COMMTOUCH SOFTWARE LTD, 424B4, 1999-07-13

COMMTOUCH SOFTWARE LTD
424B4, 1999-07-13
COMMUNICATIONS SERVICES, NEC

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<PAGE> 1

Filed pursuant to Rule 424(b)(4)
COMMTOUCH SOFTWARE LTD. Registration No. 333-78531

3,000,000 ORDINARY SHARES LOGO

$16.00 PER SHARE

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

- - CommTouch Software Ltd. is offering 3,000,000 of its ordinary shares. All of
the ordinary shares are being sold by CommTouch.
- - This is our initial public offering and no public market currently exists for
our shares.

- - Proposed trading symbol: Nasdaq National Market -- CTCH.

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

THIS INVESTMENT INVOLVES RISK. SEE "RISK FACTORS" BEGINNING ON PAGE 4.
- --------------------------------------------------------------------------------

<TABLE>
<CAPTION>
PER SHARE TOTAL
--------- -----------
<S> <C> <C>
Public Offering Price....................................... $16.00 $48,000,000
Underwriting Discounts and Commissions...................... $ 1.12 $ 3,360,000
Proceeds to CommTouch....................................... $14.88 $44,640,000
</TABLE>

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

The underwriters have a 30 day option to purchase up to 450,000 additional
ordinary shares from us to cover over-allotments, if any.

Upon the sale of the shares in the initial public offering, CommTouch will sell
an additional 896,057 shares to Go2Net, Inc. and an additional 448,029 shares to
Vulcan Ventures Incorporated in a concurrent private placement at a price equal
to the initial public offering price less the underwriting discount. In
addition, a warrant will be issued to Go2Net, Inc. to purchase 1,136,000
ordinary shares at an exercise price of $12.80 per share.

NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OF ANYONE'S INVESTMENT IN THESE SECURITIES OR DETERMINED
IF THIS PROSPECTUS IS TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY
IS A CRIMINAL OFFENSE.

The Israel Securities Authority has granted CommTouch an exemption from the
obligation to publish an Israeli prospectus relating to this offering. This
exemption shall not be construed as a determination that this prospectus is
truthful or complete or as an expression of opinion as to the securities
offered.

U.S. Bancorp Piper Jaffray
Prudential Securities
Warburg Dillon Read LLC
THE DATE OF THIS PROSPECTUS IS JULY 13, 1999.
<PAGE> 2

YOU SHOULD RELY ONLY ON THE INFORMATION CONTAINED IN THIS PROSPECTUS. WE HAVE
NOT AUTHORIZED ANYONE TO PROVIDE YOU WITH INFORMATION DIFFERENT FROM THAT
CONTAINED IN THIS PROSPECTUS. WE ARE OFFERING TO SELL, AND SEEKING OFFERS TO
BUY, ORDINARY SHARES ONLY IN JURISDICTIONS WHERE OFFERS AND SALES ARE PERMITTED.
THE INFORMATION CONTAINED IN THIS PROSPECTUS IS ACCURATE ONLY AS OF THE DATE OF
THIS PROSPECTUS, REGARDLESS OF THE TIME OF DELIVERY OF THIS PROSPECTUS OR OF ANY
SALE OF OUR ORDINARY SHARES.

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

TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Summary..................................................... 1
Risk Factors................................................ 4
Use of Proceeds............................................. 13
Dividend Policy............................................. 13
Capitalization.............................................. 14
Dilution.................................................... 15
Selected Consolidated Financial Information................. 17
Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 19
Business.................................................... 30
Management.................................................. 47
Certain Transactions........................................ 55
Principal Shareholders...................................... 58
Description of Share Capital................................ 60
Shares Eligible for Future Sale............................. 64
U.S. Tax Considerations Regarding Ordinary Shares Acquired
by U.S. Taxpayers......................................... 66
Israeli Taxation and Investment Programs.................... 70
Conditions In Israel........................................ 75
Underwriting................................................ 77
Legal Matters............................................... 79
Experts..................................................... 79
ISA Exemption............................................... 79
Where You Can Find More Information......................... 79
Enforceability of Civil Liabilities......................... 80
Index to Consolidated Financial Statements.................. F-1
</TABLE>

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<PAGE> 3

SUMMARY

The items in the following summary are described in more detail later in this
prospectus. This summary provides an overview of selected information and does
not contain all the information you should consider in making an investment.
Therefore, you should also read the more detailed information set out in this
prospectus, including the Consolidated Financial Statements and the Notes
thereto.

COMMTOUCH

We are a leading global provider of email and other messaging services. Our
flexible and highly customizable solutions enable us to satisfy the different
email and messaging needs of a wide range of business partners, including
websites of all sizes and businesses worldwide. We provide a full-featured,
branded Web-based email service that enhances online brand image, promotes
website usage and creates the opportunity to generate additional revenues from
advertising and direct marketing online. For businesses, we provide email and
communication services to employees and online customers, thereby increasing
communication, brand awareness and revenue opportunities.

Email is one of the most widely used applications on the Internet and has become
a significant communications medium. International Data Corporation, or IDC,
projects that email traffic in the United States will increase from 1.2 billion
messages per day in 1997 to 8.0 billion messages per day in 2002. Further,
Web-based email, which is email accessed over the Internet using a browser
program, is one of the fastest growing categories of email. With the dramatic
growth of international Internet usage, websites and businesses worldwide are
seeking to differentiate themselves online.

We have been providing our Web-based email and other messaging services since
January 1998. As of May 16, 1999, we had over 100 business partners offering our
Web-based email from their sites. Our business partners include Excite,
LookSmart, FortuneCity, Talk City and Nippon Telephone and Telegraph. Through
our business partners' sites we serve approximately 4.5 million emailboxes. In
November 1998, we launched our ZapZone Network service, which enables sites to
provide email to their end users at no cost. As of May 16, 1999, we had
registered approximately 75,000 sites through the ZapZone Network service, and
were serving approximately 480,000 ZapZone Network emailboxes. Our comprehensive
email and messaging services offer the following benefits:

- - Extensive email features. Our services are easy to use, and include a broad
set of email capabilities.

- - Ability to support hundreds of millions of emailboxes. We can support hundreds
of millions of emailboxes across millions of domains while maintaining a
highly reliable service.

- - Customization. Our business partners use our proprietary customization tool to
make the look and feel of their Web-based email interface consistent with
their own brand image.

- - Increased website usage. Our services increase the frequency and duration of
users' visits to our partners' websites.

- - Online marketing capabilities. Our business partners and third parties selling
goods and services online can leverage our services and the demographic
information of our end users to conduct one-to-one direct marketing and
targeted advertising campaigns.

- - Rapidly deployable and cost-effective solutions. Our solutions can be quickly
implemented and can save our partners the significant costs of developing and
maintaining an email service in-house.

- - Extensive Language Capabilities. Our email services are available in 14
languages. Additionally, we can support more than one language on any of our
business partners' websites.

OFFICE LOCATION

Our principal executive offices are located at 10 Technology Avenue, Ein Vered
40696, Israel, where our telephone number is 011-972-9-796-3445, and 3945
Freedom Circle, Santa Clara, California 95054, where our telephone number is
(408) 653-4330. Our website addresses are www.commtouch.com, www.zzn.com and
www.prontomail.com. The information contained on our websites is not a part of
this prospectus.

1
<PAGE> 4

THE OFFERING

Ordinary shares offered................... 3,000,000 shares

Net exercise of outstanding warrants...... 362,809

Private Placement

Ordinary shares offered to Go2Net,
Inc....................................... 896,057

Ordinary shares offered to Vulcan
Ventures.................................. 448,029

Net exercise of warrants offered to
Go2Net.................................... 227,200

Ordinary shares to be outstanding after
the public offering and the private
placement............................... 14,192,215 shares

Use of Proceeds........................... Expansion of sales and marketing
activities; capital expenditures;
expansion of research and
development activities; expansion
of international operations;
working capital and other general
corporate purposes. See "Use of
Proceeds."

Proposed Nasdaq National Market Symbol.... CTCH

Except as set forth in the Consolidated Financial Statements included as part of
this prospectus and as otherwise specified, all information in this prospectus
(including the information set forth above regarding the ordinary shares offered
and the ordinary shares to be outstanding after the offering) is based on the
number of shares outstanding as of March 31, 1999, and:

- includes the sale of 1,344,206 ordinary shares to Go2Net and Vulcan
Ventures in a private placement concurrent with the offering at a private
placement price of $14.88 per share;

- assumes no exercise of the underwriters' over-allotment option;

- gives effect to the subsequent issuance of 42,081 Series D Convertible
Preferred Shares;

- gives effect to a 20-for-one split of the ordinary shares to be effected
prior to the offering;

- gives effect to the conversion of each of CommTouch's convertible
preferred shares into 20 ordinary shares upon the closing of the
offering;

- assumes the net exercise of outstanding in-the-money warrants as of March
31, 1999 to purchase 405,940 ordinary shares at a weighted average
exercise price of $1.70 per share, of which warrants to purchase 277,460
shares expire upon the closing of this offering if not exercised;

- assumes the net exercise of an in-the-money warrant to purchase 1,136,000
ordinary shares to be issued to Go2Net at an exercise price of $12.80 per
share subject to adjustment as set forth in the warrant;

- with respect to financial information, is reported in U.S. dollars;

and does not include:

- 694,860 ordinary shares issuable upon exercise of outstanding options
under our stock option plans and stock option agreements as of March 31,
1999 at a weighted average exercise price of $1.25 per share;

- 3,642,460 ordinary shares available for future grant or issuance under
our stock option plans as of June 8, 1999; and

- 215,000 ordinary shares issuable upon exercise of options granted to
officers and directors after March 31, 1999 at a weighted average
exercise price of $15.76 per share.

2
<PAGE> 5

SUMMARY CONSOLIDATED FINANCIAL DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA)

The following tables set forth our summary consolidated financial data. The
information set forth for the three months ended March 31, 1999 is unaudited.
You should read the following information together with our Consolidated
Financial Statements and the Notes thereto beginning on page F-1 of this
prospectus, the information under "Selected Consolidated Financial Information"
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations." See Note 1 of the Notes to our Consolidated Financial Statements
for an explanation of the weighted average number of shares used in computing
per-share data.

<TABLE>
<CAPTION>
THREE MONTHS
ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
------------------------------------ ----------------
1996 1997 1998 1998 1999
---------- ---------- ---------- ------ -------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenues:
Email services..................................... $ -- $ -- $ 389 $ 32 $ 346
Software licenses, maintenance and services........ 3,134 899 -- -- --
---------- ---------- ---------- ------ -------
Total revenues.............................. 3,134 899 389 32 346
Operating loss..................................... (1,237) (3,405) (4,025) (892) (2,040)
Net loss........................................... (1,282) (3,473) (4,351) (919) (2,311)
Net loss per share -- basic and diluted............ (0.66) (2.40) (3.00) (0.63) (1.50)
Weighted average number of shares -- basic and
diluted.......................................... 1,934 1,450 1,450 1,450 1,546
Pro forma net loss per share -- basic and diluted
(unaudited)...................................... $ (0.78) $ (0.32)
Pro forma weighted average number of
shares -- basic and diluted (unaudited).......... 5,594 7,313
</TABLE>

The following data is presented:

- on an actual basis;

- on a pro forma basis to give effect to (1) the subsequent issuance of
42,081 Series D Convertible Preferred Shares and (2) the automatic
conversion of all of CommTouch's convertible preferred shares into
7,109,800 ordinary shares upon the closing of this offering; and

- on a pro forma as adjusted basis to give effect to (1) the sale of
3,000,000 ordinary shares in this offering, at an initial public offering
price of $16.00 per share and (2) the sale in the private placement of
1,344,086 ordinary shares at $14.88 per share, resulting in aggregate net
cash proceeds of approximately $61.4 million from the public offering and
the private placement.

<TABLE>
<CAPTION>
MARCH 31, 1999
-----------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
--------- --------- -----------
(UNAUDITED)
<S> <C> <C> <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents................................. $ 3,226 $ 16,331 $77,741
Working capital........................................... 1,418 14,523 75,933
Total assets.............................................. 6,025 19,130 86,390
Long-term liabilities..................................... 560 560 560
Shareholders' equity...................................... 2,807 15,912 83,172
</TABLE>

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<PAGE> 6

RISK FACTORS

You should carefully consider the following risk factors before you decide to
buy our ordinary shares. You should also consider the other information in this
prospectus. If any of the following risks actually occur, our business,
financial condition, operating results or cash flows could be materially
adversely affected. This could cause the trading price of our ordinary shares to
decline, and you could lose part or all of your investment.

RISKS RELATING TO THE COMPANY

BECAUSE WE HAVE A LIMITED OPERATING HISTORY AS A WEB-BASED EMAIL SERVICE
PROVIDER, IT IS DIFFICULT TO EVALUATE OUR PROSPECTS

We commenced operations in 1991, but we began commercially selling Web-based
email services only in 1998 after changing our strategic focus from the sale and
service of stand-alone email client software products for mainframe and personal
computers. This change required us to adjust our business processes and to
restructure CommTouch to become a Web-based email service provider. Therefore,
we have only a limited operating history as a provider of Web-based email
services upon which you can evaluate our business and prospects.

WE HAVE A HISTORY OF LOSSES AND MAY NEVER ACHIEVE PROFITABILITY

We incurred net losses of approximately $1.3 million in 1996, $3.5 million in
1997 and $4.4 million in 1998 and $2.3 million in the three months ended March
31, 1999. As of March 31, 1999, we had an accumulated deficit of approximately
$14.0 million. We have not achieved profitability in any period, and we expect
to continue to incur net losses for the foreseeable future.

We have invested heavily in technology and infrastructure development. We expect
to continue to spend substantial financial and other resources on developing and
introducing new service offerings and expanding our sales and marketing
organizations, strategic relationships and operating infrastructure. We expect
that our expenses will continue to increase in absolute dollars. If our revenues
do not correspondingly increase, our operating results and financial condition
will be negatively affected. We may never attain sufficient revenues to achieve
profitability. If we do achieve profitability, we may not sustain or increase
profitability in the future. This may, in turn, cause our stock price to
decline.

WE ARE ENTERING INTO A STRATEGIC ALLIANCE RELATIONSHIP WITH GO2NET PURSUANT TO
WHICH WE ARE ISSUING A WARRANT TO GO2NET WHICH WILL DILUTE OUR SHAREHOLDERS, BUT
WE MAY NOT REALIZE SUBSTANTIAL REVENUES OR OTHER BUSINESS BENEFITS FROM THIS
TRANSACTION

We have negotiated a strategic alliance transaction with Go2Net which will be
entered into simultaneously with the closing of this offering. Pursuant to this
transaction, we will enter into a Customized Web-Based Email Service Agreement
with Go2Net pursuant to which we will share revenues from advertising and
premium services offered to Go2Net's end users through our email service. The
terms of this agreement are substantially the same as our commercial agreements
with other business partners except that we have agreed to share a materially
greater portion of our advertising revenues with Go2Net than we are sharing
under other similar agreements. As part of this transaction, we will issue to
Go2Net a warrant to purchase up to 1,136,000 ordinary shares at an exercise
price of $12.80 per share. This warrant will be exercisable immediately. We have
agreed to register these shares with the Securities and Exchange Commission
within 180 days after the closing of this offering. This warrant will cause
existing investors and investors who purchase shares in this offering immediate
and significant dilution. However, we may not realize any revenues or any other
business benefits from this strategic alliance transaction with Go2Net because
we and Go2Net may not be able to sell significant amounts of advertising and
premium services to Go2Net's end users pursuant to our Web-based email services.
In the future, we may have to issue in the money warrants to acquire our
ordinary shares to business partners who provide us with a large base of
potential end users. We may also have to provide these business partners with
more favorable commercial terms than we have previously provided to our business
partners. The issuance of in the money warrants and the grant of more favorable
terms to business partners may further dilute our shareholders, increase our
operating loss in the future and cause our stock price to fall.

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OUR FUTURE EMAIL SERVICES REVENUES ARE UNPREDICTABLE AND OUR QUARTERLY OPERATING
RESULTS MAY FLUCTUATE AND FLUCTUATIONS COULD ADVERSELY AFFECT THE VALUE OF YOUR
INVESTMENT

Because we have a limited operating history in the provision of Web-based email
services and because of the emerging nature of the markets in which we compete,
our revenue is unpredictable. Our current and future expense levels are to a
large extent fixed. We may be unable to adjust spending quickly to compensate
for any revenue shortfall, and any significant revenue shortfall would have an
immediate negative effect on our results of operations and stock price.

A number of factors, many of which are enumerated in this "Risk Factors"
section, are likely to cause fluctuations in our operating results. Other
factors which may cause such fluctuations include:

- - the size, timing and fulfillment of orders for our email services;

- - our mix of service offerings, including our ability to successfully implement
new services;

- - pricing of our services; and

- - effectiveness of our customer support.

Because of these factors, period-to-period comparisons of our operating results
are not a good indication of our future performance. It is likely that our
operating results in some quarters will be below market expectations.

IF THE MARKET FOR OUR WEB-BASED EMAIL SERVICES DOES NOT GROW RAPIDLY, WE WILL
FAIL TO GENERATE REVENUES

Our success will depend on the widespread acceptance and use of Web-based email
by our customers as a means to increase the value of their services or as a
means of communication. The market for Web-based email services is new and
rapidly evolving. We cannot estimate the size or growth rate of the potential
market for our service offerings. If the market for Web-based email fails to
grow or grows more slowly than we currently anticipate, our business will suffer
dramatically. Even if that market grows, our service may not achieve broad
market acceptance. Since we have only recently introduced our services, we do
not have sufficient experience to evaluate whether they will achieve broad
market acceptance. Also, because all of our revenue is derived directly or
indirectly from our Web-based email solutions, if that market does not grow, our
business will likely fail.

EVEN IF OUR EMAIL SERVICES ARE SUCCESSFUL WITH OUR BUSINESS PARTNERS, WE MAY NOT
DERIVE REVENUE FROM THE USERS OF THE EMAILBOXES, WHICH WOULD PREVENT OUR
BUSINESS FROM GROWING

Even if our services are a success with our business partners, we will not
succeed if we do not derive revenue from the email users that our business
partners give us access to. We plan to derive revenue from these email users by
selling advertisements that the email users will see, by selling premium email
services to the users and by selling access to the email users for direct
marketing purposes. If one or more of these revenue sources is not successful,
we will not succeed. To date, we have generated little revenue from these
potential revenue sources and they may not be successful. Advertisers and direct
marketers may not accept email as a means of placing advertisements and
conducting direct marketing. Email users may not want to receive direct
marketing materials. Also, email users may not want to pay for premium services,
especially since some of these services may be obtained elsewhere for free.
Additionally, in order for these potential revenue streams to be successful, our
business partners will have to successfully market them to their end users who
use our emailboxes. Many of these business partners have little or no experience
with such marketing and may not be successful at it.

Our ability to generate revenues from the emailbox base that our business
partners bring to us also depends on the emailboxes being used on a regular
basis. On an ongoing basis, many of our end users will not regularly use their
emailboxes, and a significant number will cease using our service each month.
For example, approximately 1.1 million of the emailboxes we host were
established under a program in which one of our business partners issued
emailboxes to all of its users on an unsolicited basis, rather than having the
end users register for emailboxes. Accordingly, the figure of 4.5 million
emailboxes used throughout

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this prospectus does not necessarily reflect the number of emailboxes from which
we will be able to generate revenues.

WE DEPEND ON OUR BUSINESS PARTNER RELATIONSHIPS, WHICH ARE BASED ON RELATIVELY
SHORT TERM, NONEXCLUSIVE AGREEMENTS, AND THE LOSS OF ONE OR MORE BUSINESS
PARTNERS COULD HARM OUR BUSINESS

Our ability to increase revenues depends upon successful marketing of our
services through new and existing business partners. Our agreements with our
business partners generally can be terminated for any or for no reason after the
first year. The agreements with our business partners are non-exclusive and do
not restrict them from introducing competing services. Also, some of our
relationships allow termination earlier than one year if we do not provide a
specified level of service. Loss of one or a few key business partners to a
competitive solution could damage our reputation and hurt our ability to develop
new relationships. This could prevent new relationships with business partners
as well as with marketing partners. If we fail to develop new relationships or
if our business partners terminate or do not renew their contracts with us, our
business will suffer, as we will lose potential revenue from the lost business
partners and from their underlying base of email users. One of our business
partners, Talk City, accounts for 20 percent of the emailboxes we currently
host. Another business partner, Excite, accounted for 54 percent of our revenues
in 1998.

WE HAVE MANY ESTABLISHED COMPETITORS WHO ARE OFFERING THE SAME OR SIMILAR
SERVICES, INCLUDING MICROSOFT, AND WE WILL NOT BE ABLE TO COMPETE EFFECTIVELY
AGAINST THEM IF THEY PROVIDE SUPERIOR SERVICES AT BETTER PRICES

The market for Web-based email services is intensely competitive and we expect
it to be increasingly competitive. Increased competition could result in pricing
pressures, reduced operating margins and loss of market share, any of which
could cause our business to suffer. Many of our current and potential
competitors have longer operating histories, larger end user bases, greater
brand recognition and significantly greater financial, marketing and other
resources than we do. These competitors may enter into strategic or commercial
relationships with larger, more established and better-financed companies. In
addition to competing with companies that develop and maintain in-house
services, we compete with email service providers, such as USA.NET, Mail.com and
Critical Path, and email software companies, such as Microsoft, Software.com,
Inc. and Lotus Development Corporation. Microsoft currently offers free Web-
based email through its Hotmail website and has a dominant market share. In
addition, Internet service providers, such as AOL (and its subsidiary,
Netscape), provide Web-based email services to a large number of end users.

Some of our competitors provide a variety of Web-oriented services, such as
Internet access, browser software, homepage design and hosting, in addition to
email. The ability of these competitors to offer a broader suite of
complementary services may give them a considerable advantage over us in
accessing customers, meeting customer needs and minimizing the effect that
performance of a single product will have on their business. Some of our
competitors may offer services at or below cost. In the future, as we expand our
service offerings, we expect to encounter increased competition in the
development and delivery of these services.

IF WE DO NOT EXPAND OUR SALES AND MARKETING ORGANIZATION WE WILL NOT BE ABLE TO
INCREASE OUR REVENUES

Our ability to increase our revenues will depend on our ability to successfully
expand our sales and marketing organization. The complexity of our Internet
messaging services and the emerging nature of the Web-based email market require
highly trained sales and marketing personnel to educate prospective business
partners regarding the use and benefits of our services. The majority of our
sales and marketing personnel have only recently joined CommTouch and have
limited experience working together. Our Vice President, Marketing has only
worked with us since March 1999. It will take time for these employees to learn
how to market our solutions and to be integrated into our sales organization.
Some of them may not succeed in making this transition. Additionally, we are
beginning to roll out a significant number of services that we have no
experience marketing and will rely on these services to produce a substantial
portion of our revenues in the future. As a result of these factors, our sales
and marketing organization

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may not be able to compete successfully against the bigger and more experienced
sales and marketing organizations of our competitors.

WE ARE EXPERIENCING RAPID INTERNAL GROWTH WHICH HAS AND LIKELY WILL STRAIN OUR
MANAGEMENT RESOURCES

We recently began to expand our operations rapidly and intend to continue this
expansion. The number of our employees increased from 36 on June 30, 1998 to 45
on December 31, 1998 and to 62 on March 31, 1999. This expansion has placed, and
is expected to continue to place, a significant strain on our managerial,
operational and financial resources. To manage any further growth, we will need
to improve or replace our existing operational, customer service and financial
systems, procedures and controls.

THE LOSS OF OUR KEY EMPLOYEES WOULD ADVERSELY AFFECT OUR ABILITY TO MANAGE OUR
BUSINESS, THEREFORE CAUSING OUR OPERATING RESULTS TO SUFFER AND THE VALUE OF
YOUR INVESTMENT TO DECLINE

Our success depends on the skills, experience and performance of our senior
management and other key personnel, many of whom have worked together for only a
short period of time. The loss of the services of any of our senior management
or other key personnel, including Gideon Mantel, our Chief Executive Officer,
Isabel Maxwell, the President of our subsidiary, and Amir Lev, our Chief
Technical Officer, could materially and adversely affect our business. We do not
have long-term employment agreements with any of our senior management or other
key personnel. We cannot prevent them from leaving at any time. We do not
maintain key-person life insurance policies on any of our employees.

BECAUSE OUR BUSINESS IS BASED ON COMMUNICATIONS AND MESSAGING SERVICES, WE ARE
SUSCEPTIBLE TO SYSTEM INTERRUPTIONS AND CAPACITY CONSTRAINTS, WHICH COULD HARM
OUR BUSINESS AND REPUTATION

Our ability to successfully receive and send our end users' email messages and
provide acceptable levels of service largely depends on the efficient and
uninterrupted operation of our computer and communications hardware and network
systems and those of our outsourced hosting service. We do not possess insurance
to cover losses caused by unplanned system interruptions and software defects.
In the past, we have experienced some interruptions in our email service. We
believe that these interruptions will continue to occur from time to time. These
interruptions may be due to hardware failures, unsolicited bulk email (also
known as "spam"), operating system failures, inadequate Internet infrastructure
capacity, and other mechanical and human causes. We expect to experience
occasional, temporary capacity constraints due to sharply increased traffic,
which may cause unanticipated system disruptions, slower response times,
impaired quality and degradation in levels of customer service. If we experience
frequent or long system interruptions that reduce our ability to provide email
services, we may have fewer users of our email services. In addition, we have
entered into service agreements with some of our business partners that require
minimum performance standards. If we fail to meet these standards, our business
partners could terminate their relationships with us.

We must continue to expand and adapt our network infrastructure to changing
requirements and increasing numbers of end users. The expansion and adaptation
of our network infrastructure will require substantial financial, operational
and managerial resources. The ability of our network to continue to connect and
manage an expanding number of partners, end users and messages at high
transmission speeds is unproven and uncertain. We face risks related to our
network's ability to operate with higher use levels while maintaining expected
performance levels.

WE ARE A RELATIVELY SMALL COMPETITOR IN THE ELECTRONIC MESSAGING INDUSTRY, AND
AS A RESULT, WE MAY NOT HAVE THE RESOURCES TO ADAPT TO THE CHANGING
TECHNOLOGICAL REQUIREMENTS AND THE SHIFTING CONSUMER PREFERENCES OF OUR INDUSTRY

The Internet messaging industry is characterized by rapid technological change,
changes in end user requirements and preferences, and the emergence of new
industry standards and practices that could render our existing services and
proprietary technology obsolete. Our success depends, in part, on our ability to
continually enhance our existing email and messaging services and to develop new
services,

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functions and technology that address the increasingly sophisticated and varied
needs of our prospective business partners. The development of proprietary
technology and necessary service enhancements entails significant technical and
business risks and requires substantial expenditures and lead time. We may not
be able to keep pace with the latest technological developments. We may not be
able to use new technologies effectively or adapt our services to business
partner or end user requirements or emerging industry standards. Also, in
addition to addressing changing technologies and end user needs, we must also do
so more quickly than our competition.

OUR SERVICES MAY BE ADVERSELY AFFECTED BY SOFTWARE DEFECTS, WHICH COULD CAUSE
OUR BUSINESS PARTNERS OR END USERS TO STOP USING OUR SERVICES

Our service offerings depend on complex software. Complex software often
contains defects, particularly when first introduced or when new versions are
released. Although we conduct extensive testing, we may not discover software
defects that affect our new or current services or enhancements until after they
are deployed. Although we have not experienced any material software defects to
date, it is possible that, despite testing by us, defects may exist in the
software we use. These defects could cause service interruptions that could
damage our reputation or increase our service costs, cause us to lose revenue,
delay market acceptance or divert our development resources, any of which could
cause our business to suffer. Some of our services are based on software
provided by third parties. We have no control over the quality of such software.

WE RELY ON THE INTEGRITY OF OUR NETWORK SECURITY, WHICH MAY BE SUSCEPTIBLE TO
BREACHES THAT COULD HARM OUR REPUTATION AND BUSINESS

A fundamental requirement for online communications is the secure transmission
of confidential information over public networks. Third parties may attempt to
breach our security or that of our business partners. Despite our implementation
of third party encryption technology and network security measures, our servers
are vulnerable to computer viruses, physical or electronic break-ins and similar
disruptions, which could lead to interruptions, delays or loss of data. We may
be liable to our business partners and their end users for any breach in our
security. Also, such a breach could harm our reputation and consequently our
business. We may also be required to expend significant capital and other
resources to license encryption technology and additional technologies to
protect against security breaches or to alleviate problems caused by any breach.
Our failure to prevent security breaches could have a material adverse effect on
our business and operating results. To our knowledge, we have not experienced a
security breach of our system.

IF WE FAIL TO ADEQUATELY PROTECT OUR INTELLECTUAL PROPERTY RIGHTS OR FACE A
CLAIM OF INTELLECTUAL PROPERTY INFRINGEMENT BY A THIRD PARTY, WE COULD LOSE OUR
INTELLECTUAL PROPERTY RIGHTS OR BE LIABLE FOR SIGNIFICANT DAMAGES

Despite our precautions, unauthorized third parties may copy certain portions of
our technology or reverse engineer or obtain and use information that we regard
as proprietary. End user license provisions protecting against unauthorized use,
copying, transfer and disclosure of the licensed program may be unenforceable
under the laws of some jurisdictions and foreign countries. In addition, the
laws of some foreign countries do not protect proprietary rights to the same
extent as do the laws of the United States. Our means of

8
<PAGE> 11

protecting our proprietary rights in the United States or abroad may not be
adequate and competitors may independently develop similar technology.

Our ZapZone Network service allows webmasters to select the email service name
of their choice (although we reserve the right to eliminate their account or to
change their email service name). There is, therefore, the possibility that they
will select email service names that may infringe the rights of others. We have
received several complaints about ZapZone Network service webmasters' registered
email service names and we have referred these complainants directly to the
ZapZone Network service subscribers who are allegedly engaging in the infringing
activities.

WE MAY HAVE LIABILITY FOR EMAIL CONTENT AND WE MAY NOT HAVE ADEQUATE LIABILITY
INSURANCE

As a provider of email services, we face potential liability for defamation,
negligence, copyright, patent or trademark infringement and other claims based
on the nature and content of the materials transmitted via email. We do not and
cannot screen all of the content generated by end users, and we could be exposed
to liability with respect to this content. Some foreign governments, such as the
government of Germany, have enforced laws and regulations related to content
distributed over the Internet that are more strict than those currently in place
in the United States. Although we carry general liability insurance, our
insurance may not adequately protect us from such claims. Any imposition of
liability, particularly liability that is not covered by insurance, or is in
excess of insurance coverage, could damage our reputation and hurt our business
and operating results, or could result in criminal penalties.

GOVERNMENTAL REGULATION AND LEGAL UNCERTAINTIES COULD IMPAIR THE GROWTH OF THE
INTERNET AND DECREASE DEMAND FOR OUR SERVICES OR INCREASE OUR COST OF DOING
BUSINESS

There are currently few laws and regulations directly applicable to the Internet
and commercial email services. However, a number of laws have been proposed
involving the Internet, including laws addressing user privacy, pricing,
content, copyright, antitrust, distribution and characteristics and quality of
products and services. Further, the growth and development of the market for
email may prompt calls for more stringent consumer protection laws that may
impose additional burdens on companies conducting business online. Moreover, the
applicability to the Internet of existing laws in various jurisdictions
governing issues such as property ownership, sales and other taxes, libel and
personal privacy is uncertain and may take years to resolve. The adoption of
additional laws or regulations, or the application of existing laws or
regulations to the Internet, may impair the growth of the Internet or commercial
online services. This could decrease the demand for our services and increase
our cost of doing business, or otherwise harm our business and operating
results.

The Federal Trade Commission is considering regulation regarding the collection
and use of personal identifying information obtained from individuals, including
children, when accessing websites. Such regulation may include disclosure and
privacy provisions, and could reduce our ability to engage in direct marketing.

WE MAY NEED ADDITIONAL CAPITAL AND RAISING ADDITIONAL CAPITAL MAY DILUTE
EXISTING SHAREHOLDERS

We believe that our existing capital resources, including the anticipated
proceeds of this offering and the concurrent private placement of shares to
Go2Net and Vulcan Ventures, will enable us to maintain our current and planned
operations for at least the next 12 months. However, we may be required to raise
additional funds due to unforeseen circumstances. If our capital requirements
vary materially from those currently planned, we may require additional
financing sooner than anticipated. Such financing may not be available in
sufficient amounts or on terms acceptable to us and may cause dilution to
existing shareholders. Also, we may raise additional capital in the future by
issuing securities that have superior rights and preferences to our ordinary
shares. We have issued registration rights for the shares being issued in the
private placement and Go2Net's warrant shares. If we are unable to cause a
registration statement for these shares to become effective as of the expiration
of the 180-day lock-up period, the exercise price for the warrant shares will be
reduced to $10.51 per share. If the exercise price is reduced, upon exercise

9
<PAGE> 12

of those warrants our shareholders will experience additional dilution, as more
shares will be issued for less consideration.

IF WE OR ANY OF OUR VENDORS DO NOT ADEQUATELY ADDRESS "YEAR 2000" ISSUES, WE MAY
INCUR SIGNIFICANT UNANTICIPATED EXPENSES TO REMEDY ANY RESULTING PROBLEMS, AND
OUR BUSINESS AND REPUTATION COULD SUFFER

The "Year 2000" issue is the result of computer programs and embedded hardware
systems having been developed using two digits rather than four to define the
applicable year. These computer programs or hardware that have date-sensitive
software or embedded chips may recognize a date using "00" as the year 1900
rather than the year 2000. This could result in system failures or
miscalculations, causing disruptions of operations including, among other
things, a temporary inability to process transactions, send invoices or engage
in normal business activities. As a result, many companies' computer systems may
need to be upgraded or replaced in order to comply with the Year 2000
requirements. We have preliminarily tested our internally developed software and
are in the process of revising it to make it Year 2000 compliant. Many of our
business partners maintain their Internet operations on commercially available
operating systems that may be impacted by Year 2000 complications. In addition,
we rely on third-party vendors for certain software and hardware included within
our services, which may not be Year 2000 compliant. Where we are aware that such
software or hardware is not Year 2000 compliant, we are working with those
vendors to address these issues and to ensure that those systems will be Year
2000 compliant. Failure of our internal computer systems or third-party
equipment or software, or of systems maintained by our suppliers, to operate
properly with regard to the year 2000 and thereafter, could require us to incur
significant unanticipated expenses to remedy any problems and could cause system
interruptions and loss of data. Any of these events could harm our reputation,
business and operating results. We have not yet developed a comprehensive
contingency plan to address the issues that could result from Year 2000
complications.

AFTER THE LOCK-UP AGREEMENTS EXPIRE, A SIGNIFICANT NUMBER OF ADDITIONAL SHARES
WILL BECOME FREELY TRADABLE, WHICH MAY REDUCE THE PER SHARE TRADING PRICE OF OUR
STOCK

After the public offering and the private placement, we will have 14,192,215
ordinary shares outstanding (assuming net exercise of all in-the-money
outstanding warrants and the warrant to be issued to Go2Net in the private
placement). All the shares sold in this offering will be freely tradable. The
remaining 9,258,120 ordinary shares outstanding after this offering are subject
to lockup agreements that prohibit the sale of the shares for 180 days after the
date of this prospectus. Immediately after the 180-day lockup period, 6,839,948
of the ordinary shares which will be outstanding after the public offering and
the private placement will become available for sale. The remaining ordinary
shares will become available at various times thereafter upon the expiration of
one-year holding periods. Sales of a substantial number of ordinary shares in
the public market after this offering or after the expiration of the lockup and
holding periods could cause the market price of our ordinary shares to decline.

PURCHASERS OF OUR ORDINARY SHARES WILL SUFFER IMMEDIATE AND SUBSTANTIAL DILUTION

The initial public offering price is expected to be substantially higher than
the book value per share of our ordinary shares. Some elements of our market
value do not originate from measurable transactions. Therefore, there is not a
corresponding rise in "book," or historical cost accounting, value for our rise
in market value, if any. Examples of these elements include the perceived growth
prospects of our core commercial market, perceived growth prospects of our
Web-based email services and our perceived competitive position within the
market for Web-based email services. Purchasers of our ordinary shares in this
offering will experience immediate dilution of $10.55 in the pro forma net
tangible book value per share of ordinary shares. Purchasers will also
experience additional dilution upon the exercise of outstanding stock options.

