INTERNAP NETWORK SERVICES CORP/WA, 10-Q, 2000-11-14

INTERNAP NETWORK SERVICES CORP/WA
10-Q, 2000-11-14
BUSINESS SERVICES, NEC

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<PAGE>

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

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

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2000

/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM ________ TO ________

COMMISSION FILE NUMBER: 000-27265

INTERNAP NETWORK SERVICES CORPORATION
(Exact name of registrant as specified in its charter)

WASHINGTON 91-1896926
(State or other jurisdiction of (IRS Employer identification No.)
incorporation or organization)

601 UNION STREET, SUITE 1000,
SEATTLE, WASHINGTON 98101
(Address of principal executive offices)

(206) 441-8800
(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
----- -----

INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE REGISTRANT'S CLASSES OF
COMMON STOCK AS OF THE LATEST PRACTICABLE DATE: 148,191,001 SHARES OF COMMON
STOCK, $.001 PAR VALUE, OUTSTANDING AS OF SEPTEMBER 30, 2000.
================================================================================

1.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
FORM 10-Q
FOR THE QUARTER ENDED SEPTEMBER 30, 2000
TABLE OF CONTENTS

<TABLE>
<CAPTION>
Page
----
PART I. FINANCIAL INFORMATION

<S> <C>
Item 1. Financial Statements ............................................................. 3

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

Condensed Consolidated Statement of Operations
Three and nine months ended September 30, 2000 and 1999...................... 4

Condensed Consolidated Statement of Cash Flows
Nine months ended September 30, 2000 and 1999................................ 5

Condensed Consolidated Statement of Shareholders' Equity and Comprehensive Loss
Nine months ended September 30, 2000......................................... 6

Notes to Condensed Consolidated Financial Statements.............................. 7

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

Item 3. Quantitative and Qualitative Disclosures About Market Risk........................ 17

PART II. OTHER INFORMATION

Item 2. Changes in Securities and Use of Proceeds......................................... 26

Item 6. Exhibits and Reports on Form 8-K.................................................. 26

Signatures....................................................................................... 27
</TABLE>

2.
<PAGE>

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

INTERNAP NETWORK SERVICES CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited, in thousands)

<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
------------- -------------

<S> <C> <C>
ASSETS

Current assets:
Cash and cash equivalents........................................... $ 79,904 $ 155,184
Short-term investments.............................................. 102,355 50,168
Investment income receivable........................................ 2,316 591
Accounts receivable, net of allowance of $764 and $206, respectively 14,668 4,084
Prepaid expenses and other assets................................... 2,950 553
------------- -------------
Total current assets............................................ 202,193 210,580
Property and equipment, net.............................................. 118,172 28,811
Patents and trademarks, net.............................................. 193 142
Restricted cash.......................................................... 10,355 ---
Investments.............................................................. 62,001 5,050
Goodwill and other intangible assets, net................................ 298,900 ---
Deposits and other assets, net.......................................... 5,414 963
------------- -------------
Total assets.................................................... $ 697,228 $ 245,546
============= =============

LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................................... $ 17,853 $ 7,278
Accrued liabilities ................................................ 7,215 4,209
Accrued acquisition costs........................................... 8,441 ---
Deferred revenue.................................................... 3,675 22
Notes payable, current portion...................................... 2,212 1,021
Line of credit...................................................... 1,525 1,525
Capital lease obligations, current portion.......................... 14,635 6,613
------------- -------------
Total current liabilities....................................... 55,556 20,668
Deferred revenue......................................................... 11,231 ---
Notes payable, less current portion...................................... 3,629 2,861
Capital lease obligations, less current portion.......................... 20,988 11,517
------------- -------------
Total liabilities............................................... 91,404 35,046
------------- -------------
Commitments and contingencies
Shareholders' equity:
Common stock, $0.001 par value, 500,000 shares authorized; 148,191
and 132,089 shares issued and outstanding, respectively........... 148 132
Additional paid-in capital.......................................... 784,885 287,054
Deferred stock compensation......................................... (14,117) (17,228)
Accumulated deficit................................................. (177,690) (59,458)
Accumulated other comprehensive income.............................. 12,598 ---
------------- -------------
Total shareholders' equity...................................... 605,824 210,500
------------- -------------
Total liabilities and shareholders' equity...................... $ 697,228 $ 245,546
============= =============
</TABLE>

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

3.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited, 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>
Revenues........................................................ $ 20,220 $ 3,613 $ 42,758 $ 7,022
Costs and expenses:
Cost of network and customer support....................... 26,935 8,428 62,736 16,335
Product development........................................ 4,107 1,053 7,548 2,448
Sales and marketing........................................ 8,889 4,691 24,578 10,560
General and administrative................................. 11,168 2,216 20,862 5,121
Amortization of goodwill and other intangible assets....... 26,183 --- 28,340 ---
Amortization of deferred stock compensation................ 2,625 2,505 8,249 4,292
Acquired in-process research and development............... 18,000 --- 18,000 ---
--------- --------- --------- ---------
Total operating costs and expenses..................... 97,907 18,893 170,313 38,756
--------- --------- --------- ---------
Loss from operations............................................ (77,687) (15,280) (127,555) (31,734)
Other income (expense):
Interest income............................................ 3,900 93 11,238 543
Interest and financing expense............................. (1,025) (640) (1,915) (787)
--------- --------- --------- ---------
Net loss............................................... $ (74,812) $ (15,827) $(118,232) $ (31,978)
========= ========= ========= =========

Basic and diluted net loss per share............................ $ (0.51) $ (1.92) $ (0.85) $ (4.39)
========= ========= ========= =========

Weighted average shares used in computing basic and diluted net
loss per share............................................. 146,794 8,246 139,315 7,291
========= ========= ========= =========
</TABLE>

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

4.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited, in thousands)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
-----------------------
2000 1999
---------- ----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss .................................................................. $(118,232) $ (31,978)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization ......................................... 39,370 2,854
Non-cash interest and financing expense ............................... --- 549
Provision for doubtful accounts ....................................... 627 88
Non-cash compensation and warrant expense ............................. 8,534 4,292
Acquired in-process research and development .......................... 18,000 ---
Changes in operating assets and liabilities:
Accounts receivable ................................................... (10,655) (1,931)
Investment income receivable .......................................... (1,724) ---
Prepaid expenses, deposits and other assets ........................... (4,186) (705)
Accounts payable ...................................................... (2,819) 3,014
Deferred revenue ...................................................... 4,140 (275)
Accrued liabilities ................................................... (958) 565
---------- ----------
Net cash used in operating activities ............................ (67,903) (23,527)
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property and equipment ....................................... (37,547) (7,030)
Proceeds from disposal of property and equipment .......................... 167 ---
Investment in CO Space, net of cash acquired .............................. (9,984) ---
Investment in VPNX.com, net of cash acquired .............................. 2,655 ---
Collection of full recourse notes receivable for outstanding
common stock .......................................................... 642 ---
Purchase of investments ................................................... (160,377) (9,995)
Redemption of investments ................................................. 63,838 9,995
Payments for patents and trademarks ....................................... (42) (86)
---------- ----------
Net cash used in investing activities ............................ (140,648) (7,116)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from shareholder loan ............................................ --- 1,100
Repayment of shareholder loan ............................................. --- (1,100)
Proceeds from notes payable ............................................... --- 1,766
Principal payments on notes payable ....................................... (909) (15)
Net increase (decrease) in line of credit ................................. --- 875
Payments on capital lease obligations ..................................... (6,561) (1,642)
Proceeds from equipment leaseback financing ............................... 717 428
Restriction of cash ....................................................... (10,355) (1,677)
Proceeds from issuance of and exercise of warrants to purchase
capital stock, net of issuance costs .................................. 444 121
Proceeds from exercise of stock options ................................... 4,728 71
Proceeds from issuance of common stock .................................... 145,207 31,268
---------- ----------
Net cash provided by financing activities ........................ 133,271 31,195
---------- ----------
Net increase (decrease) in cash and cash equivalents ...................... (75,280) 552
Cash and cash equivalents at beginning of period .......................... 155,184 275
---------- ----------
Cash and cash equivalents at end of period ................................ $ 79,904 $ 827
========== ==========

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest, net of amounts capitalized ........................ $ 1,840 $ 238
========== ==========
Purchase of property and equipment financed with capital leases ........... $ 23,444 $ 10,105
========== ==========
Purchase of property and equipment included in accounts payable ........... $ 2,074 $ 1,153
========== ==========
Subscription receivable on sale of equity ................................. $ --- $ 176,700
========== ==========
Cost of equity proceeds included in accounts payable ...................... $ --- $ 442
========== ==========
Value ascribed to warrants ................................................ $ --- $ 536
========== ==========
</TABLE>

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

5.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE LOSS
NINE MONTHS ENDED SEPTEMBER 30, 2000
(Unaudited, in thousands)

<TABLE>
<CAPTION>
COMMON STOCK
----------------- ACCUMULATED
ADDITIONAL DEFERRED ITEMS OF OTHER
PAR PAID-IN STOCK ACCUMULATED COMPREHENSIVE COMPREHENSIVE
SHARES VALUE CAPITAL COMPENSATION DEFICIT INCOME TOTAL LOSS
------- ------ ---------- ------------ ----------- -------------- ------- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balances, December 31, 1999.. 132,089 $ 132 $287,054 $(17,228) $ (59,458) $210,500
Issuance of common stock, net
of costs of proceeds....... 3,450 3 141,967 141,970
Amortization of deferred
stock compensation......... 8,249 8,249
Exercise of employee stock
options.................... 3,098 3 4,725 4,728
Issuance of employee stock
purchase plan shares....... 350 3,236 3,236
Exercise of warrants to
purchase common stock...... 296 1 443 444
Common stock issued for the
acquisition of CO Space.... 6,881 7 254,944 254,951
Common stock issued and
deferred stock compensation
recorded for the
acquisition of VPNX.com.... 2,027 2 92,230 (5,138) 87,094
Issuance of warrants to
purchase common stock...... 286 286
Net loss..................... (118,232) (118,232) $(118,232)
Unrealized gain on
investments................ $ 12,598 12,598 12,598
-------- ------ -------- -------- --------- --------- -------- ---------

Balances, September 30, 2000. 148,191 $ 148 $784,885 $(14,117) $(177,690) $ 12,598 $605,824 $(105,634)
======== ====== ======== ======== ========= ========= ======== =========
</TABLE>

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

6.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. BASIS OF PRESENTATION:

The unaudited condensed consolidated financial statements have been
prepared by InterNAP Network Services Corporation (the "Company") pursuant to
the rules and regulations of the Securities and Exchange Commission and include
all the accounts of the Company and its wholly owned subsidiaries. Certain
information and footnote disclosures, normally included in financial statements
prepared in accordance with generally accepted accounting principles, have been
condensed or omitted pursuant to such rules and regulations. In the opinion of
management, the unaudited condensed consolidated financial statements reflect
all adjustments, consisting only of normal recurring adjustments, necessary for
a fair presentation of the Company's financial position at September 30, 2000,
its operating results for the three and nine months ended September 30, 2000 and
1999, its cash flows for the nine months ended September 30, 2000 and 1999 and
changes in its shareholders' equity for the nine months ended September 30,
2000. The balance sheet at December 31, 1999 has been derived from audited
financial statements as of that date. These financial statements and the related
notes should be read in conjunction with the Company's financial statements and
notes thereto contained in the Company's annual report on Form 10-K and the
Company's registration statement on Form S-1 (File No. 333-95503) filed with the
Securities and Exchange Commission.

