BORLAND SOFTWARE CORP - 10-Q Quarterly Report

(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

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

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). YES x NO ¨

The number of shares of common stock outstanding as of April 30, 2003, the most recent practicable date prior to the filing of this report, was 80,594,563.

The accompanying Borland Software Corporation, or Borland, condensed consolidated financial statements at March 31, 2003 and December 31, 2002 and for the three months ended March 31, 2003 and 2002 are unaudited and have been prepared in accordance with generally accepted accounting principles for interim financial information and Rule 10-01 of Regulation S-X. Accordingly, they do not include all financial information and disclosures required by generally accepted accounting principles for complete financial statements and certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. The unaudited interim condensed consolidated financial statements have been prepared on the same basis as the annual consolidated financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments, necessary to present fairly Borland’s financial position at March 31, 2003 and December 31, 2002, and its results of operations and cash flows for the three months ended March 31, 2003 and 2002. Certain amounts in the March 31, 2002 and December 31, 2002 information have been reclassified in order to be consistent with current financial statement presentation. The preparation of condensed consolidated 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 disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The results of operations for interim periods are not necessarily indicative of the results to be expected for any subsequent quarter or for the full year. The condensed consolidated financial statements and notes should be read in conjunction with our audited financial statements included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2002 as filed with the Securities and Exchange Commission, or the SEC, on March 28, 2003.

We compute net income (loss) per share in accordance with Statement of Financial Accounting Standards, or SFAS, No. 128, “Earnings per Share,” or SFAS No. 128. Under the provisions of SFAS No. 128, basic net income (loss) per share is computed by dividing the net income (loss) by the weighted average number of common shares outstanding during the period. Diluted net income (loss) per share is computed by dividing the net income (loss) for the period by the weighted average number of common and potentially diluted shares outstanding during the period. Potentially diluted shares, which consist of incremental shares issuable upon exercise of stock options and warrants, are included in diluted net income per share to the extent such shares are dilutive.

The following table sets forth the computation of basic and diluted net income (loss) per share for the three months ended March 31, 2003 and 2002 (in thousands, except per share amounts):

The diluted earnings per share calculation for the three months ended March 31, 2003 and 2002 excludes options to purchase approximately 15.3 million and 3.0 million shares, respectively, because their effect would have been antidilutive.

Notes to Condensed Consolidated Financial Statements (unaudited)—(Continued)

On January 14, 2003, we completed the acquisition of TogetherSoft Corporation, or TogetherSoft, a privately-held corporation. The consideration consisted of approximately $82.5 million in cash, 9,050,000 shares of Borland common stock and the assumption of certain liabilities and obligations of TogetherSoft, including those arising under its stock option plans. The consideration paid was reduced for certain legal expenses paid by TogetherSoft. Approximately $26.0 million of the total consideration is being held in escrow to indemnify us against, and reimburse us for, certain events and cover certain liabilities and transaction costs. Unused funds will be released from escrow at certain times between 2004 and 2007.

TogetherSoft is a provider of platform-neutral, design-driven development solutions designed to accelerate the software development process. TogetherSoft solutions are designed to simplify and integrate design and analysis with development of complex software applications. These solutions operate with all major enterprise platforms and languages, including Java, C++, Visual Basic, Visual Basic, .NET, Visual C#, and IDL.

The total purchase price we recorded was approximately $188.8 million, which consisted of (a) a total of 7.8 million shares of Borland common stock issued upon consummation valued at approximately $97.4 million (using a fair value per share of $12.46), (b) cash of approximately $78.0 million, net of cash to be received from the exercise of stock options ($3.6 million), certain legal fees paid by TogetherSoft in conjunction with the transaction ($0.3 million) and cash paid to holders of cash rights that will be paid over the vesting period of the cash rights ($0.6 million), (c) approximately $8.5 million of consideration for options to purchase approximately 1.2 million equivalent shares of Borland common stock assumed as part of the merger, and (d) direct transaction costs of approximately $4.9 million. The fair value of Borland’s common stock issued was determined using the 5-day average price surrounding the date the acquisition was announced. The fair value of the options assumed in the transaction was determined using the Black-Scholes option-pricing model and the following assumptions: expected life of one year, risk-free interest rate of 2%, expected volatility of 71% and no expected dividend rate. This acquisition was accounted for as a purchase. The total purchase price we recorded for the TogetherSoft merger is as follows (in thousands):

Under the purchase method of accounting, the total purchase price is allocated to TogetherSoft’s net tangible and intangible assets based upon their fair value as of the date of completion of the merger. Based upon the purchase price of the acquisition and an independent valuation, the purchase price allocation is as follows (in thousands):

Of the purchase price of TogetherSoft, $4.6 million represented acquired in-process research and development, or IPRD, that had not yet reached technological feasibility and has no alternative future use. Accordingly, these amounts were immediately charged to expense upon consummation of the acquisition. Independent third-party sources calculated the value of IPRD by estimating the expected cash flows from the projects once commercially viable, discounting the net cash flows back to their present value and then applying a percentage of completion. In determining the value ultimately assigned to IPRD, we considered the stage of completion, complexity of work to date, difficulty of completing the remaining development, costs already incurred and the expected cost to complete the project.

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

In accordance with SFAS No. 109, “Accounting for Income Taxes,” deferred tax liabilities of approximately $15.2 million have been recorded for the tax effect of the amortizable intangible assets. Deferred tax assets of $15.2 million have also been recorded as we are releasing a portion of our previously established valuation allowance against our deferred tax assets. We are releasing a portion of the valuation allowance to the extent the realization of our deferred tax assets becomes assured as a result of the additional taxable income generated by the non-deductible amortizable intangible assets.

We recorded short- and long-term restructuring charges in accordance with Emerging Issues Task Force, or EITF, Issue No. 95-3, “Recognition of Liabilities in Connection with a Purchase Business Combination,” or EITF 95-3, of $7.3 million, composed primarily of $3.4 million for the reduction of certain facilities leases and $3.2 million in severance for headcount reductions and $0.7 million for other restructuring charges.

We recorded $37.2 million in identifiable intangible assets, including acquired technology of $20.3 million, maintenance agreements of $5.3 million, trade names of $7.9 million and non-compete covenants of $3.7 million. The identifiable intangible assets will be amortized over their useful lives, which are summarized below:

During the three months ended March 31, 2003, we recorded approximately $3.6 million in acquisition-related expenses associated with the amortization of the purchased intangibles from the acquisition of TogetherSoft.

Of the total purchase price, approximately $150.9 million has been allocated to goodwill. Goodwill represents the excess of the purchase price over the fair value of the net tangible and intangible assets acquired. In accordance with Statement of Financial Accounting Standards, or SFAS, No. 142, “Goodwill and Other Intangible Assets,” or SFAS 142, goodwill will not be amortized and will be tested for impairment at least annually. The purchase price allocation for TogetherSoft is subject to revision as more detailed analysis is completed and additional information on fair values of the assets and liabilities becomes available. Any changes in the fair value of the net assets of TogetherSoft will change the amount of the purchase price allocable to goodwill.

An independent valuation of the purchased assets was performed to assist in determining the fair value of each identifiable tangible and intangible asset and in allocating the purchase price among the acquired assets, including the portion of the purchase price attributed to acquired IPRD projects. Standard valuation procedures and techniques were utilized in determining the fair value.

Core technology and in-process technology were identified and valued through analysis of TogetherSoft’s and Borland’s current development projects, their respective stages of development, the time and resources needed to complete them, their expected income-generating ability, their target markets and the associated risks.

The income approach, which includes an analysis of the markets, cash flows and risks associated with achieving such cash flows, was the methodology utilized in valuing in-process technology, completed technology, maintenance agreements, trade names and non-compete covenants. Each intangible asset is valued based upon the estimated impact on our expected future after-tax cash flows. The net changes in our expected future after-tax cash flows generated by the respective core technologies, IPRD, maintenance agreements, trade names and non-compete covenants were then discounted to present value. The discount was based on an analysis of the weighted average cost of capital for the industry.

The following table summarizes the short-term portion of our restructuring activity related to the TogetherSoft acquisition accounted for according to EITF 95-3 for the three months ended March 31, 2003 (in thousands):

Our 2003 restructuring accrual included $3.2 million resulting from headcount reductions of 76 employees, including 71 in sales and general and administrative and five in research and development, and $3.1 million resulting from reduction of certain facilities leases. In addition, we recorded a charge of $0.5 million for lease termination

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

costs and other costs related to facilities in France and Germany. Due to the timing of payments under lease agreements, we have recorded these costs as part of long-term restructuring. This amount represents our estimate of the costs to exit the facilities and is recorded in current liabilities.

Supplemental pro forma information reflecting the acquisition of TogetherSoft as if it occurred on December 31, 2001 is as follows for the three months ended March 31, 2003 and 2002 (in thousands, unaudited):

Such information is not necessarily representative of the actual results that would have occurred for those periods.

On October 8, 2002, we signed a merger agreement to purchase all of the outstanding shares of Starbase Corporation, or Starbase, for an aggregate consideration of approximately $24.0 million and $2.0 million in bridge financing that was forgiven upon the consummation of the transaction. Starbase is a provider of end-to-end enterprise software lifecycle solutions covering requirements definition and management, code and content development, and change and configuration management.

Pursuant to the merger agreement, on October 11, 2002, we commenced an all-cash tender offer to acquire all outstanding shares of Starbase at a price of $2.75 per share. In the initial tender offer, which expired on November 22, 2002, we purchased approximately 78.9% of the outstanding Starbase shares. Upon the completion of the initial tender, we began consolidating the operating results of Starbase. The initial tender offer was followed by the merger on January 7, 2003 of Starbase with Galaxy Acquisition Corp., a wholly owned subsidiary of Borland formed for the purpose of making the acquisition. In the merger, holders of the remaining outstanding shares of Starbase common stock at the time of the merger received the same $2.75 cash price per share paid in the tender offer. As a result of the merger, Starbase is now a wholly owned subsidiary of Borland. Accordingly, with the payment to the remaining stockholders, we have eliminated the minority interest in the consolidated subsidiary during the quarter ended March 31, 2003.

In conjunction with the consummation of the acquisition of Starbase, all options exercisable into shares of Starbase common stock were exchanged for options to purchase 395,149 shares of Borland common stock. We valued the assumed options using the Black-Scholes model. Based upon this calculation, we recorded additional purchase consideration in the amount of $0.1 million for the assumed options. This amount is reported as additional goodwill.

This acquisition was accounted for as a purchase. The following summary of the total purchase price recorded for the Starbase acquisition includes cash paid upon the close of the initial tender offer and the acquisition of the remaining outstanding shares of Starbase in the subsequent merger with Galaxy Acquisition Corp. Amounts are in thousands:

Under the purchase method of accounting, the total purchase price is allocated to Starbase’s net tangible and intangible assets based upon their estimated fair value as of the date of completion of the merger. Based upon the purchase price of the acquisition and an independent valuation, the purchase price allocation is as follows (in thousands):

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

Of the purchase price of Starbase, $0.3 million represented acquired IPRD that had not yet reached technological feasibility and has no alternative future use. Accordingly, these amounts were immediately charged to expense upon consummation of the acquisition. Independent third-party sources calculated the value of IPRD by estimating the expected cash flows from the projects once commercially viable, discounting the net cash flows back to their present value and then applying a percentage of completion. In determining the value ultimately assigned to IPRD, we considered the stage of completion, complexity of work to date, difficulty of completing the remaining development, costs already incurred and the expected cost to complete the project.

The identifiable intangibles included acquired technology of $8.2 million, maintenance agreements of $3.4 million and trade names of $0.4 million. The identifiable intangibles will be amortized over their useful lives, which are summarized below:

During the three months ended March 31, 2003, we recorded approximately $1.6 million in acquisition-related expenses associated with the amortization of the purchased intangibles from the acquisition of Starbase.

A valuation of the purchased assets was performed by an independent third party to assist in determining the fair value of each identifiable tangible and intangible asset and in allocating the purchase price among the acquired assets, including the portion of the purchase price attributed to acquired IPRD projects. Standard valuation procedures and techniques were utilized in determining the fair value of the acquired core/developed and in-process technology.

Core technology and in-process technology were identified and valued through analysis of Starbase’s and Borland’s current development projects, their respective stage of development, the time and resources needed to complete them, their expected income-generating ability, their target markets and the associated risks.

The income approach, which includes an analysis of the markets, cash flows and risks associated with achieving such cash flows, was the methodology utilized in valuing in-process technology, completed technology, maintenance agreements and trade names. Each intangible asset is valued based upon the estimated impact on our expected future after-tax cash flows. The net changes in our expected future after-tax cash flows generated by the respective core, in-process technologies, maintenance agreements and trade names were then discounted to present value. The discount was based upon an analysis of the weighted-average cost of capital for the industry.

Supplemental pro forma information reflecting the acquisition of Starbase as if it occurred on December 31, 2001 is as follows for the three months ended March 31, 2003 and 2002 (in thousands, unaudited):

The following table summarizes our restructuring activity related to the Starbase acquisition accounted for according to EITF 95-3 for the three months ended March 31, 2003 (in thousands, unaudited):

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

Our 2003 restructuring accrual included $0.3 million resulting from headcount reductions.

Supplemental pro forma information reflecting the acquisitions of TogetherSoft and Starbase as if they occurred on December 31, 2001 is as follows for the three months ended March 31, 2003 and 2002 (in thousands, unaudited):

Such information is not necessarily representative of the actual results that would have occurred for those periods.

On January 18, 2002, we completed our acquisition of Redline Software, Inc., or VMGear, a provider of performance assurance and testing solutions for Java developers. The transaction was accounted for as a purchase. Total fixed consideration of $2.0 million was paid upon the close of the transaction and acquisition-related costs were $0.2 million. The contingent consideration includes retention payments of $6.0 million to be earned through the continued employment of certain individuals and additional earnout payments of up to $10 million contingent upon future revenues derived from the sale of VMGear products and the retention of certain employees of VMGear. Contingent consideration, if any, will be earned and paid over a three-year period. We recorded this earnout as a component of restructuring, amortization of intangibles and acquisition-related expenses based upon our estimate of the total earnout on a straight-line basis. We recorded $1.6 million in goodwill for the excess of the purchase price over the net assets acquired and $0.6 million for acquired technology. Acquired technology will be amortized over the estimated useful life of 18 months. The results of operations for this acquisition were not material to our financial statements either on an individual or aggregate basis and accordingly pro forma results have not been presented.

