IMPROVENET INC, 10-Q, 2000-11-14

IMPROVENET INC
10-Q, 2000-11-14
BUSINESS SERVICES, NEC

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

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

FORM 10-Q

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

THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000

COMMISSION FILE NUMBER 000-29927

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

IMPROVENET, INC.

(Exact name of registrant as specified in its charter)

<TABLE>
<S> <C>
DELAWARE 77-0452868
(State or other jurisdiction of (I.R.S. employeridentification number)
incorporation or organization)
</TABLE>

720 BAY ROAD, SUITE 200
REDWOOD CITY, CA 94063-2469
(Address of principal executive offices)

(650) 701-8000
(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. Yes /X/ No / /

The number of shares outstanding of the registrant's common stock, $.001 par
value, was 16,865,650 as of October 31, 2000

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<PAGE>
IMPROVENET, INC.

FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 2000

INDEX

<TABLE>
<CAPTION>
PAGE
--------
<S> <C> <C>
PART I FINANCIAL INFORMATION

Item 1 Financial Statements:

Condensed Consolidated Balance Sheets as of September 30,
2000 and December 31, 1999.................................. 3

Condensed Consolidated Statements of Operations for the
three and nine months ended September 30, 2000 and 1999..... 4

Condensed Consolidated Statements of Cash Flows for the nine
months ended September 30, 2000 and 1999.................... 5

Notes to Condensed Consolidated Financial Statements........ 6

Item 2 Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 13

Item 3 Quantitative and Qualitative Disclosures About Market
Risk........................................................ 31

PART II OTHER INFORMATION

Item 2 Changes in Securities and Use of Proceeds................... 32

Item 6 Exhibits and Reports on Form 8-K............................ 32

SIGNATURES............................................................. 33
</TABLE>

2
<PAGE>
PART I--FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

IMPROVENET, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
($ IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
SEPTEMBER 30,
2000 DECEMBER 31,
(UNAUDITED) 1999
-------------- ------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................. $40,056 $45,291
Accounts receivable, net.................................. 2,780 1,023
Prepaid expenses and other current assets................. 3,101 1,141
------- -------
Total current assets.................................... 45,937 47,455

Property and equipment, net................................. 4,747 1,970
Note receivable, related party.............................. 1,416 250
Other assets................................................ 1,105 1,867
------- -------
Total assets............................................ $53,205 $51,542
======= =======

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities.................. $ 9,253 $ 7,472
Deferred revenue.......................................... 196 92
------- -------
Total current liabilities............................... 9,449 7,564

Other long-term liabilities................................. 77 116
------- -------
Total liabilities....................................... 9,526 7,680
------- -------

STOCKHOLDERS' EQUITY
Convertible preferred stock, $0.001 par value:
Authorized: 5,000,000 shares
Issued and outstanding: none in 2000, 11,382,694 shares in
1999.................................................... -- 12
Common stock, $0.001 par value:
Authorized: 100,000,000 shares
Issued and outstanding: 16,863,650 shares in 2000 and
2,336,616 shares in 1999................................ 17 2
Additional paid-in capital.................................. 145,790 108,656
Notes receivable from stockholders.......................... (556) (633)
Unearned stock-based compensation........................... (13,786) (22,208)
Accumulated deficit......................................... (87,786) (41,967)
------- -------
Total stockholders' equity.............................. 43,679 43,862
------- -------
Total liabilities and stockholders' equity.............. $53,205 $51,542
======= =======
</TABLE>

See accompanying notes.

3
<PAGE>
IMPROVENET, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
($ IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER SEPTEMBER
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
(UNAUDITED)
<S> <C> <C> <C> <C>
Revenues:
Service revenues................................... $ 1,277 $ 312 $ 3,332 $ 719
Marketing revenues................................. 778 268 2,034 566
-------- -------- -------- --------
Total revenues................................... 2,055 580 5,366 1,285
Cost of revenues:
Cost of service revenues (excludes stock-based
compensation of $146, $169, $503 and $297)....... 1,409 638 3,725 1,091
Cost of marketing revenues (excludes stock-based
compensation of $57, $34, $214 and $62).......... 107 158 282 307
-------- -------- -------- --------
Total cost of revenues........................... 1,516 796 4,007 1,398
-------- -------- -------- --------
Gross profit (loss) 539 (216) 1,359 (113)
Operating expenses:
Sales and marketing (excludes stock-based
compensation of $1,256, $681, $4,414 and $923)... 9,759 8,870 32,719 14,363
Product development (excludes stock-based
compensation of $6, $26, $(44) and $37).......... 1,006 151 4,150 417
General and administrative (excludes stock-based
compensation of $(187), $550, $652 and $1,516)... 2,240 719 6,612 1,491
Stock-based compensation........................... 1,278 1,460 5,739 2,835
-------- -------- -------- --------
Total operating expenses......................... 14,283 11,200 49,220 19,106
-------- -------- -------- --------
Loss from operations................................. (13,744) (11,416) (47,861) (19,219)
Interest and other income (expense), net............. 817 138 2,042 324
-------- -------- -------- --------
Net loss............................................. (12,927) (11,278) (45,819) (18,895)
Accretion of mandatorily redeemable convertible
preferred stock.................................... -- -- -- (239)
-------- -------- -------- --------
Net loss attributable to common stockholders....... $(12,927) $(11,278) $(45,819) $(19,134)
======== ======== ======== ========
Basic and diluted net loss per common share.......... ($ 0.79) ($ 7.12) ($ 3.68) ($ 12.87)
======== ======== ======== ========
Shares used in calculating basic and diluted net loss
per common share................................... 16,446 1,585 12,467 1,487
======== ======== ======== ========
</TABLE>

See accompanying notes.

4
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IMPROVENET, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
($ IN THOUSANDS)

<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
-------------------
2000 1999
-------- --------
(UNAUDITED)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $(45,819) $(18,895)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization........................... 907 79
Allowance for doubtful accounts......................... 792 40
Amortization of stock-based compensation................ 5,991 2,835
Other -- 9
Changes in operating assets and liabilities:
Accounts receivable..................................... (2,549) (569)
Prepaid expenses and other current assets............... (2,043) (3,060)
Other assets............................................ 474 (27)
Accounts payable and accrued liabilities................ 1,781 5,335
Deferred revenue........................................ 104 121
Other long-term liabilities............................. (39) 104
-------- --------
Net cash used in operating activities................. (40,401) (14,028)
-------- --------

CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment....................... (3,473) (979)
Restricted cash........................................... (7) (400)
Issuance of note receivable to related party.............. (1,000) (500)
Payments for acquisition of CRS........................... -- (546)
-------- --------
Net cash used in investing activities................. (4,480) (2,425)
-------- --------

CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from the issuance of common stock, net of
offering costs.......................................... 39,075 --
Proceeds from the issuance of preferred stock, net........ -- 38,172
Proceeds from exercise of stock options................... 566 31
Repayment of stockholder notes receivable................. 5 2
Principal payments under lines of credit.................. -- (335)
-------- --------
Net cash provided by financing activities............. 39,646 37,870
-------- --------
Net increase in cash and cash equivalents................... (5,235) 21,417
Cash and cash equivalents, beginning of period.............. 45,291 1,676
-------- --------
Cash and cash equivalents, end of period.................... $ 40,056 $ 23,093
======== ========
</TABLE>

See accompanying notes.

5
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IMPROVENET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. FORMATION AND BUSINESS OF THE COMPANY

ImproveNet, Inc. (the "Company") (formerly Netelligence, Inc.) was
incorporated in California in January 1996 and reincorporated in Delaware in
September 1998. The Company is a source for home improvement information and
services on the Internet. Through its IMPROVENET.COM and IMPROVENETPRO.COM Web
sites, matching services and targeted advertising, the Company is creating a
national marketplace for home improvement products and services in which
homeowners, service providers and suppliers of home improvement products and
related services benefit from an organized and efficient online flow of
information and communication. The Company generates quality job leads for
architects, designers and contractors, or service providers, from interested
homeowners within their geographic area using its proprietary matching service.
The Company's online features are complemented by personal assistance from a
professional staff of personal project advisors and regional and area managers
who offer support throughout each phase of the home improvement process.
stock were converted to warrants to purchase an equivalent number of shares of
the Company's common stock.

2. BASIS OF PRESENTATION

The accompanying interim condensed consolidated financial statements as of
September 30, 2000 and for the three and nine months ended September 30, 2000
and 1999 are unaudited. The unaudited interim condensed consolidated financial
statements have been prepared on the same basis as the annual consolidated
financial statements and, in the opinion of management, reflect all adjustments,
which are of a normal recurring nature, necessary to present fairly the
Company's financial position as of September 30, 2000, results of operations for
the three and nine months ended September 30, 2000 and 1999, and cash flows for
the nine months ended September 30, 2000 and 1999. The Company's results for an
interim period are not necessarily indicative of the results that may be
expected for the year.

Although the Company believes that all adjustments necessary for a fair
presentation of the interim periods presented are included and that the
disclosures are adequate, these condensed consolidated financial statements and
notes thereto are unaudited and should be read in conjunction with the audited
consolidated financial statements and notes thereto for the year ended
December 31, 1999 included in the Company's Prospectus filed with the Securities
and Exchange Commission on March 15, 2000.

