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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(MARK ONE)

For The Quarterly Period Ended March 31, 2005

For The Transition Period From                      To                     

Commission File No. 000-28715

NEOFORMA, INC.

(Exact name of the Registrant as Specified in its Charter)

(408) 468-4000

(The Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $0.001 Par Value Per Share

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 the Registrant’s common stock outstanding on May 5, 2005 was 20,582,627.

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PART I. FINANCIAL INFORMATION

Item 1. Unaudited Condensed Consolidated Financial Statements

NEOFORMA, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except per share amounts)

(unaudited)

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

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NEOFORMA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share amounts)

(unaudited)

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

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NEOFORMA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

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

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NEOFORMA, INC.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. DESCRIPTION OF BUSINESS:

Neoforma, Inc. (the Company) provides supply chain management solutions for the healthcare industry. The Company utilizes a combination of technology, information and services to help the participants in the healthcare supply chain, principally hospitals, group purchasing organizations (GPOs) and suppliers, to reduce operational inefficiencies, lower costs and improve their financial health.

The Company serves more than 1,600 customers, including many of the nation’s leading hospitals and suppliers. The Company has a contractual relationship with Novation, LLC, VHA Inc., University HealthSystem Consortium (UHC) and Healthcare Purchasing Partners International, LLC (HPPI), under which these organizations have agreed to use the Company as their exclusive e-commerce provider for supply chain management. Novation is the supply chain management company for VHA, an alliance of not-for profit hospitals, health systems and their affiliates, and UHC, an alliance of academic medical centers and associate members. The Company currently generates a significant majority of its business through its relationships with Novation, VHA and UHC. As of March 31, 2005, VHA and UHC beneficially owned 41.8% and 10.4%, respectively, of the Company’s outstanding common stock.

In late 2004, the Company’s board of directors decided it believed that it would be in the best interests of the Company’s stockholders to pursue an evaluation of strategic alternatives, including a possible sale or merger of the Company, to achieve greater stockholder value. In connection with this decision, the board of directors appointed a special committee of independent directors to supervise the evaluation of strategic alternatives. In early January 2005, the Company announced that it had retained Merrill Lynch & Co. as its financial advisor to assist the Company and the special committee in this evaluation.

In late January 2005, the Company announced that, in connection with its decision to evaluate strategic alternatives, Novation and the Company each had engaged independent consultants to assess the technology, information, services and pricing provided by the Company to Novation, VHA, UHC and their member hospitals under the Fourth Amended and Restated Outsourcing and Operating Agreement (Fourth Amended Agreement) to which the Company, Novation, VHA and UHC are parties. At that time, Novation advised the Company that its assessment could result in a formal request to reduce the quarterly maximum payment under the Fourth Amended Agreement.

In April 2005, VHA and UHC indicated, in amendments to their respective Statements on Schedule 13D filed with the Securities and Exchange Commission (SEC), their intent to support the Company’s evaluation of strategic alternatives, including a possible sale or merger of the Company, and sell their ownership interests in the Company in a transaction on terms, and with a third party, acceptable to them. They indicated that such support would be conditioned upon Novation renegotiating the Fourth Amended Agreement in the context of a sale or merger transaction.

VHA and UHC also indicated that, based upon the advice of their consultant, they believe a market competitive price of the services provided by the Company under the Fourth Amended Agreement should be significantly less than the current fee paid by Novation to the Company. The Company, however, believes its current fee from Novation is reasonable and market competitive. No party has currently invoked the benchmarking provision under Section 8.5 of the Fourth Amended Agreement or requested an amendment of the Fourth Amended Agreement fee.

There can be no assurances that any particular strategic alternative will be pursued or that any transaction will occur, or if any transaction does occur, on what terms such transaction might be consummated. In addition, there can be no assurances that a buyer acceptable to VHA and UHC will be willing to enter into a transaction on terms acceptable to the Company and VHA and UHC.

Since inception, the Company has incurred significant losses and, as of March 31, 2005, it had an accumulated deficit of $770.9 million. The Company’s future long-term capital needs will depend significantly on the rate of growth of its business, the timing of its expanded service offerings, the success of these service offerings once they are launched and the Company’s ability to adjust its operating expenses to an appropriate level based on its revenue. Any projections of future long-term cash needs and cash flows are subject to substantial uncertainty. The Company’s available funds, consisting of cash, cash equivalents and short-term investments, combined with those funds it expects to generate in the next 12 months, will be sufficient to meet the Company’s anticipated needs for working capital and capital expenditures through at least the next 12 months. However, if available funds and cash generated from operations are insufficient to satisfy its long-term liquidity requirements, the Company may seek to sell additional equity or debt securities, obtain additional lines of credit, curtail expansion of its services, including reductions in its staffing levels and related expenses, or potentially liquidate selected assets. The Company cannot be certain that additional financing will be available on favorable terms if and when required, or at all.

2. RECLASSIFICATIONS

The Company has reclassified certain auction rate securities, for which interest rates reset in less than 90 days, but for which the underlying maturity date is longer than 90 days, from cash and cash equivalents to short-term, available for sale investments. This

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resulted in the reclassification from cash and cash equivalents to short-term investments of $2.7 million as of March 31, 2004. Also, cash used in investing activities in the accompanying Condensed Consolidated Statements of Cash Flows was decreased by $848,000 for the three months ended March 31, 2004 to conform to the 2005 presentation.

3. REVENUE

Application of the Emerging Issues Task Force (EITF) Abstract No. 01-9, “Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the Vendor’s Products)”

In November 2001, EITF reached a consensus on EITF No. 01-9. EITF No. 01-9 addresses whether consideration from a vendor to a reseller is (i) an adjustment of the selling prices of the vendor’s products and, therefore, should be classified as an offset against revenue when recognized in the vendor’s statement of operations or (ii) a cost incurred by the vendor for assets or services received from the reseller and, therefore, should be classified as a cost or expense when recognized in the vendor’s statement of operations.

In July 2000, the Company issued equity consideration to VHA and UHC in connection with the Outsourcing Agreement originally entered into on May 24, 2000, and as amended from time to time (see Note 10). The Company capitalized this consideration when measurement dates occurred. The final measurement date occurred during the quarter ended March 31, 2004. The portion of the consideration that was capitalized at the time of issuance is being amortized over the five-year estimated life of the arrangement. The remaining consideration, which was capitalized as earned, is being amortized over the initial term of the agreements that resulted in the consideration being earned, typically two to three years. As a result of the application of EITF No. 01-9, the Company has classified amortization associated with this equity consideration as an offset against gross related party revenue from those parties. This treatment results in non-cash amortization of partnership costs being offset against gross related party revenue up to the lesser of gross related party revenue or amortization of partnership costs in any period. Any amortization of partnership costs in excess of gross related party revenue in any period is classified as an operating expense.

The following table summarizes the impact that the application of EITF No. 01-9 had on the Company’s condensed consolidated statements of operations (in thousands):

The amortization of partnership costs reported as an operating expense is reflected as an adjustment to reconcile net loss to cash from operating activities in the condensed consolidated statements of cash flows. Under EITF No. 01-9, the Company accounts for the fees paid by Novation under the terms of the Outsourcing Agreement, as amended, as if they were payments made for the equity consideration provided to VHA and UHC, as opposed to payments for services. As a result, the amortization of partnership costs that is offset against gross related party revenue is reported as a cash flow from financing activities in the Company’s condensed consolidated statements of cash flows.

Revenue by Customer Category

The Company’s principal sources of revenue, by customer category, are (i) healthcare providers and GPOs, (ii) suppliers and (iii) other. Healthcare provider and GPO revenue primarily consists of revenue from hospitals and from GPOs, including from Novation under the Outsourcing Agreement, as amended. Supplier revenue includes revenue from both manufacturers and distributors. Other revenue consists of all revenue from entities other than healthcare providers, GPOs and suppliers, including the software license revenue that was generated by the Company’s August 2001 agreement with Global Healthcare Exchange, LLC (GHX), which was fully recognized as of the third quarter of 2004, as well as revenue generated under various agreements whereby the Company is entitled to a share of revenue generated by those entities. Revenue by customer category was as follows (in thousands, except percentage amounts):

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Percentage of Total Revenue

Major Customers

No customer accounted for 10% or more of total non-related party revenue for either the three months ended March 31, 2004 or 2005.