In accordance with the provisions of SFAS 142, we did not amortize the excess of the purchase price over net assets acquired. The contingent consideration will be expensed when it is deemed probable that such payments will be made. In the three months ended March 31, 2003, we expensed $2.0 million in contingent consideration related to the VMGear acquisition.

The changes in the carrying amount of goodwill for the three months ended March 31, 2003 are as follows (in thousands):

We performed a transitional impairment test of our goodwill and intangible assets as of January 1, 2002. At the time of the test, no impairment of our goodwill or intangible assets was noted. We performed our annual assessment of goodwill in December 2002, and concluded that there was no additional impairment.

Due to the adoption of SFAS 142 on January 1, 2002, we have ceased amortizing goodwill.

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

The intangible assets are all amortizable and have original estimated useful lives as follows: acquired technology—2 to 3 years; maintenance agreements—1 year; trademarks—3 years; other—1 to 3 years.

Prior to January 1, 2003, we accounted for our restructuring and acquisition-related activity according to EITF Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring),” or EITF 94-3. The following table summarizes our restructuring and acquisition-related activity accounted for according to SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” or SFAS 146, for the three months ended March 31, 2003 (amounts in thousands):

Our 2003 restructuring accrual included $1.0 million resulting from headcount reductions of 28 employees, including 19 in sales and general and administrative and 9 in research and development, and $2.0 million resulting from reduction of certain facilities leases. This amount represents our estimate of the costs to exit the facilities and is recorded in current liabilities.

In addition, we recorded a charge for $2.4 million, during the three months ended March 31, 2003, for lease termination costs related to a facility in the United Kingdom. Due to the timing of payments under the lease agreement, we have recorded these costs as a part of long-term restructuring. The total long-term lease termination obligation as of March 31, 2003 was $4.1 million.

We account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” or APB 25, and related interpretations. Under APB 25, compensation expense is measured as the excess, if any, of the closing market price of our stock at the date of grant over the exercise price of the option granted. We recognize compensation cost for stock options, if any, ratably over the vesting period. Generally, we grant options with an exercise price equal to the closing market price of our stock on the grant date. Accordingly, we have not recognized any compensation expense for our stock option plans. We provide additional pro forma disclosures as required under SFAS No. 123, “Accounting for Stock-Based Compensation,” or SFAS 123, as amended by SFAS No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure an amendment of FASB Statement No. 123,” or SFAS 148.

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

Compensation expense (included in pro forma net income (loss) and net income (loss) per share amounts) is recognized for the fair value of the awards granted under our stock option and stock purchase plans using the Black-Scholes pricing model. The Black-Scholes pricing model, as well as other currently accepted option valuation models, was developed to estimate the fair value of freely tradable, fully transferable options without vesting restrictions, which significantly differ from our stock option and stock purchase plan awards. These models also require highly subjective assumptions including future stock price volatility and expected time until exercise, which greatly affect the calculated fair value on the grant date. The fair value of each stock option and stock purchase plan award is estimated on the date of grant using the Black-Scholes pricing model with the following weighted average assumptions for the three months ended March 31, 2003 and 2002, respectively: an expected life of 4.48 and 3.62 years; expected volatility of 62% and 68%; risk-free interest rates of 3.82% and 3.10%; and no expected dividend rate.

The weighted average fair value of the stock options granted under our employee stock option plans and the stock awarded under our employee stock purchase plan during the three months ended March 31, 2003 and 2002, as defined by SFAS 123, was $7.80 and $9.19, respectively.

Had we recorded compensation expenses based on the estimated grant date fair value for awards granted under our stock option and stock purchase plans (as defined by SFAS 123), our pro forma net income (loss) and net income (loss) per share for the three months ended March 31, 2003 and 2002 would have been as follows (amounts in thousands, except per share data):

The pro forma amounts include compensation expenses related to stock option grants and stock purchase rights for the three months ended March 31, 2003 and 2002. In future periods, the compensation expense will increase as a result of the fair value of stock options and stock purchase rights granted in those future periods.

We account for stock options issued to non-employees, excluding non-employee directors, under SFAS 123 and Emerging Issues Task Force, Issue No. 96-18, “Accounting for Equity Instruments with Variable Terms that are Issued for Consideration Other Than Employee Services under SFAS 123,” or EITF 96-18. We record the expense of such services based upon the estimated fair value of the equity instrument using the Black-Scholes pricing model. Assumptions used to value the equity instruments are consistent with equity instruments issued to employees.

During September 2001, our Board of Directors authorized repurchases of up to $30 million of our outstanding common stock. As a part of this program, we repurchased 300,000 common shares for an average price of $9.61 per share for a total consideration of $2.9 million during the three months ended March 31, 2003. We did not repurchase any shares of our outstanding common stock during the three months ended March 31, 2002. This authorization is still deemed to be in effect and $16.6 million remains authorized for future repurchases.

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

of the State of California for Orange County. The complaint alleged that the former directors had breached fiduciary duties owed to Starbase and stockholders of Starbase. Borland is paying the costs of defending this litigation pursuant to its indemnification obligations under the merger agreement relating to the acquisition of Starbase by Borland. On January 23, 2003, defendants filed a demurrer seeking to have all the claims dismissed, and also filed a motion to stay discovery pending a ruling on the demurrer. On February 25, 2003, plaintiff filed its first amended class action complaint, or the amended complaint, naming as defendants the five former directors and the investment banking firm that provided financial services to Starbase, two law firms that provided legal services to Starbase and an individual and entity that helped arrange financing for Starbase. The amended complaint purports to be brought on behalf of Starbase stockholders who tendered shares of Starbase common stock in the tender offer commenced by Borland on October 11, 2002 and that ended on November 11, 2002, or in the merger that was completed on January 7, 2003. Plaintiff alleges that the five former directors breached their fiduciary duties owed to Starbase in connection with a proposed financing of Starbase in mid-2002, and that the other defendants aided and abetted the purported breach of fiduciary duty. On March 21, 2003, the director defendants filed a demurrer to have the amended complaint dismissed. In addition, the court has granted a motion of the director defendants to stay discovery pending the hearing on the demurrer. There is no indication at present that the lawsuit will have a material effect on Borland’s financial condition, results of operations or liquidity.

From time to time, we may be involved in other lawsuits, claims, investigations and proceedings, consisting of intellectual property, commercial, employment and other matters, which arise in the ordinary course of business. In accordance with Statement of Financial Accounting Standards No. 5, “Accounting for Contingencies,” or SFAS 5, we make a provision for a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed at least quarterly and adjusted to reflect the impacts of negotiations, settlements, rulings, advice of legal counsel and other information and events pertaining to a particular case. Litigation is inherently unpredictable. However, we believe that we have valid defenses with respect to the legal matters pending against us, as well as adequate provisions for any probable and estimable losses. If an unfavorable ruling were to occur in any specific period, there exists the possibility of a material adverse impact on the results of operations of that period. We believe that, given our current liquidity and cash and investment balances, even were we to receive an adverse judgment with respect to litigation that we are currently a party to, it is likely that such a judgment would not have a material impact on our financial condition, results of operations or liquidity.

At March 31, 2003, we had a loan receivable with a book value of $2.2 million related to a loan to AltoWeb, Inc., or AltoWeb, a provider of J2EE applications. Subsequent to March 31, 2003, we were informed by AltoWeb that it has ceased substantially all of its operations. We recorded the write-off of this loan receivable of $2.2 million during the three months ended March 31, 2003. Since our investment in Altoweb was related to AltoWeb’s attempt to extend their product development efforts for the Borland platform, we have included these expenses in research and development during the three months ended March 31, 2003.

The following is a summary of our agreements that we have determined are within the scope of FASB Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,” or FIN 45, which are specifically grandfathered because the guarantees were in effect prior to December 31, 2002. Accordingly, we have no liabilities recorded for these agreements as of March 31, 2003, except as noted below.

As part of the Starbase acquisition, we undertook, and assumed from Starbase, obligations to indemnify the officers and directors of the acquired company for certain events or occurrences while the officer or director served in such capacity. The maximum potential amount of future payments we could be required to make under this indemnification obligation is unlimited; however, we have purchased a directors’ and officers’ insurance policy to cover former directors and officers of Starbase that provides coverage until November 25, 2008 and may enable us to recover a portion of any future amounts paid. Assuming the applicability of the coverage and the willingness of the insurer to assume coverage and subject to certain retention, loss limits and other policy provisions and except as provided below, we believe the estimated fair value of the indemnification obligations to Starbase’s directors and officers is not material. However, no assurances can be given that the covering insurers will not attempt to dispute the validity, applicability or amount of coverage, which attempts may result in expensive and time-consuming litigation against the insurers.

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

In Dieterich v. Harrer, et al, a class action lawsuit filed against Starbase Corporation and five former directors of Starbase, more fully discussed above in Note 8, despite Borland having tendered the claim to the covering insurers, to date, none of the covering insurers has accepted coverage. There is no indication at present that the lawsuit will have a material effect on Borland’s financial condition, results of operations or liquidity.

As part of the TogetherSoft acquisition, we undertook, and assumed from TogetherSoft, obligations to indemnify the officers and directors of the acquired company for certain events or occurrences while the officer or director served in such capacity. The maximum potential amount of future payments we could be required to make under this indemnification obligation is unlimited; however, we have purchased a directors’ and officers’ insurance policy to cover former directors and officers of TogetherSoft that provides coverage until January 15, 2009 and may enable us to recover a portion of any future amounts paid. Assuming the applicability of coverage and the willingness of the insurer to assume coverage and subject to certain retention, loss limits and other policy provisions, we believe the estimated fair value of this indemnification obligation is not material. However, no assurances can be given that the covering insurers will not attempt to dispute the validity, applicability or amount of coverage, which attempts may result in expensive and time-consuming litigation against the insurers.

As permitted under Delaware law and our by-laws and certificate of incorporation, we have agreements whereby we indemnify our officers and directors for certain events or occurrences while the officer or director is, or was serving, at our request in such capacity. The term of the indemnification period is for the officer’s or director’s lifetime. The maximum potential amount of future payments we could be required to make under these indemnification agreements is unlimited; however, we have a directors’ and officers’ insurance policy that may enable us to recover a portion of any future amounts paid. Assuming the applicability of coverage and the willingness of the insurer to assume coverage and subject to certain retention, loss limits and other policy provisions, we believe the estimated fair value of this indemnification obligation is not material. However, no assurances can be given that the insurers will not attempt to dispute the validity, applicability or amount of coverage, which attempts may result in expensive and time-consuming litigation against the insurers.

We have entered into an agreement for the outsourcing of our order fulfillment. As a component of this agreement, we guarantee that in the event we terminate the fulfillment agreement, we will purchase all inventory held by the vendor at the time of termination. We estimate and accrue reserves for excess inventory held by the fulfillment vendor. As of March 31, 2003, we had inventory in excess of the reserves of approximately $0.4 million, which represents the potential obligation relating to this guarantee.

During 1999, we entered into a ten-year operating lease for our corporate headquarters buildings in Scotts Valley, California. In the event that we do not exercise our option to extend the term of the lease, we guarantee certain costs to restore the property to certain conditions in place at the time of lease. We believe the estimated fair value of this guarantee is not material.

From time to time, we engage various professional service firms which require as a condition to their engagement that we undertake to indemnify them for all claims and damages arising out of their engagement. In the recent past, we have not been subject to any significant claims for such losses and have not incurred any material costs in defending or settling claims related to these indemnification obligations. Accordingly, we believe the estimated fair value of these obligations is not material.

We undertake indemnification obligations in our ordinary course of business in connection with, among other things, the licensing of our products and the provision by us of consulting services. Pursuant to these agreements, we may indemnify the other party for certain losses suffered or incurred by the indemnified party, generally our business partners or customers, in connection with various types of claims, which may include, without limitation, claims of intellectual property infringement, certain tax liabilities, negligence and intentional acts in the performance of services and violations of laws. The term of these indemnification obligations is generally perpetual. In general, we attempt to limit the maximum potential amount of future payments we could be required to make under these indemnification obligations to the purchase price paid, but in some cases the obligation may not be so limited. In addition, we may, in certain situations, warrant that, for a certain period of time from the date of delivery, our software products will be free from defects in media or workmanship. From time to time, we may also warrant that our professional services will be performed in a good and workmanlike manner. In addition, it is our standard policy to seek to disclaim most warranties, including any implied or statutory warranties such as warranties of merchantability, fitness for a particular purpose, quality and non-infringement, as well as any liability with respect to incidental, consequential, special, exemplary, punitive or similar damages. In some states, such disclaimers may not be enforceable. If necessary, we would provide for the estimated cost of product and service warranties based on specific warranty claims and claim history. In the recent past, we have not been

Notes to the Condensed Consolidated Financial Statements (unaudited)—(Continued)

subject to any significant claims for such losses and have not incurred any material costs in defending or settling claims related to these indemnification obligations. Accordingly, we believe the estimated fair value of these agreements is not material.

During the three months ended March 31, 2003, we entered into an operating lease for our future U.S. regional sales headquarters office in Cupertino, California. In the event that we do not exercise our option to extend the term of the lease, we guarantee certain costs to restore the property to certain conditions in place at the time of lease. We are accruing the estimated lease restoration costs over the lease term because it is within the scope of FIN 45 and entered into subsequent to December 31, 2002.

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities,” or FIN 46. Until this interpretation, a company generally included another entity in its consolidated financial statements only if it controlled the entity through voting interests. FIN 46 requires a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity’s activities or entitled to receive a majority of the entity’s residual returns. We have adopted the requirements of FIN 46.

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation—Transition and Disclosure, an Amendment of FASB Statement No. 123,” or SFAS 148. SFAS 148 provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS 148 amends the disclosure requirements of SFAS 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. SFAS 148 is effective for financial statements for years ending after December 31, 2002. We have adopted the disclosure requirements of SFAS 148.

In November 2002, the EITF reached a consensus on Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables,” or EITF 00-21. EITF 00-21 provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF 00-21 apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. We do not believe the adoption of EITF 00-21 will have a material impact on our financial position or results of operations.

In June 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” or SFAS 146. SFAS 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring),” or EITF 94-3. SFAS 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. Under EITF 94-3, a liability for an exit cost as defined in EITF 94-3 was recognized at the date of an entity’s commitment to an exit plan. SFAS 146 eliminates the definition and requirements for recognition of exit costs in EITF 94-3. SFAS 146 also establishes that fair value is the objective for initial measurement of the liability. SFAS 146 is applicable for all exit activity initiated after December 31, 2002. Our adoption of SFAS 146 did not have a material impact on our results of operation, financial position or cash flows.