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

NET LOSS PER COMMON SHARE

Basic net loss per common share is computed by dividing the net loss
attributable to common stockholders for the period by the weighted average
number of common shares outstanding during the period. Diluted net loss per
common share is computed by dividing the net loss attributable to common
stockholders for the period by the weighted average number of common and common
equivalent shares outstanding during the period. Common equivalent shares,
composed of common shares issuable upon the exercise of stock options and
warrants and upon conversion of convertible preferred stock, are included in the
diluted net loss per common share calculation to the extent these shares are
dilutive. A

6
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IMPROVENET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
reconciliation of the numerator and denominator used in the calculation of basic
and diluted net loss per common share follows (in thousands, except per share
amounts):

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Numerator
Net loss attributable to common stockholders....... $(12,927) $(11,278) $(45,819) $(19,134)
-------- -------- -------- --------
Denominator
Weighted average common shares..................... 16,809 1,585 12,961 1,487
Weighted average unvested common shares subject to
repurchase....................................... (363) -- (494) --
-------- -------- -------- --------
Denominator for basic and diluted calculation...... 16,446 1,585 12,467 1,487
-------- -------- -------- --------
Basic and diluted net loss per common share........ $ (0.79) $ (7.12) $ (3.68) $ (12.87)
======== ======== ======== ========
</TABLE>

Proforma net loss per share has been computed as described above except that
it assumes the conversion of preferred stock outstanding into common stock from
the date of original issuance. A reconciliation of the numerator and denominator
used in the calculation of basic and diluted pro forma net loss per common share
follows (in thousands, except per share amounts):

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Numerator
Net loss attributable to common stockholders....... $(12,927) $(11,278) $(45,819) $(19,134)
-------- -------- -------- --------
Denominator
Weighted average common shares..................... 16,809 1,585 12,961 1,487
Adjustment to reflect the assumed conversion of
preferred stock.................................. -- 7,164 3,075 5,696
Weighted average unvested common shares subject to
repurchase....................................... (363) -- (494) --
-------- -------- -------- --------
Denominator for proforma basic and diluted
calculation...................................... 16,446 8,749 15,542 7,183
-------- -------- -------- --------
Basic and diluted pro forma net loss per common
share............................................ $ (0.79) $ (1.29) $ (2.95) $ (2.66)
======== ======== ======== ========
</TABLE>

Options and warrants to purchase approximately 1.8 million and approximately
1.6 million shares were outstanding as of September 30, 2000 respectively.

MULTI-YEAR COMMERCIAL CONTRACTS

Commencing in September 1999, the Company has entered into multi-year
commercial contracts, some of which are with related parties. These commercial
contracts generally provide marketing services that include a mix of banners and
button advertising, SmartLeads and other marketing services, including
FIND-A-CONTRACTOR or POWERED BY IMPROVENET, plus a continuous presence, as
defined, on the Company's Web sites for a fixed annual fee. These commercial
contracts are for periods ranging between 2 and 12 years, including renewal
options. These commercial contracts also include

7
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IMPROVENET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
cooperative marketing arrangements under which the Company is obligated to fund,
as defined, co-operative marketing expenditures on television and in the print
media, with the commercial party. Most commercial contracts provide for the
Company to spend 50% to 100% of the fees the Company expects to receive. In
return, the Company expects to receive significant marketing benefits including
better advertising rates, stronger brand recognition, and access to customer
databases, direct mail inserts and marketing resources--all designed to generate
more traffic to its sites and jobs to its proprietary matching services.

As the Company does not have an established historical practice of selling
advertising for cash for similar multi-year commercial contracts, the Company
has not assigned any value to the exchange of services or barter element of
these transactions and accordingly, the Company has not recorded either revenue
or sales and marketing expense for the barter element. However, some of these
multi-year commercial contracts do generate an overall net cash component to the
Company, and in these cases, the Company has recorded revenue based on the cash
received or receivable under the contract, net of the obligation, if any, to
reimburse the commercial party for the cooperative marketing services. These
revenues are recognized over the term of the commercial contract once
advertising and other services have been delivered to the commercial party and
collection of the resulting net receivable is deemed probable.

Furthermore, in connection with certain of these multi-year commercial
contracts, the Company also issued warrants to purchase shares of the Company's
common stock to the commercial parties. These warrants have been valued by the
Company using the Black-Scholes option pricing model. As the fair value of these
warrants represent an additional rebate on the revenue otherwise recorded under
the contracts, the amortization of the warrants is further netted against this
revenue over the term of the respective commercial contract. To the extent that
there is insufficient revenues, the remaining amortization of warrant
stock-based compensation is expensed and characterized as sales and marketing
expense.

As a result, for the three months ended September 30, 2000, the Company has
not recognized revenue of $712,000 which represents $84,000 of warrant
stock-based compensation amortization and $628,000 for the barter element
amounts of these commercial contracts. For the nine months ended September 30,
2000, the Company has not recognized revenue of approximately $2.1 million which
represents $252,000 of warrant stock-based compensation amortization and
approximately $1.9 million for the barter element amounts of these commercial
contracts. For the three and nine months ended September 30, 1999, the Company
has not recognized revenue of $63,000 for the barter element amounts of these
contracts.

Revenues may be analyzed as follows ($ in thousands):

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Service revenues..................................... $1,277 $312 $3,332 $ 719
Amounts invoiced under marketing and multi-year
commercial Contracts............................... 1,490 331 4,165 629
------ ---- ------ ------
2,767 643 7,497 1,348
Amounts invoiced and accrued under multi-year
commercial contracts with related parties.......... (628) (63) (1,879) (63)
Amortization of warrant stock-based compensation..... (84) -- (252) --
------ ---- ------ ------
Revenues............................................. $2,055 $580 $5,366 $1,285
====== ==== ====== ======
</TABLE>

8
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IMPROVENET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Revenues are reported in the statements of operations net of the amounts
invoiced and accrued under the multi-year commercial contracts with related
parties and after amortization of any warrant stock-based compensation as
follows ($ in thousands):

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Service revenues..................................... $1,277 $312 $3,332 $ 719
Marketing revenues................................... 778 268 2,034 566
------ ---- ------ ------
Total revenues..................................... $2,055 $580 $5,366 $1,285
====== ==== ====== ======
</TABLE>

During the three and nine months ended September 30, 2000, the Company has
recorded total revenues of $203,000 and $594,000, or 10% and 11% of total
revenues, respectively, under its multi-year commercial contract with Owens
Corning. Additionally, as of September 30, 2000, the Company had an outstanding
receivable of $406,000 due from Owens Corning. On October 5, 2000, Owens Corning
voluntarily filed for reorganization under Chapter 11 of the U.S. Bankruptcy
Code. Accordingly, the Company has recognized a bad debt expense of $365,000,
assuming a 10% recovery, against amounts owed by Owens Corning which is included
in general and administrative expenses. The Company anticipates that Owens
Corning will have funds available to fulfill its future obligations to the
Company, including payment under normal terms.

4. STOCK-BASED COMPENSATION

In connection with the granting of stock options to its employees and
certain non-employees, the Company has recorded stock-based compensation which
is included as a component of stockholders' equity and is being amortized by
charges to operations over the vesting period of the related options on an
accelerated basis. The amortization of the remaining deferred stock-based
compensation at September 30, 2000 will result in additional charges to
operations through the year ended December 31, 2003. Future compensation charges
would be reduced if any employee terminates employment prior to the expiration
of the option vesting period. During the nine months ended September 30, 2000,
certain employees terminated their employment with the Company. As a result,
$775,000 and approximately $1.3 million of previously recognized stock-based
compensation expense associated with unvested options was reversed in the three
and nine months ended September 30, 2000, respectively. Additionally, the
unamortized portion of the deferred stock-based compensation charges relating to
these terminated employees in the amount of approximately $1.1 million and
$492,000 for the three and nine months ended September 30, 2000, respectively,
was reversed, with a corresponding adjustment to additional paid-in-capital. The
amortization of stock-based compensation is classified as a separate component
of operating expenses in the Company's statement of operations.

5. RELATED PARTY TRANSACTIONS

In April 2000, the Company advanced, pursuant to a loan agreement,
$1.0 million to Ronald B. Cooper, the Company's chairman and chief executive
officer. The loan is collateralized pursuant to a pledge agreement for all
shares Mr. Cooper currently holds or acquires in the future pursuant to stock
option agreements. The loan bears interest payable at a rate of 6.46% per annum
and is due no later

9
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IMPROVENET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

5. RELATED PARTY TRANSACTIONS (CONTINUED)
than April 30, 2001. At September 30, 2000, approximately $1.5 million,
including interest of $61,000, was outstanding under the loan.

6. ACQUISITIONS

On September 9, 1999, the Company completed the acquisition of all the
assets and business of Contractor Referral Services, LLC ("CRS"), which operated
a toll-free telephone contractor referral service. The total acquisition cost
was $650,000 and consisted of a cash payment of $550,000 and a holdback of
$100,000 retained by the Company. The acquisition was accounted for using the
purchase method. Accordingly, the result of operations for CRS has been included
in the Company's consolidated statement of operations only from the date of
acquisition. At September 30, 2000, the $100,000 holdback was included in other
long-term liabilities as it is not payable until 2001.

The purchase price was allocated to the acquired assets based on fair values
as follows ($ in thousands):

<TABLE>
<S> <C>
Accounts receivable and other assets........................ $ 64
Licensing right............................................. 125
Non-competition agreement................................... 50
Goodwill.................................................... 411
----
$650
====
</TABLE>

On November 1, 1999, the Company acquired all of the outstanding shares of
The J.L. Price Corporation, a regional contractor referral service, incorporated
in California. The total acquisition cost was $249,000. The acquisition was
accounted for using the purchase method. Accordingly, the results of operations
for The J.L. Price Corporation have been included in the Company's consolidated
statement of operations only from the date of acquisition.

The purchase price was allocated to the acquired assets and liabilities
based on fair values as follows ($ in thousands):

<TABLE>
<S> <C>
Current liabilities......................................... $(107)
Non-competition agreement................................... 100
Goodwill.................................................... 256
-----
$ 249
=====
</TABLE>

The following unaudited pro forma consolidated financial information
presents the combined results of operations of the Company, CRS, and the J.L.
Price Corporation as if the acquisitions had occurred on January 1, 1999, after
giving effect to certain adjustments, principally amortization of goodwill and
non-compete agreements. This unaudited pro forma consolidated financial
information

10
<PAGE>
IMPROVENET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

6. ACQUISITIONS (CONTINUED)
does not necessarily reflect the results of operations that would have occurred
had the acquisitions been completed on January 1, 1999 (in thousands, except per
share amounts).

