UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

For the quarterly period ended September 30, 2000

or

(Exact name of the Registrant as specified in its charter)

incorporation or organization) Identification Number)

(Address of principal executive offices)

_____________________

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

_____________________

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.

As of October 31, 2000, there were 42,450,602 shares of the Registrant's common stock outstanding.

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PART I - FINANCIAL INFORMATION

Item 1: Financial Statements

Consolidated Statements of Operations for the three and nine months ended

September 30, 2000 and 1999 (Unaudited) 4

Consolidated Statements of Cash Flows for the nine months ended

September 30, 2000 and 1999 (Unaudited) 5

Notes to Consolidated Financial Statements (Unaudited) 6

Item 2: Management's Discussion and Analysis of Financial

Condition and Results of Operations 8

Item 3: Quantitative and Qualitative Disclosures About Market Risk 21

PART II - OTHER INFORMATION

Item 1: Legal Proceedings 21

Item 2: Changes in Securities and Use of Proceeds 21

Item 3: Defaults Upon Senior Securities 21

Item 4: Submission of Matters to a Vote of Security Holders 21

Item 5: Other Information 21

(unaudited)

On November 19, 1999 Onsale, Inc. ("Old Onsale") acquired Egghead.com, Inc. ("Old Egghead") and changed its name to Egghead.com, Inc. The acquisition was accounted for as a pooling of interests. The consolidated statements of operations and cash flows for the nine months ended September 30, 1999 have been restated to include the results of operations and cash flows as if Old Egghead was a wholly-owned subsidiary of the Company for the period presented. Old Egghead used a 52/53 week fiscal year ending on the Saturday closest to March 31; for convenience, Old Egghead's fiscal quarter ended October 2, 1999 is referred to as ending September 30, 1999. The consolidated statement of operations for the three and nine months ended September 30, 1999 includes the results of operations for Old Egghead for the three and nine months ended September 30, 1999. The consolidated statement of cash flows for the nine months ended September 30, 1999 includes the cash flows for Old Egghead for the nine months ended September 30, 1999.

Certain reclassifications have been made to prior period balances to conform to current period classification. Emerging Issues Task Force Issue 00-10, Accounting for Shipping and Handling Fees ("EITF 00-10"), requires companies to report all shipping and handling revenue received from a customer as revenue. In previous quarters, the Company reported certain shipping revenue as a reduction of shipping cost in cost of sales. In order to comply with EITF 00-10, the Company has reclassified shipping revenue previously recorded in cost of sales to online revenue. This reclassification results in an increase in online and net revenue, no change in gross profit dollars, and a slight decrease in gross profit margin. This reclassification results in the following online revenue, total revenue and gross margins for the 2000 and 1999 quarters:

On February 17, 2000 the Company entered into an equity financing agreement with Acqua Wellington North American Equities Fund, Ltd. ("Acqua Wellington"). On March 6, 2000, the Company issued approximately 700,000 shares of common stock at an average price of $10.67, reflecting a 5.6% discount from market prices, resulting in net proceeds of approximately $7.4 million. On March 29, 2000, the Company issued an additional 2.3 million shares of common stock for $6.75 per share, reflecting a 2.7% discount from the closing market price on that date, which resulted in net proceeds of approximately $15.5 million. On July 14, 2000, the Company issued another 2.0 million shares of common stock at an average price of $1.96 per share, reflecting a 16.1% average discount from market prices, which resulted in net proceeds of approximately $3.9 million.

Net loss per share is calculated in accordance with the provisions of SFAS 128, "Earnings Per Share" ("SFAS 128"). SFAS 128 requires the Company to report both basic earnings per share and diluted earnings per share. Basic earnings per share is computed using the weighted average number of common shares outstanding during the period. Diluted earnings per share is computed using the weighted average number of common and potentially dilutive common equivalent shares outstanding during the period. Common equivalent shares are excluded from the computation if their effect is antidilutive. During the quarters ended September 30, 2000 and 1999, options to purchase approximately 7.2 million and 5.0 million shares, respectively, were outstanding but were not included in the computation because they are antidilutive.

On July 3, 2000 the company sold 52.5% of its' interest (or 21% of the total common stock outstanding) in Onsale Japan K.K. to Indigo Corporation for approximately $2.5 million representing a gain of approximately $2.3 million. There is no remaining carrying value in this asset as of September 30, 2000.

On November 9, 1998 the company sold its interest in Elekom. Due to a contingency clause in the sales agreement approximately $600,000 in gain from the sale was deferred and held in escrow. The company received the escrowed monies and accordingly recorded a gain of approximately $662,000.

The following discussion of our financial condition and results of operations should be read in conjunction with the consolidated financial statements and the related notes included elsewhere in this report. This discussion contains forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. These statements typically refer to future events or financial results, including statements in the future tense and statements indicating that "we believe," "we expect," "we anticipate" or "we intend" certain events may occur or certain trends may continue, that involve risks and uncertainties. Although these statements reflect the current judgment of our management, we can only base such statements on facts and factors that we currently know. Our actual results could differ materially from those anticipated in these forward-looking statements. Factors that might cause those differences include those set forth under " Factors That May Affect Future Operating Results."

