SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-K

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

For the year ended December 31, 2001

Commission file number 000-30422

PREDICTIVE SYSTEMS, INC.

(Exact name of Registrant as specified in its charter)

DELAWARE 7371 13-3808483
(State of incorporation) (Primary Standard Industrial (I.R.S. Employer
Classification Code) Identification Number)

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

19 West 44th Street, 9th Floor
New York, New York 10036
(212) 659-3400
(Address, including zip code, and telephone number, including area code, of
Registrant's principal executive offices)

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act: Common Stock Par
Value $0.001 Per Share

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 of 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. |X| Yes |_| No

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. |X|

The aggregate market value of voting stock held by non-affiliates of the
registrant as of March 15, 2002 was $39,825,831 (based on the last reported sale
price on the NASDAQ National Market on that date).

The number of shares outstanding of the registrant's common stock as of March
15, 2002 was 37,196,992.

DOCUMENTS INCORPORATED BY REFERENCE

The following documents (or parts thereof) are incorporated by reference into
the following parts of this Form 10-K: Portions of the Registrant's Definitive
Proxy Statement for the 2002 Annual Meeting of Stockholders are incorporated by
reference into Part III of this Report.

TABLE OF CONTENTS

Page
---------
PART I
Item 1. Business............................................. 3
Item 2. Properties........................................... 18
Item 3. Legal Proceedings.................................... 18
Item 4. Submission of Matters to a Vote of Security Holders. 18
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters................................. 19
Item 6. Selected Consolidated Financial Data ................ 20
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations.................. 21
Item 7A. Quantitative and Qualitative Disclosures about
Market Risk......................................... 31
Item 8. Financial Statements and Supplementary Data.......... 31
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure.................. 31
PART III
Item 10. Directors and Executive Officers of the Registrant... 32
Item 11. Executive Compensation............................... 32
Item 12. Security Ownership of Certain Beneficial Owners and
Management.......................................... 32
Item 13. Certain Relationships and Related Transactions....... 32
Item 14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K......................................... 32
SIGNATURES. ....................................................... 34
INDEX TO EXHIBITS. ................................................ S-3

PART I

Item 1. Business

From time to time, we may, through our management, make forward-looking
public statements in press releases or other communications, such as statements
concerning then expected future revenues or earnings or alliances, product
development, and commercialization, as well as other estimates relating to
future operations. Forward-looking statements may be in reports filed under the
Securities Exchange Act of 1934, as amended, in press releases, or in oral
statements made with the approval of an authorized executive officer. The words
or phrases believe, will likely result, are expected to, will continue, is
anticipated, estimate, or similar expressions are intended to identify
forward-looking statements within the meaning of Section 21E of the Securities
Exchange Act of 1934 and Section 27A of the Securities Act of 1933, as enacted
by the Private Securities Litigation Reform Act of 1995.

We wish to caution readers not to place undue reliance on these
forward-looking statements which speak only as of the date on which they are
made. Various factors, including those set forth under the section entitled Risk
Factors, could affect our financial or other performance, and could cause our
actual results for future periods to differ materially from any opinions or
statements expressed with respect to future periods or events in any current
statement.

We will not undertake and specifically decline any obligation to
publicly release the result of any revisions which may be made to any
forward-looking statements to reflect events or circumstances after the date of
such statements or to reflect the occurrence of anticipated or unanticipated
events which may cause management to reevaluate such forward-looking statements.

Overview

We are a leading independent network infrastructure and security
consulting company focused on helping global enterprises and service providers
harness the power of network technology. Specifically, we build, optimize, and
secure high-performance infrastructures that deliver measurable results by
increasing operational efficiency, mitigating risk, and empowering our Fortune
1000 clients' business initiatives. Our BusinessFirst(TM) approach ensures that
we deliver measurable, sustainable results to clients that allow them to benefit
from our collective, in-depth experience. With BusinessFirst, we prioritize a
client's goals and deliver business-driven solutions. Our expertise spans a
multitude of disciplines including enterprise management, performance, network
design and management and information security. We believe that this range of
services along with our business-oriented approach is unique in the industry.

As an independent service provider, we provide our clients with
unbiased expertise that enables the design, implementation and management of
optimal technology solutions. We provide our services on either a project
outsource or collaborative consulting basis. Our project outsource services are
based on and measured against mutually agreed upon service offerings and provide
our clients with certainty of costs, delivery time and project scope. Our
collaborative consulting services enable our clients to utilize our extensive
expertise in order to extend their internal capabilities and to access our
methodologies. Our service offerings cover the cornerstones of network
technology: network design and engineering; enterprise management (including
network management, asset management, performance management and service
management); and information security. This structure enables us to gain
in-depth expertise and become familiar with the best practices and methodologies
identified within each of those disciplines.

Industry Background

Over the past few years, a number of trends have emerged that begin to
push the envelope of the current iteration of corporate networks. The developing
concept of "pervasive computing," based heavily on personal digital assistants
(PDAs), Web-enabled phones, and other appliance-type devices, coupled with an
the increasing adoption of the concept that the computer networks should be
viewed as a utility, have begun to push the limits of the current generation of
security and network management models.

Whereas networks have traditionally been built around the notion of
physical environments, in which users and data were often co-located, future
networks are likely to be more "transparent"; that is, networks will be
architected around the location of data and applications, as opposed to
individual users or machines. In addition, organizations must adapt their
current security models to be more flexible and configurable, without
compromising the strength of the security provided. This new concept of
"transparent networking" creates a new set of issues for large corporations:

o Networks must support wireless clients of a heterogeneous nature.

o Networks must support users in geographically disparate locations, all
around the world.

o Corporations must be able to centrally manage and maintain network
components that are in physically distant locations, and that may be
run by third-parties.

o Service level agreements (SLAs) must be adapted and strengthened to
apply to highly distributed control environments.

o Customer environments must be able to create highly-personalized client
experiences, and networks must be able to support those abstract
personalized experience in the physical network.

o Organizations must have the ability to control and manage large numbers
of assets in widespread environments.

o Organizations must develop, deploy, and manage highly-flexible,
dynamically-configurable, and strong security models that fit the
transparent environment.

However, we believe that few firms have the requisite focus and
expertise to address these issues, and that many are limited by the fact that
they:

o are primarily motivated by distributing their own products and often
lack the skills to implement multi-vendor solutions;

o do not have the breadth of capabilities in networking, security and
enterprise management to address the issues raised by Transparent
Networking;

o are focused on traditional mainframe computing environments and derive
a large percentage of their revenue from reselling hardware and
software products; or

o only augment businesses' in-house capabilities with hourly rate-based
teams of technical personnel.

As a result, we believe that a significant opportunity exists for a service
provider that can offer businesses high-end consulting and technical expertise
in the design, implementation, management and security of complex networks.

The Predictive Solution

We are a leading network infrastructure and security consulting company that
builds, optimizes, and secures high-performance infrastructures that deliver
measurable results by increasing operational efficiency, mitigating risk and
empowering our Fortune 1000 clients' business initiatives. Predictive Systems'
BusinessFirst(TM) approach is the core value that underpins everything we do,
motivating our consultants to understand each client's business and to design
and build network infrastructures that support and enhance that business. We
employ our BusinessFirst approach on all engagements in order to ensure that our
network technology and security solutions not only meet our clients' business
objectives, but also bring tangible business benefits. BusinessFirst reflects
our inherent belief that a client's infrastructure is a mission-critical asset.
We are dedicated to understanding both prevalent and cutting-edge technologies
to provide us with relevant and specific technical knowledge. We believe that
our success to date has been largely attributable to the following key
characteristics of our service offerings:

Business-driven, Results-Oriented Approach. Using our proprietary
Quantitative Business Analysis methodology, Operational Risk capabilities,
Business Process Engineering teams and our structured Program and Project
Management teams, we can demonstrate the business value of technology solutions
in specific and measurable terms, thereby enabling our clients to incorporate
objective and quantifiable analysis into their technology investment decisions.
We utilize widely accepted principles of risk analysis and mitigation used by
the insurance and financial services industries to assess our client's
technology environment. We provide our clients with a detailed analysis of the
financial benefit of a project by quantifying factors such as business risks,
total cost of ownership and operational efficiency. As a result, our clients can
gain a clear understanding of the benefits that they will derive from their
network technology and security investments and a measure of certainty about how
their technology investments will be translated into tangible and measurable
improvements to their business processes.

Fixed-Price, Fixed-Time Engagement Model. We provide our clients with a
service delivery model that is designed to enhance their ability to
cost-effectively leverage our expertise. When engaged on a project outsource
basis, we work with our clients to mutually define a fixed scope of work at the
beginning of the project that is tailored to the clients' specific needs and
therefore, modified from engagement to engagement. We then deliver the services
for a fixed fee, in a fixed period of time with a fixed set of deliverables.

In-Depth Network Infrastructure and Security Expertise. Our consultants
are organized into disciplines that span the cornerstones of network
infrastructure and security: network design and engineering; Global Integrity
Security; network and systems management; integrated customer service;
performance management; and business integration services. This enables our
consultants to gain in-depth expertise and become intimately familiar with the
best practices within each of those disciplines. More importantly, it enables us
to leverage the knowledge base within each practice group to provide our clients
with cross-functional teams of consultants that are better equipped to address
their varying needs in a coordinated and efficient manner.

Strategy

Continue to Attract and Retain Highly Qualified Consultants. We intend
to continue to attract and retain highly qualified consultants by providing them
with a rich environment and culture to work in, and by offering them attractive
professional development and compensation opportunities. We generally recruit
consultants who have significant technical expertise and offer them the ability
to accelerate their career development by working with sophisticated
technologies in complex, multi-vendor environments. We have established a formal
training program which is designed to improve the skills and productivity of our
consultants. We intend to continue to promote our corporate culture with stated
values and invest in the training and development of our consultants.

Further Increase Our Industry Expertise. We intend to continue to
expand the scope of our industry expertise in order to further penetrate the
markets in which we serve. We believe our expertise in specific industries
considerably enhances our ability to help companies within those industries gain
competitive advantage by improving the performance, utility and security of
their networks. We have significant experience within the financial services,
telecommunication services, oil/gas and Internet and electronic commerce
industries. In each of these markets, we employ industry experts, pursue
targeted sales and marketing opportunities and develop industry-specific service
offerings. We intend to expand into other industries which we believe will be
well suited to our services.

Cross-Sell into Existing Accounts and Deepen Existing Relationships.
Over the years, we have cultivated and grown client relationships with many of
the largest companies in the world. In many cases, however, these relationships
may only be based on a small subset of services currently (or previously)
contracted to Predictive. However, we believe that these clients would be
receptive to a broader range of services to address a number of their technology
infrastructure needs.

Establish Additional and Broaden Existing Strategic Relationships. We
have developed a number of strategic relationships, including alliances with
Cisco Systems, Peregrine Systems, Riptech, Hewlett Packard, Compaq, Micromuse
and InfoVista. Under these relationships, our partners recommend or directly
resell our services to their clients. We intend to continue to expand the scope
of these relationships and to develop new strategic alliances to further broaden
the indirect sales channel for our services.

Services

Our service offerings are grouped into three major areas: Networking,
Enterprise Management, and Information Security. Our consultants are further
organized into different disciplines. Although many of our consultants are
cross-skilled in a variety of technologies and many technologies span multiple
disciplines, each discipline represents an aspect of network technology
important enough to warrant specialization.

These six disciplines are:

o network design and engineering;

o network and systems management;

o integrated customer service;

o performance management;

o Global Integrity Security; and

o business integration services.

Our consultants have extensive experience with a wide variety of
technologies and vendors. For some clients, our consultants are involved in both
technology and vendor selection. Other clients have already selected the
technology, vendor or both. Regardless, we offer our clients a completely
objective, vendor-neutral approach. Our knowledge of advanced technologies and
leading vendors is a significant part of our value proposition to our clients.

Network Design and Engineering. Our network design and engineering
discipline is dedicated to helping our clients plan, implement and operate
business networks and network services. Our real-world experience and
cross-discipline collaboration produces network systems that are cost-effective,
manageable, scalable and secure. This enables our clients to use technology to
gain a major competitive advantage and a tangible return on investment.

The following table lists some of the services provided by our network
design and engineering discipline area:

Service Description
- ------------------------------------------------- -------------------------------------------------

Network Operations Assessments................... Assess the ability of an organization's network to
support its business strategy. Includes an analysis
of the network's performance, capacity, security,
availability and disaster scenarios.

Virtual Private Network and Access Solutions..... Designs and deploys secure, high-performance
remote access and virtual private network
solutions to allow clients, their employees,
supply-chain partners and other business partners
to access information remotely.

Advanced Technology Evaluation/Migration......... Helps clients choose the right technologies to meet
their business objectives and maximize their
competitive advantage in planning new network
services or upgrading existing one. The services
include technology impact studies, technology
evaluation and testing, and failure and performance
analyses.

Wireless LAN Services........................... Assess, design and implement wireless LAN
architecture for corporate environments. The
services include requirements gathering, site
surveys, technology and product selection, wireless
LAN implementation, development of security policies
and architecture and integration of management
capabilities.

Network Design, Planning and Implementation...... Design and implement core backbones and campus
networks. The services include core optical backbone
design, campus network design, wireless network
design, IP addressing, DNS and DHCP design, protocol
transition services, project management and
implementation planning, staging/prototyping
services, and implementation team services.

Complex Network Troubleshooting.................. Address network performance and outage issues to get
the network running at optimum levels in the
shortest time possible.

Network and Systems Management. Our network and systems management
discipline combines proven methodologies, front-line strategies, and extensive
hands-on experience in advising world-class organizations how to architect and
implement enterprise management centers. The result is a system that delivers
the functionality, reliability, diagnostics and manageability essential to help
our clients' organizations meet their competitive challenges.

The following table lists some of the services provided by our network
and systems management discipline:

Service Description
- ------------------------------------------------- -------------------------------------------------

Enterprise Management Assessment................. Provides a comprehensive overview of a client's
enterprise management center with the goal of
consolidation, integration and simplicity of
operations. Develops recommendations to align the
enterprise management center with the needs of
the client's organization.

NOC "Pitstop"................................... Performs a diagnostic assessment of a client's
network management capabilities and existing Network
Operations Center. Provides a roadmap to achieving
business goals, as well as an actionable project
plan for improving performance metrics.

IT Management Center Engineering................. Assists clients in developing and deploying
enterprise management centers. Develops technical
specifications, working prototypes and then
implements the solution.

Event Correlation and Root Cause Analysis........ Provides methodology and tools for quickly and
efficiently pinpointing the location of the core
problems behind network faults so that they can
be resolved.

IT Service Definition/Measurement................ Establishes service definitions and instruments
for the measurement of service level agreements
within the enterprise structure.

Integrated Customer Service. Our integrated customer service discipline
helps organizations build proactive, customer-focused service centers that
handle all types of customer inquiries and drive service management. Our
solutions bring together a variety of management disciplines, including problem
management and fulfillment management, asset management, knowledge management
and service level management.

The following table lists some of the services provided by our
integrated customer service discipline:

Service Description
- ------------------------------------------------- -------------------------------------------------

Call Center/Help Desk Assessment................. Assesses a clients' Call Center and/or IT Help
Desk. Identifies and prioritizes solutions that
will lower costs and enable clients to
effectively support technology.

Asset Management Assessment...................... Assess clients' asset management systems.
Analyzes current documentation and reports and
makes recommendations that enable clients to
effectively manage IT assets throughout the
lifecycle.

Rapid Analysis and Planning (RAP) Session........ 1-2 day working session with key personnel and
Predictive consultants to discuss issues and
develop solutions to specific infrastructure
management issues.

Asset Management Design and Implementation....... Design of an asset management solution that meets
client's business needs and facilitates the
management and inventory of IT assets. Includes
the implementation of that solution, and development
of a set of performance measurements to ensure that
solution continues to benefit the business.

Performance Management. Our performance management discipline leverages
proven methodologies and our extensive experience to help our clients optimize
their networks. We use sophisticated tools and techniques to gather, organize
and warehouse network performance data. This data may subsequently be used for a
number of related performance analysis applications, including capacity
planning, response time management and network simulation modeling. Consultants
in our performance management discipline are experts in applicable technologies,
including core competencies in remote monitoring, or RMON, data warehousing and
discrete event simulation modeling.

The following table lists some of the services provided by our
performance management discipline:

Service Description
- ------------------------------------------------- -------------------------------------------------

Network Baselining............................... Provides a snapshot of the current network
environment. The baseline can be used as a
comparison point as events change.

Capacity Planning................................ Projects network and system resource requirements
necessary to support business needs.

Network Modeling................................. Develops simulation models to deal with major
changes in network infrastructure or application
base. Through the model, clients can see how changes
To network infrastructure applications can affect
the performance of their enterprise network.

Application Impact Studies....................... Analyzes how an application uses network
resources to predict response times that users
will experience when the application is deployed
across the network. Recommends improvements that
enable the application to maximize network
resources.

Network Triage................................... Identifies root causes and provides resolution
for acute network performance problems.

Global Integrity Services. Our Global Integrity Services business unit
enables our clients to manage risk by understanding, prioritizing and mitigating
their security-related business risks with our comprehensive set of information
protection services. We help clients by assessing, designing, and implementing
secure revenue-enhancing electronic business solutions, cost saving networks,
wireless solutions and a variety of other services, all of which rely on a
secure infrastructure to save money or expand revenues.

The following table lists some of the services provided by our Global
Integrity Services business unit:

Service Description
- ------------------------------------------------- -------------------------------------------------

TrustCheck(TM) Assessment......................... Provides a consistent, quantitative measure of
information security for an organization, technical
infrastructure or application. Pinpoints
vulnerabilities and develops a specific ranking
that compares the client's security to its industry
peers.

Ethical Hacking.................................. Attacks a client's network infrastructure and
applications in order to determine how they might
be penetrated by a hacker.

Security Architecture Design and Implementation.. Design and implement secure systems and applications to
be deployed throughout a client's infrastructure
using sophisticated technologies.

Application Security Assessment and Design....... Review the design and implementation of sensitive
applications to ensure that proper security controls
are included.

Incident Response and Digital Forensics.......... Development of a program and procedures for
responding and reacting to security incidents.
Includes training on evidence handling and forensic
analysis of data, development of procedures for
interacting with law enforcement and media, as well
as development of procedures for recovering systems
as quickly as possible. Services also include on-
site forensics support for Predictive clients.

GlobalSecure(TM) Management and Monitoring
Services........................................ Services include the remote monitoring and management
of firewalls and intrusion detection systems. Powered
by our partner, Riptech, these services provide 24x7
vigilance of a client's security systems to ensure
that attacks, incidents, and other security issues
are detected and acted upon as quickly as possible.

Security Intelligence Services................... A subscription service which provides clients with
information into the trends and evolution of the
threat. These services include distribution of daily
alerts regarding vulnerabilities in IT systems,
threats to physical security and high-level trends
in the threat model, pulled from various sources,
both public and private.

Open Source Intelligence (OSI) ................ A custom intelligence service aimed at identifying
threats to specific clients before they are acted
upon. OSI monitors open sources, including mailing
lists, web sites, chat rooms, and newsgroups, for
mention of a customer's name or other proprietary
information.

Information Sharing and Analysis Centers (ISACs).. We operate a majority of the world's ISACs, which
are designed to help specific sectors (e.g.,
Financial Services, Oil & Gas, Transportation, etc.)
share information among themselves, in order to
reduce the overall threat to the sector. ISACs
provide an early-warning system, as well as a
"collective intelligence" capability that we believe
is unique to the industry.

Business Integration Services. Our Business Integration Services
discipline integrates sound business knowledge and methodologies with the
technical depth of our other disciplines to achieve meaningful results. By
integrating the solutions, as well as the support of the system, into our
clients' business processes we ensure that the solution delivers lasting
business value.

The following table lists some of the services provided by business
integration services discipline:

Service Description
- ------------------------------------------------- -------------------------------------------------

Business Process and Workflow Assessment......... Allows clients to document, review and approve
the business and technical processes needed to
achieve their strategic business goals. Provides
a set of tactical recommendations that provide a
strategic roadmap.

Business Process Engineering..................... Integrates people and processes into the network
solution. Analyzes the entire organization to
identify areas for improvement.

Business Continuity Planning..................... Integrates the business, operations and
information technology interests of clients to
ensure a successful business continuity planning
program.

Business Impact Analysis......................... Provides a statistical model that quantifies the
risk of future events and the business impact of
those events. This service is used to compare the
impact of different solution sets, thereby
maximizing the effectiveness of decisions about
technology investments.

Clients

We have provided professional network and security services to a
variety of clients across a broad range of industries, including:

Bear Stearns Cox Communications Rabobank
BellSouth CSFB State Farm
British Telecom JPMorgan Chase UUNET
Cable & Wireless Morgan Stanley Verizon
Cisco Pershing Wachovia
Citigroup Pfizer Worldcom

Sales and Marketing

We have developed direct and indirect sales channels for the sale of
our services. To facilitate our direct sales effort we have developed the
infrastructure necessary to capture and track the major sales indicators through
the sales cycle. Additionally, a significant amount of time and effort has been
and will continue to be invested in the development of tools, training materials
and training for sales and technical personnel. We have developed a number of
strategic relationships, including alliances with Cisco Systems, Peregrine
Systems and Riptech. Under these relationships, our partners recommend or
directly resell our services to their clients, including our consulting services
on a project outsource basis. We intend to continue to expand the scope of these
relationships and to develop new strategic alliances to further broaden the
indirect sales channel for our services.

Human Resources

We seek to attract, train, retain and deliver the highest level of
technical talent. We believe that our proactive approach gives us a strong
competitive edge in the marketplace and a scalable, consistently high standard
of service delivery. As of March 15, 2002, we had 421 full-time employees.

Recruiting. Our success is dependent in part on attracting and retaining
talented and motivated personnel at all levels. We have a proactive recruiting
philosophy and believe in a broad-based model for attracting candidates.