10
<PAGE> 13

OUR DIRECTORS, EXECUTIVE OFFICERS AND PRINCIPAL SHAREHOLDERS WILL BE ABLE TO
EXERT SIGNIFICANT INFLUENCE OVER MATTERS REQUIRING SHAREHOLDER APPROVAL AND
COULD DELAY OR PREVENT A CHANGE OF CONTROL

After this offering, our directors and affiliates of our directors, our
executive officers and our shareholders who currently own over five percent of
our ordinary shares will beneficially own approximately 50.1 percent of our
outstanding ordinary shares. If they vote together, these shareholders will be
able to exercise significant influence over all matters requiring shareholder
approval, including the election of directors and approval of significant
corporate transactions. This concentration of ownership could also delay or
prevent a change in control of CommTouch.

Go2Net and Vulcan Ventures will beneficially own approximately 16.8% of our
outstanding ordinary shares (assuming exercise of warrants) following the
completion of the offering and the private placement. Vulcan Ventures is a
significant (but not the largest) shareholder of Go2Net. Accordingly, Go2Net
will be able to significantly influence and possibly exercise control over most
matters requiring approval by our shareholders, including the election of
directors and approval of significant corporate transactions. This concentration
of ownership may also have the effect of delaying or preventing a change in
control. In addition, conflict of interest may arise as a consequence of
Go2Net's control relationship with us, including:

- - conflicts between Go2Net, as our controlling shareholder, and our other
shareholders, whose interests may differ with respect to, among other things,
our strategic direction or a significant corporate transactions;

- - conflicts related to corporate opportunities that could be pursued by us, on
the one hand, or by Go2Net, on the other hand; or

- - conflicts related to existing or new contractual relationships between us, on
the one hand, and Go2Net and its other affiliates, on the other hand.

RISKS RELATING TO OPERATIONS IN ISRAEL

WE HAVE IMPORTANT FACILITIES AND RESOURCES LOCATED IN ISRAEL, WHICH HAS
HISTORICALLY EXPERIENCED SEVERE ECONOMIC INSTABILITY AND MILITARY AND POLITICAL
UNREST

We are incorporated under the laws of the State of Israel. Our principal
research and development facilities are located in Israel. Although
substantially all of our sales currently are being made to customers outside
Israel, we are nonetheless directly influenced by the political, economic and
military conditions affecting Israel. Any major hostilities involving Israel, or
the interruption or curtailment of trade between Israel and its present trading
partners, could significantly harm our business, operating results and financial
condition.

Israel's economy has been subject to numerous destabilizing factors, including a
period of rampant inflation in the early to mid-1980's, low foreign exchange
reserves, fluctuations in world commodity prices, military conflicts and civil
unrest. Since the establishment of the State of Israel in 1948, a state of
hostility has existed, varying in degree and intensity, between Israel and the
Arab countries. In addition, Israel and companies doing business with Israel
have been the subject of an economic boycott by the Arab countries since
Israel's establishment. Although Israel has entered into various agreements with
certain Arab countries and the Palestinian Authority, and various declarations
have been signed in connection with efforts to resolve some of the economic and
political problems in the Middle East, we cannot predict whether or in what
manner these problems will be resolved.

In addition, certain of our officers and employees are currently obligated to
perform annual reserve duty in the Israel Defense Forces and are subject to
being called for active military duty at any time. CommTouch has operated
effectively under these requirements since its inception. We cannot predict the
effect of these obligations on CommTouch in the future.

Inflation in Israel and devaluation of the NIS could impact our financial
results. Although Israel has substantially reduced the rates of inflation and
devaluation in recent years, they are still relatively high and we could be
harmed by inflation or devaluation. If inflation rates in Israel increase again
and hurt Israel's

11
<PAGE> 14

economy as a whole, our operations and financial condition could suffer.
Moreover, non-residents of Israel are subject to income tax on certain income
(including cash dividends) derived from sources in Israel. The tax treaty
between Israel and the United States provides for a maximum tax of 25 percent on
dividends paid to residents of the United States and for withholding at a rate
of 15 percent with respect to dividends paid by an Approved Enterprise, as
discussed below.

ISRAELI COURTS MIGHT NOT ENFORCE JUDGMENTS RENDERED OUTSIDE OF ISRAEL AND IT
MIGHT THEREFORE BE DIFFICULT FOR AN INVESTOR TO RECOVER ANY JUDGMENT AGAINST ANY
OF OUR OFFICERS OR DIRECTORS RESIDENT IN ISRAEL

We are organized under the laws of Israel, and we maintain significant
operations in Israel. Certain of our officers and directors named in this
prospectus reside outside of the United States. Therefore, you might not be able
to enforce any judgment obtained in the U.S. against us or any of such persons.
You might not be able to bring civil actions under U.S. securities laws if you
file a lawsuit in Israel. However, we have been advised by our Israeli counsel
that, subject to certain limitations, Israeli courts may enforce a final
judgment of a U.S. court for liquidated amounts in civil matters after a hearing
in Israel. We have appointed CommTouch Software Inc., our U.S. subsidiary, as
our agent to receive service of process in any action against us arising out of
this offering. We have not given our consent for our agent to accept service of
process in connection with any other claim and it may therefore be difficult for
an investor to effect service of process against us or any of our non-U.S.
officers, directors and experts relating to any other claims. If a foreign
judgment is enforced by an Israeli court, it will be payable in Israeli
currency.

PROVISIONS OF ISRAELI LAW MAY DELAY, PREVENT OR MAKE DIFFICULT AN ACQUISITION OF
COMMTOUCH, WHICH COULD PREVENT A CHANGE OF CONTROL AND THEREFORE DEPRESS THE
PRICE OF OUR STOCK

Certain provisions of Israeli corporate and tax law may have the effect of
delaying, preventing or making more difficult a merger or other acquisition of
CommTouch. The Israeli Companies Ordinance, which governs Israeli corporations,
does not contain provisions that deal specifically with a merger that allows for
the elimination of minority shareholders. Various provisions that deal with
"arrangements" between a company and its shareholders have been used, however,
to effect squeeze-out mergers. These generally require that the merger be
approved by at least 75 percent of the shareholders present and voting on the
proposed merger, at a shareholders meeting that has been called on at least 21
days' advance notice. In addition to shareholder approval, court approval of the
merger is required, which entails further delay and the need to obtain a
discretionary approval. Alternatively, the acquiror can cause minority
shareholders to sell their shares if it acquires at least 90 percent of all
outstanding shares (excluding shares held by the acquiror prior to the
acquisition) and none of the minority shareholders successfully seeks to block
the acquisition in court. The new Israeli Companies Law, which will come into
effect on February 1, 2000, does address squeeze-out mergers but does not
significantly modify these requirements.

The new Israeli Companies Law also provides that an acquisition of shares in a
public company must be made by means of a tender offer if as a result of the
acquisition the purchaser would become a 25% shareholder of the company. This
rule does not apply if there is already another 25% shareholder of the company.
Similarly, the new Israeli Companies Law provides that an acquisition of shares
in a public company must be made by means of a tender offer if as a result of
the acquisition the purchaser would become a 45% shareholder of the company.
Here too there is an exception, if someone else is already a majority
shareholder of the company. Since regulations implementing these new rules have
not yet been promulgated, we do not know to what extent or how these rules will
apply to Israeli companies that are publicly traded outside of Israel.

Finally, Israeli tax law treats certain acquisitions, particularly
stock-for-stock swaps between an Israeli company and a foreign company, less
favorably than United States tax law. Israeli tax law may, for instance, subject
a shareholder who exchanges his CommTouch shares for shares in a foreign
corporation to immediate taxation.

12
<PAGE> 15

USE OF PROCEEDS

The net proceeds we will receive from

- - the sale of the 3,000,000 ordinary shares offered by us, at an initial public
offering price of $16.00 per share, after deducting the underwriting discounts
and commissions and the estimated offering expenses payable by us (which are
estimated to be $5.8 million, or $6.3 million if the underwriters' over-
allotment option is exercised in full)

- - and the sale of 1,344,086 ordinary shares to Go2Net and Vulcan Ventures in a
concurrent private placement at a price of $14.88 per share in the concurrent
private placement,

are estimated to be $61.4 million ($68.1 million if the underwriters'
over-allotment option is exercised in full).

We intend to use the proceeds of this offering for the following:

- expansion of our sales and marketing activities;

- capital expenditures, including purchase of equipment, primarily for our
hosting facilities;

- expansion of research and development activities;

- expansion of our international operations; and

- working capital and other general corporate purposes.

The amounts and timing of these expenditures will vary significantly depending
on a number of factors, including, but not limited to, the amount of cash
generated by our operations and the market response to the introduction of any
new service offerings.

In addition, we may use a portion of the net proceeds of this offering to
acquire or invest in businesses, products, services or technologies
complementary to our current business, through mergers, acquisitions, joint
ventures or otherwise. However, we have no specific agreements or commitments
and are not currently engaged in any negotiations with respect to such
transactions. Accordingly, our management will retain broad discretion as to the
use and allocation of the net proceeds of this offering. Pending the above uses,
we intend to invest the net proceeds of this offering in short-term,
interest-bearing investment grade securities.

DIVIDEND POLICY

We have never paid cash dividends to our shareholders and we currently do not
intend to pay dividends for the foreseeable future. We intend to reinvest
earnings in the development and expansion of our business. We may only pay cash
dividends in any fiscal year out of profits, as determined under Israeli law.
The declaration of any final cash dividend requires shareholder approval.
Shareholders may reduce, but not increase, the amount of dividends from the
amount proposed by the Board of Directors.

Because of CommTouch's investment programs' Approved Enterprise status, the
payment of dividends by CommTouch may subject CommTouch to certain Israeli taxes
to which it would not otherwise be subject. The tax exempt income attributable
to the Approved Enterprise can be distributed to shareholders without subjecting
CommTouch to taxes only upon the complete liquidation of CommTouch. If CommTouch
decides to distribute cash dividends out of income that has been exempt from
tax, the income out of which the dividend is distributed will be subject to
Israeli corporate tax (currently 25%). We have decided to reinvest the amount of
tax exempt income derived from our Approved Enterprise and not to distribute
such income as dividends. (For a description of our Approved Enterprise status,
please see "Israeli Taxation and Investment Programs.")

13
<PAGE> 16

CAPITALIZATION

The following table sets forth the capitalization of CommTouch as of March 31,
1999:

The following data is presented:

- On an actual basis.

- On a pro forma basis to give effect to (1) the subsequent issuance of
42,081 Series D Convertible Preferred Shares and (2) the automatic
conversion of all of CommTouch's convertible preferred shares into
7,109,800 ordinary shares upon the closing of this offering.

- On a pro forma as adjusted basis to give effect to (1) the sale of
3,000,000 ordinary shares in this offering, at a price of $16.00 per
share and (2) the sale of 1,344,086 ordinary shares to Go2Net and Vulcan
Ventures in a concurrent private placement at a price of $14.88 per share
resulting in aggregate net cash proceeds from the private placement of
approximately $19.2 million (3) the issuance of 362,809 ordinary shares,
assuming the net exercise of outstanding in-the-money warrants as of
March 31, 1999 to purchase 405,940 ordinary shares at a weighted average
exercise price of $1.70 per share, of which warrants to purchase 277,460
shares expire upon the closing of this offering if not exercised (4) the
issuance of 227,200 ordinary shares, assuming the net exercise of an
in-the-money warrant to purchase 1,136,000 ordinary shares to be issued
to Go2Net at an exercise price of $12.80 per share subject to adjustment
as set forth in the warrant.

<TABLE>
<CAPTION>
MARCH 31, 1999
------------------------------------
(UNAUDITED)
(IN THOUSANDS)
------------------------------------
PRO FORMA
ACTUAL PRO FORMA AS ADJUSTED
-------- --------- -----------
<S> <C> <C> <C>
Long-term liabilities less current portion................ $ 560 $ 560 $ 560
-------- -------- ---------
Shareholders' equity:
Convertible Preferred Shares, NIS 1 nominal value;
565,820 shares authorized; 313,409 shares issued and
outstanding actual; no shares issued and outstanding
pro forma and pro forma as adjusted.................. 96 -- --
Ordinary shares, NIS 0.05 par value; 10,683,600 shares
authorized, 2,148,320 shares issued and outstanding
actual, 9,258,120 shares issued and outstanding pro
forma; 14,192,215 shares issued and outstanding, pro
forma as adjusted.................................... 35 142 196
Additional paid-in capital.............................. 24,910 38,004 105,210
Deferred compensation................................... (7,282) (7,282) (7,282)
Notes receivable from shareholders...................... (964) (964) (964)
Accumulated deficit..................................... (13,988) (13,988) (13,988)
-------- -------- ---------
Total shareholders' equity...................... 2,807 15,912 83,172
-------- -------- ---------
Total capitalization............................ $ 3,367 $ 16,472 $ 83,732
======== ======== =========
</TABLE>

The number of ordinary shares to be outstanding after this offering does not
include the following:

- 694,860 ordinary shares issuable upon exercise of stock options
outstanding under our stock option plans and stock option agreements as
of March 31, 1999 at a weighted average exercise price of $1.25 per
share;

- 3,642,460 ordinary shares available for future grant or issuance under
our stock option plans as of June 8, 1999; and

- 215,000 ordinary shares issuable upon exercise of options granted to
officers and directors after March 31, 1999 at a weighted average price
of $15.76 per share.

14
<PAGE> 17

DILUTION

Our pro forma net tangible book value as of March 31, 1999 was $15,912,000 or
$1.72 per ordinary share, after giving effect to the subsequent issuance of
42,081 Series D Convertible Preferred Shares and the receipt of the net proceeds
therefrom. Pro forma net tangible book value per share is determined by dividing
the amount of our total tangible assets less total liabilities by the number of
ordinary shares outstanding at that date, assuming conversion of all outstanding
convertible preferred shares into ordinary shares. Dilution in net tangible book
value per share represents the difference between the amount per share paid by
purchasers of ordinary shares in the offering made hereby and the net tangible
book value per ordinary share immediately after the completion of this offering.
After giving effect to the sale of 3,000,000 ordinary shares by CommTouch in
this offering (at a public offering price of $16.00 per share and after
deducting the underwriting discounts and commissions and our estimated offering
expenses) and an estimated 1,344,086 ordinary shares in the aggregate to be sold
in the private placement and application of the net proceeds from such sales of
approximately $19.2 million, and an estimated 362,809 ordinary shares issuable
upon the net exercise of the outstanding in-the-money warrants to purchase
405,940 ordinary shares at a weighted average exercise price of $1.70 per share,
and assuming an estimated 227,200 ordinary shares issuable upon the net exercise
of an in-the-money warrant to purchase 1,136,000 ordinary shares to be issued in
the private placement, subject to adjustment as set forth in the warrant the pro
forma net tangible book value of CommTouch at March 31, 1999 would have been
$77.3 million, or $5.45 per share. This represents an immediate increase in pro
forma net tangible book value of $3.71 per share to the existing shareholder and
an immediate dilution of $10.55 per share to new investors purchasing ordinary
shares in this offering. The following table illustrates this per-share
dilution:

<TABLE>
<S> <C> <C>
Initial public offering price per share..................... $16.00
Pro forma net tangible book value per share as of March 31,
1999...................................................... $ 1.72
Increase in pro forma net tangible book value per share
attributable to this offering............................. 2.88
Increase in pro forma net tangible book value per share
attributable to the private placement (including net
exercise of the in-the-money warrant to be issued in the
private placement)........................................ 0.85
------
Pro forma net tangible book value per share after the
offering and private placement............................ 5.45
------
Dilution per share to new investors......................... $10.55
======
</TABLE>

The following table summarizes, on a pro forma basis as of March 31, 1999 after
giving effect to (1) the subsequent issuance of 42,081 Series D Convertible
Preferred Shares and the receipt of the net proceeds therefrom and (2) the
automatic conversion of all CommTouch's convertible preferred shares into
7,109,800 ordinary shares upon the closing of this offering, (3) 362,809 and
227,200 ordinary shares issuable upon the net exercise of in-the-money
outstanding warrants and the in-the-money warrant to be issued to Go2Net,
respectively, and (4) the total number of ordinary shares purchased from
CommTouch, the total consideration paid to CommTouch and the average price per
share paid by existing shareholders, by the investors in the private placement
and by new investors purchasing shares in this offering (based upon an initial
public offering price of $16.00 per share:

<TABLE>
<CAPTION>
SHARES PURCHASED TOTAL CONSIDERATION
--------------------- ---------------------- AVERAGE PRICE
NUMBER PERCENT AMOUNT PERCENT PER SHARE
---------- ------- ----------- ------- -------------
<S> <C> <C> <C> <C> <C>
Existing shareholders.............. 9,258,120 65.2% $29,825,000 30.4% $ 3.22
Holders of in-the-money outstanding
warrants......................... 362,809 2.6% -- -- --
Go2Net and Vulcan.................. 1,344,086 9.5% $20,000,000 20.4% $14.88
Go2Net's in-the-money warrant...... 227,200 1.6% -- -- --
New investors...................... 3,000,000 21.1% $48,000,000 49.2% $16.00
---------- ----- ----------- -----
Total.................... 14,192,215 100.0% $97,825,000 100.0%
========== ===== =========== =====
</TABLE>

15
<PAGE> 18

The foregoing table assumes no exercise of the underwriters' over-allotment
option or of any outstanding stock options after March 31, 1999 and does not
reflect underwriting discounts. As of March 31, 1999, there were outstanding
options to purchase an aggregate of 694,860 ordinary shares at a weighted
average exercise price of $1.25 per share. To the extent any of these options or
warrants are exercised, there will be further dilution to new investors. See
Note 9 of the Notes to Consolidated Financial Statements.

16
<PAGE> 19

SELECTED CONSOLIDATED FINANCIAL INFORMATION

The selected consolidated statement of operations data for the years ended
December 31, 1996, 1997 and 1998 and the selected consolidated balance sheet
data as of December 31, 1997 and 1998 have been derived from the Consolidated
Financial Statements of CommTouch included elsewhere in this prospectus. The
selected consolidated statement of operation data for the years ended December
31, 1994 and 1995 and the selected consolidated balance sheet data as of
December 31, 1994, 1995 and 1996 have been derived from the Consolidated
Financial Statements of CommTouch not included elsewhere in this prospectus. The
selected consolidated statement of operations data for the three months ended
March 31, 1998 and 1999 and the consolidated balance sheet data at March 31,
1999 have been derived from unaudited financial statements included elsewhere in
this prospectus. The unaudited financial statements include all adjustments,
consisting only of normal recurring adjustments, that CommTouch considers
necessary for a fair presentation of its financial position at such dates and
the results of operations for those periods. Operating results for the three
months ended March 31, 1999 are not necessarily indicative of the results that
may be expected for the year ending December 31, 1999. In addition, our
historical results are not necessarily indicative of results to be expected for
any future period. The data set forth below should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and the Consolidated Financial Statements and the Notes thereto
included elsewhere in this prospectus.

<TABLE>
<CAPTION>
THREE MONTHS
ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
----------------------------------------------------------- ----------------
1994 1995 1996 1997 1998 1998 1999
--------- --------- --------- --------- ----------- ------ -------
(IN THOUSANDS, EXCEPT PER SHARE DATA) (UNAUDITED)
<S> <C> <C> <C> <C> <C> <C> <C>
Consolidated Statement of Operations Data:
Revenues
Email services............................. $ -- $ -- $ -- $ -- $ 389 $ 32 $ 346
Software licenses, maintenance and
services................................. 699 1,733 3,134 899 -- -- --
--------- --------- --------- --------- --------- ------ -------
Total revenues........................... 699 1,733 3,134 899 389 32 346
Cost of revenues
Email services............................. -- -- -- -- 569 59 405
Software licenses, maintenance and
services................................. 109 327 463 165 -- -- --
--------- --------- --------- --------- --------- ------ -------
Total cost of revenues................... 109 327 463 165 569 59 405
--------- --------- --------- --------- --------- ------ -------
Gross profit(loss)........................... 590 1,406 2,671 734 (180) (27) (59)
--------- --------- --------- --------- --------- ------ -------
Operating expenses
Research and development, net............ 197 463 1,479 1,108 1,149 266 307
Sales and marketing, net................. 956 832 1,965 2,202 2,001 459 481
General and administrative............... 287 369 465 829 604 138 807
Amortization of stock-based employee
deferred compensation.................. -- -- -- -- 91 2 386
--------- --------- --------- --------- --------- ------ -------
Total operating expenses................. 1,440 1,664 3,908 4,139 3,845 865 1,981
--------- --------- --------- --------- --------- ------ -------
Operating loss............................... (850) (258) (1,237) (3,405) (4,025) (892) (2,040)
Interest and other expense, net.............. (65) (62) (45) (68) (326) (27) (271)
--------- --------- --------- --------- --------- ------ -------
Net loss..................................... $ (915) $ (320) $ (1,282) $ (3,473) $ (4,351) $ (919) $(2,311)
========= ========= ========= ========= ========= ====== =======
Net loss per share -- basic and diluted...... $ (0.43) $ (0.11) $ (0.66) $ (2.40) $ (3.00) $(0.63) $ (1.50)
========= ========= ========= ========= ========= ====== =======
Weighted average shares -- basic and
diluted.................................... 2,113 2,885 1,934 1,450 1,450 1,450 1,546
========= ========= ========= ========= ========= ====== =======
Pro forma net loss per share (unaudited)
Net loss per share-basic and diluted....... $ (0.78) $ (0.32)
========= =======
Weighted average shares-basic and
diluted.................................. 5,594 7,313
========= =======
</TABLE>

17
<PAGE> 20

The following data is presented:

- on an actual basis;

- on a pro forma as adjusted basis to give effect to (1) the sale of
3,000,000 ordinary shares in this offering, at an initial public offering
price of $16.00 per share, (2) the sale of 1,344,086 ordinary shares to
Go2Net and Vulcan Venture, in a concurrent private placement at a price
of $14.88 per share resulting in aggregate net cash proceeds from the
public offering and the private placement of approximately $61,410,000,
(3) the issuance of 362,809 ordinary shares, assuming the net exercise of
the outstanding in-the-money warrants as of March 31, 1999 to purchase
405,940 ordinary shares at a weighted average exercise price of $1.70 per
share, of which warrants to purchase 277,460 shares expire upon the
closing of this offering if not exercised, and (4) the issuance of
227,200 ordinary shares, assuming the net exercise of an in-the-money
warrant to purchase 1,136,000 ordinary shares to be issued to Go2Net at
an exercise price of $12.80 per share, subject to adjustment as set forth
in the warrant.

<TABLE>
<CAPTION>
MARCH 31, 1999
(UNAUDITED)
DECEMBER 31, --------------------------------
------------------------------------------ PRO FORMA
1994 1995 1996 1997 1998 ACTUAL PRO FORMA AS ADJUSTED
----- ----- ------ ------- ------- ------ --------- -----------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Consolidated Balance Sheet Data:
Cash and cash equivalents.................. $ 4 $ 54 $ 690 $ 324 $ 834 $3,226 $ 16,331 $77,741
Working capital (deficit).................. (555) (734) 539 (1,264) (1,440) 1,418 14,523 75,933
Total assets............................... 497 773 2,180 1,065 2,366 6,025 19,130 86,350
Long-term liabilities...................... 352 324 371 366 530 560 560 560
Shareholders' equity (deficit)............. (554) (650) 777 (1,018) (815) 2,807 15,912 83,172
</TABLE>

18
<PAGE> 21

MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the Consolidated
Financial Statements and the Notes thereto included elsewhere in this
prospectus. This discussion contains forward-looking statements based upon
current expectations that involve risks and uncertainties. Any statements
contained herein that are not statements of historical fact may be deemed to be
forward-looking statements. For example, the words "believes," "anticipates,"
"plans," "expects," "intends" and similar expressions are intended to identify
forward-looking statements. CommTouch's actual results and the timing of certain
events may differ significantly from those projected in the forward-looking
statements. Factors that might cause future results to differ materially from
those projected in the forward-looking statements include, but are not limited
to, those discussed in "Risk Factors" and elsewhere in this prospectus.

OVERVIEW

We are a leading global provider of outsourced email and messaging solutions.
Our flexible and highly customizable solutions enable us to satisfy the unique
email and messaging needs of a wide range of customers, including Web-based
companies, small websites and businesses worldwide. As of May 16, 1999, we had
over 100 business partners offering our Web-based email from their sites. Our
business partners include Excite, LookSmart, FortuneCity, Talk City and Nippon
Telephone and Telegraph. Through our business partners' sites we host
approximately 4.5 million emailboxes. In November 1998, we launched our ZapZone
Network service, which enables small sites to provide email to their end users.
As of May 16, 1999, we had registered approximately 75,000 sites through the
ZapZone Network service, and were hosting approximately 480,000 ZapZone Network
emailboxes. Business partners may provide us with a large number of users but
pay a relatively small minimum annual service fee. Consumers have historically
been reluctant to pay for services on the Internet, and therefore end users may
not be willing to pay for premium services. Since untargeted advertising on the
Internet has not shown a significant success rate, advertisers may not be
willing to pay us to provide banner advertising or direct e-marketing.

Business History and Transition

Email Client Software Business (1991-1997). From 1991 to 1997, we generated all
of our revenue from sales of software licenses, maintenance and service for
stand-alone email client software for both mainframes and personal computers. In
1996, we generated approximately $3.1 million in revenues from such software
licenses.

Transition to Web-Based Email Services (1997). During 1996, the popularity of
email at home and at work began to increase rapidly. Microsoft began bundling
Outlook, its email client software, in "office suite" packages. At the same
time, Netscape began to provide its email client software bundled in its
Internet browser software. The entrance into the email client software market by
both Microsoft and Netscape resulted in the rapid adoption of email as a
mass-market communications channel. At the same time, use of the World Wide Web
(Web) began to expand rapidly, and the market for stand-alone email client
software began to be dominated by companies which bundled such software with
operating systems and/or browsers. We recognized an opportunity to leverage our
technology and experience in developing email software to pursue the market
created by these two rapidly growing phenomena: email and the Web. As a result,
we redeployed the efforts of our existing research and development personnel and
independent contractors to adapt the technology embedded in Pronto 96 for use as
a Web-based email service. We ceased all stand-alone email software license
sales during 1997, and as a result, revenues in 1997 decreased to $899,000. To
further support our transition to providing Web-based email services, in 1997 we
opened a marketing, sales and support office in Silicon Valley in order to have
better access to Web-based business partners.

Web-Based Email Service Business (January 1998-Present). In January 1998, we
began to offer email services to business partners. Our services allow our
business partners to provide free Web-based email to their end users, thus
enhancing the business partner's online presence, increasing the frequency and

19
<PAGE> 22

duration of visits to the partner's website and creating an opportunity for the
business partner and us to generate advertising and direct e-marketing revenue
through email. Meanwhile, we recognized that webmasters on small sites were
seeking a method to promote their sites and offer email to their users. In
November 1998, we launched our ZapZone Network service which enables small sites
to provide email to their end users at no cost in a matter of minutes.

Revenue Sources

Email Service Revenues. In 1998, our email service revenue was derived from
service fees and setup and installation fees. Approximately 60.5% of our email
service revenue resulted from contracts that provide for business partners to
pay us minimum annual service fees. These agreements also typically provide for
the business partner to pay us a share of revenues generated from the sale of
banner advertisements on their email site. The minimum annual service fee is
credited against the shared portion of the advertising revenue. Revenue from
minimum annual service fees is recognized ratably over the contract term from
the launch of the email site.

Some of our contracts with business partners provide for email service fees
based solely on a share of banner advertising revenue, with no minimum annual
commitment. In 1998, revenues from these contracts represented approximately
21.0% of our email service revenue. Revenues from sharing advertising are
recognized when such revenues are earned by our business partner.

We anticipate that revenues from advertising will increase both in absolute
dollars and as a percentage of total revenues. This is because we have recently
attained a platform of approximately 4.5 million emailboxes through our business
partners and we believe that we now have a large enough user base to be
attractive to advertisers and to generate additional advertising revenues by
targeting the user demographic objectives of the advertiser. In addition, by
aggregating demographic information garnered from small websites, the ZapZone
Network service is providing us with an additional opportunity to focus
advertising efforts in a targeted manner. We anticipate that combined service
fees and advertising revenues shared by business partners will continue to be
our major source of revenue in the future.

The remaining 18.5% of email service revenues in 1998 consisted of setup and
installation fees. We charge these fees in instances where the scope and
complexity of the solution warrant such a fee. These revenues are recognized
upon installation of the email site to which they relate. We expect that these
revenues will increase in absolute dollars as such installations increase in
number, but will decrease as a percentage of email service revenue in the
future, because service fees and advertising revenues are expected to increase
at a proportionally greater rate.

Premium Services. In March 1999, we launched our premium service offerings.
These services enhance our core service and include features such as:

- Off-line email client access;

- Unified messaging;

- Additional disk storage space;

- Automated, user-defined email forwarding;

- Automated, rules-based pager notification; and

- Email-by-phone.

These services will be paid for by emailbox users. To date we have not generated
any revenues from premium services but we anticipate that these revenues will be
a meaningful component of our revenues in the future.

20
<PAGE> 23

Direct E-Marketing. In December 1998, we began to offer direct e-marketing
opportunities to ecommerce vendors. Ecommerce vendors seek channels through
which they can market goods and services. Because of our installed user base and
our agreements with our business partners, we can assist ecommerce companies in
marketing their products to end users who have opted to receive offers by email.
We share with our business partners the revenues from this direct e-marketing,
which are earned either on a per-message basis or as a commission on products
sold. To date we have made these offerings available to only a limited number of
users. However, we anticipate that direct e-marketing revenues will be a
meaningful component of our revenues in the future.

STRATEGIC TRANSACTION

Concurrently with the sale of the shares in this offering we will enter into an
agreement with Go2Net, a network of branded, technology- and community-driven
websites focused on personal finance, commerce, and games. Go2Net also develops
Web-related software. Pursuant to the agreement we will offer Go2Net's end users
with a private label email service, including our email, calendaring and other
services. The services will be customized to the look and feel of Go2Net's
websites. The terms of this agreement are substantially the same as our
commercial agreements with other business partners except that we have agreed to
share a materially greater portion of our advertising revenues with Go2Net than
we are sharing under other similar agreements. In addition, in connection with
the agreement, we will issue to Go2Net warrant to purchase 1,136,000 ordinary
shares at a per share exercise price of $12.80, subject to adjustment as set
forth in the warrant. The warrant is fully vested and non-forfeitable. The
warrant will expire on the fifth anniversary of the public offering. The fair
value of the warrant, estimated at $5.8 million, will be amortized to operating
expenses ratably over the minimum term of the agreement, or one year.
Simultaneously with the sale of the shares in this public offering, we will sell
1,344,086 ordinary shares to Go2Net and Vulcan Ventures Incorporated at $14.88
per share in a private placement which will not be registered with the
Securities and Exchange Commission at the time of the public offering. In the
future, we may have to issue in-the-money warrants to acquire our ordinary
shares to business partners who provide us with a large base of potential end
users. We may also have to provide these business partners with more favorable
commercial terms than we have previously provided to our business partners. The
issuance of in-the-money warrants and the grant of more favorable terms to
business partners may further dilute our shareholders, increase our operating
loss in the future and cause our stock price to fall.

21
<PAGE> 24

RESULTS OF OPERATIONS

The following table sets forth financial data for the years ended December 31,
1996, 1997 and 1998 and for the three months ended March 31, 1998 and 1999 (in
thousands):

<TABLE>
<CAPTION>
THREE MONTHS
YEAR ENDED DECEMBER 31 ENDED MARCH 31
--------------------------- ---------------
1996 1997 1998 1998 1999
------- ------- ------- ----- -------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenues:
Email services............................................ $ -- $ -- $ 389 $ 32 $ 346
Software licenses, maintenance and services............... 3,134 899 -- -- --
------- ------- ------- ----- -------
Total revenues.......................................... 3,134 899 389 32 346
------- ------- ------- ----- -------
Cost of revenues:
Email services............................................ -- -- 569 59 405
Software licenses, maintenance and services............... 463 165 -- -- --
------- ------- ------- ----- -------
Total cost of revenues.................................. 463 165 569 59 405
------- ------- ------- ----- -------
Gross profit (loss)....................................... 2,671 734 (180) (27) (59)
------- ------- ------- ----- -------
Operating expenses:
Research and development, net........................... 1,479 1,108 1,149 266 307
Sales and marketing..................................... 1,965 2,202 2,001 459 481
General and administrative.............................. 465 829 604 138 807
Amortization of stock-based employee deferred
compensation.......................................... -- -- 91 2 386
------- ------- ------- ----- -------
Total operating expenses........................... 3,908 4,139 3,845 865 1,981
------- ------- ------- ----- -------
Operating loss............................................ (1,237) (3,405) (4,025) (892) (2,040)
Interest expense and other, net........................... (45) (68) (326) (27) (271)
------- ------- ------- ----- -------
Net loss.................................................. $(1,282) $(3,473) $(4,351) $(919) $(2,311)
======= ======= ======= ===== =======
</TABLE>

COMPARISON OF THE THREE MONTHS ENDED MARCH 31, 1998 AND 1999

Revenues. Email service revenues increased from $32,000 for the three months
ended March 31, 1998 to $346,000 for the three months ended March 31, 1999. We
began providing email services during the three months ended March 31, 1998. Our
business partners have grown from six at March 31, 1998 to over 90 business
partners at March 31, 1999. Revenues from one customer, Excite, amounted to
$55,000, or 15.9% of total revenues for the three months ended March 31, 1999.
In the future, we expect revenues from Excite to decrease substantially as a
percentage of email services revenue.

Cost of Revenues. Our cost of revenues increased from $59,000 for the three
months ended March 31, 1998 to $405,000 for the three months ended March 31,
1999 because of the growth of the number of business partners. Costs of revenues
consisted primarily of costs related to Internet data center services from a
third-party provider, depreciation of equipment, Internet access, personnel and
related costs. We expect cost of revenues to increase on an absolute basis,
primarily as a result of an increase in our email service revenues, but to
decrease as a percentage of email service revenues due to economies of scale.

Research and Development Costs, Net. Research and development costs consist
primarily of personnel and related costs, depreciation of equipment, supply
costs and royalties paid to the Israeli Government for grants received in prior
years for research and development activities. These royalties are paid at rates
ranging from 3% to 5% of total revenues. We do not expect to receive further
grants from the Israeli Government. At March 31, 1999, our outstanding
contingent obligation was approximately $400,000. Research and development
expense are charged to operations as incurred. Our research and development
costs increased from $266,000 for the three months ended March 31, 1998 to
$307,000 for the three months ended March 31, 1999, due primarily to higher
personnel and related costs. We expect that research and development costs, net,
will increase in absolute dollar amounts due to increases in personnel costs
related directly to new employees being hired to develop new service offerings,
however such costs will decrease as a percentage of revenues.

22
<PAGE> 25

Sales and Marketing. Sales and marketing expenses consist primarily of personnel
and related costs, public relations, direct sales efforts, including travel
expenses and royalties paid to the Israeli Government for grants received in
prior years for marketing activities. We have a contingent obligation to pay
royalties to the Israeli Government for grants received in prior years for
marketing activities at a rate of 3% of total revenues. At March 31, 1999, our
outstanding contingent obligation was approximately $121,000. Our sales and
marketing expenses increased from $459,000 for the three months ended March 31,
1998 to $481,000 for the three months ended March 31, 1999, due primarily to
marketing and other costs to support the growth of our email service revenues.
We expect sales and marketing expenses to significantly increase in the future
in absolute dollar amounts due to increases in personnel costs related directly
to new employees being hired to conduct sales to business partners and the
related market support to further develop our brand. We expect that for the next
several quarters, the increase in sales and marketing will be somewhat
proportionate to the increase in revenues. Once we achieve significant revenue
growth, we expect that sales and marketing expenses will start to decline as a
percentage of total revenues as we hire additional personnel and continue to
support and develop the email service business.

General and Administrative. General and administrative costs consist primarily
of personnel and related costs, professional services and facility costs. Our
general and administrative expenses increased from $138,000 for the three months
ended March 31, 1998 to $807,000 for the three months ended March 31, 1999, due
primarily to substantially higher personnel and related costs, facility costs,
higher fees for outside professional services and other costs to support the
growth of our email service revenues. We expect general and administrative costs
to increase on an absolute basis due to increased personnel and related costs,
higher facility costs associated with additional personnel and other costs
necessary to support and develop the email service business. We expect that
general and administrative expenses as a percentage of total revenues will start
to decline in the next several quarters.