4. BASIC AND DILUTED NET LOSS PER SHARE

Basic net loss per share is computed using the weighted-average number of shares of common stock outstanding. Diluted net loss per share is the same as basic net loss per share for all periods presented because the effect of any potentially dilutive securities is excluded, as the securities are anti-dilutive due to the Company’s net losses in each of these periods. The total number of weighted average common stock equivalents, such as options, warrants and unvested restricted stock, that was excluded from the diluted loss per share calculation was 777,000 and 824,000 shares for the three months ended March 31, 2004 and 2005, respectively.

The following table presents the calculation of basic and diluted net loss per share (in thousands, except per share amounts):

5. STOCK-BASED COMPENSATION

At March 31, 2005, the Company had three stock-based employee compensation plans. The Company accounts for these plans under the recognition and measurement principles of Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations. The Company calculated the fair value of each option grant and stock purchase right on the dates of grant using the Black-Scholes option-pricing model as prescribed by Statement of Financial Accounting Standards (SFAS) No. 123, “Accounting for Stock-Based Compensation,” using the following assumptions:

The following table illustrates the effect on net loss and loss per share if the Company had applied the fair value recognition provisions of SFAS No. 123 to stock-based employee compensation (in thousands, except per share data):

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Restricted Stock

In connection with the award of restricted stock to employees and officers, the Company records deferred compensation representing the fair value of the underlying common stock at the dates of grant. The restrictions on the stock typically lapse over a two-year period from the date of grant, with the restrictions on one half of the shares lapsing one year from the date of grant and the restrictions on the remaining one-half of the shares lapsing two years from the date of grant, provided that the grant recipients are employed continuously with the Company through the vesting dates. The deferred compensation amounts are presented as a reduction of stockholders’ equity and are being amortized over the periods from the date of grant through the vesting date on an accelerated basis. Amortization of deferred compensation is reversed for any amounts recognized on shares of restricted stock that do not vest due to employee terminations or employee attrition.

During the three months ended March 31, 2004 and 2005, the Company recorded deferred compensation of $6.6 million and $2.3 million, respectively, representing the fair value of the underlying common stock at the dates of grant. The restrictions on the stock underlying these grants lapse on various dates through March 2007. During the three months ended March 31, 2004 and 2005, the Company recorded $48,000 and $166,000, respectively, in reductions of the deferred compensation as a result of employee terminations or attrition and the resulting forfeiture of restricted stock and $490,000 and $1.4 million, respectively, in gross amortization of deferred compensation related to these shares.

6. PROPERTY AND EQUIPMENT AND CAPITALIZED SOFTWARE DEVELOPMENT COSTS

Property and equipment are stated at cost and are depreciated on a straight-line basis over the estimated useful lives of the assets, ranging from two to four years. Leasehold improvements are amortized, using the straight-line method, over the shorter of the lease terms or the useful lives of the improvements. Purchased software is capitalized at cost when purchased and amortized over the license period commencing once the software is placed in service. Direct costs to place purchased software into service are capitalized as part of the asset. In accordance with Statement of Position (SOP) No. 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use,” costs incurred to develop software for use in operations are capitalized. Such costs, incurred during the application development stage, include external direct costs of materials and services and internal direct payroll and payroll-related costs. During 2004 and the three months ended March 31, 2005, capitalized software development costs related to new functionality for the Company’s solutions offered to its customers. Repairs and maintenance costs are expensed as incurred. When property and equipment is retired or otherwise disposed of, the cost and accumulated depreciation are relieved from the accounts and the net gain or loss is included in the determination of income.

As of December 31, 2004 and March 31, 2005, property and equipment consisted of the following (in thousands):

7. STOCKHOLDER NOTES RECEIVABLE

As of March 31, 2005, the Company had $213,000 of outstanding remaining notes receivable from current and former employees of the Company, including accrued interest. The Company intends to pursue collection on stockholder notes receivable that have become due.

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8. RESTRUCTURING

The Company’s executive, administrative and operating offices are located in 116,000 square feet of office space located in San Jose, California under a sublease scheduled to expire in March 2007. The Company currently occupies 84,300 square feet of this facility. In February 2002, the Company entered into a sublease with a corporation, under which they subleased 20,000 square feet of this facility for the first year, increasing to 31,700 square feet for the remaining term of the sublease, which ran through February 2005. This corporation did not elect to extend its sublease beyond February 2005. During the three months ended March 31, 2005, the Company entered into a letter of intent with another corporation under to which that corporation intended to sublease approximately 25,000 square feet of the Company’s facility through February 2007. The Company also has decided that it will not occupy the remaining available space at any time through the expiration of its lease in March 2007. As a result, the Company recorded a restructuring charge during the three months ended March 31, 2005 of $767,000 related to anticipated costs for idle facilities, net of expected sublease income. Anticipated costs included the net present value of future minimum lease commitments related to the idle facilities.

9. RECENT ACCOUNTING PRONOUNCEMENTS

In December 2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123R, “Share-Based Payment,” which revises SFAS No. 123, “Accounting for Stock-Based Compensation” and supersedes APB Opinion No. 25, “Accounting for Stock Issued to Employees” and its related implementation guidance. This statement focuses primarily on accounting for transactions in which an entity obtains employee services in share-based payment transactions, including the issuance of stock options and other stock-based compensation to employees. Companies are required to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award. That cost will be recognized over the period during which an employee is required to provide service in exchange for the award, which is usually the vesting period. The grant-date fair value of employee share options and similar instruments will be estimated using option-pricing models adjusted for the unique characteristics of those instruments. As a result of the SEC’s April 2005 deferral of the effective date of this rule for public companies, the statement will be effective for the Company beginning January 1, 2006 and applies to all awards granted after the effective date and to awards modified, repurchased or canceled after that date. As of the effective date, application of this statement will be through a modified version of prospective application, and compensation cost will be recognized for the portion of outstanding awards for which the requisite service has not yet been rendered. For periods before the effective date, the Company can elect to apply a modified version of retrospective application under which financial statements for prior periods are adjusted on a basis consistent with the pro forma disclosures required for those periods by SFAS No. 123. The Company is currently evaluating the impact this statement will have on its financial position and results of operations.

In December 2004, the FASB issued SFAS No. 153, “Exchange of Nonmonetary Assets, an Amendment of APB Opinion No. 29.” SFAS No. 153 amends APB Opinion No. 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and to replace it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. The provisions of this statement will be effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The Company does not believe the adoption of SFAS No. 153 will have a material effect on its financial position, results of operations or cash flows.

In September 2004, the EITF reached a consensus on EITF No. 04-8, “The Effect of Contingently Convertible Debt on Diluted Earnings per Share.” EITF No. 04-8 concluded that all issued securities that have embedded conversion features that are contingently exercisable upon occurrence of a market-price condition should be included in the calculation of diluted earnings per share, regardless of whether the market price trigger has been met. This consensus also applies to instruments with embedded conversion features that are contingently exercisable upon the occurrence of a market price condition or upon the occurrence of another contingency. The FASB is presently in the process of amending certain aspects of SFAS No. 128, “Earnings per Share,” and it is expected to require that share settlement be assumed in the diluted earnings per share calculation for contracts that can be settled in stock or cash. The consensus in EITF No. 04-8 will become effective in the period when the proposed amendment to SFAS No. 128 becomes effective. The Company does not believe that EITF No. 04-8 will have a material effect on its diluted per share calculation. The Company will evaluate the impact of the amendments to SFAS No. 128 once issued.

In March 2004, the FASB issued EITF No. 03-1, “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.” EITF No. 03-1 includes new guidance for evaluating and recording impairment losses on debt and equity investments, as well as new disclosure requirements for investments that are deemed to be temporarily impaired. In September 2004, the FASB delayed the accounting provisions of EITF No. 03-1; however, the disclosure requirements are effective for the Company’s fiscal year ended December 31, 2004. The Company will evaluate the impact of EITF No. 03-1 once final guidance is issued.