<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30, 1999
-------------------
<S> <C>
Revenues.................................................... $ 2,031
Net loss attributable to common stockholders................ (19,494)
Basic and diluted net loss per common share................. (13.11)
</TABLE>

7. SUBSEQUENT EVENTS

In October 2000, the board of directors of the Company approved a Restricted
Share Grant Program. Under the terms of this program, all employees holding
vested and unvested options have the right to exchange their options for shares
of the Company's common stock on a predetermined exchange ratio. The maximum
number of shares to be issued in exchange for outstanding options is 866,000.
Shares issued in exchange for vested options are fully vested at date of grant.
Shares issued in exchange for unvested shares are restricted and will vest in
equal installments every three months over a 15-month period from date of grant.
An option holder must be employed by the Company on the date of grant, which is
currently set for December 5, 2000, to be eligible to participate in this
program. In connection with this program, there will be no additional
compensation charge or change to the amortization charge.

Additionally, the board of directors approved the forgiveness of amounts due
under promissory notes in the amount of $556,000 plus interest of $26,000 from
certain officers and employees in connection with their exercise of stock
options. As a result of the foregiveness of the promissory notes, an additional
expense of $582,000 will be recorded in the fourth quarter of 2000.

8. RECENT ACCOUNTING PRONOUNCEMENTS

In June 1998, SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities," was issued. SFAS No. 133 establishes accounting and
reporting standards for derivative financial instruments and hedging activities
related to those instruments, as well as other hedging activities. The Company
does not currently hold any derivative instruments and does not engage in
hedging activities. The Company will be required to adopt SFAS No. 133 for the
year ending December 31, 2001. Management does not expects that the adoption of
SFAS No. 133 will have a material impact on the Company's financial position,
results of operations or cash flows.

In December 1999, the SEC issued Staff Accounting Bulletin No. 101, "Revenue
Recognition" ("SAB 101"). SAB 101 provides the SEC Staff's views in applying
generally accepted accounting principles to selected revenue recognition issues.
The guidance in SAB 101 must be implemented by the Company during its fourth
fiscal quarter of fiscal 2000. The Company believes it is in compliance with the
guidelines provided in SAB 101, and thus, management believes that the adoption
of SAB 101 will not significantly affect its results of operations.

11
<PAGE>
IMPROVENET, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

8. RECENT ACCOUNTING PRONOUNCEMENTS (CONTINUED)
qualifies as a noncompensatory plan, (c) the accounting consequences of various
modifications to the terms of a previously fixed stock option 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 cover
specific events that occur after either December 15, 1988, or January 12, 2000.
The adoption of certain provisions of FIN 44 prior to September 30, 2000 did not
have a material impact on the financial statements.

In March 2000, the Emerging Issues Task Force issued No. 00-02 "Accounting
for Web Site Development Costs" ("EITF 00 -02"). EITF 00-02 is effective for all
fiscal quarters beginning after June 30, 2000. EITF 00-02 discusses the
capitalization criteria regarding web site development costs. The Company will
adopt EITF 00-02 in its quarter ending September 30, 2000 and does not expect
such adoption to have a significant impact on the Company's results of
operations, financial position or cash flows.

In May 2000, the Emerging Issues Task Force released Issue No. 00-14
"Accounting for Certain Sales Incentives" ("EITF 00-14"), which provides
guidance on the accounting for certain sales incentives offered by companies to
their customers such as discounts, coupons, rebates and products or services.
EITF 00-14 is effective for all fiscal quarters beginning after May 18, 2000 and
addresses the recognition, measurement and income statement classification for
sales incentives offered voluntarily by a vendor without charge to customers
that can be used in, or that are exercisable by a customer as a result of a
single exchange transaction. The provisions of EITF 00-14 will require the
Company to classify free product and service incentives delivered to customers
at the time of sale as cost of sales in its consolidated statement of
operations. Management does not believe the adoption of EITF 00-14 will have a
significant impact on the Company's results of operations, financial position or
cash flows.

12
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

OVERVIEW

ImproveNet, Inc. is a source for home improvement information and services
using the Internet. Through our IMPROVENET.COM and IMPROVENETPRO.COM Web sites,
matching services and targeted advertising, we are creating a national
marketplace for home improvement products and services in which homeowners,
service providers and suppliers of home improvement products and related
services benefit from an organized and efficient online flow of information and
communication. We generate quality job leads for architects, designers and
contractors, or service providers, from interested homeowners within their
geographic area, using our proprietary matching service. Our online features are
complemented by personal assistance from professional staff of personal project
advisors and regional and area managers who offer support throughout each phase
of the home improvement process.

Our business started in January 1996 as a regional contractor matching
service, and we spent most of 1996 and 1997 building our service provider
database, developing new services and technology, recruiting personnel and
raising capital. We launched our Web site and homeowner/service provider
matching service on a national scale in August 1997. In December 1998, we began
selling Web site marketing services, including advertising on our Web site and
SmartLeads direct marketing, a way for suppliers of home improvement products to
send targeted messages about their products, including product promotions, to
homeowners at the time of purchase, and to our network of service providers. In
March 1999, we began to hire our new senior management team, including our chief
executive officer. In April 1999, we expanded our marketing services to include
POWERED BY IMPROVENET, a service that allows third parties to offer the
ImproveNet matching services and content on their Web sites, for national
suppliers of home improvement and repair products. We completed the acquisition
of two regional contractor referral companies, Contractor Referral Service, LLC
in September 1999 and The J.L. Price Corporation, in November 1999. In
November 1999, we launched our customized Web site, WWW.IMPROVENETPRO.COM, for
our network of service providers.

REVENUES

We generate substantially all of our revenues from service provider
(contractors, architects and designers) referral fees and from marketing
services provided to other companies, either on our Web site or through their
Web site(s). The following table and discussion highlights our revenues for the
three and nine months ended September 30, 2000 and 1999 ($ in thousands):

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------------------------- -----------------------------------------
2000 1999 2000 1999
------------------- ------------------- ------------------- -------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues:
Service Revenues............... $1,277 62% $312 54% $3,332 62% $ 719 56%
Marketing Revenues............. 778 38% 268 46% 2,034 38% 566 44%
------ --- ---- --- ------ --- ------ ---
Total Revenues................. $2,055 100% $580 100% $5,366 100% $1,285 100%
====== === ==== === ====== === ====== ===
</TABLE>

SERVICE REVENUES

We generate service revenues primarily in the form of lead fees and win fees
from our service providers and, to a much lesser extent, in the form of
enrollment fees from service providers and

13
<PAGE>
premium service fees from homeowners. The following table details the components
of service revenues, based on a percentage of service revenues:

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Lead Fees.................................... 33% 27% 32% 37%
Win Fees..................................... 62 66 64 56
Enrollment Fees.............................. 5 6 4 6
Premium Service Fees......................... -- 1 -- 1
--- --- --- ---
Total Service Revenues....................... 100% 100% 100% 100%
=== === === ===
</TABLE>

From inception through October 1999, we charged our service providers lead
fees ranging from $6 to $10 per lead. In November 1999, we standardized our lead
fees at $10 per lead for all jobs. The win fees that we charge our service
providers depend on project size and range from 2% to 10% of the estimated cost
of the job, up to a maximum of $995 per job. We charge each new service provider
who passes our quality screens an enrollment fee of $90 to join our national
network; however, in the past we have often discounted or waived this fee. Our
revenue from premium service fees, consisting of fees charged to homeowners for
bid and contract assessment services and legal/credit reports on contractors
outside the ImproveNet database, has also been negligible.

Lead fee revenues are recognized at the time the service providers and the
homeowner are first matched, while win fee revenues are recognized at the time
the service provider or the homeowner notifies us that a job has been sold. For
both lead fees and win fees, the recognition of revenues coincides with the
service providers' obligation to pay us.

The revenues we generate from lead and win fees are largely a function of:

- the number of job submissions;

- the effectiveness in finding a service provider or match for each job
submission;

- the success of the service provider to win a job; and

- the amount we charge the service provider for a lead or a win.

The following table provides information on some of our key business metrics
(#'s in thousands):

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
KEY METRIC 2000 1999 2000 1999
---------- -------- -------- -------- --------
<S> <C> <C> <C> <C>
Job submissions.............................. 41 30 106 84
Matched jobs................................. 31 12 76 29
Won jobs..................................... 3.2 1.1 8.4 2.2
Matched jobs as a % of job submissions....... 76% 40% 72% 35%
Won jobs as a % of job submissions........... 8% 4% 8% 3%
</TABLE>

Revenues from new service provider enrollment fees are recognized as revenue
ratably over the expected period service providers participate in our contractor
matching service, which is initially estimated to be between one and two years.
Revenues from premium service fees to homeowners are recognized at the time the
service is provided.

14
<PAGE>
MARKETING REVENUES

We generate marketing revenues from the sale of advertising on our Web
sites, from the sale of SmartLeads on jobs submitted by homeowners and from the
sale of FIND-A-CONTRACTOR or POWERED BY IMPROVENET products in commercial
agreement products and services. Our marketing revenues come primarily from
suppliers of home improvement products. Currently marketing revenues include
both advertising paid for in cash, and advertising paid for by way of barter,
and multi-year commercial contracts.

Advertisers pay us to display their banner, button and other advertisements
on the Web pages we serve when a user is visiting our Web sites. Our branding
revenues historically have been derived from short-term advertising contracts
based on either a guaranteed minimum number of impressions or a fixed fee per
thousand impressions. Revenues from banner, button and other marketing
activities are largely a function of:

- the number of Web pages that we serve;

- the percentage of those pages on which we are able to sell advertisements;
and

- the amount we charge per advertisement.

Currently branding revenues are comprised of:

- advertising paid for in cash; and

- advertising paid for by way of barter.

CASH ADVERTISING. Cash advertising revenues generally are derived from
short-term advertising contracts in which we typically guarantee that a minimum
number of impressions will be delivered to our Web site visitors over a
specified period of time for a fixed fee. Cash advertising revenues from banner,
button and other Web site advertisements are recognized at the lesser of the
amount recorded ratably over the period in which the advertising is delivered or
the percentage of guaranteed impressions delivered. SmartLeads are also paid for
in cash and revenues are recognized when the SmartLeads have been delivered to
the customer. Cash advertising is recognized when we have delivered the
advertising, evidence of an agreement is in place and fees are fixed,
determinable and collectible. For the three months ended September 30, 2000,
cash advertising totaled $256,000 and accounted for approximately 12% of our
total revenues. For the three months ended September 30, 1999, cash advertising
totaled $224,000 and accounted for approximately 39% of our total revenues. For
the nine months ended September 30, 2000, cash advertising totaled $673,000 and
accounted for approximately 13% of our total revenues. For the nine months ended
September 30, 1999, cash advertising totaled $402,000 and accounted for
approximately 31% of our total revenues.