In November 2002, the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others,” or FIN 45. FIN 45 elaborates on the existing disclosure requirements for most guarantees, including loan guarantees. It also clarifies that at the time a company issues a guarantee, the company must recognize an initial liability for the fair value, or market value, of the obligations it assumes under that guarantee. However, the provisions related to recognizing a liability at inception of the guarantee for the fair value of the guarantor’s obligations does not apply to product warranties or to guarantees accounted for as derivatives. The initial recognition and initial measurement provisions apply on a prospective basis to guarantees issued or modified after December 31, 2002. The disclosure requirements of FIN 45 are effective for financial statements of interim or annual periods ending after December 15, 2002. See Note 10 above.

The statements made throughout this Quarterly Report on Form 10-Q that are not historical facts are forward-looking statements and, accordingly, involve estimates, projections, goals, forecasts, assumptions and uncertainties that could cause actual results or outcomes to differ materially from those expressed or implied in the forward-looking statements.

These forward-looking statements may relate to, but are not limited to, future capital expenditures, acquisitions, timing of the integration of acquired businesses, the ultimate cost of acquired businesses, revenue “pipeline,” revenues, including revenues from recently acquired businesses, cash flows, earnings, margins, costs, strategy, demand for our products, market and technological trends in the software industry, effective tax rates, interest rates, foreign currency exchange rates and inflation and various economic and business trends. Generally, you can identify forward-looking statements by the use of words such as “expect,” “estimate,” “project,” “budget,” “forecast,” “anticipate,” “goal,” “intend,” “plan,” “may,” “will,” “could,” “should,” “believes,” “predicts,” “potential,” “continue” and similar expressions or the negative or other variations thereof. These forward-looking statements involve substantial risks and uncertainties. Examples of such risks and uncertainties are described under “Factors That May Affect Future Results and Market Price of Stock” and elsewhere in this report, as well as in our other filings with the SEC or in materials incorporated by reference herein or therein. You should be aware that the occurrence of any of these risks and uncertainties may cause our actual results to differ materially from those anticipated in our forward-looking statements and have a material and adverse effect on our business, results of operations and financial condition. New factors may emerge from time to time, and it is not possible for us to predict new factors, nor can we assess the potential effect of any new factors on us.

These forward-looking statements are found at various places throughout this Form 10-Q. We caution you not to place undue reliance on these forward-looking statements, which, unless otherwise indicated, speak only as of the date they were made. We do not undertake any obligation to update or release publicly any revisions to these forward-looking statements to reflect events or circumstances after the date of this Form 10-Q, except as required by law.

We were incorporated in California in 1983 and reincorporated in Delaware in 1989. We maintain our executive offices at 100 Enterprise Way, Scotts Valley, California 95066-3249, and our main telephone number at that location is 831-431-1000. We also maintain a Web site on the Internet at www.borland.com and a community site at http://bdn.borland.com.

All Borland brand and product names are trademarks or registered trademarks of Borland Software Corporation, in the United States and other countries. This Form 10-Q also contains additional trade names, trademarks and service marks claimed by other companies. We do not intend our use or display of other parties’ trademarks, trade names or service marks to imply a relationship with, or endorsement or sponsorship of, us by these other parties.

We are a leading global provider of software development and application infrastructure solutions. We provide our customers with a comprehensive solution designed to help them deliver better software faster by offering products that address the definition, design, development, testing and deployment phases of the application development lifecycle and products that help customers manage software development projects from beginning to end. Our standards-based solutions are designed to improve software quality, accelerate the delivery of software, lower the cost of ownership and reduce the risk of errors. We have an installed base of over three million users worldwide, including leading enterprises in the following industries: high technology, telecommunications, financial services and government contractors in the fields of space and defense.

We believe that our customers turn to us because our products and services offer the following benefits:

Our goal is to become the leading provider of technology solutions for the rapid and effective creation and implementation of software applications, particularly in Java, .NET and C++. Key elements of our strategy to achieve this goal include:

To achieve this goal, we offer products and services that address definition, design, development, testing and deployment phases of the software development process and that help customers with their SCM needs. We support our growth strategy through focused sales and marketing efforts and through particular attention to our research and development activities. We believe our platform-independent solutions maximize development team productivity, ensure higher-quality code and increase the value that enterprises can mine from their existing technology infrastructure.

We also provide training, consulting and support services through our dedicated professional services organization. In addition, we provide service and support for software developers worldwide through an online developer community, http://bdn.borland.com, and an e-commerce site, http://shop.borland.com, which offers a range of technical information, value-added services and third-party products.

The following table presents our Consolidated Statements of Operations data and the related percentage of revenues for the three months ended March 31, 2003 and 2002 (in thousands):

We market software development and application infrastructure technologies to businesses of all sizes worldwide. When customers curtail their information technology budgets, elect to purchase less or delay such purchases, our business—like that of competitors and software industry peers—naturally suffers. In addition, the prolonged downturn in the financial markets during 2002, combined with larger structural problems in industries such as telecommunications, global economic weakness and geopolitical uncertainty, appears to have further dampened IT capital expenditures in excess of the anticipated effects of more typical economic cyclicality. Despite these challenges, several features of our model and strategy provided growth during the first three months of 2003 and, we believe, provide a foundation for growth in the remainder of 2003.

During the three months ended March 31, 2003, net revenues grew 30% to $74.4 million, including $17.9 million in revenue associated with the acquisitions of Starbase and TogetherSoft, from $57.1 million in the three months ended March 31, 2002. Despite challenging economic conditions for the software and information technology industry, the three months ended March 31, 2003 included an increase in net revenues from the three months ended December 31, 2002 and March 31, 2002. Licenses and other revenues increased 19% to $56.8 million in the three months ended March 31, 2003 from $47.7 million in the three months ended March 31, 2002. Gross margins increased to 87% in the three months ended March 31, 2003 from 85% in the three months ended March 31, 2002. Operating expenses increased 84% to $82.1 million in the three months ended March 31, 2003 from $44.5 million in the three months ended March 31, 2002. We had a net loss of $17.7 million in the three months ended March 31, 2003, compared to net income of $4.6 million in the three months ended March 31, 2002.

We believe that strategic acquisitions have been and will continue to be an important component of our overall growth strategy and will allow us to provide an application development platform that will enhance our individual product positions. In January 2003, we successfully completed the acquisitions of Starbase and TogetherSoft and consolidated their results of operations in the three months ended March 31, 2003.

For a more in-depth discussion of our business, including a discussion of our critical accounting policies and estimates, please read our Annual Report on Form 10-K for the year ended December 31, 2002 as filed with the SEC on March 28, 2003.

Net revenues were $74.4 million and $57.1 million for the three months ended March 31, 2003 and 2002, respectively.

With the integration of the acquisitions of TogetherSoft and Starbase, we have aligned our presentation of licenses and other revenues to better reflect our application lifecycle strategy. Specifically, we see three major product categories within application lifecycle management: Design, Develop and Deploy. Design includes the products from our recent acquisitions of TogetherSoft and Starbase: StarTeam, CaliberRM, Together and other related design and management products. Develop includes two major categories: Java, which includes JBuilder, Java Studio and Optimizeit, and .NET, which includes Delphi, C++Builder, Kylix and C++ Mobile Edition (formerly called our Rapid Application Development category). Deploy is comprised of our Borland Enterprise Server products, InterBase and other enterprise products (formerly called our Enterprise category).

Licenses and other revenues represent amounts for license fees and royalties earned for granting customers the right to use our software products. Licenses and other revenues were $56.8 million and $47.7 million for the three months ended March 31, 2003 and 2002, respectively. Licenses and other revenues represented 76% and 84% of net revenues for the three months ended March 31, 2003 and 2002, respectively. The following table presents our licenses and other revenues by product category for the three months ended March 31, 2003 and 2002 (in thousands):

Design. In the three months ended March 31, 2003, licenses and other revenues from our Design products category were comprised of approximately $6.8 million in licenses and other revenues from software products acquired from TogetherSoft and approximately $5.4 million in licenses and other revenues from software products acquired from Starbase. There were no Design licenses and other revenues in the three months ended March 31, 2002, as we completed the acquisitions of TogetherSoft and Starbase in January 2003 and consolidated the results of their operations in the three months ended March 31, 2003.

Develop. Licenses and other revenues from our Develop products group were $34.8 million and $36.4 million in the three months ended March 31, 2003 and 2002, respectively, and included revenue from two primary product lines, Java and .NET. Licenses and other revenues from our Develop products group included licenses and other revenues of $20.9 million and $21.4 million in the three months ended March 31, 2003 and 2002, respectively, from our Java product line. The decrease in licenses and other revenues in our Java product line was due to lower revenues from our JBuilder product line partially offset by growth in our Optimizeit product line. The decrease in licenses and other revenues in our JBuilder product line was principally due to the lack of a release of a major product revision during the three months ended March 31, 2003. Licenses and other revenues from our Develop products group included licenses and other revenues of $14.0 million and $15.0 million in the three months ended March 31, 2003 and 2002, respectively, from our .NET product line. The decrease in licenses and other revenues from our .NET product line was due to lower licenses and other revenues generated from our C++ products. This decrease was primarily attributable to the lack of a major product version release during the three months ended March 31, 2003 compared to the three months ended March 31, 2002, which included the release of C++ Builder 6.

Deploy. Licenses and other revenues from our Deploy products category were $9.7 million and $11.3 million in the three months ended March 31, 2003 and 2002, respectively. The decrease in licenses and other revenues in the three months ended March 31, 2003 from the three months ended March 31, 2002 was due to lower revenues generated from our VisiBroker and Application Server products. Lower licenses and other revenues from these products resulted principally from a lower volume of sales in the Americas. We believe that this reduction in licenses and other revenues from our Deploy products was a result of general economic weakness and geopolitical uncertainty. Revenue growth from our Deploy products category will depend upon the recovery in corporate spending for deployment solutions, our ability to provide compelling technical solutions for software deployment to differentiate ourselves from our competitors and our ability to integrate our Deploy products with our Design and Develop products.

Service revenues represent amounts earned for technical support, consulting and training services for our software products. Net service revenues were $17.6 million and $9.4 million for the three months ended March 31, 2003 and 2002, respectively, representing 24% and 16% of net revenues for those periods, respectively. Service revenues increased $8.2 million in the three months ended March 31, 2003 from the three months ended March 31, 2002 primarily as a result of an increase in technical support revenues. Technical support revenues were $12.0 million and $6.4 million in the three months ended March 31, 2003 and 2002, respectively, and represented 68% of total service revenues in the three months ended March 31, 2003 and 2002. The growth in the technical support revenues in the three months ended March 31, 2003 from the three months ended March 31, 2002 was due to the increase in support revenues associated with our assumption of the support obligations from the acquisitions of TogetherSoft and Starbase. We expect our support revenues to grow to the extent we are successful in selling our solutions into larger enterprises with greater frequency. Our service revenues may also grow as our new enterprise solution offerings increase in complexity and include more services as a component of larger sales contracts.

Revenues from sources outside the United States, or non-U.S. revenues, represented approximately 56% and 62% of net revenues for the three months ended March 31, 2003 and 2002, respectively. The decrease in the percentage of non-U.S. revenues for the three months ended March 31, 2003, as compared to the three months ended March 31, 2002, was principally due to net revenues generated from our newly-acquired Design products in the U.S. We expect non-U.S. revenues to continue to be a significant portion of net revenues in future periods, though the U.S. percentage is expected to be higher in 2003 as compared with 2002 due to the acquisitions of Starbase and TogetherSoft whose sales channels had a greater U.S. focus.

Fluctuations in foreign currency exchange rates did not have a material impact on our net revenues or operating results for the three months ended March 31, 2003 and 2002. However, our non-U.S. revenues would be harmed if the U.S. dollar were to strengthen against major foreign currencies, including the Japanese Yen, United Kingdom Pound Sterling and Euro.

Cost of licenses and other revenues consists primarily of production costs, product packaging and royalties paid to third-party vendors. Cost of licenses and other revenues were $3.1 million and $3.5 million for the three months ended March 31, 2003 and 2002, respectively. Cost of licenses and other revenues were 5% and 7% of total licenses and other revenues in the three months ended March 31, 2003 and 2002, respectively. The reduction in the cost of licenses and other revenues was principally attributable to a reduction in direct production costs as we had a larger percentage of our licenses and other revenues generated from large corporate contracts. Typically large enterprise and corporate licenses are delivered electronically or represent additional licenses of software that has already been delivered. This has the impact of reducing our overall production costs. Royalty costs were 2% of licenses and other revenues in the three months ended March 31, 2003 and 2002. The level of royalty costs in future periods depends on our ability to obtain favorable licensing terms for our products that include third-party technology and the extent to which we include such third-party technology in our product offerings.

Cost of service revenues consists primarily of salaries and benefits, third-party contractor costs and related expenses incurred in providing customer support, consulting and training. Cost of service revenues were $6.6 million and $5.0 million for the three months ended March 31, 2003 and 2002, respectively. Cost of service revenues were 38% and 54% of service revenues in the three months

ended March 31, 2003 and 2002, respectively. Cost of technical support revenues represented 26% and 30% of the cost of service revenues for the three months ended March 31, 2003 and 2002, respectively, while cost of consulting and training revenues represented 74% and 70%, respectively, of the cost of service revenues for the same periods. Service revenues gross margins were 62% and 46% in the three months ended March 31, 2003 and 2002, respectively. The increase in gross margins for the three months ended March 31, 2003 when compared with the three months ended March 31, 2002 was due to an increase in support revenues resulting from the assumed support obligations from the acquisitions of TogetherSoft and Starbase. In future periods, we expect increases in our cost of service revenues as our service revenues grow and the consulting and training revenues become a larger component of service revenues.

Research and development expenses for the three months ended March 31, 2003 and 2002 were $18.0 million and $11.9 million, respectively. Such expenses were 24% and 21% of total net revenues for the three months ended March 31, 2003 and 2002, respectively. The increase in research and development expenses was principally attributable to an increase in our research and development headcount of 83% when compared to the three months ended March 31, 2002, resulting in an increase in our research and development employee-related expenses of 56% from the same period in 2002. This increase in headcount was a result of the acquisitions of TogetherSoft and Starbase. In addition, we recorded outsourced research and development charges of $2.2 million during the three months ended March 31, 2003.