Corporate Culture. Our dynamic corporate culture is shaped by our view of
employees as investors because they choose to invest their talents, skills, time
and energy into our organization. This mindset is critical to our ability to
attract and retain professional staff at a time when information technology
professionals are in high demand. We have instituted a very competitive benefits
package for all employees and have developed policies that ensure that we
continue to address our employees' professional development and satisfaction. We
strive to maintain our relaxed and supportive workplace.

Professional Development. We believe that our investment in our employees must
mirror our employees' investment in and commitment to us. Integral to this goal
is the establishment of a career development plan for each of our employees,
which is created and agreed upon by management and the employee. We provide our
consultants with the opportunity to obtain extensive subject matter expertise in
their practice area and to work in collaborative multi-discipline projects. We
have also established training programs that leverages both our in-house
captured knowledge programs, as well as selected outside certification programs.

Compensation. We believe that linking employee compensation to our success
through performance-based incentive programs encourages a high level of
involvement from each team member and increases our employee retention. We
provide a highly competitive compensation package that consists of a combination
of base salary, performance-based incentives and an employee stock purchase
plan.

Competition

The network infrastructure and security consulting industry is
comprised of many participants, is highly competitive and is subject to rapid
technological change. We face intense competition from systems integrators,
value added resellers, network services firms, security consulting firms,
telecommunications providers, network equipment and computer systems vendors.
Many of our competitors have greater name recognition, longer operating
histories, more relationships with large and established clients and greater
financial, technical and managerial resources. Furthermore, we expect that our
competitors may in the future form alliances with other technology vendors,
which may give them an advantage in managing networks that use that vendor's
equipment.

Most of our current clients and prospective clients have internal
information technology departments and could choose to satisfy their network
management needs through internal resources rather than by outsourcing them to
third-party service providers such as ourselves. The decision by clients or
prospective clients to rely on their own information technology departments
could have a material adverse affect on our business, results of operations and
financial condition. Moreover, as the domestic and global markets for
information technology services continue to grow, we expect to face stiff
competition from new entrants into the network management consulting industry.

We believe that the principal competitive factors in the network
infrastructure and security consulting market are the ability to attract and
retain qualified personnel, quality and breadth of services offered, price and
reliability of services provided and the strength of client relationships. We
believe we compete favorably with respect to all of these factors. We believe we
distinguish ourselves from our competitors through our expertise in managing
complex, multi-vendor networks and our ability to provide clients with cost
certainty and guaranteed deliverables.

Intellectual Property and Proprietary Rights

We regard our copyrights, trade secrets and other intellectual property
as critical to our success. Unauthorized use of our intellectual property by
third parties may damage our brand and our reputation. We rely on trademark and
copyright law, trade secret protection and confidentiality and/or license and
other agreements with our employees, customers, partners and others to protect
our intellectual property rights. Despite our precautions, it may be possible
for third parties to obtain and use our intellectual property without our
authorization. Furthermore, the validity, enforceability and scope of protection
of intellectual property in Internet-related industries is still evolving. The
laws of some foreign countries do not protect intellectual property to the same
extent as do the laws of the United States.

We pursue the registration of our trademarks in the United States and
England. We may not be able to secure adequate protection of our trademarks in
the United States and other countries. Effective trademark protection may not be
available in all the countries in which we conduct business. Policing
unauthorized use of our marks is also difficult and expensive. In addition, it
is possible that our competitors have adopted or will adopt product or service
names similar to ours, thereby impeding our ability to build brand identity and
possibly leading to customer confusion.

We cannot be certain that our services and the finished products that
we deliver do not or will not infringe valid patents, copyrights, trademarks or
other intellectual property rights held by third parties. We may be subject to
legal proceedings and claims from time to time relating to the intellectual
property of others in the ordinary course of our business. We may incur
substantial expenses in defending against these third-party infringement claims,
regardless of their merit. Successful infringement claims against us may result
in substantial monetary liability or may materially disrupt the conduct of our
business.

Risk Factors

An investment in our company involves a high degree of risk. You should
carefully consider the risks described below before you decide to buy our common
stock. If any of the following risks actually occur, our business, results of
operations or financial condition would likely suffer. In this case, the trading
price of our common stock could decline.

Risks Related to Our Financial Condition and Business Model

Our limited operating history makes it difficult for you to evaluate our
business and to predict our future success

We commenced operations in February 1995 and therefore have only a
limited operating history for you to evaluate our business. Because of our
limited operating history and the fact that many of our competitors have longer
operating histories, we believe that the prediction of our future success is
difficult. You should evaluate our chances of financial and operational success
in light of the risks, uncertainties, expenses, delays and difficulties
associated with operating a new business, many of which are beyond our control.
You should not rely on our historical results of operations as indications of
future performance. The uncertainty of our future performance and the
uncertainties of our operating in a new and volatile market increase the risk
that the value of your investment will decline.

Adverse market conditions, particularly those affecting the professional
services industry, may impair our operating results

Our results depend to a large extent on market conditions affecting the
technology industry in general and the telecommunications and enterprise sectors
in particular. Adverse market conditions in the sectors in which we operate
could delay buying decisions or cause projects to be deferred, reduced in scope
or discontinued. These sectors are experiencing a drastic downturn. We can not
predict how long this contraction will last, or the timing or strength of a
recovery, if any. If market conditions and corporate spending in these sectors
do not improve, our operating results will continue to suffer.

Because most of our revenues are generated from a small number of clients, our
revenues are difficult to predict and the loss of one client could significantly
reduce our revenues

During the year ended December 31, 2001, BellSouth accounted for
approximately 17.3% of our revenues. Our five largest clients accounted for
approximately 40.6% of our revenues for the year ended December 31, 2001. For
the year ended December 31, 2000, our five largest clients accounted for
approximately 37.8% of our revenues. If one of our major clients discontinues or
significantly reduces the use of our services, we may not generate sufficient
revenues to offset this loss of revenues and our net loss will increase. In
addition, the non-payment or late payment of amounts due from a major client
could adversely affect us. As of December 31, 2001, the accounts receivable from
BellSouth was approximately $994,000, which related to work performed in October
through December 2001.

Our clients may terminate their contracts with us on short notice

Our services are often delivered pursuant to short-term arrangements
and most clients can reduce or cancel their contracts for our services without
penalty and with little or no notice. If a major client or a number of small
clients terminate our contracts or significantly reduce or modify their business
relationships with us, we may not be able to replace the shortfall in revenues.
Consequently, you should not predict or anticipate our future revenues based
upon the number of clients we have currently or the number and size of our
existing projects.

Our operating results may vary from quarter to quarter in future periods, and as
a result, we may fail to meet the expectations of our investors and analysts,
which may cause our stock price to fluctuate or decline

Our operating results have varied from quarter to quarter. Our operating
results may continue to vary as a result of a variety of factors. These factors
include:

o the loss of key employees;

o the development and introduction of new service offerings;

o reductions in our billing rates;

o the miscalculation of resources required to complete new or ongoing
projects;

o the utilization of our workforce;

o the ability of our clients to meet their payments obligations to us;
and

o the timing and extent of training.

Many of these factors are beyond our control. Accordingly, you should not
rely on quarter-to-quarter comparisons of our results of operations as an
indication of our future performance. In addition, our operating results may be
below the expectations of public market analysts or investors in some future
quarter. If this occurs, the price of our common stock is likely to decline.

We derive a substantial portion of our revenues from fixed-price projects, under
which we assume greater financial risk if we fail to accurately estimate the
costs of the projects

We derive a substantial portion of our revenues from fixed-price
projects. For the years ended December 31, 2001 and 2000, fixed-price projects
accounted for 48.2% and 43.2% of our revenue, respectively. We assume greater
financial risks on a fixed-price project than on a time-and-expense based
project. If we miscalculate the resources or time we need for these fixed-price
projects, the costs of completing these projects may exceed the price, which
could result in a loss on the project and a increase in net loss. We recognize
revenues from fixed-price projects based on our estimate of the percentage of
each project completed in a reporting period. To the extent our estimates are
inaccurate, the revenues and operating profits, if any, that we report for
periods during which we are working on a fixed-price project may not accurately
reflect the final results of the project and we would be required to record an
expense for these periods equal to the amount by which our revenues were
previously overstated.

Our operating results may fluctuate due to seasonal factors which could result
in greater than expected losses

Our results of operations may experience seasonal fluctuations as
businesses typically spend less on network management services during the summer
and year-end vacation and holiday periods. Additionally, as a large number of
our employees take vacation during these periods, our utilization rates during
these periods tend to be lower, which reduces our margins and operating income.
Accordingly, we may report greater than expected losses for these periods.

Our long sales cycle makes our revenues difficult to predict and could cause our
quarterly operating results to be below the expectations of public market
analysts and investors

The timing of our revenues is difficult to predict because of the
length and variance of the time required to complete a sale. Before hiring us
for a project, our clients often undertake an extensive review process and may
require approval at various levels within their organization. Any delay due to a
long sales cycle could reduce our revenues for a quarter and cause our quarterly
operating results to be below the expectations of public market analysts or
investors. If this occurs, the price of our common stock is likely to decline.

We may need to raise additional capital to grow our business, which we may not
be able to do

Our future liquidity and capital requirements are difficult to predict
because they depend on numerous factors, including the success of our existing
and new service offerings and competing technological and market developments.
As a result, we may not be able to generate sufficient cash from our operations
to meet additional working capital requirements, support additional capital
expenditures or take advantage of acquisition opportunities. Accordingly, we may
need to raise additional capital in the future. Our ability to obtain additional
financing will be subject to a number of factors, including market conditions,
our operating performance and investor sentiment. These factors may make the
timing, amount, terms and conditions of additional financing unattractive for
us. If we are unable to raise additional funds when needed, our ability to
operate and grow our business could be impeded.

Risks Related to Our Strategy and Market

We may have difficulty managing our expanding operations, which may harm our
business

A key part of our strategy is to grow our business; however, our rapid
growth has placed a significant strain on our managerial and operational
resources. From January 1, 1999 to December 31, 2000, our headcount increased
from approximately 138 to approximately 691 employees. Since such time, as a
result of market conditions and other factors, we have decreased our headcount
to 458 employees as of December 31, 2001. As a result of this reduction, the
remaining employees have been charged with additional responsibilities. To
manage our growth, we must continue to improve our financial and management
controls, reporting systems and procedures, and expand and train our work force.
We may not be able to do so successfully.

The workforce restructuring we have taken in response to the recent slowdown in
demand for our services could have adverse effects on our business.

Our business has been experiencing lower revenues due to decreased
customer demand for our services. To scale back our operations and to reduce our
expenses in response to this decreased demand for our services, we have
significantly reduced the size of our workforce. While these actions have
positively impacted our results of operations, there are several risks inherent
in our efforts to transition to a smaller workforce. Reducing the size of our
workforce could have adverse effects on our business by reducing our pool of
technical talent, making it more difficult for us to respond to customers,
limiting our ability to provide increased services quickly if and when the
demand for our services increases, and limiting our ability to hire and retain
key personnel. These circumstances could cause our earnings to be lower than
they might otherwise be.

Our management team has experienced significant turnover which could interrupt
our business and adversely affect our growth

Our future success depends, in significant part, upon the continued
service and performance of our senior management and other key personnel. Andrew
Zimmerman was appointed our Chief Executive Officer in June 2001. In addition,
in connection with our recent reductions in staff, many members of our senior
management team have either departed, or been redeployed and given new
responsibilities. If the restructuring of our senior management team does not
lead to the results we expect, our ability to effectively deliver our services,
manage our company and carry out our business plan may be impaired.

We may not be able to hire and retain qualified network systems and security
consultants which could affect our ability to compete effectively

Our continued success depends on our ability to identify, hire, train
and retain highly qualified network and security management consultants. These
individuals are in high demand and we may not be able to attract and retain the
number of highly qualified consultants that we need. If we cannot retain,
attract and hire the necessary consultants, our ability to grow, complete
existing projects and bid for new projects will be adversely affected.

Competition in the network and security consulting industry is intense, and
therefore we may lose projects to our competitors

Our market is intensely competitive, highly fragmented and subject to
rapid technological change. We expect competition to intensify and increase over
time. We may lose projects to our competitors, which could adversely affect our
business, results of operations and financial condition. In addition,
competition could result in lower billing rates and gross margins and could
require us to increase our spending on sales and marketing.

We face competition from systems integrators, value added resellers,
network services firms, security consulting firms, telecommunications providers,
and network equipment and computer systems vendors. These competitors may be
able to respond more quickly to new or emerging technologies and changes in
client requirements or devote greater resources to the expansion of their market
share.

Additionally, our competitors have in the past and may in the future
form alliances with various network equipment vendors that may give them an
advantage in implementing networks using that vendor's equipment.

We also compete with internal information technology departments of
current and potential clients. To the extent that current or potential clients
decide to satisfy their needs internally, our business will suffer.

If we are unable to find suitable acquisition candidates, our growth could be
impeded

A component of our growth strategy is the acquisition of, or investment
in, complementary businesses, technologies, services or products. Our ability to
identify and invest in suitable acquisition and investment candidates on
acceptable terms is crucial to this strategy. We may not be able to identify,
acquire or make investments in promising acquisition candidates on acceptable
terms. Moreover, in pursuing acquisition and investment opportunities, we may be
in competition with other companies having similar growth and investment
strategies. Competition for these acquisitions or investment targets could also
result in increased acquisition or investment prices and a diminished pool of
businesses, technologies, services or products available for acquisition or
investment.

Our acquisition strategy could have an adverse effect on client satisfaction and
our operating results

Acquisitions, including those already consummated, involve a number of
risks, including:

o adverse effects on our reported operating results due to accounting
charges associated with acquisitions;

o increased expenses, including compensation expense resulting from newly
hired employees; and

o potential disputes with the sellers of acquired businesses,
technologies, services or products.

Client dissatisfaction or performance problems with an acquired business,
technology, service or product could also have a material adverse impact on our
reputation as a whole. In addition, any acquired business, technology, service
or product could significantly underperform relative to our expectations.

Competition for experienced personnel is intense and our inability to retain key
personnel could interrupt our business and adversely affect our growth

Our future success depends, in significant part, upon the continued
service and performance of our senior management and other key personnel. Losing
the services of any of these individuals may impair our ability to effectively
deliver our services and manage our company, and to carry out our business plan.
In addition, competition for qualified personnel in the network and security
consulting industry is intense and we may not be successful in attracting and
retaining these personnel. There may be only a limited number of persons with
the requisite skills to serve in these positions and it may become increasingly
difficult to hire these persons. Our business will suffer if we encounter delays
in hiring additional personnel.

Our business may suffer if we fail to adapt appropriately to the challenges
associated with operating internationally

Operating internationally may require us to modify the way we conduct
our business and deliver our services in these markets. We anticipate that we
will face the following challenges internationally:

o the burden and expense of complying with a wide variety of foreign laws
and regulatory requirements;

o potentially adverse tax consequences;

o longer payment cycles and problems in collecting accounts receivable;

o technology export and import restrictions or prohibitions;

o tariffs and other trade barriers;

o difficulties in staffing and managing foreign operations;

o cultural and language differences;

o fluctuations in currency exchange rates; and

o seasonal reductions in business activity during the summer months in
Europe.

If we do not appropriately anticipate changes and adapt our practices to
meet these challenges, our growth could be impeded and our results of operations
could suffer.

If we do not keep pace with technological changes, our services may become less
competitive and our business will suffer

Our market is characterized by rapidly changing technologies, frequent
new product and service introductions, and evolving industry standards. As a
result of the complexities inherent in today's computing environments, we face
significant challenges in remaining abreast of such changes and product
introductions. If we cannot keep pace with these changes, we will not be able to
meet our clients' increasingly sophisticated network management and security
needs and our services will become less competitive.

Our future success will depend on our ability to:

o keep pace with continuing changes in industry standards, information
technology and client preferences;

o respond effectively to these changes; and

o develop new services or enhance our existing services.

We may be unable to develop and introduce new services or enhancements to
existing services in a timely manner or in response to changing market
conditions or client requirements.

If the use of large-scale, complex networks does not continue to grow, we may
not be able to successfully increase or maintain our client base and revenues

To date, a majority of our revenues have been from network management
and security services related to large-scale, complex networks. We believe that
we will continue to derive a majority of our revenues from providing network
design, performance, management and security services. As a result, our future
success is highly dependent on the continued growth and acceptance of
large-scale, complex computer networks and the continued trend among our clients
to use third-party service providers. If the growth of the use of enterprise
networks does not continue or declines, our business may not grow and our
revenues may decline.

Risks Related to Intellectual Property Matters and Potential Legal Liability

Unauthorized use of our intellectual property by third parties may damage our
brand

We regard our copyrights, trade secrets and other intellectual property
as critical to our success. Unauthorized use of our intellectual property by
third parties may damage our brand and our reputation. We rely on trademark and
copyright law, trade secret protection and confidentiality and/or license and
other agreements with our employees, customers, partners and others to protect
our intellectual property rights. However existing trade secret, trademark and
copyright laws afford us only limited protection. Despite our precautions, it
may be possible for third parties to obtain and use our intellectual property
without our authorization. The laws of some foreign countries are also uncertain
or do not protect intellectual property rights to the same extent as do the laws
of the United States.

We may have to defend against intellectual property infringement claims, which
could be expensive and, if we are not successful, could disrupt our business

We cannot be certain that our services, the finished products that we
deliver or materials provided to us by our clients for use in our finished
products do not or will not infringe valid patents, copyrights, trademarks or
other intellectual property rights held by third parties. As a result, we may be
subject to legal proceedings and claims from time to time relating to the
intellectual property of others in the ordinary course of our business. We may
incur substantial expenses in defending against these third-party infringement
claims, regardless of their merit. Successful infringement claims against us may
result in substantial monetary liability and materially disrupt the conduct of
our business.

Because our services are often critical to our clients' operations, we may be
subject to significant claims if our services do not meet our clients
expectations

Many of our projects are critical to the operations of our clients'
businesses. If we cannot complete these projects to our clients' expectations,
we could materially harm our clients' operations. This could damage our
reputation, subject us to increased risk of litigation or result in our having
to provide additional services to a client at no charge. Although we carry
general liability insurance coverage, our insurance may not cover all potential
claims to which we are exposed or may not be adequate to indemnify us for all
liability that may be imposed.

Our stock price is likely to be highly volatile and could drop unexpectedly

The market price of our common stock is highly volatile, has fluctuated
substantially and may continue to do so. As a result, investors in our common
stock may experience a decrease in the value of their common stock regardless of
our operating performance or prospects. In addition, the stock market has, from
time to time, experienced significant price and volume fluctuations that have
affected the market prices for the securities of technology companies. Should
our stock trade below $1.00 per share for a significant period of time, we may
not be in compliance with Nasdaq listing requirements, which could lead to our
stock being delisted from Nasdaq. In the past, following periods of volatility
in the market price of a particular company's securities, securities class
action litigation was often brought against that company. Many
technology-related companies have been subject to this type of litigation. We
are currently involved in this type of litigation. Litigation is often expensive
and diverts management's attention and resources.

We are controlled by a small group of our existing stockholders, whose interests
may differ from other stockholders

Our directors, executive officers and affiliates currently beneficially
own approximately 29% of the outstanding shares of our common stock.
Accordingly, these stockholders will have significant influence in determining
the outcome of any corporate transaction or other matter submitted to the
stockholders for approval, including mergers, acquisitions, consolidations and
the sale of all or substantially all of our assets, and also the power to
prevent or cause a change in control. The interests of these stockholders may
differ from the interests of the other stockholders.

Matters relating to Arthur Andersen, our independent public accountants, may
lead to adverse consequences for us.

Our independent certified public accountant, Arthur Andersen LLP, has
informed us that on March 14, 2002, it was indicted on federal obstruction of
justice charges arising from the government's investigation of Enron Corp.
Arthur Andersen has indicated that it intends to contest vigorously the
indictment. Our audit committee has been carefully monitoring the situation. As
a public company, we will be required to file with the SEC periodic financial
statements audited or reviewed by an independent, certified public accountant.
The SEC has said that it will continue accepting financial statements audited or
reviewed by Arthur Andersen so long as Arthur Andersen is able to make certain
representations to us. Our access to the capital markets and our ability to make
timely SEC filings could be impaired if the SEC ceases accepting financial
statements audited by Arthur Andersen, if Arthur Andersen becomes unable to make
the required representations to us or if for any other reason Arthur Andersen is
unable to perform accounting services for us. In such case, we would promptly
seek to engage new independent certified public accountants or take such actions
necessary for us to maintain access to the capital markets and timely financial
reporting. These events could cause us to incur costs and delays in financial
reporting. Further, it is possible that events arising out of the indictment may
adversely effect the ability of Arthur Andersen to satisfy any claims arising
from its provision of auditing and other services to us, including claims that
may arise out of Arthur Andersen's audit of our financial statements.

Our charter documents and Delaware law may inhibit a takeover that stockholders
may consider favorable

Provisions in our charter and bylaws may have the effect of delaying or
preventing a change of control or changes in our management that stockholders
consider favorable or beneficial. If a change of control or change in management
is delayed or prevented, the market price of our common stock could decline.

Additional Information

We file annual, quarterly and special reports, proxy statements and
other information with the Commission. You may read and copy all or any portion
of any reports, statements or other information in Predictive's files in the
Commission's public reference room at Room 1024, Judiciary Plaza, 450 Fifth
Street, N.W., Washington, D.C., 20549 and at the regional office of the
Commission located at 500 West Madison Street, Suite 1400, Chicago, Illinois
60661. You can request copies of these documents upon payment of a duplicating
fee, by writing to the Commission. Please call the Commission at 1-800-SEC-0330
for further information on the operation of the public reference rooms.
Predictive's Commission filings are also available to you on the Commission's
Internet site (http://www.sec.gov).