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10. RELATED PARTY TRANSACTIONS

In May 2000, the Company entered into a 10-year strategic Outsourcing Agreement with VHA, UHC, Novation and HPPI. Under the Outsourcing Agreement, the Company agreed to build and provide specific functionality to Marketplace@Novation^®, Novation’s e-commerce marketplace. Novation agreed to act as the Company’s exclusive agent to negotiate agreements with suppliers to offer their equipment, products, supplies and services through marketplaces sponsored by Novation or HPPI, including Marketplace@Novation. VHA, UHC, HPPI and Novation each agreed not to develop or promote any other Internet-based exchange for the acquisition or disposal of products, supplies, equipment or services by healthcare provider organizations.

In July 2000, in connection with the Outsourcing Agreement, the Company issued 4.6 million and 1.1 million shares of its common stock to VHA and UHC, respectively. The Company also issued warrants to VHA and UHC, allowing VHA and UHC the opportunity to earn up to 3.1 million and 752,000 additional shares of the Company’s common stock, respectively, over a four-year period by meeting specified performance targets. These performance targets were based upon the historical purchasing volume of VHA and UHC member healthcare organizations that signed up to use Marketplace@Novation. In October 2000, the Company exchanged VHA’s warrant to purchase 3.1 million shares of the Company’s common stock for 3.1 million restricted shares of the Company’s common stock and, in January 2001, the Company exchanged the unexercised portion of UHC’s performance warrant to purchase 564,000 shares of the Company’s common stock for 564,000 restricted shares of the Company’s common stock. VHA and UHC have since earned all of the restricted shares. If the performance targets had not been met, VHA’s and UHC’s restricted shares would have been subject to forfeiture.

The Company has amended and restated the Outsourcing Agreement from time to time. Under the Fourth Amended Agreement, effective August 2003:

Based on the levels of marketplace volume the Company is currently achieving, the Company expects that the fees it earns from Novation will continue to be limited by the quarterly maximums, above which additional volume will not result in increased fees.

In March 2004, the Company entered into a three-year agreement with UHC designating the Company as the preferred provider of supply chain data cleansing and maintenance services to the UHC hospital membership base. In connection with this agreement, the Company offers Neoforma Data Management Solution^™ (DMS) to UHC hospital members, and has developed joint sales and marketing plans with UHC to support this relationship. In June 2004, the Company entered into a similar, three-year agreement with VHA, designating the Company as a provider of supply chain data cleansing and maintenance services to the VHA hospital membership base. In connection with this agreement, the Company offers Neoforma DMS to VHA member hospitals and collaborates with VHA to educate their member hospitals about the benefits of Neoforma DMS.

In late January 2005, the Company announced that, in connection with its decision to evaluate strategic alternatives, Novation and the Company each had engaged independent consultants to assess the technology, information, services and pricing provided by the Company to Novation, VHA, UHC and their member hospitals under the Fourth Amended Agreement.

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At that time, Novation advised the Company that its assessment could result in a formal request to reduce the quarterly maximum payment under the Fourth Amended Agreement.

In April 2005, VHA and UHC indicated, in amendments to their respective Statements on Schedule 13D filed with the SEC, their intent to support the Company’s evaluation of strategic alternatives, including a possible sale or merger of the Company, and sell their ownership interests in the Company in a transaction on terms, and with a third party, acceptable to them. They indicated that such support would be conditioned upon Novation renegotiating the Fourth Amended Agreement in the context of a sale or merger transaction.

VHA and UHC also indicated that, based upon the advice of their consultant, they believe a market competitive price of the services provided by the Company under the Fourth Amended Agreement should be significantly less than the current fee paid by Novation to the Company. The Company, however, believes its current fee from Novation is reasonable and market competitive. No party has currently invoked the benchmarking provision under Section 8.5 of the Fourth Amended Agreement or requested an amendment of the Fourth Amended Agreement fee.

There can be no assurances that any particular strategic alternative will be pursued or that any transaction will occur, or if any transaction does occur, on what terms such transaction might be consummated. In addition, there can be no assurances that a buyer acceptable to VHA and UHC will be willing to enter into a transaction on terms acceptable to the Company and VHA and UHC.

11. CONTINGENCIES

Litigation

In July 2001, the Company, along with Merrill Lynch, Pierce, Fenner & Smith, Bear Stearns and FleetBoston Robertson Stephens (certain of the underwriters of the Company’s initial public offering (IPO)), as well as the Company’s chairman and chief executive officer, Robert Zollars, and its former chief financial officer, Frederick Ruegsegger, were named as defendants in two securities class action lawsuits filed in federal court in the Southern District of New York (No. 01 CV 6689 and No. 01 CV 6712) on behalf of those who purchased shares of the Company’s common stock from January 24, 2000 to December 6, 2000. These actions have since been consolidated, and a consolidated amended complaint was filed in the Southern District of New York on April 24, 2002. The amended complaint alleges that the underwriters solicited and received “undisclosed compensation” from investors in exchange for allocations of stock in the Company’s IPO, and that some investors in the IPO allegedly agreed with the underwriters to buy additional shares in the aftermarket to artificially inflate the price of the Company’s stock. The Company and Messrs. Zollars and Ruegsegger are named in the suits pursuant to Section 11 of the Securities Act of 1933 and Section 10(b) of the Securities Exchange Act of 1934, and Rule 10b-5 promulgated thereunder, for allegedly failing to disclose in the Company’s IPO registration statement and prospectus that the underwriters had entered into the arrangements described above. The complaints seek unspecified damages. Approximately 300 other issuers and their underwriters have had similar suits filed against them, all of which are included in a single coordinated proceeding in the Southern District of New York. On July 1, 2002, the underwriter defendants moved to dismiss all of the IPO allocation litigation complaints against them, including the action involving the Company. On July 15, 2002, the Company, along with the other non-underwriter defendants in the coordinated cases, also moved to dismiss the litigation. Those motions were fully briefed on September 13 and September 27, 2002, respectively, and in February 2003, the Court denied the Company’s motion to dismiss. On October 9, 2002, all of the individual defendants, including Messrs. Zollars and Ruegsegger, were dismissed from the action without prejudice. On June 30, 2003, the Company’s board of directors approved a proposed settlement for this matter, which is part of a larger global settlement between the issuers and plaintiffs. The acceptance of the settlement by the plaintiffs is contingent on a number of factors, including the percentage of issuers who approve the proposed settlement. The Company has agreed to undertake other responsibilities under the proposed settlement, including agreeing to assign away, not assert or release certain potential claims the Company may have against its underwriters. Any direct financial impact of the proposed settlement is expected to be borne by the Company’s insurers. On February 15, 2005, the Court issued an order preliminarily approving the proposed settlement and scheduling a “fairness” hearing to determine whether to finally approve the settlement. The Company is unable to determine whether or when the settlement will be approved or finalized. Due to the inherent uncertainties of litigation, the Company cannot accurately predict the ultimate outcome of the lawsuits.

Financial Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others”

In the normal course of business to facilitate sales of its products, the Company indemnifies other parties, including customers and parties to other transactions with the Company, with respect to certain matters. The Company has agreed to hold the other parties harmless against losses arising from a breach of representations or covenants, or out of intellectual property infringement or other claims made against them. These agreements may limit the time within which an indemnification claim can be made and the amount of the claim. The Company has entered into indemnification agreements with its officers and directors, and the Company’s bylaws contain similar indemnification obligations to the Company’s agents.

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It is not possible to determine the Company’s maximum potential liability under these indemnification agreements due to the limited history of prior indemnification claims and the unique facts and circumstances involved in each particular agreement. Historically, the Company has not made any payments under these agreements.

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

Forward-Looking Statements

This report contains statements that involve expectations, plans or intentions (such as those relating to future business or financial results, new features or services, or management strategies). These statements are forward-looking and are subject to risks and uncertainties, so actual results may vary materially. You can identify these forward-looking statements by words such as “may,” “will,” “should,” “expect,” “anticipate,” “believe,” “estimate,” “intend,” “plan” and other similar expressions. You should consider our forward-looking statements in light of the risks discussed under the heading “Factors That May Affect Future Operating Results” below, as well as our condensed consolidated financial statements, related notes and the other financial information appearing elsewhere in this report and our other filings with the Securities and Exchange Commission, or SEC. We assume no obligation to update any forward-looking statements.