Amortization of Stock-based Employee Deferred Compensation. Our stock-based
employee compensation expenses increased from $2,000 for the three months ended
March 31, 1998 to $386,000 for the three months ended March 31, 1999, due the
amortization of the aggregate of $7.2 million in deferred compensation recorded
during the three months ended March 31, 1999. The deferred compensation is being
amortized over the vesting schedule, generally four years.

Interest Expense and Other Expense, Net. Our interest expense and other expense,
net, increased from $26,000 for the three months ended March 31, 1998 to
$271,000 for the three months ended March 31, 1999, due primarily to increased
recognized costs of warrants granted to the Bank Lepituach Ha Taasia B'Israel
Ltd. (Bank Lepituach Ha Taasia). In April 1999, we fully repaid the short-term
bank line of credit.

Income Taxes. As of December 31, 1998, we had approximately $5.7 million of
Israeli net operating loss carryforwards and $4.7 million of U.S. federal net
operating loss carryforwards available to offset future taxable income. The U.S.
net operating loss carryforwards will expire in various amounts in the years
2010 to 2016. The Israeli net operating loss carryforwards have no expiration
date.

COMPARISON OF YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998

Revenues. In 1997, we ceased all sales of stand-alone email client software
licenses, maintenance and services. Accordingly, revenue comparisons between
1996, 1997 and 1998 are not meaningful. In 1998, our email service revenues were
$389,000, of which one customer, Excite, represented 54%. In the future, we
expect revenues from Excite to decrease substantially as a percentage of email
service revenue because the 1998 revenues from Excite included one-time payments
for setup and installation. We had no email service revenue in 1997. Our
revenues from software licenses and maintenance fees decreased from $3.1 million
in 1996 to $899,000 in 1997 due to the change in our business model and the
phasing out of our stand-alone email client software business.

23
<PAGE> 26

Cost of Revenues. In 1998, our cost of revenues was $569,000 and consisted
primarily of costs related to Internet data center services from a third-party
provider, depreciation of equipment, Internet access, personnel and related
costs. We expect cost of revenues to increase on an absolute basis, primarily as
a result of an increase in our email service revenues, but to decrease as a
percentage of email service revenues due to economies of scale. We had no email
service costs in 1996 and 1997. In 1996 and 1997, our costs of revenues were
$463,000 and $165,000. These costs consisted of expenses related to the stand-
alone email software business, including personnel and related costs, media
duplication and product packaging. The decrease in cost of revenues in 1997 from
1996 was due to the change in our business model as we phased out our
stand-alone email client software business.

Research and Development Costs, Net. Research and development costs decreased
from $1.5 million in 1996 to $1.1 million in 1997 because of $288,000 in
off-setting royalty-bearing grants from the Israeli Government, recorded as a
reduction of research and development costs. We have a contingent obligation to
pay royalties at the rate of 3%-5% of total revenues. Our outstanding contingent
obligation was approximately $411,000 as of December 31, 1998. Research and
development costs in 1998 remained relatively unchanged from 1997. However, in
1998 we transferred several key research and development personnel into our
operations group to support and maintain our newly developed Web-based email
services infrastructure. Costs relating to these personnel were included in cost
of revenues in 1998. We expect that research and development costs, net, will
increase due to increased personnel and related costs associated with the
accelerated development of new email service offerings.

Sales and Marketing. Sales and marketing expenses were $2.0 million in 1996,
$2.2 million in 1997 and $2.0 million in 1998. We have a contingent obligation
to pay royalties to the Israeli Government for grants received in prior years
for marketing activities at a rate of 3% of total revenue. This contingent
obligation was approximately $121,000 at December 31, 1998.

General and Administrative. General and administrative costs were $465,000 in
1996, $829,000 in 1997 and $604,000 in 1998. The increase in 1997 was primarily
due to the write-off of $171,000 for receivables related to the phasing out of
our stand-alone email client software license sales.

Interest Expense and Other, Net. Interest expense and other, net, consists of
interest payments and fair value of warrants granted in 1997 and 1998 in
connection with a short-term bank line of credit. Interest expense and other
expense, net, increased from $45,000 in 1996 to $68,000 in 1997 and to $326,000
in 1998. This increase in 1998 was due to a higher level of borrowing and change
in the terms of the agreement with Bank Lepituach Ha Taasia to include the grant
of warrants in addition to customary interest payments. In April 1999, we fully
repaid that short-term bank line of credit.

24
<PAGE> 27

QUARTERLY RESULTS OF OPERATIONS

The following table sets forth certain unaudited quarterly statements of
operations data for the five quarters ended March 31, 1999. This information has
been derived from CommTouch's consolidated unaudited financial statements,
which, in management's opinion, have been prepared on the same basis as the
audited Consolidated Financial Statements, and include all adjustments,
consisting only of normal recurring adjustments, necessary for a fair
presentation of the information for the quarters presented. This information
should be read in conjunction with our audited Consolidated Financial Statements
and the Notes thereto included elsewhere in this prospectus. The operating
results for any quarter are not necessarily indicative of the operating results
for any future period. Given the relatively small absolute dollar amounts in the
operating results for each quarter presented below, non-periodic amounts accrued
in one quarter cause significant fluctuations.

<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------------------------------------------------
MARCH 31, 1998 JUNE 30, 1998 SEPTEMBER 30, 1998 DECEMBER 31, 1998 MARCH 31, 1999
-------------- ------------- ------------------ ----------------- --------------
(IN THOUSANDS)
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Total email service
revenues.............. $ 32 $ 59 $ 130 $ 168 $ 346
Cost of email service
revenues.............. 59 85 166 259 405
----- ------- ------- ------- -------
Gross profit (loss)..... (27) (26) (36) (91) (59)
----- ------- ------- ------- -------
Operating expenses:
Research and
development........ 266 305 308 270 307
Sales and marketing... 459 506 509 527 481
General and
administrative..... 138 137 151 178 807
----- ------- ------- ------- -------
Amortization of stock-
based employee
deferred
compensation.......... 2 8 18 63 386
Total operating
expenses.............. 865 956 986 1,038 1,981
----- ------- ------- ------- -------
Operating loss.......... (892) (982) (1,022) (1,129) (2,040)
Interest expense and
other, net............ (27) (59) (28) (212) (271)
----- ------- ------- ------- -------
Net loss................ $(919) $(1,041) $(1,050) $(1,341) $(2,311)
===== ======= ======= ======= =======
</TABLE>

FLUCTUATIONS IN QUARTERLY RESULTS

We have incurred operating losses since inception, and we cannot be certain that
we will achieve profitability on a quarterly or annual basis in the future. Our
results of operations have fluctuated and are likely to continue to fluctuate
significantly from quarter to quarter as a result of a variety of factors, many
of which are outside of our control. A relatively large expense in a quarter
could have a negative effect on our financial performance in that quarter.
Additionally, as a strategic response to a changing competitive environment, we
may elect from time to time to make certain pricing, service, marketing or
acquisition decisions that could have a negative effect on our quarterly
financial performance. Other factors that may cause our future operating results
to fluctuate include, but are not limited to:

- continued growth of the Internet and of email usage;

- demand for Web-based email services;

- our ability to attract and retain customers and maintain customer
satisfaction;

25
<PAGE> 28

- our ability to upgrade, develop and maintain our systems and
infrastructure;

- the amount and timing of operating costs and capital expenditures
relating to expansion of our business and infrastructure;

- technical difficulties or system outages;

- dollar/NIS exchange rate fluctuations;

- the announcement or introduction of new or enhanced services by our
competitors;

- our ability to attract and retain qualified personnel with Internet
industry expertise, particularly sales and marketing personnel;

- the pricing policies of our competitors;

- failure to increase our sales; and

- governmental regulation relating to the Internet, and email in
particular.

In addition to the factors set forth above, our operating results will be
impacted by the extent to which we incur non-cash charges associated with
stock-based arrangements with employees and non-employees.

LIQUIDITY AND CAPITAL RESOURCES

We have financed our operations principally from the sale of equity securities
and to a lesser extent from bank loans and research and development and
royalty-bearing marketing grants from the Israeli government. As of March 31,
1999, we had $3,226,000 in cash and cash equivalents.

Net cash provided by financing activities was $2.4 million in 1996, $2.3 million
in 1997, $4.5 million in 1998 and $5.0 million in the three months ended March
31, 1999. Net cash used in operating activities was $1.3 million in 1996, $2.6
million in 1997, $3.6 million in 1998 and $1.7 million for the three months
ended March 31, 1999. Net cash used in operating activities in 1996, 1997, and
1998 and the three months ended March 31, 1999 is comprised of net loss for each
of the years partially offset by depreciation and amortization expenses and in
1996, 1997 and the three months ended March 31, 1999 also impacted by changes in
trade receivables in addition to an increase in prepaid expenses during the
three months ended March 31, 1999. Net cash used in investing activities was
$427,000 in 1996, $93,000 in 1997, $442,000 in 1998 and $950,000 for the three
months ended March 31, 1999. These investing activities consisted of purchases
of property and equipment. During 1998, we entered into capital leases of
$328,000.

As of March 31, 1999, we had net working capital of $1.4 million. We had a
short-term bank line of credit agreement with a bank, collateralized by all our
assets and share capital, allowing us to borrow up to $1.3 million. The
short-term bank line of credit was repaid in April 1999. Interest under the
terms of the short-term bank line of credit agreement was a combination of
warrants for ordinary shares at an exercise price equal to the par value,
calculated based on the outstanding utilized line of credit, and an additional
annual interest payment at a rate of LIBOR plus 3% (LIBOR plus 8% for overdrawn
amounts). Through March 31, 1999, we issued to the bank warrants to purchase
92,340 ordinary shares.

In the first quarter of 1999, we issued Series C Convertible Preferred Shares to
investors resulting in net proceeds of $5.3 million. In April 1999, we issued to
investors Convertible Promissory Notes which have since converted into 42,081
Series D Convertible Preferred Shares, resulting in net proceeds of
approximately $13.2 million. All of our convertible preferred shares will
automatically convert into ordinary shares upon the closing of an initial public
offering.

We believe that the net proceeds from this offering, together with existing
cash, $19,200,000 in net proceeds from the concurrent private placement and our
other financing arrangements, will provide us with sufficient funds to finance
operations and make the necessary capital expenditures to support growth through
the next 12 months.

26
<PAGE> 29

YEAR 2000 ISSUE

The Year 2000 issue is the result of computer programs being written using two
digits rather than four to define the applicable year. Any computer programs or
hardware that have date-sensitive software or embedded chips may recognize a
date using "00" as the year 1900 rather than the year 2000. This could result in
system failures or miscalculations, causing disruptions of operations for any
company using such computer programs or hardware, including, among other things,
a temporary inability to process transactions, send invoices or engage in normal
business activities. As a result, many companies' computer systems may need to
be upgraded or replaced in order to avoid Year 2000 issues.

We are a comparatively new enterprise, and, accordingly, the majority of the
software and hardware we use to manage our business has been purchased or
developed by us within the last 24 months. While this fact does not uniformly
protect us against Year 2000 exposure, we believe we gain some mitigation from
the fact that the information technology (IT) we use to manage our business is
not based upon "legacy system" hardware and software. "Legacy system" is a term
often used to describe hardware and software systems which were developed in
previous decades when there was less awareness of Year 2000 issues. Generally,
hardware and software design in this decade and the past several years in
particular has given greater consideration to Year 2000 issues. All of the
software code we have internally developed to manage our network traffic, for
example, uses four digits to define the applicable year.

We are in the process of testing our internal IT and non-IT systems. To date, we
have only completed preliminary testing of our internally developed IT and
non-IT systems. All of the testing we have completed has been performed by our
own personnel; to date, we have not retained any outside service or consultants
to test or review our systems for Year 2000 compliance. Based on the testing we
have performed, we believe that such software is Year 2000 compliant; however,
we intend to complete more extensive testing in the third quarter of 1999.

In addition to our internally developed software, we utilize software and
hardware developed by third parties for both our network and internal
information systems. To date, we have not done any testing of such third-party
software or hardware to determine Year 2000 compliance. We have, however,
obtained certifications from our key suppliers of hardware and networking
equipment for our data centers that such hardware and networking equipment is
Year 2000 compliant. Additionally, we have received assurances from the
providers of key software applications for our internal operations that their
software is Year 2000 compliant. Based upon an initial evaluation of our broader
list of software and hardware providers, we believe that all of these providers
are reviewing and implementing their own Year 2000 compliance programs, and we
will work with these providers to address the Year 2000 issue and continue to
seek assurances from them that their products are Year 2000 compliant.

In addition, we rely on third party network infrastructure providers to gain
access to the Internet. If such providers experience business interruptions as a
result of their failure to achieve Year 2000 compliance, our ability to provide
Internet connectivity could be impaired, which could have a material adverse
effect on our business, results of operations and financial condition.

Our customers' success in maintaining Year 2000 compliance is also significant
to our ability to generate revenues and execute our business plan. We currently
derive revenue by charging a fixed fee per month for each mailbox we host, by
charging a service fee plus advertising sharing or by sharing advertising
revenues with our customers. In either case, interruptions in our customers'
services and online activities caused by Year 2000 problems could have a
material, adverse effect on our revenues to the extent that such interruptions
limit or delay our customers' ability to expand their base of email users.

We have not incurred any significant expenses to date, and we do not anticipate
that the total costs associated with our Year 2000 remediation efforts,
including both expenses already incurred and any to be incurred in the future,
will exceed $100,000. However, if we, our customers, our providers of hardware
and software, or our third party network providers fail to remedy any Year 2000
issues, our service could be interrupted and we could experience a material loss
of revenues that could have a material adverse effect

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<PAGE> 30

on our business, results of operations, and financial condition. We would
consider such an interruption to be the most reasonably likely unfavorable
result of any failure by us, or the third parties upon whom we rely, to achieve
Year 2000 compliance. Presently, we believe we are unable to reasonably estimate
the duration and extent of any such interruption, or quantify the effect it may
have on our future revenues. We have yet to develop a comprehensive contingency
plan to address the issues which could result from such an event. We are
prepared to develop such a plan if our ongoing assessment leads us to conclude
we have significant exposure based upon the likelihood of such an event.

EFFECTIVE CORPORATE TAX RATES

Our tax rate will reflect a mix of the U.S. statutory tax rate on our U.S.
income and the Israeli tax rate discussed below. We expect that most of our
taxable income will be generated in Israel. Israeli companies are generally
subject to corporate tax at the rate of 36% of taxable income. The majority of
our income, however, is derived from our company's capital investment program
with Approved Enterprise status under the Law for the Encouragement of Capital
Investments in two separate plans, and is therefore eligible for certain tax
benefits. Pursuant to these benefits, we will enjoy a tax exemption on income
derived during the first two years in which such investment plans produce
taxable income (provided that we do not distribute such income as a dividend)
and a reduced tax rate of 10% to 25% for an additional period of eight years
depending on the level of foreign investment in CommTouch. All of these tax
benefits are subject to various conditions and restrictions. There can be no
assurance that we will obtain approval for additional Approved Enterprise
programs, or that the provisions of the law will not change. Moreover,
notwithstanding these tax benefits, to the extent we receive income from
countries other than Israel, such income may be subject to withholding tax.

Since we have incurred tax losses through December 31, 1998, we have not yet
used the tax benefits for which we are eligible.

IMPACT OF INFLATION AND CURRENCY FLUCTUATIONS

Most of our sales are in dollars. However, a large portion of our costs relates
to our operations in Israel. A substantial portion of our operating expenses,
primarily our research and development expenses, is denominated in NIS. For the
purposes of our financial statements, costs not effectively denominated in
dollars are translated to dollars when recorded, at prevailing exchange rates
and will increase if the rate of inflation in Israel exceeds the devaluation of
the NIS as compared to the dollar or if the timing of such devaluations lags
considerably behind inflation. Consequently, we are and will be affected by
changes in the prevailing NIS/dollar exchange rate. We might also be affected by
the dollar exchange rate to the major European and Asian currencies, due to the
fact that we derive revenues from business partners in Europe and Asia.

In recent years (until 1997), inflation in Israel exceeded the devaluation of
the NIS against the dollar and the Company experienced increases in the dollar
cost of its operations in Israel. For example, in 1995 and 1996, the rate of
inflation in Israel was 8.1% and 10.6%, and the devaluation of the NIS against
the dollar was 3.9% and 3.7%. This trend was reversed during 1997 and 1998 (when
the rate of inflation was 7.0% and 8.6%, and the rate of devaluation was 8.8%
and 17.6%). The reversal experienced in 1997 and 1998 may not continue and we
may be materially adversely affected in the future if inflation in Israel
exceeds the devaluation of the NIS against the dollar or if the timing of such
devaluation lags behind increases in inflation in Israel.

Because exchange rates between the NIS and the dollar fluctuate continuously
(albeit with a historically declining trend in the value of the NIS), exchange
rate fluctuations and especially larger periodic devaluations will have an
impact on our profitability and period-to-period comparisons of our results. The
effects of foreign currency remeasurements are reported in the Consolidated
Financial Statements in current operations. In the fourth quarter of 1998 the
rate of exchange between the NIS and the dollar fluctuated more significantly
than in prior periods.

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<PAGE> 31

The representative exchange rate, as reported by the Bank of Israel, was NIS
4.034 for one dollar on March 31, 1999 (NIS 4.160 on December 31, 1998, NIS
3.536 on December 31, 1997 and NIS 3.251 on December 31, 1996).

QUALITATIVE AND QUANTITATIVE DISCLOSURE ABOUT MARKET RISK

We develop our technology in Israel and provide our services in North America,
India, Europe and the Far East. As a result, our financial results could be
affected by factors such as changes in foreign currency exchange rates or weak
economic conditions in foreign markets. As most of our sales are currently made
in U.S. dollars, a strengthening of the dollar could make our services less
competitive in foreign markets. Our interest expense on our capital lease
obligations with a U.S. leasing company is sensitive to changes in the general
level of U.S. interest rates. Due to the nature and level of our debts, we have
concluded that there is currently no material market risk exposure. Therefore,
no quantitative tabular disclosures are required.

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<PAGE> 32

BUSINESS

COMPANY OVERVIEW

We are a leading global provider of email and other messaging solutions. Our
flexible and highly customizable solutions enable us to satisfy the unique email
and messaging needs of a wide range of business partners, including websites of
all sizes and businesses worldwide. As of May 16, 1999, we had over 100 business
partners offering our Web-based email from their sites. Our business partners
include Excite, LookSmart, FortuneCity, Talk City and Nippon Telephone and
Telegraph. Through our business partners' sites we serve approximately 4.5
million emailboxes. In November 1998, we launched our ZapZone Network service,
which enables sites to provide email to their end users at no cost. As of May
16, 1999, we had registered approximately 75,000 sites through the ZapZone
Network service, and were serving approximately 480,000 ZapZone Network
emailboxes.

INDUSTRY BACKGROUND

GROWTH OF THE INTERNET WORLDWIDE AND PROLIFERATION OF EMAIL

The Internet has become a vitally important global medium for communication,
commerce, content distribution and advertising. International Data Corporation,
or IDC, estimates that as of December 1998, there were over 28 million Web users
in the United States and over 83 million users worldwide. IDC projects that, by
the end of 2002, these numbers will increase to over 90 million Web users in the
United States and over 282 million users worldwide. This growth in the global
usage of the Web provides significant opportunities for emerging Web-based
businesses and other companies developing an online presence.

Email is one of the most widely used applications on the Internet and has become
a primary platform for business and personal communication. According to
Forrester Research, over 80 percent of Internet users access their email while
online, making this activity the most popular use of the Internet. IDC projects
that email traffic in the United States will increase from 1.2 billion messages
per day in 1997 to 8.0 billion messages per day in 2002.

EMERGENCE OF WEB-BASED EMAIL

Until recently, most email systems were provided by employers, Internet service
providers (ISPs) or universities to individuals or closed groups of end users
through software applications located on the users' desktops or local area
networks. Such email systems, however, only permit access through the computer
or network on which the email software resides or through cumbersome remote
access systems. The recent emergence of email systems that use Internet browsers
as the application for sending and receiving email has resulted in tremendous
advances in email access, functionality and ease of use. This new email standard
is commonly referred to as "Web-based email."

Web-based email offers the following benefits over traditional closed systems:

- anytime, anywhere (universal) access to both business and personal email
accounts;

- advanced integrated communication services over the Web, such as unified
messaging (receiving faxes and voicemail via email) and integrated
calendars and directories; and

- easy to use registration, setup and administration.

With the dramatic growth of international Internet usage, businesses worldwide
are seeking to differentiate themselves online. Email is an optimal solution to
address this business need because it increases brand

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<PAGE> 33

awareness, builds and reinforces a loyal, connected member base and facilitates
commerce in the following ways:

- Companies embracing Web-based email can enhance their brand identity by
controlling the look and feel of their Web-based email interface and also
by providing end users with distinctive branded email addresses such as
[email protected].

- Web-based email significantly enhances the frequency and duration of
website visits, commonly referred to as the website's "stickiness." The
personalized nature of email and the ability to bundle it with additional
services, such as calendaring, scheduling and unified messaging,
establishes an important one-to-one relationship with email users.

- Email is emerging as an effective application for direct marketing
online, as email users provide important demographic data when they
register for and use email services. This information can be used to
create highly targeted marketing campaigns with minimal distribution
costs.

THE OPPORTUNITY TO PROVIDE OUTSOURCED WEB-BASED EMAIL SERVICES

While many organizations worldwide recognize the advantages of Web-based email
services, they often lack the infrastructure, expertise and resources to fully
realize these benefits through internal development. Due to the growing
complexity of in-house email systems and the increasing levels of infrastructure
investment and management resources needed to provide comprehensive email
services, organizations around the world are seeking to outsource email
services. Businesses worldwide seek to partner with a dedicated provider of
Web-based email to provide high quality, feature-rich email services without
having to invest internally in email management and systems. Small websites,
such as affinity sites and personal homepages, seek free, easy to implement
email services for their end users.

THE COMMTOUCH SOLUTION

BENEFITS OF THE COMMTOUCH SOLUTION

Extensive Email Features. Our core solution is easy to use and provides a broad
range of industry-standard functionality. This includes the ability for end
users to collect email from other email accounts, to create folders, to attach
electronic documents, to store messages, to maintain a contact center, to create
distribution lists and to establish user profiles and signatures. Our core
service uses IMAP4, an advanced email protocol, which allows email folders to be
accessed from multiple email environments.

The value of our solution is increased by our provision of premium services,
which allow end users to send and receive faxes, voicemail and pages from the
emailbox; access the Web-based emailbox from an off-line client (such as
Microsoft Outlook); and have email forwarded to other addresses. We believe
that, by providing a single platform which integrates multiple communication
services and devices, the Web-based emailbox we provide has the potential to
become our end users' primary online communications center.

Ability to Support Hundreds of Millions of Emailboxes. Our modular technology
architecture enables the rapid set up of full-service hosting facilities and
enables us to rapidly and easily expand our system as our user base grows. In
addition, we utilize redundant servers and server load balancing to re-direct
traffic to prevent service interruptions. Our system architecture and software
platform have been designed to provide high quality service to hundreds of
millions of emailboxes across millions of domains. We believe that our robust
and flexible technology platform enables us to maintain one of the highest
service performance levels in the industry.

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<PAGE> 34

Customization. Our solutions enable our business partners to leverage their
email as a brand building tool. Business partners offer our email and messaging
services to their end users with the partner's domain name. For example, a
business partner can provide email at its website with an address such as:
[email protected]. This repeated visibility of the partner's name on every
email message promotes brand awareness and customer loyalty. In addition, our
business partners can use our proprietary customization tool to design the look
and feel of their Web-based email interface so that it reflects their own brand
image.

Increased Website Usage. Our solutions increase the potential for our partners
to generate revenue by increasing the stickiness of their websites. We believe
that traffic to our partners' websites increases as end users frequently visit
the website to check their email. Thus, business partners may have many
opportunities to expose their end users to repeated and/or fresh content every
time they send or receive email. The benefits of increased website stickiness
include more frequent communication with end users, enhanced customer loyalty
and the opportunity to generate revenues from advertising, direct marketing and
ecommerce transactions.

Online Marketing Capabilities. Our business partners can leverage our email
solutions along with the demographic information of their end users to conduct
one-to-one marketing and targeted advertising campaigns. We collect demographic
information from end users when they register for their emailbox. We believe
this information provides a powerful platform on which to design targeted
marketing campaigns. To enhance our business partners' marketing capabilities,
we provide our MailTarget tool which enables them to select and deliver tailored
messages to targeted segments of their user population.

Rapidly Deployable and Cost-Effective Solutions. Our solutions for business
partners can be implemented in as little as several days, while solutions for
small websites can be implemented in a matter of minutes. We believe that this
rapid time to market is critical to our business partners, who desire to realize
the benefits of Web-based email as quickly as possible. Our flexible technology
and economies of scale enable us to provide email solutions in a cost-effective
manner, allowing businesses to achieve significant economic advantages. We also
provide comprehensive maintenance and administration of our email service, which
eliminates the need for our business partners to undertake the significant
burden of developing and maintaining an in-house email system.

Extensive Language Capabilities. We provide email services in the following 14
languages: English, Chinese, Japanese, Spanish, French, German, Portuguese,
Dutch, Finnish, Danish, Norwegian, Swedish, Russian and Italian. Additionally,
we can support multiple languages on the same site for any of our business
partners and offer spell-checking in many of these languages. Our multi-lingual
capabilities enable us to serve the needs of businesses worldwide as well as
multinational organizations.

COMMTOUCH STRATEGY

Our objective is to be the leading global provider of integrated email and other
messaging services. We plan to achieve this goal by pursuing the following key
strategies:

EXPAND USER BASE BY ADDING BUSINESS PARTNERS

We are building our base of email users by partnering with companies worldwide
that want to offer their online customers a branded email service. As of May 16,
1999, we had over 100 business partners offering our Web-based email from their
sites. Through these business partners, we host approximately 4.5 million
emailboxes worldwide. These partners include Web-based companies, such as
Excite, Talk City, LookSmart, FortuneCity and Nippon Telephone and Telegraph.
Concurrently with the closing of this offering we will enter into an agreement
with Go2Net to provide its end users with a customized, private label email
service. We plan to continue to recruit top-tier partners and to position
ourselves as a leading provider of state-of-the-art email services that are
critical to our partners' online business strategy. We believe recruiting more
business partners and end users will provide us with greater revenue
opportunities

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<PAGE> 35

from service fees, advertising, premium services and direct e-marketing
possibilities as well as greater brand recognition.

EXTEND INTERNATIONAL LEADERSHIP

We plan to continue to aggressively market our solutions to business partners
worldwide. We have focused on marketing our international email services in
countries which we believe will experience the largest growth in Web users. We
have developed multiple language interfaces for our email services to be used in
the world's most widely used non-English languages, such as Chinese, Japanese,
Russian, French, Spanish and German. We have also established a marketing group
in Israel, because of its proximity to both Europe and Asia, and a marketing
group in the United States to market to North America, Canada and Latin America.
We believe that we have a strong advantage in providing Web-based email services
in many major foreign markets.

EXPAND OUR EMAIL SERVICE FOR SMALL WEBSITES THROUGH THE ZAPZONE NETWORK SERVICE

Small websites, online affinity groups and personal homepages represent a
significant and growing segment of the market for Web-based email
communications. We recognized that this market was under-served, and as a result
we developed our ZapZone Network service solution, which we launched in November
1998. By May 16, 1999, we had registered approximately 75,000 sites through this
service, and are currently hosting approximately 480,000 ZapZone Network service
emailboxes. Our objective is to make the ZapZone Network service the premier
brand of choice for small sites. Every email sent and received contains the
ZapZone Network domain name, and the "powered by CommTouch" logo. We believe
that this produces a powerful viral marketing effect and promotes the ZapZone
Network brand quickly, efficiently and at a low cost. We plan to generate
revenues from our ZapZone Network service by selling premium and direct
marketing services to end users and also by selling advertising and sponsorship
packages to third parties.

EXPLOIT PRICE-PER-EMAILBOX OFFERING TO BUSINESSES

We believe that as more businesses seek to outsource their email services and
develop a need for creative messaging solutions, there is an opportunity for us
to provide our price-per-emailbox outsourcing solutions. We intend to
aggressively market our outsourcing solution by increasing our direct sales and
marketing personnel and resources in this market segment. Additionally, we
intend to partner with businesses that have traditionally offered goods and
services to the small office/home office (SOHO) market to offer the
price-per-emailbox option to that market.

DRIVE MULTIPLE REVENUE STREAMS

We plan to continue to generate multiple revenue streams from our email and
messaging services. We are currently focused on the following revenue sources:

- - Service fees. We plan to continue to charge service fees for delivering
outsourced email solutions to business partners.

- - Advertising. We plan to continue to sell advertising and sponsorships on our
global email network to both business partners and third party vendors.

- - Premium services. We plan to continue to market and upsell premium services to
end users.

- - Direct online marketing. We plan to continue to offer business partners and
other third parties the opportunity to send targeted messages to select
segments of our business partners' user base and our ZapZone Network user
base, and share in the revenue that these parties generate from online
selling.

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EXTEND TECHNOLOGY LEADERSHIP IN EMAIL SERVICES

We intend to leverage our core technology, software platform and expertise in
developing and managing a comprehensive Web-based email service to deliver
industry-leading functionality and advanced messaging services. We are currently
planning to add new services that we believe end users and webmasters desire,
including calendar integration, webmaster administration tools, message boards
and list server features, HTML editing and email message language translation.
We intend to continue to work closely with our business partners to identify new
trends and functionality that will be popular with end users.

LEVERAGE OUR COST-EFFECTIVE TECHNOLOGY PLATFORM

Our open, scalable architecture gives us the flexibility to use servers that
provide us with the best cost-quality combination and to leverage third-party
hosting providers. This enables us to achieve a low service cost-per-emailbox
while maintaining a high level of service quality. This combination of economic
advantage and service quality enables us to price our services attractively to
our business partners and end users. We believe that the price performance of
our solution enables us to compete aggressively, expand market share and build
our brand name.

SERVICES

We provide outsourced email and messaging services to customers of all sizes.
Our solutions enable these organizations to attract, retain, communicate and
conduct ecommerce with their end users.

We provide our email and messaging solutions through a variety of licensing
arrangements. These arrangements typically consist of one of the following:

- a minimum annual service fee plus advertising revenue sharing;

- advertising revenue sharing only; or

- price-per-emailbox.

For our ZapZone Network service members, we provide our core email and messaging
services free of charge. We currently derive revenue from this network through
advertising and we plan to upsell our premium services to users in the ZapZone
Network.

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CORE SERVICE

Our core service provides the following features:

<TABLE>
<S> <C>
- -----------------------------------------------------------------------------------------------------
FEATURE DESCRIPTION
- -----------------------------------------------------------------------------------------------------
ELECTRONIC MAILBOX Includes a full range of industry-standard
functionality, such as the ability for end users to
create folders, attach electronic documents, store
messages, maintain a contact center, distribute
lists, establish user profiles and signatures.
- -----------------------------------------------------------------------------------------------------
PARTNER-BRANDED ELECTRONIC MAIL INTERFACE Business partners offer our email services to their
end users with the business partner's name included
in the domain address. This repeated visibility of
the business partner's name promotes brand awareness
and customer loyalty. Additionally, our business
partners can design the look and feel of their
Web-based email interface with our proprietary
customization wizard tool.
- -----------------------------------------------------------------------------------------------------
ENHANCED MANAGEMENT FEATURES Includes advanced email functionality such as the
ability to collect email from other email accounts,
sort email and access a sent messages folder. Also
includes a draft folder option, message notification
upon login and IMAP4 support, which allows email
folders to be accessed from multiple email
environments.
- -----------------------------------------------------------------------------------------------------
CONTACT CENTER Enhanced address book functionality that includes
integrated third-party instant messaging and chat.
- -----------------------------------------------------------------------------------------------------
SPAM PROTECTION Advanced anti-spamming controls and email filtering.
- -----------------------------------------------------------------------------------------------------
MULTIPLE LANGUAGE CAPABILITY Our email services are provided in 14 languages:
English, Chinese, Japanese, Spanish, French, German,
Portuguese, Dutch, Finnish, Danish, Norwegian,
Swedish, Russian and Italian. Additionally, we
provide spell-checking in many of these languages
and can support more than one language on any of our
customer websites.
- -----------------------------------------------------------------------------------------------------
KIDS' EMAIL An email option that enables parents to control who
may correspond electronically with their children.
- -----------------------------------------------------------------------------------------------------
</TABLE>

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PREMIUM SERVICES

We introduced our premium services in March 1999. These services are designed to
transform the end user's emailbox into an integrated primary communications
center. We currently offer the following premium services to end users for a
fee:

<TABLE>
<S> <C>
- -----------------------------------------------------------------------------------------------------
FEATURE DESCRIPTION
- -----------------------------------------------------------------------------------------------------
OFF-LINE EMAIL CLIENT ACCESS End users can access their emailbox using either a
Web browser or their off-line client software, such
as Microsoft Outlook.
- -----------------------------------------------------------------------------------------------------
UNIFIED MESSAGING This service enables the emailbox to become an
integrated communications platform through which the
user can access email and send and receive voicemail
messages, faxes, and pages.
- -----------------------------------------------------------------------------------------------------
ADDITIONAL DISK SPACE STORAGE End users can increase their storage capacity up to
an additional ten megabytes of disk space to
maintain more folders and messages in their
emailbox.
- -----------------------------------------------------------------------------------------------------
AUTOMATED, USER-DEFINED EMAIL FORWARDING Incoming emails can be automatically forwarded to an
alternate emailbox based on the end user's pre-set
criteria.
- -----------------------------------------------------------------------------------------------------
AUTOMATED, RULES-BASED PAGER NOTIFICATION Incoming emails can be automatically forwarded to
the end user's pager based on the end user's pre-set
criteria.
- -----------------------------------------------------------------------------------------------------
EMAIL-BY-PHONE End users can call to have their email messages read
to them using text-to-speech technology. End users
have the option to reply with a voicemail message
that is sent as a voice attachment, fax the email or
can delete the message.
- -----------------------------------------------------------------------------------------------------
INTERNET PROTOCOL (IP) TELEPHONY ACCESS Enables voice communication over the Internet that
is integrated with the end user's emailbox.
- -----------------------------------------------------------------------------------------------------
</TABLE>

The unified messaging, email-by-phone and IP telephony premium services
integrate third party technology.

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PLANNED SERVICES

We are developing new messaging services to complement our existing services. We
actively monitor the email and communication needs of our business partners and
end users and work to develop new features and enhancements to meet their
evolving requirements. The following services are currently in, or planned for,
development:

<TABLE>
<S> <C>
- -----------------------------------------------------------------------------------------------------
FEATURE DESCRIPTION
- -----------------------------------------------------------------------------------------------------
CALENDAR INTEGRATION Online calendars and group scheduling will be
integrated with the end user's email interface and
contact center, as well as to applications such as
Microsoft Outlook and Palm Pilot software.
(Anticipated in the third quarter of 1999).
- -----------------------------------------------------------------------------------------------------
ENHANCED EMAIL SECURITY Support for SSL encryption and technologies with
enhanced anti-virus and anti-vandal security
measures. (Anticipated in the third quarter of
1999).
- -----------------------------------------------------------------------------------------------------
WEBMASTER ADMINISTRATION TOOLS Provides webmasters with enhanced website
administration functionality, including opening and
deleting accounts online, enhanced tracking and
reporting features, and Lightweight Directory
Application Protocol (LDAP) support, which provides
remote enhanced administrative and control
capabilities. (Anticipated in the third quarter of
1999).
- -----------------------------------------------------------------------------------------------------
COMMUNITY-BUILDING APPLICATIONS Additional functionality such as message boards and
list servers, which enable frequent communication
among end users. (Anticipated in the third quarter
of 1999).
- -----------------------------------------------------------------------------------------------------
EMAILBOX ENHANCEMENT Enhancements such as message search features, HTML
editing and enhanced secure login interface.
(Anticipated in the third quarter of 1999).
- -----------------------------------------------------------------------------------------------------
EMAIL MESSAGE LANGUAGE TRANSLATION Email messages will be automatically translated
between languages according to pre-defined user
preferences. (Anticipated in the fourth quarter of
1999).
- -----------------------------------------------------------------------------------------------------
</TABLE>

Direct online marketing services. We have a large and growing network of end
users. As of May 16, 1999, through our business partners we host approximately
4.5 million emailboxes and through our ZapZone Network service, which has over
75,000 sites registered, we host approximately 480,000 emailboxes. This
extensive user network, along with our advanced technologies and strategic
relationships, will allow us to offer value-added direct marketing services to
our business partners and third parties. We are currently planning the following
services:

Deal Me In (also known as Opt-in). Users can elect to receive promotions
from third-party vendors for pre-selected product categories such as books,
music, toys, computers and gifts. Whenever end users choose to purchase one
of these items, we would earn a percentage of the revenue generated from
the transaction.