Company Overview

We were incorporated in July 1994 as Onsale, Inc. and began auctioning products on the Internet in May 1995. In November 1999, we acquired Egghead.com, Inc. ("Old Egghead") and changed our name to Egghead.com, Inc. ("Egghead"). Old Egghead's operations were integrated with our operations in November 1999, following the completion of the merger.

The acquisition of Old Egghead was accounted for as a pooling of interests. Accordingly, our financial statements have been restated to reflect our results of operations for the three and nine months ended September 30, 1999 and the cash flows for the nine months ended September 30, 1999 as if Old Egghead was our wholly-owned subsidiary. Old Egghead used a 52/53 week fiscal year that ended on the Saturday nearest March 31; for convenience the Old Egghead fiscal quarter ended October 2, 1999 is referred to as ending September 30, 1999. The following discussion relates to the consolidated financial statements of the combined company.

We are an Internet retailer selling retail and wholesale goods to businesses, resellers and consumers. We sell merchandise online through our web site and through our business account management team.

New goods. Through our web site and with the assistance of our business account management team we offer businesses, resellers and consumers a broad selection of new goods, including current-version computers and related products at competitive prices. Old Egghead began selling new goods through its superstores starting in the first quarter of 1998, selling the products at a low margin. In January 1999 we introduced our superstore, Onsale atCost, where we sold new goods at prices equal to the amount invoiced by our vendors, plus charges for payment processing, shipping and handling and sales tax where appropriate.

Excess and refurbished goods. Through auctions and fixed price selling formats on our web site and through our business account management team, we sell excess merchandise and services, including refurbished and close-out products. Merchandise and services we offer include computers and related products, sports and fitness equipment, consumer electronics, and vacation and travel packages. We also derive revenues from commissions on goods sold through our online auctions.

Results of Operations

The following table summarizes selected results for the three and nine months ended September 30, 2000 and 1999 (dollars in thousands):

The above table reflects the reclassification of certain shipping revenues from cost of sales to revenues for each period presented, as required by EITF 00-10. The operating results in any period are not necessarily indicative of the results to be expected for any future period.

Online revenue consists of sales of merchandise, services and shipping and handling revenue, net of returns. This revenue represents sales of merchandise acquired on a purchase or consignment basis where we charge the customer's credit card, either we or the vendor ships the merchandise to the customer, and we assume the credit and inventory related return risk. Commission and other revenue consists of (1) commissions on auction sales of suppliers' products, where the supplier charges the customers credit card, maintains title to the inventory, ships the product and bears inventory return risk and (2) advertising revenue from vendors and other businesses.

Online revenue decreased $38.0 million, or 27.2%, for the three months ended September 30, 2000 compared with the three months ended September 30, 1999 and $4.6 million, or 1.2%, for the nine months ended September 30, 2000 compared to the nine months ended September 30, 1999. Revenue declined during these periods due primarily to our decision to minimize unprofitable sales. Additionally in the second quarter we decided to re-deploy a significant portion of our marketing budget to further development of our business account management team, a change which will require time to produce sales growth. Commission and other revenue increased $839,000, or 31% for the three months ended September 30, 2000 compared to the same three month period in 1999, primarily due to increased advertising revenue.

Constraints on Revenue Growth. Our ability to increase revenue may be constrained by our desire to increase product margins, re-deploy our marketing budget to business account management team growth, the unavailability of high demand new products, and our inability to obtain from vendors excess and refurbished products. Sales of both new goods and excess and refurbished goods during the third quarter of 2000 were negatively impacted by our efforts to increase product margin, which rose to 10.0% from 7.0% in the second quarter of 2000, and the unavailability of high demand product. These types of revenue growth constraints may continue during future quarters.

New goods vs. excess and refurbished goods. For the quarter ended September 30, 2000, revenue from the sale of new goods versus excess and refurbished goods constituted 37% and 60% respectively, of our total revenue. For the comparable period in 1999, revenue from new goods versus excess and refurbished goods was 38% and 60%, respectively, of our total revenue. We expect the percentage of revenue produced by new goods sales to increase as we build our business account management group.

Gross profit is total revenue minus cost of revenue. Cost of online revenue consists of the cost of the merchandise sold to customers, inventory reserve adjustments and shipping and handling expense. There is no significant cost of commission and other revenue. Gross margin is gross profit as a percentage of total revenue. The following represents the percentage of gross margin attributable to online revenue and commission and other revenue for the quarters ended September 30, 1999 through September 30, 2000:

Gross margin for online revenue was 6.8% and 2.3%, respectively, for the quarters ended September 30, 2000 and September 30, 1999. Gross margin for online sales throughout the last two quarters of 1999 remained fairly stable, fluctuating between 1.9% and 2.3%. During the first, second and third quarters of 2000 we raised prices on new and excess and refurbished goods sold in fixed price formats, limited the quantity of auction merchandise available for bid at any one time, and added a flat fee shipping charge on new goods orders. These changes resulted in increases in total gross margins to 5.8%, 6.8% and 10.0% in the quarters ended March 31, 2000, June 30, 2000 and September 30, 2000 respectively.

