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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Form 10-Q

Commission file number 000-29273

QUOVADX, INC.

6400 S. Fiddler’s Green Circle, Suite 1000, Englewood, Colorado 80111

(303) 488-2019

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

      Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).     Yes þ          No o

      At May 13, 2003, 30,518,858 shares of common stock were outstanding.

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QUOVADX, INC.

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PART I FINANCIAL INFORMATION

QUOVADX, INC.

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

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QUOVADX, INC.

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

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QUOVADX, INC.

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

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QUOVADX, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

      The accompanying condensed consolidated financial statements of Quovadx, Inc. (“Quovadx,” the “Company,” “we” or “us”) have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to such rules and regulations. However, we believe that the disclosures are adequate to make the information presented not misleading. The unaudited financial statements have been prepared on the same basis as our annual financial statements and reflect all adjustments, which include only normal recurring adjustments necessary for a fair presentation in accordance with accounting principles generally accepted in the United States. The results for the three months ended March 31, 2003 are not necessarily indicative of the results expected for the full year. These financial statements should be read in conjunction with the audited financial statements and accompanying notes included in our Annual Report on Form 10-K for the year ended December 31, 2002.

      Reclassifications. Certain prior year information has been reclassified to conform with the current year presentation.

      On March 1, 2002, the Company completed the sale of certain assets of its Advica subsidiary to Royal Health Care of Long Island, LLC, d/b/a Royal Health Care (“Royal”). Under the terms of the asset sale agreement, Royal acquired the medical management services business, including personnel, property, key contracts and equipment. The Company retained the core systems and information technology of Advica and entered into an agreement to provide application service provider services to Royal for a period of seven years. As consideration for the sale of assets and services to be provided, the Company received cash of $475,000 and a 4.6% equity interest in Royal valued at $2.7 million based on an independent appraisal. Based on the warranty provisions and payment milestones associated with the services agreement, the Company allocated $1.2 million of the consideration received to the services agreement which will be recognized into revenue on a straight line basis over the term of the services agreement. The remaining $2.0 million of consideration received was allocated to the sale of assets and the Company recorded a gain of $87,000 as a result of the sale. The equity interest in Royal is recorded at cost in other assets as the Company does not have significant influence on the operations of Royal.

      On March 27, 2002, the Company purchased all of the outstanding stock of Outlaw Technologies, Inc. (“Outlaw”). The Company purchased Outlaw to add a customer relationship management application to our suite of Adaptive Applications. The purchase price, totaling $2.7 million included 138,575 shares of the Company’s common stock and $1.8 million in cash and professional fees directly related to the acquisition. The Company allocated the purchase price based on the fair value of assets and liabilities acquired determined in an independent appraisal as follows: $1.7 million in goodwill, $0.8 million in software, $0.7 million in other intangible assets, $0.3 million in cash and other current assets, and $0.6 million in liabilities.

      The Company retained an independent appraiser to assist with the assigning of fair values to the identifiable intangibles acquired from Outlaw. The valuation relied on methodologies that most closely related to the fair market value assignment with the economic benefits provided by each asset and risks associated with the assets. Operating results have been included in the consolidated financial results from the date of acquisition. Had the Outlaw acquisition taken place on January 1, 2002, the results of operations would not have been significantly different for the three months ended March 31, 2002.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

      Net income (loss) per common share (“EPS”) is calculated in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 128, “Earnings per Share.” Under the provisions of SFAS No. 128, basic EPS is computed by dividing the net income for the period by the weighted average number of common shares outstanding during the period. Diluted EPS reflects the potential dilution that could occur if stock options were exercised, resulting in the issuance of common stock that would share in the earnings of the Company. Potential dilution of the stock options exercisable into common stock is computed using the treasury stock method based on the average fair market value of the stock. In periods where the Company has a net loss the effect of common stock equivalents is excluded from the computation of diluted EPS since their effect would decrease the loss per share. The diluted weighted average common shares calculation for the three months ended March 31, 2003 excludes 457,895 options to purchase common stock because their effect would have been anti-dilutive.

      The following table sets forth the computation of the numerators and denominators in the basic and diluted net income (loss) per common share calculations for the periods indicated (in thousands):

      Segment information has been prepared in accordance with FASB SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information.” The Company defines operating segments as components of an enterprise for which discrete financial information is available and is reviewed regularly by the chief operating decision-maker or decision-making group, to evaluate performance and make operating decisions. The chief operating decision-making group reviews the revenue and margin by the nature of the services provided and reviews the overall results of the Company. Accounting policies of the segments are the same as those described in the summary of significant accounting policies.

      The Company operates in three segments: professional services, software licenses and recurring revenue. The professional services segment includes revenue generated from software implementation, development and integration. The software license segment includes revenue from perpetual software license sales and software subscriptions. The recurring revenue segment includes revenue generated from outsourcing, hosting, maintenance, transactions, and other recurring services.

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

      Following is a breakout by segment. The margin for the segments excludes corporate expenses. The “other” category includes corporate expenses and eliminations.

(1)	A breakout of assets and capital expenditures for all segments is not provided to our chief operating decision-maker. The other column represents the amount to reconcile to the consolidated total.