Item 2. Properties

Our principal executive offices are located in New York, New York. We
also lease office space in California, Georgia, Illinois, Massachusetts,
Minnesota, New Jersey, Virginia, England, Germany and The Netherlands.

We believe that our existing facilities are adequate for our current needs and
that additional space will be available as needed.

Item 3. Legal Proceedings

Except as set forth below, we are not a party to any material legal
proceedings.

On November 13, 2001, a securities class action complaint was filed in
the United States District Court for the Southern District of New York against
certain investment banks that underwrote our initial public offering,
Predictive, and certain of our officers and directors. This action has been
coordinated with over 300 virtually identical actions against other companies
and the investment banks that underwrote their initial public offerings. The
complaint filed against us generally alleges that the underwriters obtained
excessive and undisclosed commissions from customers who received allocations of
shares in our initial and secondary public offerings and that the underwriters
maintained artificially inflated prices in the after market through "tie-in"
arrangements, which required customers to buy additional shares of our stock at
pre-determined prices in excess of the offering prices. The complaint further
alleges that we and our officers and directors violated Sections 11, 12(2), and
15 of the Securities Act of 1933 because our registration statements did not
disclose the purported misconduct of the underwriters. Plaintiffs seek an
unspecified amount of damages on behalf of persons who purchased our stock
pursuant to the registration statements. We believe that the allegations against
us are without merit and intend to defend the case vigorously.

Item 4. Submission of Matters to a Vote of Security Holders

No matters were submitted to a vote of security holders during the
fourth quarter of the fiscal year ended December 31, 2001.

PART II

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters

Market Information

Our common stock has been quoted on the Nasdaq National Market under the symbol
PRDS since our initial public offering on October 27, 1999. The following table
sets forth, for the period indicated, the high and low sale prices per share of
the common stock as reported on the Nasdaq National Market.

High Low
---- ---

Fourth Quarter 1999 (since October 27, 1999) ......... $ 68.00 $ 28.00
First Quarter 2000 ................................... 89.00 42.38
Second Quarter 2000 .................................. 48.13 25.13
Third Quarter 2000 ................................... 40.50 14.88
Fourth Quarter 2000 .................................. 23.31 6.81
First Quarter 2001 ................................... 9.19 2.00
Second Quarter 2001 .................................. 5.40 1.19
Third Quarter 2001 ................................... 4.00 0.70
Fourth Quarter 2001 .................................. 2.08 0.70

On March 15 , 2002, the last sale price of our common stock reported on
the Nasdaq National Market was $1.50 per share.

Holders

As of March 15, 2002, we had approximately 107 holders of record of our
common stock.

Dividends

We have never declared or paid any cash dividends on our common stock.
We currently intend to retain future earnings, if any, to finance the expansion
of our business. As a result, we do not intend to pay cash dividends in the
foreseeable future.

Recent Sales of Unregistered Securities

None.

Item 6. Selected Consolidated Financial Data

The selected consolidated balance sheet data as of December 31, 2001
and 2000 and the selected consolidated statements of operations data for the
years ended December 31, 2001, 2000 and 1999 have been derived from our audited
consolidated financial statements included elsewhere in this annual report. The
selected consolidated balance sheet data as of December 31, 1999, 1998 and 1997
and the selected consolidated statements of operations data for the years ended
December 31, 1998 and 1997 have been derived from our consolidated audited
financial statements not included in this annual report.

The selected consolidated financial 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 to those statements included elsewhere in this annual report.

Year Ended December 31,
--------------------------------------------------
2001 2000 1999 1998 1997
-------- ------- ------- ------- -------
(in thousands, except per share data)

Statement of Operations Data:
Revenues:
Professional services ......................................... $66,217 $85,325 $50,698 $23,858 $16,897
Hardware and software sales ................................... 1,991 2,950 2,047 2,065 1,190
--------- ------- ------- ------- -------
Total revenues ............................................. 68,208 88,275 52,745 25,923 18,087
--------- ------- ------- ------- -------
Cost of Revenues:
Professional services ......................................... 50,518 47,420 25,699 12,861 9,590
Hardware and software purchases ............................... 2,090 2,201 1,766 1,699 817
--------- ------- ------- ------- -------
Total cost of revenues ..................................... 52,608 49,621 27,465 14,560 10,407
--------- ------- ------- ------- -------
Gross profit ................................................... 15,600 38,654 25,280 11,363 7,680
Operating Expenses:
Sales and marketing ........................................... 15,830 12,290 8,478 3,433 1,082
General and administrative .................................... 42,058 32,231 16,809 8,184 4,390
Depreciation and amortization ................................. 2,873 1,657 756 568 321
Intangibles amortization ...................................... 21,933 2,912 327 -- --
Loss on equipment.............................................. 443 -- -- -- --
Impairment of intangibles...................................... 60,485 -- -- -- --
Restructuring and other charges................................ 14,672 -- -- -- --
Loss on long-term investments in related parties............... 2,000 -- -- -- --
Noncash compensation expense .................................. 276 158 48 -- --
--------- ------- ------- ------- -------
Operating (loss) profit ........................................ (144,970) (10,594) (1,138) (822) 1,887
Other income (expense):
Interest income ............................................... 2,565 7,261 944 58 27
Other (expense) income ........................................ (51) (268) 76 1 4
Interest expense .............................................. (52) (191) (157) (324) (36)
--------- ------- ------- ------- -------
(Loss) income before income tax (benefit) provision............. (142,508) (3,792) (275) (1,087) 1,882
Income tax (benefit) provision ................................. (1,635) 95 682 (460) 871
--------- ------- ------- ------- -------
Net (loss) income .............................................. $(140,873) $(3,887) $ (957) $ (627) $ 1,011
========= ======= ======= ======= =======
Net (loss) income per share --
Basic ......................................................... $ (3.91) $ (0.15) $ (0.08) $ (0.11) $ 0.22
========= ======= ======= ======= =======
Diluted ....................................................... $ (3.91) $ (0.15) $ (0.08) $ (0.11) $ 0.08
========= ======= ======= ======= =======
Weighted average shares outstanding
Basic ......................................................... 36,008 26,274 12,138 6,015 4,382
========= ======= ======= ======= =======
Diluted ....................................................... 36,008 26,274 12,138 6,015 12,765
========= ======= ======= ======= =======

Please see Note 4 to our consolidated financial statements for an
explanation of the number of shares used in per share computations.

December 31,
-------------------------------------------------
2001 2000 1999 1998 1997
-------- -------- ------- ------ ------
(in thousands)

Balance Sheet Data:
Cash and cash equivalents ........................ $ 41,278 $ 80,059 $ 89,634 $ -- $ 420
Marketable securities ............................ -- 3,794 2,018 -- --
Working capital .................................. 41,262 99,631 102,092 2,365 1,679
Total assets ..................................... 102,493 246,329 117,250 13,677 6,870
Total stockholders' equity ....................... 84,937 223,694 108,502 2,026 2,072

Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations

The following discussion should be read in conjunction with our
financial statements and notes to those statements and other financial
information appearing elsewhere in this annual report.

Forward-Looking Statements

From time to time, we may, through our management, make forward-looking
public statements in press releases or other communications, such as statements
concerning then expected future revenues or earnings or alliances, product
development, and commercialization, as well as other estimates relating to
future operations. Forward-looking statements may be in reports filed under the
Securities Act of 1934, as amended, in press releases, or in oral statements
made with the approval of an authorized executive officer. The words or phrases
believe, will likely result, are expected to, will continue, is anticipated,
estimate, or similar expressions are intended to identify forward-looking
statements within the meaning of Section 21E of the Securities Exchange Act of
1934 and Section 27A of the Securities Act of 1933, as enacted by the Private
Securities Litigation Reform Act of 1995.

Overview

Substantially all of our revenues are derived from professional
services. We provide network and security consulting services to our clients on
either a project outsource or collaborative consulting basis. We derive revenues
from these services on both a fixed-price, fixed-time basis and on a
time-and-expense basis. We also provide managed security services to our
clients. We derive revenues from these services on a subscription basis. We use
our BusinessFirst approach to estimate and propose prices for our fixed-price
projects. The estimation process accounts for standard billing rates particular
to each project, the client's technology environment, the scope of the project,
and the project's timetable and overall technical complexity. A member of our
senior management team must approve all of our fixed-price proposals in excess
of $500,000. For these contracts, we recognize revenue using a
percentage-of-completion method primarily based on costs incurred. We make
provisions for estimated losses on uncompleted contracts on a
contract-by-contract basis and recognize such provisions in the period in which
the losses are determined. Professional services revenues for time-and-expense
based projects are recognized as services are performed. Revenues for
subscription-based contracts are recognized on a straight-line basis over the
period of service. Any payments received in advance of services performed are
recorded as deferred revenue. Our clients are generally able to reduce or cancel
their use of our professional services without penalty and with little or no
notice. We also derive limited revenues from the sale of hardware and software.
We expect revenues from the sale of hardware and software to continue to decline
on a percentage basis.

Since we recognize professional services revenues only when our
consultants are engaged on client projects, the utilization of our consultants
is important in determining our operating results. In addition, a substantial
majority of our operating expenses, particularly personnel and related costs,
depreciation and rent, are relatively fixed in advance of any particular
quarter. As a result, any under utilization of our consultants may cause
significant variations in our operating results in any particular quarter and
could result in losses for such quarter. Factors which could cause under
utilization include:

o the reduction in size, delay in commencement, interruption or
termination of one or more significant projects;

o the completion during a quarter of one or more significant projects;

o the miscalculation of resources required to complete new or ongoing
projects; and

o the timing and extent of training, weather related shut-downs,
vacations and holidays.

Our cost of revenues consists of costs associated with our professional
services and hardware and software purchases. Costs of revenues associated with
professional services include compensation and benefits for our consultants and
project-related travel expenses. Costs of hardware and software purchases
consist of acquisition costs of third-party hardware and software resold.

On August 12, 1999, we acquired Network Resource Consultants and Company
B.V. for an aggregate purchase price of approximately $4.3 million. The purchase
price was paid in the form of 1,062,814 shares of our common stock in exchange
for all of the outstanding capital stock of Network Resource Consultants and
Company. The acquisition was accounted for as a purchase and resulted in
intangible assets of approximately $4.3 million representing the excess purchase
price over the fair value of the net tangible assets acquired. The intangible
assets are being amortized over a period of 5 years.

On September 16, 1999, we completed the sale of 1,242,000 shares of our
common stock to Cisco at $12.00 per share for net proceeds of approximately
$14.2 million.

On September 22, 1999, we completed the sale of 94,867 and 18,133 shares of
our common stock to General Atlantic Partners 57, L.P., and GAP Coinvestment
Partners II, L.P., respectively, at $12.00 per share for net proceeds of
approximately $1.4 million.

On November 1, 1999, we consummated the initial public offering of 4.6
million shares of our common stock, at $18.00 per share, which resulted in net
proceeds to us of approximately $75.1 million after deducting underwriter
discounts and commissions, and other expenses paid by us.

On April 5, 2000, we consummated a follow-on public offering for 3.8
million shares of our common stock at $43.00 per share, of which 1.0 million
shares were sold by us, while the reminder were sold by our stockholders,
resulting in net proceeds to us of approximately $39.8 million after deducting
underwriter discounts and commissions, and other expenses paid by us.

On October 16, 2000, we acquired Synet Service Corporation for an aggregate
purchase price, valued at the time of the transaction, of approximately $33.4
million. The purchase price was paid in the form of 1,922,377 shares of our
common stock, options to purchase 242,459 shares of our common stock and $9.0
million in cash, including certain transaction expenses, in exchange for all of
the outstanding capital stock of Synet. The acquisition was accounted for as a
purchase and resulted in intangible assets of approximately $33.4 million
representing customer lists, workforce and the excess of the purchase price over
the fair value of the net tangible assets acquired. During 2001, we adjusted the
purchase price for $23,000 for the closing of certain offices and a reduction in
workforce in connection with the acquisition plan and to adjust the final
purchase price allocation. In 2001, we integrated the acquisition of Synet. As
we approached the completion of the integration phase during the third quarter
of 2001, and in combination with revenue declines in this business in relation
to prior periods and forecasted earnings and the overall deterioration of market
conditions in the enterprise sector, we reviewed goodwill and the intangible
assets for impairment. As a result of this review, an impairment loss of $18.2
million was recognized for the difference between the estimated value of Synet
based on future discounted cashflows and the carrying amount of its assets and
liabilities, including goodwill. Since the acquisition, the intangible assets
are being amortized over a period of 3-5 years.

On December 14, 2000, we acquired Global Integrity Corporation for an
aggregate purchase price, valued at the time of the transaction of approximately
$78.2 million. The purchase price was paid in the form of 5,240,275 shares of
our common stock, options to purchase 551,048 shares of common stock and $31.5
million in cash, including certain transaction expenses in exchange for all of
the outstanding capital stock of Global. The acquisition was accounted for as a
purchase and resulted in intangible assets of approximately $81.1 million
representing customer lists, workforce, trade names, developed technology and
the excess of the purchase price over the fair value of the net tangible assets
acquired. During 2001, we adjusted the purchase price for $3.2 million for the
closing of certain offices and a reduction in workforce in connection with the
acquisition plan and to adjust the final purchase price allocation. In 2001, we
integrated the acquisition of Global. As we approached the completion of the
integration phase during the third quarter of 2001, and in combination with
revenue declines in this business in relation to prior periods and forecasted
earnings and the overall deterioration of market conditions in the enterprise
sector, we reviewed goodwill and the intangible assets for impairment. As a
result of this review, an impairment loss of $42.3 million was recognized for
the difference between the estimated value of Global Integrity based on future
discounted cashflows and the carrying amount of its assets and liabilities,
including goodwill. Since the acquisition, the intangible assets are being
amortized over a period of 3-5 years.

In February 2001, our management foresaw the need to lower the
operating costs of the business given its near-term revenue projections.
Therefore, we established a plan that included the following: (1) a reduction in
our workforce for both domestic and international operations related to
professional consultant employees that had been underutilized for several months
and also to employees that held various management, sales and administrative
positions deemed to be duplicative functions; (2) the closing of several
domestic and international regional offices located in geographic areas that no
longer cost justified remaining open; and (3) the discontinuance of electronic
equipment leases and other expenses related to the reduction in workforce.

Given the decline in revenue related to the service provider customer
base, coupled with the continuing uncertainty in the professional network
consulting services marketplace, we believe that our quarterly revenue and
operating results are likely to vary significantly in the future and that
period-to-period comparisons of our operating results are not necessarily
meaningful and should not be relied on as indications of future performance.

Critical Accounting Policies and Estimates

This discussion and analysis of our financial condition and results of
operations are based on our consolidated financial statements that have been
prepared under generally accepted accounting principles. The preparation of
financial statements in conformity with generally accepted accounting principles
requires our management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the financial statements and the reported
amounts of revenue and expenses during the reporting period. Actual results
could materially differ from those estimates. We have disclosed all significant
accounting policies in note 2 to the consolidated financial statements included
in this Form 10-K. The consolidated financial statements and the related notes
thereto should be read in conjunction with the following discussion of our
critical accounting policies. Our critical accounting policies and estimates
are:

o Revenue recognition

o Valuation of goodwill, intangible assets and other long-lived assets

Revenue Recognition. We currently recognize revenue from professional
services. As described below, significant management judgments and estimates
must be made and used in determining the amount of revenue recognized in any
given accounting period. Material differences may result in the amount and
timing of our revenue for any given accounting period depending upon judgments
made by or estimates utilized by management.

We recognize revenue for fixed price contracts in accordance with SOP 81-1,
"Accounting for Performance of Construction Type and Certain Production Type
Contracts" ("SOP 81-1"). When reliable estimates are available for the costs and
efforts necessary to complete the consulting services and those services do not
include contractual milestones or other acceptance criteria, we recognize
revenue under the percentage of completion method based upon input measures,
such as hours. When such estimates are not available, we defer all revenue
recognition until we have completed the contract and have no further obligations
to the customer. Under each arrangement, revenues are recognized when a
non-cancelable agreement has been signed and the customer acknowledges an
unconditional obligation to pay, the services have been delivered, there are no
uncertainties surrounding customer acceptance, the fees are fixed and
determinable, and collection is considered probable.

Valuation of Goodwill and Intangible Assets. We evaluate our long-lived
assets in accordance with SFAS No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed of " ("SFAS No.
121"). Long-lived assets that are not identified with an impaired asset are
reviewed for impairment whenever events or changes in circumstances indicate
that the net carrying value of the asset may not be recoverable. Certain
circumstances include a deterioration of our financial resources, poor economic
trends within the market sector, or significant changes in our business model.
In such circumstances, the net carrying value of the asset is compared to the
undiscounted future cash flows of the business segment to which that asset is
attributable. Impairment losses are measured by the amount in which the net
carrying value of the assets exceed the fair value.

In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 142, "Goodwill and
Other Intangible Assets" ("SFAS No. 142"). SFAS 142 requires goodwill and other
intangible assets to be tested for impairment at least annually, and written off
when impaired, rather than being amortized as previously required. The Company
will adopt the provisions of SFAS 142 effective January 1, 2002. The Company has
not yet assessed the impact of this pronouncement.

Results of Operations

The following table sets forth certain financial data for the periods
indicated expressed as a percentage of total revenues:

December 31,
----------------------
2001 2000 1999
----- ----- -----

Revenues:
Professional services ............................... 97.1% 96.7% 96.1%
Hardware and software sales ......................... 2.9 3.3 3.9
----- ----- -----
Total revenues..................................... 100.0 100.0 100.0
----- ----- -----
Cost of Revenues:
Professional services ............................... 74.1 53.7 48.7
Hardware and software purchases ..................... 3.0 2.5 3.4
----- ----- -----
Total cost of revenues............................. 77.1 56.2 52.1
----- ----- -----
Gross profit.......................................... 22.9 43.8 47.9
Operating Expenses:
Sales and marketing ................................. 23.2 13.9 16.1
General and administrative .......................... 61.7 36.5 31.9
Depreciation and amortization ....................... 4.2 1.9 1.4
Intangibles amortization ............................ 32.1 3.3 0.6
Loss on equipment.................................... 0.7 -- --
Impairment of intangibles............................ 88.7 -- --
Restructuring and other charges...................... 21.5 -- --
Loss on long-term investments in related parties..... 2.9 -- --
Noncash compensation expense ........................ 0.4 0.2 0.1
----- ----- -----
Operating loss........................................ (212.5) (12.0) (2.2)
Other income (expense)................................ 3.6 7.7 1.7
----- ----- -----
Loss before income tax (benefit) provision............ (208.9) (4.3) (0.5)
Income tax (benefit) provision........................ (2.4) 0.1 1.3
----- ----- -----
Net loss.............................................. (206.5)% (4.4)% (1.8)%
===== ===== =====

Years Ended December 31, 2001 and 2000

Revenues. Substantially all of our revenues are derived from fees for
professional services. Revenues decreased 22.7% to $68.2 million in 2001 from
$88.3 million in 2000. Revenues from professional services decreased 22.4% to
$66.2 million in 2001 from $85.3 million in 2000. This decrease was primarily
due to difficult market conditions in the enterprise sector. Revenues from
hardware and software sales decreased to $2.0 million in 2001 from $2.9 million
in 2000. This decrease was primarily due to a decline in client requests for
hardware and software in connection with professional service projects. During
2001, BellSouth accounted for 17.3% of revenues. The number of our billable
consultants decreased from approximately 520 at December 31, 2000 to
approximately 360 at December 31, 2001.

Gross Profit. Gross profit decreased 59.6% to $15.6 million in 2001
from $38.7 million in 2000. As a percentage of revenues, gross profit decreased
to 22.9% in 2001 from 43.8% in 2000. The decrease in gross profit is a result of
a decrease in utilization of our consultants in addition to a lower margin
recognized on the sale of software inventory and the write-off of $500,000 of
software inventory which was deemed to be no longer saleable. Excluding the
impact of this write-off, gross margin was 23.6% for the year ended December 31,
2001. Cost of revenues increased to $52.6 million in 2001 from $49.6 million in
2000. This increase in cost of revenues was due to an increase in compensation
and benefits paid to consultants in the first six months of 2001 as a result of
increases in billable headcount that occurred in the later part of 2000 in
addition to the $500,000 write-off of software inventory. During 2001, we
reduced billable headcount as part of our restructuring plan thus reducing cost
of revenues in the second six months of the year.

Sales and Marketing Expenses. Sales and marketing expenses consist
primarily of compensation and benefits, travel expenses and promotional
expenses. Sales and marketing expenses increased 28.8% to $15.8 million in 2001
from $12.3 million in 2000. As a percentage of revenues, sales and marketing
expenses increased to 23.2% in 2001 from 13.9% in 2000. The increase in absolute
dollars was primarily due to an increase of $2.6 million in compensation and
benefits paid due to the hiring of additional personnel, an increase of $508,000
in travel and other selling related expenditures, and an increase of $818,000 in
commissions paid. The increase in commissions was attributable to the fact that
we had two separate sales forces for both US Consulting and Managed Security
Services. In certain instances, both sales forces received commission for the
same sale to compensate both the sales person responsible for managing the
customer relationship and the sales person that sold the services. In 2002, the
two sales forces were merged into one sales force. These increases were offset
by a decrease in marketing expenses of $368,000.

General and Administrative Expenses. General and administrative
expenses increased 30.5% to $42.1 million in 2001 from $32.2 million in 2000. As
a percentage of revenues, general and administrative expenses were 61.7% in 2001
and 36.5% in 2000. The increase in absolute dollars was primarily due to an
increase of $3.3 million in recruiting and professional development and other
administrative costs, an increase of $2.9 million in facilities and equipment
costs and an increase of $3.9 million in compensation and benefits costs. These
increases in general and administrative costs were offset by a decrease in bad
debt expense of approximately $231,000. Bad debt expense for the years ended
December 31, 2001 and 2000, respectively, was $4.7 million and $4.9 million. In
2001 and 2000, we recorded an additional provision of approximately $1.9 million
and $4.0 million, respectively, to account for customers filing for federal
bankruptcy protection, which created significant uncertainty regarding our
ability to collect these outstanding trade accounts receivable balances. The
remaining expense in 2001 and 2000 was additional provision based on our
analysis of accounts receivable balances.

