common
stock has been highly volatile and may rise or fall in the future as a result of
many factors, such as:

- variations in our quarterly results;

- announcements of technological innovations by us or our competitors;

- introductions of new products by us or our competitors;

- acquisitions or strategic alliances by us or our competitors;

- hiring or departure of key personnel;

- the gain or loss of a significant customer or order;

- changes in estimates of our financial performance or changes in
recommendations by securities analysts;

- market conditions in the software industry and in our customers'
industries; and

- adoption of new accounting standards affecting the software industry.

The stock market in general has experienced extreme price and volume
fluctuations, which could adversely affect the market price of our stock. In
particular, the market prices of the common stock of many companies in the
software and Internet industries have experienced this volatility, which has
often been unrelated to these companies' operating performance. In the past,
securities class action litigation has often been brought against a company
after a period of volatility in the market price of its stock. We may in the
future be a target of similar litigation. Securities litigation could result in
substantial costs and divert management's attention and resources, which could
harm our business.

Our Executive Officers And Directors Own A Large Percentage Of Our Voting
Stock And Could Exert Significant Influence Over Matters Requiring Stockholder
Approval.

As of February 29, 2000, executive officers and directors, and entities
affiliated with them, own approximately 42% of our outstanding common stock.
Accordingly, these stockholders may, as a practical matter, continue to control
the election of a majority of the directors and the determination of all
corporate actions. This concentration of voting control could have the effect of
delaying or preventing a merger or other change in control, even if it would
benefit our other stockholders.

The Antitakeover Provisions In Our Charter Documents And Under Delaware Law
Could Discourage A Takeover.

Provisions in our certificate of incorporation, bylaws and Delaware law may
discourage, delay or prevent a merger or other change in control that a
stockholder may consider favorable. These provisions may also discourage proxy
contests or make it more difficult for stockholders to take corporate action.
These provisions include the following:

- establishing a classified board in which only a portion of the total
board members will be elected at each annual meeting;

- authorizing the board to issue preferred stock;

- prohibiting cumulative voting in the election of directors;

- limiting the persons who may call special meetings of stockholders;

- prohibiting stockholder action by written consent; and

34
35

- establishing advance notice requirements for nominations for election of
the board of directors or for proposing matters that can be acted on by
stockholders at stockholder meetings.

We May Engage In Future Acquisitions That Could Disrupt Our Business And
Dilute Our Stockholders.

As part of our business strategy, we expect to review acquisition prospects
that we believe would be advantageous to the development of our business. For
example, we have recently acquired object request broker technology and servlet
engine technology. While we have no current agreements or negotiations underway
with respect to any major acquisitions, we may make acquisitions of businesses,
products or technologies in the future. If we make any acquisitions, we could
take any or all of the following actions, any of which could materially and
adversely affect our financial results and the price of our common stock:

- issue equity securities that would dilute existing stockholders'
percentage ownership;

- incur substantial debt;

- assume contingent liabilities; or

- take substantial charges in connection with the amortization of goodwill
and other intangible assets.

Acquisitions also entail numerous risks, including:

- difficulties in assimilating acquired operations, products and personnel
with our pre-existing business;

- unanticipated costs;

- diversion of management's attention from other business concerns;

- adverse effects on existing business relationships with suppliers and
customers;

- risks of entering markets in which we have limited or no prior
experience; and

- potential loss of key employees from either our preexisting business or
the acquired organization.

We may not be able to successfully integrate any businesses, products,
technologies or personnel that we might acquire in the future, and our failure
to do so could harm our business.

We Have Not Designated Any Specific Use For The Net Proceeds Of The Company's
Initial Public Offering Of Common Stock, And Thus May Use The Remaining Net
Proceeds To Fund Operating Losses, For Acquisitions Or For Other Corporate
Purposes.

We have not designated any specific use for the net proceeds of our initial
public offering of common stock. As a result, our management and board of
directors has broad discretion in spending the remaining net proceeds of that
offering. We currently expect to use the remaining net proceeds primarily for
working capital and general corporate purposes, funding product development and
expanding our sales and marketing organization. In addition, we may use a
portion of the remaining net proceeds for further development of our product
lines through acquisitions of products, technologies and businesses.

ITEM 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK.

Interest Rate Sensitivity. Our operating results are sensitive to changes
in the general level of U.S. interest rates, particularly because most of our
cash equivalents are invested in short-term debt instruments. If market interest
rates were to change immediately and uniformly by ten percent from levels at
December 31, 1999, the fair value of our cash equivalents would change by
approximately $150,000.

Foreign Currency Fluctuations. We have not had any significant transactions
in foreign currencies, nor did we have any significant balances that are due or
payable in foreign currencies at December 31, 1999. Therefore, a hypothetical
ten percent change in foreign currency rates would have an insignificant impact
on our financial position or results of operations. We do not hedge any of our
foreign currency exposure.

35
36

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

See Item 14 (a) for an index to the consolidated financial statements and
supplementary data that are attached hereto.

ITEM 9.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE.

None.

36
37

PART III

The Company's Proxy Statement for its 2000 Annual Meeting of Stockholders,
when filed pursuant to Regulation 14A under the Securities Exchange Act of 1934,
will be incorporated by reference in this Form 10-K pursuant to General
Instruction G(3) of Form 10-K and will provide the information required under
Part III (Items 10-13), except for the information with respect to the Company's
executive officers, which is included in "Item 1. Business -- Executive
Officers."

PART IV

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

(a) The following documents are filed as part of this report:

(1) Financial Statements and Report of Deloitte & Touche LLP (pages F-1
through F-16):

Audited Consolidated Financial Statements:

Independent Auditors' Report

Consolidated Balance Sheets at December 31, 1999 and 1998

Consolidated Statements of Operations for the years ended December 31,
1999, 1998 and 1997

Consolidated Statements of Changes in Stockholders' Equity for the
years ended December 31, 1999, 1998 and 1997

Consolidated Statements of Cash Flows for the years ended December 31,
1999, 1998 and 1997

Notes to Consolidated Financial Statements

(2) Financial Statement Schedules (pages S-1 through S-3):

Audited Consolidated Financial Statement Schedules:

Independent Auditors' Report

Schedule II -- Consolidated Schedule of Valuation and Qualifying
Accounts for the years ended December 31, 1999, 1998 and 1997

Schedules not listed above have been omitted because the information
required to be set forth therein is not applicable or is shown in the
consolidated financial statements or notes thereto.