Company Background

We are a leading provider of supply chain management solutions for the healthcare industry. Through a combination of technology, information and services, our supply chain management solutions are designed to enable efficient collaboration among hospitals and their suppliers, helping them to reduce operational inefficiencies, lower costs and improve their financial health. The healthcare supply chain has a number of characteristics, including its large size, high degree of fragmentation, reliance on disparate technologies and data sources, dependence on manual processes and highly complex pricing structures, which have led to major inefficiencies. These inefficiencies lead to slower, error-prone transactions and increased overhead and costs for hospitals and suppliers. In addition, the participants in the healthcare industry are under significant competitive and cost pressures and are seeking ways to increase efficiencies in their supply chain to improve their overall margins. Our comprehensive solutions make it easier for the participants in the healthcare supply chain, principally hospitals, group purchasing organizations, or GPOs, and suppliers, to improve communication, receive comprehensive and accurate information, improve day-to-day operations, accelerate order and contract implementations, enhance strategic planning and gain organization-wide visibility into supply chain activities. Using our solutions, these organizations can improve efficiencies, reduce costs, increase revenue and improve capital allocation.

We offer our customers solutions to address several main areas in the healthcare supply chain, including order management, contract management, data management, market intelligence and materials management.

We offer our hospital customers solutions to address:

We offer our GPO customers solutions to address:

We offer our supplier customers solutions to address:

Our core strategy is to help hospitals operate more effectively and improve their financial health. Our principal focus, therefore, is on helping our hospital and GPO customers address the inefficiencies in the healthcare supply chain by providing a valuable combination of technology, information and services. We believe that our ability to achieve success with our hospital and GPO customers will help drive our success with our supplier customers. We utilize our existing relationships with hospitals and strategic partners, and seek new relationships with key participants in the healthcare supply chain, to provide additional opportunities to sell our solutions and to develop and sell new products and services into that customer base. Our solutions are focused on the healthcare supply chain, and we will continue to work to address broader and deeper areas of this supply chain to help hospitals improve their financial health.

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Strategic Relationships

In May 2000, we entered into an exclusive 10-year outsourcing and operating agreement, or the Outsourcing Agreement, with Novation, LLC, VHA Inc., University HealthSystem Consortium, or UHC, and Healthcare Purchasing Partners International, LLC, or HPPI. Under the Outsourcing Agreement, we agreed to build and provide specific functionality to Marketplace@Novation^®, Novation’s e-commerce marketplace. Novation agreed to act as our exclusive agent to negotiate agreements with suppliers to offer their equipment, products, supplies and services through marketplaces sponsored by Novation or HPPI, including Marketplace@Novation. VHA, UHC, HPPI and Novation each agreed not to develop or promote any other Internet-based exchange for the acquisition or disposal of products, supplies, equipment or services by healthcare provider organizations.

In July 2000, in connection with the Outsourcing Agreement, we issued to VHA and UHC shares of our common stock and performance based warrants, which warrants, to the extent not exercised, were subsequently exchanged for restricted stock. VHA and UHC earned all of the restricted stock over a four-year period by meeting specified performance targets based upon the historical purchasing volume of VHA and UHC member healthcare organizations that signed up to use Marketplace@Novation. If the performance targets had not been met, VHA’s and UHC’s restricted shares would have been subject to forfeiture. As of March 31, 2005, VHA and UHC beneficially owned 41.8% and 10.4%, respectively, of our outstanding common stock.

We have amended and restated the Outsourcing Agreement from time to time. Under the current agreement, the Fourth Amended and Restated Outsourcing and Operating Agreement, or Fourth Amended Agreement, effective August 2003:

Based on the levels of marketplace volume we are currently achieving, we expect that the fees we earn from Novation will continue to be limited by the quarterly maximums, above which additional volume will not result in increased fees.

In March 2004, we entered into a three-year agreement with UHC designating us as the preferred provider of supply chain data cleansing and maintenance services to the UHC hospital membership base. In connection with this agreement, we offer Neoforma DMS to UHC hospital members, and have developed joint sales and marketing plans with UHC to support this relationship. In June 2004, we entered into a similar, three-year agreement with VHA, designating us as a provider of supply chain data cleansing and maintenance services to the VHA hospital membership base. In connection with this agreement, we offer Neoforma DMS to VHA member hospitals and collaborate with VHA to educate their member hospitals about the benefits of Neoforma DMS.

In January 2005, we entered into a three-year agreement with Consorta, Inc. to provide supply chain data management and order management services to the Consorta membership base. Consorta named us as the preferred provider of these solutions to their members, and Neoforma DMS and Neoforma OMS are the only data and order management solutions that are currently endorsed by Consorta. We had previously entered into two data management agreements with Consorta in 2004 to cleanse, classify, enrich and maintain the Consorta Contract Catalog.

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Evaluation of Strategic Alternatives

In late 2004, our board of directors decided it believed that it would be in the best interests of our stockholders to pursue an evaluation of strategic alternatives, including a possible sale or merger, to achieve greater stockholder value. In connection with this decision, our board of directors appointed a special committee of independent directors to supervise the evaluation of strategic alternatives. In early January 2005, we announced that we had retained Merrill Lynch & Co. as our financial advisor to assist us and the special committee in this evaluation.

In late January 2005, we announced that, in connection with our decision to evaluate strategic alternatives, we and Novation each had engaged independent consultants to assess the technology, information, services and pricing provided by us to Novation, VHA, UHC and their member hospitals under the Fourth Amended Agreement. At that time, Novation advised us that its assessment could result in a formal request to reduce the quarterly maximum payment under the Fourth Amended Agreement.

In April 2005, VHA and UHC indicated, in amendments to their respective Statements on Schedule 13D filed with the SEC, their intent to support our evaluation of strategic alternatives, including a possible sale or merger of the company, and sell their ownership interests in the company in a transaction on terms, and with a third party, acceptable to them. They indicated that such support would be conditioned upon Novation renegotiating the Fourth Amended Agreement in the context of a sale or merger transaction.

VHA and UHC also indicated that, based upon the advice of their consultant, they believe a market competitive price of the services provided by us under the Fourth Amended Agreement should be significantly less than the current fee paid by Novation to us. We, however, believe the current fee from Novation is reasonable and market competitive. No party has currently invoked the benchmarking provision under Section 8.5 of the Fourth Amended Agreement or requested an amendment of the Fourth Amended Agreement fee.

We cannot assure you that any particular strategic alternative will be pursued or that any transaction will occur, or if any transaction does occur, on what terms such transaction might be consummated. In addition, we cannot assure you that a buyer acceptable to VHA and UHC will be willing to enter into a transaction on terms acceptable to VHA, UHC and us.

Other Matters

Since inception, we have incurred significant losses, and, as of March 31, 2005, we had an accumulated deficit of $770.9 million. We have a limited operating history on which to base an evaluation of our business and prospects. You must consider our prospects in light of the risks, expenses and difficulties frequently encountered by companies in the early stages of development, particularly companies in new and rapidly evolving markets such as the market for supply chain management solutions for the healthcare industry. To address these risks, we must, among other things, expand our customer base, diversify our sources of revenue, enter into new strategic alliances, increase the functionality of our solutions, implement and successfully execute our business and marketing strategy, respond to competitive developments and attract, retain and motivate qualified personnel. We may not be successful in addressing these risks, and our failure to do so could seriously harm our business.

Results of Operations

Overview

We generate the substantial majority of our fees in connection with our relationship with Novation, VHA, UHC and their member hospitals. However, as a result of the application of Emerging Issues Task Force Abstract, or EITF, No. 01-9, “Accounting for Consideration Given by a Vendor to a Customer (Including a Reseller of the Vendor’s Products),” our total revenue does not reflect the importance of, and the fees generated from, this relationship. In the three months ended March 31, 2004 and 2005, we offset 100% of the fees we generated from Novation and its hospitals and the resultant gross related party revenue (see Note 3 to the Notes to Condensed Consolidated Financial Statements for further discussion of the impact of the application of EITF No. 01-9). It is important to consider both our total revenue and gross related party revenue when evaluating our business.