Depreciation and Amortization. Depreciation and amortization increased
73.4% to $2.9 million in 2001 from $1.7 million in 2000. This increase was due
to purchases of additional computer equipment, furniture and leasehold
improvements during 2000 which were subject to a full year of depreciation in
2001, offset by write-offs of such assets in connection with our restructuring
and acquisition plans.

Intangibles Amortization. Amortization of intangibles increased to
$21.9 million in 2001 from $2.9 million in 2000. Intangibles amortization for
the years ended December 31, 2001 and 2000 consisted of $853,000 related to the
acquisition of Network Resource Consultants and Company B.V. (NRCC) in August
1999, $6.1 million and $1.4 million, respectively, related to the acquisition of
Synet in October 2000 and $15.0 million and $650,000, respectively, related to
the acquisition of Global Integrity in December 2000.

Loss on Equipment. For the year ended December 31, 2001, we recognized
a loss of $443,000 for equipment that was not in service and deemed to have no
salvage value.

Impairment of Intangibles. During 2001, we integrated the acquisitions
of Synet and Global Integrity, which were acquired in the fourth quarter of
2000. As we approached the completion of the integration phase in the third
quarter of 2001, and in combination with revenue declines in the acquired
companies in relation to prior periods and forecasted earnings and the overall
deterioration of market conditions in the enterprise sector, we reviewed
goodwill and the intangible assets for impairment. We recognized an impairment
loss of $18.2 million and $42.3 million for the difference between the estimated
fair value of Synet and Global Integrity, respectively, based on future
discounted cashflows and the carrying amount of each of their assets and
liabilities, including goodwill.

Restructuring and Other Charges. For the year ended December 31, 2001,
we reduced our headcount by 251 employees in connection with our restructuring
plan. These employees consisted of professional consultants and sales personnel,
as well as employees who held certain administrative and management positions
deemed to be duplicative functions. Amounts recognized as restructuring charges
included $3.4 million in severance benefits and other related expenses and $5.9
million in exit costs related to real estate and electronic equipment. In
December 2001, we formed a strategic alliance with Riptech for the outsourcing
of our monitoring services provided as part of our Managed Security Services
division. In connection with the outsourcing, we reduced our headcount by 12
employees and recorded restructuring charges of $4.4 million. Such charges
consisted of $315,000 in severance benefits, $798,000 in nonrecoverable costs to
convert clients to Riptech and other related charges, and $3.3 million for the
write-off of equipment and software development costs associated with our
security operations center which will no longer be needed as a result of the
outsourcing. Also included in the financial statement caption for the year ended
December 31, 2001 is $1,030,000 related to the write-off of internal software
management tools that no longer suit our business needs.

Loss on Long-Term Investments in Related Parties. On March 22, 2001,
Paradigm4, Inc. filed for federal bankruptcy protection. This action created
significant uncertainty regarding our investment in Paradigm4. As a result, we
recognized a loss on our $1.0 million investment in Paradigm4 for the year ended
December 31, 2001. For the year ended December 31, 2001, we also recognized a
loss on its $1.0 million investment in Three Pillars due to management's
determination that the value of the investment was impaired.

Noncash Compensation Expense. During 1999, we granted options to
purchase shares of common stock at exercises prices that were less than the fair
market value of the underlying shares of common stock resulting in deferred
compensation. During 2000, related to the acquisitions of Synet and Global
Integrity, we issued options to Synet and Global Integrity optionholders in
exchange for their Synet and Global Integrity options, respectively. The
unvested portion of their Synet and Global Integrity options resulted in
deferred compensation. These transactions result in noncash compensation expense
over the period that the specific options vest. For the years ended December 31,
2001 and 2000, we recorded approximately $276,000 and $158,000, respectively, of
noncash compensation expense related to these options.

Other Income (Expense). Other income decreased to $2.5 million in 2001
from $6.8 million in 2000. This decrease was primarily due to a decrease in
interest income as a result of the utilization of cash and cash equivalents to
fund current operation needs and the Synet and Global Integrity acquisitions and
a general decline in interest rates.

Income Taxes. Income tax benefit was $1,635,000 on pre-tax losses of
$142.5 million for 2001. In 2000, the income tax provision was $95,000 on
pre-tax losses of $3.8 million. The effective tax rate was (1.1)% and 2.5%
during 2001 and 2000, respectively. The current year deferred tax benefit was
due to the recognition of a benefit for net operating losses which are expected
to offset the income generated as the Company's deferred tax liabilities
decrease.

Years Ended December 31, 2000 and 1999

Revenues. Substantially all of our revenues are derived from fees for
professional services. Revenues increased 67.4% to $88.3 million in 2000 from
$52.7 million in 1999. Revenues from professional services increased 68.3% to
$85.3 million in 2000 from $50.7 million in 1999. This increase was primarily
due to an increase in the number of professional services projects and an
increase in the size of the projects. Revenues from hardware and software sales
increased to $2.9 million in 2000 from $2.0 million in 1999. During 2000,
BellSouth accounted for 10.2% of our revenues. The number of our billable
consultants increased from approximately 302 at December 31, 1999 to
approximately 520 at December 31, 2000.

Gross Profit. Gross profit increased 52.9% to $38.7 million in 2000
from $25.3 million in 1999. As a percentage of revenues, gross profit decreased
to 43.8% in 2000 from 47.9% in 1999. The increase in gross profit absolute
dollars was due to efficiencies in completing fixed-price, fixed-time projects
and an increase in average billing rates, offset by lower utilization rates.
Cost of revenues increased to $49.6 million in 2000 from $27.5 million in 1999.
This increase in cost of revenues was due to an increase in compensation and
benefits paid to consultants, which was directly related to increased revenue.

General and Administrative Expenses. General and administrative
expenses increased 91.7% to $32.2 million in 2000 from $16.8 million in 1999. As
a percentage of revenues, general and administrative expenses were 36.5% in 2000
and 31.9% in 1999. The increase in absolute dollars was primarily due to an
increase of $5.7 million in recruiting and professional development and other
administrative costs, an increase of $2.7 million in facilities and equipment
costs, an increase of $2.6 million in compensation and benefits costs, and an
increase of $4.4 million in bad debt expense primarily due to accounts
receivable write-offs of $4.0 million related to ICG, Inc., North Point
Communications and Digital Broadband Communications, Inc. On November 14, 2000,
ICG, Inc. filed for federal bankruptcy protection, which created significant
uncertainty regarding our ability to collect the outstanding accounts
receivables due from them of $3.6 million. In addition, payments received in
2000 from ICG may be subject to a challenge under federal bankruptcy laws. On
December 27, 2000, Digital Broadband filed for federal bankruptcy protection,
which created significant uncertainty regarding our ability to collect the
outstanding accounts receivables due of $15,000. On January 16, 2001, North
Point filed for federal bankruptcy protection, which created significant
uncertainty regarding our ability to collect the outstanding accounts
receivables due of $350,000. The remaining increase represents additional
provision charged to expense, which was directly related to increased revenue
and trade accounts receivable balances.

Depreciation and Amortization. Depreciation and amortization increased
119.2% to $1.7 million in 2000 from $756,000 in 1999. This increase was due to
purchases of additional equipment to support the expansion of our
infrastructure.

Intangibles Amortization. Amortization of intangibles increased 790.5%
to $2.9 million in 2000 from $327,000 in 1999. In 2000, amount consisted of
$853,000 amortization of intangibles relating to our acquisition of Network
Resource Consultants and Company, $1.4 million amortization of Synet intangibles
related to the acquisition of Synet in October 2000 and $650,000 amortization of
Global intangibles related to the acquisition of Global in December 2000. In
1999, amortization was solely related to the Network Resource Consultants and
Company intangibles.

Noncash Compensation Expense. During 1999, we granted options to
purchase shares of common stock at exercises prices that were less than the fair
market value of the underlying shares of common stock. During 2000, related to
the acquisitions of Synet and Global Integrity, we issued options to Synet and
Global Integrity optionholders in exchange for their Synet and Global Integrity
options, respectively. The unvested portion of their Synet and Global Integrity
options resulted in deferred compensation. These transactions result in noncash
compensation expense over the period that the specific options vest. For the
years ended of December 31, 2000 and 1999, we recorded approximately $158,000
and $48,000, respectively, of noncash compensation expense related to these
options.

Other Income (Expense). Other income increased 688.2% to $6.8 million
in 2000 from $863,000 in 1999. This increase was primarily due to an increase of
$6.3 million in interest income related to net proceeds from our initial and
follow-on public offerings, which proceeds were invested in interest-bearing
cash equivalents and marketable securities.

Income Taxes. Income tax provision was $95,000 on pre-tax losses of
$3.8 million for 2000. In 1999, the income tax provision was $682,000 on pre-tax
losses of $275,000. The effective tax rate was 2.5% and 248.3% during 2000 and
1999, respectively. The change in the effective tax rates primarily relates to
the provision for a valuation allowance against net operating losses of our
subsidiaries as well as non-deductible amortization expense of the intangibles
resulting from the acquisitions of Network Resource Consultants and Company,
Synet and Global Integrity.

Quarterly Results of Operations

The following table sets forth unaudited quarterly statement of
operations data (in thousands) for each of the eight quarters in the period
ended December 31, 2001 and the percentage of our revenues represented by each
item in the respective quarters. In the opinion of management, all necessary
adjustments, consisting only of normal recurring adjustments, have been included
in the amounts stated below to present fairly the unaudited quarterly results
when read in conjunction with our financial statements and notes. The unaudited
results of operations for any quarter are not necessarily indicative of results
for any future period.

Quarter Ended
-------------------------------------------
Mar. 31, June 30, Sept. 30, Dec. 31,
2001 2001 2001 2001
-------- -------- --------- --------

Revenues:
Professional services ............................................... $20,358 $17,841 $14,351 $ 13,667
Hardware and software sales ......................................... 401 492 677 421
------- ------- ------- --------
Total revenues..................................................... 20,759 18,333 15,028 14,088
------- ------- ------- --------
Cost of Revenues:
Professional services ............................................... 15,211 12,868 11,677 10,762
Hardware and software sales ......................................... 283 896 618 293
------- ------- ------- --------
Total cost of revenues............................................. 15,494 13,764 12,295 11,055
------- ------- ------- --------
Gross profit.......................................................... 5,265 4,569 2,733 3,033
Operating Expenses:
Selling and marketing ............................................... 4,560 4,729 3,632 2,909
General and administrative .......................................... 11,885 12,054 10,435 7,684
Depreciation and amortization ....................................... 766 953 583 571
Intangibles amortization ............................................ 6,375 6,300 6,424 2,834
Loss on equipment.................................................... -- -- 443 --
Impairment of intangibles............................................ -- -- 60,485 --
Restructuring and other charges...................................... 641 3,663 4,571 5,797
Loss on long-term investments in related parties..................... 1,000 -- 1,000 --
Noncash compensation expense ........................................ 110 108 83 (25)
------- ------- ------- --------
Operating loss........................................................ (20,072) (23,238) (84,923) (16,737)
Other income.......................................................... 1,085 593 675 109
------- ------- ------- --------
Loss before income tax benefit........................................ (18,987) (22,645) (84,248) (16,628)
Income tax benefit.................................................... -- -- -- (1,635)
------- ------- ------- --------
Net loss.............................................................. $(18,987) $(22,645) $(84,248) $(14,993)
======= ======= ======= ========

Percentage of Total Revenues
-------------------------------------------

Revenues:
Professional services ............................................... 98.1% 97.3% 95.5% 97.0%
Hardware and software sales ......................................... 1.9 2.7 4.5 3.0
------- ------- ------- --------
Total revenues..................................................... 100.0 100.0 100.0 100.0
------- ------- ------- --------
Cost of Revenues:
Professional services ............................................... 73.2 70.2 77.7 76.4
Hardware and software sales ......................................... 1.4 4.8 4.1 2.1
------- ------- ------- --------
Total cost of revenues............................................. 74.6 75.0 81.8 78.5
------- ------- ------- --------
Gross profit.......................................................... 25.4 25.0 18.2 21.5
Operating Expenses:
Selling and marketing ............................................... 22.0 25.8 24.2 20.7
General and administrative .......................................... 57.3 65.7 69.4 54.5
Depreciation and amortization ....................................... 3.7 5.2 3.9 4.0
Intangibles amortization ............................................ 30.7 34.4 42.7 20.1
Loss on equipment.................................................... -- -- 2.9 --
Impairment of intangibles............................................ -- -- 402.5 --
Restructuring and other charges...................................... 3.1 20.0 30.4 41.1
Loss on long-term investments in related parties..................... 4.8 -- 6.7 --
Noncash compensation expense ........................................ 0.5 0.6 0.6 (0.1)
------- ------- ------- --------
Operating loss........................................................ (96.7) (126.7) (565.1) (118.8)
Other income (expense)................................................ 5.2 3.2 4.5 0.8
------- ------- ------- --------
Loss before income tax provision benefit.............................. (91.5) (123.5) (560.6) (118.0)
Income tax benefit.................................................... -- -- -- (11.6)
------- ------- ------- --------
Net loss.............................................................. (91.5)% (123.5)% (560.6)% (106.4)%
======= ======= ======= ========

Quarter Ended
-------------------------------------------
Mar. 31, June 30, Sept. 30, Dec. 31,
2000 2000 2000 2000
-------- -------- --------- --------

Revenues:
Professional services ............................................... $18,901 $22,067 $23,754 $ 20,603
Hardware and software sales ......................................... 144 1,308 913 585
------- ------- ------- --------
Total revenues..................................................... 19,045 23,375 24,667 21,188
------- ------- ------- --------
Cost of Revenues:
Professional services ............................................... 9,706 11,169 12,137 14,408
Hardware and software sales ......................................... 108 1,000 669 424
------- ------- ------- --------
Total cost of revenues............................................. 9,814 12,169 12,806 14,832
------- ------- ------- --------
Gross profit.......................................................... 9,231 11,206 11,861 6,356
Operating Expenses:
Selling and marketing ............................................... 2,651 3,126 3,169 3,344
General and administrative .......................................... 5,440 6,424 6,954 13,413
Depreciation and amortization ....................................... 275 439 453 490
Intangibles amortization ............................................ 213 213 213 2,273
Noncash compensation expense ........................................ 19 19 19 101
------- ------- ------- --------
Operating profit (loss)............................................... 633 985 1,053 (13,265)
Other income.......................................................... 1,237 1,941 2,068 1,556
------- ------- ------- --------
Income (loss) before income tax provision (benefit)................... 1,870 2,926 3,121 (11,709)
Income tax provision (benefit)........................................ 842 1,262 1,339 (3,348)
------- ------- ------- --------
Net income (loss)..................................................... $ 1,028 $ 1,664 $ 1,782 $ (8,361)
======= ======= ======= ========

Percentage of Total Revenues
-------------------------------------------

Revenues:
Professional services ............................................... 99.2% 94.4% 96.3% 97.2%
Hardware and software sales ......................................... 0.8 5.6 3.7 2.8
------- ------- ------- --------
Total revenues..................................................... 100.0 100.0 100.0 100.0
------- ------- ------- --------
Cost of Revenues:
Professional services ............................................... 50.9 47.8 49.2 68.0
Hardware and software sales ......................................... 0.6 4.3 2.7 2.0
------- ------- ------- --------
Total cost of revenues............................................. 51.5 52.1 51.9 70.0
------- ------- ------- --------
Gross profit.......................................................... 48.5 47.9 48.1 30.0
Operating Expenses:
Selling and marketing ............................................... 13.9 13.4 12.9 15.8
General and administrative .......................................... 28.6 27.4 28.2 63.3
Depreciation and amortization ....................................... 1.5 1.9 1.8 2.3
Intangibles amortization ............................................ 1.1 0.9 0.9 10.7
Noncash compensation expense ........................................ 0.1 0.1 0.1 0.5
------- ------- ------- --------
Operating profit (loss)............................................... 3.3 4.2 4.2 (62.6)
Other income (expense)................................................ 6.5 8.3 8.4 7.3
------- ------- ------- --------
Income (loss) before income tax provision (benefit)................... 9.8 12.5 12.6 (55.3)
Income tax provision (benefit)........................................ 4.4 5.4 5.4 (15.8)
------- ------- ------- --------
Net income (loss)..................................................... 5.4% 7.1% 7.2% (39.5)%
======= ======= ======= ========

We have historically experienced significant quarterly fluctuations in
our revenues and results of operations and expect these fluctuations to
continue. Factors causing these variations include the number, timing, scope and
contractual terms of client projects, delays incurred in the performance of such
projects, accuracy of estimates of resources and time required to complete
ongoing projects, and general economic conditions. In addition, our future
revenues and operating results may fluctuate as a result of changes in pricing
in response to customer demand and competitive pressures, the ratio of
fixed-price contracts versus time-and-expense contracts and the timing of
collection of accounts receivable. A high percentage of our operating expenses,
particularly personnel and rent, are relatively fixed in advance of any
particular quarter. As a result, unanticipated variations in the number and
timing of our projects or in employee utilization rates may cause significant
variations in operating results in any particular quarter, and could result in
losses. Any significant shortfall of revenues in relation to our expectations,
any material reduction in utilization rates for our consultants, an
unanticipated termination of a major project, a client's decision not to pursue
a new project or proceed to succeeding stages of a current project, or the
completion during a quarter of several major customer projects could require us
to pay underutilized employees and have a material adverse effect on our
business, results of operations and financial condition.

Our quarterly operating results are also subject to certain seasonal
fluctuations. We have in the past recruited new consultants in the first and
second quarters who have not conducted billable services until later in the
year. Demand for our services may be lower in the fourth quarter due to reduced
activity during the holiday season and fewer working days for those customers
that curtail operations during this period. These and other seasonal factors may
contribute to fluctuations in our operating results from quarter to quarter.

Liquidity and Capital Resources

Since inception, we have financed our operations through borrowings
under short-term credit facilities, the sale of equity securities and cash flows
from operations. As of December 31, 2001, we had approximately $41.3 million in
cash and cash equivalents and $782,000 in restricted cash pursuant to certain
operating lease agreements.

Net cash used in operating activities increased to $37.1 million for
2001 from $2.0 million for 2000 primarily due to losses generated in operations.
We experienced a decrease in accrued expenses and other current liabilities of
approximately $4.0 million and a decrease of $2.1 million in deferred income. We
also purchased $3.5 million in software inventory for resale of which $2.2
million remained in inventory at December 31, 2001. These net outflows of cash
were offset by net inflows of cash as a result of decreases in accounts
receivable, related party receivables and unbilled work in process of $6.6
million, $3.7 million and $2.8 million, respectively. Such decreases were
attributable to increased collection efforts and declining revenues due to
difficult market conditions. Accounts payable increased by $2.4 million of which
approximately $1.5 million related to the purchase of software inventory for
resale. Net cash used in operating activities for 2000 decreased to $2.0 million
from $2.6 million for 1999. A significant use of cash resulted from an increase
in accounts receivable, related party receivables and unbilled work in process
of $5.7 million, $3.8 million and $1.7 million, respectively, as a result of the
increase in revenues, offset by an increase in accrued expenses and other
current liabilities of $3.7 million. Net cash used in operating activities for
1999 resulted from an increase in accounts receivable and related party
receivables of $7.6 million as a result of the increase in revenues, offset by
an increase in accounts payable and accrued expenses and other current
liabilities.

Net cash used in investing activities was $3.6 million in 2001, $53.6
million in 2000 and $2.5 million in 1999. Capital expenditures were $7.4 million
for 2001, $6.9 million for 2000 and $2.1 million for 1999. Capital expenditures
consisted of computer equipment, office furniture and leasehold improvements in
connection with the investment in our infrastructure. Also included in capital
expenditures for 2001 was $2.5 million of costs incurred in connection with the
development of software to be used for internal purposes. In 2000, a significant
use of cash resulted from $43.3 million net cash paid in the acquisitions of
Synet and Global Integrity and $2.0 million in long-term investments.

Net cash provided by financing activities was $2.0 million for 2001,
$45.9 million for 2000 and $94.8 million for 1999. Cash provided by financing
activities for 2001 resulted from the receipt of proceeds from the exercise of
options and the sale of common stock in connection with our Employee Stock
Purchase Plan. Cash provided by financing activities for 2000 resulted from the
receipt of approximately $39.8 million in net proceeds from the sale of common
stock in a follow-on offering, $3.6 million in proceeds from exercise of stock
options and $2.6 million in proceeds from the sale of common stock in connection
with our Employee Stock Purchase Plan. Cash provided by financing activities for
1999 resulted from the receipt of approximately $75.1 million in net proceeds
from the sale of common stock in the initial public offering, the receipt of
approximately $18.6 million in net proceeds related to the sale of preferred
stock and the receipt of approximately $15.5 million in net proceeds from the
sale of common stock to Cisco and partnerships affiliated with General Atlantic
Partners, LLC prior to the initial public offering, offset partially by the
repayment of short-term borrowings and repurchase of treasury stock.

We have a demand loan facility, secured by a lien on all of our assets,
under which we may borrow up to the lesser of $5.0 million or 80.0% of our
accounts receivable. Amounts outstanding under the facility bear interest at the
lender's base rate which was 4.75% as of December 31, 2001. At December 31, 2001
there were no amounts outstanding under the facility.