We intend to continue our efforts to improve gross margins. However due to intense ongoing industry-wide competitive price pressures we may reduce the selling prices on some of our products, which would lead to a decrease in gross margins.

Our operating expenses as a percentage of revenue, excluding restructuring and impairment costs and merger costs, were 22.9% and 24.3% for the three months ended September 30, 2000 and 1999, respectively, and 21.6% and 24.3% for the nine months ended September 30, 2000 and 1999, respectively. Operating expenses for the three and nine months ended September 30, 1999 reflected the cost of operating two separate businesses prior to the merger with Old Egghead. Although we believe our operating expenses as a single integrated entity will continue to be lower than operating as two separate companies, we expect to maintain a high level of spending as we shift our strategy from promoting our brand name to capitalizing on our installed base through our business accounts management group.

Sales and Marketing. Sales and marketing expenses consist primarily of advertising expenditures, payroll and related expenses for sales, customer service, marketing and merchandise acquisition personnel, distribution and credit card processing costs. Sales and marketing expenses as a percentage of revenue were 14.4% and 18.0% for the three months ended September 30, 2000 and 1999, respectively, and 14.4% and 17.2% for the nine months ended September 30, 2000 and 1999, respectively. The decrease from 1999 to 2000 was primarily attributable to elimination of duplicate costs and efficiencies resulting from our merger with Old Egghead. We expect to increase significantly our business accounts management group. However we expect the total cost of sales and marketing costs to decrease, as we expect the increased cost of labor to be more than offset by reductions in advertising costs, as we shift our focus from building brand awareness to marketing directly to our existing registered business customers through telemarketing and e-mail.

General and Administrative. General and administrative expenses consist primarily of payroll and related expenses for executive, accounting and administrative personnel, bad debt expense, facilities expenses, recruiting and other general corporate expenses. General and administrative expenses as a percentage of revenue were 4.6% and 3.3% for the three months ended September 30, 2000 and 1999, respectively, and 4.2% and 3.9% for the nine months ended September 30, 2000 and 1999, respectively. The percentage increase for the three months ended September 30, 2000 compared to the three months ended September 30, 1999 resulted primarily from the lower volume of sales during 2000, as general and administrative expenses on an absolute basis increased only $147,000. The increase for the nine months ended September 30, 2000 compared to the nine months ended September 30, 1999 was due primarily to continuing duplicate costs and the establishment of reserve provisions. We expect the dollar amount of general and administrative expenses to increase moderately during the remainder of 2000.

Engineering. Engineering expenses consist primarily of payroll and related expenses for engineering personnel and consultants who develop, enhance, manage, operate and monitor our web site and related systems, as well as related equipment costs, other than those that are capitalized. Engineering expenses as a percentage of total revenue were 3.9% and 2.7% for the three months ended September 30, 2000 and 1999, respectively and 3.0% and 2.9% for the nine months ended September 30, 2000 and 1999, respectively. The percentage increases for the three and nine months ended September 30, 2000 compared with September 30, 1999 resulted primarily from continuing duplicate costs and lower revenues. We expect the dollar amount of engineering expenses to decrease modestly for the remainder of 2000 and then to remain relatively constant through 2001.

Prior to 1998, all engineering costs were expensed as incurred. In 1998, we adopted the American Institute of Certified Public Accountants' ("AICPA") Statement of Position 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use" ("SOP 98-1") and, accordingly, capitalized some engineering costs related to internally-developed software. In the nine months ended September 30, 2000 we capitalized approximately $1,173,000 of software, none of which was related to engineering costs for internally-developed software. In the nine months ended September 30, 1999, we capitalized approximately $3.9 million of software, of which approximately $917,000 was related to engineering costs for internally-developed software.

Our other income, net, was $3.0 million and $782,000 for the three months ended September 30, 2000 and 1999, respectively and $2.6 million and $1.0 million for the nine months ended September 30, 2000 and 1999, respectively. Other income for the three months ended September 30, 2000 is comprised primarily of the gain from the sale of Onsale Japan K.K., of approximately $2.3 million, and recognition of a previously deferred gain of $662,000 from the sale by Old Egghead of Elekom, upon resolution of a contingency clause in the sales agreement.