Total revenue for the three months ended March 31, 2004 and 2005 was $2.9 million and $2.6 million, respectively, and, because of the impact of EITF No. 01-9 on our related party revenue, our total revenue in these periods consisted entirely of non-related party revenue. For the three months ended March 31, 2005 as compared to the three months ended March 31, 2004, the decline in non-related party revenue was primarily due to an anticipated $282,000 decrease in revenue related to a $3.5 million technology license sale to Global Healthcare Exchange, LLC, or GHX, in 2001. We had been recognizing this revenue ratably over the three-year term of the related operating agreement. Since the inception of our agreement with GHX, ratable recognition of this technology license revenue had accounted for $282,000 of revenue on a quarterly basis. In August 2004, this license revenue was fully recognized. As a result, we recognized $282,000 in revenue in the three months ended March 31, 2004, and no revenue in the three months ended March 31, 2005 related to this license sale. For the three months ended March 31, 2005 as compared to the same period in the prior year, we also experienced a decrease in revenue from Neoforma Pharmaceutical Market Intelligence for suppliers, which was partially offset by increases in revenue from HPIS Market Intelligence and Neoforma OMS for suppliers.

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Our quarterly non-related party revenue has fluctuated as a result of the size and timing of the completion of Neoforma DMS projects and the relative immaturity of certain of our offerings. We expect this trend to continue for certain of our non-related party revenue streams and, potentially, for total non-related party revenue as a whole.

In the second half of 2005, we expect that the fees we generate in connection with our related party relationship that generate our gross related party revenue will not be fully offset by amortization of partnership costs. This expectation is based on the fact that, under the current estimated useful life of capitalized partnership costs, the significant majority of the capitalized partnership costs resulting from the initial shares provided to VHA and UHC will be fully amortized in July 2005. As a result, amortization of partnership costs in the second half of 2005 is expected to be significantly lower than in prior periods. Based on the current quarterly maximum payment from Novation of $15.3 million, this reduced offset will result in significant growth in related party revenue and total revenue in 2005 as compared to prior periods. However, as discussed above, VHA and UHC believe a market competitive price of the services provided by us to Novation should be significantly less than the current fee paid by Novation to us.

Our operating expenses increased for the three months ended March 31, 2005 as compared to the three months ended March 31, 2004 as we continued to invest in our operations, including headcount, to increase our non-related party revenue and to enhance the functionality related to Marketplace@Novation. In addition, total operating expenses increased due to a $1.1 million decrease in software development costs capitalized, a $672,000 increase in depreciation and amortization of property and equipment, a $705,000 increase in amortization of deferred compensation and a $767,000 restructuring charge recorded during the three months ended March 31, 2005.

Our results will continue to be impacted by the amount of capitalized software developments costs in each quarter as well as the gross amortization of partnership costs and the amount of the offset of these partnership costs against related party revenue. Currently, we expect a decrease in amortization of partnership costs classified as an operating expense due to an expected decrease in gross amortization of partnership costs in 2005. Based on the current estimated useful life of capitalized partnership costs, the significant majority of the capitalized partnership costs resulting from the initial shares provided to VHA and UHC will be fully amortized in July 2005. In addition, we expect that our general and administrative expenses will be impacted by our evaluation of strategic alternatives.

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For the Three Months Ended March 31, 2004 as Compared to the Three Months Ended March 31, 2005

Revenue

Related Party Revenue. Gross related party revenue consists of fees paid by Novation under the fee level provisions of the Outsourcing Agreement, as amended, and hospital implementation fees earned by us when VHA and UHC member hospitals that have contracted with us are connected to Marketplace@Novation. As a result of the adoption of EITF No. 01-9, amortization of partnership costs resulting from the equity consideration issued to VHA and UHC is classified as an offset against gross related party revenue, as opposed to being classified as an operating expense, up to the lesser of such gross related party revenue or gross amortization of partnership costs in any given period. This offset of gross amortization of partnership costs against gross related party revenue results in net related party revenue, if any. In the three months ended March 31, 2004 and 2005, gross related party revenue was $15.5 million and $15.4 million, respectively, and was less than the gross amortization of partnership costs in each period. As a result, there was no net related party revenue in either of these periods. See Note 3 to the Notes to Condensed Consolidated Financial Statements for further discussion of the impact of the application of EITF No. 01-9. During the remaining term of the Fourth Amended Agreement, the quarterly maximums on the fees we may earn from Novation currently total $15.3 million per quarter and $61.0 million per year. As we expect gross amortization of partnership costs to be less than gross related party revenue for full year 2005, we expect net related party revenue to increase in 2005 as compared to 2004.

Non-Related Party Revenue. Non-related party revenue includes revenue earned from non-related party healthcare providers, GPOs and suppliers, including revenue from solutions sold to VHA and UHC member hospitals outside the scope of the Fourth Amended Agreement or previous versions of the agreement. The decrease in non-related party revenue in the three months ended March 31, 2005 as compared to the three months ended March 31, 2004 was due to decreases in revenue from customers other than healthcare providers, GPOs and suppliers and revenue generated from suppliers and was partially offset by an increase in revenue from providers and GPOs. Non-related party revenue by customer category was as follows:

The increase in non-related party revenue from providers and GPOs during the three months ended March 31, 2005 as compared to the three months ended March 31, 2004 was primarily due to an increase in revenue related to our data cleansing services.

The decrease in non-related party revenue from suppliers during the three months ended March 31, 2005 as compared to the three months ended March 31, 2004 was primarily due to a decrease in revenue related to Neoforma Pharmaceutical Market Intelligence and was partially offset by an increase in revenue from Neoforma OMS for suppliers related to their participation in Marketplace@Novation and an increase in revenue related to HPIS Market Intelligence.

The decrease in other non-related party revenue during the three months ended March 31, 2005 as compared to the three months ended March 31, 2004 was primarily due to the anticipated $282,000 decrease in revenue related to the $3.5 million technology sale to GHX that occurred in 2001.

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Operating Expenses

Cost of Services

Cost of services consists primarily of the costs to perform hospital and supplier implementation activities and Neoforma DMS services for hospitals and GPOs, as well as direct costs to obtain data for our solutions. These expenditures consist primarily of technology costs, software licenses, salaries and other personnel expenses for our services personnel and fees for independent contractors, consultants and companies to which we outsource services. The increase in cost of services from the three months ended March 31, 2004 to the three months ended March 31, 2005 was primarily due to an increase in payroll and related expenses of $487,000 due to an increase in headcount in the cost of services group from 35 as of March 31, 2004 to 58 as of March 31, 2005 and an increase of $418,000 in depreciation and other costs allocated to cost of services.

Operations

Operations expenses consist primarily of expenditures for the operation and maintenance of our technology infrastructure, including customer service. These expenditures consist primarily of technology costs, software licenses, salaries and other personnel expenses for our operations personnel and fees paid to independent contractors and consultants. The increase in operations expenses from the three months ended March 31, 2004 to the three months ended March 31, 2005 was primarily due to a $131,000 increase in software license fees and a $106,000 increase in depreciation expense allocated to operations. These increases were partially offset by a $170,000 decrease in deferred compensation and other costs allocated to operations.

Product Development

Product development expenses consist primarily of personnel expenses, fees to consultants and contractors and technology costs associated with the development, maintenance and enhancement of our solutions. Product development expenses increased for the three months ended March 31, 2005 as compared to the three months ended March 31, 2004 primarily due to a $729,000 increase in payroll and related expenses as a result of an increase in headcount in the product development group from 75 as of March 31, 2004 to 91 as of March 31, 2005. In addition, there was a $439,000 increase in expenses allocated to product development, including depreciation and amortization of deferred compensation, and a $350,000 increase in fees paid to independent contractors and consultants. The increases in payroll related expenses and fees paid to contractors and consultants were partially the result of reduced levels of capitalized software development costs during the three months ended March 31, 2005 as compared to the three months ended March 31, 2004.