BARTER ADVERTISING. Barter advertising is recognized in accordance with
EITF No. 99-17, "Accounting for Advertising Barter Transactions," which we
adopted in 1999. Under EITF No. 99-17, we record advertising transactions at
fair value only when we have an established historical practice of selling
similar advertising for cash. The characteristics of the advertising that must
be similar include the duration of the display of the advertising, the
prominence and positioning of the advertising, the intended audience, the timing
of the advertising and its circulation.

SHORT-TERM BARTER ADVERTISING. Short-term barter advertising results from
the exchange of advertising space on our Web site for reciprocal advertising
space on Web sites of third parties. Marketing revenues and sales and marketing
expenses arising from these transactions are recorded at fair value as we have
an established historical practice of receiving cash for similar short-term
advertising. In 1999, we engaged in short-term barter advertising and recorded
revenues of $34,000 for the three months ended September 30, 1999, which
represented approximately 6% of our total revenues, and revenues of $154,000 for
the nine months ended September 30, 1999, which represented

15
<PAGE>
approximately 12% of our total revenues. Sales and marketing expenses arising
from these barter transactions are recognized when the advertisements are
delivered on the reciprocal Web site, which is typically the same period in
which advertisements are delivered on our Web site. We did not engage in any
short-term barter advertising during the three and nine months ended
September 30, 2000.

MULTI-YEAR COMMERCIAL CONTRACTS. Commencing in September 1999, the Company
has entered into multi-year commercial contracts, some of which are with related
parties. These commercial contracts generally provide marketing services that
include a mix of banners and button advertising, SmartLeads and other marketing
services, including FIND-A-CONTRACTOR or POWERED BY IMPROVENET, plus a
continuous presence, as defined, on the Company's Web sites for a fixed annual
fee. These commercial contracts are for periods ranging between 2 and 12 years,
including renewal options. These commercial contracts also include cooperative
marketing arrangements under which the Company is obligated to fund, as defined,
co-operative marketing expenditures on television and in the print media, with
the commercial party. Most commercial contracts provide for the Company to spend
50% to 100% of the fees the Company expects to receive. In return, the Company
expects to receive significant marketing benefits including better advertising
rates, stronger brand recognition, and access to customer databases, direct mail
inserts and marketing resources--all designed to generate more traffic to its
sites and jobs to its proprietary matching services.

As the Company does not have an established historical practice of selling
advertising for cash for similar multi-year commercial contracts, the Company
has not assigned any value to the exchange of services or barter element of
these transactions and accordingly, the Company has not recorded either revenue
or sales and marketing expense for the barter element. However, some of these
multi-year commercial contracts do generate an overall net cash component to the
Company, and in these cases, the Company has recorded revenue based on the cash
received or receivable under the contract, net of the obligation, if any, to
reimburse the commercial party for the cooperative marketing and other marketing
services. These revenues are recognized over the term of the commercial contract
once advertising and other services have been delivered to the commercial party
and collection of the resulting net receivable is deemed probable.

Furthermore, in connection with certain of these multi-year commercial
contracts, the Company also issued warrants to purchase shares of the Company's
common stock to the commercial parties. These warrants have been valued by the
Company using the Black Scholes option pricing model. As the fair value of these
warrants represent an additional rebate on the revenue otherwise recorded under
the contracts, the amortization of the warrants is further netted against this
revenue over the term of the respective commercial contract. To the extent that
there is insufficient revenues, the remaining amortization of warrant
stock-based compensation is expensed and characterized as sales and marketing
expense.

As a result, for the three months ended September 30, 2000, we did not
recognize revenue of $712,000 which represents $84,000 of warrant stock-based
compensation amortization, and $628,000 for the barter element of these
commercial contracts. For the nine months ended September 30, 2000, we did not
recognize revenue of approximately $2.1 million which represents $252,000 of
warrant stock-based compensation amortization, and approximately $1.9 million
for the barter element of these commercial contracts. For the three and nine
months ended September 30, 1999, the Company did not recognize revenue of
$63,000 for the barter element amounts of these contracts.

NET LOSSES

We have incurred substantial losses and negative cash flows from operations
since inception as we have spent substantial amounts primarily on marketing and
other marketing activities, and developing and expanding our services and our
operations infrastructure. As of September 30, 2000, we had an accumulated
deficit of approximately $87.8 million. We intend to continue to invest
substantial amounts in marketing activities, and in the development and
acquisition of new content on our Web site, as well as new products and
technologies; however, we expect the ratio of expenditures to revenues to
decrease. We will continue to lose money unless we significantly increase our
revenues, and we cannot predict with certainty when, if ever, we will operate
profitably.

16
<PAGE>
RESULTS OF OPERATIONS

THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999

REVENUES

Revenues increased to approximately $2.1 million for the three months ended
September 30, 2000 from $580,000 for the three months ended September 30, 1999,
an increase of approximately $1.5 million or 254%. Revenues increased to
approximately $5.4 million for the nine months ended September 30, 2000 from
approximately $1.3 million in the comparable period in 1999, an increase of
approximately $4.1 million or 318%. For the three months ended September 30,
2000, service revenues increased to approximately $1.3 million from $312,000, an
increase of approximately $1.0 million or 309% over the three months ended
September 30, 1999. For the nine months ended September 30, 2000, service
revenues increased to approximately $3.3 million from $719,000, an increase of
approximately $2.6 million or 363% over the nine months ended September 30,
1999. The increase in service revenue is primarily due to an increased number of
visitors to our Web sites, increased job submissions and improvement in the
number of jobs matched and won as a percentage of total job submissions, or our
match and win rates, respectively, which led to increased lead and win fee
revenues. Revenues from new service provider enrollment fees and fees charged to
homeowners for premium services were not significant in either period.

Marketing revenues for the three months ended September 30, 2000 increased
to $778,000 from $268,000, an increase of $510,000 or 190% over the three months
ended September 30, 1999. Our marketing revenues for the three months ended
September 30, 2000 include amounts invoiced under advertising arrangements of
approximately $1.5 million less $712,000 for amounts invoiced and accrued under
commercial contracts with related parties and amortization of warrant
stock-based compensation. Our increase in marketing revenues is primarily due to
signing several multi-year commercial agreements over the past 12 months along
with an increase in short-term advertising contracts.

Marketing revenues for the nine months ended September 30, 2000 increased to
approximately $2.0 million from $566,000, an increase of approximately
$1.5 million or 259% over the nine months ended September 30, 1999. Our
advertising revenues for the nine months ended September 30, 2000 include
amounts invoiced under advertising arrangements of approximately $4.2 million
less approximately $2.1 million for amounts invoiced and accrued under
commercial contracts with related parties and amortization of warrant
stock-based compensation.

There were no adjustments to marketing revenues for the first and second
quarters of 1999.

Revenues may be analyzed as follows ($ in thousands):

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Service revenues............................. $1,277 $312 $3,332 $ 719
Marketing revenues........................... 1,490 331 4,165 629
------ ---- ------ ------
$2,767 643 7,497 1,348
====== ==== ====== ======
Amounts invoiced and accrued under multi-year
commercial contracts with related
parties.................................... (628) (63) (1,879) (63)
Amortization of warrant stock-based
compensation............................... (84) -- (252) --
------ ---- ------ ------
Revenues..................................... $2,055 $580 $5,366 $1,285
====== ==== ====== ======
</TABLE>

17
<PAGE>
OPERATING EXPENSES

COST OF REVENUES. Cost of revenues increased to approximately $1.5 million
or 74% of total revenues for the three months ended September 30, 2000, compared
to $796,000 or 137% of total revenues for the three months ended September 30,
1999. Cost of revenues increased by approximately $2.6 million, or 187%, to
approximately $4.0 million or 75% of total revenues in the nine months ended
September 30, 2000, compared to approximately $1.4 million or 109% of total
revenues for the nine months ended September 30, 1999.

Cost of service revenues consists of payroll and related costs and
occupancy, telecommunications and other administrative costs for our project
service group, which is responsible for all phases of our proprietary matching
services and includes our project advisors. In addition, cost of service
revenues includes an allocation of direct Web site operations costs, consisting
of payroll and related costs, data transmission costs and equipment
depreciation. Cost of service revenues increased by $771,000 to approximately
$1.4 million or 69% of total revenues for the three months ended September 30,
2000 compared to $638,000 or 110% of total revenues for the three months ended
September 30, 1999. Cost of service revenues increased by approximately
$2.6 million to approximately $3.7 million or 69% of total revenues for the nine
months ended September 30, 2000 compared to approximately $1.1 million or 85% of
total revenues for the nine months ended September 30, 1999. The increases in
cost of service revenues are attributable to our investment in the expansion and
staffing of our project services infrastructure in advance of our large
investments to drive volume increases in traffic and jobs to our site. The
increase in cost of service revenues included payroll and related costs,
including recruiting, commensurate with the increase in the number of personal
project advisors, which increased from 40 at September 30, 1999 to 65 at
September 30, 2000. In addition, the increase in cost of service revenues
included facilities and office expenses related to the full build-out, started
in the first quarter of 2000 and completed in July 2000, of our second support
center located in Camarillo, California.

Cost of marketing revenues includes an allocation of direct Web site
operations costs, consisting of payroll and related costs, data transmission
costs and equipment depreciation. Cost of marketing revenues decreased $51,000
to $107,000 or 5% of total revenues for the three months ended September 30,
2000 compared to $158,000 or 27% of total revenues for the three months ended
September 30 1999. Cost of marketing revenues decreased $25,000 to $282,000 or
5% of total revenues of total revenues for the nine months ended September 30,
2000 compared to $307,000 or 24% for the nine months ended September 30, 1999.
These decreases in cost of marketing revenues were primarily attributable to
reduction in personnel assigned to projects related directly to the maintenance
of our Web site.