MailTarget. We provide our business partners with a Web-based tool which
enables webmasters to select and send tailored messages to targeted
segments of their end user base. We would earn revenues by charging
business partners a fee for each message sent with this tool.

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Third-party marketing programs. In addition to our own internal opt-in
program, we also provide other third-party direct marketing companies with
the opportunity to leverage our extensive user base to market their
products. We would earn revenues by charging third-party direct marketing
companies a fee for each message sent.

The statements in this prospectus regarding planned service offerings and
anticipated features of such offerings are forward-looking statements. Actual
service offerings and benefits could differ materially from those projected. We
provide some of our features and services by integrating our technology with
what we believe to be best of breed, third-party providers.

THE ZAPZONE NETWORK EMAIL SERVICE

Our ZapZone Network service delivers email messaging solutions to small websites
and homepages, which we believe represent a large and growing market of end
users. Our ZapZone Network service enables individuals and website
administrators to set up Web-based email online, often in under ten minutes.
ZapZone Network-enabled sites are able to provide our core Web-based email
services to their end users in multiple languages. Our ZapZone Network service
enables websites to collect valuable user demographic information, which
facilitates their ability to conduct targeted marketing campaigns with their
members. Webmasters can then communicate with and market to those users. In
addition, we plan to sell premium services to these end users in the near
future.

PRONTOMAIL

We provide a Web-based email service directly to end users under the name
ProntoMail. Individuals can register for this service through our corporate
website. We use ProntoMail for beta testing of new service offerings and have no
plans to actively market this service.

CUSTOMERS

BUSINESS PARTNERS

We offer email and messaging communications services to over 100 global business
partners. The following is a list of companies with which we have email service
agreements and which have the greatest number of mailboxes within their
respective categories:

COMMUNITY SITE:

TALK CITY (CHAT ROOMS)

FORTUNECITY (GENERAL)

LOOKSMART (PORTAL)

COLLEGES.COM (STUDENT INFORMATION)

DESERET (MORMON COMMUNITY SITE)

INTERNATIONAL SITE:

EXCITE (PORTAL)

GOO (NIPPON TELEPHONE AND TELEGRAPH)

YUPI (SPANISH PORTAL)

SOHU (CHINESE PORTAL)

MONCOURRIER (FRENCH CANADIAN PORTAL)

DIGITAL MEDIA COMPANY:

PRIMEDIA (SEVENTEEN.COM)

DISCOVERY CHANNEL ONLINE

PROLAUNCH (PERSONAL MEDIA)

MEDSCAPE (MEDICAL)

ZD NET (ONLINE MEDIA)

ENTERTAINMENT SITE:

WARNER BROS. (ACMECITY.COM)

JOKES.COM

GARFIELD.COM (CARTOON SITE)

MUSIC.COM

HEADBONE.COM (KIDS SITE)

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<PAGE> 41

NEWSPAPERS/PUBLISHING:

CANOE (CANADIAN NEWS)

THE IRISH TIMES

HOLLINGER GROUP (JERUSALEM POST)

THE TIMES OF INDIA

NEWS CORP. (CHINABYTE)

At the closing of this offering we will enter into a strategic relationship with
Go2Net, a network of branded, technology- and community-driven websites,
pursuant to which we will provide our Web-based email services to Go2Net's
various branded websites, including Go2Net, Metacrawler, Hypermat, Virtual
Avenue, Silicon Investor and Playsite.

ZAPZONE NETWORK MEMBERS

We meet the email and messaging needs of small websites and home pages through
our ZapZone Network (ZZN). This service enables our members to offer Web-based
email and messaging to their end users and allows us to increase our membership
base. The following is a sampling of ZapZone Network member sites:

<TABLE>
<S> <C>
- ---------------------------------------------------------------------------------------------------
ZZN MEMBER SITE DESCRIPTION
- ---------------------------------------------------------------------------------------------------
Access Bollywood Information on Indian films and celebrities.
(jaan.zzn.com)
- ---------------------------------------------------------------------------------------------------
Baby.com (baby.zzn.com) Community site that aggregates parenting information and
sells baby-related products.
- ---------------------------------------------------------------------------------------------------
Bboy.com (bboy.zzn.com) Music-oriented website that aggregates "hip hop"
information.
- ---------------------------------------------------------------------------------------------------
Citrus Cool Kids (citrus.zzn.com) Children's portal that offers book reviews, a newsletter,
and information about games and the Internet.
- ---------------------------------------------------------------------------------------------------
Diabetes.com (diabetes.zzn.com) Health-oriented site for diabetes information.
- ---------------------------------------------------------------------------------------------------
OilLink (oillink.zzn.com) Oil industry news site.
- ---------------------------------------------------------------------------------------------------
Soccer Club (soccerclub.zzn.com) Website for soccer fans around the world.
- ---------------------------------------------------------------------------------------------------
The Tom Green Show Fan club for the MTV talk show host Tom Green.
(tomgreenshow.zzn.com)
- ---------------------------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------
</TABLE>

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<PAGE> 42

SALES AND MARKETING

SALES STRATEGY

Our flexible and highly customizable solutions enable us to satisfy the email
and messaging needs of a wide range of customers worldwide, from Web-based
companies to small websites and businesses. Our sales strategy is to target
these market segments through a combination of direct, indirect and online
selling initiatives. Our direct sales force is responsible for targeting large
companies, online businesses and hosting sites throughout the world. While our
salespeople are responsible for selling our solutions in a geographic area, they
often collaborate to recruit new business partners, particularly when dealing
with multinational organizations. Our sales offices are located in Santa Clara,
California, and Ein Vered, Israel. We plan to extend our sales force into Europe
and Asia within the next 12 months. As our sales force grows, it will focus not
only on acquiring new partners worldwide, but also on continuing to sell premium
and direct e-marketing services to existing clients.

We also plan to enter into agreements with select third parties, who will
package our messaging solution as part of a comprehensive service offering that
they will sell to their business customers. We expect to share revenues and/or
receive fees from these third parties.

We will continue to actively promote our ZapZone Network service to small
websites and businesses. A key part of our ZapZone Network strategy will be for
us to mobilize our direct and indirect sales forces to sell premium and direct
online marketing services to ZapZone Network members.

MARKETING STRATEGY

Our marketing strategy is focused on increasing global awareness of our solution
and building our brand as a leading international provider of email and
messaging services. We plan to market our solution primarily through a mix of
print advertising, direct marketing, public relations and online initiatives. We
plan to aggressively promote our premium services to our business partners and
their end users and our direct e-marketing services to our business partners and
third parties. We intend to leverage our direct sales force and develop
co-branding and marketing opportunities with other online organizations to
augment our marketing efforts. Our ZapZone Network service logo is featured on
every ZapZone Network service member homepage and we believe that as more
members join the ZapZone Network service and use zzn.com as their email suffix,
its brand will be strengthened.

BUSINESS PARTNER SUPPORT

CommTouch provides its business partners rapid callback technical support 24
hours a day, seven days a week. We have also developed a proprietary software
tool that provides end users with immediate online support without intervention
from customer service representatives or technical staff. We believe that this
technical support model enables us to provide high quality and cost effective
support service to our business partners and end users.

TECHNOLOGY

We leverage our eight years of email and technology experience to create
world-class, robust, full-featured, reliable email solutions. We believe we
possess three major advantages over other Web-based email solutions:

SCALABLE AND MODULAR SYSTEM ARCHITECTURE

Our Web-based email system is designed to provide maximum flexibility. We have
developed a system architecture consisting of three main components: Web
servers, mail servers and database servers. Web servers are responsible for the
front-end email application, mail servers are responsible for the storage and

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<PAGE> 43

transmittal of email messages and database servers are responsible for storing
all other important end user and partner information. These servers interact
through standard communications protocols such as HTTP, IMAP4, POP3 and SMTP and
ODBC.
[ DIAGRAM ]

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<PAGE> 44

The modularity of our network architecture provides several key technological
advantages:

- - Rapidly deployable and cost-effective. The design of our system enables us to
significantly reduce our deployment time as well as costs to support each
mailbox.

- We outsource server hosting and Internet backbone access to third party
providers because they are able to offer such services at bulk rates. In
addition, there are numerous third-party providers from whom we can
obtain these services, so our capacity is not limited and we are able to
obtain favorable rates. This significantly reduces our Internet
connectivity and server maintenance costs.

- The modularity of our system architecture allows us to choose from among
a broad range of industry-standard mail servers, and select the servers
with optimal price/performance characteristics. Again, we are able to
obtain these servers from a number of vendors, so our capacity is not
limited.

- The outsourcing of our server needs enables us to focus on the rapid
deployment of applications for our clients rather than on the costly and
time-consuming maintenance and development of an internal hardware
infrastructure.

- Because third-party mail servers are constantly upgraded with the most
advanced features (LDAP support, HTML messaging, etc.), we are able to
reduce our development time by leveraging existing off-the-shelf
technology and immediately integrating these features into our service
offerings.

- - Scalable and reliable. Our modular technology architecture enables the rapid
setup of full-service email hosting facilities and enables us to quickly and
seamlessly expand our system as our user base grows. In addition, we utilize
redundant servers and server load balancing capabilities to re-direct traffic
if a server malfunctions. Our system architecture and software platform have
been designed to provide excellent service to hundreds of millions of
emailboxes across millions of domains. We believe that our robust and flexible
technology platform enables us to maintain one of the highest service
performance levels in the industry.

- - Portable. As the market for outsourced email systems evolves, some
organizations may demand their own in-house hosting facility. The highly
modular nature of our system architecture provides us with the ability to
duplicate a system in another location within a period of several days. As a
result, we are well-equipped to rapidly deploy email services to this growing
subset of the outsourced email systems market.

PROPRIETARY DEVELOPMENT LANGUAGE

We have custom-built a proprietary software development language called
Application Dynamic Markup Language (ADML) in order to maximize the flexibility
and minimize the development time of our email solutions.

The ADML environment encapsulates the functionality and layout of a generic
Web-based email interface, while allowing our developers to rapidly customize a
business partner's email system with specific features. All external resources,
such as text strings, images and site-dependent parameters are stored in various
databases. When a new site is built, the ADML code is compiled into ASP
(Microsoft's Active Server Pages technology) code which runs on the web servers
and translates the ADML code into HTML. This enables the developer to build an
email interface for a business partner without having to write a single line of
HTML code. This provides us with a competitive advantage for several reasons:

- we can add new functionality and features (languages, premium and direct
marketing services, etc.) to any business partner's existing email system
in as little as a few hours;

- we can simultaneously upgrade more than one email system (for example,
immediately making additional languages available to any end user of a
ZapZone Network service email site); and

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<PAGE> 45

- we can offer automated email customization tools to our end users. For
example, the ZapZone Network service takes advantage of the flexibility
provided by ADML to allow webmasters to build, customize and deploy
ready-to-use email sites in very little time.

ADML FLOW CHART
[ADML FLOW CHART]

ADVANCED PROPRIETARY TECHNOLOGIES

We have developed the following proprietary technologies:

- Complex Foreign Language Support. Currently, our system is fully
double-byte-enabled to handle intricate character languages such as
Chinese and Japanese. We are currently in the final stages of developing
the technology to enable right-to-left reading/writing capabilities to
support languages like Hebrew, Arabic and Urdu.

- Integrated Open Platform Interface. We have developed an integrated
platform and series of application programming interfaces that enable us
to rapidly and fully integrate additional communications features and
functionality into our service offering.

- Automated Customer Service. We have developed a proprietary software
tool that allows us to field most end users' technical questions with an
automated email feedback system.

- Advanced Direct Marketing Technology. Our MailTarget service is a
Web-based tool which provides business partners with a user-friendly
method of selecting and delivering tailored messages to a targeted
segment of their user population.

- Customization Wizard Tool. We have developed a proprietary technology
tool which enables customers to design the look and feel of their
Web-based email interface so that it is consistent with their own brand
images.

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<PAGE> 46

COMPETITION

The market for email and messaging services is intensely competitive and we
expect it to be increasingly competitive. In addition to competing with
companies that develop and maintain in-house email solutions, we directly
compete with Web-based email service providers, including USA.NET, Mail.com and
Critical Path. We also compete with software companies that provide email,
including Microsoft, Software.com and Lotus Development Corporation. Microsoft
currently offers free Web-based email through its Hotmail website. We face
further competition from websites that offer email services, ISPs, including
America Online (and its subsidiary, Netscape), Yahoo and Lycos, and other
service providers, such as telecommunications companies.

Some of our competitors provide a variety of Web-based services in addition to
email, such as Internet access, browser software, homepage design and hosting.
The ability of these competitors to offer a broader suite of complementary
services may give them a considerable advantage over us. Some of our competitors
may offer services at or below cost. Many of our current and potential
competitors have longer Web-based email operating histories, larger customer
bases, greater brand recognition and significantly greater financial, marketing
and other resources than we do and may enter into strategic or commercial
relationships with larger, more established and better-financed companies.

We believe that our solution has the following competitive advantages:

- highly customizable and flexible;

- rapidly deployable;

- available in 14 languages;

- designed to integrate numerous messaging applications; and

- has the ability to effectively address multiple market needs.

However, despite our competitive positioning, we may not be able to compete
successfully against current and future competitors.

INTELLECTUAL PROPERTY

We regard our copyrights, service marks, trademarks, trade secrets and similar
intellectual property as critical to our success, and rely on trademark and
copyright law, trade secret protection and confidentiality and/or license
agreements with our employees, customers, partners and others to protect our
proprietary rights. We have the following registered trademarks: COMMTOUCH
(registered in the U.S.); PRONTO (U.S. and other countries); COMMTOUCH SOFTWARE
(Australia and New Zealand); PRONTO FAMILY, PRONTO SECURE (Japan); PRONTO MAIL
(Japan and New Zealand). We also have the following pending trademark
applications: ZAPZONE NETWORK, ZZN (U.S., Israel and other countries) and PRONTO
(Canada, Mexico, European Community and India). It may be possible for
unauthorized third parties to copy or reverse engineer certain portions of our
products or obtain and use information that we regard as proprietary. Certain
end user license provisions protecting against unauthorized use, copying,
transfer and disclosure of the licensed program may be unenforceable under the
laws of certain jurisdictions and foreign countries. In addition, the laws of
some foreign countries do not protect proprietary rights to the same extent as
do the laws of the United States. There can be no assurance that our means of
protecting our proprietary rights in the United States or abroad will be
adequate or that competing companies will not independently develop similar
technology.

Other parties may assert infringement claims against us. We may also be subject
to legal proceedings and claims from time to time in the ordinary course of our
business, including claims of alleged infringement of the trademarks and other
intellectual property rights of third parties by us and our licensees. Such

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<PAGE> 47

claims, even if not meritorious, could result in the expenditure of significant
financial and managerial resources.

Our ZapZone Network service allows webmasters to select the email service name
of their choice. There is, therefore, the possibility that they will select
email service names that may infringe the rights of others under U.S. state
and/or federal or foreign trademark and/or anti-dilution or similar laws.
ZapZone Network service's placement of ZapZone Network service icons and
advertisements on ZapZone Network service webmasters' web pages may contribute
to our perceived liability for any allegedly infringing acts. We do not audit
webmasters' email service name choices for compliance with any intellectual
property rights of others. However, in our current webmaster license agreements,
we require webmasters to indemnify us for claims resulting from their chosen
email service names; we also require users to indemnify us in their license
agreements. Furthermore, in our license agreements with webmasters and users, we
expressly reserve the right to eliminate their account or to change their email
service names, in our sole discretion. We have received complaints from several
parties that email service names chosen and registered by ZapZone Network
service users are similar or identical to domain names and/or trademarks in
which the complainants claim an interest. We responded by referring the
complainants to the webmasters who registered those email service names, as it
is our policy to do.

We also intend to continue to strategically license certain technology from
third parties, including our mail server and SSL encryption technology. In the
future, if we add certificate technology to our systems, we may license
additional technology from third-party vendors. We cannot be certain that these
third-party content licenses will be available to us on commercially reasonable
terms or that we will be able to successfully integrate the technology into our
products and services. These third-party in-licenses may expose us to increased
risks, including risks associated with the assimilation of new technology, the
diversion of resources from the development of our own proprietary technology
and our inability to generate revenues from new technology sufficient to offset
associated acquisition and maintenance costs. The inability to obtain any of
these licenses could result in delays in product and service development until
equivalent technology can be identified, licensed and integrated. Any such
delays in services could cause our business, financial condition and operating
results to suffer.

GOVERNMENT REGULATION

Although there are currently few laws and regulations directly applicable to the
Internet and commercial email services, it is possible that a number of laws and
regulations may be adopted with respect to the Internet or commercial email
services covering issues such as user privacy, pricing, content, copyright,
distribution, antitrust and characteristics and quality of products and
services. Further, the growth and development of the market for online email may
prompt calls for more stringent consumer protection laws that may impose
additional burdens on companies conducting business online. The adoption of
additional laws or regulations may impair the growth of the Internet or
commercial online services, which could, in turn, decrease the demand for our
products and services and increase our cost of doing business, or otherwise have
a material adverse effect on our business, operating results and financial
condition. Moreover, the applicability to the Internet of existing laws in
various jurisdictions governing issues such as property ownership, sales and
other taxes, libel and personal privacy is uncertain and may take years to
resolve. Any such new legislation or regulation, the application of laws and
regulations from jurisdictions whose laws do not currently apply to our business
or the application of existing laws and regulations to the Internet could have a
material adverse effect on our business, operating results and financial
condition.

EMPLOYEES

As of March 31, 1999, we had 62 full-time employees. None of our U.S. employees
is covered by a collective bargaining agreement. We believe that our relations
with our employees are good.

Israeli law and certain provisions of the nationwide collective bargaining
agreements between the Histadrut (General Federation of Labor in Israel) and the
Coordinating Bureau of Economic Organizations (the

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<PAGE> 48

Israeli federation of employers' organizations) apply to CommTouch's Israeli
employees. These provisions principally concern the maximum length of the work
day and the work week, minimum wages, contributions to a pension fund, insurance
for work-related accidents, procedures for dismissing employees, determination
of severance pay and other conditions of employment. Furthermore, pursuant to
such provisions, the wages of most of CommTouch's employees are subject to cost
of living adjustments, based on changes in the Israeli Consumer Price Index
(CPI). The amounts and frequency of such adjustments are modified from time to
time. Israeli law generally requires the payment of severance pay upon the
retirement or death of an employee or upon termination of employment by the
employer or, in certain circumstances, by the employee. CommTouch currently
funds its ongoing severance obligations by making monthly payments for insurance
policies.

A general practice in Israel followed by CommTouch, although not legally
required, is the contribution of funds on behalf of certain employees to an
individual insurance policy known as "Managers' Insurance." This policy provides
a combination of savings plan, insurance and severance pay benefits to the
insured employee. It provides for payments to the employee upon retirement or
death and secures a substantial portion of the severance pay, if any, to which
the employee is legally entitled upon termination of employment. Each
participating employee contributes an amount equal to 5% of such employee's base
salary, and the employer contributes between 13.3% and 15.8% of the employee's
base salary. Full-time employees who are not insured in this way are entitled to
a savings account, to which each of the employee and the employer makes a
monthly contribution of 5% of the employee's base salary. CommTouch also
provides certain employees with an Education Fund, to which each participating
employee contributes an amount equal to 2.5% of such employee's base salary, and
the employer contributes 7.5% of the employee's base salary.

OFFICE LOCATIONS

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<PAGE> 49

MANAGEMENT

DIRECTORS AND EXECUTIVE OFFICERS

The executive officers and directors of CommTouch and their ages, as of March
31, 1999, are as follows:

<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Gideon Mantel(1)..................... 39 Chief Executive Officer and Director
Isabel Maxwell....................... 48 President, CommTouch Software, Inc.
Amir Lev............................. 39 Chief Technology Officer, General Manager and Director
James Collins........................ 40 Chief Financial Officer and Secretary
Eran Schindler....................... 33 Vice President, Finance
Robert "Rip" Gerber.................. 36 Vice President, Marketing, CommTouch Software, Inc.
Avner Amram.......................... 37 Vice President, Operations, CommTouch Software, Inc.
Yael Elish........................... 30 Vice President, Strategic Development, CommTouch
Software, Inc.
Igor Gusak........................... 44 Vice President, Sales, CommTouch Software, Inc.
Yuval Neria.......................... 39 Vice President, International Sales
Ronen Rosenblatt..................... 35 Vice President, Research and Development
Allan Barkat(1)(2)................... 39 Chairman of the Board of Directors
Yiftah Atir.......................... 49 Director
Yair Safrai.......................... 40 Director
Yoseph Sela(1)(2).................... 46 Director
Richard Sorkin(3).................... 37 Director
Thomas Camp(4)....................... 35 Director
</TABLE>

- ---------------
(1) Member of the Compensation Committee

(2) Member of the Audit Committee

(3) Mr. Sorkin will join the Board of Directors following the closing of the
offering.

(4) Mr. Camp will join the Board of Directors following the closing of the
offering.

Gideon Mantel is a co-founder of CommTouch and served as its Chief Financial
Officer from its inception in February 1991 until October 1995, when he became
CommTouch's Chief Operating Officer. In November 1997, he became CommTouch's
Chief Executive Officer. He has also served as a director of CommTouch since
inception. Mr. Mantel received a B.A. in Political Science and an M.B.A from Tel
Aviv University.

Isabel Maxwell has served as the President of CommTouch Software, Inc. since
February 1997. Ms. Maxwell was a co-founder, and from March 1993 to August 1996
served as the Senior Vice President of International Business Development,
Corporate Affairs and Investor Relations, of The McKinley Group Inc., an
Internet search engine company. From August 1996 to October 1996, Ms. Maxwell
was an Executive Vice President of Excite, Inc. Ms. Maxwell received a B.A. and
M.A. in History and Modern Languages from Oxford University.

Amir Lev is a co-founder of CommTouch and has served as its Chief Technology
Officer and as a director since its inception in 1991. Mr. Lev has also been the
General Manager of CommTouch since January 1997. Mr. Lev received a B.A. in
Computer Science and Economics from Hebrew University, Jerusalem.

James Collins has served as the Chief Financial Officer of CommTouch since March
1999 and as the Secretary of CommTouch since April 1999. From October 1997 to
February 1999, Mr. Collins was a private investor. From March 1992 to December
1996, Mr. Collins served as the Chief Financial Officer and Secretary, and from
January 1997 to September 1997 as the Vice President of Operations of Pete's
Brewing Company, a specialty brewer. Mr. Collins received a B.S. in Business
Administration from the University of the Pacific and is a Certified Public
Accountant in the State of California.

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<PAGE> 50

Eran Schindler has served as Vice President, Finance of CommTouch since November
1998. From December 1997 to November 1998, Mr. Schindler served as Chief
Financial Officer of AutoMedia Ltd., a video and postproduction software
company. From December 1996 to October 1997, Mr. Schindler served as Chief
Executive Officer and from July 1994 to December 1996 as Chief Financial Officer
of Hosen Electrical Appliances Ltd., an importer and marketer of electrical
appliances. Mr. Schindler received a B.A. from Haifa University.

Robert "Rip" Gerber has served as Vice President, Marketing of CommTouch
Software, Inc. since March 1999. Mr. Gerber was the founder of @once, an email
direct marketing company, and from February 1998 to February 1999 served as its
President. From September 1995 to January 1998, Mr. Gerber served as Managing
Director of Pantheon Consulting Group LLC, a marketing and planning services
company. From August 1992 to August 1995, Mr. Gerber was a consultant for
Deloitte & Touche LLP, a public accounting firm. Mr. Gerber received a B.S. in
Chemical Engineering from the University of Virginia and an M.B.A. from Harvard
Business School.

Avner Amram has served as Vice President, Operations of CommTouch Software, Inc.
since April 1999. Mr. Amram was Director of Operations of CommTouch Software,
Inc. from March 1998 to April 1999 and a Software Team Leader from March 1996 to
March 1998. Mr. Amram received a B.Sc. in Computer Science from the Technion,
Haifa.

Yael Elish has served as the Vice President, Strategic Development of CommTouch
Software, Inc. since April 1999. Ms. Elish was CommTouch's Director of Business
Development from August 1998 to March 1999 and was CommTouch's Director of Sales
from December 1996 to August 1998. From August 1993 to August 1996, Ms. Elish
was a Marketing Manager of Widecom Ltd., a provider of Internet integration
services and software development. Ms. Elish received a B.A. in International
Relations from Hebrew University in Jerusalem.

Igor Gusak has served as the Vice President, Sales of CommTouch Software, Inc.
since April 1999. Dr. Gusak was the Director of Sales and Marketing of CommTouch
from February 1997 to March 1999 and the Director of Original Equipment
Manufacturer Sales for CommTouch from January 1995 to January 1997. Dr. Gusak
received a Ph.D. in Mathematics from Urals University, Ekaterinburg, Russia.

Yuval Neria has served as the Vice President, International Sales of CommTouch
since April 1999. Mr. Neria was the Director of International Marketing and
Sales for CommTouch from March 1997 to April 1999, the Director of Pacific Rim
Operations for CommTouch from March 1996 to April 1997, a Product Manager for
CommTouch from March 1995 to April 1996, and a Quality Assurance Manager for
CommTouch from March 1993 to April 1995. Mr. Neria received a B.A. in Computer
Science from the City University of New York.

Ronen Rosenblatt has served as the Vice President, Research and Development of
CommTouch since April 1999. Mr. Rosenblatt served as the Director of Research
and Development for CommTouch from November 1994 to March 1999. Mr. Rosenblatt
received a B.Sc. in Electronics and Computer Engineering from Tel Aviv
University.

Yiftah Atir has served as a Director of CommTouch since January 1996. From
November 1994 to the present, Mr. Atir has served as Managing Director of
Evergreen Venture Capital, a technology focused venture capital fund. Mr. Atir
received a B.A. from Haifa University and an M.B.A. from Tel Aviv University.

Allan Barkat has served as a Director of CommTouch since February 1996 and
Chairman of the Board of Directors since April 1999. From March 1997 to the
present, Mr. Barkat has been a Managing Director of Apax-Leumi Partners, Ltd.
the investment advisor to Israel Growth Fund, LP, a technology focused venture
capital fund. From January 1995 to March 1997, Mr. Barkat served as an Assistant
Director of Apax-Leumi Partners Ltd. From 1992 to 1994, Mr. Barkat served as
Vice President of Marketing & Sales of DSP Communications Group, Inc., a
wireless semiconductor company. Mr. Barkat has also served as a director of
Fundtech Ltd. Mr. Barkat received a B.Sc. from the Technion, Haifa.

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<PAGE> 51

Yair Safrai has served as a Director of CommTouch since January 1999. From
September 1996 to the present, Mr. Safrai has been the Managing Partner of
Concord Ventures, a technology focused venture capital fund. From July 1994 to
September 1996, Mr. Safrai served as Vice President of Nitzanim, a venture
capital fund. Mr. Safrai received a B.A. in Management and Economics from Tel
Aviv University, an M.A. from the University of Pennsylvania, and an M.B.A. from
the Wharton Business School, University of Pennsylvania.

Yoseph Sela has served as a Director of CommTouch since February 1996. From
January 1993 to the present, Mr. Sela has served as Executive Vice President of
Gemini Capital Fund Management, a technology focused venture capital fund. Mr.
Sela received a B.Sc. from the Technion, Haifa and an M.B.A. from Tel Aviv
University.

Richard Sorkin will join the Board immediately following the closing of the
offering. Since June 1998 Mr. Sorkin has served as an advisor to several
early-stage Internet companies and is a director of several private companies.
From June 1998 to April 1999 he was the Chairman of the Board of Directors of
ZIP2, an Internet media company which was sold to Compaq. From May 1996 to June
1998, he was Chief Executive Officer of ZIP2 and from May 1993 to March 1996 he
held various executive positions with Creative Technology, Ltd., a leading
provider of multi-media hardware. Mr. Sorkin received a B.A. with honors in
Economics from Yale University and an M.B.A from Stanford University.

Thomas Camp will join the Board immediately following the closing of the
offering. Since April 1999, Mr. Camp has served as Vice President of Business
Development at Go2Net, a network of branded, technology-and community-driven
websites. From September 1990 to April 1999, he was an attorney with the law
firm of Hutchins, Wheeler & Dittmar, most recently as a stockholder. Mr. Camp
received a B.A. from Tufts University, an M.B.A. from Boston College Graduate
School of Management and a J.D. from Boston College Law School.

ELECTION OF DIRECTORS

Directors are elected by shareholders at the annual shareholders meeting and
hold office until the next Ordinary General Meeting, which is held at least once
in every calendar year, but not more than fifteen months after the last
preceding Ordinary General meeting. Directors may be removed and other directors
may be elected in their place or to fill vacancies in the Board of Directors at
any time by the holders of a majority of the voting power at a general meeting
of the shareholders. In the intervals between Ordinary General Meetings, the
Board of Directors may appoint new directors temporarily to fill vacancies on
the Board of Directors. The Articles of Association of CommTouch authorize nine
directors. There are no family relationships among any of the directors,
officers or key employees of CommTouch.

ALTERNATE DIRECTORS

The Articles of Association of CommTouch provide that any director may appoint
another person to serve as an alternate director and may remove such alternate.
Any alternate director possesses all the rights and obligations of the director
who appointed him, except that the alternate has no standing at any meeting
while the appointing director is present, and the alternate is not entitled to
remuneration. Any individual, whether or not a director, may act as an alternate
director, and the same person may act as the alternate for several directors and
have a corresponding number of votes. Unless the appointing director limits the
time or scope of the appointment, the appointment is effective for all purposes
until the appointing director ceases to be a director or terminates the
appointment. The appointment of an alternate director does not in itself
diminish the responsibility of the appointing director as a director.

INDEPENDENT DIRECTORS; AUDIT FUNCTION

Under the requirements for quotation on Nasdaq, CommTouch is required to have at
least two independent directors on its Board and to establish an audit
committee, at least a majority of whose members are independent of management.
Messrs. Barkat and Sela, as independent directors, serve as the members of
CommTouch's Audit Committee.

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<PAGE> 52

Under Israeli law, "public" Israeli companies are required to appoint at least
two directors resident in Israel who meet stringent standards of independence.
CommTouch believes that this requirement does not currently apply to companies
that are publicly traded only outside of Israel. Nevertheless, CommTouch may be
required to appoint such independent directors. Moreover, the new Israeli
Companies Law, which will become effective on February 1, 2000, unequivocally
extends the independent director requirement to Israeli companies that are
publicly traded outside of Israel, such as on Nasdaq.

The new Israeli Companies Law also provides that public companies must appoint
an audit committee of the Board of Directors, a certified public accountant to
audit the company's financial statements and to report any improprieties that
the accountant may discover to the Chairman of the Board, and an internal
auditor.

OFFICE HOLDERS

Israeli law codifies the duty of care and fiduciary duties that an Office Holder
(generally, a director or executive officer) owes to a company. An Office
Holder's fiduciary duty includes avoiding any conflict of interest between the
Office Holder's position in CommTouch and his personal affairs, avoiding any
competition with CommTouch, avoiding exploiting any business opportunity of
CommTouch in order to receive personal advantage for himself or others and
revealing to CommTouch any information or documents relating to CommTouch's
affairs which the Office Holder has received due to his position as an Office
Holder.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

The Compensation Committee, which was established by the Board in January 1996,
is responsible for determining salaries, incentives and other forms of
compensation for our directors, officers and other employees and for
administering various incentive compensation and benefit plans. The Compensation
Committee consists of the Chief Executive Officer and two outside directors.
Allan Barkat and Yoseph Sela are currently the two outside directors on our
Compensation Committee.

After the closing of the offering, one of our directors will be Thomas Camp, who
is Vice President of Business Development of Go2Net. Conflicts of interest may
arise as a consequence of his relationship with Vulcan and Go2Net, including
conflicts related to corporate opportunities that could be pursued by us, on the
one hand, or by Go2Net, Vulcan or its affiliates, on the other hand, or
conflicts related to existing or new contractual relationships between us, on
the one hand, or by Go2Net, Vulcan or its affiliates, on the other hand. All
future transactions between us and our officers, directors and principal
shareholders and their affiliates will be approved by a majority of the board of
directors, including a majority of the independent and disinterested outside
directors.

COMPENSATION OF OFFICERS AND DIRECTORS

The directors of CommTouch can be remunerated by CommTouch for their services as
directors to the extent such remuneration is approved by the CommTouch's
shareholders at an annual general meeting. Directors currently do not receive
compensation for their services as directors but are reimbursed for their
expenses for each Board of Directors meeting attended.

The aggregate direct remuneration paid by CommTouch to all directors and
executive officers (11 persons) in 1998 was approximately $500,000. During the
same period CommTouch accrued or set aside approximately $66,000 for the same
group to provide pension, retirement or similar benefits. As of March 31, 1999,
directors and executive officers of CommTouch (15 persons) held stock options to
purchase an aggregate of 469,520 ordinary shares.

U.S. STOCK OPTION PLAN

Our 1996 CSI Stock Option Plan, which is the plan for U.S. employees and
consultants, is administered by our Compensation Committee. Our Compensation
Committee consists of at least two directors who are non-employee directors, as
that term is defined in Rule 16b-3. The Board of Directors may amend the option
plan as desired without further action by CommTouch's shareholders, except as
required by applicable law. The plan will continue in effect until terminated by
the Board or until January, 2006.

The consideration for each award under the plan is established by the
Compensation Committee, and in no event shall the exercise price for ISOs be
less than 100% of the fair market value of the underlying stock on the date of
grant. Awards have such terms and are exercisable in such manner and at such
times

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as the Compensation Committee may determine. Typically, an option granted under
the plan vests with respect to one-fourth of the shares subject to the option on
the first anniversary of the grant date and with respect to 1/36 of the
remaining shares vest each month thereafter. However, the Compensation Committee
may, in its discretion, permit an optionee to exercise unvested options,
provided that such shares are subjected to a right of repurchase in favor of
CommTouch Software, Inc. according to the original vesting schedule. Each ISO
expires not more than 10 years from the date of grant.

The 1996 CSI Stock Option Plan had originally reserved 1,000,000 shares for
issuance under the plan. In April of 1999, the Board of Directors amended the
Plan to provide for a pool of 5,000,000 shares which may be issued under the
1996 CSI Stock Option Plan, the 1999 Israeli Share Option Plan, and the Israeli
Option Agreements issued to Israeli employees.

ISRAELI OPTION AGREEMENTS AND 1999 ISRAELI SHARE OPTION PLAN

To date we have granted options to Israeli employees and consultants pursuant to
individual option agreements (the "Israeli Option Agreements") rather than
pursuant to a stock option plan. Typically, options granted pursuant to the
Israeli Option Agreements vest in four equal annual installments and expire no
later than ten years from the date of grant. Substantially all of the Israeli
Option Agreements provide that only the grantee can exercise options under the
Israeli Option Agreements, and the grantee cannot assign or transfer the
options. Moreover, if a grantee ceases to be employed by CommTouch on a full
time basis, then the grantee will have a limited period from the cessation of
employment in which to exercise any vested options. Grantees are responsible for
paying all taxes and mandatory payments upon the exercise of options.

In connection with this offering, the Board of Directors has approved the 1999
Section 3(i) Share Option Plan (the "1999 Israeli Share Option Plan"). The 1999
Israeli Share Option Plan will be administered by the Board of Directors, or by
a Share Option Committee appointed by the Board of Directors (currently the
Compensation Committee). The Board or the committee has full power to designate
the persons entitled to receive options and the terms and provisions of the
option agreements (including the number and price of shares subject to each
grant and the acceleration of the right of an optionee to exercise in whole or
in part any previously granted option). Typically, an option granted under the
plan vests with respect to one-fourth of the shares subject to the option on the
first anniversary of the grant date and with respect to one-36th of the
remaining shares each month thereafter. Options are exercisable only during the
lifetime of the optionee, and are not transferable other than by will or laws of
descent.

As of March 31, 1999, 694,860 stock options had been granted under Israeli
Option Agreements and the 1996 CSI Stock Option Plan. Such options have exercise
prices ranging from $0.01 to $1.45 per share and a weighted average per share
exercise price of $1.25, and were held by 59 persons.