We have commitments to make future payments under various lease
agreements for computer equipment, office furniture and office space. Future
commitments under these leases are as follows:

- ------------------------ ----------------------------------------------------------------------------------------------------------
Payments Due By Period
- ------------------------ ----------------------------------------------------------------------------------------------------------

Contractual Cash Total Less than 1 year 1-3 years 4-5 years After 5 years
Obligations
- ------------------------ --------------------- ---------------------- --------------------- --------------------- -----------------
Capital Lease 153,492 92,241 61,251 - -
Obligations
- ------------------------ --------------------- ---------------------- --------------------- --------------------- -----------------
Operating Leases 23,618,340 4,822,582 10,218,440 3,591,341 4,985,977
- ------------------------ --------------------- ---------------------- --------------------- --------------------- -----------------

Based on our current revenue projections, we believe that we will
continue to be cash flow negative for at least the first six months of the 2002.
We believe that our existing cash, cash equivalents and marketable securities
will be sufficient to meet our anticipated needs for working capital and capital
expenditures for at least the next twelve months. If cash generated from
operations is insufficient to satisfy our liquidity requirements, we may seek to
sell additional equity or debt securities or to obtain a credit facility. The
sale of additional equity or convertible debt securities could result in
dilution to our stockholders. The incurrence of indebtedness would result in
increased fixed obligations and could result in operating covenants that would
restrict our operations. We cannot assure you that financing will be available
in amounts or on terms acceptable to us, if at all.

Recent Accounting Pronouncements

In June 1998, the FASB issued Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities" (SFAS 133). SFAS 133 establishes accounting and reporting standards
requiring that every derivative instrument be recorded in the balance sheet as
either an asset or liability measured at its fair value. SFAS 133 requires that
changes in the derivative's fair value be recognized currently in earnings
unless specific hedge accounting criteria are met. SFAS 133 is effective for
fiscal years beginning after June 15, 1999. In July 1999, the FASB approved SFAS
No. 137, Accounting for Derivative Instruments and Hedging Activities-Deferral
of the Effective Date of SFAS 133, which amends SFAS 133 to be effective for all
fiscal quarters of all fiscal years beginning after June 15, 2000. As the
Company currently does not engage in derivative instruments or hedging
activities, the adoption of this accounting principle on January 1, 2001 did not
have a material impact on the Company's financial position or results of
operations.

In July 2001, the FASB issued Statement of Financial Accounting
Standards No. 141, "Business Combinations" (SFAS 141) and No. 142, "Goodwill and
Other Intangible Assets" (SFAS 142). SFAS 141 requires all business combinations
initiated after June 30, 2001 to be accounted for using the purchase method.
Under SFAS 142, goodwill and intangible assets with indefinite lives are no
longer amortized but are reviewed annually (or more frequently if impairment
indicators arise) for impairment. Separable intangible assets that are not
deemed to have indefinite lives will continue to be amortized over their useful
lives (but with no maximum life). The amortization provisions of SFAS 142 apply
to goodwill and intangible assets acquired after June 30, 2001. The Company will
adopt the provisions of SFAS 142 on January 1, 2002.

In August 2001, the FASB issued Statement of Financial Accounting
Standard No. 143, "Accounting for Asset Retirement Obligations" (SFAS 143),
which is effective October 1, 2003. SFAS 143 requires, among other things, the
accounting and reporting of legal obligations associated with the retirement of
long-lived assets that result from the acquisition, construction, development or
normal operation of a long-lived asset. The Company is currently assessing, but
has not yet determined the effect, if any, of SFAS 143.

In August 2001, the FASB issued Statement of Financial Accounting
Standard No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets" (SFAS 144). This statement supersedes SFAS No. 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and
Accounting Principles Board Opinion No. 30 "Reporting Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions". The Statement
retains the fundamental provisions of SFAS No. 121 for recognition and
measurement of impairment, but amends the accounting and reporting standards for
segments of a business to be disposed of. The provisions of this statement are
required to be adopted no later than fiscal years beginning after December 31,
2001, with early adoption encouraged. The Company is currently evaluating the
impact of the adoption of SFAS No. 144, which the Company expects will not be
material.

On November 14-15, 2001, the Emerging Issues Task Force (EITF) of the
FASB concluded that reimbursements received for "out-of-pocket" expenses should
be classified as revenue, and correspondingly cost of services, in the income
statement. The new accounting treatment should be applied in financial reporting
periods (years) beginning as early as the March 2002 quarter. Upon application
of the pronouncement, comparative financial statements for prior periods must
also be reclassified in order to ensure consistency among all periods presented.
The Company has not yet determined the impact of this pronouncement on its
results of operations.

Item 7A. Quantitative and Qualitative Disclosures about Market Risk

Currency Rate Fluctuations.

Our results of operations, financial position and cash flows are not
materially affected by changes in the relative values of non-U.S. currencies to
the U.S. dollar. We do not use derivative financial instruments to limit our
foreign currency risk exposure.

Market Risk.

Our accounts receivable are subject, in the normal course of business,
to collection risks. We regularly assess these risks and have established
policies and business practices to protect against the adverse effects of
collection risks. As a result, we do not anticipate any material losses in this
area.

Interest Rate Risks.

We do not currently have any outstanding indebtedness, with the
exception of capital leases. In addition, our investments are classified as cash
and cash equivalents with original maturities of three months or less.
Therefore, we are not exposed to material market risk arising from interest rate
changes, nor do such changes affect the value of investments as recorded by us.

Item 8. Financial Statements and Supplementary Data

Reference is made to the financial statements listed under the heading
(a)(1) Consolidated Financial Statements of Item 14 hereof, which financial
statements are incorporated herein by reference in response to this Item 8.

Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure

Not applicable.

PART III

Item 10. Directors and Executive Officers of the Registrant

The information required by this item is incorporated by reference from
the information under the captions Election of Directors and Executive
Compensation, Management and Other Information contained in our definitive proxy
statement to be filed no later than April 30, 2002, in connection with the
solicitation of proxies for our annual meeting of stockholders to be held in May
2002 (the "Proxy Statement").

Item 11. Executive Compensation

The information required by this item is incorporated by reference from
the information under the caption Executive Compensation, Management and Other
Information contained in the Proxy Statement.

Item 12. Security Ownership of Certain Beneficial Owners and Management

The information required by this item is incorporated by reference from
the information under the caption Security Ownership of Certain Beneficial
Owners and Management contained in the Proxy Statement.

Item 13. Certain Relationships and Related Transactions

The information required by this item is incorporated by reference from
the information under the caption Certain Transactions contained in the Proxy
Statement.

Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K

(a) (1) Consolidated Financial Statements.

The following consolidated financial statements of Predictive Systems,
Inc. and Subsidiaries and the Report of Independent Public Accountants thereon
are included in Item 8 above:

Page
----
Report of Independent Public Accountants ................................ F-2
Consolidated Balance Sheets as of December 31, 2001 and 2000. ........... F-3
Consolidated Statements of Operations for the Years Ended December 31,
2001, 2000 and 1999.................................................... F-4
Consolidated Statements of Stockholders' Equity and Comprehensive Income
(Loss)for the Years Ended December 31, 2001, 2000 and 1999............. F-5
Consolidated Statements of Cash Flows for the Years Ended December 31,
2001, 2000 and 1999.................................................... F-7
Notes to Consolidated Financial Statements. ............................. F-9

(a) (2) Financial Statement Schedule.

Page
----
Schedule II -- Schedule of Valuation and Qualifying Accounts............. S-2

(a) (3) Exhibits.

The following Exhibits are incorporated herein by reference or are filed with
this report as indicated below.

Number Description
------ -----------

3.1(1) Amended and Restated Certificate of Incorporation.
3.2(2) Amended and Restated By-laws.
4.1(3) Specimen common stock certificate.
4.2 See Exhibits 3.1 and 3.2 for provisions of the Amended and Restated
Certificate of Incorporation and Amended and Restated By-laws of the
Registrant defining the rights of holders of Common Stock of the
Registrant.
10.1(3) 1999 Stock Incentive Plan.
10.2(3) 1999 Employee Stock Purchase Plan.
10.3(4) Synet Service Corporation 1996 Stock Option Plan.
10.4(4) Global Integrity Corporation 1998 Stock Incentive Plan.
10.5++ Agreement, dated October 6, 2000, by and between the Registrant and BellSouth MNS, Inc.
10.7(4) Amended and Restated Registration Rights Agreement, dated December 14, 2000.
10.8(3) Secured Promissory Note, dated August 31, 1998, in favor of Brown Brothers Harriman & Co.
10.9(6) Agreement of Lease, dated September 25, 2001, by and between the Registrant and EBS Forty-
Fourth Property Associates LLC.
10.10 Intentionally omitted.
10.11(4) Professional Services Agreement, dated November 7, 2000 by and between the Registrant and
Bear, Sterns & Co., Inc.
10.12(4) Professional Services Agreement, dated March 1, 2000 by and between the Registrant and
RiverSoft Inc.
10.13 Partner Agreement, dated March 28, 2001, by and between the Registrant and RiverSoft Inc.
10.14 Service Agreement, dated February 2, 2000, by and between the Registrant and Cisco
Systems, Inc.
10.15++ Professional Services Agreement, effective October 7, 2001, by and
between the Registrant and Science Applications International
Corporation
10.16(4) Technical Services Agreement, dated November 17, 2000 by and between Science Applications
International Corporation and Global Integrity Corporation.
10.17(4) Assignment and Cross License Agreement, dated December 6, 2000 by and between Science
Applications International Corporation and Global Integrity Corporation.
10.18 Marketing Agreement, dated, August 2, 2001, by and between the
Registrant and BellSouth Telecommunications, Inc.
10.19(3) Investor's Rights Agreement, dated September 16, 1999, by and between Cisco Systems,
Inc. and the Registrant.
10.20+ Professional Services Subcontract, dated May 14, 1999, by and between Cisco Systems,
Inc. and the Registrant.
10.21(7) Employment Agreement, dated as of June 15, 2001, by and between the Registrant and Andrew
Zimmerman.
10.22(4) Service Agreement, dated January 1, 2001 by and between the Registrant and Eammon Kearns.
10.23(3) Employment Agreement, dated September 21, 1999, by and between Gerard Dorsey and the
Registrant.
21.1 List of Subsidiaries.
23.1 Consent of Arthur Andersen LLP.
99.1 Letter from the Registrant regarding Arthur Andersen.

(1) Incorporated by reference to Exhibit 3.2 of the Registrant's
Registration Statement on Form S-1, No. 333-84045 (Registration
Statement No. 333- 84045).

(2) Incorporated by reference to Exhibit 3.4 of Registration Statement No.
333-84045.

(3) Incorporated by reference to the identically numbered exhibit of
Registration Statement No. 333-84045.

(4) Incorporated by reference to the identically numbered exhibit of the
Registrant's Annual Report on Form 10K for the period ending December
31, 2000.

(5) Incorporated by reference to Exhibit 10.3.1 of the Registrant's Annual
Report on Form 10K for the period ending December 31, 2000.

(6) Incorporated by reference to Exhibit 10.1 of the Registrant's Quarterly
Report on Form 10Q for the period ending September 30, 2001

(7) Incorporated by reference to Exhibit 10.1 of the Registrant's Quarterly
Report on Form 10Q for the period ending June 30, 2001.

+ Non-confidential portions of this Exhibit were filed as the identically
numbered exhibit of Registration Statement No. 333-84045, which non-
confidential portions are incorporated herein by reference.
Confidential treatment was granted for certain portions of this Exhibit
pursuant to Rule 406 promulgated under the Securities Act. Confidential
portions of this Exhibit have been filed separately with the Securities
and Exchange Commission.

++ Confidential treatment to be requested for certain portions of this
Exhibit pursuant to Rule 406 promulgated under the Securities Act.
Confidential portions of this Exhibit have been filed separately with
the Securities and Exchange Commission.

(b) Reports on Form 8-K

The Company did not file any reports on Form 8-K during the
fourth quarter ended December 31, 2001.

SIGNATURES

Pursuant to the requirements of the Securities Act of 1934, as amended, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized in the City of New York, State of New
York, on this 27th day of March, 2002.

PREDICTIVE SYSTEMS, INC.

By: Andrew Zimmerman
---------------------------------
Name: Andrew Zimmerman
Title: Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
this Report has been signed by the following persons in the capacities
indicated.

Signature Title(s) Date
--------- -------- ----

/s/ Andrew Zimmerman Chief Executive Officer and Director March 27, 2002
- ------------------------------------- (principal executive officer)
Andrew Zimmerman

/s/ Gerard E. Dorsey Chief Financial Officer (principal March 27, 2002
- ------------------------------------- financial and accounting officer)
Gerard E. Dorsey

/s/ Peter L. Bloom Director March 27, 2002
- -------------------------------------
Peter L. Bloom

/s/ John M. Jacobs Director March 27, 2002
- -------------------------------------
John M. Jacobs

/s/ Braden R. Kelly Director March 27, 2002
- -------------------------------------
Braden R. Kelly

/s/ Eric Meyer Director March 27, 2002
- -------------------------------------
Eric Meyer

/s/ Ronald G. Pettengill, Jr. Director March 27, 2002
- -------------------------------------
Ronald G. Pettengill, Jr.

/s/ Inder Sidhu Director March 27, 2002
- -------------------------------------
Inder Sidhu

/s/ William L. Smith Director March 27, 2002
- -------------------------------------
William L. Smith

/s/ William W. Wyman Chairman of the Board of Directors March 27, 2002
- -------------------------------------
William W. Wyman

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

Page
----

Report of Independent Public Accountants........................................................... F-2
Consolidated Balance Sheets as of December 31, 2001 and 2000....................................... F-3
Consolidated Statements of Operations for the Years Ended December 31, 2001, 2000 and 1999......... F-4
Consolidated Statements of Stockholders' Equity and Comprehensive Income (Loss) for the Years
Ended December 31, 2001, 2000 and 1999............................................................. F-5
Consolidated Statements of Cash Flows for the Years Ended December 31, 2001, 2000 and 1999......... F-7
Notes to Consolidated Financial Statements......................................................... F-9
Report of Independent Public Accountants........................................................... S-1
Schedule II - Schedule of Valuation and Qualifying Accounts........................................ S-2

F-1

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To Predictive Systems, Inc.:

We have audited the accompanying consolidated balance sheets of
Predictive Systems, Inc. (a Delaware corporation) and subsidiaries as of
December 31, 2001 and 2000, and the related consolidated statements of
operations, stockholders' equity and comprehensive income (loss) and cash flows
for each of the three years in the period ended December 31, 2001. 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 auditing standards generally
accepted 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 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 financial statements referred to above present
fairly, in all material respects, the financial position of Predictive Systems,
Inc. and subsidiaries as of December 31, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2001 in conformity with accounting principles generally accepted in
the United States.

/s/ ARTHUR ANDERSEN LLP
-----------------------

New York, New York
February 6, 2002

F-2

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS

December 31,
------------
2001 2000
---- ----
ASSETS
CURRENT ASSETS:

Cash and cash equivalents............................................................ $ 41,277,867 $ 80,058,791
Marketable securities................................................................ -- 3,794,100
Accounts receivable--net of allowance for doubtful accounts of $2,606,361 and
$1,292,491, respectively........................................................... 10,124,399 21,801,755
Unbilled work in process............................................................. 1,319,044 5,055,471
Inventory held for resale............................................................ 2,205,986 --
Related party receivables............................................................ 1,052,540 4,767,397
Receivables from employees........................................................... 61,526 423,074
Refundable income taxes.............................................................. 375,982 --
Prepaid expenses and other current assets............................................ 2,180,531 2,335,192
------------ ------------

Total current assets................................................................. 58,597,875 118,235,780

Property and equipment--net of accumulated depreciation and amortization of
$4,587,357 and $3,363,265, respectively............................................ 6,323,100 10,403,523
Intangible assets--net of accumulated amortization of $25,171,316 and
$3,238,598, respectively........................................................... 36,242,922 115,441,166
Long-term investments in related parties............................................. -- 2,000,000
Restricted cash...................................................................... 782,292 --
Other assets......................................................................... 547,103 248,068
------------ ------------

Total assets......................................................................... $102,493,292 $246,328,537
============ ============

LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable..................................................................... $ 5,451,745 $ 3,062,164
Accrued expenses and other current liabilities....................................... 11,452,464 12,073,049
Current portion of capital lease obligations......................................... 81,714 137,734
Current portion of notes payable..................................................... -- 16,000
Income taxes payable................................................................. 16,626 313,267
Deferred income tax liability........................................................ -- 112,281
Deferred income...................................................................... 333,527 2,890,130
------------ ------------

Total current liabilities............................................................ 17,336,076 18,604,625

NONCURRENT LIABILITIES:
Capital lease obligations............................................................ 52,134 151,965
Deferred rent........................................................................ 165,251 530,589
Deferred income tax liability........................................................ -- 3,347,072
Other long-term liabilities.......................................................... 3,000 --
------------ ------------

Total liabilities.................................................................... 17,556,461 22,634,251
------------ ------------
COMMITMENTS AND CONTINGENCIES (Note 13)

STOCKHOLDERS' EQUITY:
Preferred stock, $.001 par value, 10,000,000 shares authorized, 0 shares issued
and outstanding.................................................................... -- --
Common stock, $.001 par value, 200,000,000 shares authorized,
36,360,491 and 34,903,696 shares issued and outstanding............................ 36,361 34,904
Additional paid-in capital........................................................... 229,408,586 227,753,713
Deferred compensation................................................................ (182,581) (694,280)
Accumulated deficit.................................................................. (144,390,718) (3,517,572)
Accumulated other comprehensive income............................................... 65,183 117,521
------------ ------------

Total stockholders' equity........................................................... 84,936,831 223,694,286
------------ ------------
Total liabilities and stockholders' equity........................................... $102,493,292 $246,328,537
============ ============

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

F-3

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS

For The Years Ended December 31,
--------------------------------
2001 2000 1999
---- ---- ----

Revenues:
Professional services............................... $ 66,216,949 $ 85,325,305 $ 50,698,035
Hardware and software sales......................... 1,990,869 2,949,961 2,046,810
------------ ----------- -----------

Total revenues...................................... 68,207,818 88,275,266 52,744,845
------------ ----------- -----------

Cost of Revenues:
Professional services............................... 50,517,538 47,420,520 25,698,926
Hardware and software purchases..................... 2,090,307 2,200,748 1,765,746
------------ ----------- -----------

Total cost of revenues.............................. 52,607,845 49,621,268 27,464,672
------------ ----------- -----------

Gross profit........................................ 15,599,973 38,653,998 25,280,173

Operating Expenses:
Sales and marketing................................. 15,830,308 12,290,414 8,477,692
General and administrative.......................... 42,057,829 32,230,805 16,809,504
Depreciation and amortization....................... 2,872,587 1,657,311 756,019
Intangibles amortization............................ 21,932,718 2,911,727 326,871
Loss on equipment................................... 443,498 -- --
Impairment of intangibles........................... 60,485,448 -- --
Restructuring and other charges..................... 14,672,561 -- --
Loss on long-term investments in related parties.... 2,000,000 -- --
Noncash compensation expense........................ 275,732 157,557 47,953
------------ ----------- -----------

Operating loss...................................... (144,970,708) (10,593,816) (1,137,866)

Other Income (Expense):
Interest income..................................... 2,565,474 7,260,536 943,898
Other (expense) income ............................. (50,819) (268,314) 76,309
Interest expense.................................... (51,845) (190,519) (157,210)
------------ ----------- -----------

Loss before income tax (benefit) provision.......... (142,507,898) (3,792,113) (274,869)
Income tax (benefit) provision...................... (1,634,752) 95,084 682,497
------------ ----------- -----------

Net loss............................................ $(140,873,146) $ (3,887,197) $ (957,366)
============ =========== ===========

Net loss per share --
Basic and Diluted................................... $ (3.91) $ (0.15) $ (0.08)
============ =========== ===========

Weighted average common shares outstanding--
Basic and Diluted................................... 36,008,048 26,273,946 12,137,560
============ =========== ===========

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

F-4

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS)

Convertible
Preferred Stock Common Stock Additional
----------------------- ----------------------- Paid-in
Shares Par Value Shares Par Value Capital
------ --------- ------ --------- ----------

Balance at December 31, 1998...................... -- $ -- 7,900,200 $ 7,900 $ 682,270
Comprehensive loss.............................
Net loss....................................... -- -- -- -- --
Unrealized gains on investments................ -- -- -- -- --
Foreign currency translation adjustment........ -- -- -- -- --
Total comprehensive loss.......................... -- -- -- -- --
Preferred stock dividends...................... -- -- -- -- --
Issuance of preferred stock.................... 6,512,316 6,512 -- -- 18,559,713
Common stock repurchased to
treasury, 2,855,100 shares................... -- -- -- -- --
Issuance of common stock, net of
offering expenses of $750,000................ -- -- 1,355,000 1,355 15,508,645
Issuance of common stock in
connection with the acquisition of NRCC...... -- -- 1,062,814 1,063 4,250,193
Issuance of common stock in initial
public offering, net of offering
expenses, including the
reissuance of 2,855,100 shares
of treasury stock............................ -- -- 1,744,900 1,745 66,737,265
Conversion of preferred stock to
common stock................................. (6,512,316) (6,512) 10,712,316 10,712 695,800
Exercise of options............................ -- -- 653,970 654 300,065
Income tax benefit relating to
exercise of options.......................... -- -- -- -- 1,366,105
Recognition of deferred compensation........... -- -- -- -- 304,625
Noncash compensation expense................... -- -- -- -- --
---------- -------- ---------- ------- ------------
Balance at December 31, 1999...................... -- -- 23,429,200 23,429 108,404,681
Comprehensive loss.............................
Net loss....................................... -- -- -- -- --
Unrealized loss on investments................. -- -- -- -- --
Foreign currency translation adjustment........ -- -- -- -- --
Total comprehensive loss.......................... -- -- -- -- --
Issuance of common stock in connection with
Employee Stock Purchase Plan................... -- -- 192,723 193 2,571,958
Issuance of common stock in secondary offering,
net of offering expenses of $917,000......... -- -- 1,000,000 1,000 39,823,079
Issuance of common stock and options in
connection with the acquisition of Synet..... -- -- 1,922,377 1,923 22,729,425
Issuance of common stock and options in
connection with the acquisition of Global
Integrity.................................... -- -- 5,240,275 5,240 45,057,627
Exercise of options............................ -- -- 3,119,121 3,119 3,928,871
Income tax benefit relating to
exercise of options.......................... -- -- -- -- 5,238,072
Noncash compensation expense................... -- -- -- -- --
---------- -------- ---------- ------- ------------
Balance at December 31, 2000...................... -- -- 34,903,696 34,904 227,753,713
Comprehensive loss.............................
Net loss....................................... -- -- -- -- --
Unrealized loss on investments................. -- -- -- -- --
Foreign currency translation adjustment........ -- -- -- -- --
Total comprehensive loss.......................... -- -- -- -- --
Issuance of common stock in connection with
Employee Stock Purchase Plan................. -- -- 181,125 181 285,478
Exercise of options............................ -- -- 1,275,670 1,276 1,567,697
Cancellation of options........................ -- -- -- -- (281,736)
Noncash compensation expense................... -- -- -- -- 83,434
---------- ------- ---------- ------- ------------
Balance at December 31, 2001...................... -- $ -- 36,360,491 $ 36,361 $ 229,408,586
========== ======== ========== ========= =============