(3) Exhibits (numbered in accordance with Item 601 of Regulation S-K)

37
38

EXHIBIT INDEX

EXHIBIT
NUMBER DESCRIPTION
------- -----------

3.2* Amended and Restated Certificate of Incorporation of
Persistence.
3.4* Amended and Restated Bylaws of Persistence.
4.1* Specimen Stock Certificate.
10.1* Form of Common Stock Purchase Agreement between Persistence
and each of Christopher T. Keene and Derek P. Henninger.
10.2* Fifth Amended and Restated Investor Rights Agreement dated
February 19, 1999 among Persistence and certain investors.
10.3* Fourth Amended and Restated Co-Sale Agreement dated February
19, 1999 among Persistence and certain investors.
10.4* Form of Change of Control Agreement between Persistence and
each of Lyn Anderson, James H. Barton, Alan Cohen, Carol
Curry, Barry Goss, Randy Hietter, Christine Russell and
Laurence Hootnick.
10.5* 1994 Stock Purchase Plan (as amended) and Form of Common
Stock Purchase Agreement.
10.6* 1997 Stock Plan (as amended) and Forms of Stock Option
Agreement and Common Stock Purchase Agreement.
10.7* 1999 Employee Stock Purchase Plan and Form of Subscription
Agreement.
10.8* 1999 Directors' Stock Option Plan and Form of Option
Agreement.
10.9* Lease dated June 12, 1991 between Persistence and Great
American Bank (as amended).
10.10*+ Settlement and License Agreement dated March 23, 1998
between Persistence and Sun Microsystems, Inc.
10.11* Form of Indemnification Agreement between Persistence and
officers and directors.
21.1* List of subsidiaries.
23.1 Independent Auditors' Consent.
27.1 Financial Data Schedule.

- ---------------
* Incorporated herein by reference to the exhibit filed with the Company's
Registration Statement on Form S-1 (Commission File No. 333-76867)

+ Confidential treatment requested as to portions of this exhibit.

(b) Reports on Form 8-K

None.

38
39

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Annual Report on Form
10-K for the fiscal year ended December 31, 1999 to be signed on its behalf by
the undersigned, thereunto duly authorized.

PERSISTENCE SOFTWARE, INC.

By: /s/ CHRISTOPHER T. KEENE
------------------------------------
Christopher T. Keene
Chairman of the Board and
Chief Executive Officer
(Principal Executive Officer)

By: /s/ CHRISTINE RUSSELL
------------------------------------
Christine Russell
Chief Financial Officer
(Principal Financial and Accounting
Officer)

Date: March 30, 2000

POWER OF ATTORNEY

KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Christine Russell his attorney-in-fact,
with the power of substitution, for him in any and all capacities, to sign any
amendments to this Report on Form 10-K, and to file the same, with exhibits
thereto and other documents in connection therewith with the Securities and
Exchange Commission, hereby ratifying and confirming all that each of said
attorney-in-fact, or his substitute or substitutes may do or cause to be done by
virtue hereof.

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.

SIGNATURE TITLE DATE
--------- ----- ----

/s/ CHRISTOPHER T. KEENE Chairman of the Board and March 30, 2000
- ----------------------------------------------------- Chief Executive Officer
Christopher T. Keene (Principal Executive Officer)

/s/ CHRISTINE RUSSELL Chief Financial Officer March 30, 2000
- ----------------------------------------------------- (Principal Financial and
Christine Russell Accounting Officer)

/s/ GREGORY ENNIS Director March 25, 2000
- -----------------------------------------------------
Gregory Ennis

/s/ JACK HANCOCK Director March 28, 2000
- -----------------------------------------------------
Jack Hancock

/s/ WILLIAM J. HARDING Director March 29, 2000
- -----------------------------------------------------
William J. Harding

/s/ LAURENCE R. HOOTNICK Director March 29, 2000
- -----------------------------------------------------
Laurence R. Hootnick

39
40

SIGNATURE TITLE DATE
--------- ----- ----

Director
- -----------------------------------------------------
Merritt Lutz

/s/ JOSEPH P. ROEBUCK Director March 29, 2000
- -----------------------------------------------------
Joseph P. Roebuck

/s/ JEFFREY T. WEBBER Director March 28, 2000
- -----------------------------------------------------
Jeffrey T. Webber

40
41

PERSISTENCE SOFTWARE, INC. AND SUBSIDIARY

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

PAGE
----

Audited Consolidated Financial Statements:
Independent Auditors' Report.............................. F-2
Consolidated Balance Sheets at December 31, 1999 and
1998................................................... F-3
Consolidated Statements of Operations for the years ended
December 31, 1999, 1998 and 1997....................... F-4
Consolidated Statements of Changes in Stockholders' Equity
for the years ended December 31, 1999, 1998 and
1997................................................... F-5
Consolidated Statements of Cash Flows for the years ended
December 31, 1999, 1998 and 1997....................... F-6
Notes to Consolidated Financial Statements................ F-7

F-1
42

INDEPENDENT AUDITORS' REPORT

To the Board of Directors and Stockholders of
Persistence Software, Inc.:

We have audited the accompanying consolidated balance sheets of Persistence
Software, Inc. and subsidiary as of December 31, 1999 and 1998, and the related
consolidated statements of operations, changes in stockholders' equity, and cash
flows for each of the three years in the period ended December 31, 1999. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards 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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of Persistence Software, Inc. and
subsidiary at December 31, 1999 and 1998, and the results of their operations
and their cash flows for each of the three years in the period ended December
31, 1999 in conformity with generally accepted accounting principles.

DELOITTE & TOUCHE LLP

San Jose, California
January 28, 2000

F-2
43

PERSISTENCE SOFTWARE, INC.

CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PAR VALUE AMOUNTS)

ASSETS

DECEMBER 31,
--------------------
1999 1998
-------- --------

Current assets:
Cash and cash equivalents................................. $ 22,300 $ 4,938
Short-term investments.................................... 7,352 --
Accounts receivable, net of allowances of $332 and $47,
respectively........................................... 5,685 1,759
Prepaid expenses and other current assets................. 1,187 155
-------- --------
Total current assets.............................. 36,524 6,852
Property and equipment, net................................. 1,051 723
Purchased intangibles, net of amortization of $576 and none,
respectively.............................................. 1,447 --
Other assets................................................ 70 29
-------- --------
Total assets...................................... $ 39,092 $ 7,604
======== ========

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 1,370 $ 596
Accrued compensation and related benefits................. 1,804 512
Other accrued liabilities................................. 1,194 154
Deferred revenues......................................... 2,015 1,798
Current portion of long-term obligations.................. 337 408
-------- --------
Total current liabilities......................... 6,720 3,468
Long-term obligations....................................... 354 650
Deferred rent............................................... -- 64
-------- --------
Total liabilities................................. 7,074 4,182
-------- --------
Commitments (Note 4)
Stockholders' equity:
Preferred stock, $0.001 par value, authorized -- 5,000,000
shares; outstanding -- none; designated and
outstanding -- 1999, none; 1998, 6,922,184 shares...... -- 15,717
Common stock, $0.001 par value; authorized -- 75,000,000
shares; outstanding -- 1999, 19,269,704 shares; 1998,
7,634,414 shares....................................... 57,467 2,854
Deferred stock compensation............................... (1,206) (2,222)
Notes receivable from stockholders........................ (161) (161)
Accumulated deficit....................................... (24,072) (12,766)
Accumulated other comprehensive loss...................... (10) --
-------- --------
Total stockholders' equity........................ 32,018 3,422
-------- --------
Total liabilities and stockholders' equity........ $ 39,092 $ 7,604
======== ========

See notes to consolidated financial statements.