SALES AND MARKETING. Our sales and marketing expenses include all of our
online and offline direct advertising, public relations and trade show expenses.
Sales and marketing expenses also include payroll and related costs, support
staff expenses, travel costs and other general expenses of our marketing,
professional services and partnership services departments. Sales and marketing
expenses increased by $889,000 to approximately $9.8 million for the three
months ended September 30, 2000 compared to approximately $8.9 million for the
three months ended September 30, 1999. Sales and marketing expenses increased by
approximately $18.4 million to approximately $32.7 million for the nine months
ended September 30, 2000 compared to approximately $14.4 million for the nine
months ended September 30, 1999.

Our direct marketing expenses, primarily offline and online advertising
expenses were approximately $3.4 million for the three months ended
September 30, 2000, and approximately $5.9 million for the three months ended
September 30, 1999. Our direct marketing expenses were approximately
$10.6 million for the nine months ended September 30, 2000, and approximately
$9.3 million for the nine months ended September 30, 1999. At the beginning of
third quarter 2000, we realigned our sales and marketing resources by taking on
more projects internally and negotiating or

18
<PAGE>
transitioning our new or existing multi-year agreements from a high fixed cost
formula to a variable performance-based formula keyed to won jobs.

Our investment in our professional services infrastructure were
approximately $4.8 million for the three months ended September 30, 2000 and
approximately $2.0 million for the three months ended September 30, 1999. Our
investment in our professional services infrastructure were approximately
$14.4 million for the nine months ended September 30, 2000 and approximately
$2.6 million for the nine months ended September 30, 1999. Our professional
service expenses included payroll and related costs, travel and other support
costs including an increased level of travel and related expenses in 2000,
related to market campaigns which is not expected to recur in future periods. We
completed in the second quarter 2000, our full deployment of our professional
services group which now includes a presence in 72 of 75 major markets. The
number of associates in our professional services group increased from 43 at
September 30, 1999 to 135 at September 30, 2000.

Our partnership services group and all other general sales and marketing
expenses were approximately $1.6 million or 78% of total revenues for the three
months ended September 30, 2000 and approximately $1.0 million for the three
months ended September 30, 1999. Our partnership services group and all other
general sales and marketing expenses were approximately $7.7 million for the
nine months ended September 30, 2000, and approximately $2.5 million for the
nine months ended September 30, 1999.

PRODUCT DEVELOPMENT. Our product development costs include the payroll and
related costs of our editorial and technology staffs, fees for contract content
providers, and other costs of Web site design and new technologies required to
enhance the performance of our Web sites. Product development expenses increased
$855,000 to approximately $1.0 million or 49% of total revenues for the three
months ended September 30, 2000 compared to $151,000 or 26% of total revenues
for the three months ended September 30, 1999. Product development expenses
increased approximately $3.7 million to approximately $4.2 million or 77% of
total revenues for the nine months ended September 30, 2000 compared to $417,000
or 32% of total revenues for the nine months ended September 30, 1999. The
increases in product development expenses were primarily attributable to
increased payroll and related costs, recruiting and contract content providers.
We increased the expenses to expand our infrastructure of engineers and
editorial staff to design, test and implement expanded content, new products and
services, and tools including, estimators, visualizers and calculators.

GENERAL AND ADMINISTRATIVE. Our general and administrative expenses include
payroll and related costs and travel, recruiting, professional and advisory
services and other general expenses for our executive, finance and human
resource departments. General and administrative expenses increased
approximately $1.5 million to approximately $2.2 million or 109% of total
revenues for the three months ended September 30, 2000 compared to $719,000 or
124% of total revenues for the three months ended September 30, 1999. General
and administrative expenses increased approximately $5.1 million to
approximately $6.6 million or 123% of total revenues for the nine months ended
September 30, 2000 compared to approximately $1.5 million or 116% of total
revenues for the nine months ended September 30, 1999. The increases in general
and administrative expenses are primarily attributable to salary and related
expenses and our recruiting initiatives in 2000 for additional personnel hired
to support the growth of our businesses, as well as activities as a public
company. We do not expect that in future periods we will be hiring additional
personnel at our historical rate as we have completed our base level of
departmental staffing. The increase in general and administrative expenses for
the third quarter of 2000 includes a bad debt reserve of $365,000 against
amounts owed by Owens Corning.

STOCK-BASED COMPENSATION. Stock-based compensation consists of expenses
associated with the issuance of stock options and warrants. Stock-based
compensation charges decreased by approximately $182,000 million to
approximately $1.3 million or 62% of total revenues for the three months ended

19
<PAGE>
September 30, 2000 compared to approximately $1.5 million or 252% of total
revenues for the three months ended September 30, 1999. Stock-based compensation
charges decreased by approximately $2.9 million to approximately $5.7 million or
107% of total revenues for the nine months ended September 30, 2000 compared to
approximately $2.8 million or 221% of total revenues for the nine months ended
September 30, 1999. During, 2000, certain employees terminated their employment
with the Company. As a result, approximately $775,000 of previously recognized
stock-based compensation expense associated with unvested options was reversed
for the three months ended September 30, 2000 and approximately $1.3 million of
previously recognized stock-based compensation expense associated with unvested
options was reversed for the nine months ended September 30, 2000. Additionally,
the unamortized portion of the deferred stock-based compensation charges
relating to these terminated employees in the amount of approximately
$1.1 million for the three months ended September 30, 2000 and $492,000 for the
nine months ended September 30, 2000, was reversed, with a corresponding
adjustment to additional paid-in-capital. The amortization of stock-based
compensation is classified as a separate component of operating expenses in the
Company's statement of operations.

INTEREST AND OTHER INCOME (EXPENSE), NET

Interest and other income (expense), net increased to $817,000 in the three
months ended September 30, 2000 from $138,000 for the three months ended
September 30, 1999. Interest and other income (expense), net increased to
$2.0 million in the nine months ended September 30, 2000 from $324,000 for the
nine months ended September 30, 1999. The increase in net interest income is
attributable to an increase in our average invested cash balance as a result of
the sale of our preferred stock in March 1999, September 1999 and
December 1999, as well as to the net proceeds received from our initial public
offering in March 2000, and to a lesser extent, the increase in yields on our
invested cash balances.

INCOME TAXES

We have recorded a 100% valuation allowance against our net deferred tax
assets, which arose primarily as a result of our aggregate operating losses. The
valuation allowance will remain at this level until such time as we believe that
the realization of the net deferred tax assets is more likely than not.
Accordingly, our results of operations do not reflect any tax benefits for our
reported losses.

LIQUIDITY AND CAPITAL RESOURCES

Our primary capital needs have been to fund our operating losses, prepay our
large media purchases and make capital expenditures. Since our inception, we
have primarily financed our

20
<PAGE>
operations through private sales of our convertible preferred stock, convertible
notes and common stock. On March 21, 2000, we closed our initial public offering
that generated net cash proceeds of approximately $39.1 million.

Net cash used for operations was approximately $40.4 million for the nine
months ended September 30, 2000, compared to $14.0 million for the nine months
ended September 30, 1999. The increase in net cash used in operating activities
was primarily due to an increase in our net loss after adding back noncash
stock-based compensation and other charges and an increase in accounts
receivable, prepaid expenses and other assets and smaller reductions in accounts
payable and accrued expenses.

Net cash used for investing activities was approximately $4.5 million for
the nine months ended September 30, 2000, compared to approximately
$2.4 million for the nine months ended September 30, 1999. The increase in net
cash used in investing activities was a result of an increase in the purchase of
property and equipment related to new leased facilities, increased personnel and
hardware to support, monitor and control increased traffic and jobs. In
addition, we provided a loan collateralized by our common stock to our chairman
and chief executive officer, in the amount of approximately $1.0 million in 2000
as compared to $500,000 in 1999.

Net cash provided by financing activities increased to approximately
$39.6 million for the nine months ended September 30, 2000, compared to
approximately $37.9 million for the nine months ended September 30, 1999. The
increase was primarily due to the receipt of approximately $39.1 million of net
proceeds from our initial public offering in March 2000 compared to
approximately $38.2 million of net proceeds from the issuance of convertible
preferred stock in March and September1999, which was used, among other things,
to repay $335,000 outstanding under a line of credit.

Our capital requirements depend on numerous factors, including the success
of our strategies for generating revenues and the amount of resources we devote
to investments in our technology, sales, marketing and brand promotion. Our
expenditures have substantially increased since inception as our operations and
staff has grown and we anticipate based on our recent realignment of resources
that our quarterly expenditures will remain relatively flat compared to current
levels experienced in the third quarter of 2000. In addition, we will continue
to evaluate possible investments in businesses, products and technologies
complementary to our existing business. Our capital expenditures for 2000 are
currently estimated to be approximately $3.8 million, including leasehold
improvements for the build-out and furnishing of our Camarillo, California
support center. At September 30, 2000, we had approximately $40.1 million in
available cash resources.

Our limited operating history and operating losses have limited our ability
to obtain vendor credit or extended payment terms and bank financing on
favorable terms; accordingly, we depend on our cash and cash equivalent balances
to fund our operations.

We expect to experience ongoing operating losses for the foreseeable future.
We currently anticipate that our operating expenses, primarily sales and
marketing expenditures, and payroll and related costs will constitute a material
use of future cash resources. We anticipate that our current cash and cash
equivalent balances will be adequate to meet our foreseeable working capital and
operating expense requirements for at least the next 12 months and will strive
to make ongoing realignments, if required, to achieve positive cash flow with
our existing cash resources. We do not currently have any plans for a follow-on
public offering nor do we have any predetermined future share price thresholds
that would cause us, based on share price alone, to initiate a follow-on public
offering. We will continue to evaluate our needs for funds based on our
assessment of access to public or private capital markets and the timing of our
need for funds. Although we have no present intention to conduct additional
public equity offerings, we may seek to raise these additional funds through
private or public debt or equity financings.

21
<PAGE>
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In September 1998, SFAS No. 133, "Accounting for Derivative Instruments and
Hedging Activities," was issued. SFAS No. 133 establishes accounting and
reporting standards for derivative financial instruments and hedging activities
related to those instruments, as well as other hedging activities. We do not
currently hold any derivative instruments and do not engage in hedging
activities. We will be required to adopt SFAS No. 133 for the year ending
December 31, 2001. We expect the adoption of SFAS No. 133 will not have a
material impact on our financial position, results of operations or cash flows.