In December 1999, the Company incorporated a wholly owned subsidiary in
the United Kingdom, InterNAP Network Services U.K. Limited and in June 2000, the
Company incorporated a wholly owned subsidiary in the Netherlands, InterNAP
Network Services B.V. The condensed consolidated financial statements of the
Company include all activity of these subsidiaries. Foreign exchange gains and
losses have not been material to date.

On January 7, 2000, the Company paid a 100% share dividend to
shareholders of record as of December 27, 1999. Accordingly, the number of
shares disclosed in the financial statements and related notes have been
adjusted to reflect the stock dividend for all periods presented.

The results of operations for the three and nine months ended September
30, 2000 are not necessarily indicative of the results that may be expected for
the future quarters.

2. BUSINESS COMBINATIONS:

On June 20, 2000, the Company completed its acquisition of CO Space,
Inc. ("CO Space"). The acquisition was recorded using the purchase method of
accounting under Accounting Principle Board Opinion No. 16 ("APB 16"). The
aggregate purchase price of the acquired company, plus related charges, was
approximately $275,307,000 and was comprised of the Company's common stock,
cash, acquisition costs and assumed options to purchase common stock. The
Company issued approximately 6,881,000 shares of common stock and assumed
options to purchase CO Space common stock that were subsequently converted into
options to purchase approximately 323,000 shares of the Company's common stock
to effect the transaction. Results of operations of CO Space have been included
in the financial results of the Company from the closing date of the
transaction forward.

<TABLE>
<CAPTION>
Supplemental disclosure of cash flow information for CO Space is as follows (in thousands):

<S> <C>
Cash acquired.................................................................... $ 3,488
Accounts receivable.............................................................. 546
Property and equipment........................................................... 39,105
Full recourse notes receivable for outstanding common stock...................... 642
Other tangible assets............................................................ 1,887
-------------

7.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Tangible assets acquired.................................................... 45,668
-------------
Customer relationships........................................................... 1,800
Completed real estate leases..................................................... 19,300
Trade name and trademarks........................................................ 2,800
Workforce in place............................................................... 2,000
Goodwill......................................................................... 232,948
-------------
Intangible assets acquired.................................................. 258,848
-------------
Total assets acquired.................................................. $ 304,516
=============

Cash paid........................................................................ $ 7,200
Acquisition expenses incurred.................................................... 16,658
Accounts payable assumed......................................................... 11,305
Accrued liabilities assumed...................................................... 3,434
Deferred revenue assumed......................................................... 8,992
Notes and capital leases assumed................................................. 1,990
Value of stock and options issued................................................ 254,937
-------------
Total cash paid, liabilities assumed, common stock issued and options
assumed..................................................................... $ 304,516
=============
</TABLE>

On July 31, 2000, the Company completed its acquisition of VPNX.com,
Inc., formerly Switchsoft Systems, Inc. ("VPNX"). The acquisition was recorded
using the purchase method of accounting under APB 16. The aggregate purchase
price of the acquired company, plus related charges, was approximately
$87,947,000 and was comprised of the Company's common stock, cash, acquisition
costs and assumed options to purchase common stock. The Company issued
approximately 2,027,000 shares of common stock and assumed options to purchase
VPNX common stock that were subsequently converted into options to purchase
approximately 268,000 shares of the Company's common stock to effect the
transaction. Results of operations of VPNX have been included in the financial
results of the Company from the closing date of the transaction forward.

<TABLE>
<CAPTION>
<S> <C>
Supplemental disclosure of cash flow information for VPNX is as follows (in thousands):

Cash acquired.................................................................... $ 3,070
Property and equipment........................................................... 834
Other tangible assets............................................................ 798
-------------
Tangible assets acquired.................................................... 4,702
-------------
Developed technology............................................................. 3,400
Acquired in-process research and development..................................... 18,000
Covenants not to compete......................................................... 14,100
Workforce in place............................................................... 1,000
Goodwill......................................................................... 49,920
-------------
Intangible assets acquired.................................................. 86,420
-------------
Total assets acquired................................................... $ 91,122
=============

Acquisition expenses incurred.................................................... 850
Accrued liabilities assumed...................................................... 655
Deferred revenue assumed......................................................... 1,751
Notes and capital leases assumed................................................. 772
Value of stock and options issued................................................ 92,232
Deferred stock compensation...................................................... (5,138)
-------------
Total cash paid, liabilities assumed, common stock issued, and
options assumed......................................................... $ 91,122
=============
</TABLE>

In accordance with APB 16, all identifiable assets were assigned a
portion of the purchase price of the acquired companies on the basis of their
respective fair values. Identifiable intangible assets and goodwill are included
in "Goodwill and other intangible assets, net" on the accompanying consolidated
balance sheets and are amortized over their average useful lives of three years.
Intangible assets were identified and valued by considering the Company's
intended use of acquired assets, and analysis of data concerning products,
technologies, markets, historical financial performance and underlying
assumptions of future performance. The economic and competitive environments in
which the Company and the acquired companies operate were also considered in the
valuation analysis. The amount allocated to acquired in-process research and
development is related to technology acquired from VPNX that was written
off immediately subsequent to the acquisition because the in-process
technology had not reached technological feasibility and had no probable
alternative future use. Expected future cash flows associated with in-process
technology were discounted considering risks and uncertainties related to the
viability of and potential changes in future target markets and to the
completion of the products that will ultimately be marketed by the Company.
This analysis resulted in an allocation of $18 million to acquired in-process
research and development expense.

The pro forma consolidated financial information for the nine months
ended September 30, 2000 and 1999, determined as if the acquisitions of CO Space
and VPNX had occurred on January 1 of each year, would have resulted in revenues
of approximately $45,042,000 and $10,644,000, net loss of approximately
$203,053,000 and $149,502,000 and basic and diluted loss per share of
approximately $(1.40) and $(9.23), respectively. This unaudited pro forma
information is presented for illustrative purposes only and is not necessarily
indicative of the results of operations in future periods or results that would
have been achieved had the Company, CO Space and VPNX been combined during the
specified periods.

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

USE OF ESTIMATES

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates that affect
the reported amounts of assets and liabilities in the financial statements and
disclosure of contingent assets and liabilities at the date of the financial
statements. Examples of estimates subject to possible revision

8.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

based upon the outcome of future events include depreciation of property and
equipment, income tax liabilities, the valuation allowance against the deferred
tax assets, the allowance for doubtful accounts, the identification of
intangible assets and the related amortization periods and the estimate of
acquired in-process research and development expense. Actual results could
differ from those estimates.

CASH AND CASH EQUIVALENTS

The Company generally considers any highly liquid investments purchased
with an original or remaining maturity of three months or less at the date of
purchase to be cash equivalents.

The Company invests its cash and cash equivalents in deposits with
three financial institutions that may, at times, exceed federally insured
limits. Management believes that the risk of loss is minimal. To date, the
Company has not experienced any losses related to temporary cash investments. At
September 30, 2000, the Company had placed approximately $10,355,000 in a
restricted cash account to collateralize letters of credit with financial
institutions.

INVESTMENTS

The Company classifies its marketable securities at the date of
acquisition into categories in accordance with the provisions of Statement of
Financial Accounting Standards No. 115, "Accounting for Certain Investments in
Debt and Equity Securities." Currently, the Company classifies its marketable
securities as available-for-sale, which are reported at fair market value with
the related unrealized gains and losses included in shareholders' equity.
Realized gains and losses and declines in value of securities judged to be other
than temporary are included in other income (expense). Interest and dividends on
all securities are included in interest income. The fair value of the Company's
marketable securities is based on quoted market prices. At September 30, 2000,
marketable securities consisted of commercial paper and government securities.

The Company accounts for investments in equity securities without
readily determinable fair values at cost. The Company did not own 20% of the
voting stock or exert significant influence over any of its cost basis
investments as of September 30, 2000. Realized gains and losses and declines in
value of securities judged to be other than temporary are included in other
income (expense).

NET LOSS PER SHARE

Basic and diluted net loss per share has been computed using the
weighted average number of shares of common stock outstanding during the period,
less the weighted average number of unvested shares of common stock issued that
are subject to repurchase. The Company has excluded all convertible preferred
stock, warrants, outstanding options to purchase common stock and shares subject
to repurchase from the calculation of diluted net loss per share, as such
securities are antidilutive for all periods presented. Basic and diluted net
loss per share for the three and nine months ended September 30, 2000 and 1999
are calculated as follows (in thousands, except per share amounts):

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------------- ----------------------------
2000 1999 2000 1999
-------------- -------------- -------------- -------------
(unaudited) (unaudited)
<S> <C> <C> <C> <C>
Net loss.............................................$ (74,812) $ (15,827) $ (118,232) $ (31,978)
============ ============ ============ ============
Basic and diluted:
Weighted-average shares of common stock
outstanding used in computing basic and
diluted net loss per share.................... 146,794 8,246 139,315 7,291
============ ============ ============ ============
Basic and diluted net loss per share.............$ (0.51) $ (1.92) $ (0.85) $ (4.39)
============ ============ ============ ============
Antidilutive securities not included in diluted net
loss per share calculation:
Convertible preferred stock................... --- 98,954 --- 98,954
Options to purchase common stock.............. 23,657 15,200 23,657 15,200
Warrants to purchase common and
Series B preferred stock.................... 1,626 1,386 1,626 1,386
Unvested shares of common stock
subject to repurchase....................... 125 226 125 226
------------ ------------ ------------ ------------
25,408 115,766 25,408 115,766
============ ============ ============ ============
</TABLE>

9.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

4. PROPERTY AND EQUIPMENT:

Property and equipment consists of the following (in thousands):

<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
------------- ------------
(unaudited)
<S> <C> <C>
Network equipment............................................................$ 28,798 $ 4,665
Network equipment under capital lease........................................ 43,111 20,095
Furniture, equipment and software............................................ 21,346 6,717
Furniture, equipment and software under capital lease........................ 1,592 1,164
Leasehold improvements....................................................... 40,490 2,009
------------- ------------
135,337 34,650
Less: Accumulated depreciation and amortization............................. (17,165) (5,839)
------------- ------------
Property and equipment, net..................................................$ 118,172 $ 28,811
============= ============
</TABLE>

5. INVESTMENTS:

On February 22, 2000, pursuant to an investment agreement, the Company
purchased 588,236 shares of Aventail Corporation ("Aventail") Series D preferred
stock at $10.20 per share for a total cash investment of $6,000,007. The Series
D preferred stock is convertible to common stock at a ratio of one share of
preferred stock to one share of common stock, subject to adjustment for certain
equity transactions. Additionally, the Company and Aventail entered into a joint
marketing agreement which, among other things, granted the Company certain
limited exclusive rights to sell Aventail's managed extranet service and granted
Aventail certain rights to sell the Company's services. In return, the Company
committed to either sell Aventail services or pay Aventail, or a combination of
both, which would result in Aventail's recognition of $3,000,000 of revenue over
a two-year period. The Company's investment in Aventail is recorded at cost.

Pursuant to an investment agreement among the Company, Ledcor Limited
Partnership, Worldwide Fiber Holdings Ltd. and 360networks, Inc.
("360networks"), on April 17, 2000, the Company purchased 374,182 shares of
360networks Class A Non-Voting Stock at $5.00 per share and, on April 26, 2000,
the Company purchased 1,122,545 shares of 360networks Class A Subordinate Voting
Stock at $13.23 per share. The total cash investment was $16,722,180.
Additionally, the Company and 360networks entered into a letter of intent to
negotiate a strategic agreement that would provide the Company with long-haul
fiber-optic bandwidth capacity and provide 360networks with the Company's
Internet connectivity services. The Company's investment in 360networks is
recorded at fair market value.