Our interest income, net, was $788,000, and $1.8 million for the three months ended September 30, 2000 and 1999, respectively and $2.8 million and $5.2 million for the nine months ended September 30, 2000 and 1999, respectively. The decrease in interest income, net, for the three months ended September 30, 2000 was due to decreased cash balances resulting primarily from net cash used in operating activities of $68.8 million, offset by proceeds from the issuance of common stock of approximately $27.6 million and sale of 52.5% of our interest in Onsale Japan K.K and collection of our final payment from the sale of Elekom totaling approximately $3.0 million.

We had net losses for each of the quarters in and 1999 and 2000, therefore we did not record a provision for income taxes for these periods.

Financing Activities. Net cash provided by financing activities of approximately $27.6 million for the nine months ended September 30, 2000 consisted of the issuance of common stock under our equity financing agreement with Acqua Wellington, which resulted in net proceeds of approximately $26.8 million during the period, and from the issuance of common stock under our stock option and employee stock purchase plans, which resulted in net proceeds of approximately $800,000.

Net cash provided by financing activities of $78.1 million for the nine months ended September 30, 1999 arose from the issuance of common stock by Old Egghead in a secondary public offering, which resulted in net proceeds of approximately $72.9 million and the issuance of common stock under our stock option and employee stock purchase plans, which resulted in net proceeds of approximately $5.2 million.

Operating Activities. Net cash used in operating activities for the nine months ended September 30, 2000 was approximately $68.8 million, primarily consisting of our net loss of $52.6 million and decreases in accounts payable, accrued expenses and deferred revenue of $19.1 million, $6.1 million and $4.2 million, respectively. These uses of cash were partially offset by reductions in accounts receivable and inventory of approximately $2.5 million and $10.0 million, respectively and depreciation and amortization expense of $3.2 million. The reductions in accounts payable and accrued expenses reflect the payment of approximately $10.9 million in merger-related costs and approximately $8.0 million of non-recurring pay downs of accounts payable related to duplicate costs in the fourth quarter of 1999.

Net cash used in operating activities for the nine months ended September 30, 1999 was approximately $47.0 million, primarily attributable to our net loss of $64.6 million, increases in accounts receivable of $4.3 million, increases in prepaid expenses and other assets of 2.1 million, and a reduction in reserves and liabilities related to restructuring of $5.5 million. These uses of cash were partially offset by depreciation and amortization expense of $6.4 million, a decrease in merchandise inventory of $4.6 million and increases in accounts payable, accrued expenses and deferred revenue of $13.0 million, $2.5 million and $2.2 million, respectively.

Investing Activities. Net cash provided by investing activities of $7.2 million for the nine months ended September 30, 2000 resulted from net proceeds from the sale of short term marketable securities of $8.5 million, proceeds from the sale of 51.5% of our interest in Onsale Japan K.K. of $2.6 million and proceeds from collection of our final payment from the sale of Elekom offset by an investment of $4.5 million in property and equipment. Net cash used by investing activities of $10.7 million for the nine months ended September 30, 1999 primarily reflects our net proceeds from the sale of short-term marketable securities of $387,000 offset by investments of $11.1 million in property and equipment, principally related to the upgrading of the Website software platforms and related hardware.

Cash and Cash Equivalents. As of September 30, 2000 we had approximately $34.3 million of cash and cash equivalents and $9.5 million of short-term available-for-sale investments.

Commitments. As of September 30, 2000 our principal commitments were as follows:

• Obligations of approximately $7.7 million, or approximately $235,000 per month, under operating leases for our corporate offices and warehouses and obligations of approximately $216,000, or approximately $26,000 per month, under additional operating leases (as well as obligations of approximately $1.7 million related to retail store leases which were closed by Old Egghead, and have been fully provided for).
• We have no material commitments for capital expenditures, but we anticipate purchasing approximately $2.2 million of property and equipment during the remainder of 2000, primarily for computer and office equipment and software.
• We have agreements for online advertising which allow us to appear on specific web sites with links to our web site. These agreements require future payments of up to approximately $3.1 million and incremental fees under certain circumstances based on the volume of traffic to our web site. These agreements expire at various times through December 2000.
• We had $1.0 million of restricted cash, which primarily represented collateral for the lease of our Vancouver, Washington office.
• We issued Softbank Corporation an unsecured note for $2.0 million in connection with our initial investment in Onsale Japan K.K. The principal and accrued interest thereon is due upon the earlier of the closing date of an initial public offering of the joint venture or December 2002, with interest accruing at a fluctuating rate equal to the short-term prime rate of the Dai-ichi Kangyo Bank in Tokyo, Japan (1.5% as of September 30, 2000). This note has no right of offset against our investment in the joint venture.