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

F-5

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND COMPREHENSIVE INCOME
(LOSS)-- (Continued)

Retained Accumulated
Earnings Other Total
Treasury Deferred (Accumulated Comprehensive Stockholders'
Stock Compensation Deficit) Income (Loss) Equity
----- ------------ -------- ------------- -------------

Balance at December 31, 1998............... $ -- $ -- $ 1,335,741 $ -- $ 2,025,911
Comprehensive loss......................
Net loss................................ -- -- (957,366) (957,366)
Unrealized gains on investments......... -- -- -- 1,426 1,426
Foreign currency translation
adjustment............................ -- -- -- (40,767) (40,767)
-------- ------------
Total comprehensive loss................... (996,707)
============
Preferred stock dividends............... -- -- (8,750) -- (8,750)
Issuance of preferred stock............. -- -- -- -- 18,566,225
Common stock repurchased to
treasury, 2,855,100 shares............ (8,398,753) -- -- -- (8,398,753)
Issuance of common stock, net of
offering expenses of $750,000......... -- -- -- -- 15,510,000
Issuance of common stock in
connection with the acquisition of
NRCC.................................. -- -- -- -- 4,251,256
Issuance of common stock in initial
public offering, net of offering
expenses, including the
reissuance of 2,855,100 shares
of treasury stock..................... 8,398,753 -- -- -- 75,137,763
Conversion of preferred stock to
common stock.......................... -- -- -- -- 700,000
Exercise of options..................... -- -- -- -- 300,719
Income tax benefit relating to
exercise of options................... -- -- -- -- 1,366,105
Recognition of deferred
compensation.......................... -- (304,625) -- -- --
Noncash compensation expense............ -- 47,953 -- -- 47,953
---------- ---------- -------------- -------- -------------
Balance at December 31, 1999............... -- (256,672) 369,625 (39,341) 108,501,722
Comprehensive loss......................
Net loss................................ -- -- (3,887,197) -- (3,887,197)
Unrealized loss on investments.......... -- -- -- (11,670) (11,670)
Foreign currency translation
adjustment............................ -- -- -- 168,532 168,532
-------- ------------
Total comprehensive loss................... (3,730,335)
============
Issuance of common stock in connection
with the Employee Stock Purchase Plan. -- -- -- -- 2,572,151
Issuance of common stock in
secondary offering, net of offering
expenses of $917,000.................. -- -- -- -- 39,824,079
Issuance of common stock and options
in connection with the acquisition
of Synet.............................. -- (474,308) -- -- 22,257,040
Issuance of common stock and options
in connection with the acquisition of
Global Integrity...................... -- (120,857) -- -- 44,942,010
Exercise of options..................... -- -- -- -- 3,931,990
Income tax benefit relating to
exercise of options................... -- -- -- -- 5,238,072
Noncash compensation expense............ -- 157,557 -- -- 157,557
---------- ---------- -------------- -------- -------------
Balance at December 31, 2000............... -- (694,280) (3,517,572) 117,521 223,694,286
Comprehensive loss......................
Net loss................................ -- -- (140,873,146) -- (140,873,146)
Unrealized loss on investments.......... -- -- -- (2,896) (2,896)
Foreign currency translation
adjustment............................ -- -- -- (49,442) (49,442)
-------- ------------
Total comprehensive loss................... (140,925,484)
============
Issuance of common stock in connection
with Employee Stock Purchase Plan..... -- -- -- -- 285,659
Exercise of options..................... -- -- -- -- 1,568,973
Cancellation of options................. -- 319,401 -- -- 37,665
Noncash compensation expense............ -- 192,298 -- -- 275,732
---------- ---------- -------------- -------- -------------

Balance at December 31, 2001............... $ -- $ (182,581) $ (144,390,718) $ 65,183 $ 84,936,831
========== ========== ============== ======== =============

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

F-6

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS

For the Years Ended December 31,
--------------------------------
2001 2000 1999
---- ---- ----

CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss .................................................. $(140,873,146) $ (3,887,197) $ (957,366)
Adjustments to reconcile net loss to net cash used in
operating activities--
Noncash compensation expense .............................. 275,732 157,557 47,953
Deferred income taxes ..................................... (1,529,498) (462,297) (674,836)
Depreciation and amortization ............................. 24,805,305 4,569,038 1,082,890
Loss on equipment ......................................... 443,498 -- --
Impairment of intangibles ................................. 60,485,448 -- --
Gain on sale of property and equipment .................... -- (3,023) --
Bad debt expense .......................................... 4,758,026 4,921,556 501,141
Loss on long-term investments in related parties .......... 2,000,000 -- --
Write-off of software inventory ........................... 500,000 -- --
Write-off of receivables from employees ................... 27,237 -- --
Non-cash component of restructuring and other charges ..... 8,118,252 -- --
(Increase) decrease in--
Restricted cash ........................................... (782,292) -- --
Accounts receivable ....................................... 6,564,759 (5,655,077) (6,728,666)
Unbilled work in process .................................. 2,796,754 (1,740,325) 773,704
Related party receivables ................................. 3,714,857 (3,840,111) (901,446)
Inventory held for resale ................................. (2,205,986) -- --
Income taxes .............................................. (375,048) 762,802 1,039,038
Prepaid expenses and other current assets ................. (1,440,703) (300,372) (749,493)
Other assets .............................................. (316,407) 24,833 10,307
Increase (decrease) in--
Accounts payable .......................................... 2,392,553 (233) 885,107
Accrued expenses and other current liabilities ............ (3,963,460) 3,673,829 2,737,184
Deferred income ........................................... (2,140,033) (665,116) 601,810
Deferred rent ............................................. (365,338) 480,726 (21,094)
Other long-term liabilities ............................... 3,000 (2,498) (266,652)
------------- ------------- -------------
Net cash used in operating activities ..................... (37,106,490) (1,965,908) (2,620,419)
------------- ------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of marketable securities ......................... (8,487,989) (8,011,356) (3,118,060)
Proceeds from sale or redemption of marketable securities . 12,279,179 6,223,646 1,101,426
Payments to employees ..................................... (62,576) (76,308) (110,637)
Repayments from employees ................................. 111,785 64,647 48,878
Repayments from stockholders .............................. -- -- 515,000
Payments to related party ................................. -- -- (478,078)
Repayments from related party ............................. -- -- 1,395,026
Settlement of notes receivable, net ....................... -- 283,493 --
Cash received from acquisition of NRCC .................... -- -- 163,768
Purchase of property and equipment ........................ (7,448,973) (6,862,966) (2,065,032)
Sale of property and equipment ............................ -- 27,500 --
Net cash paid in acquisitions of Synet and Global Integrity -- (43,282,258) --
Long-term investments in related parties .................. -- (2,000,000) --
------------- ------------- -------------
Net cash used in investing activities ..................... (3,608,574) (53,633,602) (2,547,709)
------------- ------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Cash overdraft ............................................ -- -- (475,610)
Common shares repurchased to treasury ..................... -- -- (8,398,753)
Proceeds from short-term borrowings ....................... -- -- 4,351,000
Repayments of short-term borrowings ....................... -- -- (9,949,000)
Payment of preferred dividends ............................ -- -- (70,000)
Proceeds from sale of preferred stock ..................... -- -- 18,566,225
Proceeds from sale of common stock, net of expenses ....... -- -- 15,510,000
Proceeds from public offerings, net of expenses,
including reissuance of treasury stock .................. -- 39,824,079 75,137,763
Proceeds from exercise of stock options ................... 1,853,774 3,637,436 300,719
Proceeds from issuance of common stock in connection
with Employee Stock Purchase Plan ....................... 285,659 2,572,151 --
Principal payments on capital leases ...................... (155,851) (177,531) (129,815)
------------- ------------- -------------
Net cash provided by financing activities ................. 1,983,582 45,856,135 94,842,529
------------- ------------- -------------
Effects of exchange rates ................................. (49,442) 168,532 (40,767)
Net (decrease) increase in cash ........................... (38,780,924) (9,574,843) 89,633,634

CASH AND CASH EQUIVALENTS, beginning of period ............ 80,058,791 89,633,634 --
------------- ------------- -------------
CASH AND CASH EQUIVALENTS, end of period .................. $ 41,277,867 $ 80,058,791 $ 89,633,634
============= ============= =============

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the year for--
Interest .................................................. $ 55,313 $ 190,519 $ 234,768
============= ============= =============
Taxes ..................................................... $ 359,744 $ 109,440 $ 442,420
============= ============= =============

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

F-7

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS -- (Continued)

For the Years Ended December 31,
--------------------------------
2001 2000 1999
---- ---- ----

DETAILS OF ACQUISITIONS (Note 3):
Fair value of assets acquired........................ $ -- $ 127,608,072 $ 5,051,683
Liabilities assumed.................................. -- (15,980,009) (800,427)
Less fair value of equity issued..................... -- (67,199,050) (4,251,256)
Less remaining accrued transaction expenses.......... -- ( 1,133,662) --
------------ ------------- -----------
Cash paid.......................................... -- 43,295,351 --
Less cash acquired................................... -- (13,093) (163,768)
------------ ------------- -----------
Net cash paid (received)........................... $ -- $ 43,282,258 $ (163,768)
============ ============= ===========
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING
AND FINANCING TRANSACTIONS:

Stock and options issued for acquisition............. $ -- $ 67,199,050 $ 4,251,256
============ ============= ===========

Tax benefits of stock option exercises............... $ -- $ 5,238,072 $ 1,366,105
============ ============= ===========

Dividends declared on mandatory redeemable
convertible preferred stock.......................... $ -- $ -- $ 8,750
============ ============= ===========

Services provided to Global Integrity prior to
acquisition date..................................... $ -- $ 555,500 $ --
============ ============= ===========

Noncash adjustment to purchase price for Fiscal 2000
acquisitions......................................... $ 2,196,521 $ -- $ --
============ ============= ===========

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

F-8

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(1) Ownership and Operations:

Predictive Systems, Inc. (the Company), was incorporated under the laws
of the State of Delaware on February 10, 1995. The Company was formerly 100%
owned by Predictive Holdings, Inc. (the Parent). During the first quarter of
1999 the Parent was merged with and into the Company and the Parent was
concurrently dissolved. The financial statements and footnotes reflect the
combined operations and financial position of the Company and the Parent for all
periods presented.

The Company provides network security and consulting services and
managed security services for the design, performance, management and security
of complex computing networks. Services are currently provided through the
Company's offices and wholly-owned subsidiaries located throughout the United
States and its wholly-owned subsidiaries in England, which was formed in the
first quarter of 1999, The Netherlands, which was acquired in the third quarter
of 1999, two subsidiaries in Germany, one of which was acquired in the fourth
quarter of 2000 through the acquisition of Synet and a second subsidiary which
was formed in the first quarter of 2001, and in Japan, which was also formed in
the first quarter of 2001.

(2) Summary of Significant Accounting Policies:

Principles of Consolidation

The consolidated financial statements include the accounts of all
wholly-owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.

Revenue and Cost Recognition

Revenues for time-and-material contracts are recognized as the services
are rendered. Revenues for fixed-price contracts are recognized as services are
rendered on the percentage-of-completion method of accounting based on the ratio
of costs incurred to total estimated costs. Revenues for subscription-based
contracts are recognized on a straight-line basis over the period of service.
Provisions for estimated losses on uncompleted contracts are made in the period
in which such losses are determined. The Company acts as a reseller of certain
hardware and software and sales revenue is recognized when these products are
shipped to the customer. Revenues for the resale of inventory are recognized on
a net basis in the period of resale as the Company is not the primary obligor in
the arrangement and receives a stated percentage of the amount billed to the
customer.

Unbilled work in process represents costs incurred and estimated
earnings, production, and other client-reimbursable costs. Included in unbilled
work in process as of December 31, 2001 and 2000 is $633,856 and $4,193,223,
respectively, related to fixed-price contracts.

Deferred income represents prepayments from customers that are recorded
as liabilities for future services to be performed. Income is recognized upon
performance of these related services.

Cash Equivalents

The Company considers all highly liquid investments with a maturity of
three months or less at the time of purchase to be cash equivalents.

Restricted Cash

The Company is required under the terms of certain lease agreements to
provide letters of credit. The credit facility agreement used to provide these
financial guarantees places restrictions on the Company's cash and cash
equivalents. Restricted cash of $782,292 at December 31, 2001 was pledged as
collateral under this agreement.

F-9

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(2) Summary of Significant Accounting Policies: -- (Continued)

Marketable Securities

The Company accounts for marketable securities in accordance with the
provisions of Statement of Financial Accounting Standards No. 115, "Accounting
for Certain Investments in Debt and Equity Securities."

Management determines the appropriate classification of its investments
in equity securities at the time of purchase and reevaluates such determinations
at each balance sheet date. All marketable securities are classified as
available-for-sale and are available to support current operations or take
advantage of other investment opportunities. These securities are stated at
estimated fair value based upon market quotes. Unrealized gains and losses, net
of taxes, are computed on the basis of specific identification and are recorded
as a component of other comprehensive income. Unrealized gains and losses in
fiscal years 2001, 2000 and 1999 were immaterial.

Inventory Held for Resale

Inventory held for resale is stated at the lower of cost or market. At
December 31, 2001, inventory held for resale was $2,205,986.

Property and Equipment

Computer equipment and office furniture are carried at their cost basis
and depreciated using the straight-line method over their estimated useful
lives, ranging from three to seven years. Leasehold improvements are amortized
over the lesser of their estimated useful lives or the life of the lease.
Expenditures for maintenance and repairs are charged to operations as incurred
and major expenditures for renewals and betterments are capitalized and
depreciated over their useful lives.

The Company accounts for internal use software under Statement of
Position 98-1, "Accounting for the Costs of Computer Software Developed or
Obtained for Internal Use" (SOP 98-1). SOP 98-1 requires the capitalization of
certain costs incurred in connection with developing or obtaining internal use
software. As of December 31, 2001, the Company capitalized $2,474,656 in
internally developed software costs. Such costs will be amortized once the
software is ready for its intended use, which is expected to be in fiscal 2002,
using the straight-line method over a period of three years.

Intangibles

Intangible assets principally include customer lists, workforce,
developed technology, tradenames and the excess of purchase price over the fair
value of identifiable net assets acquired (goodwill). The intangible assets are
amortized on a straight-line basis over their estimated useful lives ranging
from three to five years.

The Company assesses the recoverability of intangibles by determining
whether the amortization of the goodwill balance over its remaining life can be
recovered through forecasted future operations. Impairment is evaluated by
comparing future cash flows (undiscounted and without interest charges) expected
to result from the use or sale of the asset and its eventual disposition, to the
carrying amount of the asset. (Note 6)

Business Concentrations and Credit Risk

Financial instruments, which subject the Company to concentrations of
credit risk, consist primarily of cash and cash equivalents and trade accounts
receivable. The Company maintains cash and cash equivalents with various
financial institutions. The Company performs periodic evaluations of the
relative credit standing of these institutions. The Company's clients are
primarily concentrated in the United States. The Company generally does not
require collateral and establishes an allowance for doubtful accounts based upon
factors surrounding the credit risk of customers, historical trends and other
information. For the years ended December 31, 2001 and 2000, the Company
recorded bad debt expense of $4.7 million and $4.9 million, respectively. The
Company wrote-off trade accounts receivable of approximately $1,925,000 and
$3,996,000, respectively, in 2001 and 2000 as a result of customers filing for
federal bankruptcy protection, which created significant uncertainty regarding
the Company's ability to collect these outstanding trade accounts receivable
balances. The remaining expense for the years ended December 31, 2001 and 2000
was additional provision based on the Company's analysis of its accounts
receivable balances.

For the years ended December 31, 2001 and 2000, approximately 17% and
10% of sales, respectively, were from one customer who is a related party (Note
7). The amounts due from this customer at December 31, 2001 and 2000 were
$994,322 and $2,843,901, respectively. For the year ended December 31, 1999,
approximately 31% of sales were from two customers. For the years ended December
31, 2001, 2000 and 1999, the Company's five largest customers accounted for
approximately 40.6%, 37.8% and 45.8% of revenues, respectively.

F-10

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(2) Summary of Significant Accounting Policies: -- (Continued)

Foreign Currency Translation

The financial statements of foreign subsidiaries, where the local
currency is the functional currency, are translated into U.S. dollars using
exchange rates in effect at period end for assets and liabilities and average
rates during each reporting period for results of operations and cash flows.
Adjustments resulting from translation of financial statements are reflected as
a separate component of stockholders' equity.

Income Taxes

The Company accounts for income taxes under Statement of Financial
Accounting Standards (SFAS) No. 109, "Accounting for Income Taxes" (SFAS 109).
SFAS 109 requires the recognition of deferred tax assets and liabilities for the
expected future tax consequences of events that have been included in the
financial statements or tax returns. Under this method, deferred tax assets and
liabilities are determined based on the differences between the financial
statement and the tax basis of assets and liabilities using enacted tax rates in
effect for the year in which the differences are expected to reverse. (Note 11)

Net Income (Loss) per Share

The Company computes net income (loss) per share in accordance with
SFAS No. 128, "Earnings per Share" (SFAS 128). Under the provisions of SFAS 128,
basic net income (loss) per share is computed by dividing net income (loss)
available to common stockholders by the weighted average number of shares
outstanding. Diluted net income (loss) per share (Diluted EPS) is computed by
dividing net income (loss) by the weighted average number of common shares and
dilutive common share equivalents outstanding.

Accounting for Long-Lived Assets

The Company accounts for long-lived assets in accordance with the
provisions of SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to be Disposed Of" (SFAS 121). This statement
establishes financial accounting and reporting standards for the impairment of
long-lived assets, certain identifiable intangibles, and goodwill related to
those assets to be held and used, and for long-lived assets and certain
identifiable intangibles to be disposed of. SFAS 121 requires, among other
things, that an entity review its long-lived assets and certain related
intangibles for impairment whenever changes in circumstances indicate that the
carrying amount of an asset may not be fully recoverable. The Company reviewed
its long-lived assets for impairment for the year ended December 31, 2001. Based
on this review, the Company recognized an impairment loss of $18.2 million and
$42.3 million, respectively, for the difference between the estimated fair value
of Synet and Global Integrity and the carrying amount of each of their assets
and liabilities, including goodwill.

Stock-Based Compensation

The Company observes the provisions of SFAS No. 123 "Accounting for
Stock-Based Compensation" (SFAS 123), and elected to continue the accounting set
forth in Accounting Principles Board No. 25 "Accounting for Stock Issued to
Employees" (APB 25) and to provide the necessary pro forma disclosures as if the
fair value method had been applied. (Note 12)

Fair Value of Financial Instruments

The carrying amounts of cash and cash equivalents, accounts and other
receivables, and accounts payable approximate fair value due to the short-term
maturity of these instruments. The carrying amounts of outstanding borrowings
approximate fair value.

Comprehensive Income

The Company observes SFAS No. 130, "Reporting Comprehensive Income"
(SFAS 130). The standard requires that comprehensive income, which includes net
income as well as certain changes in assets and liabilities recorded in
stockholders' equity, be reported in the financial statements. The adoption of
SFAS 130 increased the reporting disclosures but had no impact on the results of
operations or financial position of the Company.

F-11

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(2) Summary of Significant Accounting Policies: -- (Continued)

Segment Reporting

SFAS No. 131, "Disclosures About Segments of an Enterprise and Related
Information" establishes standards for the way public business enterprises
report information about operating segments in annual financial statements and
requires that those enterprises report selected information about operating
segments in interim financial reports issued to shareholders. The Company
believes it operates in three segments. The Company evaluates the performance of
its segments based on their operating income (loss), which represents segment
revenues less direct costs of operation excluding the allocation of corporate
expense. (Note 14)

Recently Issued Accounting Pronouncements

Reclassification

Certain items have been reclassified in the prior year to conform to
the current year presentation.

F-12

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(3) Acquisitions:

On August 12, 1999, the Company acquired Network Resource Consultants
and Company B.V. (NRCC) in a transaction accounted for as a purchase. In
connection with this transaction, the Company exchanged 1,062,814 shares of its
common stock at a fair value of $4.3 million in exchange for all of the
outstanding stock of NRCC. The Company acquired net tangible assets of
approximately $88,000 and recorded intangible assets of approximately $4.3
million, which represented the excess of the purchase price over the fair value
of the net tangible assets acquired. The intangible assets are being amortized
on a straight-line basis over a period of five years. The results of operations
of NRCC have been included in the results of operations of the Company since the
date of acquisition.