On August 20, 2000, the Company entered into a credit facility with
Speedera Networks ("Speedera") which allows Speedera to borrow up to $6,000,000
from the Company. The credit facility bears interest at the prime rate plus 3%
on the date of each draw and matures on December 31, 2000. Upon maturity,
Speedera has the option of repaying all principal and accrued interest or
converting the amount due into Speedera preferred stock. As of September 30,
2000, the Company has included $3,000,000 in non-current investments related to
Speedera's borrowings under the credit facility. Subsequent to September 30,
2000, Speedera borrowed the remaining $3,000,000 under the credit facility.

6. ACCRUED LIABILITIES:

Accrued liabilities consist of the following (in thousands):

<TABLE>
<CAPTION>
SEPTEMBER 30, DECEMBER 31,
2000 1999
------------- ------------
(unaudited)
<S> <C> <C>
Compensation payable............................................... $ 4,178 $ 2,729
Private placement fee.............................................. --- 1,000
Other.............................................................. 3,037 480
------------- ------------
$ 7,215 $ 4,209
============= ============
</TABLE>

10.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

7. FINANCING ARRANGEMENTS:

During 1999, the Company entered into an equipment financing
arrangement with a financial institution allowing the Company to borrow up to
$5,000,000 for the purchase of property and equipment. The equipment financing
arrangement includes sublimits of $3,500,000 for equipment costs and $1,500,000
for the acquisition of software, service point and other equipment costs. Loans
under the $3,500,000 sublimit require monthly principal and interest payments
over a term of 48 months. This facility bears interest at 7.5% plus an index
rate based on the yield of 4-year U.S. Treasury Notes. This rate was 13.89% at
September 30, 2000. Loans under the $1,500,000 sublimit require monthly
principal and interest payments over a term of 36 months. This facility bears
interest at 7.9% plus an index rate based on the yield of 3-year U.S. Treasury
Notes. This rate was 13.98% at September 30, 2000. Borrowings under each
sublimit must be made prior to May 1, 2000. During March 2000, the Company
borrowed an additional $594,000 for equipment purchases. As of September 30,
2000, the Company's remaining obligation related to this arrangement totaled
approximately $3,665,000.

On April 10, 2000, the Company entered into an agreement with a
financial institution (the "Financing Agreement"), which will provide the
Company up to $7,500,000 in funding for the purpose of financing capital
expenditures. The Financing Agreement has a 36 month term and calls for equal
payments of accrued interest plus 2.1% of the original principal balance over
the term of the agreement with a balloon payment for the residual 27% of
principal upon maturity. Interest is at the London Inter Bank Offered Rate plus
3.70% (10.32% at September 30, 2000) and is adjusted monthly. In the event the
Company's cash and cash equivalent balance is equal to or less than $60,000,000
at the end of any quarter, the Company will be required to provide an
irrevocable renewable letter of credit in an amount equal to the balance of the
loan. There were no amounts outstanding under the Financing Agreement at
September 30, 2000.

As part of the acquisition of CO Space on June 20, 2000, the Company
assumed an equipment financing agreement (the "Equipment Financing Agreement")
with a financial institution, which provides up to $2,000,000 for the purchase
of equipment. The Equipment Financing Agreement was signed on July 29, 1999 and
has a 42 month term, with a commitment termination date of June 30, 2000. The
interest rate is 3.25% over the yield of a 42-month U. S. Treasury Note on the
day of funding. There are two loan schedules under the Equipment Financing
Agreement with interest rates of 8.99% and 9.12%. The Equipment Financing
Agreement calls for equal monthly principal and interest payments over the term
of the Equipment Financing Agreement with a final payment of 8.5% of the
original loan amount. As of September 30, 2000, the Company had outstanding
borrowings of $1,500,000 under this Equipment Financing Agreement.

On July 31, 2000, the Company assumed a senior loan and security
agreement (the "Security Agreement") in connection with the acquisition of VPNX.
The Security Agreement provides up to $2,000,000 for the purchase of equipment
and requires 36 equal monthly payments of principal and interest. The interest
rates on the existing notes range from 6.59% to 8.03%, and each note has a final
payment of 15% of the original balance. This final payment may be extended for
an additional 12 months at a monthly rate of 1.5%. The commitment termination
date under the Security Agreement was August 31, 2000. Outstanding borrowings at
September 30, 2000 were $685,000.

8. COMMITMENTS AND CONTINGENCIES:

The Company has entered into service commitment contracts with Internet
backbone service providers to provide interconnection services. Monthly fees are
calculated on a usage basis subject to aggregate minimum payments of $37,000,000
through April 2003.

In connection with the acquisition of CO Space, the Company assumed
lease commitments with terms of 10 to 20 years which will require payments
totaling approximately $167,569,000 through 2020.

9. SHAREHOLDERS' EQUITY:

On April 6, 2000, 8,625,000 shares of the Company's common stock were
sold in a public offering at a price of $43.50 per share. Of these shares,
3,450,000 were sold by the Company and 5,175,000 shares were sold by selling
shareholders. The Company did not receive any of the proceeds from the sale of
shares of common stock by the selling shareholders. The proceeds to the Company
from the offering were $142,900,000, net of underwriting discounts and
commissions of $7,100,000.

On August 2, 2000, the Company issued 20,000 warrants to an executive
recruiting firm. The fair value of these warrants was estimated to be
approximately $286,000 based upon the Black-Scholes option pricing model and was
charged to expense.

11.
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INTERNAP NETWORK SERVICES CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

10. STOCK BASED COMPENSATION PLANS:

The Company's stock-based compensation plans include the Amended 1999
Equity Incentive Plan (the "1999 Plan"), the 1998 Stock Option/Stock Issuance
Plan (the "1998 Plan"), the 1999 Non-Employee Directors' Stock Option Plan (the
"Director Plan"), the Employee Stock Purchase Plan (the "ESPP") and the 2000
Non-Officer Equity Incentive Plan (the "2000 Plan"). The 2000 Plan initially
authorized the issuance of 1,000,000 shares of the Company's common stock. On
July 18, 2000, the board of directors increased the shares reserved under the
2000 Plan to 4,500,000. Under the 2000 Plan, the Company may grant stock options
only to employees of the Company who are not officers or directors. Options
granted under the 2000 Plan are not intended by the Company to qualify as
incentive stock options under the Internal Revenue Code. Otherwise, options
granted under the 2000 Plan generally will be subject to the same terms and
conditions as options granted under the Company's 1999 Plan. During the nine
months ended September 30, 2000, the Company granted 11,522,000 options to
purchase common stock pursuant to all stock option plans, and 3,098,000 shares
of common stock were issued upon exercise of stock options.

On June 19, 2000, pursuant to the terms of the 1999 Plan, the number of
shares reserved for the grant of stock options under the 1999 Plan was increased
by 4,831,738 shares. On July 24, 2000, pursuant to the terms of the ESPP, the
number of shares reserved for the grant of stock options under the ESPP was
increased by 1,500,000 shares.

In connection with the acquisition of CO Space, the Company assumed the
CO Space, Inc. 1999 Stock Incentive Plan (the "CO Space Plan"). After applying
the acquisition conversion ratio, the CO Space plan authorizes the issuance of
up to 1,346,840 options to purchase shares of common stock, of which
approximately 323,000 options have been granted to date and approximately
178,000 options were outstanding at September 30, 2000.

In connection with the acquisition of VPNX, the Company assumed the
Switchsoft Systems, Inc. Founders 1996 Stock Option Plan and the Switchsoft
Systems, Inc. 1997 Stock Option Plan (the "VPNX Plans"). After applying the
acquisition conversion ratio, the VPNX Plans authorize the issuance of up to
307,417 options to purchase shares of common stock, of which approximately
268,000 options have been granted to date and approximately 264,000 options were
outstanding at September 30, 2000. The Company recorded deferred stock
compensation related to the unvested options assumed, totaling $5,135,000, of
which $573,000 was amortized to expense during the three and nine months ended
September 30, 2000.

12.
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INTERNAP NETWORK SERVICES CORPORATION

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

Certain statements in this Quarterly Report on Form 10-Q, including,
without limitation, statements containing the words "believes," "anticipates,"
"estimates," "expects" and words of similar import, constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. You should not place undue reliance on these forward-looking
statements. Our actual results could differ materially from those anticipated in
these forward-looking statements for many reasons, including the risks faced by
us described below and elsewhere in this Quarterly Report, and in other
documents we file with the Securities and Exchange Commission.

OVERVIEW

The Company is a leading provider of fast, reliable and centrally
managed Internet connectivity services targeted at businesses seeking to
maximize the performance of mission-critical Internet-based applications.
Customers connected to one of the Company's connectivity service points have
their data optimally routed to and from destinations on the Internet in a manner
that minimizes the use of congested public network access points and private
peering points. These service points include P-NAP facilities and other points
of presence on the Internet from which we service our customers. The Company's
optimal routing of data traffic over the multiplicity of networks that comprise
the Internet enables higher transmission speeds, lower instances of data loss
and greater quality of service.

After the Company decides to open a new service point, it enters into a
deployment phase which typically lasts four to six months, during which time the
Company executes the required steps to make the service point commercially ready
for service. Among other things, this usually entails obtaining collocation
space to locate the Company's equipment, entering into agreements with backbone
providers, obtaining local loop connections from local telecommunications
providers, building service points and initiating pre-sales and marketing
activities. Consequently, the Company usually incurs a significant amount of
upfront costs related to making a service point commercially ready for service
prior to generating revenues. Therefore, the Company's results of operations
will be negatively affected during times of service point deployment.

As of September 30, 2000, the Company has a total of 23 service points
deployed in the Atlanta, Boston (two service points), Chicago, Dallas (two
service points), Denver, Fremont, CA, Houston, Los Angeles, Miami, New York (two
service points), Orange County, CA, Philadelphia, San Diego, San Francisco, San
Jose (two service points), Seattle (three service points) and Washington D.C.
metropolitan areas, and expects to have a total of 28 service points operational
by the end of 2000. In addition, the Company operates four collocation
facilities in Boston, Houston, Jersey City and New York in which it currently
does not have connectivity service points. However, the Company is in the
process of deploying service points into two of these collocation facilities.

On June 20, 2000, the Company completed its acquisition of CO Space,
Inc. ("CO Space"). The acquisition was recorded using the purchase method of
accounting under APB Opinion No. 16 ("APB 16"). The aggregate purchase price of
the acquired company, plus related charges, was approximately $275.3 million and
was comprised of the Company's common stock, cash, acquisiton costs and
assumed options to purchase common stock. The Company issued approximately
6.9 million shares of common stock and assumed options to purchase CO Space
common stock that were subsequently converted into options to purchase
approximately 323,000 shares of the Company's common stock to effect the
transaction. Results of operations of CO Space have been included in the
financial results of the Company from the closing date of the transaction
forward.

As a result of the CO Space acquisition, the Company recorded a total
of $258.8 million of intangible assets. The intangible assets are being
amortized to expense over their useful lives, which are estimated to be three
years, resulting in expense of $24.5 million for the nine months ended September
30, 2000.