Old Egghead offered credit to some of its business customers. We began offering credit to business customers on our site in the fourth quarter of 1999, and may require additional cash to support the anticipated growth in accounts receivable. We expect to experience quarterly net losses through most of 2001, and thus we will need to finance our inventory, accounts receivable, capital expenditures and some portion of our operating expenses from our current cash and cash equivalents balance. We believe that our current cash and cash equivalent balance and other financing opportunities will meet our anticipated cash needs for working capital expenditures for the next 12 months. However, we anticipate seeking additional financing within the next twelve months, even if our financial resources prove to be adequate to meet presently anticipated business requirements. The trading price of our common stock makes it more difficult for us to obtain financing through the issuance of equity or debt securities. Therefore, additional financing may not be available on terms favorable to us, or may not be available to us at all. If we are able to obtain financing, the sale of additional equity or debt securities will result in additional dilution to our common stockholders. Additionally, we could issue securities that have rights senior to the rights of common stockholders.

In June 1998, the Financial Accounting Standards Board issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. The new standard requires companies to record derivatives on the balance sheet as assets or liabilities, measured at fair value. Gains or losses resulting from changes in the values of those derivatives would be accounted for depending on the use of the derivative and whether it qualifies for hedge accounting. Because we do not use derivatives, the new standard is expected to have no material impact on our financial position or results of operations. SFAS No. 133 will be effective for fiscal 2001.

In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 101, "Revenue Recognition," which provides guidance on the recognition, presentation, and disclosure of revenue in financial statements filed with the SEC. SAB 101 outlines the basic criteria that must be met to recognize revenue and provides guidance for disclosures related to revenue recognition policies. Our revenue recognition policies comply with the requirements of SAB 101.

In April 2000, the Financial Accounting Standards Board issued FASB Interpretation No. 44, Accounting for Certain Transactions Involving Stock Compensation, an interpretation of APB Opinion No. 25 ("FIN 44"). Among other issues, FIN 44 clarifies (a) the definition of employee for purposes of applying Opinion No. 25, (b) the criteria for determining whether a plan qualifies as a noncompensatory plan, (c) the accounting consequence of various modifications to the terms of a previously fixed stock option or award, and (d) the accounting for an exchange of stock compensation awards in a business combination. FIN 44 is effective July 1, 2000, but certain conclusions in the interpretation cover specific events that occur after either December 15, 1998 or January 12, 2000. To the extent that this interpretation covers events occurring during the period after December 15, 1998, or January 12, 2000, but before the effective date of July 1, 2000, the effects of applying this interpretation are recognized on a prospective basis from July 1, 2000. The Company is currently reviewing stock grants to determine the impact, if any, that may arise from implementation of FIN 44, although management does not expect the impact, if any, to be material to the financial statements.

In July and September 2000, consensus was reached by the Emerging Issues Task Force regarding Issue 00-10, Accounting for Shipping and Handling Fees ("EITF 00-10"). EITF 00-10 requires companies to report all shipping and handling revenue received from a customer as revenue. In previous quarters, the Company reported certain shipping revenue as a reduction of shipping cost in cost of sales. In order to comply with EITF 00-10, the Company has reclassified shipping revenue previously recorded in cost of sales to online revenue. This reclassification results in an increase in online and net revenue, no change in gross profit dollars, and a slight decrease in gross profit margin. This reclassification results in the following online revenue, total revenue and gross margins for the 2000 and 1999 quarters:

Based on historical financial statements adjusted to reflect the pooling of our results with those of Old Egghead, we have incurred net losses since 1995. As of September 30, 2000, we had a combined net accumulated deficit of approximately $321.2 million. We expect to experience quarterly net losses into 2001, due primarily to the following factors:

• competitive pricing pressures, which we expect to continue to negatively affect sales or gross margins;
• spending on our infrastructure.

We anticipate seeking additional financing within the next 12 months. The trading price of our common stock makes it more difficult for us to obtain financing through the issuance of equity or debt securities. Therefore, this form of financing may not be available on terms favorable to us, or may not be available at all. Other financing, including vendor financing, may become more difficult to obtain on terms favorable to us, or may not be available to us at all due to our financial position and continuing losses. If we are able to obtain financing, the sale of additional equity or debt securities will result in additional dilution to our common stockholders. Additionally, we could issue securities that have rights senior to the rights of common stockholders.

Prior to the merger the operating results of Onsale and Old Egghead fluctuated, and we expect our operating results to continue to fluctuate in the future, due to a number of factors, many of which are outside our control. These factors include:

• the level of traffic at our web site, and our ability to attract new customers and to retain existing customers;
• decreases in revenues as we phase out sales of unprofitable products and sales formats;
• the availability and pricing of merchandise from our vendors;
• our ability to manage our inventory mix and the mix of products offered for auction, and take other actions to maintain customer satisfaction;
• seasonal fluctuations in buying patterns of new and reconditioned merchandise and in the availability of reconditioned merchandise;
• pricing competition;
• the announcement or introduction of new types of merchandise, service offerings or customer services by us or our competitors;

Due to these factors, factors discussed elsewhere in this document, or unforeseen factors, in some future quarter our operating results may not meet the expectations of securities analysts and investors, in which event the trading price of our common stock may decline.