During the three months ended March 31, 2004 and 2005, we capitalized internal costs incurred related to certain software development projects of $1.8 million and $714,000, respectively. Excluding the impact of the capitalized software development costs, payroll and related expense increased by $549,000 and fees paid to contractors and consultants decreased by $575,000 for the three months ended March 31, 2005 as compared to the three months ended March 31, 2004.

Selling and Marketing

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Selling and marketing expenses consist primarily of salaries and commissions for sales and marketing personnel, as well as advertising, promotions and other related marketing costs. The decrease in selling and marketing expenses for the three months ended March 31, 2005 as compared to the three months ended March 31, 2004 primarily related to a decrease of $234,000 in commissions, a decrease of $123,000 in certain costs allocated to selling and marketing and a $110,000 decrease in advertising and marketing costs. These decreases were partially offset by a $278,000 increase in depreciation expense and amortization of deferred compensation allocated to selling and marketing and a $112,000 increase in fees paid to independent contractors and consultants.

General and Administrative

General and administrative expenses consist of expenses for executive and administrative personnel, facilities, professional services and other general corporate activities. General and administrative expenses increased for the three months ended March 31, 2005 as compared to the three months ended March 31, 2004 due primarily to a $305,000 increase in payroll and related expenses, a $304,000 increase in costs allocated to general and administrative expenses, including depreciation costs and amortization of deferred compensation, and a $207,000 increase in fees paid to independent consultants and professional service firms for legal and audit fees.

Amortization of Partnership Costs

Amortization of partnership costs represents the amortization of the shares of our common stock issued to VHA and UHC. As of March 31, 2005, capitalized partnership costs represented the capitalized valuation of common stock and earned restricted common stock issued to VHA and UHC in connection with our entering into the Outsourcing Agreement, as amended, with those entities and with Novation. The value of the initial common stock issued is being amortized over a five-year estimated useful life. The restricted common stock was being valued, and the related valuation was being capitalized, as the shares were earned. As of March 31, 2004, all the shares of restricted stock had been earned by VHA and UHC. The capitalized partnership costs relating to the restricted common stock are being amortized over the term of the agreement with the healthcare organizations that resulted in the shares being earned, generally two to three years.

The amortization of partnership costs reported as an operating expense is reflected as an adjustment to reconcile net loss to cash from operating activities in our Condensed Consolidated Statements of Cash Flows. Under EITF No. 01-9, we account for the fees being paid by Novation under the terms of the Outsourcing Agreement and subsequent amendments as if they were payments made for the equity consideration we provided to VHA and UHC, as opposed to payments for services. As a result, the amortization of partnership costs that is offset against gross related party revenue is reported as a cash flow from financing activities in our Condensed Consolidated Statements of Cash Flows.

Although there were incremental partnership costs capitalized related to the earning of the restricted common stock by VHA and UHC from the date we entered into the Outsourcing Agreement through March 31, 2004, certain of the capitalized partnership costs relating to the restricted stock earned by VHA and UHC when the first hospitals signed up to participate in Marketplace@Novation in 2000 had been fully amortized in prior periods. Those partnership costs that had been fully amortized in prior periods were generally capitalized at higher levels than those that have been capitalized in more recent periods because (i) there was a relatively lower number of restricted shares earned by VHA and UHC during more recent periods and (ii) the capitalized value of each restricted share earned was higher in historical periods than in more recent periods given our generally higher stock price in historical periods as compared to more recent periods. As a result, the overall gross amortization of partnership costs associated with the restricted common stock decreased for the three months ended March 31, 2005 as compared to the three months ended March 31, 2004. We expect total gross amortization of partnership costs, excluding the impact of EITF No. 01-9, and amortization of partnership costs classified as an operating expense to decrease significantly in 2005 as compared to 2004. This decrease is expected because the significant majority of the capitalized partnership costs resulting from the initial shares provided to VHA and UHC will be fully amortized in July 2005. As a result, gross amortization of partnership costs, and the resulting offset against gross related party revenue, will be significantly lower in the second half of 2005 as compared to prior periods. See “Liquidity and Capital Resources” for a further discussion of the Outsourcing Agreement, as amended, and the related cash and accounting implications.

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Restructuring

During the three months ended March 31, 2005, we recorded a restructuring charge of $767,000 related to anticipated costs for idle facilities, net of expected sublease income. Anticipated costs included the net present value of future minimum lease commitments related to the idle facilities.

Amortization of Deferred Compensation

In connection with the award of restricted stock to employees and officers, we record deferred compensation representing the fair value of the underlying common stock at the dates of grant. The restrictions on the stock typically lapse over a two-year period from the date of grant, with the restrictions on one-half of the shares lapsing one year from the date of grant and the restrictions on the remaining one-half of the shares lapsing two years from the date of grant, providing that the grant recipients are employed continuously with us through the vesting dates. The deferred compensation amounts are presented as a reduction of stockholders’ equity and are being amortized over the periods from the date of grant through the vesting date on an accelerated basis. Amortization of deferred compensation is reversed for any amounts recognized on shares of restricted stock that do not vest due to employee terminations or employee attrition.

During the three months ended March 31, 2004 and 2005, we recorded deferred compensation of $6.6 million and $2.3 million, respectively. During the three months ended March 31, 2004 and 2005, we recorded $48,000 and $166,000, respectively, in reductions of the deferred compensation as a result of employee terminations or attrition and the resulting forfeiture of restricted stock. We recorded amortization of deferred compensation resulting from this restricted stock, net of reversals relating to forfeitures and amounts capitalized as software development costs, of $467,000 and $1.2 million during the three months ended March 31, 2004 and 2005, respectively.

The remaining total deferred compensation of $4.5 million at March 31, 2005 is expected to be amortized as follows: $3.1 million during the remainder of 2005, $1.3 million during 2006 and $113,000 during 2007. The amortization expense relates to restricted stock awarded to officers and other employees in all operating expense categories. The amount of amortization of deferred compensation has been separately allocated to these operating expense categories in the Condensed Consolidated Statements of Operations. We expect that we will continue to use restricted stock grants as a means to compensate employees in future periods, although not as widely as we have in prior years. As a result, we expect to capitalize and to amortize additional deferred compensation in future periods related to those grants.

Income Taxes

As of December 31, 2004, we had federal and state net operating loss carryforwards of $406.9 million and $275.4 million, respectively, which may be available to reduce future taxable income. These net operating loss carryforwards expire on various dates through 2024. A valuation allowance has been recorded for the entire deferred tax asset as a result of uncertainties regarding the realization of the asset due to our lack of earnings history. Federal and state tax laws impose significant restrictions on the amount of the net operating loss carryforwards that we may utilize in a given year. Under the Tax Reform Act of 1986, the amount of benefits from net operating loss carryforwards may be impaired or limited in certain circumstances. Events which cause limitations in the amount of net operating losses that we may utilize in any one year include, but are not limited to, a cumulative ownership change of more than 50%, as defined, over a three-year period.

Liquidity and Capital Resources

As of March 31, 2005, we had $30.5 million of cash, cash equivalents and short-term investments, $1.0 million of restricted cash and no outstanding bank, other borrowings or notes payable.

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In connection with the operating lease of our corporate headquarters in San Jose, California, we established a letter of credit initially in the amount of $2.0 million payable to our landlord to secure our obligations under the lease. Under the terms of the lease, which allowed for reductions in the amount of the letter of credit over time as we fulfilled our obligations under the lease, we reduced the letter of credit to $1.0 million as of December 31, 2003, at which amount it remained as of March 31, 2005. The letter of credit is secured by balances in our investment accounts and is classified as restricted cash in our Condensed Consolidated Balance Sheets. The restriction on the letter of credit is expected to lapse in March 2007.

In the normal course of business to facilitate sales of our products, we indemnify other parties, including customers and parties to other transactions with us, with respect to certain matters. We have agreed to hold the other parties harmless against losses arising from a breach of representations or covenants, or out of intellectual property infringement or other claims made against them. These agreements may limit the time within which an indemnification claim can be made and the amount of the claim. We have entered into indemnification agreements with our officers and directors, and our bylaws contain similar indemnification obligations to our agents. It is not possible to determine our maximum potential liability under these indemnification agreements due to the limited history of prior indemnification claims and the unique facts and circumstances involved in each particular agreement. Historically, we have not made any payments under these agreements.