On July 31, 2000, the Company completed its acquisition of VPNX.com,
Inc. ("VPNX"). The acquisition was recorded using the purchase method of
accounting under APB 16. The aggregate purchase price of the acquired company,
plus related charges, was approximately $87.9 million and was comprised of the
Company's common stock, cash, acquisition costs and assumed options to purchase
common stock. The Company issued 2.0 million shares of common stock and
assumed options to purchase VPNX common stock that were subsequently converted
into options to purchase approximately 268,000 shares of the Company's common
stock to effect the transaction. Results of operations of VPNX have been
included in the financial results of the Company from the closing date of the
transaction forward.

As a result of the VPNX acquisition, the Company recorded a total of
$68.4 million of intangible assets. The intangible assets are being amortized to
expense over their useful lives, which are estimated to be three years,
resulting in an expense of $3.8 million for the nine months ended September 30,
2000. The Company also recorded an expense of $18.0 million related to acquired
in-process research and development costs for the three and nine months ended
September 30, 2000. The amount allocated to the acquired in-process research
and development is related to technology acquired from VPNX that had not yet
reached technological feasibility and had no alternative future use. The
value was determined by estimating the net cash flows from the sale of products
resulting from the completion of such projects, and discounting the net cash
flows back to their present value adjusted for the stage of completion of the
technologies at the date of acquisition.

13.
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INTERNAP NETWORK SERVICES CORPORATION

During the years ended December 31, 1998 and 1999, in connection with
the grant of certain stock options to employees, the Company recorded deferred
stock compensation totaling $25.0 million, representing the difference between
the deemed fair value of the Company's common stock on the date such options
were granted and the exercise price. In connection with the acquisition of VPNX,
the Company recorded deferred stock compensation related to the unvested options
it assumed, totaling $5.1 million. Such amounts are included as a component of
shareholders' equity and are being amortized over the vesting period of the
individual options, generally four years, using an accelerated method as
described in Financial Accounting Standards Board Interpretation No. 28. The
Company recorded amortization of deferred stock compensation in the amount of
$8.2 million for the nine months ended September 30, 2000. At September 30,
2000, the Company had a total of $14.1million remaining to be amortized over the
corresponding vesting periods of the stock options.

RESULTS OF OPERATIONS

The following table sets forth, as a percentage of total revenues,
selected statement of operations data for the periods indicated:

<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------- -----------------------
2000 1999 2000 1999
---------- ----------- ------------ ---------

<S> <C> <C> <C> <C>
Revenues........................................... 100% 100% 100% 100%
---------- ----------- ------------ ---------
Costs and expenses:
Cost of network and customer support.......... 133 233 147 233
Product development........................... 20 29 18 35
Sales and marketing........................... 44 130 57 150
General and administrative.................... 55 61 49 73
Amortization of goodwill and other
intangible assets......................... 129 --- 66 ---
Amortization of deferred stock compensation... 13 69 19 61
Acquired in-process research and development.. 89 --- 42 ---
---------- ----------- ------------ ---------
Total costs and expenses.................... 483 522 398 552
---------- ----------- ------------ ---------
Loss from operations.......................... (383) (422) (298) (452)
Other income (expense):
Interest income............................... 19 3 26 8
Interest and financing expense................ (5) (18) (4) (11)
---------- ----------- ------------ ---------
Net loss...................................... (369)% (437)% (276)% (455)%
========== =========== ============ =========
</TABLE>

NINE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999

Revenues. Revenues increased 511% from $7.0 million for the nine-month
period ended September 30, 1999 to $42.8 million for the nine-month period ended
September 30, 2000. This increase of $35.8 million was primarily due to
increased Internet connectivity revenues. The increase in Internet connectivity
revenues was primarily attributable to the increased sales at the Company's
existing service points and the deployment of additional service points during
1999 and 2000.

Costs of Network and Customer Support. Costs of network and customer
support increased 285% from $16.3 million for the nine-month period ended
September 30, 1999 to $62.7 million for the nine-month period ended September
30, 2000. This increase of $46.4 million was primarily due to increased
connectivity costs related to added connections to Internet backbone and
competitive local exchange providers at each service point and to a lesser
extent, additional compensation costs and depreciation expense related to the
equipment at newly deployed service points. Network and customer support costs
as a percentage of total revenues are generally greater than 100% for newly
deployed service points because the Company purchases Internet connectivity
capacity from the backbone providers in advance of securing new customers. The
Company expects these costs to increase in absolute dollars as the Company
deploys additional service points.

Product Development. Product development costs increased 213% from $2.4
million for the nine-month period ended September 30, 1999 to $7.5 million for
the nine-month period ended September 30, 2000. This increase of $5.1 million
was primarily due to increased compensation costs. The Company expects product
development costs to increase in absolute dollars for the foreseeable future.

Sales and Marketing. Sales and marketing costs increased 132% from
$10.6 million for the nine-month period ended September 30, 1999 to $24.6
million for the nine-month period ended September 30, 2000. This increase of
$14.0 million was primarily due to increased compensation costs. As part of the
Company's expanded sales and marketing activities, the Company

14.
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INTERNAP NETWORK SERVICES CORPORATION

hired additional sales and support personnel during 1999 and 2000. The Company
expects sales and marketing costs to increase in absolute dollars for the
foreseeable future.

General and Administrative. General and administrative costs increased
310% from $5.1 million for the nine-months ended September 30, 1999 to $20.9
million for the six-months ended September 30, 2000. This increase of $15.8
million was primarily due to compensation costs, professional services costs,
facility costs, travel costs and increased depreciation and amortization costs
due to the addition of corporate office space during 1999 and 2000. The Company
expects general and administrative costs to increase in absolute dollars as the
Company deploys additional service points.

Other Income (Expense). Other income (expense), net, increased from
$244,000 of other expense for the nine-month period ended September 30, 1999 to
$9.3 million of other income for the nine-month period ended September 30, 2000.
This increase was primarily due to interest income earned on the proceeds from
the Company's initial public and follow-on offerings.

THREE MONTHS ENDED SEPTEMBER 30, 2000 AND 1999

Revenues. Revenues increased 461% from $3.6 million for the three-month
period ended September 30, 1999 to $20.2 million for the three-month period
ended September 30, 2000. This increase of $16.6 million was primarily due to
increased Internet connectivity revenues. The increase in Internet connectivity
revenues was attributable to the increased sales at the Company's existing
service points and the deployment of additional service points during 1999 and
2000.

Costs of Network and Customer Support. Costs of network and customer
support increased 220% from $8.4 million for the three-month period ended
September 30, 1999 to $26.9 million for the three-month period ended September
30, 2000. This increase of $18.5 million was primarily due to increased
connectivity costs related to added connections to Internet backbone and
competitive local exchange providers at each service point and, to a lesser
extent, additional compensation costs and depreciation expense related to the
equipment at newly deployed service points. Network and customer support costs
as a percentage of total revenues are generally greater than 100% for newly
deployed service points because the Company purchases Internet connectivity
capacity from the backbone providers in advance of securing new customers. The
Company expects these costs to increase in absolute dollars as the Company
deploys additional service points.

Product Development. Product development costs increased 273% from $1.1
million for the three-month period ended September 30, 1999 to $4.1 million for
the three-month period ended September 30, 2000. This increase of $3.0 million
was primarily due to increased compensation costs. The Company expects product
development costs to increase in absolute dollars for the foreseeable future.

Sales and Marketing. Sales and marketing costs increased 89% from $4.7
million for the three-month period ended September 30, 1999 to $8.9 million for
the three-month period ended September 30, 2000. This increase of $4.2 million
was primarily due to increased compensation costs. As part of the Company's
expanded sales and marketing activities, the Company hired additional sales and
support personnel during 1999 and 2000. The Company expects sales and marketing
costs to increase in absolute dollars for the foreseeable future.

General and Administrative. General and administrative costs increased
409% from $2.2 million for the three-months ended September 30, 1999 to $11.2
million for the three-months ended September 30, 2000. This increase of $9.0
million was primarily due to compensation costs, professional services costs and
facility costs due to the addition of corporate office space during 1999 and
2000. The Company expects general and administrative costs to increase in
absolute dollars as the Company deploys additional service points.

Other Income (Expense). Other income (expense), net, increased from
$547,000 of other expense for the three-month period ended September 30, 1999 to
$2.9 million of other income for the three-month period ended September 30,
2000. This increase was primarily due to interest income earned on the proceeds
from the Company's initial public and secondary offerings.

LIQUIDITY AND CAPITAL RESOURCES

Since its inception, the Company has financed its operations primarily
through the issuance of its equity securities, capital leases, equipment
financing and bank loans. As of September 30, 2000, the Company has raised an
aggregate of approximately $739.7 million, net of offering expenses, through the
sale of its equity securities.

15.
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INTERNAP NETWORK SERVICES CORPORATION

granted the Company certain limited exclusive rights to sell Aventail's managed
extranet service and granted Aventail certain rights to sell the Company's
services. In return, the Company committed to either sell Aventail services or
pay Aventail, or a combination of both, which would result in Aventail's
recognition of $3.0 million of revenue over a two-year period.

On April 6, 2000, 8,625,000 shares of the Company's common stock were
sold in a secondary public offering at a price of $43.50 per share. Of these
shares, 3,450,000 were sold by the Company and 5,175,000 shares were sold by
selling shareholders. The Company did not receive any of the proceeds from the
sale of shares of common stock by the selling shareholders. The proceeds to the
Company from the offering were $142.9 million, net of underwriting discounts and
commissions of $7.1 million.

On April 10, 2000, the Company entered into an agreement with a
financial institution (the "Financing Agreement"), which will provide the
Company up to $7.5 million in funding for the purpose of financing capital
expenditures. The Financing Agreement has a 36 month term and calls for equal
payments of accrued interest plus 2.1% of the original principal balance over
the term of the agreement with a balloon payment for the residual 27% of
principal upon maturity. Interest is at the 30-day London Inter Bank Offered
Rate plus 3.70% (10.32% at September 30, 2000) and is adjusted monthly. In the
event the Company's cash and cash equivalent balance is equal to or less than
$60.0 million at the end of any quarter, the Company will be required to provide
an irrevocable renewable letter of credit in an amount equal to the balance of
the loan. There were no amounts outstanding under the Financing Agreement at
September 30, 2000.

Pursuant to an investment agreement among the Company, Ledcor Limited
Partnership, Worldwide Fiber Holdings Ltd. and 360networks, Inc.
("360networks"), on April 17, 2000, the Company purchased 374,182 shares of
360networks Class A Non-Voting Stock at $5.00 per share and, on April 26, 2000,
the Company purchased 1,122,545 shares of 360networks Class A Subordinate Voting
Stock at $13.23 per share. The total cash investment was $16.7 million.
Additionally, the Company and 360networks entered into a letter of intent to
negotiate a strategic agreement that would provide the Company with long-haul
fiber-optic bandwidth capacity and provide 360networks with the Company's
Internet connectivity services.

On August 20, 2000, the Company entered into a credit facility with
Speedera Networks ("Speedera") which allows Speedera to borrow up to $6.0
million from the Company. The credit facility bears interest at the prime
rate plus 3% on the date of each draw and matures on December 31, 2000. Upon
maturity, Speedera has the option of repaying all principal and accrued
interest or converting the amount due into Speedera preferred stock. As of
September 30, 2000, the Company has included $3.0 million in non-current
investments related to Speedera borrowings under the credit facility.
Subsequent to September 30, 2000, Speedera borrowed the remaining $3.0
million under the credit facility.