If new business account managers fail to generate enough revenue our operating results will be harmed.

We have and will continue to use marketing funds to hire personnel to further develop our business account management team. This represents an important shift in our business strategy, and we do not know whether this strategy will be successful. Newly-hired business account managers will require time to learn our business, and once they become assimilated into our organization we do not know whether they will be able to generate revenues at the same rate as our existing business account managers. As we increase our business account management team, we may suffer from inefficiencies arising from the growth of the sales force or for other reasons. If new business account managers fail to generate enough revenue, our operating results will be harmed.

We have a limited operating history as an online commerce company. We were incorporated in 1994 and did not generate any revenues until July 1995. Old Egghead was incorporated in 1984 but changed its business model from a chain of retail stores to an online commerce web site beginning in February 1998. Our prospects will therefore be subject to the risks, expenses and uncertainties frequently encountered by young companies that operate in the new and rapidly evolving markets for Internet products and services. These risks include:

• rapid and unpredictable shifts in our business model or those of our competitors;
• intense competition;
• difficulties managing growth; and
• rapid evolution of technology in electronic commerce.

In particular, we recently announced that we are shifting our business focus towards direct marketing of our existing registered business customers through telemarketing and e-mail. If this strategy is not successful, our operating results will be harmed.

We expect to continue to expand our operations, and in order to manage our growth, we face many challenges, including:

• maintaining and improving existing operational, financial and inventory systems, procedures and controls, and implementing new systems, procedures and controls;
• integrating new key managerial and technical employees into our existing management team;
• training, motivating and managing our employee base;
• managing relationships with third parties;
• managing risks associated with accounts receivable expansion and collection

We intend to relocate some of our operations, including our engineering, technical operations, accounts payable, loss prevention and inventory accounting functions from Menlo Park, California to Vancouver, Washington. This move may disrupt our business if not completed in a timely manner. This relocation will involve the hiring of new personnel. The relocated operations may be disrupted as we attempt to hire qualified personnel and as new personnel become integrated into our company. During this period, we may not be able to react to technical problems with our web site as quickly as in the past, which could lead to web site downtime and decreased sales. In addition, we may face other challenges inherent in relocations, such as the need for the relocated functions to operate seamlessly with other functions located at our headquarters. We may not achieve the savings that we expect from this relocation due to the factors described above, or due to other unforeseen factors.

Our future success depends on our ability to attract, retain and motivate highly skilled employees. Competition for employees in the Internet industry is intense, particularly in the Silicon Valley where a portion of our operations and our corporate office are located. Due to the recent decline in the trading price of our common stock, we face challenges in attracting and retaining employees. Additionally, the exercise price of a significant portion of our equity awards such as stock options may be higher than the current trading price of our stock, and such stock options may not retain the incentive effect intended at the time of issuance. We may issue additional equity awards from time to time to retain employees and this may dilute existing shareholders. We may be unable to attract, assimilate or retain other highly qualified employees in the future.

In particular, our future performance depends upon contributions from members of our senior management, particularly Jeff Sheahan, our Chief Executive Officer and President, and other key personnel. Most of our key personnel do not have long-term employment agreements. If one or more of our key personnel leaves us or joins a competitor, our business could be harmed. Furthermore, certain key employees possess marketing, technical and other expertise that is important to the operations of our business, and if these employees leave, we may not be able to replace them with employees possessing comparable skills.

In connection with our strategy to focus on direct marketing, we intend to increase the size of our sales staff in the near future. We may not be able to hire enough qualified personnel to meet our hiring goals due to several factors, including the recent decline in and volatility of our stock price.

Existing competitors. The electronic commerce market, particularly over the Internet, is new, rapidly evolving and competitive, and we expect competition to intensify in the future. We compete with many other companies that either offer the same types of merchandise or provide the same or a similar type of sales format to customers. Refer to the section titled "Business - Competition" in our annual report on Form 10-K for a list of our competitors.

New competitors. It is not difficult to enter the online commerce market, and current and new competitors can launch new online commerce web sites at relatively low cost. Competition in online commerce will increase further if retailers, suppliers, manufacturers and direct marketers who have not traditionally sold computer products and consumer goods directly to consumers through the Internet enter this market segment. Increased competition may result in price reductions, fewer customer orders, reduced gross margins, increased marketing costs or loss of market share, or any combination of these problems.

New competitors may emerge and rapidly acquire market share in several ways, including through mergers or by alliances among competitors and vendors. Through such alliances, competitors may also obtain exclusive or semi-exclusive sources of merchandise. In addition, manufacturers may elect to liquidate their products directly over the Internet. Companies that primarily conduct online person-to-person auctions, such as eBay Inc., may develop into direct competitors in the future.