F-3
44

PERSISTENCE SOFTWARE, INC.

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

YEARS ENDED DECEMBER 31,
------------------------------
1999 1998 1997
-------- ------- -------

Revenues:
License................................................... $ 10,890 $ 7,478 $ 3,546
Service................................................... 3,553 2,682 1,867
-------- ------- -------
Total revenues.................................... 14,443 10,160 5,413
-------- ------- -------
Cost of revenues:
License................................................... 170 239 342
Service................................................... 2,633 1,372 729
-------- ------- -------
Total cost of revenues............................ 2,803 1,611 1,071
-------- ------- -------
Gross profit................................................ 11,640 8,549 4,342
Operating expenses:
Sales and marketing....................................... 14,052 7,168 4,712
Research and development (excluding amortization of
purchased intangibles)................................. 6,357 4,234 2,954
General and administrative................................ 2,820 1,237 1,362
Amortization of purchased intangibles..................... 576 -- --
-------- ------- -------
Total operating expenses.......................... 23,805 12,639 9,028
-------- ------- -------
Loss from operations........................................ (12,165) (4,090) (4,686)
Interest income (expense):
Interest income........................................... 975 116 85
Interest expense.......................................... (116) (115) (73)
-------- ------- -------
Total interest income (expense)................... 859 1 12
-------- ------- -------
Net loss.................................................... $(11,306) $(4,089) $(4,674)
======== ======= =======
Basic and diluted net loss per share........................ $ (0.86) $ (0.59) $ (0.73)
======== ======= =======
Shares used in calculating basic and diluted net loss per
share..................................................... 13,091 6,879 6,366
======== ======= =======

See notes to consolidated financial statements.

F-4
45

PERSISTENCE SOFTWARE, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)

COMMON STOCK NOTES
PREFERRED STOCK COMMON STOCK DEFERRED SUBSCRIBED RECEIVABLE
--------------------- -------------------- STOCK ---------------- FROM
SHARES AMOUNT SHARES AMOUNT COMPENSATION SHARES AMOUNT STOCKHOLDERS
---------- -------- ---------- ------- ------------ ------- ------ ------------

Balances, January 1,
1997..................... 5,372,707 $ 8,625 6,770,315 $ 90 32,359 $ 7 $ (23)
Net loss..................
Sale of Series B preferred
stock.................... 5,200 12
Sale of Series C preferred
stock.................... 431,965 1,973
Issuance of common
stock.................... 1,119,482 257 (32,359) (7) (181)
Repurchase of common
stock.................... (237,056) (42) 23
Compensatory stock
arrangements............. 287 $ (287)
---------- -------- ---------- ------- ------- ------- --- -----
Balances, December 31,
1997..................... 5,809,872 10,610 7,652,741 592 (287) -- -- (181)
Net loss..................
Sale of Series C preferred
stock.................... 1,112,312 5,107
Issuance of common
stock.................... 4,754 1
Repurchase of common
stock.................... (23,081) (5)
Repayment of notes
receivable from
stockholders............. 20
Compensatory stock
arrangements............. 2,266 (2,266)
Amortization of deferred
stock compensation....... 331
---------- -------- ---------- ------- ------- ------- --- -----
Balances, December 31,
1998..................... 6,922,184 15,717 7,634,414 2,854 (2,222) -- -- (161)
Net loss..................
Change in unrealized gain
(loss) on investments....
Comprehensive loss........
Sale of Series D preferred
stock.................... 775,701 4,142
Conversion of preferred
stock to common stock.... (7,697,885) (19,859) 7,697,885 19,859
Issuance of common
stock.................... 3,937,405 34,799
Compensatory stock
arrangements............. (45) 45
Amortization of deferred
stock compensation....... 971
---------- -------- ---------- ------- ------- ------- --- -----
Balances, December 31,
1999..................... -- $ -- 19,269,704 $57,467 $(1,206) -- $-- $(161)
========== ======== ========== ======= ======= ======= === =====

ACCUMULATED
OTHER TOTAL
ACCUMULATED COMPREHENSIVE COMPREHENSIVE
DEFICIT LOSS TOTAL LOSS
----------- ------------- -------- -------------

Balances, January 1,
1997..................... $ (4,003) $ 4,696
Net loss.................. (4,674) (4,674)
Sale of Series B preferred
stock.................... 12
Sale of Series C preferred
stock.................... 1,973
Issuance of common
stock.................... 69
Repurchase of common
stock.................... (19)
Compensatory stock
arrangements............. --
-------- ---- --------
Balances, December 31,
1997..................... (8,677) 2,057
Net loss.................. (4,089) (4,089)
Sale of Series C preferred
stock.................... 5,107
Issuance of common
stock.................... 1
Repurchase of common
stock.................... (5)
Repayment of notes
receivable from
stockholders............. 20
Compensatory stock
arrangements............. --
Amortization of deferred
stock compensation....... 331
-------- ---- --------
Balances, December 31,
1998..................... (12,766) 3,422
Net loss.................. (11,306) (11,306) $(11,306)
Change in unrealized gain
(loss) on investments.... $(10) (10) (10)
--------
Comprehensive loss........ $(11,316)
========
Sale of Series D preferred
stock.................... 4,142
Conversion of preferred
stock to common stock.... --
Issuance of common
stock.................... 34,799
Compensatory stock
arrangements............. --
Amortization of deferred
stock compensation....... 971
-------- ---- --------
Balances, December 31,
1999..................... $(24,072) $(10) $ 32,018
======== ==== ========

See notes to consolidated financial statements.
F-5
46

PERSISTENCE SOFTWARE, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)