5.     Goodwill and Other Intangibles

      The Company adopted Financial Accounting Standard (SFAS) No. 142, “Goodwill and Other Intangible Assets” in 2002. In accordance with SFAS No. 142, the Company did not record amortization expense related to goodwill for acquisitions entered into after July 1, 2001 and for all acquisitions as of January 1, 2002.

      SFAS No. 142, requires that the company test goodwill annually for impairment and more frequently if events or changes in circumstances indicate assets might be impaired. The Company performed a transitional impairment test upon the adoption of SFAS No. 142 on January 1, 2002 and recorded no impairment as a result of this test. The Company had identified the fourth quarter as the period for its annual impairment test. However, due to significant negative industry and economic trends affecting the market value of the Company’s common stock, the Company performed an interim test of goodwill impairment in the third quarter of 2002. As a result of this interim test, the Company recorded an impairment charge of $93.1 million to reduce goodwill based on the amount that the carrying value of the goodwill exceeded its fair value. This impairment charge eliminated goodwill associated with all previous acquisitions and related to each of the Company’s reportable segments.

      Intangible assets recognized in the Company’s acquisitions are being amortized over their estimated lives ranging from three to eight years. The following table provides information relating to the Company’s amortized and unamortized intangible assets as of March 31, 2003 (in thousands):

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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

      At March 31, 2003, the Company had three stock option plans and an employee stock purchase plan. The Company has elected to account for stock-based compensation arrangements using the intrinsic value method under the provisions of Accounting Principles Board Opinion No. 25 (“APB 25”), “Accounting for Stock Issued to Employees”. Under this method, stock compensation is recognized to the extent that the exercise price is less than the market price for the underlying stock on the date of grant. The following table illustrates the effect on net loss and net loss per share if the Company had applied the fair value recognition provisions of Statement of Financial Accounting Standards (SFAS) No. 123, “Accounting for Stock-Based Compensation,” to stock-based employee compensation (in thousands except per share amounts).

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

FORWARD-LOOKING STATEMENTS

      All statements, trend analysis and other information contained in this Form 10-Q of Quovadx, Inc. (“Quovadx”, the “Company”, “we” or “us”) and the information incorporated by reference which are not historical in nature are forward-looking statements within the meaning of the Private-Securities Litigation Reform Act of 1995. These forward-looking statements include, without limitation, discussion relative to markets for our products and trends in revenue, gross margins and anticipated expense levels, as well as other statements including words such as “anticipate,” “believe,” “plan,” “estimate,” “expect” and “intend” and other similar expressions. All statements regarding the Company’s expected financial position and operating results, business strategy, financing plans, forecast trends relating to our industry are forward-looking statements. These forward-looking statements are subject to business and economic risks and uncertainties, and our actual results of operations may differ materially from those contained in the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in “Risk Factors” below.

OVERVIEW

      Quovadx provides software and services to enable companies to achieve competitive process advantage. QDX™ Platform V is application development software that allows our customers to leverage the processes and data in existing legacy applications and databases while they develop new composite applications. The key to attaining a competitive process advantage is owning a software platform that provides software components that customers can easily modify to react to changing business processes. QDX Platform V software speeds development and deployment of our customers’ process and integration applications to improve their business processes and to achieve competitive process advantage. In addition, Quovadx adds extensive professional service capabilities, including consulting, implementation, hosting, transaction services and operations management. We believe our model creates value for our customers by allowing them to automate and extend valuable business processes and transact business in real-time with their trading partners (customers, suppliers, business partners), while preserving the significant investments they have made in their legacy systems. We believe our key differentiator is proven by the complex business applications we have built on QDX Platform V. We have nine of these applications called Adaptive Applications: QDX™ HIPAA Express; the INSURENET® Solution; QDX™ Case Management; QDX™ Utilization Management; QDX™ Disease Management; QDX™ Quick Trials; QDX™ Trading Partner Manager; QDX™ Customer Focus; and the QDX™ Payer Solution Suite. These applications demonstrate that QDX Platform V is a complete toolset, capable of undertaking the most complex application integration and business process management problems. Our Adaptive Applications offer our customers an alternative to the high cost of developing a custom application and the inflexibility of implementing a packaged application. Adaptive Applications, built on QDX Platform V, include 50% to 75% of the required “out-of-the-box” business process functionality that an enterprise needs. Our Adaptive Applications enable our customers to incorporate their best practices into the software to gain Competitive Process Advantages and allow an organization to rapidly tailor and tune business processes in response to evolving requirements, regulations and policies. The result is a quickly deployable, customized solution.

Operating Segments

      We operate in three segments: professional services, software licenses, and recurring revenue. The professional services segment includes revenue generated from software implementation, development, and integration. The software license segment includes revenue from perpetual software license sales and from software subscriptions. The recurring revenue segment includes revenue generated from outsourcing, hosting, maintenance, transactions, and other recurring services.