At September 30, 2000, the Company had cash, cash equivalents and
investments of $244.3 million. The Company has a revolving line of credit with
Silicon Valley Bank under which the Company is allowed to borrow up to $3.0
million, as limited by certain borrowing base requirements which include
maintaining certain levels of monthly revenues and customer turnover ratios. The
line of credit requires monthly payments of interest only at prime, or 9.5% as
of September 30, 2000, and matures on June 30, 2001. At September 30, 2000, the
Company had outstanding borrowings of $1.5 million on the line of credit.

During 1999, the Company entered into an equipment financing
arrangement with a financial institution allowing the Company to borrow up to
$5.0 million for the purchase of property and equipment. The equipment financing
arrangement includes sublimits of $3.5 million for equipment costs and $1.5
million for the acquisition of software, service point and other equipment
costs. Loans under the $3.5 million sublimit require monthly principal and
interest payments over a term of 48 months. This facility bears interest at 7.5%
plus an index rate based on the yield of 4-year U.S. Treasury Notes. This rate
was 13.89% at September 30, 2000. Loans under the $1.5 million sublimit require
monthly principal and interest payments over a term of 36 months. This facility
bears interest at 7.9% plus an index rate based on the yield of 3-year U.S.
Treasury Notes. This rate was 13.98% at September 30, 2000. Borrowings under
each sublimit must be made prior to May 1, 2000. During March 2000, the Company
borrowed an additional $594,000 for equipment purchases. As of September 30,
2000, the Company's remaining obligation related to this arrangement totaled
approximately $3.7 million.

During 2000, the Company amended an existing equipment lease credit
facility with a vendor to increase its available credit by $14.5 million to
$50.0 million. As of September 30, 2000, the Company had approximately $16.6
million available under this credit facility.

As part of the acquisition of CO Space on June 20, 2000, the Company
assumed an equipment financing agreement (the "Equipment Financing Agreement")
with a financial institution, which provides up to $2.0 million for the purchase
of equipment. The Equipment Financing Agreement was signed on July 29, 1999 and
has a 42 month term, with a commitment termination date of June 30, 2000. The
interest rate is 3.25% over the yield of a 42-month U. S. Treasury Note on the
day of funding. There are two loan schedules under the Equipment Financing
Agreement with interest rates of 8.99% and 9.12%. The Equipment Financing
Agreement calls for equal monthly principal and interest payments over the term
of the Equipment Financing Agreement with a final payment of 8.5% of the
original loan amount. As of September 30, 2000, the Company had

16.
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INTERNAP NETWORK SERVICES CORPORATION

outstanding borrowings of $1.5 million under this Equipment Financing Agreement.

On July 31, 2000, the Company assumed a senior loan and security
agreement (the "Security Agreement") in connection with the acquisition of VPNX.
The Security Agreement provides up to $2.0 million for the purchase of equipment
and requires 36 equal monthly payments of principal and interest. The interest
rates on the existing notes range from 6.59% to 8.03%, and each note has a final
payment of 15% of the original balance. This final payment may be extended for
an additional 12 months at a monthly rate of 1.5%. The commitment termination
date under the Security Agreement was August 31, 2000. Outstanding borrowings at
September 30, 2000 were $685,000.

Net cash used in operations was $67.9 million for the nine-months ended
September 30, 2000, and $23.5 million for the nine-months ended September 30,
1999. Net cash used in operations for the nine-months ended September 30, 2000
was primarily due to funding our operating losses and increases in accounts
receivable, investment income receivable and prepaid expenses, deposits and
other assets and decreases in accounts payable, offset by non-cash charges,
depreciation and amortization and increases in deferred revenue.

Net cash used in investing activities was $140.6 million for the
nine-months ended September 30, 2000 and $7.1 million for the nine-months ended
September 30, 1999. Purchases of property and equipment were partially financed
by capital leases (such purchases are excluded from the net cash used in
investing activities in the statement of cash flows) and totaled $60.9 million
($23.4 million financed by capital leases) for the nine-months ended September
30, 2000. Additionally, for the nine-month period ended September 30, 2000,
$160.4 million was used to purchase investments, offset by $63.8 million of
redeemed investments. The Company also used $10.0 million in connection with the
acquisition of CO Space during the nine-month period ended September 30, 2000
offset by $3.0 million of net cash received from the acquisition of VPNX.

Net cash provided from financing activities was $133.3 million for the
nine-months ended September 30, 2000 and $31.2 million for the nine-months ended
September 30, 1999. Net cash from financing activities primarily reflects
proceeds from the sales of our equity securities offset by the costs of those
proceeds, restrictions of cash related to lines and letters of credit and
payments on capital lease obligations and notes payable.

The Company expects to spend significant additional capital to recruit
and train its customer installation team and the sales force and to build out
the sales facilities related to newly deployed service points. In addition to
service point deployment, although to a lesser extent, product development and
the development of the Company's internal systems and software will continue to
require significant capital expenditures in the foreseeable future, as will the
expansion of its marketing efforts. The Company expects to continue to expend
significant amounts of capital on property and equipment related to the
expansion of facility infrastructure, computer equipment and for research and
development laboratory and test equipment to support on-going research and
development operations.

The Company believes the net proceeds from its secondary offering
together with its cash and cash equivalents, investments and funds available
under its revolving and capital lease lines will be sufficient to satisfy its
cash requirements for the next 12 months. Depending on its rate of growth and
cash requirements, the Company may require additional equity or debt financing
to meet future working capital needs, which may have a dilutive effect on its
then current shareholders. There can be no assurance that such additional
financing will be available or, if available, that such financing can be
obtained on satisfactory terms. The Company's management intends to invest cash
in excess of current operating requirements in short-term, interest-bearing,
investment-grade securities.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company maintains investment portfolio holdings of various issuers,
types, and maturities, the majority of which are commercial paper and government
securities. These securities are generally classified as available for sale and,
consequently, are recorded on the balance sheet at fair value with unrealized
gains or losses reported as a separate component of accumulated other
comprehensive income. Part of this portfolio includes a $16.7 million minority
equity investment in 360networks, a publicly traded company listed on the Nasdaq
National Market. The value of the 360networks investment is subject to market
price volatility. The Company also has a $6.0 million equity investment in
Aventail Corporation, an early stage, privately held company, and a $3.0
million investment in, Speedera, an early stage, privately held company. These
strategic investments are inherently risky, in part because the market for the
products or services being offered or developed by 360networks, Aventail and
Speedera have not been proven and may never materialize. Because of the risk
associated with these investments, the Company could lose its entire initial
investment in these companies.

The residual portion of the Company's investment portfolio is invested
in commercial paper and government securities that could experience a material
adverse decline in fair value should a sharp decline in interest rates occur. In
addition, declines in interest rates could have a material adverse impact on
interest earnings for the Company's investment portfolio. The Company does not
currently hedge against these interest rate exposures.

17.
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INTERNAP NETWORK SERVICES CORPORATION

The following sensitivity analysis presents hypothetical changes in the
fair values of the Company's investment in 360networks, the Company's only
current public equity investment. This modeling technique measures the
hypothetical change in fair values arising from selected hypothetical changes in
the stock price of 360networks. Stock price fluctuations of plus or minus 15%,
35% and 50% were selected because there has been at least one movement in the
Nasdaq Composite Index of at least 15% in each of the last three years and
movements of at least 35% and 50% in at least one of the last three years.

Valuation of Security Given X% Valuation of Security given X%
Increase in Security's Price Decrease in Security's Price
Fair Value at (in thousands) (in thousands)
9/30/2000 ------------------------------- -------------------------------
Security (in thousands) 35% 50% (35%) (50%)
----------------- --------------- ------------ ---------------- -------------- -------------
<S> <C> <C> <C> <C> <C>
360networks
Capital Stock $ 29,373 $ 39,654 $ 44,060 $ 19,093 $ 14,687
</TABLE>

<TABLE>
<CAPTION>
Fair Value at Valuation of Security Given 15% Valuation of Security Given 15%
9/30/2000 Increase in Security's Price Decrease in Security's Price
Security (in thousands) (in thousands) (in thousands)
----------------- --------------- ------------------------------- -------------------------------
<S> <C> <C> <C>
360networks
Capital Stock $ 29,373 $ 33,779 $ 24,967
</TABLE>

RISK FACTORS

RISKS RELATED TO THE COMPANY'S BUSINESS

THE COMPANY HAS A HISTORY OF LOSSES, EXPECTS FUTURE LOSSES AND MAY NOT
ACHIEVE OR SUSTAIN ANNUAL PROFITABILITY. The Company has incurred net losses in
each quarterly and annual period since the Company began operations. The Company
incurred net losses of $1.6 million, $7.0 million and $49.9 million for the
years ended December 31, 1997, 1998 and 1999, respectively. The Company's net
loss for the nine months ended September 30, 2000 was $118.2 million. As of
September 30, 2000, the Company's accumulated deficit was $177.7 million. As a
result of its expansion plans, the Company expects to incur net losses and
negative cash flows from operations on a quarterly and annual basis for at least
the next 24 months, and the Company may never become profitable.

THE COMPANY'S LIMITED OPERATING HISTORY MAKES IT DIFFICULT TO EVALUATE
ITS PROSPECTS. The revenue and income potential of the Company's business and
market is unproven, and its limited operating history makes it difficult to
evaluate its prospects. The Company has only been in existence since 1996, and
its services are only offered in limited regions. Investors should consider and
evaluate the Company's prospects in light of the risks and difficulties
frequently encountered by relatively new companies, particularly companies in
the rapidly evolving Internet infrastructure and connectivity markets.

NEGATIVE MOVEMENTS IN THE COMPANY'S QUARTERLY OPERATING RESULTS MAY
DISAPPOINT ANALYSTS' EXPECTATIONS, WHICH COULD HAVE A NEGATIVE IMPACT ON THE
COMPANY'S STOCK PRICE. Should the Company's results of operations from quarter
to quarter fail to meet the expectations of public market analysts and
investors, its stock price could suffer. Any significant unanticipated shortfall
of revenues or increase in expenses could negatively impact its expected
quarterly results of operations should the Company be unable to make timely
adjustments to compensate for them. Furthermore, a failure on the part of the
Company to estimate accurately the timing or magnitude of particular anticipated
revenues or expenses could also negatively impact its quarterly results of
operations.

Because the Company's quarterly results of operations have fluctuated
in the past and will continue to fluctuate in the future, investors should not
rely on the results of any past quarter or quarters as an indication of future
performance in its business operations or stock price. For example, increases in
the Company's quarterly revenues for the quarters ended September 30, 1999
through September 30, 2000 have varied between 48% and 67%, and total operating
costs and expenses, as a percentage of revenues, have fluctuated between 296%
and 523%. Fluctuations in the Company's quarterly operating results depend on a
number of factors. Some of these factors are industry risks over which the
Company has no control, including the introduction of new services by its
competitors, fluctuations in the demand and sales cycle for its services,
fluctuations in the market for qualified sales and other personnel, changes in
the prices for Internet connectivity the Company pays backbone providers, its
ability to obtain local loop connections to its service points at favorable
prices, and integration of people, operations, products and technologies of
acquired businesses.

Other factors that may cause fluctuations in the Company's quarterly
operating results arise from strategic decisions the Company has made or will
make with respect to the timing and magnitude of capital expenditures such as
those associated with the deployment of additional service points and the terms
of its Internet connectivity purchases. For example, the Company's practice is
to purchase Internet connectivity from backbone providers at new service points
before customers are secured. The

18.
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INTERNAP NETWORK SERVICES CORPORATION

Company also has agreed to purchase Internet connectivity from some providers
without regard to the amount the Company resells to its customers.