Certain of the option agreements for options granted to employees (pursuant to
the Israeli Option Agreements) and to key employees (pursuant to the 1996 CSI
Stock Option Plan) provide for acceleration of vesting in a change of control.
Pursuant to these agreements, 50 percent of such an employee's unvested options
will vest at the closing of the change of control. In such event, the remainder
of the unvested options, if granted pursuant to an Israeli Option Agreement,
shall be subject to the vesting provisions set forth in the Israeli Option
Agreement, and if granted pursuant to the 1996 CSI Stock Option Plan, shall vest
on the first anniversary of the change of control.

The total number of shares which can be issued under our 1999 Israeli Share
Option Plan, 1996 CSI Stock Option Plan and the Israeli Option Agreements
previously issued to Israeli employees is 5,000,000. Of that number, 694,860
shares are subject to be issued pursuant to outstanding Israeli Option
Agreements and 662,680 shares have been issued upon the exercise of stock
options. The remaining 3,642,460 shares will be allocated from time to time by
the Board of Directors to the 1999 Israeli Share Option Plan and the 1996 CSI
Stock Option Plan.

EMPLOYEE STOCK PURCHASE PLAN

Our 1999 Employee Stock Purchase Plan, or ESPP, which was adopted by our board
of directors on April 18, 1999 and was approved by our shareholders on June 8,
1999, will take effect upon the closing of this offering. The ESPP provides
employees with an opportunity to purchase ordinary shares of

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CommTouch through accumulated payroll deductions. We have reserved 150,000
ordinary shares for issuance under the ESPP, none of which have been issued. The
number of ordinary shares reserved shall be increased each January 1 by 110
percent of the number of shares purchased under the ESPP in the previous year.
The ESPP is intended to qualify for favorable tax treatment under Section 423 of
the Internal Revenue Code. Generally, the ESPP will be implemented through a
series of offering periods of 24 months' duration, with new offering periods
commencing on the first trading day on or after February 15 and August 15 of
each year. However, the first offering period will commence on the first
business day on which price quotations for CommTouch's ordinary shares are
available on the Nasdaq National Market and will expire on August 14, 2001. Each
24-month Offering Period will contain four six-month Purchase Periods, starting
on each February 15 and August 15. However, the first Purchase Period will
commence on the first trading day after the closing of the offering and will end
on February 14, 2000. Shares may be purchased at the end of each purchase
period.

The ESPP will be administered by a plan administrator appointed by our Board of
Directors. Each employee of ours or of any majority-owned subsidiary of ours who
is customarily employed by us or a majority-owned subsidiary for more than 20
hours per week and more than five months per calendar year will be eligible to
participate in the ESPP. No employee shall be permitted to participate in the
ESPP:

- if such employee, immediately after his or her election to participate,
would own shares possessing five percent or more of the total combined
voting power or value of all classes of stock of the Company; or

- if under the terms of the ESPP the right of the employee to purchase
shares would accrue at a rate that exceeds $25,000 of the fair market
value of such shares for each calendar year for which such right is
outstanding.

The ESPP permits an eligible employee to purchase ordinary shares through
payroll deductions, which may not exceed 15 percent of his or her base
compensation, excluding incentive compensation, commissions and other bonuses.
The shares are purchased at a price equal to 85 percent of the lesser of:

- the fair market value of the ordinary shares at the beginning of the
offering period (provided, however, in the case of the first offering
period, this number shall be the price per share at which the ordinary
shares are offered to the public in this offering); or

- the fair market value of the ordinary shares at the end of each purchase
period.

Employees may terminate their participation in the ESPP at any time during the
offering period; they may change their level of participation in the ESPP only
one time during the offering period. Participation in the ESPP terminates
automatically on the participant's termination of employment with us.

In the event of a merger, consolidation, dissolution or liquidation of the
Company, the ESPP shall terminate unless the plan of merger, consolidation or
reorganization provides otherwise. The Board of Directors shall have the right
to amend, modify or terminate the ESPP at any time, except in cases where
shareholder approval is required by law.

1999 NONEMPLOYEE DIRECTORS STOCK OPTION PLAN

Our 1999 Nonemployee Directors Stock Option Plan (Directors Plan), which was
adopted by our board of directors on April 18, 1999 and was approved by our
shareholders on June 8, 1999, will take effect upon the closing of this
offering. Under the 1999 Nonemployee Directors Stock Option Plan, nonemployee
members of the board of directors will be eligible for automatic option grants.
The Directors Plan will continue in effect until terminated by the Board or
until the tenth anniversary of its effective date.

A maximum of 250,000 ordinary shares has been authorized for issuance under the
Directors Plan. No shares have yet been issued under the Directors Plan. The
Board of Directors, or a committee consisting of at least two nonemployee
directors, will make all administrative determinations under the Directors Plan.

Each individual who first joins the Board of Directors as a nonemployee director
on or after the effective date of this offering will receive at that time an
option grant for 10,000 ordinary shares. In addition, on the date of the first
board meeting immediately following the annual shareholders meeting, commencing
with the annual shareholders meeting held in 2000, the Company shall grant to
each nonemployee director then in office (other

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than nonemployee directors who received their initial 10,000 share grant under
the plan on or after the record date for such annual meeting) an option to
purchase 10,000 ordinary shares. In 1999, the grant shall be made on the first
business day on which price quotations for CommTouch's ordinary shares are
available on the Nasdaq National Market, and the fair market value of the
ordinary shares on that day shall be the price at which ordinary shares were
offered to the public on that day. Each option granted under the Directors Plan
shall become exercisable with respect to one fourth of the number of shares
covered by such option three months after the date of grant and with respect to
one third of the remaining shares subject to the option every three months
thereafter. Each option will have an exercise price equal to the fair market
value of the ordinary shares on the grant date of such option. Each option will
have a maximum term of ten years, but will terminate earlier if the optionee
ceases to be a member of the Board of Directors. In the event of such earlier
termination, an optionee may exercise options held at the date of termination to
the extent then exercisable, within three months after such date, but not
thereafter; provided, however, the optionee has two years from the date of
termination to exercise vested options if such termination is due to death or
disability. Each option will vest automatically upon a change in control.

401(k) PLAN

In the near future, the Company intends to adopt the CommTouch Software, Inc.
401(k) Savings Plan (the "401(k) Plan"), which is intended to qualify under
Section 401 of the Internal Revenue Code of 1986, as amended. All employees of
CommTouch Software, Inc. will be eligible to participate in the 401(k) Plan at
any time after their date of hire. Participants may make pre-tax contributions
to the 401(k) Plan of up to 20% of their gross wages, subject to a statutory
prescribed annual limit. Each participant will be fully vested in his or her
contributions. The Company may make matching contributions on a discretionary
basis to fund the 401(k) Plan. Any employer contributions would be vested under
a 6-year graded schedule. Contributions by the Company, if any, will be
generally deductible by the Company when made. Contributions by the participants
or the Company to the 401(k) Plan and the income earned on such contributions
will be held in trust as required by law. Individual participants may direct the
trustee to invest their accounts in authorized investment alternatives.

APPROVAL OF CERTAIN TRANSACTIONS

Israeli law requires that transactions between a company and its Office Holders
(or that benefit its Office Holders) be approved as provided for in the
company's articles of association. Approval by a majority of the disinterested
members of the audit committee and of the board of directors is generally
required, and in certain circumstances shareholder approval may also be
required.

Israeli law requires that an Office Holder of a company first promptly disclose
any personal interest that he may have and all related material information
known to him, in connection with any existing or proposed transaction by the
company. Once the Office Holder complies with these disclosure requirements, the
company may approve the transaction in accordance with the provisions of its
articles of association. If the transaction is with a third party in which the
Office Holder has a personal interest, the approval must confirm that the
transaction is not adverse to the company's interest. Furthermore, if the
transaction is an extraordinary transaction (that is, a transaction other than
in the ordinary course of business, otherwise than on market terms, or that is
likely to have a material impact on the company's profitability, assets or
liabilities), then, in addition to any approval stipulated by the articles of
association, it also must be approved by the company's audit committee and then
by its board of directors. Under certain circumstances, shareholder approval is
required. For example, shareholders must approve all compensation paid to
directors in whatever capacity. An Office Holder with a personal interest in any
matter may not be present at any audit committee or Board of Directors meeting
where such matter is being approved, and may not vote. For information
concerning the direct and indirect personal interests of certain Office Holders
and principal shareholders of CommTouch in certain transactions with CommTouch,
see "Certain Transactions."

The new Israeli Companies Law, which will become effective on February 1, 2000,
extends the disclosure requirements applicable to an Office Holder to a
shareholder that holds 25% or more of the voting rights in a public company,
including an Israeli company that is publicly traded outside of Israel such as
on Nasdaq. Certain transactions between a public company and a 25% shareholder,
or transactions in which a 25% shareholder of the company has a personal
interest but which are between a public company and

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another entity, require the approval of the Board of Directors and of the
shareholders. Moreover, an extraordinary transaction with a 25% shareholder or
the terms of compensation of a 25% shareholder must be approved by the audit
committee, the Board of Directors and shareholders. The shareholder approval for
an extraordinary transaction must include at least one third of the shareholders
who have no personal interest in the transaction and are present at the meeting;
the transaction can be approved by shareholders without this one third approval,
if the total share holdings of those who vote against the transaction do not
represent more than one percent of the voting rights in the company.

INDEMNIFICATION OF DIRECTORS AND OFFICERS; LIMITATIONS ON LIABILITY

Israeli law permits a company to insure an Office Holder in respect of
liabilities incurred by him as a result of the breach of his duty of care to the
company or to another person, or as a result of the breach of his fiduciary duty
to the company, to the extent that he acted in good faith and had reasonable
cause to believe that the act would not prejudice the company. A company can
also insure an Office Holder for monetary liabilities as a result of an act or
omission that he committed in connection with his serving as an Office Holder.
Moreover, a company can indemnify an Office Holder for monetary liability in
connection with his activities as an Office Holder.

The Articles of Association of CommTouch allow CommTouch to insure and indemnify
Office Holders to the fullest extent permitted by law.

Certain members of our management team are officers of our subsidiary, CommTouch
Software, Inc. a California corporation, or reside in California. The Articles
of Incorporation of CommTouch Software, Inc. provide that the liability of the
directors of the corporation CommTouch Software, Inc. for monetary damages shall
be eliminated to the fullest extent permissible under California law and that is
authorized to provide for the indemnification of agents of the corporation, as
defined in Section 317 of the California General Corporation Law, in excess of
that expressly permitted by Section 317 for breach of duty to the corporation
and its shareholders to the fullest extent permissible under California law.

With respect to all proceedings other that shareholder derivative actions,
Section 317 permits a California corporation to indemnify any of its directors,
officers or other agents only if such person acted in good faith and in a manner
such person reasonably believed to be in the best interests of the corporation
and, in the case of a criminal proceeding, had no reasonable cause to believe
the conduct of such person was unlawful. In the case of derivative actions, a
California corporation may indemnify any of its directors, officers or agents
only if such person acted in good faith and in a manner such person believed to
be in the best interests of the corporation and its shareholders. Furthermore,
in derivative actions, no indemnification is permitted (i) with respect to any
matter with respect to which the person to be indemnified has been held liable
to the corporation, unless such indemnification is approved by the court; (ii)
of amounts paid in settling or otherwise disposing of a pending action without
court approval; or (iii) of expenses incurred in defending a pending action
which is settled or otherwise disposed of without court approval. To the extent
that a director, officer or agent of a corporation has been successful on the
merits in defense of any proceeding for with indemnification if permitted by
Section 317, a corporation is obligated by Section 317 to indemnify such person
against expenses actually and reasonably incurred by him in connection with the
proceeding.

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CERTAIN TRANSACTIONS

RELATIONSHIP WITH GO2NET

Concurrently with the closing of the offering, we will enter into a Customized
Web-based Email Service Agreement with Go2Net. Under that agreement, we will
provide customer email services, including calendaring and other products and
services, to end users of Go2Net's various properties, including cable
subscribers of Charter Communications and its affiliates, users of services
offered by High Speed Access Corp. and any browser, website, ISP or similar
service that Go2Net sponsors or provides content to. Under the agreement,
CommTouch will host, serve and maintain the email, calendaring and other
services and Go2Net will sell advertising to be displayed in the products and
services. Go2Net will pay CommTouch a share of revenues from advertising
generated from email, calendaring or other services and related upgrades
provided by CommTouch for Go2Net's users. The agreement between CommTouch and
Go2Net will have a three year duration, but Go2Net will have the right on each
anniversary to terminate the agreement. Go2Net also will have the right to
terminate the agreement if there are technical problems with the products or
services provided by CommTouch. The performance specifications set forth in the
agreement include requiring us to maintain certain levels of email system
availability and response time, as well as technical support to Go2Net's email
end users and to Go2Net, among other things.

In connection with entering into the email services agreement, we will issue to
Go2Net a warrant to purchase 1,136,000 ordinary shares at an exercise price of
$12.80 per share. The warrant is non-forfeitable, fully vested and immediately
exercisable, and will expire five years from the date of the email service
agreement.

Concurrently with our entering into the email services agreement, we will issue
$13,333,328 in ordinary shares to Go2Net and $6,666,672 in ordinary shares to
Vulcan Ventures in a private placement at $14.88 per share.

We have agreed to register the shares and warrants described above promptly
after the closing of this offering. If the registration is not effective as of
the expiration of the 180-day lock-up period, the exercise price of Go2Net
warrants will be reduced to $10.51.

In connection with these transactions, we have agreed to pay U.S. Bancorp Piper
Jaffray an advisory fee of $550,000 under the terms of an engagement letter
agreement dated as of July 5, 1999.

ORDINARY SHARE FINANCINGS

Mr. Yiftah Atir, a director of CommTouch, is a Managing Director of Evergreen
Canada Management Ltd., the general partner of Harbour Vest-Evergreen L.P.
Pursuant to several Share Purchase Agreements we issued and sold ordinary shares
to Evergreen Canada Israel Investments and Company Ltd., Yarok Ad Fund
Investment Partnership L.P. and Gmul Investment Company Ltd (the "Evergreen
Investors"). These shares were subsequently converted into Series A Convertible
Preferred Shares and certain of these shares were transferred to
HarbourVest-Evergreen L.P.

PREFERRED SHARE FINANCINGS

Series B Convertible Preferred Shares. Mr. Yoseph Sela, a director of CommTouch,
is an Executive Vice President of Gemini Capital Fund Management, which manages
Gemini Israel Fund L.P. ("GIF"), and Mr. Allan Barkat, also a director of
CommTouch, is a Managing Director of Apax-Leumi Partners, which is the
investment advisor to Israel Growth Fund L.P. ("IGF"). Pursuant to a Preferred
Share Purchase Agreement entered into in January 1996, we issued and sold 51,085
Series B Convertible Preferred Shares and 13,873 warrants for Series B
Convertible Preferred Shares to IGF, GIF, Dr. Ed Mlavsky, Mr. Yosef Sela, and
certain of the Evergreen Investors for a total investment of approximately
$2,250,000. The Evergreen Investors subsequently transferred their shares to
HarbourVest Evergreen L.P.

Series C Convertible Preferred Shares. Mr. Yair Safrai, a director of CommTouch,
is a Managing Partner of Concord Ventures, which manages the Concord Funds (as
defined below). Pursuant to Preferred Share

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Letter Agreements entered into in December 1998 and February 1999, we issued and
sold (i) 41,570 Series C Convertible Preferred Shares to k.t. Concord Venture
Fund (Cayman) L.P., k.t. Concord Venture Fund (Israel) L.P., k.t. Concord
Venture Advisors (Cayman) L.P. and k.t. Concord Venture Advisors (Israel) L.P.,
(the "Concord Funds") for a total investment of approximately $3,000,000; (ii)
16,249 Series C Convertible Preferred Shares to IGF for a total investment of
approximately $1,173,000; and (iii) 12,779 Series C Convertible Preferred Shares
to GIF for approximately $922,000.

OPTION EXERCISES AND PURCHASES OF SHARES SUBJECT TO REPURCHASE BY CERTAIN
OFFICERS

Gideon Mantel is the Chief Executive Officer and a Director of CommTouch. On
March 17, 1999, Mr. Mantel exercised certain options granted to him by
CommTouch. In consideration for the Ordinary Shares purchased pursuant to the
exercise of the options, he provided CommTouch with a full-recourse promissory
note dated March 17, 1999 in the original principal amount of $341,272. The
promissory note bears interest at 4.83%, with payments of interest only due on
December 31 of each year and with the balance due and payable on the fourth
anniversary of the date of the promissory note. This loan was used by Mr. Mantel
to purchase 286,120 ordinary shares of CommTouch at a weighted average purchase
price of $1.19 per share. The promissory note is secured by a pledge of the
stock purchased.

Isabel Maxwell is the President of CommTouch Software, Inc. On March 17, 1999,
Ms. Maxwell exercised certain options granted to her by CommTouch. As
consideration for the Ordinary Shares purchased pursuant to the exercise of the
options, she provided CommTouch with a full-recourse promissory note dated March
17, 1999 in the original principal amount of $295,858. The promissory note bears
interest at 4.83%, with payments of interest only due on December 31 of each
year and with the balance due and payable on the fourth anniversary of the date
of the promissory note. This loan was used by Ms. Maxwell to purchase 204,040
ordinary shares of CommTouch at a purchase price of $1.45 per share. The
promissory note is secured by a pledge of the stock purchased.

James Collins is the Chief Financial Officer of CommTouch. On March 17, 1999,
Mr. Collins exercised certain options granted to him by CommTouch. As
consideration for the Ordinary Shares purchased pursuant to the exercise of the
options, Mr. Collins provided CommTouch with a full-recourse promissory note
dated March 17, 1999 in the original principal amount of $137,112. The
promissory note bears interest at 4.83% with payments of interest only due on
December 31 of each year and with the balance due and payable on the fourth
anniversary of the date of the promissory note. This loan was used by Mr.
Collins to purchase 94,560 ordinary shares of CommTouch at a purchase price of
$1.45 per share. The promissory note is secured by a pledge of the stock
purchased.

Robert "Rip" Gerber is the Vice President of Marketing of CommTouch Software,
Inc. On March 17, 1999, Mr. Gerber exercised certain options granted to him by
CommTouch. As consideration for the Ordinary Shares purchased pursuant to the
exercise of the options, Mr. Gerber provided CommTouch with a promissory note
dated March 17, 1999 in the original principal amount of $103,617. The
full-recourse promissory note bears interest at 4.83% with payments of interest
only due on December 31 of each year and with the balance due and payable on the
fourth anniversary of the date of the promissory note. This loan was used by Mr.
Gerber to purchase 71,460 ordinary shares of CommTouch at a purchase price of
$1.45 per share. The promissory note is secured by a pledge of the stock
purchased.

LOAN TO DR. NAHUM SHARFMAN AND RELATIONSHIP AMONG COMMTOUCH AND DEALTIME.COM
LTD., DR. NAHUM SHARFMAN AND AMIR ASHKENAZI

Dr. Nahum Sharfman was a co-founder of CommTouch and served as a director and
Chairman of the Board of Directors of CommTouch from inception until January
1999. Dr. Sharfman also served as the Chief Executive Officer of CommTouch until
March 31, 1998. On December 31, 1995, CommTouch made a loan of approximately
$58,000 to Dr. Sharfman. The loan plus linkage to the Israeli Consumer Price
Index was to have been repaid within three years, or within 30 days of the
termination of Dr. Sharfman's employment, if earlier. At December 31, 1998 the
outstanding balance of this loan was approximately $55,000, payable in NIS.

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In 1997 Dr. Sharfman established DealTime.com Ltd. (formerly known as Papricom),
together with Mr. Amir Ashkenazi, a former employee of CommTouch.

During an interim period in which CommTouch and DealTime.com Ltd. were
negotiating a technology exchange agreement, which ultimately was not signed,
CommTouch provided DealTime.com Ltd. with certain services (office and
secretarial services, computers and other facilities including, without
limitation, all payments made for or on behalf of DealTime.com Ltd.) and access
to certain of CommTouch's technology. At the request of DealTime.com Ltd.,
CommTouch also entered into a Product Distribution Agreement (the "Stock Alert
Agreement") with News Alert Inc. DealTime.com has provided technical support and
services to News Alert Inc. in connection with the Stock Alert Agreement.
CommTouch has entered into three agreements to clarify the rights and
obligations of CommTouch, DealTime.com, Dr. Sharfman and Mr. Amir Ashkenazi.

Under the first agreement, Dr. Sharfman and Mr. Ashkenazi acknowledge that
CommTouch is the sole owner of all of their inventions invented during their
employment with CommTouch and for two years following the termination of their
employment, which inventions relate to CommTouch's business and research
activities as of April 1, 1998 (except in the field of commerce). They also
acknowledge CommTouch's rights to inventions that result from work that they
performed for CommTouch at any time, or which are the subject matter of a
specified patent application. Dr. Sharfman and Mr. Ashkenazi also agreed not to
compete with CommTouch's actual business and research activities as they were on
April 1, 1998 (except in the field of ecommerce), through March 31, 2000.

The second agreement, which is between CommTouch and DealTime.com Ltd., confirms
that DealTime.com Ltd. shall be solely responsible for all obligations of
CommTouch under the Stock Alert Agreement. DealTime.com Ltd. also acknowledges
that CommTouch is the sole owner of the Multimedia Desktop Software Technology
that CommTouch developed and that was licensed to News Alert Inc., and CommTouch
grants DealTime.com Ltd. a royalty-free, non-exclusive, limited license to use
that technology to provide support services under the Stock Alert Agreement.
DealTime.com Ltd. also agreed to pay $50,000 to CommTouch for all of the
services rendered by CommTouch and for the license fees that DealTime.com Ltd.
received under the Stock Alert Agreement, and to divide any future revenues and
license fees received under the Stock Alert Agreement equally with CommTouch.
CommTouch, for its part, waived any claim to an equity interest in DealTime.com
Ltd., and agreed that it does not own intellectual property developed by
DealTime.com Ltd. other than in breach of the agreements with DealTime.com Ltd.
and Messrs. Sharfman and Ashkenazi.

Finally, CommTouch and Dr. Sharfman entered into a Termination of Employment
Agreement requiring the repayment by Dr. Sharfman of CommTouch's loan to him by
December 31, 1999 and the release to Dr. Sharfman of funded and unfunded
severance pay within 20 days of the date of approval of the Termination of
Employment Agreement by our shareholders and containing a waiver by Dr. Sharfman
of any rights under stock options that were granted to him.

57
<PAGE> 60

PRINCIPAL SHAREHOLDERS

The following table sets forth certain information regarding beneficial
ownership of ordinary shares as of March 31, 1999 by:

- each person or entity known to CommTouch to own beneficially more than
five percent of CommTouch's ordinary shares,

- each of our directors and officers known to CommTouch to own beneficially
more than one percent of CommTouch's ordinary shares, and

- all executive officers and directors as a group,

on a pro forma basis to reflect (1) the subsequent issuance of 42,081 Series D
Convertible Preferred Shares, (2) the concurrent private placement, (3) the
exercise of the warrant for 1,136,000 ordinary shares issued to Go2Net and other
warrants to purchase 406,940 ordinary shares, and (4) the automatic conversion
upon completion of this offering of all outstanding preferred shares into
ordinary shares.

<TABLE>
<CAPTION>
PERCENTAGE OF
ORDINARY SHARES(1)
--------------------
TOTAL SHARES BEFORE AFTER
NAME AND ADDRESS OF BENEFICIAL OWNER BENEFICIALLY OWNED(1) OFFERING OFFERING
------------------------------------ --------------------- -------- --------
<S> <C> <C> <C>
Thomas Camp(2)......................................... 2,032,057 -- 13.4%
c/o Go2Net, Inc.
999 3rd Avenue, Suite 4700
Seattle, WA 98104
Yiftah Atir............................................ 1,429,040 14.8% 9.4%
HarbourVest-Evergreen L.P.(3)
55 St. Claire Avenue West, Suite 225
Toronto, Ontario M4V 247
Allan Barkat........................................... 1,211,260 12.5% 8.0%
Israel Growth Fund L.P.(4)
c/o Apax-Leumi Inc.
15 Portland Place
London, England
Yoseph Sela............................................ 838,780 8.7% 5.5%
Entities affiliated with Gemini Israel Fund L.P.(5)
11 Galgaley Haplada St. Bldg. 3
P.O. Box 12226, Herzelia
46733 Israel
Yair Safrai............................................ 831,400 8.6% 5.5%
Entities affiliated with Concord Group(6)
11 Galgaley Haplada St. Bldg. 3
P.O. Box 12226, Herzelia
46733 Israel
Nahum Sharfman......................................... 788,420 8.2% 5.2%
22 Hameyasdim St., Karkur
37064 Israel
Gideon Mantel(7)....................................... 501,140 5.2% 3.3%
c/o CommTouch Software, Inc.
3945 Freedom Circle, Suite 730
Santa Clara, California 95054
Amir Lev(8)............................................ 407,120 4.2% 2.7%
c/o CommTouch Software Ltd.
10 Technology Avenue
Ein Vered 40696, Israel
Isabel Maxwell(9)...................................... 204,040 2.1% 1.3%
c/o CommTouch Software, Inc.
3945 Freedom Circle, Suite 730
Santa Clara, California 95054
</TABLE>

58
<PAGE> 61

- -------------------------
(1) Assumes no exercise of the underwriters' over-allotment option. Applicable
percentage ownership is based on 9,664,060 ordinary shares outstanding as
of March 31, 1999 and 15,144,146 shares outstanding immediately following
completion of this offering. Beneficial ownership is determined in
accordance with the rules and regulations of the Securities and Exchange
Commission. Includes shares subject to options exercisable within 60 days
after March 31, 1999 as if such shares were outstanding on March 31, 1999
and assumes that no other person has exercised any outstanding options.
Except as pursuant to applicable community property laws, each shareholder
named in the table has sole voting and investment power with respect to the
shares set forth opposite such shareholder's name.

(2) Represents 896,057 shares to be purchased in the private placement by
Go2Net and 1,136,000 shares exercisable under a warrant granted to Go2Net.
Mr. Camp, who will be a director of the Company after the closing of the
offering, is the Vice President for Business Development of Go2Net, and as
such, may be deemed to beneficially own such shares. Mr. Camp disclaims
beneficial ownership of all such ordinary shares. Excludes 448,029 shares
to be purchased in the private placement by Vulcan Ventures, which
beneficially owns 33.95% of Go2Net. William D. Savoy, Vice-President of
Vulcan Ventures, is a member of the board of directors of Go2Net.

(3) Represents 1,429,040 ordinary shares owned by HarbourVest-Evergreen L.P.
Mr. Atir, a director of the Company, is the Managing Director of Evergreen
Canada Management Ltd., the general partner of HarbourVest-Evergreen L.P.
and, as such, may be deemed to beneficially own such ordinary shares. Mr.
Atir disclaims beneficial ownership of all such ordinary shares except to
the extent of his proportional interest therein.

(4) Represents 1,211,260 ordinary shares owned by Israel Growth Fund, L.P.,
which is advised by Apax-Leumi Partners, its investment advisor. Such
figure includes 100,940 shares issuable upon exercise of a warrant at the
closing of the offering. Mr. Barkat, a director of the Company, is the
Managing Director of Apax-Leumi Partners and, as such, may be deemed to
beneficially own such ordinary shares. Mr. Barkat disclaims beneficial
ownership of all such ordinary shares except to the extent of his
proportional interest therein.

(5) Represents 660,420 ordinary shares owned by Gemini Israel Fund L.P.
("GIF"), 166,280 ordinary shares owned by Gemini Israel II Parallel Fund
L.P. ("GIPF"), 6,040 ordinary shares owned by Yoseph Sela and 6,040
ordinary shares owned by Dr. Ed Mlavsky, the President of Gemini Capital
Fund Management, which manages GIF and GIPF. Mr. Sela, a director of the
Company, is the Executive Vice President of Gemini Capital Fund Management,
and, as such, may be deemed to beneficially own such ordinary shares. Mr.
Sela disclaims beneficial ownership of all of Dr. Mlavsky's ordinary shares
and of all of the ordinary shares owned by GIF and GIPF except to the
extent of his proportional interests therein.

(6) Includes 687,280 ordinary shares owned by k.t. Concord Venture Fund
(Cayman), L.P. ("CVF"), 137,400 ordinary shares owned by k.t. Concord
Venture Fund (Israel), L.P. ("CVF Israel"), 5,620 ordinary shares owned by
k.t. Concord Venture Advisors (Cayman), L.P. ("CVA"), and 1,100 ordinary
shares owned by k.t. Concord Venture Advisors (Israel), L.P. ("CVA
Israel"). Mr. Safrai, a director of the Company, is the Managing Partner of
Concord Ventures, which manages CVF, CVF Israel, CVA and CVA Israel, and,
as such, may be deemed to beneficially own such ordinary shares. Mr. Safrai
disclaims beneficial ownership of all such ordinary shares except to the
extent of his proportional interest therein.

(7) Certain of such shares are subject to a right of repurchase in favor of
CommTouch Software, Inc. Does not include 80,000 ordinary shares subject to
an option granted to Mr. Mantel under the 1996 CSI Stock Option Plan on
April 23, 1999, with an exercise price of $15.75 per share. The option will
vest with respect to one-fourth of the shares on April 23, 2000, and with
respect to 1/36 of the remaining shares each month thereafter.

(8) Does not include 50,000 ordinary shares subject to an option granted to Mr.
Lev under an Israeli Option Agreement on April 23, 1999, with an exercise
price of $15.75 per share. The option will vest with respect to one-fourth
of the shares on April 23, 2000, and with respect to 1/36 of the remaining
shares each month thereafter.

(9) Certain of such shares are subject to a right of repurchase in favor of
CommTouch Software, Inc. Does not include 5,000 ordinary shares subject to
an option granted to Ms. Maxwell under the 1996 CSI Stock Option Plan on
April 23, 1999, with an exercise price of $15.75 per share. The option will
vest with respect to one-fourth of the shares on April 23, 2000, and with
respect to 1/36 of the remaining shares each month thereafter.

(10) Certain of such shares are subject to a right of repurchase in favor of
CommTouch Software, Inc. Does not include 10,000 ordinary shares subject to
an option granted to Mr. Collins under the 1996 CSI Stock Option Plan on
April 23, 1999, with an exercise price of $15.75 per share. The option will
vest with respect to one-fourth of the shares on April 23, 2000, and with
respect to 1/36 of the remaining shares each month thereafter.

59
<PAGE> 62

DESCRIPTION OF SHARE CAPITAL

DESCRIPTION OF SHARES

Set forth below is a summary of the material provisions governing our share
capital. This summary is not complete and should be read together with our
Memorandum of Association and Articles of Association, copies of which have been
filed as exhibits to the Registration Statement of which this prospectus forms a
part.

As of March 31, 1999, our authorized share capital consisted of 10,683,600
ordinary shares, NIS 0.05 par value and 200,000 Series A Convertible Preferred
Shares, 200,000 Series B Convertible Preferred Shares and 165,820 Series C
Convertible Preferred Shares, (collectively, the Convertible Preferred Shares),
NIS 1.0 par value. As of March 31, 1999, there were 2,148,320 ordinary shares,
97,878 Series A Convertible Preferred Shares, (convertible into 1,957,560
ordinary shares) 62,438 Series B Convertible Preferred Shares (convertible into
1,248,760 ordinary shares) and 153,093 Series C Convertible Preferred Shares
(convertible into 3,061,860 ordinary shares) issued and outstanding. In April
1999 we issued $13.2 million worth of Convertible Promissory Notes that have
since converted into 42,081 Series D Convertible Preferred Shares. Each
preferred share will convert automatically into 20 ordinary shares upon the
closing of the offering. In connection with this offering our shareholders have
approved an increase in our authorized share capital, and the number of ordinary
shares authorized has been increased to 40,000,000. At the closing of the
offering, 14,492,215 ordinary shares will be issued and outstanding, assuming
the issuance of 362,809 and 227,200 ordinary shares upon the net exercise of the
in-the-money outstanding warrants and the in-the-money warrant to be issued to
Go2Net (14,642,215 ordinary shares if the Underwriters' over-allotment option is
exercised in full). No preferred shares will be outstanding after the Offering.

DESCRIPTION OF ORDINARY SHARES

All issued and outstanding ordinary shares of CommTouch are, and the ordinary
shares offered hereby when issued and paid for will be, duly authorized and
validly issued, fully paid and nonassessable. The ordinary shares do not have
preemptive rights. Neither the Memorandum of Association or Articles of
Association of CommTouch nor the laws of the State of Israel restrict in any way
the ownership or voting of ordinary shares by non-residents of Israel, except
with respect to subjects of countries which are in a state of war with Israel.

DIVIDEND AND LIQUIDATION RIGHTS

The ordinary shares offered by this prospectus, when issued, will be entitled to
their full proportionate of any cash or share dividend declared from the date of
the consummation of the offering.

Subject to the rights of the holders of shares with preferential or other
special rights that may be authorized, the holders of ordinary shares are
entitled to receive dividends in proportion to the sums paid up or credited as
paid up on account of the nominal value of their respective holdings of the
shares in respect of which the dividend is being paid (without taking into
account the premium paid up on the shares) out of assets legally available
therefor and, in the event of our winding up, to share ratably in all assets
remaining after payment of liabilities in proportion to the nominal value of
their respective holdings of the shares in respect of which such distribution is
being made, subject to applicable law. Our Board of Directors may declare
interim dividends and recommend a final annual dividend only out of profits and
in such amounts as the Board of Directors may determine. Declaration of the
final annual dividend requires shareholder approval at a general meeting, which
may reduce but not increase such dividend from the amount recommended by the
Board of Directors. See "Dividend Policy."

In case of a share dividend, holders of shares can receive shares of a class
whether such class existed prior thereto or was created therefor or shares of
the same class that conferred upon the holders the right to receive such
dividend.

60
<PAGE> 63

VOTING, SHAREHOLDER MEETINGS AND RESOLUTIONS

Holders of ordinary shares have one vote for each ordinary share held on all
matters submitted to a vote of shareholders. Such rights may be affected by the
future grant of any special voting rights to the holders of a class of shares
with preferential rights. As of the closing of this offering, all of the
outstanding preferred shares will convert into ordinary shares, and there will
be no authorized but unissued shares with preferential rights over the ordinary
shares. Any change in the registered capital of CommTouch, including the
creation of a new class of shares with rights superior or inferior to existing
classes of shares may be adopted by a "special resolution" (the resolution of
the holders of 75 percent or more of the shares participating in a general
meeting). Once the creation of a class of shares with preference rights has been
approved, the Board of Directors may issue preferred shares, unless the Board is
limited from doing so by the Articles of Association or a contractual provision.

An annual general meeting must be held once every calendar year at such time
(not more than 15 months after the last preceding annual general meeting) and at
such place, either within or outside the State of Israel, as may be determined
by the Board of Directors. The quorum required for a general meeting of
shareholders consists of at least two shareholders present in person or by proxy
and holding, or representing, more than one-third of the voting rights of the
issued share capital. A meeting adjourned for lack of a quorum may be adjourned
to the same day in the next week at the same time and place, or to such time and
place as the Chairman may determine with the consent of the holders of a
majority of the shares present in person or by proxy and voting on the question
of adjournment. At such reconvened meeting any two shareholders present in
person or by proxy (and not in default under the articles) will constitute a
quorum.

Most shareholder resolutions, including resolutions for the election of
directors, the declaration of dividends, the appointment of auditors or the
approval of transactions with Office Holders as required by the Companies
Ordinance (See "Management -- Approval of Certain Transactions"), will be deemed
adopted if approved by the holders of a majority of the voting power represented
at the meeting, in person or by proxy, and voting thereon. Certain corporate
actions such as:

- amending the Articles of Association;

- amending the Memorandum of Association;

- changing our name;

- making changes in the capital structure of CommTouch, such as a reduction
of capital, increase of capital or share split;

- merger or consolidation;

- voluntary winding up; and

- authorizing a new class of shares or changing special rights of a class
of shares

must be approved by a "special resolution" and will be deemed adopted only if
approved by the holders of not less than 75 percent of the voting power
represented in person or by proxy at the meeting and voting thereon, and in some
cases 75 percent of the voting power of the affected class of shares.

Upon completion of this offering and the private placement, our executive
officers, directors, affiliates of directors and five percent or greater
shareholders will own beneficially an aggregate of approximately 50.1 percent of
the Company's outstanding ordinary shares (approximately 48.7 percent if the
underwriters' over-allotment option is exercised in full). See "Principal
Shareholders."