Business Acquisitions and Asset Sale

      During 2002, the Company completed the sale of certain assets of its Advica Health Resources subsidiary to Royal Health Care of Long Island, LLC, d/b/a Royal Health Care (“Royal”) for $475,000 in cash and 4.6% of

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      On March 27, 2002, the Company purchased all of the outstanding stock of Outlaw Technologies, Inc. (“Outlaw”). The Company purchased Outlaw to add a customer relationship management application to our suite of Adaptive Applications. The purchase price, totaling $2.7 million included 138,575 shares of the Company’s common stock and $1.8 million in cash and professional fees directly related to the acquisition. The Company allocated the purchase price based on the fair value of assets and liabilities acquired determined in an independent appraisal as follows: $1.7 million in goodwill, $0.8 million in software, $0.7 million in other intangible assets, $0.3 million in cash and other current assets, and $0.6 million in liabilities.

Critical Accounting Policies

      The consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States which require management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. The Company relied on significant estimates in preparing the financial statements to evaluate the adequacy of the allowance for bad debt, the percentage of completion of fixed priced professional service contracts, the recoverability of deferred tax assets and the recoverability of capitalized software costs. Actual results could differ from those estimates. The Company believes that of its significant accounting policies, the following involve a higher degree of judgment and complexity.

      The Company recognizes revenue in accordance with the provisions of Statement of Position (“SOP”) 97-2, “Software Revenue Recognition,” as amended, and SOP 81-1, “Accounting for Performance of Construction-Type and Certain Production-Type Contracts.”

      License agreements generally provide that customers pay a license fee based on a specified number of instances of the software and the type of software modules licensed. Customers that purchase licenses generally enter into one-year maintenance agreements that entitle the customer to receive unspecified updates on the software licensed, error corrections and telephone support, generally for a fixed fee.

      The methodology the Company uses to recognize software license and related services revenue is dependent on whether the Company has established vendor-specific objective evidence (“VSOE”) of fair value for the separate elements of a multiple-element agreement. If an agreement includes both license and service elements, the license fee is recognized on delivery of the software if the remaining services are not essential to the functionality of the software, the collection of the fees is probable, the fees are fixed and determinable, an agreement is signed and the Company has established VSOE of fair value for the remaining services. Revenue from the related services is recognized as the services are provided. When the related services are essential to the functionality of the base product or when the Company has not established VSOE of fair value for the remaining services, the software license fees are deferred and the entire contract is recognized as the services are provided.

      Professional services revenue represents software development, implementation and consulting services. When derived from a fixed price contract, and collection of fees is probable, the Company recognizes professional services revenue using the percentage-of-completion method of accounting. When derived from a time-and-materials contract, and the collection of fees is probable, the Company recognizes professional services revenue as the services are provided.

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      Maintenance revenue is derived from agreements for providing unspecified software updates, error corrections and telephone support. Maintenance revenue is recognized ratably over the service period, which is generally 12 months.

      Process management and services revenue represent application hosting, transaction processing and other services. When the fees are fixed and determinable, and collection of the fees is probable, revenue is recognized over the service period. When the fees are charged on a per-transaction basis and collection of the fees is probable, revenue is recognized as the transactions are processed.

      When collection of fees is not probable, revenue is recognized as cash is collected. The Company does not require collateral from its customers.

      When revenue is recognized using the percentage-of-completion basis of accounting, the Company’s management estimates the costs to complete the services to be provided under the contract. The Company may encounter budget and schedule overruns caused by increased material, labor or overhead costs. Adjustments to cost estimates are made in the period in which the facts requiring such revisions become known. Estimated losses, if any, are recorded in the period in which the current estimates of the costs to complete the services exceed the revenue to be recognized under the contract.

      The Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of certain customers to pay their accounts receivable balances. The Company assesses financial condition of its customers to determine if there is an impairment of their ability to make payments and additional allowances may be required if the financial condition of the Company’s customers deteriorates.

      Software development costs are required to be expensed until the point that technological feasibility of the product is established. Once technological feasibility is established, such costs are capitalized until general availability of the product. The establishment of technological feasibility and continuing evaluation of the recoverability of the capitalized software development costs requires management’s judgment with respect to the impact of external factors such as future revenue, estimated economic life and changes in software and hardware technologies. Capitalized software development costs are amortized on a straight-line basis over an estimated life, which is generally three to five years. The Company capitalizes internal and external labor incurred in developing the software once technological feasibility is attained. At March 31, 2003, the Company has $4.8 million of capitalized software development costs, net of amortization.

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      The following table sets forth, for the periods indicated, certain items from the Company’s statements of operations as a percentage of total revenue:

Comparison of the Company’s Results for the Three Months Ended March 31, 2003 and 2002.

      Total revenue. Total revenue decreased $0.3 million, or 2%, to $17.4 million for the three months ended March 31, 2003 from $17.7 million for the three months ended March 31, 2002. Professional services revenue was $4.5 million for the three months ended March 31, 2003, a decline of $2.5 million or 35% from the three months ended March 31, 2002. The decrease in professional services revenue was primarily due to the completion of several large consulting projects. Offsetting the decrease was an increase in software license revenue of $1.7 million over the first quarter of 2002, which was due the Company’s drive to increase software sales, the introduction of QDX Platform V in the fourth quarter of 2002, and the expansion of the Company’s line of Adaptive Applications. Recurring revenue increased 6% to $7.5 million for the three months ended March 31, 2003 from $7.1 million in the comparable 2002 period.