As discussed in Note 3 to the Notes to Condensed Consolidated Financial Statements, we adopted EITF No. 01-9 effective January 1, 2002. As a result of the application of EITF No. 01-9, we have classified certain amortization costs associated with capitalized equity consideration provided to VHA and UHC in connection with the Outsourcing Agreement, as amended, as an offset against gross related party revenue from VHA, UHC and Novation. This treatment results in the offset of non-cash amortization of partnership costs against gross related party revenue up to the lesser of such gross related party revenue or gross amortization of partnership costs in any period. Any amortization of partnership costs in excess of gross related party revenue in any period is classified as an operating expense and is reflected as an adjustment to reconcile net loss to cash from operating activities on the Condensed Consolidated Statements of Cash Flows. Under EITF No. 01-9, we account for the fees being paid by Novation under the terms of the Outsourcing Agreement, as amended, as if they were payments made for the equity consideration we provided to VHA and UHC as opposed to payments for services. As a result, the amortization of partnership costs that is offset against gross related party revenue is reported as a cash flow from financing activities in our Condensed Consolidated Statements of Cash Flows.

Net cash used in operating activities was $12.4 million and $9.5 million for the three months ended March 31, 2004 and 2005, respectively, and primarily related to cash utilized to fund our net losses and changes in our working capital.

Net cash used in investing activities was $1.1 million and $2.4 million for the three months ended March 31, 2004 and 2005, respectively. Net cash used in investing activities for the three months ended March 31, 2004 primarily related to capitalized software development costs and the purchase of capital equipment to operate our solutions, which were partially offset by net sales of short-term investments. Net cash used in investing activities for the three months ended March 31, 2005 related to the purchase of capital equipment, capitalized software development costs and net purchases of short-term investments.

Net cash provided by financing activities was $16.1 million and $16.2 million for the three months ended March 31, 2004 and 2005, respectively. Net cash provided by financing activities for the three months ended March 31, 2004 and 2005 primarily related to funds received for sales of stock under option exercises, stock purchases under the employee stock purchase plan and fees received from Novation under the fee level provisions of the Fourth Amended Agreement.

We currently anticipate that our available funds, consisting of cash, cash equivalents and short-term investments combined with those funds we expect to generate in the remainder of 2005, will be sufficient to meet our anticipated needs for working capital and capital expenditures through at least the next 12 months. However, if available funds and cash generated from operations are insufficient to satisfy our long-term liquidity requirements, we may seek to sell additional equity or debt securities, obtain additional lines of credit, curtail expansion of our services, including reductions in our staffing levels and related expenses, or potentially liquidate selected assets. We cannot be certain that additional financing will be available on favorable terms if and when required, or at all.

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Factors That May Affect Future Operating Results

The risks described below are not the only ones we face. Additional risks not presently known to us, or that we currently deem immaterial, may also impair our business operations. Our business, financial condition or results of operations may be seriously harmed by any of these risks.

If participants in the healthcare supply chain do not accept our business model of providing solutions designed to improve efficiencies in the healthcare supply chain, or are unwilling to do so due to our relationship with VHA, UHC and Novation, demand for our solutions may not develop as we expect and the price of our common stock may decline

We have focused our efforts on developing solutions that address the inefficiencies in the healthcare supply chain. This business model is new and unproven and depends upon participants in this market adopting a new way of doing business and exchanging information. We believe that some participants, including hospitals and GPOs not affiliated with VHA, UHC or Novation, as well as suppliers, have not been willing to use our solutions because of the significant stock ownership in us by VHA and UHC and the corresponding ownership by VHA and UHC of Novation, and because the main source of our business is with Novation. This reluctance on the part of market participants has made it increasingly difficult to grow our revenue and has inhibited our future prospects. Additionally, some participants, other than VHA and UHC member hospitals, have been reluctant to accept our relatively new and unproven approach, which may not be consistent with their existing internal organization and procurement and sale processes. Some participants may prefer to use traditional methods of doing business, such as using paper catalogs and exchanging information in person or by phone. If participants in the healthcare supply chain do not accept our business model, demand for our solutions may not develop as we expect and the price of our common stock could decline.

VHA and UHC have informed us that they believe a market competitive price of the services provided by us should be significantly less than the current fee paid by Novation to us, and that they expect to renegotiate the Fourth Amended Agreement in the context of any sale or merger transaction. Our main source of business is derived from the Fourth Amended Agreement we have with VHA, UHC and Novation, and our business and prospects may be seriously harmed if this agreement is materially altered or terminated

Our main source of business is derived from the solutions we provide through Marketplace@Novation to VHA and UHC member hospitals. For example, for the three months ended March 31, 2004 and 2005, we generated $15.5 million and $15.4 million, respectively, in gross related party revenue, representing 84.2% and 85.5%, respectively, of our gross revenue for these periods.

Both Novation and we engaged independent consultants to assess the technology, information, services and pricing we provide under the Fourth Amended Agreement. Based upon the advice of their consultant, VHA and UHC informed us that they believe a market competitive price of the services provided by us should be significantly less than the current fee paid by Novation to us, although we have informed Novation that we believe our fees are market competitive and reasonable.

VHA and UHC have indicated that, in the context of a sale or merger transaction in connection with our evaluation of strategic alternatives, their support to such a transaction would be conditioned upon Novation renegotiating the Fourth Amended Agreement. If Novation were to seek to negotiate lower fees through its effective assignment right under the terms of the Fourth Amended Agreement in the context of a sale or merger transaction, this potential reduction in fees could subsequently limit our ability to attract what we would consider a fair price for our stockholders for such a transaction.

In addition, in the absence of, or prior to, a sale or merger of Neoforma, VHA, UHC and Novation may seek to lower their payments to us by renegotiating or invoking the benchmarking provision of the Fourth Amended Agreement. If VHA and UHC were to be ultimately successful in reducing these payments, either through negotiation or benchmarking, our revenue and operating results could be seriously harmed and we may not continue to operate as we have expected.

If we do not meet the expectations of Novation, VHA and UHC for the functionality of Marketplace@Novation, the main source of our business could either be reduced or terminated, and our business would be seriously harmed

Under the Fourth Amended Agreement, we must meet detailed functionality and service level requirements. If we are unable to achieve these required levels of functionality within a required time period, we may be required to pay significant liquidated damages or the Fourth Amended Agreement could be terminated, which would seriously harm our business and financial results.

Our review of strategic alternatives may not be successful and the outcome of this process is uncertain

We have retained Merrill Lynch & Co. to explore strategic alternatives for our business in order to achieve greater stockholder value. We are uncertain as to what impact any particular strategic alternative may have on our operating results or our stock price. We are uncertain as to whether any transaction will occur as a result of this evaluation of strategic alternatives. Other uncertainties and risks relating to our evaluation of strategic alternatives include:

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Because VHA and UHC collectively beneficially own a majority of our stock, they have substantial control over all matters requiring stockholder approval and significant sales of stock held by them could have a negative effect on our stock price

As of March 31, 2005, VHA and UHC beneficially owned 41.8% and 10.4%, respectively, of our outstanding common stock, or 52.2% collectively. As a result of their ownership positions, VHA and UHC individually are able to significantly influence, and collectively are able to control, all matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions, including a strategic transaction as discussed above. In addition, open market sales of significant amounts of shares held by either of VHA and UHC, or collectively, or the prospect of these sales, could adversely affect the market price of our common stock.

We rely on our relationship with Novation, VHA and UHC to drive participation in Marketplace@Novation. As a result, our business may be seriously harmed if these relationships are materially altered or terminated

The level of marketplace volume related to Marketplace@Novation is the basis for the fees we are paid by Novation, although these fees are limited by quarterly maximums. We have relied, and expect to continue to rely, significantly on our relationship with Novation, VHA and UHC to bring hospitals and suppliers to Marketplace@Novation, which in turn generates marketplace volume in connection with Marketplace@Novation. We rely on Novation to assist us in attracting suppliers to Marketplace@Novation and, if Novation is unable to attract a sufficient number of suppliers, or suppliers do not value participation with Novation, our business will suffer. We rely significantly on VHA and UHC to assist us in recruiting and retaining hospitals to Marketplace@Novation and also to serve as a channel for the other products and services we offer.