TRANSFER OF SHARES AND NOTICES

Fully paid ordinary shares are issued in registered form and may be transferred
freely. Each shareholder of record is entitled to receive at least seven days'
prior notice of shareholder meetings. A special resolution can be adopted only
if shareholders are given 21 days' prior notice of the meeting at which such
resolution

61
<PAGE> 64

will be voted on (unless all shareholders entitled to vote agree that the
meeting may be held on a shorter notice period). For purposes of determining the
shareholders entitled to notice and to vote at such meeting, the Board of
Directors may fix the record date not exceeding less than 24 days prior to the
date of any general meeting.

MODIFICATION OF CLASS RIGHTS

If at any time the share capital is divided into different classes of shares,
the rights attached to any class (unless otherwise provided by our Articles of
Association) may be modified or abrogated by CommTouch by a special resolution
subject to the consent in writing of the holders of the issued shares of the
class, or by the adoption of a special resolution passed at a separate general
meeting of the holders of the shares of such class.

DESCRIPTION OF WARRANTS

As of March 31, 1999, CommTouch has outstanding warrants to purchase 13,873
Series B Convertible Preferred Shares held by investors at a weighted average
exercise price of $44.04, which warrants expire at the closing of an initial
public offering. We also have outstanding warrants to purchase 568 Series B
Convertible Preferred Shares issued to Imperial Bank and Imperial Bancorp and
warrants to purchase a total of 350 Series B Convertible Preferred Shares issued
to various consultants, which warrants expire on various dates in 2002. We also
have outstanding warrants to issue 346 Series C Convertible Preferred Shares
issued to Imperial Bank and Imperial Bancorp, and warrants to purchase a total
of 543 Series C Convertible Preferred Shares issued to various consultants, of
which 300 warrants expire on December 2002 and 243 warrants expire on July 2005.
We granted Bank Lepituach Ha Taasia warrants, exercisable for three years at the
nominal price of NIS 0.05 for each share, with the number of warrants linked to
the amount of the credit made available by the bank under this warrant. As of
March 31, 1999, Bank Lepituach Ha Taasia had warrants to purchase 92,340
ordinary shares. In April 1999 CommTouch paid in full the outstanding balance
under its line of credit with Bank Lepituach Ha Taasia and does not intend to
draw on this line of credit in the future.

In connection with the Customized Email Service Agreement to be entered into
between CommTouch and Go2Net, CommTouch will issue to Go2Net fully vested,
non-forfeitable, warrant to purchase 1,136,000 ordinary shares at a per-share
exercise price of $12.80, subject to adjustment as provided in the warrant. The
warrants will be exercisable at any time after the offering; provided, however,
that Go2Net will enter into a lock-up agreement in which it will agree not to
sell any shares acquired upon exercise of the warrants for 180 days after the
date of this prospectus. The warrants will be exercisable pursuant to a cashless
exercise based on the average closing price of the ordinary shares for the five
days preceding the exercise. The warrant will be transferable to any affiliate
of Go2Net (including Vulcan) and to any successor to substantially all its
business or assets. The Company is extending registration rights to Go2Net
covering the shares issuable upon exercise of the warrants. The warrants will
expire on the fifth anniversary of issuance.

REGISTRATION RIGHTS

The holders of convertible preferred shares convertible into 7,109,800 ordinary
shares (the "Registrable Securities") have certain rights to register those
shares under the Securities Act. If requested by holders of a majority of the
Registrable Securities after the second anniversary of the date of this
offering, CommTouch must file a registration statement under the Securities Act
covering all Registrable Securities requested to be included by all holders of
such Registrable Securities. CommTouch may be required to effect up to two such
registrations. CommTouch has the right to delay any such registration for up to
120 days under certain circumstances, but not more than once during any 12-month
period.

In addition, if CommTouch proposes to register any of its ordinary shares under
the Securities Act other than in connection with a company employee benefit plan
or a corporate reorganization pursuant to Rule 145 under the Securities Act, or
a registration on any registration form that does not permit secondary sales or
does not include substantially the same information as would be required to be
included

62
<PAGE> 65

in a registration statement covering the sale of Registrable Securities, the
holders of Registrable Securities may require CommTouch to include all or a
portion of their shares in such registration, although the managing underwriter
of any such offering has certain rights to limit the number of shares in such
registration.

Further, a majority of the holders of Registrable Securities may require
CommTouch to register all or any portion of their Registrable Securities on Form
F-3 when such form becomes available to CommTouch, subject to certain conditions
and limitations. All expenses incurred in connection with all registrations
(other than fees, expenses and disbursements of counsel retained by the holders
of the Registrable Shares, and underwriters' and brokers' discounts and
commissions) will be borne by CommTouch.

The registration rights described in the preceding three paragraphs expire five
years after the closing date of this Offering.

The Company is extending registration rights to Go2Net and to Vulcan Ventures.
These rights allow Go2Net and Vulcan to require the Company to register the
shares which they are purchasing simultaneously in the concurrent private
placement. The rights also permit Go2Net to require the Company to register the
warrant and the shares issuable upon exercise of the warrant which the Company
is granting to Go2Net. If the Company is unable to cause a registration
statement for these shares to become effective as of the expiration of the
180-day lock-up period, the exercise price of the warrant will be reduced to
$10.51 per share.

All of the holders of Registrable Securities have agreed that they will not
exercise any right with respect to any registration for a period of 180 days
after the date of this prospectus, without the prior written consent of US
Bancorp Piper Jaffray.

ACCESS TO INFORMATION

We file reports with the Israeli Registrar of Companies regarding our registered
address, our registered capital, our shareholders of record and the number of
shares held by each, the identity of the directors and details regarding
security interests on our assets. In addition, CommTouch must file with the
Registrar of Companies its Articles of Association and a copy of any special
resolution adopted by a general meeting of shareholders. The information filed
with the Registrar of Companies is available to the public. In addition to the
information available to the public, our shareholders are entitled, upon
request, to review and receive copies of all minutes of meetings of our
shareholders.

TRANSFER AGENT AND REGISTRAR

The transfer agent and registrar for our ordinary shares is Norwest Bank
Minnesota, N.A.

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<PAGE> 66

SHARES ELIGIBLE FOR FUTURE SALE

Upon completion of this offering and the concurrent private placement, CommTouch
will have outstanding 14,192,215 ordinary shares based upon shares outstanding
at April 22, 1999, assuming no exercise of the underwriters' over-allotment
option, assuming conversion of the convertible preferred shares into 7,109,800
ordinary shares upon the closing of this offering and assuming the issuance of
362,809 and 227,260 ordinary shares upon the net exercise of the in-the-money
outstanding warrants and the warrant to be issued to Go2Net, respectively.
Excluding the 3,000,000 ordinary shares offered hereby, and assuming no exercise
of the underwriters' over-allotment option, as of the effective date of the
prospectus, there will be 11,738,206 ordinary shares outstanding, all of which
are "restricted" shares under the Securities Act. All restricted shares are
subject to lock-up agreements with the underwriters pursuant to which the
holders of the restricted shares have agreed not to sell, pledge or otherwise
dispose of such shares for a period of 180 days after the date of this
prospectus. U.S. Bancorp Piper Jaffray may release the shares subject to the
lock-up agreements in whole or in part at any time with or without notice.
However, U.S. Bancorp Piper Jaffray has no current plans to do so.

The following table indicates approximately when the 11,738,206 ordinary shares
of CommTouch that are not being sold in the offering but which will be
outstanding at the time the offering is complete will be eligible for sale into
the public market:

ELIGIBILITY OF RESTRICTED SHARES FOR SALE IN PUBLIC MARKET

<TABLE>
<S> <C>
At effective Date............................... 0
180 days after Effective Date................... 6,839,948
After 180 days post-effective date.............. 4,898,258
---------
</TABLE>

Most of the restricted shares that will become available for sale in the public
market beginning 180 days after the effective date will be subject to certain
volume and other resale restrictions pursuant to Rule 144 because the holders
are affiliates of CommTouch. The general provisions of Rule 144 are described
below.

In general, under Rule 144, an affiliate of CommTouch, or person (or persons
whose shares are aggregated) who has beneficially owned restricted shares for at
least one year, will be entitled to sell in any three-month period a number of
shares that does not exceed the greater of

- 1% of the then outstanding ordinary shares (approximately 141,922 shares
immediately after this offering and the concurrent private placement) or

- the average weekly trading volume during the four calendar weeks
preceding the date on which notice of the sale is filed with the SEC.

Sales pursuant to Rule 144 are subject to certain requirements relating to
manner of sale, notice and availability of current public information about
CommTouch. A person (or persons whose shares are aggregated) who is not deemed
to have been an affiliate of CommTouch any time during the 90 days immediately
preceding the sale and who has beneficially owned his or her shares for at least
two years is entitled to sell such shares pursuant to Rule 144(k) without regard
to the limitations described above. 1,728,040 of the restricted shares may be
resold under Rule 144(k) beginning 180 days after the effective date of the
offering.

The holders of convertible preferred shares convertible into 7,109,800 ordinary
shares, Go2Net and Vulcan Ventures as holders of 1,344,086 ordinary shares
issued in the private placement and Go2Net as holder of warrant for 1,136,000
ordinary shares, have certain rights to register those shares under the
Securities Act, pursuant to registration rights agreements entered into between
CommTouch and those holders.

In addition to the restriction imposed by the securities laws, 662,680 of the
restricted shares were issued to certain employees of CommTouch pursuant to
restricted stock agreements. Pursuant to the provisions of

64
<PAGE> 67

these agreements, CommTouch Software, Inc. has a repurchase option on any
unvested shares. CommTouch Software, Inc.'s repurchase option with respect to
such shares lapses ratably over time. At the 180th day after the effective date,
approximately 420,600 of those shares will remain subject to the repurchase
option.

As of April 22, 1999, 1,000,000 shares were reserved for issuance under our
stock option plans, of which options to purchase 694,860 shares were then
outstanding. Beginning 180 days after the effective date, approximately 289,785
shares issuable upon the exercise of vested options will become eligible for
sale.

In June 1999, our shareholders approved:

- an increase of 4,000,000 shares in the number of ordinary shares reserved
under the stock option plans,

- a reserve of 250,000 shares for options under the Directors Plan and

- a reserve of 150,000 shares under the ESPP

We intend to file, within 180 days after the date of this prospectus, a Form S-8
registration statement under the Securities Act to register shares issued in
connection with option exercises and shares reserved for issuance under all
stock plans. Ordinary shares issued upon exercise of options after the effective
date of the Form S-8 will be available for sale in the public market, subject to
Rule 144 volume limitations applicable to affiliates and to lock-up agreements.

65
<PAGE> 68

U.S. TAX CONSIDERATIONS REGARDING ORDINARY SHARES
ACQUIRED BY U.S. TAXPAYERS

The following discussion summarizes the material U.S. federal income tax
consequences arising from the purchase, ownership and sale of the ordinary
shares. This summary is based on the provisions of the Internal Revenue Code of
1986, as amended (the "Code"), final, temporary and proposed U.S. Treasury
Regulations promulgated thereunder, and administrative and judicial
interpretations thereof, in effect as of the date of this prospectus, all of
which are subject to change, possibly with retroactive effect. CommTouch will
not seek a ruling from the Internal Revenue Service with regard to the United
States federal income tax treatment relating to investment in the ordinary
shares and, therefore, no assurance exists that the Internal Revenue Service
will agree with the conclusions set forth below. The summary below does not
purport to address all federal income tax consequences that may be relevant to
particular investors. This summary does not address the consequences that may be
applicable to particular classes of taxpayers, including investors that hold
ordinary shares as part of a hedge, straddle or conversion transaction,
insurance companies, banks or other financial institutions, broker-dealers,
tax-exempt organizations and investors who own (directly, indirectly or through
attribution) 10% or more of CommTouch's outstanding voting stock. Further, it
does not address the alternative minimum tax consequences of an investment in
ordinary shares or the indirect consequences to U.S. Holders, as defined below,
of equity interests in investors in ordinary shares. This summary is addressed
only to holders that hold ordinary shares as a capital asset within the meaning
of Section 1221 of the Code, are U.S. citizens, individuals resident in the
United States for purposes of U.S. federal income tax, domestic corporations or
partnerships and estates or trusts treated as "United States persons" under
Section 7701 of the Code ("U.S. Holders").

EACH INVESTOR SHOULD CONSULT WITH HIS OR HER OWN TAX ADVISOR AS TO THE
PARTICULAR U.S. FEDERAL INCOME TAX CONSEQUENCES OF THE PURCHASE, OWNERSHIP AND
SALE OF ORDINARY SHARES, INCLUDING THE EFFECTS OF APPLICABLE STATE, LOCAL,
FOREIGN OR OTHER TAX LAWS AND POSSIBLE CHANGES IN THE TAX LAWS.

TAX BASIS OF ORDINARY SHARES

A U.S. Holder's tax basis in his or her ordinary shares will be the purchase
price paid therefor by such U.S. Holder. The holding period of each ordinary
share owned by a U.S. Holder will commence on the day following the date of the
U.S. Holder's purchase of such ordinary share and will include the day on which
the ordinary share is sold by such U.S. Holder.

SALE OR EXCHANGE OF ORDINARY SHARES

A U.S. Holder's sale or exchange of ordinary shares will result in the
recognition of gain or loss by such U.S. Holder in an amount equal to the
difference between the amount realized and the U.S. Holder's basis in the
ordinary shares sold. Subject to the following discussion of the consequences of
CommTouch being treated as a Passive Foreign Investment Company or a Foreign
Investment Company, such gain or loss will be capital gain or loss if such
ordinary shares are a capital asset in the hands of the U.S. Holder. Gain or
loss realized on the sale of ordinary shares will be long-term capital gain or
loss if the ordinary shares sold had been held for more than one year at the
time of their sale. Long-term capital gains recognized by certain taxpayers
generally are subject to a reduced rate of federal tax (currently a maximum of
20%). If the U.S. Holder's holding period on the date of the sale or exchange
was one year or less, such gain or loss will be short-term capital gain or loss.
Short-term capital gains generally are subject to tax at the same rates as
ordinary income. In general, any capital gain recognized by a U.S. Holder upon
the sale or exchange of ordinary shares will be treated as U.S.-source income
for U.S. foreign tax credit purposes.

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See discussion under "Israeli Taxation and Investment Programs -- Capital Gains
and Income Taxes Applicable to Non-Israeli Shareholders" for a discussion of
taxation by Israel of capital gains realized on sales of capital assets.

TREATMENT OF DIVIDEND DISTRIBUTIONS

For U.S. federal income tax purposes, gross dividends (including the amount of
any Israeli taxes withheld therefrom) paid to a U.S. Holder with respect to his
or her ordinary shares will be included in his or her ordinary income to the
extent made out of current or accumulated earnings and profits of CommTouch, as
determined based on U.S. tax principles, at the time the dividends are received
and will be treated as foreign source dividend income for purposes of the
foreign tax credit limitation described below. Such dividends will not be
eligible for the dividends received deduction allowed to U.S. corporations under
Section 243 of the Code. Dividend distributions in excess of CommTouch's current
and accumulated earnings and profits will be treated first as a non-taxable
return of the U.S. Holder's tax basis in his or her ordinary shares to the
extent thereof and then as a gain from the sale of ordinary shares. Dividends
paid in NIS will be includible in income in a U.S. dollar amount based on the
exchange rate at the time of their receipt, and any gain or loss resulting from
currency fluctuations during the period from the date a dividend is paid to the
date such payment is converted into U.S. dollars generally will be treated as
ordinary income or loss.

Any Israeli withholding tax imposed on dividends paid to a U.S. Holder will be a
foreign income tax eligible for credit against such U.S. Holder's U.S. federal
income tax liability subject to certain limitations. Alternatively, a U.S.
Holder may claim a deduction for such amount, but only for a year in which a
U.S. Holder elects to do so with respect to all foreign income taxes. The
overall limitation on foreign taxes eligible for credit is calculated separately
with respect to specific classes of income. Dividends distributed by CommTouch
with respect to ordinary shares will generally constitute "passive income".
Foreign income taxes exceeding the credit limitation for the year of payment or
accrual may be carried back for two taxable years and forward for five taxable
years in order to reduce U.S. federal income taxes, subject to the credit
limitation applicable in each of such years. Other restrictions on the foreign
tax credit include a general prohibition on the use of the credit to reduce
liability for the U.S. individual and corporation alternative minimum taxes by
more than 90% and an allowance of foreign tax credits for alternative minimum
tax purposes only to the extent of foreign-source alternative minimum taxable
income. See "Israeli Taxation and Investment Programs -- Capital Gains and
Income Taxes Applicable to Non-Israeli Shareholders."

INFORMATION REPORTING AND BACKUP WITHHOLDING

Any dividends paid on, or proceeds derived from a sale of, the ordinary shares
to, or by, U.S. Holders may be subject to U.S. information reporting
requirements and the 31% U.S. backup withholding tax unless the holder (i) is a
corporation or other exempt recipient or (ii) provides a United States taxpayer
identification number, certifies as to no loss of exemption from backup
withholding and otherwise complies with any applicable withholding requirements.
Any amounts withheld under the U.S. backup withholding tax rules will be allowed
as a refund or a credit against the U.S. Holder's U.S. federal income tax,
provided the required information is furnished to the U.S. Internal Revenue
Service.

TAX STATUS OF COMMTOUCH FOR U.S. FEDERAL INCOME TAX PURPOSES

Passive Foreign Investment Company. If CommTouch were deemed to be a passive
foreign investment company (a "PFIC") for U.S. federal income tax purposes, any
gain recognized by a U.S. Holder upon the sale of ordinary shares (or the
receipt of certain distributions) generally would be treated as ordinary income,
such income would be allocated over such U.S. Holder's holding period for such
ordinary shares and an interest charge would be imposed on the amount of
deferred tax on such income which is allocated to prior taxable years.
Generally, CommTouch will be treated as a PFIC for any tax year if, in such tax

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year or any prior tax year, either (i) 75% or more of its gross income is
passive in nature, or (ii) on average, 50% or more of its assets (by value or,
if CommTouch elects or if CommTouch is treated as a "controlled foreign
corporation" under the Code, by their adjusted basis for computing earnings and
profits) produce or are held for the production of passive income. CommTouch
does not believe it satisfies either of the tests for PFIC status for any tax
year to date and, although CommTouch is acquiring substantial cash in connection
with this Offering, it expects that the majority of its assets will continue to
generate sufficient levels of income to avoid PFIC treatment for U.S. federal
income tax purposes. However, since the determination whether CommTouch is a
PFIC will be made annually based on facts and circumstances that, to some
extent, may be beyond CommTouch's control, there can be no assurance that
CommTouch will not become a PFIC at some time in the future. If CommTouch were
determined to be a PFIC, however, a U.S. Holder could elect to treat his or her
ordinary shares as an interest in a qualified electing fund (a "QEF Election"),
in which case, the U.S. Holder would be required to include in income currently
his or her proportionate share of CommTouch's earnings and profits in years in
which CommTouch is a PFIC whether or not distributions of such earnings and
profits are actually made to such U.S. Holder, but any gain subsequently
recognized upon the sale by such U.S. Holder of his or her ordinary shares
generally would be taxed as a capital gain. Alternatively, a U.S. Holder may
elect to mark the ordinary shares to market annually, recognizing ordinary
income or loss (subject to certain limitations) equal to the difference between
the fair market value of its ordinary shares and the adjusted basis of such
stock. See "U.S. Consequences Regarding ordinary shares Acquired by U.S.
Taxpayers--Sale or Exchange of Ordinary Shares" above. U.S. Holders should
consult with their own tax advisers regarding the eligibility, manner and
advisability of making a QEF Election if CommTouch is treated as a PFIC.

Controlled Foreign Corporations. Sections 951 through 964 and Section 1248 of
the Code relate to controlled foreign corporations ("CFC"). The CFC provisions
may impute some portion of such a corporation's undistributed income to certain
U.S. shareholders on a current basis and convert into dividend income some
portion of gains on dispositions of stock which would otherwise qualify for
capital gains treatment. In general, the CFC provisions will apply to CommTouch
only if U.S. shareholders, who are U.S. Holders and who own, directly or
indirectly, 10% or more of the total combined voting power of all classes of
voting stock own in the aggregate (or are deemed to own after application of
complex attribution rules) more than 50% (measured by voting power or value) of
the outstanding stock of CommTouch. CommTouch does not believe that it will be a
CFC after this Offering. It is possible that CommTouch could become a CFC in the
future. Even if CommTouch were classified as a CFC in a future year, however,
the CFC rules referred to above would apply only with respect to U.S.
shareholders, who are U.S. Holders and who own, directly or indirectly, 10% or
more of the total combined voting power of all classes of voting stock of
CommTouch.

Personal Holding Company/Foreign Personal Holding Company/Foreign Investment
Company. A corporation will be classified as a personal holding company, or a
PHC, if (i) five or fewer individuals at any time during the last half of a tax
year (without regard to their citizenship or residence) directly or indirectly
or by attribution own more than 50% in value of the corporation's stock and (ii)
at least 60% of its ordinary gross income for the taxable year, as specially
adjusted, consists of personal holding company income (defined generally to
include dividends, interest, royalties, rents and certain other types of passive
income). A PHC is subject to a United States federal income tax of 39.6% on its
undistributed personal holding company income (generally limited, in the case of
a foreign corporation, to United States source income).

A corporation will be classified as a foreign personal holding company, or an
FPHC and not a PHC if at any time during a tax year (i) five or fewer individual
United States citizens or residents directly or indirectly or by attribution own
more than 50% of the total combined voting power or value of the corporation's
stock and (ii) at least 60% of its gross income consists of (50% for years
following the first year it becomes a FPHC) FPHC income (defined generally to
include dividends, interest, royalties, rents and certain other types of passive
income). Each United States shareholder in an FPHC is required to include in
gross income, as a dividend, an allocable share of the FPHC's undistributed
foreign personal holding company income (generally the taxable income of the
FPHC, as specially adjusted).

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A corporation will be classified as a foreign investment company, or an FIC if
for any taxable year it (i) is registered under the Investment Company Act of
1940, as amended, as a management company or unit investment trust or is engaged
primarily in the business of investing or trading in securities or commodities
(or any interest therein) and (ii) 50% or more of the total value or the total
combined voting power of all classes of the corporation's stock is owned
directly or indirectly (including stock owned through the application of
attribution rules) by United States persons. In general, unless an FIC elects to
distribute 90% or more of its taxable income (determined under United States tax
principles as specially adjusted) to its shareholders, any gain on the sale or
exchange of stock in a foreign corporation, which was a FIC at any time during
the period during which a taxpayer held such stock, is treated as ordinary
income (rather than capital gain) to the extent of such shareholder's ratable
share of the corporation's accumulated earnings and profits.

CommTouch believes that it is not and will not be a PFIC, PHC, FPHC or FIC after
this Offering. However, no assurance can be given as to CommTouch's future
status.

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ISRAELI TAXATION AND INVESTMENT PROGRAMS

The following discussion summarizes the material Israeli tax consequences
relating to CommTouch, its shareholders and ownership and disposition of its
ordinary shares. This summary does not discuss all aspects of Israeli tax law
that may be relevant to a particular investor in light of his personal
investment circumstances or to certain types of investors subject to special
treatment under Israeli law (for example, traders in securities or persons that
own, directly or indirectly, 10% or more of CommTouch's outstanding voting
shares). The following also includes a discussion of certain Israeli government
programs benefiting various Israeli businesses such as CommTouch. To the extent
that the discussion is based on new legislation yet to be subject to judicial or
administrative interpretation, there can be no assurance that the views
expressed herein will accord with any such interpretation in the future. This
discussion does not cover all possible tax consequences or situations, and
investors should consult their tax advisors regarding the tax consequences
unique to their situation.

GENERAL CORPORATE TAX STRUCTURE

CommTouch is subject to corporate tax in Israel. Commencing in the tax year 1993
through and including 1996, the regular rate of corporate tax to which Israeli
companies are subject decreased each year, i.e. from 39% in 1993 down to 36% in
1996 and thereafter. However, the effective rate payable by a company which
derives income from an Approved Enterprise (as further discussed below) may be
considerably less. See "Law for the Encouragement of Capital Investments, 1959."

Our tax loss carryforwards were approximately $10.4 million as of December 31,
1998. The amount of our tax loss carryforwards will be reduced by any future
income of CommTouch that would be fully tax exempt.

TAXATION UNDER INFLATIONARY CONDITIONS

The Income Tax Law (Adjustment for Inflation), 1985 (the "Adjustment for
Inflation Law") attempts to overcome some of the problems experienced in a
traditional tax system by an economy experiencing rapid inflation, which was the
case in Israel at the time the Adjustment for Inflation Law was enacted.
Generally, the Adjustment for Inflation Law was designed to neutralize for
Israeli tax purposes the erosion of capital investments in businesses and to
prevent unintended tax benefits resulting from the deduction of inflationary
financing expenses. The Adjustment for Inflation Law applies a supplementary set
of inflationary adjustments to a normal taxable profit computed according to
regular historical cost principles.

The Adjustment for Inflation Law introduced a special adjustment for the
preservation of equity for the tax purpose based on changes in the Israeli CPI,
whereby corporate assets are classified broadly into fixed (inflation resistant)
assets and non-fixed assets. Where shareholders' equity, as defined in the
Adjustment for Inflation Law, exceeds the depreciated cost of fixed assets, a
corporate tax deduction which takes into account the effect of inflationary
change on such excess is allowed (up to a ceiling of 70% of taxable income in
any single tax year, with the unused portion permitted to be carried forward on
an inflation-linked basis with no ceiling). If the depreciated cost of fixed
assets exceeds shareholders' equity, then such excess multiplied by the annual
rate of inflation is added to taxable income.

In addition, subject to certain limitations, depreciation on fixed assets and
loss carried forwards are adjusted for inflation based on changes in the Israeli
CPI. The net effect of the Adjustment for Inflation Law on CommTouch might be
that CommTouch's taxable income, as determined for Israeli corporate tax
purposes, will be different from CommTouch's U.S. dollar income, as reflected in
its financial statements, due to the difference between the annual changes in
the CPI and in the NIS exchange rate with respect to the U.S. Dollar, causing
changes in the actual tax rate.

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LAW FOR THE ENCOURAGEMENT OF INDUSTRY (TAXES), 1969

CommTouch currently qualifies as an "Industrial Company" within the meaning of
the Law for the Encouragement of Industry (Taxes), 1969 (the "Industry
Encouragement Law"). According to the Industry Encouragement Law, an "Industrial
Company" is a company resident in Israel, at least 90% of the income of which in
any tax year, determined in Israeli currency (exclusive of income from defense
loans, capital gains, interest and dividends) is derived from an "Industrial
Enterprise" that it owns. An "Industrial Enterprise" is defined by that law as
an enterprise whose major activity in a given tax year is industrial production
activity.

Included among the tax benefits for an Industrial Company are deductions of
12.5% per annum of the purchase price of a patent or of know-how, an election
under certain conditions to file a consolidated return and accelerated
depreciation rates on equipment and buildings.

Eligibility for the benefits under the Industry Encouragement Law is not subject
to receipt of prior approval from any governmental authority. No assurance can
be given that CommTouch will continue to qualify as an "Industrial Company" or
that the benefits described above will be available in the future.

LAW FOR THE ENCOURAGEMENT OF CAPITAL INVESTMENTS, 1959

The Law for the Encouragement of Capital Investments, 1959, as amended (the
"Investment Law"), provides that a capital investment in production facilities
(or other eligible facilities) may, upon application to the Israel Investment
Center, be designated as an Approved Enterprise. Each certificate of approval
for an Approved Enterprise relates to a specific capital investment program
delineated both by its financial scope, including its capital sources, and its
physical characteristics, i.e. the equipment to be purchased and utilized
pursuant to the program. The tax benefits derived from any such certificate of
approval relate only to taxable profits attributable to the specific Approved
Enterprise.

CommTouch's investment plans have been granted the status of an Approved
Enterprise under the Investment Law, in two separate investment programs. These
programs provide CommTouch with certain tax benefits as described below; with
regard to the first program, CommTouch also received long-term loans guaranteed
by the State of Israel. Under the terms of CommTouch's Approved Enterprise
programs, income earned by CommTouch from its Approved Enterprises will be tax
exempt for a period of two years, commencing with the year in which it first
earns taxable income, and subject to a reduced corporate tax rate of 10% to 25%
for an additional period of five to eight years (provided that the total period
of tax benefits will not extend past (i) 12 years from the year of commencement
of production or (ii) 14 years from the year of approval of approved enterprise
status). The reduced corporate tax rate, to which CommTouch's Approved
Enterprise program will be subject is dependent on the level of foreign
investment in CommTouch. In the event a company operates under more than one
approval or only part of its capital investments are approved (a "Mixed
Enterprise"), its effective corporate tax rate is the result of a weighted
combination of the various applicable rates. Notwithstanding these tax benefits,
to the extent CommTouch receives income from countries other than Israel, such
income may be subject to withholding tax.

The implementation of the investments under the first plan was finalized by
CommTouch in 1995. The implementation of the second plan is expected to be
finalized in 1999.

If dividends are distributed out of tax-exempt profit from CommTouch's Approved
Enterprises, CommTouch will be liable for corporate tax at the rate which would
have been applied if it had not chosen the alternative tax benefits (currently
25% for an Approved Enterprise). Therefore, income derived from CommTouch's
Approved Enterprises would be subject to tax if distributed to shareholders as a
dividend. See Note 8 to the Consolidated Financial Statements.

The dividend recipient will be taxed at the reduced rate applicable to dividends
from Approved Enterprises (currently 15%), if the dividend is distributed during
the tax exemption period or within a specified period

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thereafter, or for an unlimited period in the case of a "Foreign Investors'
Company" -- a company more than 25% foreign owned with an Approved Enterprise.
This tax must be withheld by the company at source regardless of whether the
dividend is converted into foreign currency. See "-- Capital Gains and Income
Taxes Applicable to Non-Israeli Shareholders." Subject to certain provisions
concerning income eligible for exemption if retained, all dividends are
considered to be attributable to the entire enterprise, and the effective tax
rate is the result of a weighted combination of the various applicable tax
rates.

The Investment Law also provides that a company with an Approved Enterprise is
entitled to accelerated depreciation on its property and equipment included in
an approved investment program.

Future applications to the Investment Center will be reviewed separately, and
decisions as to whether or not to approve such applications will be based, among
other things, on the then prevailing criteria set forth in the Investment Law,
on the specific objectives of the applicant company set forth in such
applications and on certain financial criteria of the applicant company.
Accordingly, there can be no assurance that any such applications will be
approved. In addition, the benefits available to an Approved Enterprise are
conditional upon the fulfillment of certain conditions stipulated in the
Investment Law and its regulations and the criteria set forth in the specific
certificate of approval, as described above. In the event that these conditions
are violated, in whole or in part, the Company would be required to refund the
amount of tax benefits, with the addition of the CPI linkage adjustment and
interest.

CAPITAL GAINS AND INCOME TAXES APPLICABLE TO NON-ISRAELI RESIDENT SHAREHOLDERS

Under existing regulations any capital gain realized by an individual
shareholder with respect to the Ordinary Shares acquired on or after the listing
of such shares for trading will be exempt from Israeli capital gains tax if the
Ordinary Shares are listed on an approved foreign securities market (which
includes Nasdaq in the United States), provided that the company continues to
qualify as an Industrial Company under Israeli law and provide the individual
does not hold such shares for business purposes.

If we do not maintain our status as an Industrial Company, then subject to any
applicable tax treaty the Israeli capital gains tax rates would be up to 50% for
non-Israeli resident individuals and 36% for companies.

Upon a distribution of dividends other than bonus shares (stock dividends),
income tax is generally withheld at source at the rate of 25% (or the lower rate
payable with respect to Approved Enterprises), unless a double taxation treaty
is in effect between Israel and the shareholder's country of residence that
provides for a lower tax rate in Israel on dividends.

A tax treaty between the United States and Israel (the "Treaty"), provides for a
maximum tax of 25% on dividends paid to a resident of the United States (as
defined in the Treaty). Dividends distributed by an Israeli company and derived
from the income of an approved enterprise are subject to a 15% dividend
withholding tax. The Treaty further provides that a 12.5% Israeli dividend
withholding tax applies to dividends paid to a United States corporation owning
10% or more of an Israeli company's voting shares throughout the current year to
the date the dividend is paid and the preceding taxable year (as applicable).
The 12.5% rate applies only on dividends from a company that does not have an
Approved Enterprise in the applicable period.

If for any reason shareholders do not receive the above exemption for a sale of
shares in an Industrial Company, the Treaty provides U.S. resident investors
with an exemption from Israeli capital gains tax in certain circumstances (there
may still be U.S. taxes) upon a disposition of shares in CommTouch if they held
under 10% of the Company's voting stock throughout the 12 months before the
share disposition. If Israeli capital gains tax is payable, it can be credited
against U.S. federal tax under the circumstances specified in the Treaty.

A non-resident of Israel who has had dividend income derived or accrued in
Israel from which the applicable tax was withheld at source is currently exempt
from the duty to file an annual Israeli tax return

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with respect to such income, provided such income was not derived from a
business carried on in Israel by such non-resident and that such non-resident
does not derive other non-passive income from sources in Israel.

TAX BENEFITS FOR RESEARCH AND DEVELOPMENT

Israeli tax law allows under certain conditions a tax deduction in the year
incurred for expenditures (including depreciation on capital expenditures but
excluding depreciable capital expenditures) in scientific research and
development projects, if the expenditures are approved by the relevant Israeli
Government Ministry (determined by the field of research) and the research and
development is for the promotion of the enterprise. Expenditures not so approved
are deductible over a three-year period. However, expenditures made out of the
proceeds of government grants are not deductible, i.e. CommTouch will be able to
deduct the unfunded portion of the research and development expenditures and not
the gross amount.

LAW FOR THE ENCOURAGEMENT OF INDUSTRIAL RESEARCH AND DEVELOPMENT, 1984

Under the Law for the Encouragement of Industrial Research and Development, 1984
(the "Research Law") and the Instructions of the Director General of the
Ministry of Industry and Trade, research and development programs and the plans
for the intermediate stage between research and development, and manufacturing
and sales approved by a governmental committee of the Office of Chief Scientist
(OCS)(the "Research Committee") are eligible for grants of up to 50% of the
project's expenditure if they meet certain criteria. These grants are issued in
return for the payment of royalties from the sale of the product developed in
accordance with the program as follows: 3% of revenues during the first three
years, 4% of revenues during the following three years, and 5% of revenues in
the seventh year and thereafter, with the total royalties not to exceed 100% of
the dollar value of the OCS grant (or in some cases up to 300%). Following the
full payment of such royalties, there is no further liability for payment.

The Israeli government further requires that products developed with government
grants be manufactured in Israel. However, in the event that any portion of the
manufacturing is not conducted in Israel, if approval is received from the OCS,
the Company would be required to pay royalties that are adjusted in proportion
to manufacturing outside of Israel as follows: when the manufacturing is
performed outside of Israel by the Company or an affiliate company, the
royalties are to be paid as described above with the addition of 1%, and when
the manufacturing outside of Israel is not performed by the Company or an
affiliate the royalties paid shall be equal to the ratio of the amount of grant
received from the OCS divided by the amount of grant received from the OCS and
the investment(s) made by the Company in the project. The payback will also be
adjusted to 120%, 150% or 300% of the grant if the portion of manufacturing that
is performed outside of Israel is up to 50%, between 50% and 90%, or more than
90%, respectively. The technology developed pursuant to the terms of these
grants may not be transferred to third parties without the prior approval of the
Research Committee. Such approval is not required for the export of any products
resulting from such research or development. Approval of the transfer of
technology may be granted only if the recipient abides by all the provisions of
the Research Law and regulations promulgated thereunder, including the
restrictions on the transfer of know-how and the obligation to pay royalties in
an amount that may be increased.

In order to meet certain conditions in connection with the grants and programs
of the OCS, the Company has made certain representations to the Israel
government about the Company's future plans for its Israeli operations. From
time to time the extent of the Company's Israeli operations has differed and may
in the future differ, from the Company's representations. If, after receiving
grants under certain of such programs, the Company fails to meet certain
conditions to those benefits, including, with respect to grants received from
the OCS, the maintenance of a material preserve in Israel, or if there is any
material deviation from the representations made by the Company to the Israeli
government, the Company could be required to refund to the State of Israel tax
or other benefits previously received (including interest and CPI linkage

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difference) and would likely be denied receipt of such grants or benefits, and
participation of such programs, thereafter.