YEARS ENDED DECEMBER 31,
------------------------------
1999 1998 1997
-------- ------- -------

CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $(11,306) $(4,089) $(4,674)
Adjustments to reconcile net loss to net cash used in
operating activities:
Allowance for doubtful accounts......................... 285 (28) --
Depreciation and amortization........................... 1,144 556 505
Amortization of deferred stock compensation............. 971 331 --
Stock issued in lieu of rent............................ -- -- 19
Changes in assets and liabilities:
Accounts receivable.................................. (4,211) 145 (775)
Prepaid expenses and other current assets............ (1,032) (66) (37)
Accounts payable..................................... 774 (205) 641
Accrued compensation and related benefits............ 1,292 (16) 104
Other accrued liabilities............................ 1,040 90 29
Deferred revenues.................................... 217 413 959
Deferred rent........................................ (64) (96) 99
-------- ------- -------
Net cash used in operating activities.............. (10,890) (2,965) (3,130)
-------- ------- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Short-term investments additions.......................... (7,362) -- --
Property and equipment additions.......................... (919) (442) (555)
Purchased intangibles additions........................... (1,640) -- --
Deposits.................................................. (41) 6 (34)
-------- ------- -------
Net cash used in investing activities.............. (9,962) (436) (589)
-------- ------- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Sale of convertible preferred stock, net.................. 4,142 5,107 1,985
Sale of common stock, net................................. 34,439 1 50
Repurchase of common stock................................ -- (5) (19)
Repayment of notes receivable from stockholders........... -- 20 --
Repayment of capital lease obligations.................... (367) (194) (222)
Borrowing under loan agreement............................ -- 800 --
-------- ------- -------
Net cash provided by financing activities.......... 38,214 5,729 1,794
-------- ------- -------
CASH AND CASH EQUIVALENTS:
Net increase (decrease)................................... 17,362 2,328 (1,925)
Beginning of year......................................... 4,938 2,610 4,535
-------- ------- -------
End of year............................................... $ 22,300 $ 4,938 $ 2,610
======== ======= =======
NONCASH INVESTING AND FINANCING ACTIVITIES:
Common stock issued for notes receivable.................. $ -- $ -- $ 181
======== ======= =======
Common stock issued for purchased intangibles............. $ 360 $ -- $ --
======== ======= =======
Conversion of convertible preferred stock into common
stock................................................... $ 19,859 $ -- $ --
======== ======= =======
Cancellation of note receivable........................... $ -- $ -- $ 23
======== ======= =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION -- CASH
PAID DURING THE YEAR FOR:
Interest................................................ $ 114 $ 115 $ 72
======== ======= =======
Income taxes............................................ $ 3 $ 1 $ 1
======== ======= =======

See notes to consolidated financial statements.
F-6
47

PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

1. BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES

Business -- Persistence Software, Inc. and subsidiary (the Company), a
Delaware corporation, develops and markets transactional application server
software products that comprise the Internet software infrastructure for
high-volume, high-performance electronic commerce applications.

Principles of Consolidation -- The consolidated financial statements
include the accounts of the Company and its wholly-owned subsidiary. All
intercompany transactions and balances have been eliminated in consolidation.

Cash Equivalents -- The Company considers all highly liquid debt
instruments purchased with remaining maturities of less than three months to be
cash equivalents.

Short-term Investments -- Short-term investments consist primarily of
highly liquid debt instruments purchased with remaining maturity dates of
greater than 90 days but less than 12 months. Management determines the
classification of debt and equity securities at the time of purchase and
reevaluates the classification at each balance sheet date. Debt securities are
classified as available-for-sale when the Company generally has the ability and
intent to hold such securities to maturity, but, in certain circumstances, may
potentially dispose of such securities prior to their maturity. Securities
available-for-sale are reported at fair value with unrealized gains and losses
reported as a separate component of stockholders' equity. All available-
for-sale securities are classified as current assets. At December 31, 1999,
short-term investments consisted of corporate debt securities (commercial paper)
and U.S. government debt securities with maturities of less than one year.

Short term investments include the following available-for-sale securities
at December 31, 1999 (in thousands):

UNREALIZED UNREALIZED
AMORTIZED HOLDING HOLDING MARKET
COST GAINS LOSSES VALUE
--------- ---------- ---------- -------
(IN THOUSANDS)

Money market funds............................. $ 1,682 -- -- $ 1,682
Commercial paper............................... 13,107 $1 -- 13,108
U.S. government agencies....................... 14,105 -- $(11) 14,094
------- -- ---- -------
Total available for sale
securities......................... $28,894 $1 $(11) $28,884
======= == ==== =======
Included in cash equivalents................... $21,532
Included in short-term investments............. 7,352
-------
Total available for sale
securities......................... $28,884
=======

Property and equipment are stated at cost. Depreciation and amortization
are computed using the straight-line method over estimated useful lives of three
years. Leasehold improvements are amortized over the shorter of the lease term
or their useful life.

Purchased intangibles are stated at cost. Amortization is computed using
the straight-line method over the estimated useful lives of two to three years.

Impairment of Long-Lived Assets and Long-Lived Assets To Be Disposed
Of -- The Company evaluates its long-lived assets for impairment whenever events
or changes in circumstances indicate that the carrying amount of such assets or
intangibles may not be recoverable. Recoverability of assets to be held and used
is measured by a comparison of the carrying amount of an asset to future
undiscounted net cash flows expected to be generated by the asset. If such
assets are considered to be impaired, the impairment to be recognized is

F-7
48
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell.

Software Development Costs -- Costs for the development of new software
products and substantial enhancements to existing software products are expensed
as incurred until technological feasibility has been established, at which time
any additional costs would be capitalized in accordance with Statement of
Financial Accounting Standards (SFAS) No. 86, Computer Software To Be Sold,
Leased or Otherwise Marketed. Because the Company believes its current process
for developing software is essentially completed concurrently with the
establishment of technological feasibility, no costs have been capitalized to
date.

Notes Receivable from Stockholders -- The notes receivable from
stockholders were issued in exchange for common stock, bear interest at 5.93%
per annum, and are due in December 2001.

Revenue Recognition -- Revenue consists primarily of fees for licenses of
the Company's software products, maintenance and customer support.

License Revenue -- Revenue from software licenses is recognized upon
shipment of the software if collection of the resulting receivable is
probable, an executed agreement has been signed, the fee is fixed or
determinable and vendor-specific objective evidence exists to allocate a
portion of the total fee to any undelivered elements of the arrangement.
Such undelivered elements in these arrangements typically consist of
services. For sales made through distributors, revenue is recognized upon
shipment. Distributors have no right of return.

Service Revenue -- Revenue from customer training, support and
consulting services is recognized as the services are performed. Support
revenue is recognized ratably over the term of the support contract. If
support or professional services are included in an arrangement that
includes a license agreement, amounts related to support or professional
services are allocated based on vendor-specific objective evidence.
Vendor-specific objective evidence for support and professional services is
based on the price when such elements are sold separately, or, when not
sold separately, the price established by management having the relevant
authority. Arrangements which require significant modification or
customization of software are recognized under the percentage of completion
method.

In October 1997, the American Institute of Certified Public Accountants
issued Statement of Position (SOP) 97-2, Software Revenue Recognition, as
amended by SOPs 98-4 and 98-9. This statement and related amendments provide
guidance on applying generally accepted accounting principles in recognizing
revenue on software transactions and superseded SOP 91-1, Software Revenue
Recognition. SOP 97-2 was effective for transactions entered into in 1998. The
adoption of this standard and related amendments did not have a material effect
on the Company's financial position or results of operations.