The preliminary purchase price allocation as of December 31, 1999 is as
follows:

Cash and cash equivalents................................... $ 163,768
Accounts receivable, net.................................... 322,149
Prepaid expenses and other current assets................... 83,771
Property and equipment...................................... 218,458
Goodwill.................................................... 4,263,537
Accounts payable and accrued expenses....................... (285,801)
Deferred income............................................. (17,497)
Due to shareholder.......................................... (269,150)
Income taxes payable........................................ (127,979)
----------
$4,351,256
==========

On October 16, 2000, the Company acquired Synet Service Corporation
(Synet) in a transaction accounted for as a purchase. Synet is a network and
systems management consulting firm that works with organizations to improve the
availability and reliability of e-commerce applications and network
infrastructure. The consideration for the acquisition consisted of an aggregate
of 1,922,377 shares of common stock at a fair value of $11.00 per share, par
value $0.001 per share, $9,000,000 cash paid upon closing of the transaction,
$1,053,164 cash paid to fund the operating needs of Synet prior to the closing
of the transaction and transaction expenses of $1,085,417, of which all have
been paid as of December 31, 2001. Approximately 522,000 shares were accounted
for as stock options until a related note was repaid in December 2000, at which
time the shares were considered to be issued for accounting purposes. The
Company also issued options to purchase 242,459 shares of common stock to
employees of Synet in exchange for their Synet options. These options had a fair
value of $1,110,893 and were accounted for as additional purchase price. The
Company acquired net tangible assets of $1,222,646 and recorded intangible
assets of approximately $33.4 million, which represented customer lists,
workforce and excess of the purchase price over the fair value of the net
tangible assets of approximately $30.4 million. Additionally, the Company
recognized a deferred income tax liability of $1,184,620 related to the
nondeductibility of certain acquired identifiable intangibles. In 2001, the
Company recorded an additional $498,000 to the purchase price for the closing of
certain offices and a reduction in workforce in connection with the Company's
acquisition plan. This amount consisted of $254,000 for severance benefits for
22 employees and $244,000 for exit costs related to real estate. Additionally,
the Company recorded an additional reduction to the purchase price of
approximately $475,000 as part of the final purchase price allocation. As of
December 31, 2001, approximately $256,000 remained unpaid for severance and exit
costs. Such amount is reflected in accrued expenses and other current
liabilities. During 2001, the Company integrated the acquisition of Synet. As
the Company approached the completion of the integration phase during the third
quarter of fiscal 2001, and in combination with revenue declines in this
business in relation to prior periods and forecasted earnings and the overall
deterioration of market conditions in the enterprise sector, the Company
reviewed goodwill and the intangible assets for impairment. As a result of this
review, an impairment loss of $18.2 million was recognized for the difference
between the estimated value of Synet based on future discounted cashflows and
the carrying amount of its assets and liabilities, including goodwill. Since the
acquisition, goodwill and the intangible assets are being amortized on a
straight-line basis over periods of three to five years. The results of
operations of Synet have been included in the results of operations of the
Company since the date of acquisition.

F-13

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(3) Acquisitions: -- (Continued)

The preliminary purchase price allocation as of December 31, 2000 is as follows:

Accounts receivable, net...................................... $ 1,342,856
Unbilled work in process...................................... 599,700
Prepaid expenses and other current assets..................... 408,022
Related party receivable...................................... 487,493
Property and equipment........................................ 138,240
Goodwill...................................................... 30,391,595
Workforce..................................................... 1,766,000
Customer lists................................................ 1,200,000
Other assets.................................................. 85,854
Accounts payable.............................................. (540,329)
Accrued expenses and other current liabilities................ (904,129)
Notes payable................................................. (220,000)
Deferred income............................................... (175,061)
Deferred income tax liability................................. (1,184,620)
-----------
$33,395,621
===========

On December 14, 2000, the Company acquired Global Integrity Corporation
(Global Integrity) in a transaction accounted for as a purchase. Global
Integrity provides information security services to Fortune 500 and Global 1000
companies. The consideration for the acquisition consisted of an aggregate of
5,240,275 shares of common stock at a fair value of $8.15 per share, par value
$0.001 per share, $31,460,270 cash paid upon the closing of the transaction and
transaction expenses of $1,830,162, of which all have been paid as of December
31, 2001. The Company also issued options to purchase 551,048 shares of common
stock to employees of Global Integrity in exchange for their Global Integrity
options. These options had a fair value of $2,233,769 and were accounted for as
additional purchase price. Additionally, the Global Integrity stockholders and
optionholders have the right to earn up to an additional $14,012,500 in value
(to be paid in cash to stockholders and additional options to optionholders)
upon the achievement of certain revenue milestones by the acquired business. The
Company has made no earnout payments as of December 31, 2001. The Company
acquired net tangible assets of $4,482,032 and recorded intangible assets of
approximately $81.1 million, which represented customer lists, workforce,
tradenames, developed technology and excess of the purchase price over the fair
value of the net tangible assets of approximately $62.8 million. Additionally,
the Company recognized a deferred income tax liability of $7,308,222 related to
the nondeductibility of certain acquired identifiable intangibles. In 2001, the
Company recorded an additional $3.2 million to the purchase price for the
closing of certain offices and a reduction in workforce in connection with the
Company's acquisition plan. This amount consisted of $178,000 for severance
benefits for 20 employees and $3.0 million for exit costs related to real
estate. Additionally, the Company recorded an additional reduction to the
purchase price of approximately $30,000 as part of the final purchase price
allocation. As of December 31, 2001, approximately $2.0 million remained unpaid
for severance benefits and exit costs. Such amount is reflected in accrued
expenses and other current liabilities. During 2001, the Company integrated the
acquisition of Global Integrity. As the Company approached the completion of the
integration phase during the third quarter of fiscal 2001, and in combination
with revenue declines in this business in relation to prior periods and
forecasted earnings and the overall deterioration of market conditions in the
enterprise sector, the Company reviewed goodwill and the intangible assets for
impairment. As a result of this review, an impairment loss of $42.3 million was
recognized for the difference between the estimated value of Global Integrity
based on future discounted cashflows and the carrying amount of its assets and
liabilities, including goodwill. Since the acquisition, goodwill and the
intangible assets are being amortized on a straight-line basis over periods of
three to five years. The results of operations of Global Integrity have been
included in the results of operations of the Company since the date of
acquisition.

F-14

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(3) Acquisitions: -- (Continued)

The preliminary purchase price allocation as of December 31, 2000 is as
follows:

Cash and cash equivalents.................................. $ 13,093
Accounts receivable, net................................... 4,395,359
Unbilled work in process................................... 2,981,826
Prepaid expenses and other current assets.................. 539,402
Property and equipment..................................... 2,200,000
Goodwill................................................... 62,760,632
Workforce.................................................. 2,890,000
Customer lists............................................. 3,307,000
Developed technology....................................... 9,574,000
Tradenames................................................. 2,527,000
Accounts payable........................................... (200,003)
Accrued expenses and other current liabilities............. (2,374,779)
Income taxes payable....................................... (126,680)
Deferred income............................................ (2,315,464)
Deferred income tax liability.............................. (7,938,944)
-----------
$78,232,442
===========

The following unaudited information presents the pro forma results of operations
for the Company for the years ended December 31, 2000 and 1999 as if the
acquisitions of NRCC, Synet and Global had occurred on the first day of the
earliest year presented.

Year Ended December 31,
2000 1999
---- ----
(unaudited)

Revenues...................... $120,191,561 $81,413,609
Operating loss................ (32,957,809) (30,260,518)
Net loss...................... $(26,238,969) $(28,089,548)

Per Share Information:
Net loss per share --
Basic and diluted.......... $(0.80) $(1.42)
Weighted average shares
Outstanding --
Basic and diluted.......... 32,890,544 19,853,019

F-15

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(4) Net Income (Loss) Per Share:

As discussed in Note 2, net income (loss) per share is calculated in
accordance with SFAS 128. The following table reconciles the numerator and
denominator for the calculation -

Year Ended December 31,
-----------------------
2001 2000 1999
---- ---- ----

Numerator -
Net loss................................................ $(140,873,146) $ (3,887,197) $ (957,366)
Preferred stock dividends............................... -- -- (8,750)
------------- ------------ -----------

Numerator for basic and diluted earnings per share - net
loss available to common stockholders................... (140,873,146) (3,887,197) (966,116)
============= ============ ===========

Denominator -
Denominator for basic and diluted earnings per share -
weighted average shares................................. 36,008,048 26,273,946 12,137,560
============= ============ ===========
Basic and diluted loss per share........................ $ (3.91) $ (0.15) $ (0.08)
============= ============ ===========

The conversion of outstanding options (Note 12) was not considered for
any year presented as the effect would be anti-dilutive.

(5) Property and Equipment:

The components of property and equipment for the years ended December
31, 2001 and 2000 are as follows -

December 31,
------------
2001 2000
---- ----
Computer equipment................................. $ 7,058,766 $ 7,243,960
Office furniture................................... 829,577 1,266,794
Capitalized software............................... 2,474,656 --
Leasehold improvements............................. 547,458 5,256,034
----------- -----------
10,910,457 13,766,788
Less - Accumulated depreciation and amortization... (4,587,357) (3,363,265)
----------- -----------

$ 6,323,100 $10,403,523
=========== ===========

Depreciation and amortization expense related to property and equipment
aggregated $2,872,587, $1,657,311 and $756,019, respectively, for the years
ended December 31, 2001, 2000 and 1999.

F-16

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(6) Intangible Assets:

The components of intangible assets for the years ended December 31,
2001 and 2000 are as follows -

December 31,
------------
2001 2000
---- ----
Workforce......................... $ 4,666,000 $ 4,656,000
Customer lists.................... 4,500,000 4,507,000
Developed technology.............. 9,575,000 9,574,000
Tradenames........................ 2,530,000 2,527,000
Goodwill.......................... 40,143,238 97,415,764
------------ ------------
61,414,238 118,679,764
Less - Accumulated amortization... (25,171,316) (3,238,598)
------------ ------------
$ 36,242,922 $115,441,166
============ ============

Amortization expense related to intangibles was $21,932,718,
$2,911,727, and $326,871, respectively, for the years ended December 31, 2001,
2000, and 1999.

During 2001, the Company integrated the acquisitions of Synet and
Global Integrity. As the Company approached the completion of the integration
phase during the third quarter of 2001, and in combination with revenue declines
in the acquired companies in relation to prior periods and forecasted earnings
and the overall deterioration of market conditions in the enterprise sector, the
Company reviewed goodwill and the intangible assets for impairment. The Company
recognized an impairment loss of $18.2 million and $42.3 million for the
difference between the estimated fair value of Synet and Global Integrity,
respectively, based on future discounted cashflows and the carrying amount of
each of their assets and liabilities, including goodwill.

(7) Related Parties:

During 1998, the Company started a software development company,
Tribeca Software, which had previously been consolidated with the Company. In
March 1998, Tribeca Software was spun off through a pro rata distribution to
shareholders accounted for at historical cost. In connection with the spin-off,
the Company sold certain assets with minimal book value to Tribeca Software and
received a note for approximately $130,000 for the sale of certain software.
Additionally, the Company provided a $1,000,000 line of credit to Tribeca
Software bearing interest at 8%. This line of credit no longer exists. One of
the Company's directors also has a seat on Tribeca Software's Board of Directors
and has also served as Tribeca Software's interim Chief Executive Officer since
September 1999. This same member is also a general partner for a venture capital
firm which owns approximately 47% of Tribeca Software. For the year ended
December 31, 2000, Tribeca Software paid approximately $53,000 to the Company to
lease office space and equipment. The Company recorded revenues for the year
ended December 31, 2000 of approximately $255,000 from services performed for
Tribeca Software. The Company did not recognize any revenues from Tribeca for
the year ended December 31, 2001.

The Company provides network consulting services to Cisco pursuant to
an existing agreement negotiated by the parties in an arm's-length transaction.
This agreement provides that if the Company gives more favorable rates to
another client it will inform Cisco and Cisco will have the right to terminate
this agreement. One of the Company's directors is also an officer of Cisco.
Additionally, in September 1999, the Company sold 1,242,000 shares of common
stock to Cisco for $12.00 per share. For the years ended December 31, 2001, 2000
and 1999, the Company recorded revenues of approximately $698,000, $4.3 million
and $2.2 million, respectively, from services performed for Cisco Systems. As of
December 31, 2000 amounts due from Cisco were $1,021,142. Such amount is
included in related party receivables. There were no amounts owed from Cisco as
of December 31, 2001.

The Company provides network consulting services to BellSouth pursuant
to an existing agreement negotiated by both parties in an arm's-length
transaction. One of the Company's directors is also an officer of BellSouth. For
the years ended December 31, 2001, 2000 and 1999, the Company recorded revenues
of $11.8 million, $9.0 million and $1.2 million, respectively, from services
performed for BellSouth. As of December 31, 2001 and 2000, amounts due from
BellSouth were $994,322 and $2,843,901, respectively. Such amounts are included
in related party receivables.

The Company provides network consulting services to mFormation
Technologies Inc. pursuant to an arrangement negotiated by both parties in an
arm's-length transaction. One of the Company's directors is also an officer of
mFormation Technologies Inc. For the year ended December 31, 2001, the Company
recorded revenues of $12,950 from services performed for mFormation Technologies
Inc. As of December 31, 2001, $7,875 was due from mFormation Technologies Inc.
Such amount is included in related party receivables.

The Company provides network consulting services to Riversoft PLC
pursuant to an agreement negotiated by both parties in an arm's length
transaction. Additionally, the Company purchased approximately $500,000 of
software inventory from Riversoft in 2001. Two of the Company's directors have
seats on Riversoft PLC's Board of Directors, one of which served until December
19, 2001. One of the directors is also a general partner for a venture capital
firm, which owns approximately 10% of Riversoft PLC. For the years ended
December 31, 2001 and 2000, the Company recorded revenues of $69,950 and
$651,048, respectively, from services performed for Riversoft PLC. As of
December 31, 2001 and 2000, amounts due from Riversoft PLC were $50,343 and
$652,354, respectively. Such amounts are included in related party receivables.

The Company and Science Application International Corporation (SAIC)
provide network and security consulting services to each other pursuant to
existing agreements negotiated by both parties in arm's-length transactions. In
2001, revenues from SAIC were approximately $245,000 and the Company incurred
approximately $195,000 in costs from consulting services from SAIC.
Additionally, SAIC provides the Company with various services relating to alarm,
telecommunications and IT support functions and the Company rents certain of its
office space from SAIC. In 2001, the Company incurred approximately $240,000 and
$1.2 million in expenses for such services and real estate rental, respectively.
In addition, the Company and SAIC license certain of their respective
intellectual property to the other. The Company believes that these transactions
are on terms that are no less favorable than those that could be obtained from
unaffiliated third parties.

F-17

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(7) Related Parties: -- (Continued)

On October 6, 2000, the Company purchased 1,000,000 shares of Series A
Preferred Stock in Three Pillars, which the Company had recorded as a long-term
investment in related party. At the time of the investment, Three Pillars had
3,800,000 shares of Series A Preferred Stock and 8,100,000 shares of common
stock outstanding, giving the Company an 8.4% interest on an as converted basis.
The Series A Preferred Stock has certain antidilution rights, but converts
initially on a one for one basis into common stock. The Series A Preferred Stock
has a liquidation preference equal to $1.00 per share plus a 10% cumulative
dividend. The Company also received certain registration rights with respect to
the shares purchased. For the year ended December 31, 2001, the Company
recognized a loss on its $1.0 million investment in Three Pillars due to
management's determination that the value of the investment was impaired. During
2000, the Company recorded revenues of $337,530 from services performed for
Three Pillars. The Company did not recognize any revenues from Three Pillars for
the year ended December 31, 2001.

On December 22, 2000, the Company purchased a $1,000,000 12%
Convertible Promissory Note (the Note) of Paradigm4, Inc. (Paradigm4) which the
Company had recorded as a long-term investment in related party. The Note was
payable 90 days from the date of purchase. The Company received a stock purchase
warrant (the warrant) to purchase up to 0.7692% of the outstanding shares of
Paradigm4 on a fully diluted basis at a price equal to $.01 per share. The
warrant was exercisable immediately and expires on December 22, 2005. On March
22, 2001, Paradigm4 filed for federal bankruptcy protection. This action created
significant uncertainty regarding the Company's investment in Paradigm4. As a
result, the Company recorded a loss of $1.0 million on its investment. During
2000, the Company recorded revenues of $350,750 from services performed for
Paradigm4. As of December 31, 2000, the amount due from Paradigm4 for services
was $250,000. Such amount has been included in related party receivables. The
Company did not recognize any revenues from Paradigm4 for the year ended
December 31, 2001.

Receivables from employees and stockholders represent short term
lending to such parties entered into in the normal course of business.

The Company's management believes that these transactions were entered
into on a basis that approximates fair value.

(8) Accrued Expenses and Other Current Liabilities:

Accrued expenses and other current liabilities for the years ended
December 31, 2001 and 2000 were as follows:

December 31,
------------
2001 2000
---- ----
Accrued compensation............................... $ 3,050,743 $ 4,383,561
Restructuring accrual.............................. 1,855,540 --
Purchase accounting accruals....................... 2,246,296 1,122,305
Other.............................................. 4,299,885 6,567,183
----------- -----------
$11,452,464 $12,073,049
=========== ===========

(9) Debt:

The Company has a demand loan facility, secured by a lien on all of the
Company's assets, under which the company may borrow up to the lesser of
$5,000,000 or 80.0% of accounts receivable. Amounts outstanding under the
facility bear interest at the lender's base rate for the year ended December 31,
2001 and at the lender's base rate plus one percent at December 31, 2000.
Interest rates were 4.75% and 11.0% as of December 31, 2001 and 2000,
respectively. At December 31, 2001 and 2000, there were no amounts outstanding
under the facility. The facility contains various financial and other covenants
and conditions. The Company complied with all covenants and conditions as of
December 31, 2001.

(10) Capital Lease Obligations:

The Company has entered into various leases for computer equipment,
office furniture, and leasehold improvements. These leases have been capitalized
using interest rates ranging from 7.88% to 18.83% and expire on various dates
through 2004. Depreciation on the capitalized assets has been included in
depreciation expense in the accompanying statements of operations.

The future minimum lease payments required under the above mentioned
capital leases for the twelve months ended December 31, are as follows --

Year
- ----
2002................................................ $ 92,241
2003................................................ 60,127
2004................................................ 1,124
Less -- Amount representing interest................ (19,644)
---------
Present value of net minimum lease payments......... 133,848
Less -- Current portion............................. (81,714)
---------
$ 52,134
=========

F-18

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(11) Income Taxes:

The components of the Company's (benefit) provision for income taxes
for the years ended December 31, 2001, 2000 and 1999 are as follows --

Year Ended December 31,
-----------------------
2001 2000 1999
---- ---- ----

Current income tax (benefit) provision:
Federal.................................................. $ -- $ 42,950 $ 988,715
State.................................................... -- 459,807 368,618
Foreign.................................................. (105,254) 54,624 --
--------- ---------- ---------
(105,254) 557,381 1,357,333
Deferred income tax benefit:
Federal.................................................. (997,566) (356,081) (507,059)
State.................................................... (531,932) (106,216) (167,777)
--------- ---------- ---------

(1,529,498) (462,297) (674,836)
--------- ---------- ---------

Total income tax (benefit) provision..................... $(1,634,752) $ 95,084 $ 682,497
========= ========= =========

The following table indicates the significant elements contributing to
the difference between the Federal statutory rate and the Company's effective
tax rate --

Year Ended December 31,
-----------------------
2001 2000 1999
---- ---- ----

Federal statutory rate..................................... (34.0)% (34.0)% (34.0)%
State taxes, net of Federal effect......................... (0.2) 6.2 73.1
Non-deductible goodwill amortization....................... 3.9 22.6 40.3
Impairment of goodwill..................................... 14.4 -- --
Meals and entertainment.................................... 0.1 3.1 27.6
Reversal of income tax receivable.......................... -- 6.3 --
Adjustment to cash to accrual basis liability.............. -- -- (56.4)
Valuation allowance........................................ 14.8 -- 206.0
Other...................................................... (0.1) (1.7) (8.3)
----- ----- -----

(1.1)% 2.5% 248.3%
===== ===== ======

F-19

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(11) Income Taxes: -- (Continued)

On January 1, 1998, the Company converted from a cash basis to an
accrual basis taxpayer. The conversion from the cash basis to accrual basis
required the recognition of a deferred tax liability of approximately
$1,667,000. Effective October 16, 2000, Synet converted from a cash basis to an
accrual basis taxpayer as of the acquisition date. The conversion from the cash
basis to accrual basis required the recognition of a deferred tax asset of
approximately $76,000 which was recognized as an acquired asset. Other major
components of the deferred tax assets and (liabilities) as of December 31, 2001
and 2000 are as follows:

December 31,
------------
2001 2000
---- ----

Intangibles............................................ $ (6,211,416) $(8,492,842)
Bad debt reserve....................................... 843,838 452,554
Depreciation........................................... (121,591) (38,507)
Change from cash to accrual basis liability............ 38,072 (682,560)
Deferred rent.......................................... 66,645 192,003
Deferred revenue....................................... -- (435,460)
Accrued vacation....................................... 99,059 87,498
Other accrued expenses................................. 1,530,772 --
Net operating loss carryforwards....................... 51,469,973 27,282,518
Other, net............................................. 560,252 21,646
------------ -----------
Subtotal 48,275,604 18,386,850
Valuation allowance.................................... (48,275,604) (21,846,203)
------------ -----------
Total deferred income tax liability.................... $ -- $(3,459,353)
============ =========

At December 31, 2001 the Company had available net operating loss
carryforwards of approximately $129,000,000 to reduce future period's taxable
income. These loss carryforwards begin to expire in 2018. Included in the net
operating loss carryforward at December 31, 2001 is approximately $67,200,000
related to the exercise of nonqualified stock options and disqualifying
dispositions. Valuation allowances were recorded in 2001 and 2000 for
approximately $4,000,000 and $52,800,000, respectively, related to stock option
compensation which, tax effected, will be credited to equity upon utilization of
tax carryforwards.