The Company participates in programs sponsored by the OCS for the support of
research and development activities. Through December 31, 1998, the Company had
recorded grants from OCS aggregating $653,000 for certain of the Company's
research and development projects. The Company is obligated to pay royalties to
the OCS of 3% to 5% of the sales of the products and other related revenues
developed from such projects, up to an amount equal to 100% to 150% of the
grants received. Through March 31, 1999, the Company has accrued and paid
royalties to the OCS in the aggregate amount of $253,000. At March 31, 1999, the
aggregate OCS contingent liability was $400,000.

Each application to the OCS is reviewed separately, and grants are based on the
program approved by the Research Committee. Expenditures supported under other
incentive programs of the State of Israel are not eligible for OCS grants. As a
result, there can be no assurance that applications to the OCS will be approved
or, if approved, what the amounts of the grants will be.

FUND FOR THE ENCOURAGEMENT OF MARKETING ACTIVITIES

The Company has received grants relating to its overseas marketing expenses from
the Marketing Fund. These grants are awarded for specific expenses incurred by
the Company for overseas marketing and are based upon the expenses reported by
the Company to the Marketing Fund. All marketing grants recorded from the
Marketing Fund until 1997 are linked to the dollar and are repayable as
royalties at the rate of 3% of the amount of increases in export sales realized
by the Company from the Marketing Fund. Grants recorded beginning January 1,
1998 bear royalties of 4% plus interest at LIBOR rates. The Company will face
royalty obligations on grants from the Marketing Fund only to the extent it
actually achieves increases in export sales. The proceeds of these grants are
presented in the Company's consolidated Financial Statements as offsets to
marketing expenses. Through December 31, 1998, the Company had received grants
from the Marketing Fund in the amount of approximately $279,000. At March 31,
1999 the aggregate contingent liability was approximately $121,000.

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CONDITIONS IN ISRAEL

CommTouch is incorporated under the laws of the State of Israel, and
substantially all of our research and development and significant executive
facilities are located in Israel. Accordingly, CommTouch is directly affected by
political, economic and military conditions in Israel. Our operations would be
materially adversely affected if major hostilities involving Israel should occur
or if trade between Israel and its present trading partners should be curtailed.

POLITICAL CONDITIONS

Since the establishment of the State of Israel in 1948, a number of armed
conflicts have taken place between Israel and its Arab neighbors. A state of
hostility, varying from time to time in intensity and degree, has led to
security and economic problems for Israel. However, a peace agreement between
Israel and Egypt was signed in 1979, a peace agreement between Israel and Jordan
was signed in 1994 and, since 1993, several agreements between Israel and
Palestinian representatives have been signed. In addition, Israel and several
Arab States have announced their intention to establish trade and other
relations and are discussing certain projects. Israel has not entered into any
peace agreement with Syria or Lebanon, and there have been difficulties in the
negotiations with the Palestinians. We cannot be certain as to how the peace
process will develop or what effect it may have upon CommTouch.

Despite the progress towards peace between Israel and its Arab neighbors and the
Palestinians, certain countries, companies and organizations continue to
participate in a boycott of Israeli firms. CommTouch does not believe that the
boycott has had a material adverse effect on CommTouch, but restrictive laws,
policies or practices directed towards Israel or Israeli businesses may have an
adverse impact on the expansion of CommTouch's business.

Generally, all male adult citizens and permanent residents of Israel under the
age of 51 are obligated to perform up to 39 days, or longer under certain
circumstances, of military reserve duty annually. Additionally, all such
residents are subject to being called to active duty at any time under emergency
circumstances. Currently, a majority of our officers and employees are obligated
to perform annual reserve duty. While we have operated effectively under these
requirements since we began operations, no assessment can be made as to the full
impact of such requirements on our workforce or business if conditions should
change, and no prediction can be made as to the effect on us of any expansion or
reduction of such obligations.

ECONOMIC CONDITIONS

Israel's economy has been subject to numerous destabilizing factors, including a
period of rampant inflation in the early to mid-1980s, low foreign exchange
reserves, fluctuations in world commodity prices, military conflicts and civil
unrest. The Israeli government has, for these and other reasons, intervened in
various sectors of the economy, employing, among other means, fiscal and
monetary policies, import duties, foreign currency restrictions and controls of
wages, prices and foreign currency exchange rates. The current Israeli
government elected in 1996 has expressed its intention to reduce government
involvement in the economy by various means, including relaxation of foreign
currency controls and certain budgetary restraints, and privatization of certain
government-owned companies. The Israeli government has periodically changed its
policies in all these areas.

Until May 1998, Israel imposed restrictions on transactions in foreign currency.
These restrictions affected our operations in various ways, and also affected
the right of non-residents of Israel to convert into foreign currency amounts
they received in Israeli currency, such as the proceeds of a judgment enforced
in Israel. Despite these restrictions, foreign investors who purchased shares
with foreign currency were able to repatriate in foreign currency both dividends
(after deduction of withholding tax) and the proceeds from the sale of the
shares. There are currently no Israeli currency control restrictions on
remittances of

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dividends on the ordinary shares or the proceeds from the sale of the shares;
however, legislation remains in effect pursuant to which currency controls can
be imposed by administrative action at any time.

TRADE AGREEMENTS

Israel is a member of the United Nations, the International Monetary Fund, the
International Bank for Reconstruction and Development and the International
Finance Corporation. Israel is also a signatory to the General Agreement on
Tariffs and Trade, which provides for reciprocal lowering of trade barriers
among its members. In addition, Israel has been granted preferences under the
Generalized System of Preferences from Australia, Canada and Japan. These
preferences allow Israel to export the products covered by such programs either
duty-free or at reduced tariffs.

Israel has entered into preferential trade agreements with the European Union,
the United States and the European Free Trade Association. In recent years,
Israel has established commercial and trade relations with a number of the other
nations, including Russia, China and India, with which Israel had not previously
had such relations.

ASSISTANCE FROM THE UNITED STATES

Israel receives significant amounts of economic and military assistance from the
United States, averaging approximately $3 billion annually over the last several
years. In addition, in 1992, the United States approved the issuance of up to
$10 billion of loan guarantees during U.S. fiscal years 1993 to 1998 to help
Israel absorb a large influx of new immigrants, primarily from the republics of
the former Soviet Union. Under the loan guarantee program, Israel may issue up
to $2 billion in principal amount of guaranteed loans each year, subject to
reduction in certain circumstances. There is no assurance that foreign aid from
the United States will continue at or near amounts received in the past. If the
grants for economic and military assistance or the United States loan guarantees
are eliminated or reduced significantly, the Israeli economy could suffer
material adverse consequences.

76
<PAGE> 79

UNDERWRITING

The underwriters named below, for whom U.S. Bancorp Piper Jaffray, Prudential
Securities Incorporated and Warburg Dillon Read LLC, a subsidiary of UBS AG, are
acting as representatives, have agreed to buy, subject to the terms of the
underwriting agreement, the number of shares listed opposite their names below.
The underwriters are committed to purchase and pay for all of the shares if any
are purchased, other than those shares covered by the over-allotment option
described below.

<TABLE>
<CAPTION>
UNDERWRITER NUMBER OF SHARES
----------- ----------------
<S> <C>
U.S. Bancorp Piper Jaffray Inc. ............................ 837,000
Prudential Securities Incorporated.......................... 651,000
Warburg Dillon Read LLC, a subsidiary of UBS AG............. 372,000
Banc of America Securities LLC.............................. 120,000
BancBoston Robertson Stephens Inc. ......................... 120,000
Deutsche Bank Securities Inc................................ 120,000
CIBC Oppenheimer Corp. ..................................... 120,000
Donaldson, Lufkin & Jenrette Securities..................... 120,000
Hambrecht & Quist LLC....................................... 120,000
William Blair & Company, L.L.C.............................. 60,000
Dain Rauscher Wessels....................................... 60,000
First Albany Corporation.................................... 60,000
Raymond James & Associates, Inc. ........................... 60,000
SoundView Technology Group, Inc............................. 60,000
Volpe Brown Whelan & Company, LLC........................... 60,000
Nessuah Zannex Ltd.......................................... 60,000
---------
Total............................................. 3,000,000
</TABLE>

The underwriters have advised us that they propose to offer the shares to the
public at $16.00 per share. The underwriters propose to offer the shares to
certain dealers at the same price less a concession of not more than $1.12 per
share. The underwriters may allow and the dealers may reallow a concession of
not more than $0.10 per share on sales to certain other brokers and dealers.
After the offering, these figures may be changed by the representatives.

Of the 3,000,000 ordinary shares offered by us, up to 150,000 shares will be
reserved for sale to persons designated by us. Shares not sold to these persons
will be reoffered immediately by the underwriters to the public at the initial
public offering price. The underwriters do not intend to confirm sales to any
accounts over which they exercise discretionary authority.

We have granted to the underwriters an option to purchase up to an additional
450,000 ordinary shares from us at the same price to the public, and with the
same underwriting discount, as set forth above. The underwriters may exercise
this option any time during the 30-day period after the date of this prospectus,
but only to cover over-allotments, if any. To the extent the underwriters
exercise the option, each underwriter will become obligated, subject to certain
conditions, to purchase approximately the same percentage of the additional
shares as it was obligated to purchase under the underwriting agreement.

The following table shows the underwriting fees to be paid by us to the
underwriters and the expenses to be paid by us in connection with this offering.
These amounts are shown assuming both no exercise and full exercise of the
over-allotment option.

<TABLE>
<CAPTION>
TOTAL
---------------------------
PER SHARE NO EXERCISE FULL EXERCISE
--------- ----------- -------------
<S> <C> <C> <C>
Underwriting discounts and commissions....... $1.12 $3,360,000 $3,864,000
</TABLE>

In addition, CommTouch will pay offering expenses estimated to total $2,430,000.

77
<PAGE> 80

We have agreed to indemnify the underwriters against certain liabilities,
including civil liabilities under the Securities Act, or to contribute to
payments that the underwriters may be required to make in respect of those
liabilities.

We and each of our directors, executive officers, principal shareholders and
optionholders have agreed to certain restrictions on our ability to sell
additional ordinary shares for a period of 180 days after the date of this
prospectus. We have agreed not to directly or indirectly offer, pledge, sell,
offer to sell, contract to sell, sell any option or contract to purchase,
purchase any option to sell, or otherwise transfer or dispose of, directly or
indirectly, any ordinary shares, or any securities convertible into, or
exercisable or exchangeable for, ordinary shares, without the prior written
consent of U.S. Bancorp Piper Jaffray. The agreements provide exceptions for our
sales in connection with the exercise of options granted and the granting of
options to purchase shares under our existing stock option plans and certain
other exceptions. However, U.S. Bancorp Piper Jaffray may, in its sole
discretion and at any time without notice, release all or any portion of the
securities subject to the lock-up agreements. As of the date of this prospectus,
there are no agreements between the representatives and any of our shareholders
providing consent by the representatives to the sales of ordinary shares prior
to the expiration of the lock-up period.

Prior to the offering, there has been no established trading market for the
ordinary shares. The initial public offering price for the ordinary shares
offered by this prospectus was negotiated by us and the underwriters. The
factors considered in determining the initial public offering price include the
history of and the prospects for the industry in which we compete, our past and
present operations, our historical results of operations, our prospects for
future earnings, the recent market prices of securities of generally comparable
companies and the general condition of the securities markets at the time of the
offering and other relevant factors. There can be no assurance that the initial
public offering price of the ordinary shares will correspond to the price at
which the ordinary shares will trade in the public market subsequent to this
offering or that an active public market for the ordinary shares will develop
and continue after this offering.

To facilitate the offering, the underwriters may engage in transactions that
stabilize, maintain or otherwise affect the price of the ordinary shares during
and after the offering. Specifically, the underwriters may over-allot or
otherwise create a short position in the ordinary shares for their own account
by selling more ordinary shares than have been sold to them by us. The
underwriters may elect to cover any such short position by purchasing ordinary
shares in the open market or by exercising the over-allotment option granted to
the underwriters. In addition, the underwriters may stabilize or maintain the
price of the ordinary shares by bidding for or purchasing ordinary shares in the
open market and may impose penalty bids. If penalty bids are imposed, selling
concessions allowed to syndicate members or other broker-dealers participating
in the offering are reclaimed if ordinary shares previously distributed in the
offering are repurchased, whether in connection with stabilization transactions
or otherwise. The effect of these transactions may be to stabilize or maintain
the market price of the ordinary shares at a level above that which might
otherwise prevail in the open market. The imposition of a penalty bid may also
effect the price of the ordinary shares to the extent that it discourages
resales of the ordinary shares. The magnitude or effect of any stabilization or
other transactions is uncertain. These transactions may be effected on the
Nasdaq National Market or otherwise and, if commenced, may be discontinued at
any time.

The underwriters will receive no underwriting discounts or commissions for the
sale to Go2Net of approximately 896,057 unregistered shares and the sale to
Vulcan Ventures of approximately 448,029 unregistered shares in the private
placement taking place concurrently with this offering. Go2Net and CommTouch are
also entering into a private label email service agreement. In connection with
that agreement, Go2Net will receive warrants to purchase 1,136,000 ordinary
shares at $12.80 per share, unless that price is otherwise adjusted as provided
in the warrant agreement between Go2Net and CommTouch. U.S. Bancorp Piper
Jaffray will receive an advisory fee of $550,000 from CommTouch for investment
banking advisory services in relation to the transactions with Go2Net and Vulcan
Ventures.

78
<PAGE> 81

LEGAL MATTERS

Certain legal matters with respect to United States law are being passed upon
for CommTouch by McCutchen, Doyle, Brown & Enersen, LLP, Palo Alto, California.
The validity of the ordinary shares offered hereby is being passed upon for
CommTouch by Naschitz, Brandes & Co., Tel-Aviv, Israel. Certain legal matters in
connection with this offering will be passed upon for the underwriters by Wilson
Sonsini Goodrich & Rosati, Professional Corporation, Palo Alto, California, with
respect to United States law, and by Yigal Arnon & Co., Tel-Aviv, Israel, with
respect to Israeli law. The partners of McCutchen, Doyle, Brown & Enersen, LLP,
beneficially own an aggregate of 13,840 ordinary shares.

EXPERTS

The consolidated financial statements of CommTouch Software Ltd. as of December
31, 1997 and 1998 and for each of the three years in the period ended December
31, 1998 appearing in this prospectus and Registration Statement have been
audited by Kost, Forer & Gabbay, a member of Ernst & Young International,
independent auditors, as set forth in their report thereon appearing elsewhere
herein and are included in reliance upon such report given on the authority of
such firm as experts in auditing and accounting.

ISA EXEMPTION

The Israel Securities Authority has granted CommTouch an exemption from the
obligation to publish this prospectus in the manner required pursuant to the
prevailing laws of the State of Israel, and from the obligation to file periodic
reports with the Israel Securities Authority. CommTouch will make a copy of each
report filed in accordance with United States law available for public review at
its principal office in Israel.

WHERE YOU CAN FIND MORE INFORMATION

We have filed a registration statement on Form F-1 with the SEC for the shares
we are offering by this prospectus. This prospectus does not include all of the
information contained in the registration statement. You should refer to the
registration statement and its exhibits for additional information. Whenever we
make reference in this prospectus to any of our contracts, agreements or other
documents, the references are not necessarily complete and you should refer to
the exhibits attached to the registration statement for copies of the actual
contract, agreement or other document. When we complete this offering, we will
also be required to file annual, quarterly and special reports and other
information with the SEC.

You can read our SEC filings, including the registration statement, over the
Internet at the SEC's web site at http://www.sec.gov. You may also read and copy
any document we file with the SEC at its public reference facilities at 450
Fifth Street, NW, Washington, DC 20549, 7 World Trade Center, Suite 1300, New
York, New York 10048 and Citicorp Center, 500 West Madison Street, Suite 1400,
Chicago, Illinois 60661-2511. You may also obtain copies of the documents at
prescribed rates by writing to the Public Reference Section of the SEC at 450
Fifth Street, NW, Washington, DC 20549. Please call the SEC at 1-800-SEC-0330
for further information on the operation of the public reference facilities. Our
SEC filings are also available at the office of the Nasdaq National Market. For
further information on obtaining copies of our public filings at the Nasdaq
National Market, you should call (212) 656-5060. Information contained on the
CommTouch websites does not constitute part of this prospectus.

After the offering, we will become subject to certain of the informational
requirements of the Securities Exchange Act of 1934, as amended (the Exchange
Act). We, as a "foreign private issuer," are exempt from the rules under the
Exchange Act prescribing certain disclosure and procedural requirements for
proxy solicitations and our officers, directors and principal shareholders are
exempt from the reporting and "short-swing" profit recovery provisions contained
in Section 16 of the Exchange Act, with respect to their

79
<PAGE> 82

purchases and sales of ordinary shares. In addition, we are not required to file
annual, quarterly and current reports and financial statements with the
Securities and Exchange Commission as frequently or as promptly as U.S.
companies whose securities are registered under the Exchange Act. However, we
intend to file with the Securities and Exchange Commission, within 180 days
after the end of each fiscal year, an annual report on Form 20-F containing
financial statements that will be examined and reported on, with an opinion
expressed by an independent accounting firm, as well as quarterly reports on
Form 6-K containing unaudited financial information for the first three quarters
of each fiscal year, within 60 days after the end of each such quarter.

ENFORCEABILITY OF CIVIL LIABILITIES

We are incorporated in Israel, and most of our directors and many of the
executive officers and the Israeli experts named herein are not residents of the
United States and substantially all of their assets and our assets are located
outside the United States. Service of process upon our non-U.S. resident
directors and executive officers or the Israeli experts named herein and
enforcement of judgments obtained in the United States against us, and our
directors and executive officers, or the Israeli experts named herein, may be
difficult to obtain within the United States. CommTouch Software Inc. is the
U.S. agent authorized to receive service of process in any action against us
arising out of this offering or any related purchase or sale of securities. We
have not given consent for this agent to accept service of process in connection
with any other claim.

We have been informed by our legal counsel in Israel, Naschitz, Brandes & Co.,
that there is doubt as to the enforceability of civil liabilities under the
Securities Act or the Exchange Act in original actions instituted in Israel.
However, subject to certain time limitations, an Israeli court may declare a
foreign civil judgment enforceable if it finds that:

- the judgment was rendered by a court which was, according to the laws of
the state of the court, competent to render the judgment,

- the judgment is no longer appealable,

- the obligation imposed by the judgment is enforceable according to the
rules relating to the enforceability of judgments in Israel and the
substance of the judgment is not contrary to public policy, and

- the judgment is executory in the state in which it was given.

Even if the above conditions are satisfied, an Israeli court will not enforce a
foreign judgment if it was given in a state whose laws do not provide for the
enforcement of judgments of Israeli courts (subject to exceptional cases) or if
its enforcement is likely to prejudice the sovereignty or security of the State
of Israel. An Israeli court also will not declare a foreign judgment enforceable
if (i) the judgment was obtained by fraud, (ii) there was no due process, (iii)
the judgment was rendered by a court not competent to render it according to the
laws of private international law in Israel, (iv) the judgment is at variance
with another judgment that was given in the same matter between the same parties
and which is still valid, or (v) at the time the action was brought in the
foreign court a suit in the same matter and between the same parties was pending
before a court or tribunal in Israel. Judgments rendered or enforced by Israeli
courts will generally be payable in Israeli currency. Judgment debtors bear the
risk associated with converting their awards into foreign currency, including
the risk of unfavorable exchange rates.

80
<PAGE> 83

COMMTOUCH SOFTWARE LTD.

CONSOLIDATED FINANCIAL STATEMENTS AS OF MARCH 31, 1999
IN U.S. DOLLARS

INDEX

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Auditors.............................. F-2
Consolidated Balance Sheets................................. F-3
Consolidated Statements of Operations....................... F-4
Consolidated Statement of Changes in Shareholders' Equity
(Deficit)................................................. F-5
Consolidated Statements of Cash Flows....................... F-6
Notes to Consolidated Financial Statements.................. F-7
</TABLE>

F-1
<PAGE> 84

REPORT OF INDEPENDENT AUDITORS

To the Shareholders of
COMMTOUCH SOFTWARE LTD.

We have audited the accompanying consolidated balance sheets of CommTouch
Software Ltd. and its subsidiary as of December 31, 1997 and 1998, and the
related consolidated statements of operations, changes in shareholders' equity
(deficit), and cash flows for each of the three years in the period ended
December 31, 1998. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards, in the United States. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by the Company's management, as well as evaluating
the overall financial statement presentation. We believe that our audits provide
a reasonable basis for our opinion.

In our opinion, the consolidated financial statements, referred to above,
present fairly, in all material respects, the consolidated financial position of
CommTouch Software Ltd. and its subsidiary as of December 31, 1997 and 1998, and
the consolidated results of their operations, and their cash flows for each of
the three years in the period ended December 31, 1998, in conformity with
generally accepted accounting principles in the United States.

Tel-Aviv, Israel
March 15, 1999
(Except for Note 11, as to which the date is July 12, 1999)

<TABLE>
<S> <C>
Tel-Aviv, Israel /s/ Kost, Forer & Gabbay
KOST, FORER & GABBAY
A member of Ernst & Young International
</TABLE>

F-2
<PAGE> 85

COMMTOUCH SOFTWARE LTD.

CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

<TABLE>
<CAPTION>
PRO FORMA
SHAREHOLDERS'
DECEMBER 31, EQUITY AS OF
----------------- MARCH 31, MARCH 31,
1997 1998 1999 1999
------ -------- ------------ -------------
(UNAUDITED)
<S> <C> <C> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents.......................... $ 324 $ 834 $ 3,226
Trade receivables.................................. 49 133 321
Prepaid expenses................................... 13 96 375
Government authorities............................. 38 45 61
Other accounts receivable.......................... 29 103 93
------ -------- --------
Total current assets....................... 453 1,211 4,076
Severance Pay Fund................................... 214 223 240
Property and Equipment, net.......................... 398 932 1,709
------ -------- --------
$1,065 $ 2,366 $ 6,025
====== ======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current Liabilities:
Short-term bank line of credit..................... $ 733 $ 1,328 $ 1,086
Current portion of bank loans and capital leases... 66 112 118
Trade payables..................................... 355 446 464
Employees and payroll accruals..................... 252 313 303
Government authorities............................. 232 246 274
Deferred revenue................................... -- 74 132
Other liabilities.................................. 79 132 281
------ -------- --------
Total current liabilities.................. 1,717 2,651 2,658
------ -------- --------
Long-term Portion of Bank Loans and Capital Leases... 28 164 133
Accrued Severance Pay................................ 338 366 427
------ -------- --------
366 530 560
------ -------- --------
Commitments and Contingent Liabilities...............
Shareholders' Equity (Deficit)
Convertible Preferred shares --
Series A, B and C Convertible Preferred
Shares -- Authorized: 565,820 shares of NIS 1
par value; Issued and outstanding: 183,637,
221,265 and 313,409 shares as of December 31,
1997, 1998 and March 31, 1999, respectively;
Aggregate liquidation preference of
approximately $13,200 and $23,200 as of
December 31, 1998 and March 31, 1999
(unaudited), respectively; Issued and
outstanding pro forma: no shares as of March
31, 1999...................................... 63 74 96 --
Ordinary Shares --
Authorized: 12,000,000, 11,515,000 and
10,683,600 shares of NIS 0.05 par value as of
December 31, 1997 and 1998 and March 31, 1999,
respectively; Issued and outstanding:
1,450,040 shares as of December 31, 1997, 1998
and 2,148,320 shares as of March 31, 1999,
respectively; Issued and outstanding pro
forma: 8,416,500 shares as of March 31,
1999.......................................... 27 27 35 131
Additional Paid-in Capital........................... 6,295 11,256 24,910 24,910
Stock-Based Employee Deferred Compensation........... -- (418) (7,282) (7,282)
Notes Receivable from Shareholders................... (77) (77) (964) (964)
Accumulated Deficit.................................. (7,326) (11,677) (13,988) (13,988)
------ -------- -------- --------
Total Shareholders' Equity (Deficit)....... (1,018) (815) 2,807 $ 2,807
------ -------- -------- --------
$1,065 $ 2,366 $ 6,025
====== ======== ========
</TABLE>

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

F-3
<PAGE> 86

COMMTOUCH SOFTWARE LTD.

CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
--------------------------- -------------------
1996 1997 1998 1998 1999
------- ------- ------- ------- --------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Revenues:
Email Services.............................. $ -- $ -- $ 389 $ 32 $ 346
Software licenses........................... 2,641 711 -- -- --
Software maintenance and services........... 493 188 -- -- --
------- ------- ------- ------ -------
Total revenue....................... 3,134 899 389 32 346
------- ------- ------- ------ -------
Cost of revenues:
Email Services.............................. -- -- 569 59 405
Software licenses........................... 79 21 -- -- --
Software maintenance and services........... 384 144 -- -- --
------- ------- ------- ------ -------
Total cost of revenues.............. 463 165 569 59 405
------- ------- ------- ------ -------
Gross profit (loss)........................... 2,671 734 (180) (27) (59)
------- ------- ------- ------ -------
Operating expenses:
Research and development, net............... 1,479 1,108 1,149 266 307
Sales and marketing......................... 1,965 2,202 2,001 459 481
General and administrative.................. 465 829 604 138 807
Amortization of stock-based employee
deferred compensation.................... -- -- 91 2 386
------- ------- ------- ------ -------
Total operating expenses............ 3,908 4,139 3,845 865 1,981
------- ------- ------- ------ -------
Operating loss................................ (1,237) (3,405) (4,025) (892) (2,040)
Interest expense and other, net............... (45) (68) (326) (27) (271)
------- ------- ------- ------ -------
Net loss...................................... $(1,282) $(3,473) $(4,351) $ (919) $(2,311)
======= ======= ======= ====== =======
Basic and diluted net loss per share.......... $ (0.66) $ (2.40) $ (3.00) $(0.63) $ (1.50)
======= ======= ======= ====== =======
Weighted average number of shares used in
computing basic and diluted net loss per
share....................................... 1,934 1,450 1,450 1,450 1,546
======= ======= ======= ====== =======
Pro forma basic and diluted net loss per share
(unaudited)................................. $ (0.78) $ (0.32)
======= =======
Weighted average number of shares used in
computing pro forma basic and diluted net
loss per share (unaudited).................. 5,594 7,313
======= =======
</TABLE>

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

F-4
<PAGE> 87

COMMTOUCH SOFTWARE LTD.

CONSOLIDATED STATEMENT OF
CHANGES IN SHAREHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
CONVERTIBLE STOCK-BASED
PREFERRED SHARES ORDINARY SHARES ADDITIONAL EMPLOYEE
---------------- ------------------- PAID-IN DEFERRED NOTES
SHARES AMOUNT SHARES AMOUNT CAPITAL COMPENSATION RECEIVABLE
------- ------ ---------- ------ ---------- ------------ ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance as of January 1, 1996........... -- $-- 3,372,760 $ 63 $ 1,935 $ -- $ (77)
Conversion of Ordinary shares into
Convertible Preferred shares........ 97,878 36 (1,922,720) (36) -- -- --
Issuance of shares.................... 62,438 20 -- -- 2,689 -- --
Net loss.............................. -- -- -- -- -- -- --
------- --- ---------- ---- ------- ------- -----
Balance as of December 31, 1996......... 160,316 56 1,450,040 27 4,624 -- (77)
Issuance of shares.................... 23,321 7 -- -- 1,625 -- --
Warrants issued for services received
and bank line of credit............. -- -- -- -- 46 -- --
Net loss.............................. -- -- -- -- -- -- --
------- --- ---------- ---- ------- ------- -----
Balance as of December 31, 1997......... 183,637 63 1,450,040 27 6,295 -- (77)
Issuance of shares.................... 37,628 11 -- -- 4,061 -- --
Warrants issued for services received
and bank line of credit............. -- -- -- -- 391 -- --
Deferred compensation related to
options issued to employees......... -- -- -- -- 509 (509) --
Amortization of deferred
compensation........................ -- -- -- -- -- 91 --
Net loss.............................. -- -- -- -- -- -- --
------- --- ---------- ---- ------- ------- -----
Balance as of December 31, 1998......... 221,265 74 1,450,040 27 11,256 (418) (77)
------- --- ---------- ---- ------- ------- -----
Issuance of shares (unaudited)........ 92,144 22 -- -- 5,270 -- --
Issuance of shares upon exercise of
warrants (unaudited)................ -- -- 35,600 * -- -- --
Ordinary shares issued for notes
receivable (unaudited).............. -- -- 662,680 8 879 -- (887)
Warrants issued for services and bank
line of credit (unaudited).......... -- -- -- -- 255 -- --
Deferred compensation related to
options issued to employees
(unaudited)......................... -- -- -- -- 7,250 (7,250) --
Amortization of deferred
compensation........................ -- -- -- -- -- 386 --
Net loss (unaudited).................. -- -- -- -- -- -- --
------- --- ---------- ---- ------- ------- -----
Balance as of March 31, 1999
(unaudited)........................... 313,409 $96 2,148,320 $ 35 $24,910 $(7,282) $(964)
======= === ========== ==== ======= ======= =====

ACCUMULATED
DEFICIT TOTAL
----------- -------
<S> <C> <C>
Balance as of January 1, 1996........... $ (2,571) $ (650)
Conversion of Ordinary shares into
Convertible Preferred shares........ -- --
Issuance of shares.................... -- 2,709
Net loss.............................. (1,282) (1,282)
-------- -------
Balance as of December 31, 1996......... (3,853) 777
Issuance of shares.................... -- 1,632
Warrants issued for services received
and bank line of credit............. -- 46
Net loss.............................. (3,473) (3,473)
-------- -------
Balance as of December 31, 1997......... (7,326) (1,018)
Issuance of shares.................... -- 4,072
Warrants issued for services received
and bank line of credit............. -- 391
Deferred compensation related to
options issued to employees......... -- --
Amortization of deferred
compensation........................ -- 91
Net loss.............................. (4,351) (4,351)
-------- -------
Balance as of December 31, 1998......... (11,677) (815)
-------- -------
Issuance of shares (unaudited)........ -- 5,292
Issuance of shares upon exercise of
warrants (unaudited)................ * --
Ordinary shares issued for notes
receivable (unaudited).............. -- --
Warrants issued for services and bank
line of credit (unaudited).......... -- 255
Deferred compensation related to
options issued to employees
(unaudited)......................... -- --
Amortization of deferred
compensation........................ -- 386
Net loss (unaudited).................. $ (2,311) $(2,311)
-------- -------
Balance as of March 31, 1999
(unaudited)........................... $(13,988) $ 2,807
======== =======
</TABLE>

- ----------------
* Represents amount less than one thousand dollars

The accompanying notes are an integral part of these consolidated financial
statements.
F-5
<PAGE> 88

COMMTOUCH SOFTWARE LTD.

CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)

<TABLE>
<CAPTION>
THREE MONTHS
ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
--------------------------- ---------------
1996 1997 1998 1998 1999
------- ------- ------- ----- -------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss......................................... $(1,282) $(3,473) $(4,351) $(918) $(2,311)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization................. 303 206 236 44 173
Amortization of stock-based employee deferred
compensation and warrants issued for service
received and bank line of credit............ -- 46 482 34 641
Decrease (increase) in trade receivables...... (509) 738 (84) (16) (188)
Decrease (increase) in other accounts
receivable and prepaid expenses............. (61) 14 (164) (27) (285)
Increase (decrease) in trade payables......... 181 99 91 (176) 18
Increase (decrease) in other liabilities...... 27 (147) 128 42 167
Increase in deferred revenue.................. -- -- 74 25 58
Increase (decrease) in accrued severance pay,
net......................................... 28 (54) 19 (3) 44
Other......................................... 8 -- -- -- --
------- ------- ------- ----- -------
Net cash used in operating activities....... (1,305) (2,571) (3,569) (995) (1,683)
------- ------- ------- ----- -------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment............... (427) (93) (442) (57) (950)
------- ------- ------- ----- -------
Net cash used in investing activities....... (427) (93) (442) (57) (950)
------- ------- ------- ----- -------
CASH FLOWS FROM FINANCING ACTIVITIES:
Short-term bank line of credit, net.............. (157) 733 595 78 (242)
Short-term shareholders' loans................... (121) -- -- -- --
Principal payment of bank loans.................. (63) (67) (94) (12) --
Payment of capital lease......................... -- -- (52) -- (25)
Proceeds from issuance of shares................. 2,709 1,632 4,072 760 5,292
------- ------- ------- ----- -------
Net cash provided by financing activities... 2,368 2,298 4,521 826 5,025
------- ------- ------- ----- -------
Increase (decrease) in cash and cash equivalents... 636 (366) 510 (226) 2,392
Cash and cash equivalents at the beginning of the
period........................................ 54 690 324 324 834
------- ------- ------- ----- -------
Cash and cash equivalents at the end of the
period........................................... $ 690 $ 324 $ 834 $ 98 $ 3,226
======= ======= ======= ===== =======
SUPPLEMENTAL DISCLOSURE OF CASH FLOWS ACTIVITY:
Cash paid during the year:
Interest........................................... $ 10 $ 48 $ 97 $ 5 $ 33
======= ======= ======= ===== =======
SUPPLEMENTAL DISCLOSURE OF NON-CASH ACTIVITIES:
Capital lease obligations........................ $ -- $ -- $ 328 $ -- $ --
======= ======= ======= ===== =======
Ordinary shares issued for notes receivable from
shareholders.................................. $ -- $ -- $ -- $ -- $ 887
======= ======= ======= ===== =======
</TABLE>

The accompanying notes are an integral part of these consolidated financial
statements.
F-6
<PAGE> 89

COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

CommTouch Software Ltd. (the "Company" or "CommTouch") was incorporated under
the laws of Israel in 1991. The Company, together with its United States
subsidiary, CommTouch Software Inc., ("CSI") a California corporation, is a
provider of Web-based email and communications solutions to business partners
(customers) who in turn offer those solutions to their end-users. From inception
through 1997, the Company generated revenues primarily from sale maintenance and
service of stand-alone email client software products for both mainframe and
personal computers. From 1998, the Company began to generate revenues by
providing email services to its business partners. Email service revenues are
derived from contracts that provide for a minimum service commitment fee,
revenue sharing from advertising, direct marketing and communications services,
and a per emailbox fee.

Revenues derived from the Company's largest business partner represent 54% of
the Company's revenues in 1998.

In 1998, a majority of the Company's sales were made in Europe, the Far East and
North America.

The consolidated financial statements have been prepared in accordance with
generally accepted accounting policies in the United States, and include the
accounts of the Company and its wholly-owned subsidiary. Intercompany
transactions and balances have been eliminated.

The majority of the Company's sales are made in U.S. dollars ("dollars"). In
addition, a substantial portion of the Company's costs are incurred in dollars.
Since the dollar is the primary currency of the economic environment in which
the Company operates, the dollar is its functional and reporting currency. Non
dollar transactions and balances have been remeasured using the foreign exchange
rate at the balance sheet date. Operational accounts and non-monetary balance
sheet accounts are measured and recorded at the rate in effect at the date of
the transaction. The effects of foreign currency remeasurement are reported in
the statements of operations.

Use of Estimates:

The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from those
estimates.

Cash and Cash Equivalents:

The Company considers all highly liquid investments originally purchased with
maturities of three months or less to be cash equivalents.

Property and Equipment:

Property and equipment are stated at cost and depreciated using the straight
line method over the estimated useful lives of the assets ranging from three to
seven years. Leasehold improvements are amortized on a straight line basis over
the lease term.

The Company periodically assesses the recoverability of the carrying amount of
property and equipment and provides for any possible impairment loss based upon
the difference between the carrying amount and fair value of such assets. As of
December 31, 1998, no impairment losses have been identified.

F-7
<PAGE> 90
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Research and Development:

Research and development costs are charged to the statement of operations as
incurred. Statement of Financial Accounting Standards Board No. 86 "Accounting
for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed",
requires capitalization of certain software development costs subsequent to the
establishment of technological feasibility.

Based on the Company's product development process, technological feasibility is
established upon completion of a working model. The Company does not incur any
costs between the completion of the working model and the point at which the
product is ready for general release. Therefore, through December 31, 1998, the
Company has charged all software development costs to research and development
expense in the period incurred.

Revenue Recognition:

Commencing 1998, the Company derives its revenues from providing web-based email
services. Revenues from contracts that are not dependent upon the number of
mailboxes and provide non-refundable fixed payments are recognized ratably over
the contract term. Revenues from contracts specifying a contractual rate per
mailbox per month are recognized monthly for mailboxes covered by the respective
contracts. Revenues from contracts based on a share of advertising revenues
earned by business partners are recognized when such revenues are earned.
Revenues from set up and installation fees are recognized upon installation.
Amounts billed or received in advance of service delivery are recorded as
deferred revenue.