      Cost of revenue. Cost of revenue, which includes amortization of software, increased $0.9 million, or 9%, to $10.8 million for the three months ended March 31, 2003 from $9.9 million from the three months ended March 31, 2002. Cost of revenue for the license segment increased due to an increase in software royalty expense of $1.2 million as a result of increased sales of third party software in the three months ended March 31, 2003. Software amortization increased $0.5 million over the three months ended March 31, 2002 primarily due an increase in the Company’s capitalized software balance from the continued development of the Company’s software products and the acquisition of Outlaw. Professional services cost of revenue decreased due to a

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      Sales and marketing. Sales and marketing expenses increased $1.1 million, or 40%, to $3.8 million for the three months ended March 31, 2003 from $2.7 million for the three months ended March 31, 2002. Sales and marketing expenses increased due to an increase in the size of the Company’s sales force and product marketing professionals. Headcount increased from 47 for the first quarter of 2002 to 75 in the first quarter of 2003. Bonus and commission expense was also higher due to an increase in software sales. As a percentage of revenue, sales and marketing expense increased 6.6% to 22.0% for the three months ended March 31, 2003 compared to 15.4% for the three months ended March 31, 2002.

      General and administrative. General and administrative expenses decreased $0.3 million, or 10%, to $3.0 million for the three months ended March 31, 2003 from $3.3 million from the year earlier period. The decrease in general and administrative expenses was primarily due to lower spending on legal and telecommunications expense. As a percentage of revenue, general and administrative expense decreased 1.5% to 17.4% for the three months ended March 31, 2003 compared to 18.9% for the three months ended March 31, 2002.

      Research and development. Research and development expenses increased $0.8 million, or 57%, to $2.2 million for the three months ended March 31, 2003 from $1.4 million for the three months ended March 31, 2002. This increase is primarily due to the decrease in the size and number of capitalizable software development projects. Capitalized software development costs decreased from $1.1 million in the first quarter of 2002 to $0.7 million in the first quarter of 2003. As a percentage of revenue, research and development expense increased 4.8% to 12.9% for the three months ended March 31, 2003 compared to 8.1% for the three months ended March 31, 2002.

      Amortization of acquired intangibles. The amortization of acquired intangibles results from assets purchased through our business acquisitions. Intangible assets amortization for the three months ended March 31, 2003 and 2002 were $0.5 million and $0.6 million, respectively. The decrease is primarily due to the full amortization of an intangible asset acquired in the Healthcare.com purchase in the first quarter of 2003.

      Interest income. Interest income includes interest income on cash, cash equivalents and short-term investment balances. Interest income decreased $0.1 million, to $0.2 million for the three months ended March 31, 2003 from $0.3 million for the prior year period. The decrease in interest income is due to lower interest rates and the decrease in the Company’s cash and short-term investments balance used to fund operations.

      Income tax benefit. A provision for federal and state income taxes has not been recorded for the three months ended March 31, 2003 and 2002, as we have incurred a net operating loss for the 2003 period and have incurred a net operating loss for the 2002 full year. We believe that, based on the history of losses and other factors, the weight of available evidence indicates that it is more likely than not that we will not be able to realize our deferred tax assets, and thus a full valuation allowance has been recorded against such assets as of March 31, 2003 and December 31, 2002.

      Segment margins. Segment results represent margins which, for segment reporting purposes, exclude certain costs and expenses, including corporate expenses, taxes other than income and other non-recurring charges. See Note 4 to the condensed consolidated financial statements.

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      Margin for professional services decreased over the three months ended March 31, 2003 primarily due a 35% decrease in the revenue recognized from the professional services segment. The decrease in software license margin is primarily due to an increase in royalty expense. The growth in the recurring revenue segment is primarily related to growth in the Company’s maintenance revenue. The sale of the Advica subsidiary in the first quarter of 2002 also added to the increase in the recurring revenue margin.

Liquidity and Capital Resources

      We have historically financed our operations through a combination of cash flow from operations, private sales of common and convertible preferred stock, issuances of convertible promissory notes and public sales of common stock. Since our IPO in February 2000, we have financed our operations with the proceeds of that offering and cash flow from operations.

      We expect to use our cash, cash equivalents and short-term investments for general corporate purposes, working capital and capital expenditures, to fund our operations and to continue expanding our product offerings. The amounts and timing of our actual expenditures will depend upon numerous factors, including the status of our product development efforts, marketing and sales activities and the amount of cash generated by our operations and competition. We may find it necessary or advisable to use portions of our cash and cash equivalents and short-term investments for other purposes. A portion of our cash, cash equivalents and short-term investments may also be used to acquire or invest in complementary businesses or products or to obtain the right to use synergistic technologies. Pending use of our cash and cash equivalents and short-term investments for the above purposes, we intend to invest such funds in short-term, interest-bearing, investment-grade securities.

      Net cash used in operating activities for the three months ended March 31, 2003 was $1.8 million compared to $2.6 million for the three months ended March 31, 2002. The decrease in net cash used in operating activities for the three months ended March 31, 2003 is primarily attributable to payments for acquisition related accounts payables and accrued liabilities during the first quarter of 2002. Partially offsetting the decrease is the increase in our net loss for the three months ended March 31, 2003 over 2002.