During 2002, we entered into contracts to perform non-recurring engineering projects for several customers. Under these arrangements, we received payments for engineering services upon the achievement and delivery of certain milestones. We accounted for the payments received under these arrangements as a reduction of research and development expenses. During the three months ended March 31, 2003 and 2002, we recorded approximately $0.4 million and $0.2 million, respectively, under these arrangements.

Selling, general and administrative expenses were $46.3 million and $31.0 million for the three months ended March 31, 2003 and 2002, respectively. These expenses were 62% and 54% of net revenues for the three months ended March 31, 2003 and 2002, respectively. The increase in selling, general and administrative expenses was principally attributable to an increase in our selling, general and administrative headcount of 33% compared to the same quarter in 2002, resulting in an increase in our employee-related expenses of 54% from the same period in 2002. The increase in headcount was a result of the acquisitions of TogetherSoft and Starbase. In addition, our facilities cost increased 48% from the same period in 2002 as we assumed the lease obligations of TogetherSoft and Starbase. In future quarters, we expect that our facilities cost will decrease by approximately $0.5 million per quarter, or 6% of total quarterly facilities costs, due to the termination of certain lease commitments before the end of April 2003.

Restructuring, Amortization of Intangibles, Acquisition-Related Expenses and Other Charges

The following table summarizes our restructuring, litigation, amortization of intangibles and acquisition-related expenses activity for the three months ended March 31, 2003 and 2002 (in thousands):

During the three months ended March 31, 2003, we recorded $5.4 million in restructuring costs from redundancies as a result of the TogetherSoft and Starbase acquisitions and excess facilities in the United Kingdom, $5.3 million in amortization from purchased intangibles from the TogetherSoft, Starbase, VMGear, Bedouin, Boldsoft and Highlander acquisitions, $2.5 million in acquisition-related expenses, which is principally associated with the earn-out provision of the VMGear acquisition, and a $4.6 million charge for in-process research and development from the TogetherSoft acquisition.

During the three months ended March 31, 2002, we recorded restructuring, amortization of intangibles and acquisition-related expenses in the amount of $1.5 million, which consisted primarily of $1.1 million in acquisition-related expense associated with an earn-out provision in the VMGear acquisition.

The following table summarizes our restructuring activity for the three months ended March 31, 2003 (in thousands):

In addition, we recorded a charge for $2.3 million, during the three months ended March 31, 2003, for lease termination costs related to a facility in the United Kingdom. Due to the timing of payments under the lease agreement, we have recorded these costs as a part of long-term restructuring. The total long-term lease termination obligation as of March 31, 2003 was $4.1 million.

Interest income, net and other was $1.2 million and $1.7 million for the three months ended March 31, 2003 and 2002, respectively. The decline in interest income, net and other during the three months ended March 31, 2003 when compared to the same period in 2002 reflects a decrease in interest income of $0.9 million, due to decreases in average cash balances and lower prevailing interest rates. Other income also decreased $0.2 million due to a decrease in rental income from our property on Green Hills Road, Scotts Valley, California. These declines were offset by foreign currency gains of approximately $0.3 million, during the three months ended March 31, 2003, compared to a foreign currency loss of approximately $0.3 million during the three months ended March 31, 2002.

For the three months ended March 31, 2003 and 2002, we recorded an income tax expense of $1.5 million and $1.2 million, respectively. Our tax provision for the three months ended March 31, 2003 was not based on our expected annual rate as we incurred non-U.S. withholding taxes in a number of foreign jurisdictions regardless of our profitability as well as non-U.S. income taxes for certain profitable foreign operations. As these tax liabilities were incurred in foreign jurisdictions, they were not offset by the benefits of prior U.S. net operating loss and tax credit carryforwards.

The expected rate is a combination of U.S. alternative minimum taxes, U.S. state taxes, non-U.S. withholding taxes and income taxes. Our effective tax rate will continue to depend on the amount and location of our profits, the ability to utilize our net operating loss and tax credit carryforwards in certain jurisdictions, mostly in the U.S., and the amount of non-U.S. withholding taxes.

As of March 31, 2003, cash, cash equivalents and short-term investments totaled $217.1 million, a decrease of $79.1 million from $296.2 million at December 31, 2002. Working capital decreased from $246.7 million at December 31, 2002 to $147.6 million at March 31, 2003. Working capital decreased $99.1 million during the three months ended March 31, 2003 principally due to $76.9 million in cash used to purchase TogetherSoft and Starbase and $7.7 million in negative working capital assumed in the acquisition of TogetherSoft.

Cash used in operating activities for the three months ended March 31, 2003 was $4.0 million, consisting of $17.7 million in net loss offset by $7.5 million in depreciation and amortization, a $2.2 million loss on a write-off of a loan receivable and a decrease in non-cash working capital of $4.0 million. Cash provided by operating activities for the three months ended March 31, 2002 was $1.9 million, consisting of $4.6 million in net income and $1.6 million in depreciation and amortization offset by an increase in non-cash working capital of $4.3 million.

Cash used in investing activities for the three months ended March 31, 2003 included $71.6 million and $5.3 million used for the acquisitions of TogetherSoft and Starbase, respectively, discussed in Note 3 to the

Condensed Consolidated Financial Statements, $7.6 million for purchases of short-term investments and $0.7 million in cash used for the purchase of property and equipment, offset by $49.4 million in sales and maturities of short-term investments. Cash used in investing activities for the three months ended March 31, 2002 included $2.2 million used for the acquisition of VMGear discussed in Note 3 to the Condensed Consolidated Financial Statements, $0.8 million in cash used for the purchase of property and equipment, and net purchases of short-term investments of $44.3 million.

Cash provided by financing activity was $1.4 million for the three months ended March 31, 2003 and principally consisted of proceeds from the issuance of common stock to employees under our employee stock option plans offset by $2.9 million in repurchases of common stock. Cash provided by financing activity was $3.4 million for the three months ended March 31, 2002, which principally consisted of proceeds from the issuance of common stock to employees under our employee stock option plans.

Currency fluctuations did not have a significant impact on our cash position during the three months ended March 31, 2003. Although we partially hedge our foreign currency exchange rate risk, strengthening of the U.S. dollar against the Euro, United Kingdom Pound Sterling, Australian and Singapore dollars and Japanese Yen would harm our business. We cannot predict currency exchange rate fluctuations and there can be no assurance that foreign currency exchange rates will not have a material adverse impact on our future cash flows and operating results. See further discussion of foreign currency risk in Item 3, “Quantitative and Qualitative Disclosures About Market Risk.”

For the remainder of 2003, we expect that operating expenses will decrease as a percentage of revenue when compared with the three months ended March 31, 2003. We anticipate that operating expenses and planned capital expenditures will continue to constitute a material use of our cash resources. We expect our capital expenditures in 2003 to be greater than 2002. In addition, we may utilize cash resources to fund acquisitions or investments in other businesses, technologies or products lines. We believe that our available cash and cash equivalents, together with our anticipated future cash provided by operating activities, will be sufficient to meet our working capital and operating expense requirements for at least the next twelve months. At some point in the future we may seek additional funds to support our working capital and operating expense requirements or for other purposes and may seek to raise the additional funds through public or private debt or equity financings. If we seek additional financing, there is no assurance that this additional financing will be available, or if available, will be on reasonable terms and not dilutive to our stockholders.

During the three months ended March 31, 2003, the Audit Committee of our Board of Directors approved new or recurring engagements with PricewaterhouseCoopers LLP, our independent accountants, to provide certain non-audit tax-related services.

We operate in a rapidly changing environment that involves many risks, some of which are beyond our control. The following is a discussion that highlights some of these risks. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations or results. If any of these risks actually occur, our business operations or results could be harmed.

We may not be able to successfully integrate acquired businesses into our existing business.

As a part of our business strategy, we have recently acquired a number of businesses, products and technologies, including our significant acquisitions of TogetherSoft and Starbase. Acquisitions entail numerous risks, including difficulties associated with the integration of operations, technologies, products and personnel. Acquisition integration issues are complex, time-consuming and expensive and, without proper planning and implementation, could significantly disrupt our business. The challenges involved in the integration of acquired businesses include, but are not limited to:

In the future, we may continue to make acquisitions of businesses, products or technologies. However, acquisitions entail numerous risks that, if realized, could harm our operating results. These risks include, but are not limited to:

We may not be able to successfully compete against current and potential competitors.

Our markets are intensely competitive. Rapid change, new and emerging technologies and fierce competition characterize these markets. The pace of change has accelerated due to the emergence of the Internet, and related programming platforms and languages, including Sun Microsystem’s Java, Linux and Microsoft’s .NET and C#.

We attempt to differentiate our products from our competitors’ products based on interoperability, cost of ownership, performance and reliability as well as their effectiveness in addressing our customers’ needs. We may not be able to successfully differentiate our products from those of our competitors in the future or be able to continue to enhance our product lines to meet the needs of our customers. In addition, many of our competitors have substantially greater financial, management, marketing and technical resources than we have. Many of our competitors have well established relationships with our current and potential customers, extensive knowledge of the market and extensive product development, sales and marketing resources. As a result of their greater resources and established relationships, these competitors may be more successful than we are at developing and marketing products in our markets.

Because there are relatively low barriers to entry in a number of our markets, we also expect additional new competition from other established and emerging companies. In particular, given the recent growth and adoption of Java,

we are observing increased attention to the market for Java development technologies, and expect additional new entrants. For example, certain vendors which have previously not focused significant resources on the Java development market have altered their product strategies to incorporate Java development offerings. Because we are dependent on the market for Java development for a substantial portion of our revenue, increased competition in this market could damage our competitive position. Increased competition in our markets, including from companies with substantial resources, could result in price reductions, fewer customer orders, reduced gross margins and loss of market share. Any one of these results could substantially reduce our revenues.

Bundling arrangements or product give-aways by our competitors, including freely available development technologies, may diminish demand for our products or pressure us to reduce our prices.

Certain of our competitors, particularly those that are primarily hardware vendors or platform providers, generate a substantially greater proportion of their sales in markets in which we do not directly compete. We believe a number of these competitors view sales of software development technologies as important for enhancing the functionality of, and demand for, their core products. As a result, some companies may bundle software development products that compete with our offerings with their other products, such as application servers, work stations, personal computers, operating systems and databases. When competitors do so, the effective price for software development products that compete with our products may be heavily discounted or offered at no charge. This could require us to reduce the price of our products and related services, diminish our revenues and harm our profitability. Similarly, industry alliances and arrangements exist or may be formed in the future under which our competitors ally with companies in markets in which we do not compete to bundle products. These arrangements may result in lower effective prices for our competitors’ products than our own prices, putting pressure on our business and diminishing our competitive position.

In addition to bundled offerings and bundling arrangements, some competitors make available or have begun making available for no charge to their customers products that compete with our products, including our development solutions such as JBuilder. While we believe that products made available at minimal or no cost are not able to compete with our offerings on the basis of quality, performance and reliability, among other things, freely available competitive technologies are a risk to our business. At a minimum, technologies offered at no charge increase pricing pressure and threaten revenue potential. For example, IBM recently donated some of its proprietary software to the open source Eclipse initiative. Eclipse has created an open source toolkit in which customers can access and create development technologies at no charge. Wide adoption of this model may reduce demand for some of our products and may increase demand for some of our other products.

Consolidation in our industry may impede our ability to compete effectively.

Consolidation continues to occur among companies that compete in our markets as firms seek to offer more extensive suites of software products and to take advantage of efficiencies and economies of scale. Additionally, a number of major hardware companies have sought to expand their software and services offerings through acquisitions. Recently, IBM acquired Rational Software, a competitor of ours. Changes resulting from this and other consolidations may harm our competitive position, particularly as certain products, when offered as part of a bundled suite, are offered for free or are given away to sell more hardware or infrastructure components. In addition, as the trend toward consolidation continues, we may encounter increased competition for attractive acquisition targets and may have to pay higher prices for those businesses or products and may increase.

We are relatively new to selling comprehensive solutions for the application development lifecycle, and we may not be able to successfully compete in that broader market.

The software application lifecycle market has been evolving, as customers are increasingly demanding development solutions that address each stage of the software development lifecycle. While we believe we maintain strong relationships with the IT organizations in large enterprises through our developer network, we do not have extensive experience selling comprehensive development solutions. Historically, we have focused on selling particular products for particular segments of the development process, most notably the sale of development tools. We have recently acquired a number of companies that we believe provide us with a more comprehensive product offering that is attractive to large enterprises. However, we have no history of selling these comprehensive solutions and we may be unable to effectively sell these solutions to large enterprises. To compete successfully in the software application lifecycle market we believe we will need to:

The customers for our comprehensive solutions are, and we expect our customers will continue to be, highly concentrated in a small number of vertical markets, so a continued economic downturn in these markets could significantly harm our revenues.

A large portion of our revenues is derived from customers in a small number of vertical markets such as the technology, telecommunications, government contracts and financial services markets. While we believe that customers in these markets are attracted to the performance advantages of our products, continuation or deepening of the current economic downturn in any of these markets could have a significant adverse impact on our revenues. Our revenues from our Deploy business category were hurt in 2001, 2002 and the first three months of 2003 by the economic downturn in these markets, particularly the telecommunications market. Our failure to broaden our base of customers outside these vertical markets could reduce our future revenues if the extended downturn in our targeted vertical markets continues.

If we fail to effectively manage our growth, our infrastructure, management and resources could be strained, our ability to effectively manage our businesses could be diminished and our operating results could suffer.

Our future success depends on growing our company. Failure to manage growth effectively could strain our resources, which would impede our ability to increase revenues. During the past two years, we have increased the number of product releases we make each year and have introduced a number of new products and services. In addition, we have undertaken a number of acquisitions in the last year, diversifying our product offerings and increasing our international research and development operations. There is a risk that we will be unable to manage the growth that we have recently experienced and that we will be unable to manage our substantially larger company, including our international operations. If we fail to manage these risks, our operating results could suffer.

We plan to continue to expand the number and breadth of our software solutions and their use in the future. Our ability to manage our planned growth effectively will require us to:

As we expand and diversify our product and customer base, we may be required to increase our selling, general and administrative expenses. We also may be required to increase staffing and other expenditures in order to meet the anticipated demands of our customers. However, given that our customers do not commit to license our software for more than a short time in advance, any increase in expenses in anticipation of future orders that do not materialize could reduce our net income. If we are unable to match our increased staffing and other expenditures with similarly increased revenue, our profitability would be harmed.