Revenues from software products sales which occurred through 1997 were
recognized upon delivery of the software master for reproduction and
distribution, provided no significant vendor obligations remained, and
collection of the related receivable was probable in accordance with Statement
of Position 91-1.

Royalty-Bearing Grants:

Royalty-bearing grants from the Government of Israel for funding approved
research and development projects are recognized at the time the Company is
entitled to such grants, when expenses under such approved projects are
incurred. Development grants amounted to none in 1996, $288,000 in 1997 and none
in 1998.

Concentrations of Credit Risk:

Financial instruments that potentially subject the Company to concentrations of
credit risk consist principally of trade receivables and cash equivalents. The
majority of the Company's cash and cash equivalents are invested in dollar and
dollar linked investments and are deposited in major banks in Israel and in the
United States. Management believes that the financial institutions that hold the
Company's investments are financially sound and, accordingly, minimal credit
risk exists with respect to these investments.

The Company's trade receivables are derived from sales to customers located
primarily in Europe, the Far East and North America. The Company performs
ongoing credit evaluations of its customers. In 1997, the Company wrote off
approximately $170,000 of account receivables due from one customer that were
derived from revenues recognized in 1996. The Company did not provide any
allowance for doubtful accounts in 1996 relating to this customer, as the
collection of the receivable was considered probable at the time. The amount was
generated from sales made in the fourth quarter of 1996 while previous sales
made to this customer under the same agreement were fully paid. The write off
was due to a controversy

F-8
<PAGE> 91
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

on the client's demand to change the original agreement terms and in light of
the Company's decision to cease sales of software products in 1997. All other
accounts receivable derived from sales of software products prior to 1998 have
been fully paid. The Company has not had any bad debts for any fiscal year
presented excluding the above $170,000. Based on its historical experience the
Company did not provide an allowance for doubtful accounts for all periods
presented.

Accounting for Stock-Based Compensation:

The Company has elected to follow Accounting Principles Board Opinion No. 25
("APB 25"), "Accounting for Stock Issued to Employees", in accounting for its
employee stock option plans. Under APB 25, when the exercise price of the
Company's stock options equals or is above the market value of the underlying
stock on the date of grant, no compensation expense is recognized.

In accounting for warrants granted to other than employees, the provisions of
Statement of Financial Accounting Standard Board ("SFAS") No. 123, "Accounting
for Stock based Compensation" were applied.

Basic and Diluted Loss Per Share:

Basic and diluted net loss per share are presented in accordance with SFAS No.
128, "Earnings per Share" ("SFAS 128"), for all periods presented.

Basic net loss per share has been computed using the weighted-average number of
ordinary shares outstanding during the period. Diluted net loss per share is
computed based on the weighted average number of ordinary shares outstanding
during each year, plus the weighted average number of dilutive potential
ordinary shares considered outstanding during the year. Basic and diluted pro
forma net loss per share, as presented in the statements of operations, have
been computed as described above and also give effect to the automatic
conversion of the Convertible Preferred shares that will convert upon the
closing of an initial public offering (using the as-if converted method from
original date of issuance).

All convertible preferred shares, outstanding stock options, and warrants have
been excluded from the calculation of the diluted loss per share because all
such securities are antidilutive for all periods presented. The total number of
shares related to the outstanding options and warrants excluded from the
calculations of diluted net loss per share were 734,980, 911,680 and 1,236,100
for the years ended December 31, 1996, 1997 and 1998.

Unaudited Pro Forma Shareholders' Equity (Deficit)

If the offering contemplated by this Prospectus is consummated, all of the
convertible preferred stock outstanding will automatically be converted into
ordinary shares. Unaudited pro forma shareholders' equity at March 31, 1999, as
adjusted for the assumed conversion of those shares outstanding at March 31,
1999 is disclosed on the balance sheet.

Comprehensive Income:

As of January 1, 1998, the Company adopted SFAS No. 130, "Reporting
Comprehensive Income ("SFAS 130")." SFAS 130 establishes new rules for the
reporting and display of comprehensive income and its components, however, the
adoption of this Statement had no impact on the financial statements, as the
Company had no items of other comprehensive income in any period presented.

F-9
<PAGE> 92
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Severance Pay:

The Company's liability for severance pay is calculated pursuant to Israeli
severance pay law based on the most recent salary of the employees multiplied by
the number of years of employment as of the balance sheet date. Employees are
entitled to one month's salary for each year of employment or a portion thereof.
The Company's liability for all of its employees, is fully provided by monthly
deposits with severance pay funds insurance policies and by an accrual.

The deposited funds include profits accumulated up to the balance sheet date.
The deposited funds may be withdrawn only upon the fulfillment of the obligation
pursuant to Israeli severance pay law or labor agreements. The value of the
deposited funds are based on the cash surrendered value of these policies, and
include immaterial profits.

Fair Value of Financial Instruments:

The following methods and assumptions were used by the Company in estimating its
fair value disclosures for financial instruments:

Cash and cash equivalents -- The carrying amounts of these items approximate
their fair value due to the short-term maturity of such instruments.

Short-term bank credit, long-term bank loans and capital leases -- The carrying
amounts of the Company's borrowing arrangements approximate their fair value.
Fair values were estimated using discounted cash flow analyses, based on the
Company's incremental borrowing rates for similar types of borrowing
arrangements.

Impact of Recently Issued Accounting Standards:

In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"). The Company is required to
adopt SFAS 133 for the year ending December 31, 2000. SFAS 133 establishes
methods of accounting for derivative financial instruments and hedging
activities. Because the Company currently holds no derivative financial
instruments as defined by SFAS 133 and does not currently engage in hedging
activities, adoption of SFAS 133 is expected to have no material effect on the
Company's financial condition and results of operations.

Unaudited Information:

The financial statements include the unaudited consolidated balance sheets and
the related consolidated statements of operations, changes in shareholders
equity (deficit) and cash flows for the three months ended March 31, 1999. This
unaudited information has been prepared by the Company on the same basis as the
audited consolidated financial statements and, in management's opinion, reflects
all adjustments (consisting only of normal recurring accruals) necessary for a
fair presentation of the financial information, in accordance with generally
accepted accounting principles, for the period presented. Results for interim
periods are not necessarily indicative of the results to be expected for the
entire year.

F-10
<PAGE> 93
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

2. PROPERTY AND EQUIPMENT

<TABLE>
<CAPTION>
DECEMBER 31,
--------------
1997 1998
---- ------
(IN THOUSANDS)
<S> <C> <C>
Cost:
Computers and peripheral equipment........................ $518 $1,260
Office furniture and equipment............................ 85 90
Motor vehicles............................................ 103 118
Leasehold improvements.................................... 129 137
---- ------
835 1,605
Less accumulated depreciation............................... 437 673
---- ------
$398 $ 932
==== ======
</TABLE>

Computers and peripheral equipment under various capital lease agreements
amounted to approximately $328,000 and their accumulated depreciation amounted
to approximately $38,000 as of December 31, 1998.

Depreciation expenses amounted to approximately $137,000, $145,000, and $236,000
for the years ended December 31, 1996, 1997 and 1998, respectively.

3. SHORT-TERM BANK LINE OF CREDIT

As of December 31, 1998, the Company has an authorized line of credit in the
amount of $1,300,000 which was fully utilized. The credit line bears interest at
an annual rate of LIBOR + 3%. For overdrawn amounts in excess of the Company's
authorized line of credit, the Company is subject to an annual interest rate of
LIBOR + 8%.

Weighted average interest for 1997 and 1998 was LIBOR +3%.

In consideration of the line of credit, the bank is entitled to receive warrants
for ordinary shares at an exercise price equal to the par value subject to the
outstanding utilized line of credit per month (see Note 9).

As collateral for all the Company's liabilities to the bank, a floating charge
(security interest on all assets of the Company as they exist from time to time)
has been placed on all assets of the Company, and the Company's authorized share
capital, goodwill and insurance rights are pledged at fixed charges.

F-11
<PAGE> 94
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

4. LONG-TERM BANK LOANS AND CAPITAL LEASES

<TABLE>
<CAPTION>
DECEMBER 31,
---------------
1997 1998
----- ------
(IN THOUSANDS)
<S> <C> <C>
Bank loans -- Israeli CPI, interest rates range from
5.3% - 6.3%............................................... $ 64 $ --
Bank loans -- U.S. Dollar, interest rates range from
8.3% - 9.7%............................................... 30 --
Capital leases.............................................. -- 276
---- -----
94 276
Less current portion........................................ 66 112
---- -----
$ 28 $ 164
==== =====
</TABLE>

In 1998, the Company has repaid its Bank loans.

CSI has leased computers and peripheral equipment under various capital lease
agreements, with an option to purchase the equipment upon the expiration of the
initial lease term, for the fair market value prevailing at that time, not to
exceed 10% of the original cost of the equipment. The annual interest rate of
such capital leases ranges between 19.5% and 21.9%.

Future minimum lease commitments for the years ending December 31, are as
follows, in thousands:

<TABLE>
<S> <C>
1999........................................ $158
2000........................................ 136
2001........................................ 23
2002........................................ 23
2003........................................ 17
----
357
Less amount representing interest........... 81
----
$276
====
</TABLE>

5. ACCRUED SEVERANCE PAY

The Company's liability for severance pay, pursuant to Israeli law, is fully
provided. Part of the liability is funded through insurance policies which are
designated only for severance payments. The value of these policies is recorded
as an asset in the Company's balance sheet. Severance expenses for the years
ended December 31, 1996, 1997, and 1998, were approximately $105,000, $73,000
and $62,000, respectively.

6. COMMITMENTS AND CONTINGENT LIABILITIES

Operating Leases:

The facilities of the Company and CSI are leased under operating leases for
periods ending in 2005.

F-12
<PAGE> 95
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Future minimum lease commitments under non-cancelable operating leases for the
years ending December 31, are as follows, in thousands:

Rent expenses for the years ended December 31, 1996, 1997 and 1998 were
approximately $49,000, $55,000 and $56,000, respectively. CSI expanded its
facilities by entering into an additional office lease starting 1999, for which
the commitment is reflected above.

Royalties:

The Company is required to pay royalties on grants received from the Government
of Israel for research and development projects and marketing activities at the
rate of 3% - 5% of total revenues, up to an amount equal to 100% to 150% of the
original amount received linked to the dollar.

As of December 31, 1998, the Company had an outstanding contingent obligation to
pay royalties in the aggregate amount of $532,000.

7. RELATED PARTIES

During 1995, the Company issued ordinary shares to three of its directors in
exchange for notes receivables. The notes are linked to the Israeli CPI with no
additional interest and at December 31, 1998, the total amount outstanding was
approximately $77,000 to be repaid by December 31, 1999. These notes are
recorded as an offset to additional paid-in capital. The Company believes that
the terms under which these notes have been provided by the Company are as
favorable to those that could be agreed upon with an unaffiliated party.

8. INCOME TAXES

Israeli Income Tax:

The Company has been granted "Approved Enterprise" status in two separate
investment programs approved in 1993 and 1995 by the Israeli Government under
the Law for Encouragement of Capital Investments, 1959 ("the Law").

Undistributed Israeli income derived from each of its "Approved Enterprise"
programs entitle the Company to tax-exemption for a period of two years
commencing the first year it will earn taxable income (not commenced yet) and to
a reduced tax rate of 10% - 25% for an additional period of eight years
(depending on the level of foreign-investment in the Company). These tax
benefits, are subject to a limitation of the earlier of twelve years from
commencement of operation, or fourteen years from receipt of approval.
Thereafter, the Company's income will be subject to the regular income tax rate
of 36%.

The Company's first investment program commenced operation in 1995, while the
second program has not yet been completed.

F-13
<PAGE> 96
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

The tax exempt income attributable to the "Approved Enterprise" can be
distributed to shareholders without subjecting the Company to taxes only upon
the complete liquidation of the Company. The Company's board of directors has
determined that such tax exempt income will not be distributed as dividends.

Income from sources other than the "Approved Enterprise," during the benefit
period, will be subject to tax at regular corporate tax rates of 36%.

The Company is an "industrial company" under the Law for the Encouragement of
Industry (Taxation), 1969 and as such is entitled to certain tax benefits,
including accelerated rate of depreciation and deduction of public offering
expenses.

As of December 31, 1998, Israeli net operating loss carryforwards amounted to
approximately $5,700,000. Such net operating loss may be carried forward
indefinitely and offset against future taxable income. The Company expects that
during the period in which these tax losses are utilized its income would be
substantially tax exempt. Accordingly there will be no tax benefit available
from such losses and no deferred income taxes have been included in these
financial statements.

U.S. Income Tax:

As of December 31, 1998, CSI has U.S. federal net operating loss carryforwards
of approximately $4,700,000. The net operating loss expires in various amounts
between the years 2010 and 2016.

Utilization of U.S. net operating losses may be subject to the substantial
annual limitation due to the "change in ownership" provisions of the Internal
Revenue Code of 1986 and similar state provisions. The annual limitation may
result in the expiration of net operating losses before utilization.

Deferred Taxes:

Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax liabilities and assets are as follows:

<TABLE>
<CAPTION>
DECEMBER 31,
---------------
1997 1998
------ ------
(IN THOUSANDS)
<S> <C> <C>
Deferred tax assets:
U.S. operating loss carryforwards........................... $1,052 $1,656
Reserves and allowances not currently deductible............ 6 15
------ ------
Net deferred tax asset before valuation allowance........... 1,058 1,671
Valuation allowance......................................... (1,058) (1,671)
------ ------
Net deferred tax asset...................................... $ -- $ --
====== ======
</TABLE>

For the year ended December 31, 1998 the valuation allowance increased by
approximately $613,000. No utilization of CSI's tax losses carryforwards is
expected in the foreseeable future, because of its history of operating losses.
In 1996, 1997 and 1998, the Company provided a 100% valuation allowance against
the deferred tax assets in respect of these tax loss carryforward and other
temporary differences because of the uncertainty of realizing these deferred tax
assets.

F-14
<PAGE> 97
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Pretax loss:

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------
1996 1997 1998
------ ------ ------
(IN THOUSANDS)
<S> <C> <C> <C>
Domestic.................................................... $ 809 $1,602 $2,497
Foreign..................................................... 473 1,871 1,854
------ ------ ------
$1,282 $3,473 $4,351
====== ====== ======
</TABLE>

9. SHARE CAPITAL

Convertible Preferred Shares:

<TABLE>
<CAPTION>
NUMBER OF SHARES
------------------------------------------------------------------------------
DECEMBER 31, 1997 DECEMBER 31, 1998 MARCH 31, 1999
ORIGINAL ------------------------ ------------------------ ------------------------
ISSUANCE ISSUED AND ISSUED AND ISSUED AND
PRICE AUTHORIZED OUTSTANDING AUTHORIZED OUTSTANDING AUTHORIZED OUTSTANDING
-------- ---------- ----------- ---------- ----------- ---------- -----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C> <C>
Series A............... $17.02 200,000 97,878 200,000 97,878 200,000 97,878
Series B............... $44.04 200,000 62,438 200,000 62,438 200,000 62,438
Series C............... $72.17 100,000 23,321 124,250 60,949 165,820 153,093
------- ------- ------- ------- ---------- ---------
500,000 183,637 524,250 221,265 565,820 313,409
======= ======= ======= ======= ========== =========
</TABLE>

Conversion

Each share of Series A, B and C Convertible Preferred share is convertible into
ordinary shares on a twenty-to-one basis (reflecting the April 1999 stock split
and subject to adjustment for stock splits, stock dividends and alike).

All Convertible Preferred shares shall be automatically converted immediately
prior to the consummation of an initial public offering ("IPO") in which the
proceeds to the Company are not less than $10,000,000 and in which the Company's
valuation is not less than $30,000,000.

The pro forma shareholders' deficit gives effect to the conversion of all
outstanding Convertible Preferred shares as if such conversion occurred on
December 31, 1998.

Voting Rights

The holders of Convertible Preferred shares are entitled to vote on all matters
submitted to the shareholders with such number of votes which is equal to the
number of ordinary shares into which such Preferred shares could be converted.

Liquidation Preference

The Convertible Preferred shares have preference over the Ordinary shares, in
the event of any liquidation, dissolution or winding up of the Company, either
voluntary or involuntary. The liquidation preference is equal to the greater of
the full amount originally paid multiplied by 1.5, together with declared but
unpaid dividends in respect thereof or the pro rata amount that would have been
received had all of the Convertible Preferred shares been converted into
ordinary shares immediately prior to such distribution.

F-15
<PAGE> 98
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Dividends

The holders of any series of the convertible preferred shares shall be entitled
to receive dividends as and when declared for the holders of ordinary shares,
pari passu, calculated on the basis of the number of Ordinary shares into which
such Convertible Preferred shares could then be converted, out of any assets
legally available.

In the event that cash dividends are declared in the future, such dividends will
be paid in NIS. The Company does not intend to pay cash dividends in the
foreseeable future.

Warrants Issued for Services Received and Bank Lines of Credit:

In 1997, 1998 and in the three months ended March 31, 1999, the Company granted
warrants in connection with a bank line of credit, loans, and consulting
services received. Warrants outstanding at March 31, 1999:

<TABLE>
<CAPTION>
WARRANTS FOR
--------------------------- EXERCISE
IN CONNECTION ORDINARY CONVERTIBLE PRICE PER EXERCISABLE
ISSUE DATE WITH SHARES PREFERRED SHARES SHARE THROUGH
---------- ------------- -------- ---------------- --------- -------------
<S> <C> <C> <C> <C> <C>
December 1997 bank line 59,060 par value December 2000
through October 1998 of credit
November 1998 through March bank line 33,280 par value October 2001
1999 of credit
December 1997 bank loan 346 Series C $72.17 December 2002
June 1997 bank loan 568 Series B $44.04 June 2002
September 1997 consulting 300 Series C par value (1)
services
April 1998 consulting 350 Series B par value (1)
services
July 1998 lease 243 Series C $72.17 July 2005
commitment
------ --------------
92,340 1,807
====== =====
</TABLE>

(1) The earlier of December 2002 or an IPO with net proceeds to the Company of
$10,000,000, or a merger or an acquisition.

In addition, in February 1998, in consideration of consulting services received,
the Company issued warrants for 35,600 ordinary shares at $0.36 per share. The
warrants were exercised in October 1998, with the ordinary shares issued in the
first quarter of 1999 (see Note 11).

In connection with the amounts of the warrants:

The Company recorded $17,000, $264,000 and $255,000 as compensation expense in
1997, 1998 and the three months ended March 31, 1999, that were included in
interest expense, and $21,000 and $135,000 in 1997 and 1998 that were included
for operating expenses.

F-16
<PAGE> 99
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Warrants to Investors:

The Company issued to certain Series B Convertible Preferred shares investors
13,873 warrants to Series B Convertible Preferred shares in consideration of
their investment in the Company. The warrants have an exercise price of $44.04
per share and are exercisable through the earlier of the consummation of an IPO
with net proceeds to the Company of at least $10,000,000 or the consummation of
the sale of all or substantially all of the assets or shares of the Company. The
warrants may be exercised for cash or on a net exercise basis.

Issuance of Ordinary Shares against Promissory Notes:

On March 17, 1999, several employees and officers exercised 662,680 options
granted to them by CommTouch. In consideration for the ordinary shares purchased
pursuant to the exercise of the options, they provided CommTouch with full
recourse Promissory Notes dated March 17, 1999 in the original principal amount
of approximately $887,000. The Promissory Notes bear interest at 4.83%, with
payments of interest due on December 31 of each year and with the balance due
and payable on the fourth anniversary of the date of the promissory notes. The
shares purchased are restricted shares, and are subject to a right of repurchase
in favor of CommTouch according to the original vesting schedule of the options
exercised, generally four years.

Stock Options:

The Company issued options to purchase ordinary shares to its Israeli employees
pursuant to individual agreements. In 1996, the Company adopted the 1996 CSI
Stock Option Plan for granting options to its U.S. employees to purchase
ordinary shares of the Company. As of December 31, 1998 the Company has reserved
2,000,000 ordinary shares. Options granted under such plan and agreements expire
generally after 10 years from the date of grant and terminate upon termination
of the optionee's employment or other relationship with the Company. The options
vest generally ratably over a 4 year period. The exercise price of the options
granted under the individual agreements may not be less than the nominal value
of the shares into which such options are exercisable or in the case of the
subsidiary's plan it may not be less than fair market value. Any options which
are canceled or not exercised within the options period become available for
future grant.

F-17
<PAGE> 100
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

A summary of the Company's stock option activity, and related information is as
follows:

<TABLE>
<CAPTION>
WEIGHTED AVERAGE
NUMBER OF SHARES EXERCISE PRICE
------------------------------------------ ------------------------------------
YEARS ENDED THREE MONTHS THREE MONTHS
DECEMBER 31, ENDED YEARS ENDED ENDED
--------------------------- MARCH 31, --------------------- MARCH 31,
1996 1997 1998 1999 1996 1997 1998 1999
------- ------- ------- ------------ ----- ----- ----- ------------
(UNAUDITED) (UNAUDITED)
------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of
period........................ 31,000 457,520 607,040 849,520 $1.45 $0.99 $1.10 $1.20
Granted....................... 426,520 213,820 251,900 508,020 0.96 1.45 1.45 1.45
Exercised..................... -- -- -- (662,680) -- -- -- 1.34
Forfeited..................... -- (64,300) (9,420) -- -- 1.45 1.45 --
------- ------- ------- --------- ----- ----- ----- -----
Outstanding at end of period.... 457,520 607,040 849,520 694,860 $0.99 $1.10 $1.20 $1.25
======= ======= ======= ========= ===== ===== ===== =====
Exercisable at end of period.... 7,760 165,480 375,580 403,880 $1.45 $1.45 $1.45 $1.45
======= ======= ======= ========= ===== ===== ===== =====
Deemed fair value of options
granted at an exercise price
of:
-- Less than fair value at
date of grant.............. $ -- $ -- $ 2.46
======= ======= =======
-- Equals to fair market value
at date of grant........... $ 0.45 $ 0.61 $ --
======= ======= =======
-- Exceeds fair value at date
of grant.................... $ 0.23 $ -- $ --
======= ======= =======
</TABLE>

The options outstanding as of December 31, 1998, have been separated into ranges
of exercise price, as follows:

<TABLE>
<CAPTION>
WEIGHTED
OPTIONS AVERAGE WEIGHTED
OUTSTANDING AS OF REMAINING AVERAGE EXERCISE
EXERCISE PRICE DECEMBER 31, 1998 CONTRACTUAL LIFE PRICE
- -------------- ----------------- ---------------- ----------------
<S> <C> <C> <C>
$0.01 101,520 7.20 $0.01
$1.10 - $1.45 676,480 8.67 $1.27
$2.20 71,520 7.58 $2.20
- ------------- ------- ---- -----
$0.01 - $2.20 849,520 8.40 $1.20
============= ======= ==== =====
</TABLE>

Under SFAS 123, pro forma information regarding net income and earnings per
share is required (for grants issued after December 1994), and has been
determined as if the Company had accounted for its employee stock option under
the fair value method of that Statement. The fair value for these options was
estimated at the date of grant using a Black-Scholes Option Pricing Model with
the following weighted-average assumptions for 1996, 1997 and 1998: risk-free
interest rates of approximately 6%, dividend yields of 0%, volatility factors of
the expected market price of the Company's Ordinary shares of 0.5 for 1996, 1997
and 1998 and an expected life of the option of 3.5 years, 2.5 years and 1.5
years after the option is vested for 1996,1997 and 1998, respectively, but not
sooner than December 1999.

The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options that have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions, including the expected stock price volatility. Because
the Company's employee stock options have characteristics significantly
different from those traded options, and because changes in the subjective input
assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.

F-18
<PAGE> 101
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Pro forma information under SFAS 123:

<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------
1996 1997 1998
------- ------- -------
(IN THOUSANDS)
<S> <C> <C> <C>
Net loss as reported........................................ $(1,282) $(3,473) $(4,351)
======= ======= =======
Pro forma net loss.......................................... $(1,368) $(3,600) $(4,402)
======= ======= =======
Pro forma basic and diluted net loss per share.............. $ (0.71) $ (2.48) $ (3.04)
======= ======= =======
</TABLE>

The Company recorded deferred compensation representing the difference between
the exercise price and the deemed fair value of the Company's ordinary share at
the date of grant. Such amount is being amortized based on an accelerated
vesting method over the vesting period of the options, generally 4 years.

<TABLE>
<CAPTION>
DEFERRED
COMPENSATION
--------------
(IN THOUSANDS)
<S> <C>
Balance as of January 1, 1998............................... $ --
Deferred compensation related to options issued to
employees................................................. 509
Less amortization of deferred compensation.................. 91
----
Balance as of December 31, 1998............................. $418
====
</TABLE>

10. SELECTED STATEMENTS OF OPERATIONS DATA

Geographic information:

The Company manages its business on the basis of one reportable segment and
attributes revenues based on the customers' location, as follows:

<TABLE>
<CAPTION>
REVENUES
----------------------
1996 1997 1998
------ ---- ----
(IN THOUSANDS)
<S> <C> <C> <C>
Israel...................................................... $ 522 $ 1 $ --
U.S.A....................................................... 2,072 543 109
Europe...................................................... 19 28 130
Japan....................................................... 380 282 103
Other....................................................... 141 45 47
------ ---- ----
$3,134 $899 $389
====== ==== ====
</TABLE>

The Company's long-lived assets are as of December 31, are as follows:

<TABLE>
<CAPTION>
1996 1997 1998
------ ---- ----
(IN THOUSANDS)
<S> <C> <C> <C>
Israel...................................................... $ 434 $365 $291
U.S.A....................................................... 48 33 641
------ ---- ----
$ 482 $398 $932
====== ==== ====
</TABLE>

11. SUBSEQUENT EVENTS

Series C Convertible Preferred Shares Financing and Exercise of Warrants to
Ordinary Shares

In the first quarter of 1999, the Company issued 92,144 Series C Convertible
Preferred Shares of NIS 1.0 par value and 35,000 ordinary shares in connection
with the exercise of warrants in consideration of

F-19
<PAGE> 102
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

approximately $6,596,000 in net proceeds to the Company. An aggregate amount of
$1,304,000 was received in October and December 1998 in respect of those shares
and was recorded in additional paid in capital.

Convertible Notes Financing

In April 1999, the Company issued convertible promissory Notes (the "Notes") to
investors resulting in estimated net cash proceeds of approximately $13,237,000.
The Notes have since converted into 42,081 Series D Convertible Preferred Shares
and will further convert into 841,620 ordinary shares upon the completion of the
IPO. If the Company does not consummate an IPO or a sale of more than 50% of the
shares of the Company within twelve months of the closing of the Series D
Convertible Preferred Shares, a ratchet provision will come into effect,
providing the shareholders with 42,081 additional Series D Convertible Preferred
Shares with no additional consideration.

In April 1999, subsequent to the Convertible Notes financing, the Company fully
repaid its short-term bank line of credit.

Proposed Public Offering and Related Matters:

The Board of Directors has authorized the Company to file a registration
statement with the United States Securities and Exchange Commission for an IPO
of its ordinary shares.

In April 1999, the Board of Directors approved a twenty for one ordinary stock
split. The stock split will be effected prior to the effective date of the IPO.
All Ordinary share numbers, ordinary share option and warrant numbers and
Convertible Preferred Shares Conversion ratios have been retroactively adjusted
to reflect the stock split. In connection with the IPO, all of CommTouch's
Convertible Preferred Shares outstanding will be converted into Ordinary Shares.

Strategic Transaction with an Investor

On July 7, 1999 CommTouch executed a Memorandum of Understanding with two new
investors. According to this Memorandum, concurrently with the effectiveness of
this offering, the Company will offer 1,344,086 ordinary shares to the new
investors. In addition, concurrently with the effectiveness of this offering,
CommTouch will enter into an agreement with one of the investors pursuant to
which the Company will offer the investor's end users a private label email
service in return for sharing future revenues generated by the investor's use of
the Company's services. In connection with that agreement, CommTouch will grant
the investor warrants to purchase 1,136,000 ordinary shares at a per share
exercise price of $12.80 subject to adjustment as set forth in the warrant.

Employee Stock Purchase Plan

The CommTouch 1999 Employee Stock Purchase Plan was adopted by the Board of
Directors on April 18, 1999 to be effective upon the completion of CommTouch's
IPO of its ordinary shares, subject to shareholders' approval. CommTouch has
reserved a total of 150,000 shares for issuance under the plan. Eligible
employees may purchase Ordinary Shares at 85% of the lesser of the market value
of CommTouch's ordinary shares on the first day of the applicable offering
period or the last day of the applicable purchase period.

F-20
<PAGE> 103
COMMTOUCH SOFTWARE, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

Non-Employee Directors Stock Option Plan

The CommTouch 1999 Non-Employee Director Stock Option Plan was adopted, subject
to shareholder approval, by the Board of Directors on April 18, 1999 to be
effective upon the completion of a CommTouch IPO. CommTouch has reserved a total
of 250,000 shares for issuance under this plan. Each individual who first joins
the Board of Directors as a nonemployee director on or after the effective date
of this offering will receive an option grant for 10,000 ordinary shares. Each
option granted under the Non-Employee Directors Plan shall become exercisable
with respect to one-fourth of the number of shares covered by such option three
months after the date of grant and with respect to one-third of the remaining
shares subject to the option every three months thereafter. Each option will
have an exercise price equal to the fair market value of the ordinary shares on
the grant date of such option. Each option will have a maximum term of ten
years, but will terminate earlier if the optionee ceases to be a member of the
Board of Directors.

F-21
<PAGE> 104

[DESCRIPTION OF COVER GRAPHICS]

DESCRIPTION OF INSIDE FRONT FLAP GRAPHIC

The inside front flap consists of a box in the upper right-hand corner that
contains seven smaller boxes with checks inside each box. Next to each of the
boxes is a short phrase. These phrases are: "customized branded email, 14
languages, integrated unified messaging, turnkey e-marketing, scalable to
millions of users, cost effective, rapid deployment." Running down the left-hand
side of the page from the top to the middle in large type is the phrase "For all
email and messaging needs . . ." Beneath this box is an arrow pointing towards
an envelope. Extending to the right of the envelope is an arrow pointing to the
right-hand side of the page. Within this arrow is the company logo (the word
"commtouch" with the second "m" tilted and encircled).

DESCRIPTION OF INSIDE FRONT COVER GRAPHIC

The inside front cover consists of a two-page spread. There are several images
and text paragraphs on the spread. Starting from the upper left corner of the
spread and working clockwise, there is an image of a mailbox. To the right of
this image is a heading in large bold text that reads "Customized Branded
Email." Below the heading is italicized text that reads "Email is one of the
most widely used applications on the Internet. A company can build its brand
online with CommTouch's highly customized solutions." Continuing clockwise is a
heading in large bold text that reads "Integrated Unified Messaging." Below the
heading is italicized text that reads "Our technology delivers a fully
integrated email solution -- a platform for unified messaging that includes
email, voice, fax, and pager communications, all synchronized with offline
client applications." To the right of this text is an image of a laptop
computer. To the right of the image of the laptop there is a heading in large
bold text that reads "Powerful Partnerships." Below the heading is italicized
text that reads, "Some of the largest and best-known brands, web-based
companies, and Internet businesses across the globe have turned to CommTouch for
their messaging needs. Our technology delivers solutions to companies online,
from small businesses to multinational corporations." In the middle of the right
page is a heading in large bold text that reads "Secure Scalable Technology."
Below the heading is italicized text that reads "With over eight years of email
application development behind us, we provide one of the most scalable and
flexible email hosting platforms available. Our modular environment and
proprietary programming code deliver superior performance levels in email
service." To the left of this text is an image of a Greek structure. Beneath
this text is the company's logo, and underneath the logo is the company's
website address (www.commtouch.com). Below this image is a heading in large bold
text that reads "Building Revenues." Below the heading is italicized text that
reads "With CommTouch, business partners and webmasters can enable turnkey
e-marketing and create e-commerce opportunities immediately. Our Premium
Services are designed to help our business partners build strong relationships
with their end users. To the left of this is a heading in large bold text that
reads "Instant Community." Below the heading is italicized text that reads
"Through our ZapZone Network service, membership/affinity websites and personal
homepage owners can provide the CommTouch solution to their online users in less
than ten minutes." To the left of this text is a stopwatch. In the lower-left
hand corner of the page is a partial image of a globe. Above the globe and
extending up along the left side of the page are eight country flags. To the
right of the flags is a heading in large bold text that reads "A Multiple
Language Solution." Below it is italicized text that reads "Email in 14
languages, with more coming online; deployed by customers in over 150 countries
worldwide." Connecting the images in the background are dashed lines.

Centered at the bottom of the inside front cover is the sentence, "all
trademarks and registered trademarks are the property of their respective
owners."
<PAGE> 105

DESCRIPTION OF INSIDE BACK COVER GRAPHIC

The inside back cover has three screen shots representing examples of the
company's email services. Starting from the upper-right hand corner, the upper
screen shot shows an image from the website of Excite Japan (www.excite.co.jp),
one of the company's business partners. To the left of this image is a large
bold heading that reads "Community." Below the heading is text that reads
"Excite Japan needed multiple localized email services to build its
international online community. CommTouch delivers." Halfway down the page, the
middle screen shot shows an image from the website of Talk City
(www.talkcity.com), one of the company's business partners. To the right of this
image is a large bold heading that reads "Commerce." Below the heading is text
that reads "Talk City needed a high level of customization to build its brand
with its online audience and help build ecommerce. CommTouch delivers." On the
bottom of the page, the lower screen shot shows an image from the website of the
company's ZapZone Network service (www.zzn.com). To the right of this image is a
large bold heading that reads "Commitment." Below the heading is text that reads
"Thousands of webmasters and homepage owners around the world need a turnkey
web-based email solution. CommTouch delivers." In the background there is a
shaded "m" from the company's logo. At the bottom of the page is the company's
logo and website address.

DESCRIPTION OF OUTSIDE BACK COVER GRAPHIC

The outside back cover has the company's logo, the phrase "The global email
messaging solution" and the company's website address, www.commtouch.com.

[DESCRIPTION OF INTERIOR GRAPHICS]

On page 39, there is a graphic labeled "Hardware Infrastructure." Starting from
the top, there are cylinders labeled "Database" and "User's Mailboxes." Below
these cylinders are pictures of computers labeled SQL Servers, Mail Servers, and
Web Servers. The Database cylinder is connected with a line to the SQL Servers,
and the User's Mailboxes cylinder is connected with a line to the Mail Servers.

Below the servers, there are lines connecting the servers to icons of computer
hardware. Below the SQL Servers is text reading "ODBC Compliant Database," and a
line connecting the SQL Servers to an icon labeled "Local Routers." Below the
Mail Servers is text reading "IMAP4 Compliant," and a line connecting the Mail
Servers to an icon labeled "Router." Below the Web Servers, there is text
reading "Microsoft - IIS," and a line connecting the Web Servers to an icon
labeled "DNS." The DNS and Router icons are connected by a line to a cloud
labeled "Internet."

On page 41, there is a graphic labeled "ADML Flow Chart." This is a flow chart
with five levels. Starting from the left of the top row, there is a cylinder
labeled "Languages Resource Database." In the middle of the top row is a
rectangle labeled "ADML files." On the right of the top row is a cylinder
labeled "Company-Dependent Database." The top row is connected, with lines and
an arrow pointing downward, to an oval labeled "ADML CommTouch Compiler." This
is connected, with an arrow pointing downward, to a rectangle labeled "ASP
files." On the left of this rectangle is a cylinder labeled " User-Dependent
Database." These two shapes are connected to each other, and to an arrow
pointing down towards an oval labeled "ASP Interpreter." This oval is connected,
with an arrow pointing downwards, to a rectangle labeled "HTML files."
<PAGE> 106

3,000,000 ORDINARY SHARES

COMMTOUCH SOFTWARE LTD.

LOGO

---------------------------
PROSPECTUS
---------------------------

Until August 7, 1999, all dealers that effect transactions in these securities,
whether or not participating in this offering, may be required to deliver a
prospectus. This is in addition to the dealers' obligation to deliver a
prospectus when acting as underwriters and with respect to their unsold
allotments or subscriptions.

U.S. Bancorp Piper Jaffray

Prudential Securities

Warburg Dillon Read LLC

JULY 13, 1999