VHA and UHC have announced that they believe that a market competitive price of the services provided by us under the Fourth Amended Agreement should be significantly less than what Novation is currently paying us. If Novation, VHA or UHC were to seek to reduce the fees Novation currently pays us, our relationship with those parties could be seriously harmed.

Additionally, these partners use a variety of marketing initiatives and financial incentives to drive adoption and use of Marketplace@Novation and our solutions by hospitals. If these partners cease using such marketing initiatives and financial incentives, our ability to recruit hospitals to Marketplace@Novation also may be seriously harmed.

We have a history of losses and may never achieve profitability

We have experienced losses from operations in each period since our inception, including a net loss of $17.0 million for the three months ended March 31, 2005. In addition, as of March 31, 2005, we had an accumulated deficit of $770.9 million. We have not achieved profitability and we cannot assure you that we will ever be profitable.

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If our customers or third-party vendors refuse to provide us with consent to use their transaction data and product data, severely restrict our use of their data, or decline to use our solutions because of concerns about the potential release of such data to other customers or partners, our business strategy may not succeed

We expect to derive a portion of our future revenue from information services that require the use of data from our hospital, GPO and supplier customers and other third-party vendors. To execute on our data services strategy, we must be able to secure the consent of our customers and these third-party vendors to various uses of their data. To secure such consent, we must be able to assure these customers and third-party vendors that we will at all times protect the confidentiality of their data and use the data in the manner that we agreed. If we are unable to provide such assurance, or if we fail, or are perceived by our customers and third-party vendors to have failed, to meet the levels of assurance that we provided, our ability to execute on our data services strategy may be seriously impaired. In addition, we must be able to abide by various contractual provisions to which we have agreed concerning our ability to aggregate and blind data in such a way that the data cannot be used to identify any participants to transactions underlying the data. Our inability to do so would potentially subject us to liability for contractual damages and might seriously impair our data services strategy. If potential customers are concerned about other customers viewing their transaction data, they may decide to forgo use of our solutions, and this could seriously impair our ability to generate revenue in the future.

If we are unable to enhance the functionality of our solutions or develop new solutions, potential customers may choose not to enter into business relationships with us, which would harm our business

We must continue to develop the capability to integrate our solutions with our hospital, GPO and supplier customers’ business processes and information systems, and develop new solutions for our customers. We may incur significant expenses in developing these capabilities and may not succeed in developing them in a timely manner. In addition, developing the capability to integrate some of our solutions with hospitals’ and suppliers’ enterprise software systems will require the continued cooperation of and collaboration with the companies that develop and market these systems. Hospitals and suppliers use a variety of different enterprise software systems provided by third-party vendors or developed internally. This lack of uniformity increases the difficulty and cost of developing the capability to integrate with the systems of a large number of hospitals and suppliers. Failure to provide this capability would limit the efficiencies that our solutions provide and may deter our hospital and supplier customers from using our solutions.

If the future costs required to integrate the systems of hospitals purchasing through Novation are substantially higher than we anticipate, we may not realize the full benefits of our agreement with Novation

We incur significant costs in developing and supporting our solutions and in integrating with hospitals’ and suppliers’ information systems, and we may never generate sufficient fees to offset these costs. The fees that we are able to generate through the Fourth Amended Agreement are limited by quarterly maximums, and so any material increase in the costs to connect hospitals and suppliers will not be offset by a corresponding increase in fees, which would adversely impact our financials.

Our ability to earn fees in future periods from Marketplace@Novation is limited by quarterly maximums, and, as a result, we must generate increased non-related party revenue to grow our revenue

We generate the substantial majority of our business from Marketplace@Novation. Our ability to earn fees from Novation for the solutions we provide in connection with Marketplace@Novation depends on several factors, and the fees are subject to limitation by quarterly maximums. During the last 11 quarters our fees were limited by these quarterly maximums. Based on the levels of total marketplace transaction volume that we are achieving and expect to continue to achieve, we expect that our fees will continue to be limited by these maximums in future periods. Consequently, we must generate increased non-related party revenue to grow our revenue. In July 2005, we expect that the significant majority of the gross capitalized partnership costs will be fully amortized and, as a result, our total revenue will increase substantially beginning in the quarter that our gross related party revenue is initially no longer offset by amortization of capitalized partnership costs. However, we still believe that we must generate non-related party revenue growth to show improved operational results. To date, we have encountered more difficulty than we anticipated in growing non-related party revenue.

If our systems are unable to provide acceptable performance as the use of our solutions increases, we could lose customers, which could harm our business and results of operations

We have supported only a limited number and variety of transactions through our solutions compared to the number and variety we expect to process in the future. Our systems may not accommodate increased use while providing acceptable overall performance. We must continue to expand and adapt our network infrastructure to accommodate increased use of our solutions by our customers, which will be expensive. If our systems do not continue to provide acceptable performance as use by our customers increases, our reputation may be damaged and we may lose customers. We have had temporary system outages in the past and we may have such temporary outages in the future. If system outages occur frequently or are severe, our customers may decide that our performance levels are unacceptable and may choose not to continue to use our services or may claim liability against us.

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We expect that a significant portion of the products used by hospitals that are sold through Marketplace@Novation will come from a limited number of key manufacturers and distributors, and the loss of a key manufacturer or distributor could result in a significant negative impact on the value of Marketplace@Novation and, consequently, our business

We expect that a significant portion of the products to be sold through and data to be generated from Marketplace@Novation will come as a result of the participation of a limited number of key manufacturers and distributors. If any of these key manufacturers or distributors cease doing business with us, the value of Marketplace@Novation to our hospital customers would be reduced and our ability to generate data for our customers would also be reduced.

We face significant competition, and if we are unable to compete effectively, we may be unable to maintain or expand the number of our customers and our financial position may be adversely affected

The market for supply chain management solutions in the healthcare industry is rapidly evolving and highly competitive. Because of the breadth of our solutions, which include order management, contract management, data management, market intelligence and materials management, and the breadth of our customer base, which includes hospitals, GPOs and suppliers, we have a diverse set of competitors that compete with portions of our overall offering. To best serve our customers, we sometimes partner in one segment of the market with our competitors while competing with them in others. We believe that, as our capabilities grow, we will continue to find areas of opportunity for collaboration with, as well as encounter competition from, other companies in the market that target a segment of the overall healthcare supply chain. Our ability to manage these relationships to benefit our hospital, GPO and supplier customers is important to our success.

Some of our current and potential competitors include:

Competition is likely to intensify as our market matures. As competitive conditions intensify, our competitors may enter into strategic or commercial relationships with larger, more established healthcare, medical products or Internet companies or with each other, secure services and products from suppliers on more favorable terms, devote greater resources to marketing and promotional campaigns, secure exclusive arrangements with hospitals that impede our sales and devote substantially more resources to Web site and systems development and research and development.

Our current and potential competitors’ services may achieve greater market acceptance than ours. Our current and potential competitors may have longer operating histories in the healthcare supply chain market, greater name recognition, larger customer bases or greater financial, technical and/or marketing resources than we do. As a result of these factors, our competitors and potential competitors may be able to respond more quickly to market forces, undertake more extensive marketing campaigns for their brands and services and make more attractive offers to hospitals, GPOs, suppliers, potential employees and strategic partners. In addition, new technologies may increase competitive pressures. We cannot be certain that we will be able to expand our hospital, GPO and supplier base or retain our current hospital, GPO and supplier customers. We may not be able to compete successfully against our competitors, and competition could seriously harm our revenue, operating margins and market share.

Our operating results are difficult to predict, and if we fail to meet the expectations of investors or securities analysts, the market price of our common stock will likely decline

Our operating results may fluctuate from quarter to quarter and are difficult to predict because of a number of factors. These factors include:

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