THE COMPANY MAY REQUIRE ADDITIONAL CAPITAL IN THE FUTURE AND MAY NOT BE
ABLE TO SECURE ADEQUATE FUNDS ON TERMS ACCEPTABLE TO THE COMPANY. The expansion
and development of the Company's business will require significant capital,
which the Company may be unable to obtain, to fund its capital expenditures and
operations, including working capital needs. The Company's principal capital
expenditures and lease payments include deployment of service points,
construction of collocation facilities, leasehold improvements and the purchase,
lease and installation of network equipment such as routers, telecommunications
equipment and other computer equipment. The timing and amount of the Company's
future capital requirements may vary significantly depending on numerous
factors, including regulatory, technological, competitive and other developments
in its industry. During the next 12 months, the Company expects to meet its cash
requirements with existing cash, cash equivalents, short-term investments, cash
flow from sales of its services and use of credit facilities. However, the
Company's capital requirements depend on several factors, including the rate of
market acceptance of the Company's services, the ability to expand its customer
base, the rate of deployment of additional service points and collocation
facilities and other factors. If the Company's capital requirements vary
materially from those currently planned, or if the Company fails to generate
sufficient cash flow from the sales of its services, the Company may require
additional financing sooner than anticipated or the Company may have to delay or
abandon some or all of its development and expansion plans or otherwise forego
market opportunities.

The Company may not be able to obtain future equity, debt or vendor
financing on favorable terms, if at all. In addition, the Company's credit
agreement contains covenants restricting its ability to incur further
indebtedness. Future borrowing instruments such as credit facilities and lease
agreements are likely to contain similar or more restrictive covenants and will
likely require the Company to pledge assets as security for borrowings
thereunder. The Company's inability to obtain additional capital on satisfactory
terms may delay or prevent the expansion of its business.

IF THE COMPANY IS UNABLE TO MANAGE COMPLICATIONS THAT ARISE DURING
DEPLOYMENT OF NEW SERVICE POINTS AND COLLOCATION FACILITIES, THE COMPANY MAY NOT
SUCCEED IN ITS EXPANSION PLANS. Any delay in the opening of new service points
and collocation facilities would significantly harm the Company's plans to
expand its business. In its effort to deploy new service points and collocation
facilities, the Company faces various risks associated with significant
construction projects, including identifying and locating service point or
collocation facility sites, construction delays, cost estimation errors or
overruns, delays in connecting with local exchanges, equipment and material
delays or shortages, the inability to obtain necessary permits on a timely
basis, if at all, and other factors, many of which are beyond the Company's
control and all of which could delay the deployment of a new service point or
collocation facility. The deployment of new service points and collocation
facilities, each of which takes approximately four to six months to complete, is
a key element of the Company's business strategy. In addition to its 23 existing
facilities, the Company is planning to continue to deploy service points and
collocation facilities across a wide range of geographic regions, including
foreign countries. Although the Company conducts market research in a geographic
area before deploying a service point or collocation facility, the Company does
not enter into service contracts with customers prior to building a new service
point or collocation facility.

THE COMPANY WILL INCUR ADDITIONAL EXPENSE ASSOCIATED WITH THE
DEPLOYMENT OF NEW SERVICE POINTS AND COLLOCATION FACILITIES AND MAY BE UNABLE TO
EFFECTIVELY INTEGRATE NEW SERVICE POINTS AND COLLOCATION FACILITIES INTO ITS
EXISTING NETWORK, WHICH COULD DISRUPT ITS SERVICE. New service points and
collocation facilities, if completed, will result in substantial new operating
expenses, including expenses associated with hiring, training, retaining and
managing new employees, provisioning capacity from backbone providers,
purchasing new equipment, implementing new systems, leasing additional real
estate and incurring additional depreciation expense. In addition, if the
Company does not institute adequate financial and managerial controls, reporting
systems, and procedures with which to operate multiple service points and
collocation facilities in geographically dispersed locations, its operations
will be significantly harmed.

BECAUSE THE COMPANY'S REVENUES DEPEND HEAVILY ON A FEW SIGNIFICANT
CUSTOMERS, A LOSS OF ONE OR MORE OF THESE SIGNIFICANT CUSTOMERS COULD REDUCE THE
COMPANY'S REVENUES. The Company currently derives a substantial portion of its
total revenues from a limited number of customers, and the revenues from these
customers may not continue. For the quarter ended September 30, 2000 revenues
from the Company's five largest customers represented approximately 16.3% of its
total revenues. Typically, the agreements with the Company's customers are based
on the Company's standard terms and conditions of service and generally have
terms ranging from one year to three years. Revenues from these customers or
from other customers that have accounted for a significant portion of the
Company's revenues in past periods, individually or as a group, may not
continue. If such revenues do continue, they may not reach or exceed historical
levels in any future period. In addition, the Company may not succeed in
diversifying its customer base in future periods. Accordingly, the Company may
continue to derive a significant portion of its revenues from a relatively small
number of customers. Further, the Company has had limited experience with the
renewal of contracts by customers whose initial service contract terms have been
completed and these customers may not renew their contracts with the Company.

19.
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INTERNAP NETWORK SERVICES CORPORATION

IF THE COMPANY IS UNABLE TO CONTINUE TO RECEIVE COST-EFFECTIVE SERVICE
FROM ITS BACKBONE PROVIDERS, THE COMPANY MAY NOT BE ABLE TO PROVIDE ITS INTERNET
CONNECTIVITY SERVICES ON PROFITABLE TERMS AND THESE BACKBONE PROVIDERS MAY NOT
CONTINUE TO PROVIDE SERVICE TO THE COMPANY. In delivering its services, the
Company relies on Internet backbones, which are built and operated by others. In
order to be able to provide optimal routing to its customers through its service
points, the Company must purchase connections from several Internet backbone
providers. There can be no assurance that these Internet backbone providers will
continue to provide service to the Company on a cost-effective basis, if at all,
or that these providers will provide the Company with additional capacity to
adequately meet customer demand. Furthermore, it is very unlikely that the
Company could replace its Internet backbone providers on comparable terms.

Currently, in each of its fully operational service points, the Company
has connections to some combination of the following 11 backbone providers:
AT&T, Cable & Wireless USA, Inc., Earthlink, Inc., Global Crossing
Telecommunications, Inc., Genuity, Intermedia Communications Inc., PSINet, Inc.,
Qwest Communications International, Inc., Sprint Internet Services, UUNET, a MCI
WorldCom Company, and Verio, Inc. (which was acquired by NTT Communications
Corporation). The Company may be unable to maintain relationships with, or
obtain necessary additional capacity from, these backbone providers.
Furthermore, the Company may be unable to establish and maintain relationships
with other backbone providers that may emerge or that are significant in
geographic areas in which the Company locates its service points.

COMPETITION FROM MORE ESTABLISHED COMPETITORS WHO HAVE GREATER REVENUES
COULD DECREASE ITS MARKET SHARE. The Internet connectivity services market is
extremely competitive, and there are few substantial barriers to entry. The
Company expects competition from existing competitors to intensify in the
future, and the Company may not have the financial resources, technical
expertise, sales and marketing abilities or support capabilities to compete
successfully in its market. Many of the Company's existing competitors have
greater market presence, engineering and marketing capabilities, and financial,
technological and personnel resources than the Company does. As a result, the
Company's competitors may have several advantages over the Company as it seeks
to develop a greater market presence.

The Company's competitors currently include backbone providers that
provide connectivity services to the Company, including AT&T, Cable & Wireless
USA, Earthlink, Global Crossing, Genuity, Intermedia, PSINet, Qwest
Communications International, Sprint, UUNET and Verio (which was acquired by
NTT Communications Corporation), regional Bell operating companies which offer
Internet access, and global, national and regional Internet service providers.

In addition, if the Company is successful in implementing the Company's
international expansion, the Company expects to encounter additional competition
from international Internet service providers as well as international
telecommunications companies.

COMPETITION FROM NEW COMPETITORS COULD DECREASE THE COMPANY'S MARKET
SHARE. The Company also believes that new competitors will enter its market.
Such new competitors could include computer hardware, software, media and other
technology and telecommunications companies. A number of telecommunications
companies and online service providers have announced plans to offer or expand
their network services. For example, Genuity, PSINet and Verio (which was
acquired by NTT Communications Corporation) have expanded their Internet access
products and services through acquisition. Further, the ability of some of these
potential competitors to bundle other services and products with their network
services could place the Company at a competitive disadvantage. Various
companies are also exploring the possibility of providing, or are currently
providing, high-speed data services using alternative delivery methods including
the cable television infrastructure, direct broadcast satellites, wireless cable
and wireless local loop. In addition, Internet backbone providers may make
technological developments, such as improved router technology, that will
enhance the quality of their services.

PRICING PRESSURE COULD DECREASE THE COMPANY'S MARKET SHARE. Increased
price competition or other competitive pressures could erode the Company's
market share. The Company currently charges, and expects to continue to charge,
more for its Internet connectivity services than its competitors. For example,
the Company's current standard pricing is approximately 5% more than UUNET's
current standard pricing and approximately 18% more than Sprint's current
standard pricing. By bundling their services and reducing the overall cost of
their solutions, telecommunications companies that compete with the Company may
be able to provide customers with reduced communications costs in connection
with their Internet connectivity services or private network services, thereby
significantly increasing the pressure on the Company to decrease its prices. The
Company may not be able to offset the effects of any such price reductions even
with an increase in the number of its customers, higher revenues from enhanced
services, cost reductions or otherwise. In addition, the Company believes that
the Internet connectivity industry is likely to encounter consolidation in the
future. Consolidation could result in increased pressure on the Company to
decrease its prices.

A FAILURE IN THE COMPANY'S NETWORK OPERATIONS CENTERS, SERVICE POINTS
OR COMPUTER SYSTEMS WOULD CAUSE A SIGNIFICANT DISRUPTION IN THE PROVISION OF ITS
INTERNET CONNECTIVITY SERVICES. Although the Company has taken precautions
against systems failure, interruptions could result from natural disasters as
well as power loss, telecommunications failure and similar events. The Company's
business depends on the efficient and uninterrupted operation of its network
operations centers,

20.
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INTERNAP NETWORK SERVICES CORPORATION

its service points and its computer and communications hardware systems and
infrastructure. The Company currently has one network operations center located
in Seattle, and it has 23 service points which are located in the Atlanta,
Boston (two service points), Chicago, Dallas (two service points), Denver,
Fremont, CA, Houston, Los Angeles, Miami, New York (two service points), Orange
County, CA, Philadelphia, San Diego, San Francisco, San Jose (two service
points), Seattle (three service points), and Washington, D.C. metropolitan
areas. If the Company experiences a problem at its network operations centers,
the Company may be unable to provide Internet connectivity services to its
customers, provide customer service and support or monitor its network
infrastructure and service points, any of which would seriously harm its
business.

BECAUSE THE COMPANY HAS NO EXPERIENCE OPERATING INTERNATIONALLY, ITS
INTERNATIONAL EXPANSION MAY BE LIMITED. Although the Company currently operates
in 17 domestic metropolitan markets, a key component of its strategy is to
expand into international markets. The Company has no experience operating
internationally. The Company may not be able to adapt its services to
international markets or market and sell these services to customers abroad. In
addition to general risks associated with international business expansion, the
Company faces the following specific risks in its international business
expansion plans:

- difficulties in establishing and maintaining relationships with
foreign backbone providers and local vendors, including co-location
and local loop providers; and

- difficulties in locating, building and deploying network operations
centers, service points and collocation facilities in foreign
countries, including in the United Kingdom and the Netherlands
where the Company plans to deploy service points in 2000, and
managing service points and network operations centers across
disparate geographic areas.