Income Taxes -- Income taxes are provided using an asset and liability
approach which requires recognition of deferred tax liabilities and assets, net
of valuation allowances, for the expected future tax consequences of temporary
differences between the financial statement carrying amounts and the tax bases
of assets and liabilities and net operating loss and tax credit carryforwards.

Foreign Currency Transactions -- The functional currency of the Company's
foreign subsidiary is the U.S. dollar. Accordingly, all monetary assets and
liabilities are translated at the current exchange rate at the end of the year,
nonmonetary assets and liabilities are translated at historical rates and net
sales and expenses are translated at average exchange rates in effect during the
period. Transaction gains and losses, which are included in other income
(expense) in the accompanying consolidated statements of operations, have not
been significant.

Stock Compensation -- The Company accounts for stock-based awards to
employees using the intrinsic value method in accordance with Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to
F-8
49
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

Employees. Accordingly, no accounting recognition is given to employee stock
options granted at fair market value until they are exercised. Upon exercise,
the net proceeds and any related tax benefit are credited to stockholders'
equity.

Net Loss per Common Share -- Basic net loss per common share excludes
dilution and is computed by dividing net loss by the weighted average number of
common shares outstanding for the period (excluding shares subject to
repurchase). Diluted net loss per common share was the same as basic net loss
per common share for all periods presented. This result is due to the exclusion
of all potentially dilutive securities, which are actually anti-dilutive because
of the Company's net losses.

Concentration of Credit Risk -- Financial instruments that potentially
expose the Company to concentrations of credit risk consist primarily of trade
receivables. The Company primarily sells its products to companies in the United
States and Europe. The Company does not require collateral or other security to
support accounts receivable. To reduce credit risk, management performs ongoing
credit evaluations of its customers' financial condition. The Company maintains
allowances for potential credit losses.

Financial Instruments -- The Company's financial instruments include cash
and equivalents, short-term investments, notes receivable from stockholders and
long-term debt. At December 31, 1999 and 1998, the fair value of these financial
instruments approximated their financial statement carrying amounts.

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

Certain Significant Risks and Uncertainties -- The Company operates in the
software industry, and accordingly, can be affected by a variety of factors. For
example, management of the Company believes that changes in any of the following
areas could have a significant negative effect on the Company in terms of its
future financial position, results of operations and cash flows: ability to
obtain additional financing; regulatory changes; fundamental changes in the
technology underlying software products; market acceptance of the Company's
products under development; development of sales channels; loss of significant
customers; adverse changes in international market conditions; year 2000
compliance issues; litigation or other claims against the Company; the hiring,
training and retention of key employees; successful and timely completion of
product development efforts; and new product introductions by competitors.

Comprehensive Income -- The Company had no comprehensive income items,
other than net loss for all years presented and $10,000 unrealized loss in the
market value of short-term investments at December 31,1999.

Segments of an Enterprise -- The Company currently operates in one
reportable segment.

Recently Issued Accounting Standards -- In June 1998, the FASB issued SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities. This
statement requires companies to record derivatives on the balance sheet as
assets or liabilities measured at fair value. Gains or losses resulting from
changes in the values of those derivatives would be accounted for depending on
the use of the derivative and whether it qualifies for hedge accounting. SFAS
No. 133 will be effective for the Company's fiscal year ending December 31,
2001. The Company is currently evaluating the impact of SFAS No. 133 on its
financial statements and related disclosures.

Reclassifications -- Certain reclassifications have been made to the 1998
and 1997 financial statement presentations to conform to the current year
presentation.

F-9
50
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

2. PROPERTY AND EQUIPMENT

Property and equipment consist of:

DECEMBER 31,
------------------
1999 1998
------- -------
(IN THOUSANDS)

Equipment................................................ $ 2,291 $ 1,718
Software................................................. 892 575
Leasehold improvements................................... 89 60
------- -------
3,272 2,353
Accumulated depreciation and amortization................ (2,221) (1,630)
------- -------
$ 1,051 $ 723
======= =======

3. LONG-TERM OBLIGATIONS

Long-term obligations consist of:

DECEMBER 31,
---------------
1999 1998
----- ------
(IN THOUSANDS)

Existing equipment term loan............................... $ 600 $ 800
Capital lease obligations (see Note 4)..................... 91 258
----- ------
691 1,058
Less current portion....................................... (337) (408)
----- ------
$ 354 $ 650
===== ======

In November 1999, the Company renewed its credit facilities with a bank.
Under the renewed facilities, in addition to its existing $800,000 equipment
term loan, the Company has available a new $5 million revolving line of credit
facility available through August 15, 2000 and a new $1 million equipment
financing facility under which drawdowns are available through July 15, 2000. As
of December 31, 1999, the Company had no borrowings outstanding under either
facility.

Under the new $5 million revolving line of credit facility, any outstanding
borrowings will bear interest at either the bank's base rate (8.50% as of
December 31, 1999) or LIBOR plus 2.0 basis points for a maximum of two LIBOR
advances in $500,000 minimum increments having 30, 60, or 90 day maturities.

Under the new $1 million equipment financing facility, any borrowings
either outstanding on July 15, 2000 or reaching an aggregate of $500,000
outstanding will automatically convert to a 36-month term loan having equal
monthly payments of principal and interest. Borrowings under the equipment
financing facility will bear interest at either the bank's base rate (8.50% as
of December 31, 1999) plus 0.50% or the bank's LIBOR rate plus 2.25 basis points
for a maximum of two LIBOR advances in $500,000 minimum increments having 30,
60, or 90 day maturities.

The bank's credit facilities require the Company, among other things, to
maintain a minimum tangible net worth of $25 million and a minimum quick ratio
(current assets not including inventory less current liabilities) of 2.0 to 1.
The Company was in compliance with all covenants at December 31, 1999.
Borrowings under the facilities are collateralized by substantially all of the
Company's assets.

At December 31, 1999, the Company had outstanding borrowings of $600,000
under the existing $800,000 equipment term loan, which bears interest at 7.75%.
The Company is required to make principal

F-10
51
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

payments of $22,222 per month plus interest on the unpaid principal balance,
payable in monthly installments through March 2002.

Annual maturities under the outstanding existing equipment term loan are as
follows:

FISCAL YEAR ENDING
DECEMBER 31,
------------------ (IN THOUSANDS)

2000................................................... $267
2001................................................... 267
2002................................................... 66
----
Total............................................. $600
====

4. LEASE COMMITMENTS

Equipment with a net book value of none and $89,000 at December 31, 1999
and 1998, respectively, (net of accumulated amortization of $692,000 and
$603,000) has been leased under capital leases.

The Company leases its principal facility under a noncancelable operating
lease expiring in June 2000. Rent expense was approximately $953,000, $337,000
and $330,000 in 1999, 1998 and 1997, respectively.