In December 1999, the SEC issued Staff Accounting Bulletin No. 101, "Revenue
Recognition" ("SAB 101"). SAB 101 provides the SEC Staff's views in applying
generally accepted accounting principles to selected revenue recognition issues.
The guidance in SAB 101 must be implemented during our fourth fiscal quarter of
fiscal 2000. We believe we are in compliance with the guidelines provided in SAB
101, and thus, we believe that the adoption of SAB 101 will not significantly
affect our results of operations.

In March 2000, the Financial Accounting Standards Board issued
Interpretation No. 44, "Accounting for Certain Transactions Involving Stock
Compensation, and Interpretation of APB Opinion No. 25" ("FIN 44"). FIN 44
clarifies the application of Opinion No. 25 for (a) the definition of employee
for purpose of applying Opinion No. 25, (b) the criteria for determining whether
a plan qualifies as a noncompensatory plan, (c) the accounting consequences of
various modifications to the terms of a previously fixed stock option 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 cover
specific events that occur after either December 15, 1988, or January 12, 2000.
The adoption of certain provisions of FIN 44 prior to September 30, 2000 did not
have a material impact on the financial statements.

In March 2000, the Emerging Issues Task Force issued No. 00-02 "Accounting
for Web Site Development Costs" ("EITF 00-02"). EITF 00-02 is effective for all
fiscal quarters beginning after September 30, 2000. EITF 00-02 discusses the
capitalization criteria regarding web site development costs. We will adopt EITF
00-02 in our quarter ending September 30, 2000 and do not expect such adoption
to have a significant impact on our results of operations, financial position or
cash flows.

In May 2000, the Emerging Issues Task Force released Issue No. 00-14
"Accounting for Certain Sales Incentives" ("EITF 00-14"), which provides
guidance on the accounting for certain sales incentives offered by companies to
their customers such as discounts, coupons, rebates and products or services.
EITF 00-14 is effective for all fiscal quarters beginning after May 18, 2000 and
addresses the recognition, measurement and income statement classification for
sales incentives offered voluntarily by a vendor without charge to customers
that can be used in, or that are exercisable by a customer as a result of a
single exchange transaction. The provisions of EITF 00-14 will require us to
classify free product and service incentives delivered to customers at the time
of sale as cost of sales in our consolidated statement of operations. We do not
believe the adoption of EITF 00-14 will have a significant impact on our results
of operations, financial position or cash flows.

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RISK FACTORS THAY MAY AFFECT OUR RESULTS OF OPERATIONS AND FINANCIAL CONDITION

THIS DOCUMENT CONTAINS CERTAIN FORWARD-LOOKING STATEMENTS. THESE STATEMENTS
RELATE TO FUTURE EVENTS OR OUR FUTURE FINANCIAL PERFORMANCE. IN SOME CASES, YOU
CAN IDENTIFY FORWARD-LOOKING STATEMENTS BY TERMINOLOGY SUCH AS "ANTICIPATES",
"BELIEVES", "CONTINUE", "COULD", "ESTIMATES", "EXPECTS", "INTENDS", "PLANS",
"POTENTIAL", "PREDICTS", "SHOULD" OR "WILL" OR THE NEGATIVE OF THESE TERMS OR
OTHER COMPARABLE TERMINOLOGY WHICH ARE INTENDED TO IDENTIFY CERTAIN OF THESE
FORWARD-LOOKING STATEMENTS. THE CAUTIONARY STATEMENTS MADE IN THIS DOCUMENT
SHOULD BE READ AS BEING APPLICABLE TO ALL RELATED FORWARD-LOOKING STATEMENTS
WHEREVER THEY APPEAR IN THIS DOCUMENT. THE COMPANY'S ACTUAL RESULTS COULD DIFFER
MATERIALLY FROM THOSE DISCUSSED IN THIS DOCUMENT. FACTORS THAT COULD CAUSE OR
CONTRIBUTE TO SUCH DIFFERENCES INCLUDE THOSE DISCUSSED BELOW, AS WELL AS THOSE
DISCUSSED IN THE COMPANY'S PROSPECTUS DATED MARCH 15, 2000.

RISKS RELATED TO OUR BUSINESS

WE HAVE LARGE ACCUMULATED LOSSES, WE EXPECT FUTURE LOSSES, AND WE MAY NOT
ACHIEVE OR MAINTAIN PROFITABILITY.

We have incurred substantial losses and used substantial cash to support our
operations as we have expanded our sales and marketing programs, funded the
development of our services, promoted our Web sites and matching service and
expanded our operations infrastructure. As of September 30, 2000, our
accumulated loss was approximately $87.8 million. We expect our expenditures on
sales and marketing activities, support field services and the development of
new products, services and technologies to continue to be significant. We will
continue to lose money unless we significantly increase our revenues. We cannot
predict when, if ever, we will operate profitably.

WE ARE AN EARLY STAGE COMPANY WITH A NEW SENIOR MANAGEMENT TEAM AND WE HAVE
RECENTLY EXPANDED OUR BUSINESS TO OFFER NEW SERVICES. AS A RESULT, WE HAVE A
LIMITED HISTORY WHICH MAKES IT DIFFICULT TO EVALUATE OUR BUSINESS.

We were incorporated in January 1996; however, we did not begin offering
home improvement services on the Internet until August 1997. In December 1998,
we began selling Web site advertising. Until March 1999, we focused primarily on
building our network of service providers and refining our matching services
processes. In March 1999, we hired our new chief executive officer and commenced
recruiting our senior management team, including our senior vice president,
partnership services; our senior vice president, engineering and development,
and chief technology officer; our senior vice president, professional services;
our former senior vice president and chief financial officer; our vice
president, editorial; our vice president, strategic planning, acquisitions and
international; and our vice president, human resources. In April 1999, we
introduced POWERED BY IMPROVENET, a service that allows third parties to offer
the ImproveNet matching services and content on their Web sites, for national
suppliers of home improvement and repair products. In November 1999, we launched
our customized Web site for service providers. We completed the acquisition of
two regional contractor referral companies, Contractor Referral Service, LLC in
September 1999 and The J.L. Price Corporation in November 1999. As a result, we
have a limited history upon which you can evaluate our business and the
performance of our senior management team. Furthermore, even if our business is
successful, we may change our business to enter into new business areas,
including areas in which we do not have extensive experience.

OUR FINANCIAL RESULTS WILL BE AFFECTED BY FLUCTUATIONS IN THE HOME IMPROVEMENT
INDUSTRY AND SEASONALITY.

Our limited operating history and rapid growth make it difficult to assess
the impact of seasonal factors on our business. However, our business is
dependent upon the home improvement industry. As

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a result, we expect that our revenues may be lower during the first and fourth
quarters since more homeowners commit to home improvement projects during the
spring and summer months. We are currently unable to assess the effect of
seasonality in the home improvement industry on our business.

OUR MARKET IS BECOMING MORE COMPETITIVE AND WE MAY SUFFER PRICE REDUCTIONS, BE
UNABLE TO ATTRACT HOMEOWNERS TO OUR WEB SITE, BE UNABLE TO MAINTAIN OUR SERVICE
PROVIDER NETWORK OR ENTER INTO NEW MULTI-YEAR COMMERCIAL CONTRACTS IF WE DO NOT
COMPETE EFFECTIVELY.

The market for our services is intensely competitive, evolving and subject
to rapid technological change. To remain competitive, we must continue to
enhance and improve the ease of use, responsiveness, functionality and features
of our online and offline services in order to attract homeowners to our Web
site and maintain our service provider network. We expect the intensity of
competition to increase in the future. Increased competition may result in
changes in our pricing model, fewer homeowners visiting our Web site, service
providers leaving our network, less marketing revenue, reduced gross margins and
loss of market share, any one of which could significantly reduce our future
profitability. In addition, technological barriers to entry are relatively low.
As a result, current competitors, such as local referral businesses and online
referral companies such as ServiceMagic.com, iCastle, repairnet, Handyman
Online, Bid Express and Contractor.com and potential competitors such as The
Home Depot, Lowe's and Sears Roebuck & Company could launch Web sites similar to
ours that gain broader market acceptance based on content, products and
services. Remodel.com, a part of the HomeStore.com family of sites, offers a
matching service.

Some of our competitors have more resources and broader and deeper customer
access than we do. In addition, many of these competitors have or can readily
obtain extensive knowledge of the home improvement industry. Our competitors may
be able to respond more quickly than we can to new technologies or changes in
Internet user preferences and devote greater resources than we can to the
development, promotion and sale of their services. We may not be able to
maintain our competitive position against current and future competitors,
especially those with significantly greater resources, especially offline home
improvement retail store chains such as The Home Depot, Lowe's and Sears
Roebuck & Company.

OUR FAILURE TO DEVELOP BRAND RECOGNITION COULD LIMIT OR REDUCE THE DEMAND FOR
OUR SERVICES AND RESULT IN A COMPLETE LOSS OF THE ANTICIPATED BENEFITS FROM
SIGNIFICANT MARKETING EXPENDITURES.

We believe that continuing to strengthen our brand will be critical to
increasing demand for, and achieving widespread acceptance of, our matching
services, generating additional homeowner traffic, and entering into new
multi-year commercial contracts. Some of our competitors and potential
competitors have better name recognition and powerful brands. Promoting and
positioning our brand will depend largely on the success of our marketing
efforts, our ability to deliver features on our Web site that are engaging to
our users, and our ability to provide high quality matching services and
support. We expect to spend between approximately $40.0 million and
$43.0 million in 2000 on sales and marketing programs and we expect our
marketing expenditures to increase in the future. Brand promotion activities may
not yield increased homeowner traffic, additional multi-year commercial
contracts or increased revenues and, even if they do, any increased revenues may
not offset the expenses we incur in building and maintaining our brand. If we
fail to develop sufficient brand recognition, our ability to generate marketing
revenues and service revenues may be harmed.

IF WE FAIL TO MANAGE OUR GROWTH, OUR ABILITY TO MARKET, SELL AND DEVELOP OUR
SERVICES COULD BE HARMED.