We may not be successful in competing against competitors. Many of these competitors have greater financial, marketing, customer support, technical and other resources than we do. As a result, they may be able to secure merchandise from suppliers on more favorable terms than us, and they may be able to respond more quickly to changes in customer preference or to devote greater resources to the development, promotion and sale of their merchandise than we can. If competition increases and our branding efforts are not successful, we may not be able to command higher margins on the products we sell, or we may lose revenue and customers to our competitors.

We purchase inventory from vendors. Risks of carrying inventory include:

• potential declines in the market value of the goods that we purchase;
• difficulties managing customer returns and credits associated with merchandise to be returned to vendors;
• shrinkage resulting from theft, loss or inaccurate inventory recording; and
• unpredictable sale prices due to the nature of our auction process.

If we manage our inventory poorly, we may be forced to sell our inventory at a discount or loss.

Supply. We rely on vendors to supply us with merchandise. For the three months ended September 30, 2000, purchases from Tech Data, a distributor of computers and related products, accounted for approximately 38% of our aggregate merchandise purchases. We have no long-term contracts or arrangements with our vendors that guarantee the availability of merchandise. We may not be able to obtain sufficient quality and quantities of merchandise at competitive prices. Also, the quality of service provided by such parties may fall below the standard needed to enable us to conduct our business effectively. We cannot assure you that our current vendors will continue to supply merchandise or that we will be able to establish new vendor relationships that will ensure that merchandise will be available.

Customer service--shipping and quality of products (returns). We rely on some of our vendors to ship merchandise directly to customers. Consequently, we have limited control over the goods shipped by these vendors, and shipments of goods may be subject to delays and shipment errors. These delays, or similar problems, may lead regulatory officials to seek sanctions against us, which may involve monetary fines or injunctive relief, including the possibility that we could be enjoined from selling products until we have improved out system for tracking and ensuring timely delivery of goods sold through our web site. In addition, we may accept returns from customers for which we will not receive reimbursements from manufacturers or vendors. If the quality of service provided by such vendors falls below a satisfactory standard or if our level of returns exceeds expectations, this could harm our business.

In conducting our operations, we depend on several other third parties, including the following:

• Fulfillment. Third parties fulfill a significant portion of our sales. Any service interruptions experienced by these distribution centers as a result of labor problems or otherwise could disrupt or prevent fulfillment of customer orders;
• Operating software. Our internally-developed auction software depends on operating systems, database and server software that have been developed, produced by and licensed from third parties;
• Payment processing. We rely on one or two processors of credit card transactions. If computer systems failures or other problems were to prevent them from processing our credit card transactions, we would experience delays and business disruptions; and
• Shipping. We use one or two primary delivery services to ship our products. Our business would suffer if labor problems or other causes prevented these or any other major carriers from delivering our products for significant time periods. Delays in shipping may subject us to regulatory agencies seeking monetary fines or injunctive relief.

We may not be able to maintain satisfactory relationships with any of the above parties on acceptable commercial terms, and the quality of services that they provide may not remain at the levels needed to enable us to conduct our business effectively.

Customer access to our web site will directly affect the volume of orders and thus affect our revenues. System interruptions may make our web site unavailable or prevent us from fulfilling orders efficiently, reducing the volume of goods we sell and the attractiveness of our products and services. We may need to add hardware and software and further develop and upgrade our existing technology, transaction- processing systems and network infrastructure to accommodate increased traffic on our web site and increased sales volume. We maintain substantially all of our computer and communications hardware at two facilities, in Menlo Park, California and Vancouver, Washington. Our systems and operations could be damaged or interrupted by fire, flood, power loss, telecommunications failure, network break-ins, earthquake and similar events. Our backup systems and disaster recovery plan may not be adequate, and we may not have sufficient business interruption insurance to compensate us for losses from a major interruption. Computer viruses, physical or electronic break-ins, deliberate attempts by third parties to exceed the capacity of our systems and similar disruptions could cause system interruptions, delays and loss of critical data, and could prevent us from providing services and accepting and fulfilling customer orders.

We depend upon the number of visitors who use our web site and the volume of orders we fulfill through our web sites. We use an internally developed system for our web site and several aspects of transaction processing, including billing, shipping and tracking. We may be required to add additional hardware and software and further develop and upgrade our existing technology, transaction-processing systems and network infrastructure to accommodate increased traffic on our web site and increased sales volume through our transaction-processing systems. Any failure to do so may cause unanticipated systems disruptions, slower response times, degradation in levels of customer service, impaired quality and speed of order fulfillment or delays in reporting accurate financial information.

Auctioneering and other laws. Several states have laws that regulate auctions and auction companies within their jurisdiction. Some states may interpret their statutes to apply to our transactions with consumers in such states. The burdens of complying with auctioneering laws could materially increase our cost of doing business. Similarly, states may construe their existing laws governing issues such as property ownership, sales tax, libel and personal privacy to apply to Internet companies servicing consumers within their boundaries. Resolution of whether or how these laws will be applied is uncertain and may take years to resolve.