Future minimum payments under the Company's leases at December 31, 1999
are:

CAPITAL OPERATING
LEASES LEASES
------- ---------
(IN THOUSANDS)

2000...................................................... $ 75 $603
2001...................................................... 21 --
---- ----
Total........................................... 96 $603
====
Amount representing interest.............................. (5)
----
Present value............................................. 91
Current portion........................................... (70)
----
Long-term portion......................................... $ 21
====

5. STOCKHOLDERS' EQUITY

Convertible Preferred Stock

With the closing of the initial public offering of common stock in June
1999, all shares of the Company's outstanding convertible preferred stock were
converted to common stock on a share for share basis. The former preferred
stockholders had certain registration rights.

Common Stock

In 1996, the Company entered into an agreement with the lessor of its
principal facility to issue 110,000 shares of the Company's common stock valued
at $0.23 per share in lieu of rent payments for the twelve-month period
beginning September 1996. At December 31, 1996, 32,359 shares were subscribed
under this agreement. All 110,000 shares were issued in 1997. An expense of
$19,000 and $7,000 has been recorded in 1997 and 1996, respectively, related to
the issuance of such shares. Rent expense has been recorded on a straight-line
basis.

During 1997, the Company issued common stock to directors in their capacity
as consultants (see Note 8).

F-11
52
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

In February 1999, the Company entered into an agreement with a customer and
Series D preferred stockholder, whereby such customer was to perform development
work to achieve certain performance improvements related to the Company's
PowerTier product. In connection with this agreement, the Company allowed such
customer to purchase 90,300 shares of common stock at $1.65 per share in
February 1999, which was less than the deemed fair value for accounting
purposes. The Company has recorded a research and development expense of
$303,000 in 1999 for the difference between the deemed fair value and the stock
price of $1.65 per share.

1994 Stock Purchase Plan

Under the 1994 Stock Purchase Plan (the Plan), the Company may sell common
stock to employees of the Company at the fair market value as determined by the
Board of Directors. Sales are to be made pursuant to restricted stock purchase
agreements containing provisions established by the Board. No shares were issued
under the Plan in 1998. During 1997, the Company issued 212,995 shares of common
stock under the Plan at $0.23 per share. The Company has the right to repurchase
these shares at the original issuance price upon termination of employment; this
right expires ratably over four years. During 1999, 1998 and 1997, the Company
repurchased 10,084, 23,081 and 237,056 shares, respectively, at prices ranging
from $0.06 to $0.23 per share. At December 31, 1999, 18,899 shares were subject
to repurchase and no shares were available for future grant.

1997 Stock Plan

The Company has reserved 5,609,652 shares of common stock for issuance, at
the discretion of the Board of Directors, to officers, directors, employees and
consultants pursuant to its 1997 Stock Plan. The Plan provides for an automatic
annual increase on the first day of 2001, 2002, 2003, 2004 and 2005 equal to the
lesser of 650,000 shares, 3.5% of the outstanding common stock on the last day
of the immediately preceding fiscal year, or such lesser number as determined by
the Board of Directors.

At December 31, 1999, 796,487 shares have been issued at $0.23 per share
pursuant to restricted stock purchase agreements, 3,235,475 shares are reserved
for exercise of issued and outstanding options, and 1,272,385 shares are
available for future grant. The Company has a right to repurchase these shares
at original issuance price upon termination of employment; this right expires
ratably over four years. At December 31, 1999, 379,167 shares were subject to
repurchase. No shares were repurchased in 1999, 1998 or 1997.

Options granted under the 1997 Stock Plan generally vest over four years
and expire ten years from the date of grant. Certain options were issued to a
director in his capacity as a consultant in 1998 (See Note 8).

F-12
53
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

Additional information with respect to options under the 1997 Stock Plan is
as follows:

WEIGHTED
AVERAGE
NUMBER OF OPTION PRICE
OPTIONS PER SHARE
--------- ------------

Outstanding, January 1, 1997......................... -- $ --
Granted (weighted average fair value of $0.08)..... 424,250 0.23
Canceled........................................... (13,875) 0.23
--------- ------
Outstanding, December 31, 1997 (none exercisable).... 410,375 0.23
Granted (weighted average fair value of $2.49)..... 943,572 0.54
Exercised.......................................... (4,890) 0.23
Canceled........................................... (112,860) 0.24
--------- ------
Outstanding, December 31, 1998 (109,258 exercisable
at a weighted average exercise price of $0.24)..... 1,236,197 0.46
Granted (weighted average fair value of $11.68).... 2,863,287 11.42
Exercised.......................................... (310,499) 0.60
Canceled........................................... (553,510) 3.66
--------- ------
Outstanding, December 31, 1999 (276,720
exercisable)....................................... 3,235,475 $ 9.60
========= ======

Additional information regarding options outstanding as of December 31,
1999 is as follows:

OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------- -----------------------------
WEIGHTED AVERAGE WEIGHTED
REMAINING WEIGHTED AVERAGE
RANGE OF NUMBER CONTRACTUAL AVERAGE NUMBER EXERCISE
EXERCISE PRICES OUTSTANDING LIFE (YEARS) EXERCISE PRICE EXERCISABLE PRICE
--------------- ----------- ---------------- -------------- ----------- --------------

$0.01 to $ 0.50 518,402 8.3 $ 0.31 186,670 $ 0.42
0.51 to 5.00 192,305 9.1 1.47 20,865 1.02
5.01 to 10.00 1,398,643 9.3 9.90 82,247 10.00
10.01 to 15.00 833,750 9.8 12.95 1,000 11.00
15.01 to 20.00 51,875 9.7 16.62 -- --
20.01 to 20.94 240,500 9.6 20.94 -- --
--------- --- ------ ------- ------
$0.01 to $20.94 3,235,475 9.3 $ 9.60 290,782 $ 3.21
========= === ====== ======= ======

1999 Directors' Stock Option Plan

The Company's 1999 Directors' Stock Option Plan (the "Directors' Plan")
became effective upon the closing of the Company's initial public offering in
June 1999. Under the Directors' Plan, a total of 500,000 shares of common stock
have been reserved for the grant of nonstatutory stock options to nonemployee
directors of the Company. Options granted under the Director's Plan shall be
immediately vested and expire in five years from the date of grant. No options
have been granted under the Director's Plan as of December 31, 1999.

1999 Employee Stock Purchase Plan

The Company's 1999 Employee Stock Purchase Plan (the "ESPP") became
effective upon the closing of the Company's initial public offering in June
1999. Under the ESPP, eligible employees may purchase common stock through
payroll deductions, which may not exceed 20% of any employee's compensation, nor
more than 2,500 shares in any one purchase period. A total of 600,000 shares of
common stock has been reserved for issuance under the ESPP. The ESPP allows for
an automatic annual increase on the first day of
F-13
54
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

2000, 2001, 2002, 2003 and 2004 equal to the lessor of 250,000 shares or 1% of
outstanding common stock on the last day of the immediately preceding fiscal
year. As of December 31, 1999, no shares have been issued under the ESPP.