      Net cash provided by investing activities for the three months ended March 31, 2003 was $9.3 million compared to $2.2 million in the same period of the prior year. Investing activities consist of purchases of computer hardware and software, office furniture and equipment, purchase and sales of investments, additions to capitalized software, and cash used in the business acquisitions. Software capitalized for the three months ended March 31, 2003 decreased $0.4 million from the three months ended March 31, 2002. Additionally, there was an increase of $5.1 million in net sales of short-term investments from the three months ended March 31, 2002.

      Net cash provided by financing activities for the three months ended March 31, 2003 decreased $164,000 which was primarily related to exercise of stock options.

      The Company has commitments pursuant to certain real property lease obligations, and these obligations have not materially changed since December 31, 2002.

      We expect our current cash resources will be sufficient to meet our requirements for the next 18 months. We may need to raise additional capital to support expansion, to develop new or enhanced applications, services and product offerings, to respond to competitive pressures, to acquire complementary businesses or technologies or to take advantage of unanticipated opportunities. If we need additional capital, we would try to raise the additional funds by selling debt or equity securities, by entering into strategic relationships or through other arrangements. We cannot assure you that we would be able to raise any additional amounts on reasonable terms, or at all, if they are needed.

Recent Accounting Pronouncements

      In 2002, the FASB issued SFAS No. 148, “Accounting for Stock Based Compensation — Transition and Disclosure.” SFAS No. 148 provides transition methods for entities that adopt the fair value method of accounting for stock based compensation. Further, the statement requires disclosure of comparable information for all companies regardless of whether, when, or how an entity adopts the fair value method of accounting for stock based compensation. These disclosures are now required for interim periods in addition to the traditional

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      In November 2002, the FASB issued Interpretation No. 45 Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Direct and Indirect Guarantees of the Indebtedness of Others (FIN 45). FIN 45, which requires that certain guarantees be recorded at fair value, which differs from current practice, which is to record a liability only when a loss is probable and reasonably estimable. FIN 45 also requires new disclosures. The Company adopted the disclosure provisions of FIN 45 as of December 31, 2002.

RISK FACTORS

      The following risk factors could materially and adversely affect our operating results and could cause actual events to differ materially from those predicted in any forward-looking statements related to our business.

We have historically incurred losses and we may not be able to sustain profitability.

      Although we have had profitable quarters, we incurred losses for the three months ended March 31, 2003 and the years ended December 31, 2002, 2001 and 2000. As of March 31, 2003, we had an accumulated deficit of $143 million. Since our IPO in February of 2000, we have funded our business primarily from the cash generated from the sale of our stock and cash flow from operations. We expect to continue to incur significant sales and marketing, research and development and general and administrative expenses that may exceed our revenue. As a result, we may experience losses and negative cash flows in the future. Failure to achieve and maintain profitability may cause our stock price to decline and impair our business and financial prospects.

Our quarterly operating results are likely to fluctuate significantly and may fail to meet the expectations of securities analysts and investors, causing our share price to decline.

      Our quarterly operating results have fluctuated significantly in the past and are likely to fluctuate in the future. Moreover, our operating results in some quarters may not meet the expectations of stock market analysts and investors. In that event, our stock price would likely decline. Further declines in our stock price may impair our business prospects and our financial condition. As a result of our limited history of profitable operations, our business strategy, and the evolving nature of the markets in which we compete, we may have difficulty accurately forecasting our revenue in any given period. In addition to the factors discussed elsewhere in this section, a number of factors may cause our revenue to fall short of our expectations or cause fluctuations in our operating results, including:

	•	delay in our introduction of new applications, services and products offerings and enhancements of our existing solutions;
	•	the capital and expense budgeting decisions of our existing and prospective customers;
	•	the loss of a major customer;
	•	the amount and timing of operating costs and capital expenditures relating to the implementation of our business strategy;
	•	increased product development and engineering expenditures required to keep pace with technological changes;
	•	the announcement or introduction of new or enhanced products or services by our competitors.

We have embarked on a strategy to significantly increase software sales as our principal source of revenue. If that strategy is not successful, our business may be harmed.

      We have invested and continue to invest significant financial and management resources in reorganizing and enhancing our software sales effort. In recent months, we have hired what we believe are top caliber sales talent, and we have reformulated our sales materials and our presentation strategy, all with a goal of generating an increased percentage of our revenue from sales of our software products. These efforts have been expensive and

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The market for business process management and integration software may not grow as quickly as we anticipate, which would cause our revenue to fall below expectations.

      The market for business process management and integration software is relatively new and evolving. We earn a substantial portion of our revenue from sales of our business process management software, including application integration software, and related services. We expect to earn substantially all of our revenue in the future from sales of these products and services. Our future financial performance will depend on continued growth in the number of organizations demanding software and services for business process management and integration, requiring information delivery, and seeking outside vendors to develop, manage and maintain this software for their critical applications. Many of our potential customers have made significant investments in internally developed systems and would incur significant costs in switching to our products, which may substantially inhibit the growth of our software. If the market fails to grow, or grows more slowly than we expect, our sales will be adversely affected. In addition, a weakening global economy may lead to longer sales cycle and slower sales growth.

Our acquisition strategy could cause financial or operational problems.