Our increasing focus on enterprise customers may lengthen our sales cycles and increase fluctuations in our financial results.

As we increasingly seek to license software products directly to our customers, particularly large enterprises, we have experienced sales cycles that are substantially more lengthy and uncertain than those associated with our traditional business of licensing software through indirect and retail channels. As we move to selling customers comprehensive solutions, we believe that a significant percentage of our future revenues will be from enterprise customers. These transactions typically contain multiple elements, including licenses for development and deployment products, technical support, maintenance, consulting and training services. As a result, these customers generally commit significant time and resources to evaluating our software, and they require us to expend substantial time, effort and money in establishing the enterprise relationship and in educating them about our software products and solutions. Also, sales to enterprise customers generally require an extensive sales effort throughout the customer’s organization and often require final approval by the customer’s Chief Information Officer or other senior executive employee. In particular, while our strategy includes leveraging the loyalty of our developer network to sell our application lifecycle management solutions within their enterprises, we believe that purchase decisions on

software application technology often involve more senior-level employees than sales of the development products that we have traditionally sold. All of these factors substantially extend the sales cycle and increase the uncertainty of whether a sale will be made in any particular quarter, or at all. We have experienced and expect to continue to experience delays and uncertainty in our sales cycle as well as increased up-front expenses in connection with enterprise sales. The timing of the execution of enterprise volume licenses, or their nonrenewal by large customers, could cause our results of operations to vary significantly from quarter to quarter. In addition, the continued weakness in the market for IT investment, particularly for wide-scale enterprise-wide deployments, has lengthened and may continue to lengthen our sales cycle, as prospective customers defer significant investments in IT infrastructure until the market for IT investment improves.

We have a relatively new direct sales force and our limited experience in managing it may impair our ability to expand sales and generate increased revenues.

Because a significant percentage of our sales force is relatively new to our company following our recent acquisitions of TogetherSoft and Starbase, there is a limited history on which to evaluate their performance. There can be no assurance that our expanded sales force will succeed in increasing or sustaining our revenue or improving our competitive position or that our newly-hired employees will achieve desired levels of productivity. In addition, while we have experienced sales management personnel, we have limited experience in managing a large, geographically-dispersed sales force. For example, we may experience difficulty in integrating the new members of our sales team into our operations and adequately training them on our comprehensive solutions. Our failure to successfully manage our sales force may impair our ability to increase sales and grow our revenues.

If our efforts to motivate and train our sales and technical personnel are unsuccessful or are not cost-effective, our operating results would be harmed.

In light of our substantially expanded product portfolio (as a result of our acquisitions), we need to extensively train and motivate our sales personnel, invest additional resources in our sales efforts and effectively educate our authorized resellers. Our software products and services require a sophisticated sales effort targeted at the senior management and IT departments of our prospective customers. In addition, we believe our products compare well to our competition’s products in performance and other technical benefits, increasing our need to have well trained, technically savvy sales personnel in order to communicate these advantages to prospective customers. We have made significant investments in training our direct sales force on the benefits of each component of our comprehensive solution in an effort to improve and motivate our sales force and increase sales. In addition, following our recent acquisitions, we re-allocated the territories in which our sales force operates. There can be no assurance, however, that these efforts will be successful in achieving positive results in the long term, and such changes and additional investments could significantly increase our sales-related expenses.

The number of factors that affect our revenues makes our future results for a particular period difficult to predict and therefore we may not meet expectations for a particular period.

We believe that our revenues have the potential to vary significantly from time to time. These variations could cause our stock price to fluctuate significantly. We believe that these variations may result from many factors, including:

A significant portion of our customers, particularly enterprise-level customers, tend to place orders toward the end of a given quarter. Revenues may also fluctuate based on our customers’ fiscal year budgeting cycles. Therefore, revenues may be difficult to predict, and any shortfall in revenues for a quarterly period may not be known until late in the quarter. Additionally, our costs, while based on projected revenues, are relatively fixed in the short term. Therefore, if our revenue levels fall below projections, net income may be significantly reduced or result in losses. As a result, we believe that quarterly revenues and operating results will continue to be difficult to forecast and period-to-period comparisons of our results of operations are not necessarily meaningful and should not be relied upon as indications of trends or our future performance.

Our historical financial information relating to a number of our software development technologies is based on sales of development applications for currently adopted languages and traditional hardware platforms, and as such may not be indicative of our future performance in developing and marketing software for emerging programming languages and hardware platforms.

Our historical financial information relating to a number of our software development technologies is based on sales of software designed to develop applications for currently adopted platforms (e.g., Windows and C++) as well as traditional computer hardware platforms (e.g., mainframes, work stations, applications servers, desktop personal computers, notebook computers, etc.). While we continue to enhance the functionality of these products and expect sales of these technologies to continue to generate a significant percentage of our revenues, we expect to derive an increasing percentage of our revenues from sales of our development technologies for emerging platforms such as Java and .NET, as well as emerging hardware platforms such as wireless and mobile computing devices. Relative to our traditional business, we do not have a lengthy operating history in these markets upon which to evaluate our prospects, which may make it difficult to predict our actual results in future periods. Accordingly, actual results of our future operations may not meet our anticipated results.

Our success is dependent on the growth of certain programming languages and standards.

Many of our most popular products are focused on the Java language and platform, and we continue to invest heavily in software solutions for the Java platform as it evolves, including enterprise-focused standards such as Java 2 Platform, Enterprise Edition, or J2EE, and Enterprise JavaBeans, or EJB, to enhance the performance and functionality of these products. Java, however, is a relatively new language and was developed primarily for the Internet and corporate Intranet applications. We believe that Java is making significant inroads with respect to its adoption for enterprise applications, but it is unlikely to be the only major software architecture standard that enterprises will adopt. For example, it is expected that for the foreseeable future the Java language and platform will face significant competition in the enterprise market from Microsoft’s more recent alternative, namely its C# language and .NET platform. If Java, including EJB and J2EE, does not become widely adopted, our expected revenues would diminish.

In addition, our deployment products, including Borland Enterprise Server, are based on Common Object Request Broker Architecture, or CORBA. CORBA is a standard from the Object Management Group, or OMG, for communicating between distributed objects (objects are self-contained software modules). CORBA provides a way to execute software programs written in different programming languages running on different platforms no matter where they reside in the network. While we believe that CORBA has achieved widespread acceptance as a software-based communications interface through which objects are located and accessed, critics contend that its penetration tends to be narrow and deep, resulting in large investments by relatively few enterprises. CORBA is a highly complex technology requiring significant investments and expertise to implement, as well as to support and train users. If CORBA is displaced or its popularity is diminished, our business would be harmed.

If our development products for Microsoft .NET are not successful, our business would be harmed.

We are currently investing resources in our research and development efforts for Microsoft .NET development products. Microsoft .NET is Microsoft’s new operating environment for software applications. While we are releasing development products that support the .NET platform, our business would be harmed if we are unable to develop an effective development product for the .NET platform that addresses the needs of our customers, or if our competitors, particularly Microsoft, develop more effective or efficient products. In addition, despite our efforts to provide effective and compatible development products for the .NET platform, customers may

still elect to use an all-Microsoft development platform. Furthermore, the success of our .NET products is dependent upon Microsoft gaining market acceptance of its .NET platform. If Microsoft’s .NET platform does not gain market acceptance or gains acceptance more slowly than we anticipate, our investments in .NET compatible products may not generate their anticipated return. In conjunction with .NET, Microsoft has a new development language, C#. An alternative to Java, C# is an object-oriented programming language and is based on C++. We believe that C# is gaining in market acceptance. We do not, however, currently offer a development product for the C# programming language. If certain emerging programming languages, such as Microsoft’s C#, gain significantly in popularity and we do not offer a development technology to facilitate development in such languages, our competitiveness could be diminished.

We depend on technologies licensed to us by third parties, particularly those of Sun Microsystems and Microsoft, and the loss of or inability to maintain these licenses could prevent or delay sales or shipments of certain of our products.

We are dependent on licenses from third-party suppliers for some elements of our products such as various file libraries. In particular, we are dependent on technology licenses from Sun Microsystems for our Java products and we are dependent on licenses from Microsoft for our Delphi and C++Builder products. If any of these licenses were terminated or were not renewed, or if these third parties failed to develop new technology products or failed to notify us in a timely manner of any new or updated technology, we might not be able to ship such products or provide support for such products, including upgrades. We would then have to seek an alternative to the third party’s technology and, in some cases, it is possible that an alternative may not exist. This could result in delays in releasing and/or shipping our products, increased costs or reduced functionality of our products which in turn could substantially reduce our revenues.

If we are unable to meet rapid changes in technology and introduce competitive products, our existing products could become technologically obsolete.

The market for our products is highly competitive and is characterized by continuous technological advancement, evolving industry standards and changing customer requirements. While we believe that to date we have successfully developed products that incorporate the latest technologies and standards, we cannot be certain that we will successfully design and market new products and upgrades of our current products that are competitive and work with existing and new computer platforms and operating environments. This is especially true regarding the development of comprehensive solutions for the .NET platform.

Additionally, we face a number of competitive risks in the software market, including, but not limited to, the following:

We may not successfully address these risks. If we do not successfully address these risks, our business would be harmed.

If our products do not operate with the wide variety of hardware, software, operating systems, environments and programming languages used by our customers, our revenues would be harmed.

Our customers use a wide variety of constantly changing hardware, software and operating platforms. We invest and will continue to invest significant resources to develop products for new or emerging software and hardware platforms in the server, desktop, personal digital assistant, mobile, wireless and other environments that may develop from time to time. However, there is a risk that a new hardware or software platform that we do not provide products for could rapidly grow in popularity. In particular, we believe that this risk is substantial for

particular proprietary platforms and languages for which we may not be given preferential or economically feasible access or access at all. As a result, we may not be in a position to develop products for such platforms or may be late in doing so. If we fail to introduce new products that address the needs of emerging market segments, or if our new products do not achieve market acceptance as a result of delays in development or other factors, our future growth and profitability could suffer. In addition, we may incur significant expenditures to develop products for emerging platforms that do not ultimately become large or profitable market segments.

Because we rely on independent software vendors, value-added resellers, system integrators and other channel partners to complement our direct sales, if we cease doing business with one or more of these parties, our revenues could suffer.

We rely on independent software vendors, or ISVs, value-added resellers, or VARs, systems integrators and other channel partners to complement our direct sales. A part of our strategy is also to bundle our software in the products offered by VARs or ISVs. The pricing, terms and conditions of our agreements with these partners are individually negotiated and vary among partners. A majority of these agreements are non-exclusive. Many of our agreements do not require our customers to make a minimum number of purchases. We have virtually no control over the shipping dates or volumes of systems shipped by our customers. Although we believe our relationships with our channel partners have been successful to date, we cannot guarantee that these relationships will continue to be successful or grow or that the channel partners will continue to purchase our products at the anticipated levels in the future. If we do not continue to receive referrals from third parties or if we are unable to secure license agreements with these parties on profitable terms, our business may suffer.

Failure to expand or grow our professional services offerings and enlist others to provide services for our products could harm our ability to sell comprehensive solutions to enterprise customers.

We believe that growth in our licenses and other revenues will depend on our ability to provide our customers with comprehensive professional services and to enlist other parties to provide similar services, including independent software vendors, systems integrators, distributors and other channel partners. These professional services include maintenance, architectural consulting, training, education and project management. If we fail to attract, train and retain skilled personnel to deliver professional services, our ability to sell comprehensive solutions to enterprise customers could be seriously harmed. Competition for qualified professional services personnel is intense, and we may be unable to attract, train and retain the number of highly qualified professional services personnel that we need.

As part of our growth strategy, we have also embarked on an effort to utilize our professional services more aggressively, including using them as a means to market our products or to obtain feedback which we can then incorporate into our product plans. A decline in the price of or demand for our professional services offerings may harm our growth strategy.

Our strategic relationships may not achieve their objectives, and the failure to do so could impede our growth.

We currently maintain a number of important strategic alliances and technology relationships with industry leaders such as BEA Systems, Mercury Interactive, Microsoft, Nokia and Sun Microsystems. Our current technology allies give us, among other things, early access to emerging technologies and additional resources to market our products, as well as an entry point to contact potential customers. Similarly, our strategic relationships with systems integrators and resellers provide additional expertise to our customers and bolster our service capabilities. In the future, we anticipate exploring additional strategic alliances, technology relationships and other arrangements designed to further all of these goals. Our current or prospective strategic alliances and technology relationships may not achieve their intended objectives, however, and parties to our strategic alliances and technology relationships may not perform as contemplated. Additionally, our allies may choose to terminate their arrangements with us where no binding contractual arrangements exist. The failure to develop or maintain our strategic alliances and technology relationships, or our allies’ inability to perform or decision not to perform or to opt out of their arrangements with us, may impede our ability to introduce new products or enter new markets.

Our international operations and sales could be harmed by factors outside our control.

A substantial portion of our revenues is from international sales. International sales accounted for approximately 56% and 62% of our revenues in the three months ended March 31, 2003 and the fiscal year ended December 31, 2002, respectively. In addition, following our acquisition of TogetherSoft, an increasing portion of our operations consists of activities outside the United States. We now have research facilities in Singapore, Sweden, Russia and the Czech Republic. Given our increasing presence in international markets and the potential for sales of our products in international markets, our business is increasingly subject to risks inherent in doing business internationally, including:

One or more of these risk factors could harm our future research operations and international sales. In addition, our subsidiaries generally operate in local currencies and their results are translated monthly into U.S. dollars. If the value of the U.S. dollar increases significantly relative to foreign currencies, our products may become more expensive to foreign businesses, and, as a result, our sales in those foreign jurisdictions may suffer.

Our business may suffer if international trade is hindered, disrupted, or economically disadvantaged.

Political and economic conditions abroad may harm international sales of our products. Protectionist trade legislation in either the United States or foreign countries, such as a change in the current tariff structures, export or import compliance laws or other trade policies, could adversely affect our ability to sell our software products and services in foreign markets. Trade protection measures and import and export licensing requirements subject us to additional regulation and may prevent us from shipping products to a particular market, and increase our operating costs. In addition, we could be subject to regulations, fines and penalties for violations of import and export regulations. Such violations could result in penalties, including prohibiting us from exporting our products to one or more countries and restrictions from transacting business with the U.S. government and instrumentalities thereof, and could adversely affect our business. Changes in policies by the U.S. or foreign governments resulting in, among other things, higher taxation, currency conversion limitations, restrictions on the transfer of funds or the expropriation of private enterprises also could have a material adverse effect on us. Any actions by countries in which we conduct business to reverse policies that encourage foreign investment or foreign trade also could harm our international operations.