Deferred Stock Compensation

In connection with grants of certain stock options and issuance of common
stock in 1999, 1998 and 1997, the Company recorded $45,000, $2,266,000 and
$287,000, respectively, for the difference between the estimated fair value and
the stock price as determined by the Board of Directors on the date of
grant/issuance. This amount has been presented as a reduction of stockholders'
equity and is being amortized to expense over the vesting period of the related
stock/stock options (generally four years). Amortization of deferred stock
compensation for the years ended December 31, 1999 and 1998 was $971,000 and
$331,000, respectively.

Stock-Based Compensation

SFAS No. 123, Accounting for Stock-Based Compensation, requires the
disclosure of pro forma net loss had the Company adopted the fair value method
as of the beginning of fiscal 1995. Under SFAS No. 123, the fair value of
stock-based awards to employees is calculated through the use of option pricing
models, even though such models were developed to estimate the fair value of
freely tradable, fully transferable options without vesting restrictions, which
significantly differ from the Company's stock option awards. These models also
require subjective assumptions, including future stock price volatility and
expected time to exercise, which greatly affect the calculated values. The
Company's calculations were made using the Black-Scholes option pricing model
with the following weighted average assumptions for options outstanding under
the 1997 Stock Plan: expected life, 24 months following vesting in 1999, 1998
and 1997; risk free interest rate, 5.4% in 1999, 5.5% in 1998, and 6.0% in 1997;
volatility of 50% after the Company's June 1999 initial public offering of
common stock and none before that date; and no dividends during the expected
term. The Company's calculations are based on a multiple option valuation
approach and forfeitures are recognized as they occur. If the computed fair
values of the 1999, 1998 and 1997 awards had been amortized to expense over the
vesting period of the awards, pro forma net loss (net of amortization of
deferred compensation expense already recorded for the years ended December 31,
1999 and 1998, as discussed above) would have been approximately $13.0 million
($0.99 per basic and diluted share) in 1999, $4.4 million ($0.63 per basic and
diluted share) in 1998, and $4.7 million ($0.73 per basic and diluted share) in
1997.

6. NET LOSS PER SHARE

The following is a reconciliation of the numerators and denominators used
in computing basic and diluted net loss per share (in thousands):

YEAR ENDED DECEMBER 31,
-----------------------------
1999 1998 1997
------- ------- -------

Net loss (numerator), basic and diluted............... $11,306 $(4,089) $(4,674)
======= ======= =======
Shares (denominator):
Weighted average common shares outstanding.......... 13,605 7,644 6,869
Weighted average common shares outstanding subject
to repurchase.................................... (514) (765) (503)
------- ------- -------
Shares used in computation, basic and diluted....... 13,091 6,879 6,366
======= ======= =======
Net loss per share, basic and diluted................. $ (0.86) $ (0.59) $ (0.73)
======= ======= =======

For the above mentioned periods, the Company had securities outstanding
which could potentially dilute basic earnings per share in the future, but were
excluded from the computation of diluted net loss per share in

F-14
55
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

the periods presented, as their effect would have been anti-dilutive. Such
outstanding securities consist of the following:

DECEMBER 31,
--------------------------------------
1999 1998 1997
---------- ---------- ----------

Convertible preferred stock.................... -- 6,992,184 5,809,872
Shares of common stock subject to repurchase... 398,066 629,864 946,790
Outstanding options............................ 3,235,475 1,236,197 410,375
Warrants....................................... -- 80,556 80,556
---------- ---------- ----------
Total................................ 3,633,541 8,938,801 7,247,593
========== ========== ==========
Weighted average exercise price of options..... $ 9.60 $ 0.46 $ 0.23
========== ========== ==========
Weighted average exercise price of warrants.... $ -- $ 0.90 $ 0.90
========== ========== ==========

7. INCOME TAXES

The Company's deferred income tax assets are comprised of the following at
December 31:

1999 1998
-------- -------
(IN THOUSANDS)

Net deferred tax assets:
Net operating loss carryforwards.......................... $ 7,941 $ 4,113
Accruals deductible in different periods.................. 1,214 941
General business credits.................................. 1,582 890
Depreciation and amortization............................. 333 119
-------- -------
11,070 6,063
Valuation allowance....................................... (11,070) (6,063)
-------- -------
Total............................................. $ -- $ --
======== =======

Deferred income taxes reflect the 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, as well as net operating
loss and tax credit carryforwards. Due to the uncertainty surrounding the
realization of the benefits of its favorable tax attributes in future tax
returns, as of December 31, 1999 and 1998, the Company has fully reserved its
net deferred tax assets of approximately $11,070,000 and $6,063,000,
respectively.

The Company's effective rate differs from the expected benefit at the
federal statutory tax rate at December 31 as follows:

1999 1998 1997
----- ----- -----

Federal statutory tax rate.................................. (35.0)% (35.0)% (35.0)%
State taxes, net of federal benefit......................... (6.0) (6.0) (6.0)
Stock compensation expense.................................. 3.4 2.8 --
Other....................................................... 0.3 0.3 0.1
Valuation allowance......................................... 37.3 37.9 40.9
----- ----- -----
Effective tax rate........................................ --% --% --%
===== ===== =====

Substantially all of the Company's loss from operations for all periods
presented is generated from domestic operations.

F-15
56
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

At December 31, 1999, the Company has net operating loss (NOL)
carryforwards of approximately $20,619,000 and $8,190,000 for federal and state
income tax purposes, respectively. The federal NOL carryforwards expire through
2019, while the state NOL carryforwards expire through 2004. The net operating
loss carryforwards available for state tax purposes are substantially less than
for federal tax purposes, primarily because only 50% of state net operating
losses can be utilized to offset future state taxable income.

At December 31, 1999, the Company also has research and development credit
carryforwards of approximately $968,000 and $529,000 available to offset future
federal and state income taxes, respectively. The federal credit carryforward
expires in 2019, while the state credit carryforward has no expiration.

The extent to which the loss and credit carryforwards can be used to offset
future taxable income and tax liabilities, respectively, may be limited,
depending on the extent of ownership changes within any three-year period.

8. RELATED PARTY TRANSACTIONS

During 1998, the Company recognized revenue of $168,000 and $1,450,000 from
a Series B and a Series C preferred stockholder, respectively. At December 31,
1998, the Company had deferred revenue of $30,000 and $642,000 with the same
Series B and Series C preferred stockholders, respectively. At December 31,
1998, the Company had accounts receivable of $101,000 from the Series B
preferred stockholder.

During 1997, the Company recognized revenue of $300,000 and $250,000 from a
Series B and a Series C preferred stockholder, respectively. At December 31,
1997, the Company had deferred revenue of $750,000 from the same Series C
preferred stockholder.