      Our success depends on our ability to continually enhance and broaden our product offerings in response to changing technology, customer demands, and competitive pressures. To this end, we may acquire new and complementary businesses, products or technologies. We do not know if we will be able to complete any acquisitions or that we will be able to successfully integrate any acquired businesses, operate them profitably, or retain their key employees. Integrating any newly acquired business, product or technology could be expensive and time-consuming, could disrupt our ongoing business, and could distract our management. We may face competition for acquisition targets from larger and more established companies with greater financial resources. In addition, in order to finance any acquisitions, we might need to raise additional funds through public or private financings. In that event, we could be forced to obtain equity or debt financing on terms that are not favorable to us and, in the case of equity financing, that results in dilution to our stockholders. If we are unable to integrate any newly acquired entity, products or technology effectively, our business, financial condition and operating results would suffer. In addition, the amortization of intangible assets or other charges resulting from the cost of acquisitions could harm our operating results.

If we cannot execute our strategy to establish and maintain our relationships with established healthcare industry participants, our applications, services and products may not achieve healthcare market acceptance.

      The healthcare industry is our most important market. Relationships with established healthcare industry participants are critical to our success. These relationships include customer, vendor, distributor and co-marketer relationships. To date, we have established a number of these relationships. Once we have set up a relationship with an established healthcare industry participant, we rely on that participant’s ability to assist us in generating increased acceptance and use of our applications, services and product offerings. We have limited experience in maintaining relationships with healthcare industry participants. Additionally, the other parties to these relationships may not view these relationships with us as significant to their own business, and they may reassess their commitment to us or decide to compete directly with us in the future. We generally do not have agreements that prohibit them from competing against us directly or from contracting with our competitors. We cannot guarantee that any such party will perform its obligations as agreed or contemplated or that we would be able to specifically enforce any agreement with it. Our arrangements generally do not establish minimum performance requirements, but instead rely on the voluntary efforts of the other party. Therefore, we cannot guarantee that these relationships will be successful. If we were to lose any of these relationships, or if the other parties were to fail to collaborate with us to pursue additional business relationships, we would not be able to execute our business plans and our

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If our transaction hosting services suffer interruptions, our business and reputation could be harmed.

      In the past, our customers have experienced some interruptions with our transaction hosting services. Similar interruptions may continue to occur from time to time. These interruptions could be due to hardware and operating system failures. We currently process customer transactions and data at our facility in Albuquerque, New Mexico as well as in a third-party hosting facility in Atlanta, Georgia. Although we have safeguards for emergencies in each location, we do not have fully operational procedures for information processing facilities if either primary facility is not functioning. The occurrence of a major catastrophic event or other system failure at either facility could interrupt data processing or result in the loss of stored data. In addition, we depend on the efficient operation of Internet connections from customers to our systems. These connections, in turn, depend on the efficient operation of web browsers, Internet service providers and Internet backbone service providers, all of which have had periodic operational problems or experienced outages. Any system delays, failures or loss of data, whatever the cause, could reduce customer satisfaction with our applications, services and product offerings.

      We expect a significant portion of our revenue to be derived from customers who use our transaction hosting services. As a result, our business will suffer if we experience frequent or long system interruptions that result in the unavailability or reduced performance of our hosting. We expect to experience occasional temporary capacity constraints due to sharply increased traffic, which may cause unanticipated system disruptions, slower response times, impaired quality and degradation in levels of customer service. If this were to happen on more than an occasional and temporary basis, our business and reputation could be seriously harmed.

If security of our customer and patient information is compromised, patient care could suffer, we could be liable for damages and our reputation could decline.

      We retain confidential customer and patient information in our processing centers. Therefore, it is critical that our facilities and infrastructure remain secure and that our facilities and infrastructure are perceived by the marketplace to be secure. Despite the implementation of security measures, our infrastructure may be vulnerable to physical break-ins, computer viruses, programming errors, attacks by third parties or similar disruptive problems. If we fail to meet our clients’ expectations, we could be liable for damages and our reputation could suffer. In addition, patient care could suffer and we could be liable if our systems fail to deliver correct information in a timely manner. Our insurance may not protect us from this risk.

If we fail to meet performance standards we may experience a decline in revenue.

      Many of our transaction and hosting service agreements contain performance standards. If we fail to meet these standards, our customers could terminate their agreements with us. The loss of any of those service agreements would cause a decline in our revenue. Additionally, we may be unable to expand or adapt our transaction and hosting network infrastructure to meet new demands on a timely basis and at a commercially reasonable cost, or at all.

If compliance with government regulation of healthcare becomes costly and difficult for our customers, we may not be able to grow our business.

      Participants in the healthcare industry are subject to extensive and frequently changing regulation under numerous laws administered by governmental entities at the federal, state and local levels, some of which are, and others of which may be, applicable to our business. Furthermore, our healthcare service provider, payer and plan customers are also subject to a wide variety of laws and regulations that could affect the nature and scope of their relationships with us.