Our research and development efforts may be costly and may not produce successful new products and product upgrades.

Our future success will depend upon our ability to enhance our current products and develop and introduce new products on a timely basis, particularly if new technology or new industry standards render existing products obsolete. We believe that we will need to continue to incur significant research and development expenditures to remain competitive, particularly since many of our competitors have substantially greater resources than we do. The products that we are currently developing or may develop in the future may not be technologically successful or may not be accepted in our markets. In addition, the length of our product development cycle may be greater than we expect. If the resulting products are not introduced in a timely manner, or do not compete effectively with products of our competitors, our business will be harmed.

Delays in the introduction of new products may cause us to lose customers to our competitors or harm our reputation.

From time to time, we announce when we expect to introduce a new product. We also attempt to maintain a consistent release schedule for upgrades of existing products. In the past, some of our products have shipped later, sometimes substantially later, than when we originally expected. The loss of key employees may increase the risk of these delays. Some of our products are based on technology licensed from third parties. We have limited control over when and whether these technologies are upgraded. The failure to receive adequate notice of, the delay in release of, or the inadequacy of enhancements to, technology licensed from third parties could have a material adverse effect on our ability to develop and enhance our products. Due to these uncertainties inherent in software development, it is likely that these risks will materialize from time to time in the future. We could lose customers as a result of substantial delays in the shipment of new products or product upgrades.

Because competition for qualified personnel is intense, we may not be able to recruit or retain qualified personnel, which could harm the development and licensing of our products.

We believe that our ability to successfully grow and manage our business and to develop new products will depend, in large part, on our ability to recruit and retain qualified employees, particularly highly skilled software engineers and management personnel. Over the last few years, we have increased compensation, bonuses, stock options and other fringe benefits in order to attract and retain key personnel. In the past, some of our competitors have utilized their greater resources to provide substantial signing bonuses and other inducements to lure key personnel away from us. As a result, we may be required to further increase compensation and benefits, especially for members of management such as Dale L. Fuller, our President and Chief Executive Officer, who are almost completely vested in their options to purchase our stock. We are not certain that these efforts will succeed in retaining our key employees, and our failure to attract and retain key personnel could significantly harm our business. Even if we succeed in attracting and retaining key personnel, these increased compensation costs may not be offset through either improved productivity or higher revenues.

We do not maintain key person insurance on any of our employees or management team members, including Mr. Fuller. If we lose one or more of the members of our management team, including Mr. Fuller or other key employees, we will not receive insurance or other proceeds to help offset the loss to us of unique skills and talents or the potentially high cost of replacement personnel, and our business and operating results could be seriously harmed.

Open source technologies lower the barrier to entry in our markets and have the potential to harm our ability to sell our products and services on profitable terms.

The free availability of technology, such as Linux, may allow competitors to enter our markets more easily and at lower cost. For example, our ability to enhance our development technologies is based on access to technologies we obtain through costly licenses with Sun Microsystems and Microsoft, among others, providing a potential barrier to entry in our markets. If key technologies are made freely available, the advantages we derive from our industry relationships and financial position could be diminished. In turn, our competitive position, revenues and growth could be harmed.

If the wireless and mobile application market does not develop as anticipated our future growth may be negatively impacted.

We have introduced new Java-based products targeted at development applications for mobile and wireless devices, including JBuilder MobileSet, JDataStore 6 and C++Builder Mobile Edition. We have also entered into strategic relationships or technology relationships with wireless device manufacturers, including Nokia, in order to enhance our position in this market. If the market for mobile and wireless applications does not develop as we anticipate or as quickly as we anticipate, the demand for our wireless products will be adversely impacted. In addition, if Nokia elects to cease partnering with us in wireless development, our ability to penetrate this market will be harmed. The failure of the wireless market to develop as we expect, or our failure to penetrate this market, will impede our anticipated sales growth and could result in substantially reduced earnings from those anticipated.

The growth in the market for mobile and wireless applications will depend on a number of factors, any of which may impact our ability to derive substantial revenues from this market in the future. These factors include:

If our products for the wireless or mobile market are not widely accepted our growth may be harmed.

In addition to the development and growth of the market itself, our ability to generate significant revenue in the wireless application implementation market will depend on our ability to adapt to the rapid technological shifts in this market to keep our products viable and competitive. Technological factors that may harm our ability to generate substantial revenue in the wireless market include:

If the wireless and mobile market does not develop as we anticipate or if we are unable to respond to technological shifts in the market, our anticipated sales could be reduced. In addition, even if the wireless market does develop and we have competitive products, our failure to market and sell these products to our customers will harm our anticipated sales and operating results.

The success of our Linux-based products is dependent upon increased future adoption of Linux.

We are investing time and resources in developing products, such as Kylix, for the Linux operating system. Linux is a relatively new operating system that runs on a variety of hardware platforms. Linux has yet to be adopted on a widespread basis, although major hardware vendors like IBM and Sun Microsystems are supporting it. If Linux is not adopted at the levels anticipated, or is adopted more slowly than we anticipate, our investments in Linux-compatible products may not generate their anticipated return. If this occurs, we may fail to generate the revenues we expect, adversely impacting our profitability.

If we cannot increase market awareness of our products and services our business could be harmed.

We continue to expand our marketing operations in order to increase market awareness of our products and services, enhance the goodwill associated with the “Borland” brand, market our products and services to a greater number of customers and generate increased revenue. Our products and services increasingly require effective marketing efforts to address the various departments of an enterprise, as well as the developer community at large, and our inability to effectively market our products could impede our ability to compete. In addition, the need to engage in these marketing efforts could result in a significant increase in our expenses.

We depend on a small number of distributors like Ingram Micro for a significant portion of our revenues; if we lose one or any of our major distributors our revenues could suffer.

Ingram Micro, one of our major distributors, accounted for approximately 8% of our total net revenues during the three months ended March 31, 2003 and approximately 10% of total net revenues during the three months ended March 31, 2002. We expect that Ingram Micro will continue to be a significant distributor and a small number of distributors will continue to account for a significant portion of our revenues for the foreseeable future. Our inability to increase the number of our distributors or the loss of any one major distributor like Ingram Micro could limit our ability to maintain or increase our market share or could cause our revenues to drop quickly and unexpectedly.

We are dependent upon certain retail distribution channels. If these retailers cease to carry our products our revenues would be harmed.

Our license revenues made through retail distribution channels is subject to events that cause unpredictability in customer demand. Our retail distributors also carry the products of our competitors. Some of our retail distributors have limited shelf space and limited capital to invest in inventory. Their decision to purchase our products is based on a combination of demand for our products, our pricing, the terms and special promotions we offer and other factors that we do not control and cannot predict. Our agreements with retail distributors are generally nonexclusive and may be terminated by them or us without cause. Accordingly, our distributors may not continue to carry our products, which would harm our revenue prospects.

We may incur future impairment losses related to intangible assets from prior acquisitions that could negatively affect our future operating results.

We have recently acquired significant assets and businesses. If the assets and businesses do not perform as expected, substantial quantities of intangible assets may need to be amortized or written off. To the extent the assets cannot be amortized, we may be required to take impairment charges related to the intangible assets from these acquisitions. Such charges could harm our operating results.

We have net operating loss and tax credit carryforwards that may change our effective tax rate and in turn have a material effect on our income.

Our effective tax rate is primarily dependent on the location of our taxable profits, if any, due to our net operating loss carryforwards in certain, but not all, jurisdictions, and the imposition of withholding taxes on revenues regardless of our profitability.

We have significant U.S. federal and state income tax net operating losses. For U.S. federal and state income tax purposes, we had net operating loss carryforwards of approximately $186 million and $6 million at December 31, 2002, respectively. We also had available U.S. federal and state tax credit carryforwards of approximately $19 million and $11 million, respectively. These loss and credit carryforwards expire between 2005 and 2021, if not utilized. Utilization of federal and state net operating loss and tax credit carryforwards may be subject to a substantial annual limitation due to the ownership change limitations provided by the Internal Revenue Code of 1986, as amended, and similar state provisions. The annual limitation may result in the expiration of net operating loss and tax credit carryforwards before full utilization. We also have approximately $27 million of net operating loss carryforwards in various foreign jurisdictions. Certain of these loss carryforwards will expire in 2003. To the extent we are unable to utilize these loss and credit carryforwards, our effective tax rate will rise. A higher effective tax rate may harm our future after tax income.

On January 14, 2003, we completed the acquisition of TogetherSoft and, as a result, we succeeded to TogetherSoft’s pre-acquisition federal and state net operating loss and tax credit carryforwards. Utilization of these federal and state net operating loss and tax credit carryforwards will be subject to a similar annual limitation as discussed above.

The Sarbanes-Oxley Act of 2002, the California Disclosure Act and newly-proposed or enacted rules and regulations of the SEC or the National Association of Securities Dealers, or NASD, impose new duties on us and our executives, directors, attorneys and auditors. In order to comply with the Sarbanes-Oxley Act and any new rules promulgated by the SEC or NASD, we may be required to hire additional personnel and use additional outside legal, accounting and advisory services. Any of these developments could materially increase our operating expenses and, accordingly, reduce our net income.

Potential new accounting pronouncements may cause our net income to decrease.

We currently account for employee stock options using the intrinsic-value method in accordance with Accounting Principles Board Opinion Number 25, “Accounting for Stock Issued to Employees,” or APB 25, and have not recognized any compensation expense for awards of employee stock options in the three months ended March 31, 2003 and 2002. Statement of Financial Accounting Standard Number 123, “Accounting for Stock-Based Compensation” permits us to continue accounting for stock-based compensation as set forth in APB 25, provided we disclose the pro forma effect on net income and earnings per share of using a fair-value method of accounting for stock-based employee compensation plans.

If we change our method of accounting for employee stock options, whether voluntarily or as a result of changes in accounting rules, it could materially decrease our net income.

If our encryption technology does not satisfy our potential customers’ needs for the confidential transfer of information, sales of certain of our deployment products could suffer.

We use and will continue to use encryption technology licensed by third parties in some of our products, such as in Borland Enterprise Server, to provide security for the exchange of our customers’ confidential information. Encryption technologies have been breached in the past. There can be no assurance that there will not be a compromise or breach of our security technology. If such a breach were to occur, it could harm our reputation and sales of our deployment products.

If the license of our products that contain encryption technology is delayed by export regulations, revenues from licensing some of our products in foreign markets could be harmed.

There are numerous regulations regarding the export of encryption technology from the United States. In the past, some of our sales have been delayed while we have awaited regulatory clearance to export our encryption technology, especially to countries outside the European Union. Similar delays in the future would reduce our revenues.

Our products may contain unknown defects that could result in a loss of revenues, decreased market acceptance, injury to our reputation and product liability claims.

Software products occasionally contain errors or defects, especially when they are first introduced or when new versions are released. We have not experienced any substantial problems to date from potential defects and errors, but we cannot assure you that our products are or in the future will be completely free of defects and errors. Errors in our software may be caused by defects in third-party software incorporated into our products. If so, we may be unable to fix these defects without the cooperation of these software providers. Because these defects may not be as significant to our software providers as they are to us, we may not receive the full and timely cooperation that we may require. In addition, we may not have the contractual right to access the source code of third-party software and, even if we access the source code, we may be unable to detect and fix the defect. The discovery of a defect or error in a new version or product may result in the following consequences, among others:

Our products also interoperate with many components of complicated computer system implementations, such as mainframes, application servers, personal computers, application software, databases, operating systems and data transformation software. Failure of any one of these components could cause all or large portions of computer systems to fail. In such circumstances, it may be difficult to determine which software or hardware component failed, and it is likely that customers would bring a lawsuit against several companies, including us. Regardless of its merits, responding to any claim can be time consuming and costly and divert the efforts of our technical and management personnel. In addition, we may not have insurance coverage for these types of claims or our insurance coverage for these types of claims may not be adequate.

Many of our license agreements contain provisions designed to limit our liability for potential product liability claims. It is possible, however, that these provisions may not protect us because of existing or future federal, state, local or foreign laws or ordinances or judicial decisions. A successful product liability claim for large damages brought against us could reduce our profitability.

Intentional efforts to harm or disrupt the functioning of our software or website could harm our reputation and result in significant unexpected costs.

Our products or services may be the target of intentional disruptions, such as software viruses specifically designed to impede the performance of our products. Similarly, experienced computer programmers or hackers may attempt to penetrate our network security or the security of our website and misappropriate proprietary information or cause interruptions to the delivery of our services or products. Our activities could be substantially disrupted, and our reputation and future sales could be harmed, if these efforts were successful.

Like the publicly-traded securities of other high technology companies, the market price of our common stock has experienced significant fluctuations and may continue to fluctuate significantly. During the period from April 1, 2002 to March 31, 2003, the price of our common stock has ranged from a low of $6.48 on July 12, 2002 to a high of $14.85 on November 4, 2002. On May 9, 2003, the most recent practicable date prior to the filing of this Form 10-Q, the closing price of a share of our common stock on the Nasdaq National Market was $9.93. From time to time, the market price of our common stock may be significantly affected by a number of factors, including, but not limited to, the following:

Sales of our common stock by significant stockholders may cause the price of our common stock to decrease.

Several outside investors in Borland own significant portions of our common stock. For example, based on the most recent Schedule 13G filings with the SEC, Merrill Lynch and Co., Inc. owned 5,809,366 shares, or 7.2%, of our common stock, FMR Corp. owned 4,061,982 shares, or 5.0%, of our common stock, Franklin Resources, Inc. owned 4,021,016 shares, or 5.0%, of our common stock and Microsoft Corporation owned 1,900,169 shares, or 2.4%, of our common stock. Further, of the 8,998,628 shares of common stock we issued in connection with our acquisition of TogetherSoft, a total of 3,285,461 shares were issued to Object International, Inc. and Dietrich Charisius, two former stockholders of TogetherSoft. These 3,285,461 shares are subject to restrictions on their resale until January 14, 2005. If these stockholders were to sell significant amounts of their Borland stock, then the market price of our stock could be negatively impacted. The effect of such sales, or of significant portions of our stock being offered or made available for sale, could result in downward pressure on our stock. Investors should be aware that they could experience significant short-term volatility in our stock if such stockholders decide to sell a substantial amount of their Borland stock at once or within a short period of time.