Consumer protection laws. We could be subject to regulation under consumer protection laws in various states. Several states, including California and Washington, have laws regulating the disclosure of pricing information by wholesalers and comparable businesses. In the future, governments of California, Washington and other states could require additional disclosure in order to comply with other regulations. There are also other federal and state consumer protection laws that may be applied to the sales of goods over the Internet. From time to time, we receive inquiries from federal and state agencies about our advertising, product offerings and product fulfillment practices. The application of federal and state laws may increase our cost of doing business or materially affect the method by which we provide products to our customers.

Tax laws. The tax treatment of the Internet and electronic commerce is currently unsettled. A number of proposals have been made at the federal, state and local level and by certain foreign governments that could impose taxes on the sale of goods and services and certain other Internet activities. Our business may be harmed by the passage of laws in the future imposing taxes or other burdensome regulations on online commerce.

New Internet laws. Due to the increasing popularity and use of the Internet, it is possible that a number of laws and regulations may be adopted with respect to the Internet generally, covering issues such as user privacy, pricing and characteristics and quality of products and services. Similarly, the growth and development of the market for Internet commerce may prompt calls for more stringent consumer protection laws that may impose additional burdens on those companies conducting business over the Internet. The adoption of any additional laws or regulations may decrease the growth of commerce over the Internet, increase our cost of doing business or otherwise harm our business.

We may have to qualify to do business in other jurisdictions. Because our service is available over the Internet in multiple states and foreign countries, and we sell to consumers resident in such states and foreign countries, such jurisdictions may claim that we are required to qualify to do business as a foreign corporation in each of these states and foreign countries. If we fail to qualify as a foreign corporation in a jurisdiction where we are required to do so, we could be subject to taxes and penalties.

Intellectual property rights. Our business activities may infringe upon the proprietary rights of others, and we have in the past received, and may in the future receive, notices from third parties claiming infringement by our software or other aspects of our business. Any of these claims, with or without merit, could result in significant litigation costs and diversion of resources and management attention, and could require us to enter into royalty and licensing agreements (which may not be available on terms acceptable to us or at all). Successful litigation could result in invalidation of our proprietary rights or significant liability for damages, which could harm our business.

Products liability and consumer protection. Our sale of products through our web sites subjects us to federal and state consumer protection laws, and could subject us to product liability claims. States and other jurisdictions may interpret their products liability or consumer protection laws to apply to Internet commerce providers such as us that enter into transactions with their residents. While we carry liability insurance, this may not be adequate to compensate for substantial claims, and these claims, or changes to our business practices that are required by or penalties resulting from such laws, could have a harmful effect on our business.

Liability for information transmitted over our online services. The law relating to the liability of online services companies for information carried on or disseminated through our services is currently unsettled. Claims could be made against us under both United States and foreign law for defamation, libel, invasion of privacy, negligence, copyright or trademark infringement, or other theories based on the nature and content of the materials disseminated through our services. Several private lawsuits seeking to impose such liability on other online services companies are currently pending. In addition, legislation has been proposed that imposes liability for or prohibits the transmission over the Internet of certain types of information. The potential imposition of liability on online services companies for information carried on or disseminated through their services could require us to alter our service offerings.

The market price of the shares of our common stock has been, and we expect it to continue to be, subject to wide fluctuations in response to several factors, such as:

• actual or anticipated variations in our results of operations;
• announcements of technological innovations;
• new sales formats, services or product introductions by us or our competitors;
• developments with respect to patents, copyrights or proprietary rights;
• changes in financial estimates by securities analysts; and
• conditions and trends in the Internet and electronic commerce industries.

The stock markets generally, and the Nasdaq National Market in particular, have experienced extreme price and volume fluctuations that have particularly affected the market prices of equity securities of many technology companies and that often have been unrelated or disproportionate to the operating performance of such companies. These market fluctuations, as well as general economic, political and market conditions such as recessions, interest rates or international currency fluctuations, may adversely affect the market price of our common stock. In the past, stockholders have instituted securities class action litigation against several companies following periods of volatility in the market price of their securities. Such litigation, if instituted against us, could result in diversion of our management's attention and resources and substantial financial costs.

The table below presents principal (or notional) amounts and related weighted average interest rates by year of maturity for our investment portfolio.

(In thousands, except interest rates)

We also have market risk related to our long-term debt obligation, which matures in 2002. The principal amount of this obligation is $2.0 million and has a variable rate of interest which is equal to the prime rate of the Dai-ichi Kangyo Bank in Tokyo, Japan. At September 30, 2000 this prime rate was 1.5%.

From time to time, we are subject to litigation in the ordinary course of our business. We believe that none of the currently pending litigation will have a material adverse effect on our business, results of operations or financial condition.

Not applicable.

Not applicable.

Not applicable.

Not applicable.

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

EGGHEAD.COM, INC.

Date: November 14, 2000 By: /s/ John E. Labbett

John E. Labbett

Executive Vice President and Chief Financial Officer