The Company may be unsuccessful in its efforts to address the risks
associated with its currently proposed international operations, and its
international sales growth may therefore be limited.

THE COMPANY'S BRAND IS RELATIVELY NEW, AND FAILURE TO DEVELOP BRAND
RECOGNITION COULD HURT THE COMPANY'S ABILITY TO COMPETE EFFECTIVELY. To
successfully execute its strategy, the Company must strengthen its brand
awareness. If the Company does not build its brand awareness, its ability to
realize its strategic and financial objectives could be hurt. Many of the
Company's competitors have well-established brands associated with the provision
of Internet connectivity services. To date, the Company's market presence has
been limited principally to the Atlanta, Boston, Chicago, Dallas, Denver,
Fremont CA, Houston, Los Angeles, Miami, New York, Orange County, CA,
Philadelphia, San Diego, San Francisco, San Jose, Seattle and Washington D.C.
metropolitan areas. To date, the Company has attracted its existing customers
primarily through a relatively small sales force and word of mouth. In order to
build its brand awareness, the Company intends to increase its marketing efforts
significantly, which may not be successful, and the Company must continue to
provide high quality services. As part of its brand building efforts, the
Company expects to increase its marketing budget substantially as well as its
marketing activities, including advertising, tradeshows, direct response
programs and new service point and collocation facility launch events.

THE COMPANY IS DEPENDENT UPON ITS KEY EMPLOYEES AND MAY BE UNABLE TO
ATTRACT OR RETAIN SUFFICIENT NUMBERS OF QUALIFIED PERSONNEL. The Company's
future performance depends to a significant degree upon the continued
contributions of its executive management team and key technical personnel. The
loss of any member of the Company's executive management team or a key technical
employee, such as its Chief Executive Officer, Anthony Naughtin, its Chief
Operating Officer, Michael Vent, its Chief Technology Officer, Christopher
Wheeler or its Chief Financial Officer, Paul McBride, could significantly harm
the Company. Any of the Company's officers or employees can terminate his or her
relationship with the Company at any time. To the extent the Company is able to
expand its operations and deploy additional service points and collocation
facilities, its workforce will be required to grow. Accordingly, the Company's
future success depends on the Company's ability to attract, hire, train and
retain a substantial number of highly skilled management, technical, sales,
marketing and customer support personnel. Competition for qualified employees is
intense. Consequently, the Company may not be successful in attracting, hiring,
training and retaining the people the Company needs, which would seriously
impede its ability to implement its business strategy.

IF THE COMPANY IS NOT ABLE TO SUPPORT ITS RAPID GROWTH EFFECTIVELY, ITS
EXPANSION PLANS MAY BE FRUSTRATED OR MAY FAIL. The Company's inability to manage
growth effectively would seriously harm its plans to expand its Internet
connectivity services into new markets. Since the introduction of its Internet
connectivity services, the Company has experienced a period of rapid growth and
expansion, which has placed, and continues to place, a significant strain on all
of its resources. For example, as of December 31, 1996 the Company had one
operational service point and nine employees compared to 23 operational service
points and 694 full-time employees as of September 30, 2000. In addition, the
Company had $3.6 million in revenues for the three months ended September 30,
1999, compared to $20.2 million in revenues for the three months ended September
30, 2000. The Company expects its growth to continue to strain its management,
operational and financial resources. For example, the Company may not be able to
install adequate financial control systems in an efficient and timely manner,
and its current or planned information systems, procedures and controls may be
inadequate to support its future operations. The

21.
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INTERNAP NETWORK SERVICES CORPORATION

difficulties associated with installing and implementing new systems, procedures
and controls may place a significant burden on the Company's management and its
internal resources. The Company's plans to rapidly deploy additional service
points and collocation facilities could place a significant strain on its
management's time and resources.

IF THE COMPANY FAILS TO ADEQUATELY PROTECT ITS INTELLECTUAL PROPERTY,
THE COMPANY MAY LOSE RIGHTS TO SOME OF ITS MOST VALUABLE ASSETS. The Company
relies on a combination of patent, copyright, trademark, trade secret and other
intellectual property law, nondisclosure agreements and other protective
measures to protect its proprietary technology. The InterNAP logo, InterNAP and
P-NAP are trademarks of InterNAP which are registered in the United States. The
United States Patent and Trademark Office, or USPTO, issued a patent in
September 1999 relating to an initial patent application the Company filed on
September 3, 1997. The patent is enforceable for a duration of 20 years from the
date of filing, or until September 3, 2017. In addition, the Company acquired an
additional patent in its acquisition of VPNX.com, Inc. There can be no assurance
that these patents or any future issued patent will provide significant
proprietary protection or commercial advantage to the Company or that the USPTO
will allow any additional or future claims. The Company has a second application
pending and may file additional applications in the future. Additional claims
that were included by amendment in the Company's initial application have now
been included in its second patent application. The Company's patent and patent
applications relate to its P-NAP facility technology. In addition, the Company
has filed a corresponding international patent application under the Patent
Cooperation Treaty.

It is possible that any patents that have been or may be issued to the
Company could still be successfully challenged by third parties, which could
result in the Company's loss of the right to prevent others from exploiting the
inventions claimed in those patents. Further, current and future competitors may
independently develop similar technologies, duplicate the Company's services and
products or design around any patents that may be issued to the Company. In
addition, effective patent protection may not be available in every country in
which the Company intends to do business.

In addition to patent protection, the Company believes the protection
of its copyrightable materials, trademarks and trade secrets is important to its
future success. The Company relies on a combination of laws, such as copyright,
trademark and trade secret laws and contractual restrictions, such as
confidentiality agreements and licenses, to establish and protect its
proprietary rights. In particular, the Company generally enters into
confidentiality agreements with its employees and nondisclosure agreements with
its customers and corporations with whom the Company has strategic
relationships. In addition, the Company generally registers its important
trademarks with the USPTO to preserve their value and establish proof of its
ownership and use of these trademarks. Any trademarks that may be issued to the
Company may not provide significant proprietary protection or commercial
advantage to the Company. Despite any precautions that the Company has taken,
intellectual property laws and contractual restrictions may not be sufficient to
prevent misappropriation of its technology or deter others from developing
similar technology.

THE COMPANY MAY FACE LITIGATION AND LIABILITY DUE TO CLAIMS OF
INFRINGEMENT OF THIRD PARTY INTELLECTUAL PROPERTY RIGHTS. The telecommunications
industry is characterized by the existence of a large number of patents and
frequent litigation based on allegations of patent infringement. From time to
time, third parties may assert patent, copyright, trademark and other
intellectual property rights to technologies that are important to the Company's
business. Any claims that the Company's services infringe or may infringe
proprietary rights of third parties, with or without merit, could be
time-consuming, result in costly litigation, divert the efforts of the Company's
technical and management personnel or require the Company to enter into royalty
or licensing agreements, any of which could significantly harm its operating
results. In addition, in its customer agreements, the Company agrees to
indemnify its customers for any expenses or liabilities resulting from claimed
infringement of patents, trademarks or copyrights of third parties. If a claim
against the Company were to be successful and the Company were not able to
obtain a license to the relevant or a substitute technology on acceptable terms
or redesign its products to avoid infringement, its ability to compete
successfully in its competitive market would be impaired.

BECAUSE THE COMPANY DEPENDS ON THIRD PARTY SUPPLIERS FOR KEY COMPONENTS
OF ITS NETWORK INFRASTRUCTURE, FAILURES OF THESE SUPPLIERS TO DELIVER THEIR
COMPONENTS AS AGREED COULD HINDER ITS ABILITY TO PROVIDE ITS SERVICES ON A
COMPETITIVE AND TIMELY BASIS. Any failure to obtain required products or
services from third party suppliers on a timely basis and at an acceptable cost
would affect the Company's ability to provide its Internet connectivity services
on a competitive and timely basis. The Company is dependent on other companies
to supply various key components of its infrastructure, including the local
loops between its service points and its Internet backbone providers and between
its service points and its customers' networks. In addition, the routers and
switches used in the Company's network infrastructure are currently supplied by
a limited number of vendors, including Cisco Systems, Inc. Additional sources of
these services and products may not be available in the future on satisfactory
terms, if at all. The Company purchases these services and products pursuant to
purchase orders placed from time to time. Furthermore, the Company does not
carry significant inventories of the products it purchases, and the Company has
no guaranteed supply arrangements with its vendors. The Company has in the past
experienced delays in installation of services and receiving shipments of
equipment purchased. To date, these delays have neither been material nor have
adversely affected the Company, but these delays could affect the Company's
ability to deploy service points in the future on a timely basis. If Cisco
Systems does not provide the Company with its routers, or if the Company's
limited source suppliers

22.
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INTERNAP NETWORK SERVICES CORPORATION

fail to provide products or services that comply with evolving Internet and
telecommunications standards or that interoperate with other products or
services the Company uses in its network infrastructure, the Company may be
unable to meet its customer service commitments.

THE COMPANY HAS ACQUIRED AND EXPECTS TO ACQUIRE OTHER BUSINESSES, AND
THESE ACQUISITIONS INVOLVE NUMEROUS RISKS. The Company recently completed two
significant business acquisitions. In June and July 2000, the Company acquired
CO Space, Inc. and VPNX.com, Inc., respectively, in merger transactions. The
Company expects to engage in additional acquisitions in the future in order to,
among other things, enhance its existing services and enlarge its customer base.
Acquisitions involve a number of risks that could potentially, but not
exclusively, include the following:

- difficulties in integrating the operations, personnel,
technologies, products and services of the acquired companies in a
timely and efficient manner;
- diversion of management's attention from normal daily operations;
- insufficient revenues to offset significant unforeseen costs and
increased expenses associated with the acquisitions;
- difficulties in completing projects associated with in-process
research and development being conducted by the acquired
businesses;
- risks associated with the Company's entrance into markets in which
it has little or no prior experience and where competitors have a
stronger market presence;
- deferral of purchasing decisions by current and potential customers
as they evaluate the likelihood of success of the acquisitions;
- difficulties in pursuing relationships with potential strategic
partners who may view the combined company as a more direct
competitor than its predecessor entities taken independently;
- issuance by the Company of equity securities that would dilute
ownership of existing shareholders;
- incurrence of significant debt, contingent liabilities and
amortization expenses; and
- loss of key employees of the acquired companies.

Acquiring high-technology businesses as a means of achieving growth is
inherently risky. To meet these risks, the Company must maintain its ability to
manage effectively any growth that results from using these means. Failure to
manage effectively its growth through mergers and acquisitions, could harm the
Company's business and operating results.