During 1999, the Company paid $69,000 to a director for consulting
services. During 1998 and 1997, the Company paid $18,000 to a director for
consulting services, and in 1998 and 1997 paid $20,500 and $18,700,
respectively, to another director for consulting services. During 1997 the
Company sold 10,300 shares of common stock at a purchase price of $0.23 per
share to these two directors in connection with consulting services rendered. No
compensation expense was recorded for the sale of this common stock as the
purchase price was equal to the fair market value of the common stock on the
date of sale. In July 1998, the Company granted a fully vested option to
purchase up to 3,572 shares of common stock at $0.50 per share to a director in
connection with consulting services rendered. Compensation expense of $9,000 was
recorded for the difference between the exercise price and the deemed fair
market value of the common stock on the date of grant.

F-16
57
PERSISTENCE SOFTWARE, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997

9. SEGMENT INFORMATION, OPERATIONS BY GEOGRAPHIC AREA AND SIGNIFICANT CUSTOMERS

The Company is engaged in the development and marketing of transactional
application server software products and operates in one reportable segment
under SFAS 131.

Geographic Information

YEARS ENDED DECEMBER 31,
------------------------------------------------------------------------------
1999 1998 1997
------------------------ ------------------------ ------------------------
LONG-LIVED LONG-LIVED LONG-LIVED
REVENUES(1) ASSETS REVENUES(1) ASSETS REVENUES(1) ASSETS
----------- ---------- ----------- ---------- ----------- ----------
(IN THOUSANDS)

United States......... $10,369 $1,004 $ 7,223 $673 $4,774 $832
Europe................ 3,338 27 2,866 50 511 5
Rest of the world..... 736 20 71 -- 128 --
------- ------ ------- ---- ------ ----
$14,443 $1,051 $10,160 $723 $5,413 $837
======= ====== ======= ==== ====== ====

- ---------------
(1) Revenues are broken out geographically by the ship-to location of the
customer.

Significant Customers

During 1999, one customer (a common stockholder) accounted for 13% of the
Company's total revenues. During 1998, one customer (a common stockholder)
accounted for 14% of total revenues. Additionally, a customer (a common
stockholder) accounted for 17% of total revenues. In 1997, an unrelated customer
accounted for 11% of total revenues.

At December 31, 1999, one customer accounted for 11% of accounts
receivable. At December 31, 1998, three customers each accounted for 14% of
accounts receivable.

10. EMPLOYEE BENEFIT PLAN

The Company has a 401(k) tax-deferred savings plan, whereby eligible
employees may contribute a percentage of their eligible compensation (presently
from 1% to 20% up to the maximum allowed under IRS rules). Company contributions
are discretionary; no such Company contributions have been made since inception
of this plan.

F-17
58

PERSISTENCE SOFTWARE, INC. AND SUBSIDIARY

INDEX TO CONSOLIDATED FINANCIAL STATEMENT SCHEDULES

PAGE
----

Audited Consolidated Financial Statements Schedules:
Independent Auditors' Report.............................. S-2
Schedule II -- Consolidated Schedule of Valuation and
Qualification Accounts for the years ended December 31,
1999, 1998 and 1997.................................... S-3

Schedules not listed above have been omitted because the information required to
be set forth therein is not applicable or is shown in the consolidated financial
statements or notes thereto.

S-1
59

INDEPENDENT AUDITORS' REPORT

To the Board of Directors and Stockholders of
Persistence Software, Inc.:

We have audited the consolidated financial statements Persistence Software,
Inc. as of December 31, 1999 and 1998, and for each of the three years in the
period ended December 31, 1999, and have issued our report thereon dated January
28, 2000. Our audits also included the consolidated financial statement schedule
of Persistence Software, Inc., listed in the Index at Item 14(a)(2). This
consolidated financial statement schedule is the responsibility of the Company's
management. Our responsibility is to express an opinion based on our audits. In
our opinion, such consolidated financial statement schedule, when considered in
relation to the basic consolidated financial statements taken as a whole,
presents fairly in all material respects the information set forth therein.

DELOITTE & TOUCHE LLP

San Jose, California
January 28, 2000

S-2
60

SCHEDULE II

PERSISTENCE SOFTWARE, INC. AND SUBSIDIARY
CONSOLIDATED SCHEDULE OF VALUATION AND QUALIFYING ACCOUNTS

BALANCE AT BEGINNING CHARGED TO COST DEDUCTIONS/ BALANCE AT
OF PERIOD AND EXPENSES WRITE-OFFS END OF PERIOD
-------------------- --------------- ----------- -------------

Year ended December 31, 1997
Allowance for doubtful
accounts...................... $25,000 $131,000 $ 81,000 $ 75,000
======= ======== ======== ========
Year ended December 31, 1998
Allowance for doubtful
accounts...................... $75,000 $ -- $ 28,000 $ 47,000
======= ======== ======== ========
Year ended December 31, 1999
Allowance for doubtful
accounts...................... $47,000 $467,000 $182,000 $332,000
======= ======== ======== ========

S-3
61

EXHIBIT INDEX

EXHIBIT
NUMBER DESCRIPTION
------- -----------

3.2* Amended and Restated Certificate of Incorporation of
Persistence.
3.4* Amended and Restated Bylaws of Persistence.
4.1* Specimen Stock Certificate.
10.1* Form of Common Stock Purchase Agreement between Persistence
and each of Christopher T. Keene and Derek P. Henninger.
10.2* Fifth Amended and Restated Investor Rights Agreement dated
February 19, 1999 among Persistence and certain investors.
10.3* Fourth Amended and Restated Co-Sale Agreement dated February
19, 1999 among Persistence and certain investors.
10.4* Form of Change of Control Agreement between Persistence and
each of Lyn Anderson, James H. Barton, Alan Cohen, Carol
Curry, Barry Goss, Randy Hietter, Christine Russell and
Laurence Hootnick.
10.5* 1994 Stock Purchase Plan (as amended) and Form of Common
Stock Purchase Agreement.
10.6* 1997 Stock Plan (as amended) and Forms of Stock Option
Agreement and Common Stock Purchase Agreement.
10.7* 1999 Employee Stock Purchase Plan and Form of Subscription
Agreement.
10.8* 1999 Directors' Stock Option Plan and Form of Option
Agreement.
10.9* Lease dated June 12, 1991 between Persistence and Great
American Bank (as amended).
10.10*+ Settlement and License Agreement dated March 23, 1998
between Persistence and Sun Microsystems, Inc.
10.11* Form of Indemnification Agreement between Persistence and
officers and directors.
21.1* List of subsidiaries.
23.1 Independent Auditors' Consent.
27.1 Financial Data Schedule.

- ---------------
* Incorporated herein by reference to the exhibit filed with the Company's
Registration Statement on Form S-1 (Commission File No. 333-76867)

+ Confidential treatment requested as to portions of this exhibit.