We may become subject to costly and time-consuming class action litigation following significant changes in our stock price.

In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation has often been instituted against such companies. Were such litigation to be commenced against us, we could incur substantial costs and there would be diversion of our management’s attention and resources, which could materially adversely affect our business, results of operations and financial condition.

Our investments in securities of other companies may not yield any returns. Any investment losses or other expenses related to these investments could harm our operating results for a particular period.

From time to time, we may make investments in equity and/or debt securities of other companies that we believe further our strategic objectives. Our ability to recover our investments in non-marketable equity and debt securities and to earn a return on these investments is dependent, in part, on how successfully these companies are able to execute on their business plans, as well as their ability to obtain venture capital funding to continue operations and to grow. In the current equity market environment, their ability to obtain additional funding as well as to take advantage of liquidity events, such as initial public offerings, mergers and acquisitions, is significantly constrained. As a result, we may not be able to recover the initial amount invested in these companies. In the event that our investments in these or other debt or equity securities do not prove successful, our operating results may be harmed.

If we are unable to protect our intellectual property, we may lose valuable assets.

As a software company, our intellectual property rights are among our most valuable assets. We rely on a combination of patent, copyright, trademark, trade secret laws, domain name registrations, confidentiality agreements and other contractual arrangements and other methods to protect our intellectual property rights, but these measures may provide only limited protection. The protective steps we have taken may be inadequate to deter misappropriations of our intellectual property rights. In addition, it may be possible for an unauthorized third party to reverse-engineer or decompile our software products. We may be unable to detect the unauthorized use of, or take appropriate steps to enforce, our intellectual property rights, particularly in certain international markets. Litigation may be necessary to protect our intellectual property rights, and such litigation can be time consuming and expensive. We have 102 issued U.S. patents, 10 issued foreign patents and approximately 44 additional pending applications for U.S. patents and approximately 24 pending applications for foreign patents. It is possible that some or all of our patents may be challenged, invalidated or circumvented. It is also possible that our pending patent applications may never result in issued patents, and if they do result in issued patents, those patents may be invalidated. In addition, effective protection of intellectual property rights is unavailable or limited in some foreign countries, making the possibility of misappropriation of our intellectual property more likely. Current laws in the United States that prohibit copying give us only limited practical protection from software “pirates,” and the laws of many other countries provide very little protection in this respect. Policing unauthorized use of our products is difficult, expensive and time consuming and we expect that software piracy will be a persistent problem for all software products. In addition, the unique technology of the Internet may tend to increase, and provide new methods for, illegal copying and distribution of intellectual property. Accordingly, we cannot be certain that we will be able to protect our intellectual property rights against unauthorized third-party copying or use. This could harm our competitive position.

We may incur substantial expenses and divert management resources in prosecuting others for their unauthorized use of our intellectual property rights.

In the future, we may need to file lawsuits to enforce our intellectual property rights, to protect our trade secrets, or to determine the validity and scope of the proprietary rights of others. This litigation, whether successful or unsuccessful, could result in substantial costs and diversion of resources. In addition, should any of our competitors file patent applications or obtain patents that claim inventions also claimed by us, we may choose to participate in an interference proceeding to determine the right to a patent for these inventions. Even if the outcome is favorable, this proceeding could result in substantial cost to us and disrupt our business.

Third party claims of intellectual property infringement may subject us to costly litigation or settlement terms or limited sales of our products.

From time to time, we have received notices claiming that we have infringed a third party’s patent or other intellectual property right. We expect that software products in general will increasingly be subject to these claims as the number of products and competitors increase, the functionality of products overlap and as the patenting of software functionality becomes more widespread. Further, the receipt of a notice alleging infringement may require in some situations that a costly opinion of counsel be obtained to prevent an allegation of intentional infringement. Regardless of its merits, responding to any claim can be time consuming and costly and divert the efforts of our technical and management personnel from productive tasks. In the event of a successful claim against us, we may be required to pay significant monetary damages, including treble damages if we are held to have willfully infringed, discontinue use and sale of the infringing products, expend significant resources to develop non-infringing technology and/or enter into royalty and licensing agreements that might not be offered or be available on acceptable terms. If a successful claim were made against us and we failed to commercially develop or license a substitute technology, our business could be harmed. In addition, we may not have insurance coverage for these types of claims or our insurance coverage for these types of claims may not be adequate.

Increasing regulation of the Internet, imposition of sales and other taxes on products sold or distributed over the Internet and privacy concerns relating to the Internet could harm our business.

Our future sales and any future profits will be substantially dependent upon the continued widespread acceptance and use of the Internet by consumers and businesses as an effective medium for exchanging information and conducting business. To be successful, consumers and businesses that historically have used traditional means of commerce to transact business must continue to accept and utilize the Internet as a medium for conducting business and exchanging information. Consumers and businesses may eventually reject the Internet as a viable commercial medium for a number of reasons, including potentially inadequate network infrastructure, slow

development of enabling technologies such as broadband or other technologies that enable rapid download of purchased products, insufficient commercial support and privacy and security concerns. In addition, delays in the development or adoption of new standards and protocols required to handle increased levels of Internet activity could cause the Internet to lose its viability as a commercial medium.

The electronic commerce market is relatively new and rapidly evolving. While this is an evolving area of the law in the United States and overseas, currently there are relatively few laws or regulations that directly apply to commerce on the Internet. Changes in laws or regulations governing the Internet and electronic commerce, including, without limitation, those governing an individual’s privacy rights, pricing, content, encryption, security, acceptable payment methods and quality of products or services could have a material adverse effect on our business, operating results and financial condition. Taxation of Internet commerce, or other charges imposed by government agencies or by private organizations may also be imposed. Laws and regulations applying to the solicitation, collection and processing of personal or consumer information could also be enacted. Any of these regulations could result in a decline in the use or popularity of the Internet as a medium for commerce, which could harm our future sales and revenue growth.

Our charter documents and Delaware law could discourage an acquisition of our company, even if an acquisition might be viewed as beneficial to our stockholders.

Our stockholder rights plan, and certain provisions in each of our Restated Certificate of Incorporation, Amended and Restated Bylaws and the Delaware General Corporation Law may discourage, delay or prevent an actual or potential change in control of our company even if that change in control could be beneficial to and in the best interests of our stockholders. This could limit our stockholders’ ability to approve a transaction that they may deem to be in their best interests. In addition, our Board of Directors has the authority, without stockholder approval, to fix the rights and preferences of, and issue shares of one or more series of preferred stock.

In October 2001, we adopted a new stockholder rights plan, which replaced an existing plan that expired in December 2001, to protect our stockholders in the event of a proposed takeover that has not been recommended or approved by our Board of Directors. Under our current stockholder rights plan, each share of our outstanding common stock has attached to it one preferred share purchase right. Each preferred share purchase right entitles the holder, other than the acquiring person or entity, under certain circumstances, to purchase shares of our common stock at a 50% discount from its then-current market price.

It is unclear how the Severe Acute Respiratory Syndrome (SARS) outbreak will impact our business.

The recent SARS outbreak may have an adverse impact on our worldwide business, particularly in Asian countries such as China, where the outbreak has been most widespread, and Canada. We have significant operations in the Asia Pacific region, the region most affected by the outbreak of SARS. The Asia Pacific region accounted for approximately 16% and 21% of our net revenues for three months ended March 31, 2003 and 2002, respectively. If the SARS outbreak leads to quarantines affecting our operations in the Asia Pacific region, it would likely cause serious harm to our operations in Asia. In addition, in response to the SARS outbreak, many companies, including us, have restricted travel by their employees in the affected regions, which may affect our ability to conduct sales, marketing and other operations in these areas. If the outbreak were to continue or worsen, these adverse effects could grow, as well as possibly impact the economies of the affected countries overall, and, accordingly, adversely impact our sales in the Asia Pacific region.

Our corporate headquarters is located in Northern California, which is susceptible to earthquakes.

Our corporate headquarters and a substantial portion of our research and development operations are currently located in Northern and Southern California, areas known for significant seismic activity. Seismic activity, such as a major earthquake, could have a material adverse effect on our business, financial condition and operating results. We currently do not have a formal disaster recovery plan nor do we currently maintain property and casualty insurance coverage for seismic activity. Additionally, we may not carry sufficient business interruption insurance to compensate us for any losses that we may sustain as a result of any seismic activity.

Market risks relating to our operations result primarily from changes in interest rates and foreign currency exchange rates, as well as credit risk concentrations. To address the foreign currency exchange rate risk we enter into various hedging transactions as described below. We do not use financial instruments for trading purposes.

We transact business in various foreign countries and have established a foreign currency hedging program utilizing foreign currency forward exchange contracts to hedge intercompany balances and other monetary assets denominated in foreign currencies. The goal of the hedging program is to offset the earnings impact of foreign currency-denominated balances by entering into contracts to sell or buy foreign currency at the time a foreign currency receivable or payable is generated. We do not use foreign currency forward exchange contracts for trading purposes. At month-end, foreign currency-denominated balances and the forward exchange contracts are marked-to-market and unrealized gains and losses are included in current period net income.

During the three months ended March 31, 2003, we have recorded net foreign exchange gains of $0.3 million. The foreign exchange gains were generated primarily due to the weakness of the U.S. dollar relative to the Euro, the United Kingdom Pound Sterling, New Zealand dollar and Japanese Yen. It is uncertain whether these currency trends will continue. If these currency trends do not continue, we may experience foreign exchange losses on our intercompany receivables to the extent that we have not hedged the exposure with foreign currency forward exchange contracts. Such foreign exchange losses could have a material adverse effect on our operating results and cash flows.

During the three months ended March 31, 2003, we recorded a foreign currency gain of approximately $0.8 million as part of other comprehensive income due to foreign currency movements on our long-term intercompany balances. As of March 31, 2003, we had $10.3 million and $2.9 million in long-term intercompany balances that will be settled in Australian dollars and Singapore dollars, respectively.

The table below provides information about our derivative financial instruments, comprised of foreign currency forward exchange contracts as of March 31, 2003. The information is provided in U.S. dollar equivalent amounts, as presented in our financial statements. For foreign currency forward exchange contracts, the table presents the notional amounts (at the contract exchange rates), the weighted average contractual foreign currency exchange rates and the net fair value as of March 31, 2003. All instruments mature within twelve months (dollar amounts in thousands).

Our exposure to market risk for changes in interest rates relates primarily to our investment portfolio. We do not use derivative financial instruments in our investment portfolio. We place our cash equivalents and short-term investments in a variety of financial instruments such as commercial paper. By corporate policy, we limit the amount of our credit exposure to $5.0 million to any one commercial issuer.

We mitigate default risk by investing in securities rated at least A2/P2 as published by Standard and Poor’s and Moody’s, and by positioning our portfolio to respond appropriately to a significant reduction in the credit rating of any investment issuer. To ensure portfolio liquidity, our portfolio includes only marketable securities with active secondary and resale markets.

The table below presents principal (or notional) amounts and related weighted average interest rates by year of maturity for our investment portfolio as of March 31, 2003 (dollar amounts in thousands).

Our financial instruments that are exposed to concentrations of credit risk consist primarily of cash equivalents, short-term investments, and trade receivables. Our cash equivalents and short-term investments are in high quality securities placed with major banks and financial institutions and commercial paper. Concentrations of credit risk with respect to receivables are limited due to the large number of customers and their dispersion across geographic areas. We perform periodic credit evaluations of our customers’ financial condition and generally do not require collateral. As of March 31, 2003, no single group or customer represents greater than 10% of total accounts receivable.

(a) Evaluation of Disclosure Controls and Procedures. Our Chief Executive Officer and Chief Financial Officer (our principal executive officer and principal financial officer, respectively) have evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-14(c) and 15d-14(c) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”). Based on such evaluation, such officers have concluded that, as of the Evaluation Date, our disclosure controls and procedures are effective in ensuring that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and is accumulated and communicated to our management, including our Chief Executive Officer and the Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

(b) Changes in Internal Controls. Since the Evaluation Date, there have not been any significant changes in our internal controls or in other factors that could significantly affect such controls.

On November 27, 2002, a stockholder class action and derivative lawsuit, Dieterich v. Harrer, et al., Case No. 02CC00350, was filed against Starbase Corporation and five former directors of Starbase in the Superior Court of the State of California for Orange County. The complaint alleged that the former directors had breached fiduciary duties owed to Starbase and stockholders of Starbase. Borland is paying the costs of defending this litigation pursuant to indemnification agreements with the defendants that were executed at the time of the acquisition of Starbase by Borland. On January 23, 2003, defendants filed a demurrer seeking to have all the claims dismissed, and also filed a motion to stay discovery pending a ruling on the demurrer. On February 25, 2003, plaintiff filed its first amended class action complaint, or the amended complaint, naming as defendants the five former directors and the investment banking firm that provided financial services to Starbase, two law firms that provided legal services to Starbase and an individual and entity that helped arrange financing for Starbase. The amended complaint purports to be brought on behalf of Starbase stockholders who tendered shares of Starbase common stock in the tender offer commenced by Borland on October 11, 2002 and that ended on November 11, 2002, or in the merger that was completed on January 7, 2003. Plaintiff alleges that the five former directors breached their fiduciary duties owed to Starbase in connection with a proposed financing of Starbase in mid-2002, and that the other defendants aided and abetted the purported breach of fiduciary duty. The director defendants have filed a demurrer seeking dismissal of the amended complaint. In addition, the court has granted the motion of the director defendants to stay discovery pending the hearing on the demurrer. There is no indication at present that the lawsuit will have a material effect on Borland’s financial statements or operations.

From time to time, we may be involved in other lawsuits, claims, investigations and proceedings, consisting of intellectual property, commercial, employment and other matters, which arise in the ordinary course of business. In accordance with Statement of Financial Accounting Standards No. 5, “Accounting for Contingencies,” or SFAS 5, we make a provision for a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. These provisions are reviewed at least quarterly and adjusted to reflect the impacts of negotiations, settlements, rulings, advice of legal counsel and other information and events pertaining to a particular case. Litigation is inherently unpredictable. However, we believe that we have valid defenses with respect to the legal matters pending against us, as well as adequate provisions for any probable and estimable losses. If an unfavorable ruling were to occur in any specific period, there exists the possibility of a material adverse impact on the results of operations for that period. We believe that, given our current liquidity and cash and investment balances, even were we to receive an adverse judgment with respect to litigation that we are currently a party to, it is likely that such a judgment would not have a material impact on cash and investments or liquidity.