      The healthcare market itself is highly regulated and subject to changing political, economic and regulatory influences. These factors affect the purchasing practices and operations of healthcare organizations. Changes in current healthcare financing and reimbursement systems, such as modifications which may be required by the Health Insurance Portability and Accountability Act of 1996 (“HIPAA”), may cause us to make unplanned

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      Federal and state legislatures have periodically considered programs to reform or amend the U.S. healthcare system at both the federal and state level. These programs may contain proposals to increase governmental involvement in healthcare, lower reimbursement rates or otherwise change the environment in which healthcare market participants operate. Healthcare market participants may respond by reducing their investments or postponing investment decisions, including investments in our applications and services. We do not know what effect any proposals would have on our business.

Because we provide utilization review services, we may be liable for the denial of payments for medical claims or medical services.

      One of the functions of our applications is automatic adjudication of whether a claim for payment or service should be denied or whether existing coverage should be continued based upon particular plans, contracts and industry-standard, clinical-support criteria. Our payer customers are ultimately responsible for deciding whether to deny claims for payment or medical services. It is possible, however, that our customers may assert that we are liable for denying payment of covered medical claims or medical service. The contractual protections included in our customer contracts and our insurance coverage may not be sufficient to protect us against such liability.

As we continue to build our international sales, we are subject to increased regulation and uncertainties in the international marketplace.

      Among other things, our core products contain strong encryption technology that is subject to export control regulation. These regulations prohibit us from selling in certain countries and to certain persons. Our inadvertent failure to properly restrict our sales could subject us and our management to fines and other sanctions and impair our financial condition and our reputation. Additionally, in the international marketplace we face increased uncertainty of enforcement of contractual provisions and enforcement of judgments in our dealings with non-U.S. persons. Our inability to properly defend or enforce our contract rights could materially impair our business prospects and financial condition.

We may face product-related liabilities that could force us to pay damages, which would hurt our reputation and financial condition.

      Although both we and our customers test our applications, services and product offerings, they may contain defects or result in system failures. These defects or problems could result in the loss of or delay in generating revenue, loss of market share, failure to achieve market acceptance, diversion of development resources, injury to our reputation or increased insurance costs. In particular, we market software products that are designed to assist our healthcare customers in meeting their HIPAA compliance obligations. Failure of these products to perform as intended could cause our customers to incur significant fines and penalties for non-compliance, which in turn could result in damages and claims against us. Our contracts generally limit our liability arising from our errors; however, these provisions may not be enforceable and may not protect us from liability. While we have general liability insurance that we believe is adequate, including coverage for errors and omissions, we may not be able to maintain this insurance on reasonable terms in the future. In addition, our insurance may not be sufficient to cover large claims and our insurer could disclaim coverage on claims. If we are liable for an uninsured or underinsured claim or if our premiums increase significantly, our financial condition could be materially harmed.

If we do not establish and maintain our brand, our reputation could be adversely affected.

      In order to increase our customer base and expand our online traffic, we must establish, maintain and strengthen our brand. For us to be successful in establishing our brand, professionals in the healthcare and other targeted markets must perceive us as offering quality, cost-effective, communications, information and administrative services. Our reputation and brand name could be harmed if we experience difficulties in introducing new

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We are subjected to many risks because our business is dependent on our intellectual proprietary rights.

      We are exposed to infringement risks. Our intellectual property is important to our business. We may be subject to intellectual property infringement claims as the number of our competitors grows and the functionality of our applications overlaps with competitive offerings. These claims, whether or not meritorious, could be expensive, divert our attention from operating our company, result in costly litigation, cause product shipment delays, or require us to enter into royalty or licensing agreements, any of which could seriously harm our business, financial condition and results of operations. If we become liable to third parties for infringing on their intellectual property rights, we would be required to pay a substantial damage award and to develop non-infringing technology, obtain a license or cease selling the applications that contain the infringing intellectual property. We may be unable to develop non-infringing technology or obtain a license on commercially reasonable terms, or at all. In the event an intellectual property claim against us was successful and we could not obtain a license on acceptable terms, license a substitute technology or redesign to avoid infringement, most of our contracts would require us to refund a portion of the software license fees; our business, financial condition and results of operations would be seriously harmed. In addition, we may not be able to protect against misappropriation of our intellectual property. Third parties may infringe upon our intellectual property rights, we may not detect this unauthorized use and we may be unable to enforce our rights.

      We rely on third parties for technology in our products. We depend upon third-party suppliers and licensors to provide software that is incorporated in certain of our products and the products that we distribute. We have no control over the scheduling and quality of work of these third-party software suppliers and licensors. Additionally, the third-party software may not continue to be available to us on commercially reasonable terms, or at all. Our agreements to license certain third-party software will terminate after specified dates unless they are renewed. We expect to sell multiple products to the same customers and problems with the third party technology in one product may adversely affect sales of other products to the same customer.

      Our products may be affected by unknown software defects. Our products depend on complex software, both internally developed and licensed from third parties. Complex software often contains defects, particularly when first introduced or when enhancements or new versions are released. Although we conduct extensive testing, we may not discover software defects that affect our new or current products or enhancements until after they are deployed. To date, we have not experienced any material software defects, however despite continued testing, defects may occur in our software. These defects could cause performance interruptions, which could damage our reputation with existing or potential customers, increase our service costs, cause us to lose revenue, delay market acceptance or divert our development resources, any of which could cause our business to suffer.