RISKS RELATED TO THE COMPANY'S INDUSTRY

BECAUSE THE DEMAND FOR THE COMPANY'S SERVICES DEPENDS ON CONTINUED
GROWTH IN USE OF THE INTERNET, A SLOWING OF THIS GROWTH COULD HARM THE
DEVELOPMENT OF THE DEMAND FOR THE COMPANY'S SERVICES. Critical issues concerning
the commercial use of the Internet remain unresolved and may hinder the growth
of Internet use, especially in the business market the Company targets. Despite
growing interest in the varied commercial uses of the Internet, many businesses
have been deterred from purchasing Internet connectivity services for a number
of reasons, including inconsistent or unreliable quality of service, lack of
availability of cost-effective, high-speed options, a limited number of local
access points for corporate users, inability to integrate business applications
on the Internet, the need to deal with multiple and frequently incompatible
vendors and a lack of tools to simplify Internet access and use. Capacity
constraints caused by growth in the use of the Internet may, if left unresolved,
impede further development of the Internet to the extent that users experience
delays, transmission errors and other difficulties. Further, the adoption of the
Internet for commerce and communications, particularly by those individuals and
enterprises that have historically relied upon alternative means of commerce and
communication, generally requires an understanding and acceptance of a new way
of conducting business and exchanging information. In particular, enterprises
that have already invested substantial resources in other means of conducting
commerce and exchanging information may be particularly reluctant or slow to
adopt a new strategy that may make their existing personnel and infrastructure
obsolete. The failure of the market for business related Internet solutions to
further develop could cause the Company's revenues to grow more slowly than
anticipated and reduce the demand for its services.

BECAUSE THE MARKET FOR THE COMPANY'S SERVICES, INCLUDING ITS INTERNET
CONNECTIVITY AND COLLOCATION SERVICES, IS NEW AND ITS VIABILITY IS UNCERTAIN,
THERE IS A RISK THE COMPANY'S SERVICES MAY NOT BE ACCEPTED. The Company faces
the risk that the market for its services, including its high performance
Internet connectivity and collocation services, might fail to develop, or
develop more slowly than expected, or that its services may not achieve
widespread market acceptance. This market has only recently begun to develop, is
evolving rapidly and likely will be characterized by an increasing number of
entrants. There is significant uncertainty as to whether this market ultimately
will prove to be viable or, if it becomes viable, that it will grow.
Furthermore, the Company may be unable to market and sell its services
successfully and cost-effectively to a sufficiently large number of customers.
The Company typically charges more for its services than do its competitors,
which may affect market acceptance of its services. Finally, if the Internet
becomes subject to a form of central management, or if the Internet backbone
providers establish an economic settlement arrangement regarding the exchange of
traffic between backbones, the problems of congestion, latency and data loss
addressed by the Company's Internet connectivity services could be largely
resolved and its core business rendered obsolete.

23.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION

IF THE COMPANY IS UNABLE TO RESPOND EFFECTIVELY AND ON A TIMELY BASIS
TO RAPID TECHNOLOGICAL CHANGE, THE COMPANY MAY LOSE OR FAIL TO ESTABLISH A
COMPETITIVE ADVANTAGE IN ITS MARKET. The Internet connectivity industry is
characterized by rapidly changing technology, industry standards, customer needs
and competition, as well as by frequent new product and service introductions.
The Company may be unable to successfully use or develop new technologies, adapt
its network infrastructure to changing customer requirements and industry
standards, introduce new services or enhance its existing services on a timely
basis. Furthermore, new technologies or enhancements that the Company uses or
develops may not gain market acceptance. The Company's pursuit of necessary
technological advances may require substantial time and expense, and the Company
may be unable to successfully adapt its network and services to alternate access
devices and technologies.

If its services do not continue to be compatible and interoperable with
products and architectures offered by other industry members, the Company's
ability to compete could be impaired. The Company's ability to compete
successfully is dependent, in part, upon the continued compatibility and
interoperability of its services with products and architectures offered by
various other industry participants. Although the Company intends to support
emerging standards in the market for Internet connectivity, there can be no
assurance that the Company will be able to conform to new standards in a timely
fashion, if at all, or maintain a competitive position in the market.

NEW TECHNOLOGIES COULD DISPLACE THE COMPANY'S SERVICES OR RENDER THEM
OBSOLETE. New technologies and industry standards have the potential to replace
or provide lower cost alternatives to the Company's services. The adoption of
such new technologies or industry standards could render the Company's existing
services obsolete and unmarketable. For example, the Company's services rely on
the continued widespread commercial use of the set of protocols, services and
applications for linking computers known as Transmission Control
Protocol/Internetwork Protocol, or TCP/IP. Alternative sets of protocols,
services and applications for linking computers could emerge and become widely
adopted. A resulting reduction in the use of TCP/IP could render the Company's
services obsolete and unmarketable. The Company's failure to anticipate the
prevailing standard or the failure of a common standard to emerge could hurt its
business. Further, the Company anticipates the introduction of other new
technologies, such as telephone and facsimile capabilities, private networks,
multimedia document distribution and transmission of audio and video feeds,
requiring broadband access to the Internet, but there can be no assurance that
such technologies will create opportunities for the Company.

SERVICE INTERRUPTIONS CAUSED BY SYSTEM FAILURES COULD HARM CUSTOMER
RELATIONS, EXPOSE THE COMPANY TO LIABILITY AND INCREASE THE COMPANY'S CAPITAL
COSTS. Interruptions in service to the Company's customers could harm the
Company's customer relations, expose the Company to potential lawsuits and
require the Company to spend more money adding redundant facilities. The
Company's operations depend upon its ability to protect its customers' data and
equipment, its equipment and its network infrastructure, including its
connections to its backbone providers, against damage from human error or "acts
of God." Even if the Company takes precautions, the occurrence of a natural
disaster or other unanticipated problem could result in interruptions in the
services the Company provides to its customers.

CAPACITY CONSTRAINTS COULD CAUSE SERVICE INTERRUPTIONS AND HARM
CUSTOMER RELATIONS. Failure of the backbone providers and other Internet
infrastructure companies to continue to grow in an orderly manner could result
in capacity constraints leading to service interruptions to the Company's
customers. Although the national telecommunications networks and Internet
infrastructures have historically developed in an orderly manner, there is no
guarantee that this orderly growth will continue as more services, users and
equipment connect to the networks. Failure by the Company's telecommunications
and Internet service providers to provide the Company with the data
communications capacity it requires could cause service interruptions.

THE COMPANY'S NETWORK AND SOFTWARE ARE VULNERABLE TO SECURITY BREACHES
AND SIMILAR THREATS WHICH COULD RESULT IN ITS LIABILITY FOR DAMAGES AND HARM ITS
REPUTATION. Despite the implementation of network security measures, the core of
the Company's network infrastructure is vulnerable to computer viruses,
break-ins, network attacks and similar disruptive problems. This could result in
the Company's liability for damages, and its reputation could suffer, thereby
deterring potential customers from working with the Company. Security problems
caused by third parties could lead to interruptions and delays or to the
cessation of service to the Company's customers. Furthermore, inappropriate use
of the network by third parties could also jeopardize the security of
confidential information stored in the Company's computer systems and in those
of its customers.

Although the Company intends to continue to implement industry-standard
security measures, in the past some of these industry-standard measures have
occasionally been circumvented by third parties, although not in its system.
Therefore, there can be no assurance that the measures the Company implements
will not be circumvented. The costs and resources required to eliminate computer
viruses and alleviate other security problems may result in interruptions,
delays or cessation of service to the Company's customers, which could hurt its
business.

24.
<PAGE>

INTERNAP NETWORK SERVICES CORPORATION

SHOULD THE GOVERNMENT MODIFY OR INCREASE ITS REGULATION OF THE
INTERNET, THE PROVISION OF ITS SERVICES COULD BECOME MORE COSTLY. There is
currently only a small body of laws and regulations directly applicable to
access to or commerce on the Internet. However, due to the increasing
popularity and use of the Internet, international, federal, state and local
governments may adopt laws and regulations, which affect the Internet. The
nature of any new laws and regulations and the manner in which existing and
new laws and regulations may be interpreted and enforced cannot be fully
determined. The adoption of any future laws or regulations might decrease the
growth of the Internet, decrease demand for the Company's services, impose
taxes or other costly technical requirements or otherwise increase the cost of
doing business on the Internet or in some other manner have a significantly
harmful effect on the Company or its customers. The government may also seek
to regulate some segments of the Company's activities as it has with basic
telecommunications services. Moreover, the applicability to the Internet of
existing laws governing intellectual property ownership and infringement,
copyright, trademark, trade secret, obscenity, libel, employment, personal
privacy and other issues is uncertain and developing. The Company cannot
predict the impact, if any, that future regulation or regulatory changes may
have on its business.

25.
<PAGE>

PART II. OTHER INFORMATION

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

On July 31, 2000, the Company issued an aggregate of approximately 2.0
million shares of its common stock in exchange for the outstanding capital stock
of VPNX.com. in an unregistered offering in reliance upon Rule 506 of Regulation
D under the Securities Act of 1933, as amended. The sales were made without
general solicitation or advertising. All recipients of the shares were
accredited investors.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits:

2.1 Agreement and Plan of Merger and Reorganization, dated as of
July 6, 2000, by and among the Company, Virginia Acquisition
Corp., a Delaware corporation, and VPNX.com, Inc., a
Delaware corporation (incorporated by reference to the
Company's Current Report on Form 8-K, dated July 31, 2000,
as amended by the Company's amended Current Report on Form
8-K/A, dated October 4, 2000).

4.1 Form of Registration Rights Agreement by and among the
Company and the stockholders of VPNX.com, Inc., a Delaware
corporation (incorporated by reference to the Company's
Current Report on Form 8-K, dated July 31, 2000, as amended
by the Company's amended Current Report on Form 8-K/A, dated
October 4, 2000).

10.1 Amended and Restated InterNAP Network Services Corporation
1998 Stock Options/Stock Issuance Plan.

10.2 Amended and Restated InterNAP Network Services Corporation
1999 Stock Incentive Plan for Non-Officers.

27.1 Financial Data Schedule (filed only with the electronic
submission of Form 10-Q in accordance with the Edgar
requirements).

(b) Reports on Form 8-K:

On September 5, 2000, the Company filed an amendment on Form
8-K/A to its Current Report on Form 8-K filed on June 29, 2000
announcing its acquisition of CO Space, Inc.

On July 31, 2000, the Company filed a Current Report on Form 8-K
announcing its acquisition of VPNX.com, Inc. and, on October 4,
2000, filed an amendment on Form 8-K/A to this July 31, 2000
Current Report on Form 8-K.

26.
<PAGE>

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized on this 13th day of November,
2000.

INTERNAP NETWORK SERVICES CORPORATION
(Registrant)

By: /s/ Paul E. McBride
--------------------------------------------------
Paul E. McBride
SENIOR VICE PRESIDENT AND CHIEF FINANCIAL OFFICER
(PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER)

27.
<PAGE>

EXHIBIT INDEX

EXHIBIT
INDEX TITLE
------- ------------
2.1 Agreement and Plan of Merger and Reorganization, dated as of
July 6, 2000, by and among the Company, Virginia Acquisition
Corp., a Delaware corporation, and VPNX.com, Inc., a Delaware
corporation (incorporated by reference to the Company's Current
Report on Form 8-K, dated July 31, 2000, as amended by the
Company's amended Current Report on Form 8-K/A, dated October
4, 2000).

4.1 Form of Registration Rights Agreement by and among the Company
and the stockholders of VPNX.com,Inc., a Delaware corporation
(incorporated by reference to the Company's Current Report on
Form 8-K, dated July 31, 2000, as amended by the Company's
amended Current Report on Form 8-K/A, dated October 4, 2000).

10.1 Amended and Restated InterNAP Network Services Corporation 1998
Stock Options/Stock Issuance Plan.

10.2 Amended and Restated InterNAP Network Services Corporation 1999
Stock Incentive Plan for Non-Officers.

27.1 Financial Data Schedule.

28.