The following exhibits are filed as part of, or incorporated by reference into, this Quarterly Report.

A copy of any exhibit will be furnished (at a reasonable cost) to any stockholder of Borland upon receipt of a written request. Such request should be sent to Borland Software Corporation, 100 Enterprise Way, Scotts Valley, California 95066-3249, Attention: Investor Relations.

During the three months ended March 31, 2003, Borland filed the following Current Reports on Form 8-K with the Securities and Exchange Commission:

Form 8-K filed on January 8, 2003 announcing the completion of the acquisition of Starbase Corporation.

Form 8-K filed on January 9, 2003 reporting that, on January 7, 2003, the Commissioner of Corporations of the State of California issued a permit authorizing the acquisition of TogetherSoft Corporation by Borland.

Form 8-K filed on January 13, 2003 reporting that, on January 9, 2003, the board of directors of Borland approved the adoption of the 2003 Supplemental Stock Option Plan.

Form 8-K filed on January 16, 2003 reporting that, on January 14, 2003, Borland completed its acquisition of TogetherSoft Corporation.

Form 8-K/A filed on January 21, 2003 including the unaudited pro forma consolidated financial statements related to the combination of Borland and Starbase Corporation.

Form 8-K/A filed on February 10, 2003 including the unaudited pro forma consolidated financial statements related to the combination of Borland and TogetherSoft Corporation.

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

BORLAND SOFTWARE CORPORATION
(Registrant)

/s/ KENNETH R. HAHN

Kenneth R. Hahn
Senior Vice President and Chief Financial Officer
(Principal Financial Officer and Duly Authorized Officer)

/s/ DALE L. FULLER

Dale L. Fuller
Chief Executive Officer & President

/s/ KENNETH R. HAHN

Kenneth R. Hahn
Senior Vice President & Chief Financial Officer

Delaware		94-2895440
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)

		Page

PART I	FINANCIAL INFORMATION	1

Item 1.	Financial Statements (unaudited)	1

	Condensed Consolidated Balance Sheets at March 31, 2003 and December 31, 2002	1

	Condensed Consolidated Statements of Operations for the three months ended March 31, 2003 and 2002	2

	Condensed Consolidated Statements of Comprehensive Income for the three months ended March 31, 2003 and 2002	3

	Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2003 and 2002	4

	Notes to the Condensed Consolidated Financial Statements	5

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	16

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	41

Item 4.	Controls and Procedures	42

PART II	OTHER INFORMATION	43

Item 1.	Legal Proceedings	43

Item 6.	Exhibits and Reports on Form 8-K	43

Signatures		46

Certifications		47-48

	March 31, 2003			December 31, 2002
	(unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	202,575		$	239,771
Short-term investments		14,547			56,385
Accounts receivable, net of allowances of $17,652 and $17,538		56,744			47,238
Deferred tax—current		8,077			1,490
Other current assets		17,186			19,586

Total current assets		299,129			364,470
Property and equipment, net		9,850			7,966
Property held for sale		9,935			9,935
Goodwill and intangible assets		229,648			45,000
Deferred tax—non-current		8,693			239
Other non-current assets		5,376			5,516

Total assets	$	562,631		$	433,126


LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	16,182		$	12,490
Accrued expenses		50,614			45,804
Short-term restructuring		10,507			6,734
Income taxes payable		7,165			6,932
Deferred revenues		49,047			35,619
Other current liabilities		18,062			10,160

Total current liabilities		151,577			117,739
Long-term deferred tax liabilities		8,460			—
Long-term restructuring		4,422			1,794
Other long-term liabilities		7,888			7,844

		172,347			127,377

Commitments and contingencies (Notes 8 and 10)
Minority interest		—			5,018
Stockholders’ equity:
Common stock; $.01 par value; 200,000,000 shares authorized; 80,542,623 and 72,183,463 shares issued and outstanding		805			721
Additional paid-in capital		610,410			500,241
Accumulated deficit		(187,344	)		(169,652	)
Deferred compensation		(1,472	)		(663	)
Cumulative comprehensive income		6,761			6,078

		429,160			336,725
Less common stock in treasury at cost, 6,000,401 and 5,700,600 shares		(38,876	)		(35,994	)

		390,284			300,731

Total liabilities and stockholders’ equity	$	562,631		$	433,126

	Three Months Ended March 31,
	2003			2002
Licenses and other revenues	$	56,809		$	47,668
Service revenues		17,561			9,409

Net revenues		74,370			57,077

Cost of licenses and other revenues		3,099			3,520
Cost of service revenues		6,599			5,035

Cost of revenues		9,698			8,555

Gross profit		64,672			48,522

Research and development		17,971			11,949
Sales, general and administrative		46,247			31,033
Restructuring, amortization of intangibles, acquisition-related expenses and other charges		17,872			1,522

Total operating expenses		82,090			44,504

Operating income (loss)		(17,418	)		4,018
Interest income, net and other		1,234			1,730

Income (loss) before income taxes		(16,184	)		5,748
Income tax provision		1,508			1,151

Net income (loss)	$	(17,692	)	$	4,597

Net income (loss) per share:

Income (loss) per share—basic	$	(0.22	)	$	0.07

Income (loss) per share—diluted	$	(0.22	)	$	0.06

Shares used in computing basic income (loss) per share		78,910			70,188

Shares used in computing diluted income (loss) per share		78,910			76,040

	Three Months Ended March 31,
	2003			2002
Net income (loss)	$	(17,692	)	$	4,597
Other comprehensive income (loss):
Foreign currency translation adjustments		685			(387	)
Fair market value adjustment for available-for-sale securities		(2	)		(233	)

Comprehensive income (loss)	$	(17,009	)	$	3,977

Cash tendered, net	$	78,027
Value of Borland common stock issued		97,403
Value of Borland options issued		8,472
Direct transaction costs		4,922

Total purchase price	$	188,824

Current assets and other tangible assets	$	24,976
Deferred tax assets		15,239
Amortizable intangible assets:
Developed technology		20,300
Service / maintenance agreements		5,300
Trademarks, trade names and service marks		7,900
Non-compete covenants		3,670
Goodwill		150,879

Total assets acquired		228,264

Liabilities assumed		(22,676	)
Deferred tax liabilities assumed		(15,239	)
Deferred compensation		1,176
In-process research and development		4,600
Accrued restructuring charge		(7,301	)

Net assets acquired	$	188,824

	Severance and Benefits			Facilities			Other			Total
Accrual at December 31, 2002	$	—		$	—		$	—		$	—
2003 restructuring accrual		3,234			3,109			506			6,849
Cash payments and write-offs		(1,467	)		(9	)		(273	)		(1,749	)

Accrual at March 31, 2003	$	1,767		$	3,100		$	233		$	5,100

	March 31,
	2003			2002
Total net revenues	$	74,370		$	68,945
Net loss	$	(11,767	)	$	(562	)
Net loss per share	$	(0.15	)	$	(0.01	)

Cash tendered	$	24,024
Bridge financing		2,000
Value of options issued		79
Direct transaction costs		2,436

Total purchase price	$	28,539

Current assets and other tangible assets	$	7,566
Liabilities assumed		(17,068	)
Restructuring		(6,081	)
Acquired in-process research and development		300
Identifiable intangible assets		12,000
Goodwill		31,822

Net assets acquired	$	28,539

	Severance and Benefits			Facilities			Other			Total
Accrual at December 31, 2002	$	2,350		$	3,385		$	—		$	5,735
2003 restructuring accrual		274			14			58			346
Cash payments		(2,536	)		(78	)		(39	)		(2,653	)

Accrual at March 31, 2003	$	88			$3,321			$19		$	3,428

		Total
Balance as of December 31, 2002		$ 32,880
Acquisitions		152,801

Balance as of March 31, 2003		$185,681

	March 31, 2003
	Gross carrying amount		Accumulated amortization		Net
Acquired technology	$	30,495	$	3,957	$	26,538
Maintenance agreements		8,700		2,273		6,427
Trademarks, trade names and service marks		8,300		588		7,712
Other		4,953		1,663		3,290

	$	52,448	$	8,481	$	43,967

	December 31, 2002
	Gross carrying amount		Accumulated amortization		Net
Acquired technology	$	10,195	$	1,630	$	8,565
Maintenance agreements		3,400		283		3,117
Trademarks, trade names and service marks		400		11		389
Other		1,283		1,234		49

	$	15,278	$	3,158	$	12,120

	March 31, 2003					March 31, 2002
Licenses and other revenues	$	56,809		76	%	$	47,668	84	%
Service revenues		17,561		24	%		9,409	16	%

Net revenues		74,370		100	%		57,077	100	%

Cost of licenses and other revenues		3,099		4	%		3,520	6	%
Cost of service revenues		6,599		9	%		5,035	9	%

Cost of revenues		9,698		13	%		8,555	15	%

Gross profit		64,672		87	%		48,522	85	%

Research and development		17,971		24	%		11,949	21	%
Selling, general and administrative		46,247		62	%		31,033	54	%
Restructuring, amortization of intangibles, acquisition-related expenses and other charges		17,872		24	%		1,522	3	%

Total operating expenses		82,090		110	%		44,504	78	%

Operating income (loss)		(17,418	)	(23	%)		4,018	7	%
Interest income, net and other		1,234		2	%		1,730	3	%

Income (loss) before income taxes		(16,184	)	(22	%)		5,748	10	%

Income tax provision		1,508		2	%		1,151	2	%

Net income (loss)	$	(17,692	)	(24	%)	$	4,597	8	%

	March 31, 2003		March 31, 2002		% Change
Licenses and other revenues	$	56,809	$	47,668	19%
Service revenues		17,561		9,409	87%

Net revenues	$	74,370	$	57,077	30%

Product		Competitive Products

CaliberRM		IBM’s Rational Requisite Pro and Telelogic’s DOORS

Together ControlCenter		IBM’s Rational Rose and Rational XDE, and Embarcadero’s Describe

JBuilder		IBM’s WebSphere Studio Application Developer, Oracle’s JDeveloper and JetBrains’ IntelliJ

Delphi/C++		Microsoft’s Visual Studio and Visual Basic

Optimizeit		IBM’s Rational Purify Plus and Quest’s JProbe

StarTeam		Telelogic’s CM Synergy, Merant’s PVCS, IBM’s Rational ClearCase and ClearQuest and MKS’ Source Integrity

Enterprise Server, VisiBroker Edition		Iona’s Orbix

Enterprise Server, AppServer Edition		BEA Systems’ WebLogic, IBM’s WebSphere, Oracle 9i and Sun Microsystems Sun One

	Notional Amount		Average Contract Rate	March 31, 2003 Net Fair Value
Foreign currency forward exchange contracts:
Australian Dollar	$	3,102	1.6764	$	(31	)
Singapore Dollar		5,649	0.5649		(20	)
Korean Won		1,452	0.0008		10
Japanese Yen		146	0.0083		(3	)
Hong Kong Dollar		3,320	0.1282		—
Taiwan Dollar		618	0.0287		(1	)
Chinese Yuan Renminbi		794	0.1208		—
Indian Rupee		317	0.0209		—

Total	$	15,398		$	(45	)

	2003			2004	2005	20056	2007	Thereafter	Total
Cash equivalents
Fixed rate	$	202,575		—	—	—	—	—	$	202,575
Average interest rate		0.90	%	—	—	—	—	—		0.90	%
Short-term investments
Fixed rate	$	14,547		—	—	—	—	—	$	14,547
Average interest rate		1.28	%	—	—	—	—	—		1.28	%

Exhibit No.		Description of Exhibit

2.1		Agreement and Plan of Merger and Reorganization by and among Borland Software Corporation, Targa Acquisition Corp. I, Targa Acquisition Corp. II, TogetherSoft Corporation, Peter Coad, as Primary Stockholders’ Agent, and Kurt Jaggers, as Secondary Stockholders’ Agent, dated as of October 29, 2002 (previously filed with the Commission on November 1, 2002 as an exhibit to Borland’s Current Report on Form 8-K and incorporated herein by reference).

2.2		Agreement and Plan of Merger among Borland Software Corporation, Galaxy Acquisition Corp. and Starbase Corporation, dated as of October 8, 2002 (previously filed with the Commission on October 10, 2002 as an exhibit to Borland’s Current Report on Form 8-K and incorporated herein by reference).

3.1		Restated Certificate of Incorporation of Borland Software Corporation (previously filed with the Commission on March 29, 2002 as an exhibit to Borland’s Annual Report on Form 10-K for the year ended December 31, 2001 and incorporated herein by reference).

3.2		Amended and Restated Bylaws.*

4.1		Stockholder Rights Agreement, dated as of October 26, 2001, between Borland Software Corporation and Mellon Investor Services, L.L.C. (previously filed with the Commission on October 31, 2001 as an exhibit to Borland’s Registration Statement on Form 8A and incorporated herein by reference).

4.2		Specimen Stock Certificate of Borland Software Corporation (previously filed with the Commission on May 13, 2002 as an exhibit to Borland’s Quarterly Report on Form 10-Q for the quarter ended March 30, 2002 and incorporated herein by reference).

4.3		Preferred Stock Purchase Agreement between Borland Software Corporation and Microsoft Corporation, dated as of June 7, 1999 (previously filed with the Commission on July 6, 1999 as an exhibit to Borland’s Current Report on Form 8-K and incorporated herein by reference).

4.4		Investor Rights Agreement between Borland Software Corporation and Microsoft Corporation, dated as of June 7, 1999 (previously filed with the Commission on July 6, 1999 as an exhibit to Borland’s Current Report on Form 8-K and incorporated herein by reference).

4.5		Stockholder Lock-up Agreement between Borland Software Corporation and Object International, Inc., dated as of January 14, 2003 (previously filed with the Commission on March 28, 2003 as an exhibit to Borland’s Annual Report on Form 10-K for the year ended December 31, 2002 and incorporated herein by reference).

4.6		Stockholder Lock-up Agreement between Borland Software Corporation and Dietrich Charisius, dated as of January 14, 2003 (previously filed with the Commission on March 28, 2003 as an exhibit to Borland’s Annual Report on Form 10-K for the year ended December 31, 2002 and incorporated herein by reference).

99.1		Certification of Dale L. Fuller, Chief Executive Officer of Borland Software Corporation pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*

99.2		Certification of Kenneth R. Hahn, Chief Financial Officer of Borland Software Corporation, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*