Our growth has placed and will continue to place a significant strain on our
management systems and resources, and we may be unable to effectively manage our
growth in the future. We must plan and manage our growth effectively to offer
our services and achieve revenue growth and profitability in a rapidly evolving
market. We continue to increase the scope of our operations and have added a

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number of employees recently, including employees in key management and
marketing positions. We grew from 16 employees as of December 31, 1997 to 275 as
of September 30, 2000. For us to effectively manage our growth, we must continue
to:

- improve our operational, financial and management systems and controls;

- install new management and information systems and controls; and

- hire, train and motivate our workforce.

Failure to manage our growth effectively would hinder our ability to
develop, market and sell our services and therefore harm our business.

IF WE DO NOT ATTRACT AND RETAIN A NETWORK OF HIGH QUALITY SERVICE PROVIDERS, OUR
BUSINESS COULD BE HARMED.

We expect to derive the majority of our revenues from our network of service
providers in the form of payments for each homeowner referral that we provide to
them and for each home improvement project that they win. For the three and nine
months ended September 30, 2000, we derived approximately 62% of our total
revenues from our network of service providers in the form of lead fees and win
fees. Our business is highly dependent on homeowners' use of our Web site to
find service providers for their home improvement projects so that service
providers will achieve a satisfactory return on their participation in the
ImproveNet program.

A key element of the growth of our business is the pace at which service
providers adopt the ImproveNet matching process. This adoption includes
responding to homeowner inquiries within 72 hours, providing a competitive, firm
quote to homeowners quickly, and paying the service fees to ImproveNet. We
devote significant effort and resources to screening and supporting
participating service providers and to developing programs that monitor service
providers' job wins and that collect service fees from service providers for
these wins. Our inability to screen and support service providers effectively,
or the failure of our service providers to respond professionally and in a
timely manner to homeowner inquiries, could result in low homeowner satisfaction
and harm our business. In addition, the failure of our service providers to win
home improvement projects, report their wins to us, or pay us service fees could
harm our business.

We must actively recruit new service providers and retain and motivate our
current service providers to ensure that we continually have adequate national
coverage. We believe that service providers in the home improvement industry
suffer from a relatively high failure or turnover rate which makes it difficult
for us to retain service providers. Accordingly, we expect that not all of our
service providers will remain active participants in our network. If we are
unable to achieve low turnover among our network of service providers our
business could be harmed.

IF HOMEOWNERS FAIL TO REPORT, AND SERVICE PROVIDERS FAIL TO REPORT AND TO PAY TO
US WIN FEES, DIRECTLY OR INDIRECTLY, OUR BUSINESS WOULD BE HARMED.

Our service providers are responsible for paying us a win fee for each job
that they obtain from us. We ask service providers not to pass on the cost of
the win fee to the homeowner. However, we do not currently provide any guarantee
to the homeowner that our service providers have not raised their rates to cover
the win fee nor do we audit or plan to audit our service providers to confirm
that they have not raised their rates. Homeowners may believe that they are
indirectly paying us our win fee through the higher rates of service providers
and, therefore, choose to select service providers through word-of-mouth
referrals, Yellow Pages, local contractor matching services or other means
rather than using our matching service. If homeowners choose not to use our
service, we will lose service revenues and visitors to our Web sites and our
business will be harmed.

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We depend on our service providers to report that they have won a job and
pay us our win fee. We rely on personal relationships with our service providers
and the incentive to receive future leads from us to encourage service providers
to report wins and pay win fees. Currently, we do not have a control or an
oversight mechanism in place with either service providers or homeowners to
ensure that they report wins and pay win fees. If service providers do not
report wins or pay us win fees, we will lose service revenues and our business
will be harmed.

WE DEPEND ON THIRD-PARTY RELATIONSHIPS TO ATTRACT VISITORS TO OUR WEB SITES.

We have recently entered into multi-year commercial contracts with suppliers
of home improvement products and services to generate revenues and increase the
number of visitors to our Web sites. Under these contracts, suppliers have
placed links to our Web site from their Web sites to allow their customers to
visit our Web site if the customers are interested in obtaining home improvement
information or searching for a service provider. We believe that increasing the
number of visitors to our Web sites will increase the number of job submissions.
We cannot assure you that these contracts will lead to increased visits to our
Web sites or that increased visits to our Web sites will result in increased job
submissions. If we do not maintain our existing multi-year commercial contracts
on terms as favorable as currently in effect or if we are not able to establish
new contracts on commercially reasonable terms, our business could be harmed.

Specifically, we have entered into a multi-year commercial contract with
Owens Corning, which on October 5, 2000, filed for reorganization under Chapter
11 of the U.S. Bankruptcy Code. If Owens Corning fails to meet its obligations
under the contract, our business could be harmed.

Companies that we may pursue for multi-year commercial contracts may offer
services competitive with suppliers with which we currently have multi-year
contracts. As a result, these suppliers may be reluctant to enter into
multi-year contracts with us.

WE DEPEND ON THIRD-PARTY RELATIONSHIPS TO PROVIDE SOFTWARE TOOLS AND
INFRASTRUCTURE.

We integrate third-party software into our service offerings on our Web
sites. We would be harmed if the providers from which we license software ceased
to deliver and support reliable products, to enhance their current products, or
to respond to emerging industry standards. In addition, third-party software may
not continue to be available to us on commercially reasonable terms or at all.
The loss of, or inability to maintain or obtain, this software could limit the
features available on our Web sites, which could harm our business.

IF WE FAIL TO ATTRACT AND RETAIN QUALIFIED PERSONNEL, OUR ABILITY TO COMPETE
COULD BE HARMED.

We depend on the continued service of our key technical, sales and senior
management personnel. In particular, the loss of the services of Ronald B.
Cooper, our Chairman and Chief Executive Officer, or other senior management
personnel, individually or as a group, could cause us to incur increased
operating expenses and divert other senior management time in searching for
their replacements. We do not have employment agreements with any employee,
except Mr. Cooper, and we do not maintain any key person life insurance policies
for any of our key employees, except for Mr. Cooper. The loss of any of our key
technical, sales or senior management personnel could harm our business.

In addition, we must attract, retain and motivate highly skilled employees.
We face significant competition for individuals with the skills required to
develop, market and support our services. We may not be able to recruit and
retain sufficient numbers of highly skilled employees, and as a result our
business could suffer.

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IF WE FAIL TO ADEQUATELY PROTECT OUR PROPRIETARY RIGHTS, WE COULD LOSE THESE
RIGHTS AND OUR BUSINESS COULD BE HARMED.

We depend upon our ability to develop and protect our intellectual property
rights, including our databases of homeowners and service providers and our
internally-developed matching criteria and algorithms, to distinguish our
services from our competitors' services. We rely on a combination of copyright,
trademark and trade secret laws, as well as confidentiality agreements and
licensing arrangements, to establish and protect our proprietary rights. We have
no issued patents. Our databases are protected by trade secret laws and our
matching service is protected primarily by trade secret and copyright laws.
Existing laws afford only limited protection of intellectual property rights.
Attempts could be made to copy or reverse engineer aspects of our processes or
services or to obtain and use information that we regard as proprietary.
Accordingly, we may not be able to protect our intellectual property rights
against unauthorized third-party copying or use. Furthermore, policing the
unauthorized use of our intellectual property is difficult, and expensive
litigation may be necessary in the future to enforce our intellectual property
rights. The use by others of our proprietary rights could harm our business.

OUR SERVICES COULD INFRINGE THE INTELLECTUAL PROPERTY RIGHTS OF OTHERS CAUSING
COSTLY LITIGATION AND THE LOSS OF SIGNIFICANT RIGHTS.

Third parties could claim that we have infringed their intellectual property
rights by claiming that our matching service infringes their patents, trade
secrets or copyrights. In the ordinary course of business, we have received, and
may receive in the future, notices from third parties claiming infringement of
their proprietary rights. In addition, providers of goods and services over the
Internet are increasingly subject to claims that they infringe patents that
cover basic elements of electronic commerce. The resolution of any claims could
be time-consuming, result in costly litigation, delay or prevent us from
offering our services or require us to enter into royalty or licensing
agreements, any of which could harm our business. In the event an infringement
claim against us is successful and we cannot obtain a license on acceptable
terms, license a substitute technology or redesign our services, our business
would be harmed. Furthermore, former employers of our current and future
employees may assert that our employees have improperly disclosed to us or are
using confidential or proprietary information in our business.

IF WE EXPERIENCE SYSTEM FAILURES, OUR REPUTATION WOULD BE HARMED AND USERS MIGHT
SEEK ALTERNATIVE SERVICE PROVIDERS, CAUSING US TO LOSE REVENUES.

We depend on the efficient and uninterrupted operation of our computer and
communications hardware and software systems. Substantially all of our computer
hardware for operating our Web sites is currently located at Qwest
Communications in Sunnyvale, California, with backups located at our facility in
Redwood City, California. These systems and operations are vulnerable to damage
or interruption from earthquakes, floods, fires, power loss, telecommunication
failures and similar events. They are also subject to break-ins, sabotage,
intentional acts of vandalism and similar misconduct. We do not have fully
redundant systems, a formal disaster recovery plan or alternative providers of
hosting services, and we do not carry business interruption insurance to
compensate us for losses that could occur. Despite any precautions we may take,
the occurrence of a natural disaster or other unanticipated problems either at
Qwest or at our facility could result in interruptions in our services. Any
damage to or failure of our systems could result in interruptions in our
service. In addition to placing an increased burden on our engineering staff,
any system failure could create user questions and complaints that must be
responded to by our customer support personnel. The system failures of various
third-party Internet service providers, online service providers and other Web
site operators could result in interruptions in our service to those users who
require the services of these third-party providers and operators to access our
Web sites. These interruptions could reduce our revenues and profits, and our

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future revenues and profits will be harmed if our users believe that our system
is unreliable. Since we have been keeping logs of our Web sites, our
ImproveNet.com Web site has been unintentionally interrupted for periods ranging
from two minutes to one hour, the latter prior to February 2000. On one
occasion, prior to February 2000, some users experienced interruptions in part
of our service for a period of 48 hours.

WE MAY HAVE CAPACITY RESTRAINTS THAT COULD LIMIT THE GROWTH OF OR REDUCE OUR
REVENUES.