      We currently develop and market our products primarily in the United States. As a majority of sales are currently made in U.S. dollars, a strengthening of the dollar could make our product less competitive in foreign markets. Our interest income is sensitive to changes in the general level of U.S. interest rates. Due to the short term-term nature of our investments, we believe that there is no material interest risk exposure. Based on the foregoing, no quantitative disclosures have been provided.

(a) Evaluation of disclosure controls and procedures.

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(b) Changes in internal controls.

PART II     OTHER INFORMATION

      On November 14, 2001, a shareholder class action complaint was filed in the United States District Court, Southern District of New York. On April 19, 2002, plaintiffs filed an amended complaint. The amended complaint asserts that the prospectus from the Company’s February 10, 2000 initial public offering (“IPO”) failed to disclose certain alleged improper actions by various underwriters for the offering in the allocation of the IPO shares. The amended complaint alleges claims against certain underwriters, the Company and certain officers and directors under the Securities Act of 1933 and the Securities Exchange Act of 1934 (Bartula v. XCare.net, Inc., et al ., Case No. 01-CV-10075). Similar complaints have been filed concerning more than 300 other IPO’s; all of these cases have been coordinated as In re Initial Public Offering Securities Litigation, 21 MC 92. In a negotiated agreement, individual defendants, including all of the individuals named in the complaint filed against the Company, were dismissed without prejudice, subject to a tolling agreement. Issuer and underwriter defendants in these cases filed motions to dismiss and, on February 19, 2003, the Court issued an opinion and order on those motions that dismissed selected claims against certain defendants, including the Rule 10b-5 fraud claims against the Company, leaving only the Section 11 strict liability claims under the Securities Act of 1933 against the Company. The Company believes it has meritorious defenses. We do not believe that the outcome of this action will have a material adverse effect on our financial position, results of operations or liquidity; however, litigation is inherently uncertain and we can make no assurance as to the ultimate outcome or effect.

      The Company, and its wholly owned subsidiary Healthcare.com Corporation, are currently litigating a dispute with Hawaii Employees Retirement System (HERS) regarding a contract entered into in October 1999 between HERS and Thermo Information Solutions, subsequently assigned to Healthcare.com. On June 19, 2002, after exhausting its administrative remedies under Hawaii state law, Healthcare.com filed a complaint against HERS in the Circuit Court of the First Circuit, State of Hawaii. The complaint asserts that HERS is in breach of its obligations under the contract, and demands that HERS pay to the Company a sum to be determined at trial. On June 21, 2002, HERS filed a complaint in the same state court, asserting that Quovadx, Inc. and Healthcare.com have breached their performance obligations under the contract, and seeking damages in an amount to be determined at trial. The two lawsuits have been consolidated, discovery was initiated in July 2002, and no trial date has been set. In February 2003, the Company and HERS agreed to suspend the litigation pending the outcome of settlement discussions. If those discussions are not successful, the Company intends to continue to prosecute its claims, and defend the claims brought by HERS, vigorously; however litigation is inherently uncertain and we can make no assurance as to the outcome or effect.

      The Company is engaged from time to time in routine litigation that arises in the ordinary course of our business.

      Not applicable.

      Not applicable.

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      Not applicable.

      Not applicable.

      (a) Exhibits

	The Exhibit Index is attached to this Report on Form 10-Q is incorporated herein by reference.

      (b) Report on Form 8-K

	(i)	On January 9, 2003, we filed a Current Report on Form 8-K in connection with the publication of our investor newsletter on January 9, 2003.
	(ii)	On February 5, 2003, we filed a Current Report on Form 8-K to report that on February 4, 2003 we announced our financial results for the quarter and year ended December 31, 2002.

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SIGNATURES

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

	QUOVADX, INC.

	By:	/s/ LORINE R. SWEENEY

	Lorine R. Sweeney
	President and Chief Executive Officer
	(Principal Executive Officer)

Date: May 13, 2003

	By:	/s/ GARY T. SCHERPING

	Gary T. Scherping
	Executive Vice President
	and Chief Financial Officer
	(Principal Financial and Accounting Officer)

Date: May 13, 2003

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SARBANES-OXLEY SECTION 302(a) CERTIFICATION

I, Lorine R. Sweeney, certify that:

      1. I have reviewed this quarterly report on Form 10-Q of Quovadx, Inc.;

      2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

      3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

      4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

	(a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
	(b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
	(c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

      5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

	(a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
	(b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

      6. The registrant’s other certifying officer and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

	/s/ LORINE R. SWEENEY
	Lorine R. Sweeney,
	President and Chief Executive Officer
	(Principal Executive Officer)

Date: May 13, 2003

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SARBANES-OXLEY SECTION 302(a) CERTIFICATION

I, Gary T. Scherping, certify that:

      1. I have reviewed this quarterly report on Form 10-Q of Quovadx, Inc.;

      2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

      3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

      4. The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

	(a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
	(b) evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
	(c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

      5. The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

	(a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
	(b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

      6. The registrant’s other certifying officer and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

	/s/ GARY T. SCHERPING
	Gary T. Scherping,
	Executive Vice President
	and Chief Financial Officer
	(Principal Financial Officer)

Date: May 13, 2003

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EXHIBIT INDEX

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*	Constitutes a management contract or compensatory plan or arrangement.