The satisfactory performance, reliability and availability of our Web sites,
processing systems and network infrastructure are critical to our reputation and
our ability to attract and retain large numbers of users. If the volume of
traffic, including at peak times, on our Web sites increases, we will need to
expand and upgrade our technology, transaction processing systems and network
infrastructure. We may not be able to accurately project the rate or timing of
these increases, if any, in the use of our services or to expand or upgrade our
systems and infrastructure in a timely manner to accommodate these increases.

We use internally developed systems for operating our services and
processing our transactions, including billing and collections processing. We
must continually improve these systems in order to accommodate the level of use
of our Web sites. In addition, if we add new features and functionality to our
services, we could be required to develop or license additional technologies.
Our inability to add additional software and hardware or upgrade our technology,
transaction processing systems or network infrastructure could cause
unanticipated system disruptions, slower response times, degradation in levels
of customer support, impaired quality of the users' experience, delays in
accounts receivable collection or losses of recorded financial information. Our
failure to provide new features or functionality also could result in these
consequences. The required hardware may not be readily available or affordable
and we may be unable to effectively upgrade and/or expand our systems in a
timely manner or to integrate smoothly any newly developed or purchased
technologies with our existing systems. These difficulties could harm or limit
our ability to expand our business.

SUBSTANTIAL SALES OF OUR COMMON STOCK BY OUR STOCKHOLDERS COULD DEPRESS OUR
STOCK PRICE.

If our stockholders sell substantial amounts of our common stock in the
public market, the market price of our common stock would likely fall.

RISKS RELATED TO OUR INDUSTRY

HOMEOWNERS AND SERVICE PROVIDERS MAY BE RELUCTANT TO ACCEPT AN INTERNET-BASED
SERVICE PROVIDER MATCHING SERVICE.

Currently most homeowners use traditional means including word-of-mouth
referrals, Yellow Pages and local contractor matching services to obtain service
providers for their home improvement projects. In addition, many service
providers do not use the Internet for business purposes and may be reluctant to
become part of a network of service providers on an Internet-based service
provider matching service. If homeowners do not use our matching service or
service providers do not join our network, we will not be able to generate
significant revenues from either services or marketing, or be able to enter into
new multi-year commercial contracts.

IF THE HOME IMPROVEMENT INDUSTRY DECLINES, OUR REVENUES COULD DECLINE AND OUR
BUSINESS COULD BE HARMED.

Our business is dependent on the economic strength of the home improvement
industry. The home improvement industry is cyclical, with the number of home
improvement projects affected by national and global economic forces, primarily
fluctuations in interest rates and employment levels. We

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believe that our future performance will be affected by the cyclical nature of
the home improvement industry and, as a result, be adversely affected from time
to time by industry downturns.

WE COULD BE HELD LIABLE FOR PRODUCTS AND SERVICES REFERRED BY MEANS OF OUR WEB
SITE.

We could be subject to claims relating to products and services that we
refer through our Web site. Homeowners may bring claims against us for referring
service providers who may have, among other things, provided them with poor
workmanship or caused bodily injury or damage to property. Our existing
insurance coverage may not cover all potential claims, may not adequately cover
all costs incurred in defense of potential claims, may not indemnify us for all
liability that may be imposed or may not be renewable in future periods or
renewable on terms and conditions satisfactory to us. In addition, claims, with
or without merit, would result in diversion of our financial resources and
management resources.

WE DEPEND ON THE INCREASING USE OF THE INTERNET. IF THE USE OF THE INTERNET DOES
NOT GROW, OUR REVENUES MAY NOT GROW AND COULD DECLINE AND OUR BUSINESS COULD BE
HARMED.

We depend on increased acceptance and use of the Internet. In particular,
our matching service depends upon service providers being willing to use the
Internet to find jobs through our service. We believe that service providers
generally have not traditionally used computers or the Internet to operate their
businesses. Demand and market acceptance for recently introduced products and
services over the Internet are subject to a high level of uncertainty. As a
result, acceptance and use of the Internet may not develop or a sufficiently
broad base of users may not adopt or continue to use the Internet as a medium of
commerce.

THE INTERNET IS CHARACTERIZED BY RAPIDLY CHANGING TECHNOLOGIES, FREQUENT NEW
PRODUCT AND SERVICE INTRODUCTIONS AND EVOLVING INDUSTRY STANDARDS.

To succeed, we will need to adapt effectively to rapidly changing
technologies and continually improve the performance features and reliability of
our services. We could incur substantial costs in modifying our products,
services or infrastructure to adapt to these changes, and we may also lose
customers and revenues if our services fail to adapt to the rapid changes
characteristic of the Internet.

Conversely, if the Internet experiences increased growth in number of users,
frequency of use and bandwidth requirements, the Internet infrastructure may be
unable to support the demands placed on it. The success of our business will
rely on the Internet providing a convenient means of interaction and commerce.
Our business depends on the ability of users to access information without
significant delays or aggravation.

FUTURE GOVERNMENT REGULATIONS AND LEGAL UNCERTAINTIES PERTAINING TO THE INTERNET
COULD DECREASE THE DEMAND FOR OUR SERVICES OR INCREASE THE COST OF DOING
BUSINESS.

There is, and will likely continue to be, an increasing number of laws and
regulations pertaining to the Internet. These laws and regulations may relate to
liability for information retrieved from or transmitted over the Internet,
online content, user privacy, taxes or the quality of services. Any new law or
regulation pertaining to the Internet, or the adverse application or
interpretation of existing laws, could decrease the demand for our services or
increase our cost of doing business.

We are not certain how our business may be affected by the application of
existing laws governing issues such as property ownership, copyrights,
encryption and other intellectual property issues, taxation, libel, obscenity
and export or import matters. The vast majority of these laws was adopted prior
to the advent of the Internet. As a result, they do not contemplate or address
the unique issues created by the Internet and related technologies. Changes in
laws intended to address these issues

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could create uncertainty for or adversely affect companies doing business on the
Internet. This could reduce demand for our services or increase the cost of
doing business.

LEGISLATIVE AND REGULATORY INITIATIVES REGARDING THE COLLECTION AND USE OF OUR
USERS' PERSONAL INFORMATION MAY RESULT IN LIABILITY AND EXPENSES.

Current computing and Internet technology allows us to collect personal
information about our users. In the past, the Federal Trade Commission has
investigated companies that have sold personal information to third parties
without permission or in violation of a stated privacy policy. Currently, we
collect personal information only with the user's consent and under our privacy
policy. If we begin collecting or selling personal information without
permission or in violation of our privacy policy, we could face potential
liability for compiling and providing information to third parties.

THE IMPOSITION OF ADDITIONAL STATE AND LOCAL TAXES ON INTERNET-BASED
TRANSACTIONS WOULD INCREASE OUR COST OF DOING BUSINESS AND HARM OUR ABILITY TO
BECOME PROFITABLE.

We file state tax returns as required by law based on principles applicable
to traditional businesses. However, one or more states could seek to impose
additional income tax obligations or sales and use tax collection obligations on
out-of-state companies such as ours that engage in or facilitate Internet-based
commerce. A number of proposals have been made at state and local levels that
could impose taxes on the sale of products and services through the Internet or
the income derived from those sales. These proposals, if adopted, could
substantially impair the growth of Internet-based commerce and harm our ability
to become profitable.

United States federal law limits the ability of the states to impose taxes
on Internet-based transactions. Until October 21, 2001, state and local taxes on
Internet-based commerce that are discriminatory against Internet access are
prohibited, unless the taxes were generally imposed and actually enforced before
October 1, 1998. It is possible that this tax moratorium will not be renewed by
October 21, 2001 or at all. Failure to renew this legislation would allow
various states to impose taxes on Internet-based commerce. The imposition of
state and local taxes could harm our ability to become profitable.

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ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK

Our exposure to market risk for changes in interest rates relates primarily
to increases or decreases in the amount of interest income we can earn on our
investment portfolio and on increases or decreases in the amount of interest
expense we must pay with respect to any outstanding debt instruments. The risk
associated with fluctuating interest expense is limited, however, to those debt
instruments and credit facilities that are tied to market rates. We had no debt
instruments outstanding as of September 30, 2000. We do not plan to use
derivative financial instruments in our investment portfolio. We plan to ensure
the safety and preservation of our invested principal funds by limiting default
risk, market risk and reinvestment risk. We plan to mitigate default risk by
investing in high-credit quality securities.

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PART II. OTHER INFORMATION

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

On March 15, 2000, we commenced the initial public offering of 2,760,000
shares of our common stock, par value $.001 per share, at a price of $16.00 per
share in firm commitment underwritten public offering. The offering was effected
pursuant to a Registration Statement on Form S-1 Registration Nos. 333-92873 and
333-32618, which the United States Securities and Exchange Commission declared
effective on March 15, 2000. Credit Suisse First Boston, Robertson Stephens and
E*Offering were the lead underwriters for the offering.

Of the $44.2 million in aggregate proceeds that we raised in the offering,
(A) $3.1 million to underwriters in connection with the underwriting discount,
and (B) we paid approximately $2.0 million in connection with offering expenses,
printing fees, filing fees, legal fees and accounting fees.

As of September 30, 2000, we have utilized approximately $32.8 million of
the proceeds of the offering for operating activities, capital expenditures,
including $704,000 for leasehold improvements for the build-out and furnishing
of our Camarillo, California support center, as well as for other general
corporate purposes. We have entered into a lease agreement commencing May 1,
2000 for our Camarillo, California support center. The term of the lease is for
five years and requires monthly payments of $11,761 and will increase annually
based upon the lower of 3% or the Consumer Price Index for the Los
Angeles-Riverside-Orange Co. area.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits

27.1 Financial Data Schedule

(b) No reports on Form 8-K were filed with the Securities and Exchange
Commission during the three months ended September 30, 2000.

32
<PAGE>
SIGNATURES

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

<TABLE>
<S> <C> <C>
IMPROVENET, INC.
(Registrant)

By: /s/ RONALD B. COOPER
-----------------------------------------
Ronald B. Cooper
CHAIRMAN AND CHIEF EXECUTIVE OFFICER
(PRINCIPAL EXECUTIVE FINANCIAL OFFICER)
</TABLE>

Date: November 14, 2000