At December 31, 2001, the Company's subsidiaries in England, The
Netherlands, Germany, and Japan had available net operating losses of
approximately $4,000,000 in total, the tax benefits of which have been reserved
for by a valuation allowance because of the uncertainty of their realizability.

(12) Stockholders' Equity:

Preferred Stock

Since inception, the Company has issued two types of preferred stock.
The following is a discussion of each of these issuances:

In 1995, the Company issued 4,200,000 shares of mandatory redeemable
convertible preferred stock (the 1995 Preferred Shares) at a price of $0.17 per
share. The shares accrued dividends at 5% per year, commencing March 1, 1997.
Each share was convertible, subject to certain adjustments, into 1 share of
common stock, at the option of the holder. During the quarter ended March 31,
1999, the holders of the 1995 Preferred Shares exercised their conversion rights
and converted all outstanding shares into 4,200,000 shares of common stock. In
connection with the conversion, the Company paid $70,000 of accumulated
dividends on the 1995 Preferred Shares.

F-20

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(12) Stockholders' Equity: -- (Continued)

On March 5, 1999, the Company sold 6,512,316 shares of convertible
preferred stock (the 1999 Preferred Shares) to General Atlantic Partners 54,
L.P. (5,350,441 shares), GAP Coinvestment Partners II, LP (1,112,765 shares),
and other investors (49,110 shares) resulting in net proceeds of approximately
$18,600,000. The 1999 Preferred Shares were converted into common shares on a 1
to 1 ratio on the date of the initial public offering.

In connection with the issuance of the 1999 Preferred Shares to General
Atlantic Partners 54, L.P. and GAP Coinvestment Partners II, L.P., warrants were
issued to purchase shares of common stock equal to 15% of the number of shares
sold in the proposed initial public offering at a price equal to the initial
price to the public. In order to exercise the warrants, a notice of exercise was
required to be delivered within 20 business days following the first filing of
the Company's registration statement on Form S-1. These warrants expired without
any common stock purchases.

Common Stock

The following is a summary of transactions involving the Company's
common stock:

Subsequent to the conversion of the 1995 Preferred Shares, the Company
repurchased 2,855,100 shares of common stock at a purchase price of
approximately $2.94 per share.

On August 12, 1999, the Company issued 1,062,814 shares of common stock
to two persons in exchange for all of the outstanding capital stock of NRCC.

On September 16, 1999, the Company sold 1,242,000 shares of its common
stock to Cisco Systems, Inc. at a price of $12.00 per share. In connection with
this transaction, the Company entered into an Investor's Rights Agreement with
Cisco Systems, Inc. pursuant to which the Company granted Cisco Systems, Inc.
certain registration rights.

On September 22, 1999, the Company sold 94,867 and 18,133 shares of its
common stock to General Atlantic Partners 54, L.P. and GAP Coinvestment Partners
II, L.P., respectively, at a price of $12.00 per share.

On November 1, 1999, the Company sold 4,600,000 shares of common stock
at an initial public offering price of $18.00 per share and began trading on the
Nasdaq National Market under the symbol PRDS. The net proceeds of the offering
were approximately $75.1 million after deducting underwriting discounts,
commissions, and other offering expenses.

On April 5, 2000, the Company consummated a follow-on public offering
for 3,800,000 shares of its common stock at an offering price of $43.00 per
share, of which 1,000,000 shares were sold by the Company, while the remainder
were sold by certain stockholders, resulting in net proceeds to the Company of
approximately $39.8 million after deducting underwriter discounts, commissions
and other offering expenses payable by the Company.

On October 16, 2000, in connection with the acquisition of Synet the
Company issued 1,922,377 shares of common stock at $11.00 per share less 521,765
shares which were accounted for as stock options until a related note was repaid
in December 2000, at which time the shares were issued. The Company also issued
options to purchase 242,459 shares of common stock to the former stockholders
and optionholders of Synet.

On December 14, 2000, in connection with the acquisition of Global the
Company issued 5,240,275 shares of common stock at $8.15 per share and options
to purchase 551,048 shares of common stock to the former stockholders and
optionholders of Global.

Stock Options

In 1998, the Company adopted its Stock Option/Stock Issuance Plan (the
Option Plan). Prior to this time, options issued were not issued in connection
with a plan. The Option Plan is divided into two separate equity programs, the
Option Grant Program and the Stock Issuance Program. Under the Option Grant
Program, the Company may issue either incentive stock options or nonqualified
stock options. Under the Stock Issuance Program the Company may issue shares of
common stock either through the purchase of such shares or as a bonus for
services rendered. To date, no shares have been issued under the Stock Issuance
Program. Awards under either program may be granted to such directors, employees
and consultants of the Company as the Board of Directors selects in its
discretion.

F-21

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(12) Stockholders' Equity: -- (Continued)

The 1999 Stock Incentive Plan (the 1999 Plan), adopted and effective on
September 14, 1999, is intended to serve as the successor equity incentive
program to the Option Plan. The Company has authorized 6,655,600 shares of
common stock for issuance under the 1999 Plan. This share reserve consists of
the shares which were available for issuance under the predecessor plan on the
effective date of the 1999 Plan plus an additional increase of 2,345,597 shares.
The share reserve automatically increases on the first trading day of January
each calendar year, beginning in January 2001, by a number of shares equal to 1%
of the total number of shares of common stock outstanding on the last trading
day of the immediately preceding calendar year, but no such annual increase will
exceed 500,000 shares. However, in no event may any one participant in the 1999
Plan receive option grants or direct stock issuances for more than 500,000
shares in the aggregate per calendar year. On January 1, 2001 the share reserve
was increased by 349,036 shares. Additionally, the reserve was increased at the
2000 annual shareholder meeting by 3,000,000 shares. The number of options
available for grant as of December 31, 2001 are 42,086.

Outstanding options under the Option Plan were incorporated into the
1999 Plan upon the date of the initial public offering, and no further option
grants may be made under the Option Plan. The incorporated options will continue
to be governed by their existing terms, unless the Company extends one or more
features of the 1999 Plan to those options.

The Employee Stock Purchase Plan (the Employee Plan) was adopted and
approved by the Company on September 14, 1999. The plan, effective on October
27, 1999, is designed to allow eligible employees, as defined, to purchase
shares of common stock, at semi-annual intervals, through periodic payroll
deductions. A total of 750,000 shares of common stock may be issued under this
plan. As of December 31, 2001 and 2000, 373,848 and 192,723 shares,
respectively, were issued in connection with the Employee Plan.

The Employee Plan has a series of successive offering periods, each
with a maximum duration of 24 months. The current offering period began on the
last business day of October 2001 and will end on the last business day of
October 2003. The Employee Plan will terminate no later than the last business
day in October 2009.

Individuals who are eligible employees on the start date of any
offering period may enter the Employee Plan on that start date or on any
subsequent semi-annual entry date (generally May 1 or November 1 each year).
Individuals who become eligible employees after the start date of the offering
period may join the Employee Plan on any subsequent semi-annual entry date
within that period. A participant may contribute up to 10% of his or her cash
earnings through payroll deductions and the accumulated payroll deductions will
be applied to the purchase of shares on the participant's behalf on each
semi-annual purchase date (the last business day in January and July each year).
The purchase price per share will be 85% of the lower of the fair market value
of the common stock on the participant's entry date into the offering period or
the fair market value on the semi-annual purchase date. The first purchase date
will occur on the last business day in April 2000. In no event, however, may any
participant purchase more than 500 shares, nor may all participants in the
aggregate purchase more than 187,500 shares on any one semi-annual purchase
date. Should the fair market value of the common stock on any semi-annual
purchase date be less than the fair market value on the first day of the
offering period, then the current offering period will automatically end and a
new offering period will begin, based on the lower fair market value.

A summary of the Company's stock option activity is as follows --

Year Ended December 31,
-----------------------
2001 2000 1999
---- ---- ----
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------ ----- ------ ----- ------ -----

Outstanding at beginning of
period.......................... 10,967,357 $ 8.44 10,756,910 $ 3.11 8,397,600 $1.02
Granted......................... 8,984,824 3.02 4,421,735 18.63 3,686,990 7.25
Exercised....................... (1,275,670) 1.23 (3,119,121) 1.26 (653,970) 0.46
Forfeited....................... (5,349,428) 8.10 (1,092,167) 17.70 (673,710) 2.36
----------- ------ ---------- ----- ---------- -----

Outstanding at end of period 13,327,083 $ 5.46 10,967,357 $ 8.44 10,756,910 $3.11
=========== ===== ========== ===== ========== =====

Options exercisable at end of
period........................ 5,028,509 $ 5.02 4,112,602 $ 2.68 5,259,270 $1.02
=========== ===== ========== ===== ========== =====

Weighted average fair value of
options granted during period
$ 1.54 $11.42 $4.31

F-22

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(12) Stockholders' Equity: -- (Continued)

The following table summarizes information about stock options
outstanding at December 31, 2001 --

Total Weighted Weighted Options
Outstanding at Average Average Exercisable Weighted
Range of Exercise December 31, Exercise Contractual at December Average
Prices 2001 Price Life (in yrs) 31, 2001 Exercise Price
- -------------------------------------------------------------------------------------

$ 0.50 120,000 $ 0.50 4.00 120,000 $ 0.50
0.83 - 1.25 2,709,260 1.01 5.56 2,341,010 1.00
1.28 - 1.60 1,033,259 1.54 8.85 869,424 1.55
1.96 - 2.92 3,740,886 2.76 9.30 130,851 2.48
3.15 - 4.00 2,521,292 3.82 8.80 472,882 3.98
6.50 - 8.81 1,550,783 7.75 9.03 259,868 7.47
10.20 - 15.00 724,133 11.98 8.27 374,444 12.28
16.07 - 22.00 420,493 18.82 8.69 244,665 18.42
29.06 - 35.94 319,213 30.53 8.43 131,814 30.51
45.06 - 65.50 187,764 49.75 8.17 83,551 50.31
----------- ------ -----------
13,327,083 8.22 5,028,509

The Company has elected to follow APB 25 in accounting for its employee
stock options. Had the determination of compensation costs been based on the
fair value at the grant dates consistent with the method of SFAS 123, the
Company's loss and basic and diluted loss per share would have been reduced to
the pro forma amounts in the table below.

The fair value of all option grants is estimated on the date of grant using
the Black-Scholes model with the following weighted-average assumptions used for
grants in 2001, 2000 and 1999.

o weighted-average risk free interest rates of 5.47%, 5.97% and 5.79%,
respectively;

o expected dividend yields of 0%;

o expected lives of 4 years; and

o expected volatility of 60.59%, 76.15% and 73.17%, respectively.

Year Ended December 31,
-----------------------
2001 2000 1999
---- ---- ----

Net loss:
As reported..................................... $(140,873,146) $(3,887,197) $ (957,366)
Pro forma....................................... $(157,585,237) $(9,692,565) $(1,980,145)
Basic and diluted net loss per share:
As reported..................................... $ (3.91) $ (0.15) $ (0.08)
Pro forma....................................... $ (4.38) $ (0.37) $ (0.16)

F-23

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(12) Stockholders' Equity: -- (Continued)

Deferred Compensation

During 1999, the Company granted stock options with exercise prices
which were less than the fair market value of the underlying shares of common
stock at the date of grant. As a result, the Company recorded deferred
compensation of $304,625. In connection with the acquisition of Synet and Global
Integrity, the Company granted stock options to employees of Synet and Global
Integrity which had exercise prices that were less than the fair market value of
the underlying shares of common stock at the date of grant. As a result, the
Company recorded deferred compensation of $474,308 and $120,857, respectively.
These amounts were to be recognized as noncash compensation expense over the
vesting period of the options (approximately 4 years). During 2001, the Company
adjusted deferred compensation for $319,401 for options which had been cancelled
during the year. For the years ended December 31, 2001, 2000 and 1999, $275,732,
$157,557 and $47,953, respectively, of the deferred compensation was amortized
to expense and has been reflected as noncash compensation expense in the
accompanying statements of operations.

(13) Commitments And Contingencies:

Operating Leases

The Company leases office space and equipment under various
non-cancelable operating leases with initial terms ranging from approximately
one month to ten years, with an option to renew certain leases for an additional
five years. These leases provide for minimum annual lease payments and
additional operating expense charges.

The future minimum lease payments required under the above mentioned
operating leases for the year ended December 31, are as follows --

Year
2002............................................. $ 4,822,582
2003............................................. 3,855,522
2004............................................. 3,388,580
2005............................................. 2,974,338
2006............................................. 1,900,621
2007 and thereafter.............................. 6,676,697
-----------

Total minimum lease payments.................. $23,618,340
===========

Rent expense for office space was $4,172,348, $2,421,069 and $1,311,411
for the years ended December 31, 2001, 2000 and 1999, respectively.

Benefit Plan

The Company has a 401(k) plan with discretionary matching contributions
for its employees. The Company did not make any contributions to the 401(k) plan
during 2001, 2000 or 1999.

Employment Agreements

The Company has entered into employment agreements with certain
executives of the Company. The employment agreements have various expiration
dates through June 2004, and automatically renew unless either party gives
notice of termination. Commitments under these agreements provide for annual
payments of approximately $739,000, $510,000 and $164,000 for fiscal years 2002,
2003 and 2004, respectively.

F-24

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(13) Commitments And Contingencies: -- (Continued)

Litigation

Except as set forth below, the Company is not a party to any material
legal proceedings.

On November 13, 2001, a securities class action complaint was filed in
the United States District Court for the Southern District of New York against
certain investment banks that underwrote the Company's initial public offering,
Predictive, and certain of our officers and directors. This action has been
coordinated with over 300 virtually identical actions against other companies
and the investment banks that underwrote their initial public offerings. The
complaint filed against the Company generally alleges that the underwriters
obtained excessive and undisclosed commissions from customers who received
allocations of shares in the Company's initial and secondary public offerings
and that the underwriters maintained artificially inflated prices in the after
market through "tie-in" arrangements, which required customers to buy additional
shares of the Company's stock at pre-determined prices in excess of the offering
prices. The complaint further alleges that the Company's officers and directors
violated Sections 11, 12(2), and 15 of the Securities Act of 1933 because the
Company's registration statements did not disclose the purported misconduct of
the underwriters. Plaintiffs seek an unspecified amount of damages on behalf of
persons who purchased our stock pursuant to the registration statements. The
Company believes that the allegations against it are without merit and intends
to defend the case vigorously.

(14) Industry Segment Information:

The Company's reportable segments are US Consulting, International
Consulting, and Managed Security Services. Revenues and profits in the US
Consulting and International Consulting segments are generated by providing the
following services: network design and engineering, network and systems
management, integrated customer service, performance management, information
security, and business integration services.

Revenues and profits in the Managed Security Services segment are
generated by providing the following services: response, threat advisory through
Information Sharing and Analysis Centers, and providing of Open Source
Intelligence programs.

The accounting policies of the segments are the same as those described
in the "Summary of Significant Accounting Policies." The Company evaluates the
performance of its segments based on their operating income (loss), which
represents segment revenues less direct costs of operation, excluding the
allocation of corporate expense. Identifiable assets of the operating segments
principally consist of net accounts receivable, unbilled work in process and
inventory held for resale. Accounts receivable and unbilled work in process for
US Consulting and Managed Security Services are managed on a combined basis. All
other identifiable assets not attributable to industry segments are included in
corporate assets. The Company does not track expenditures for long-lived assets
on a segment basis. The table below presents information on the revenues and
operating income (loss) for each segment for each of the three years ended
December 31, 2001, and items which reconcile segment operating income (loss) to
the Company's reported loss before income tax (benefit) provision.

F-25

PREDICTIVE SYSTEMS, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)

(14) Industry Segment Information: -- (Continued)

Year Ended December 31,

2001 2000 1999
------------- ------------- -------------
Revenues:

US Consulting ........................... $ 53,039,364 $ 79,797,298 $ 49,096,720
International Consulting ................ 7,724,284 8,278,808 3,648,125
Managed Security Services ............... 7,444,170 199,160 --
------------- ------------- -------------

Total revenues .......................... 68,207,818 88,275,266 52,744,845
------------- ------------- -------------

Operating (loss) income:
US Consulting ........................... (7,874,480) 8,391,925 10,385,637
International Consulting ................ (4,613,649) 861,354 (1,465,706)
Managed Security Services ............... (4,801,527) (21,007) --
------------- ------------- -------------

Total operating (loss) income ........... (17,289,656) 9,232,272 8,919,931
------------- ------------- -------------

Corporate Expenses:
General and administrative .............. (22,329,742) (11,618,092) (6,478,986)
Sales and marketing ..................... (2,668,766) (3,481,401) (2,447,968)
Depreciation and amortization ........... (2,872,587) (1,657,311) (756,019)
Intangibles amortization ................ (21,932,718) (2,911,727) (326,871)
Loss on equipment ....................... (443,498) -- --
Impairment of intangibles ............... (60,485,448) -- --
Restructuring and other charges ......... (14,672,561) -- --
Loss on long-term investments in related
parties ............................ (2,000,000) -- --
Noncash compensation expense ............ (275,732) (157,557) (47,953)
Interest income ......................... 2,565,474 7,260,536 943,898
Other income ............................ (50,819) (268,314) 76,309
Interest expense ........................ (51,845) (190,519) (157,210)
------------- ------------- -------------

Total corporate expenses ................ (125,218,242) (13,024,385) (9,194,800)
------------- ------------- -------------

Loss before income tax (benefit) provision ....... $(142,507,898) $ (3,792,113) $ (274,869)
============= ============= =============

Identifiable Assets:
US Consulting and Managed Security
Services ........................... $ 12,257,600 $ 28,705,289 $ 14,840,312
International Consulting ................ 2,444,369 2,919,334 1,706,112
Corporate ............................... 87,791,323 214,703,914 100,703,677
------------- ------------- -------------

Total identifiable assets ................ $ 102,493,292 $ 246,328,537 $ 117,250,101
============= ============= =============

(15) Restructuring and Other Charges:

In February 2001, the Company's management foresaw the need to lower the
operating costs of the business given its near-term revenue projections.
Therefore, the Company established a plan that included the following: (1) a
reduction in its workforce for both domestic and international operations
related to professional consultant employees that had been underutilized for
several months and also to employees that held various management, sales and
administrative positions deemed to be duplicative functions; (2) the closing of
several domestic and international regional offices located in geographic areas
that no longer cost justified remaining open; and (3) the discontinuance of
electronic equipment leases and other expenses related to the reduction in
workforce.

As of December 31, 2001, the Company reduced headcount by 251 employees. The
Company recorded restructuring charges of $9,258,454, of which $1,133,316
remained unpaid as of December 31, 2001. Such charges consisted of $3,364,989 in
severance benefits and other related expenses and $5,893,465 in exit costs
related to the rental payments on the closing of domestic and international
regional offices, the write-off of leasehold improvements, furniture and
fixtures, and equipment which were abandoned in connection with the closing of
such offices, and other related costs. These charges have been reflected as
operating expenses of the Company.

In December 2001, the Company formed a strategic alliance with Riptech for the
outsourcing of our monitoring services provided as part of managed security
services division. In connection with the outsourcing, the Company reduced
headcount by 12 employees and recorded restructuring charges of $4,384,375, of
which $722,224 remained unpaid as of December 31, 2001. Such charges consisted
of $315,421 in severance benefits, $797,512 in nonrecoverable costs to convert
clients to Riptech and other related charges, and $3,271,442 million for the
write-off of equipment and software development costs associated with the
Company's security operations center which will no longer be needed as a result
of the outsourcing.

In June 2001, the Company wrote-off $1,029,732 related to the abandonment of
internal software management tools that no longer suited the business needs of
the Company.

A summary of the restructuring and other charges for the year ended
December 31, 2001 were as follows:

Balance as Utilization Balance as
of 12/31/00 Expense Non-Cash Cash of 12/31/01
------------ ----------- ---------- ---------- -----------

Severance and benefits...................... $ -- $3,364,989 $ -- $3,347,669 $ 17,320
Lease related termination costs and other... -- 5,893,465 3,430,369 1,347,100 1,115,996
Outsourcing of monitoring services.......... -- 4,384,375 3,658,151 4,000 722,224
Abandonment of internal software............ -- 1,029,732 1,029,732 -- --
----------- ----------- --------- --------- ----------

$ -- $14,672,561 $8,118,252 $4,698,769 $1,855,540
=========== =========== ========== ========== ==========

F-26

REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To Predictive Systems, Inc.:

We have audited in accordance with accounting standards generally
accepted in the United States, the financial statements of Predictive Systems,
Inc. included in this filing on Form 10-K and have issued our report thereon
dated February 6, 2002. Our audit was made for the purpose of forming an opinion
on the basic financial statements taken as a whole. The schedule of valuation
and qualifying accounts is the responsibility of the Company's management and is
presented for purposes of complying with the Securities and Exchange
Commission's rules and is not part of the basic financial statements. This
schedule has been subjected to the auditing procedures applied in the audit of
the basic financial statements and, in our opinion, fairly states in all
material respects the financial data required to be set forth therein in
relation to the basic financial statements taken as a whole.

/s/ ARTHUR ANDERSEN LLP

New York, New York
February 6, 2002

S-1

Schedule II -- Schedule of Valuation and Qualifying Accounts (in thousands)

Balance at Charged to Balance at
Beginning of Costs and End of
Year Expenses Deduction the Year

For the fiscal year
ended December 31, 1999

Allowance for doubtful
accounts............... $ 141 $ 501 $ (74) $ 568

For the fiscal year
ended December 31, 2000

Allowance for doubtful
accounts............... $ 568 $ 4,922 $ (4,198) $ 1,292

For the fiscal year
ended December 31, 2001

Allowance for doubtful
accounts............... $1,292 $ 4,758 $ (3,444) $ 2,606

S-2

INDEX TO EXHIBITS

Number Description
------ -----------

3.1(1) Amended and Restated Certificate of Incorporation.
3.2(2) Amended and Restated By-laws.
4.1(3) Specimen common stock certificate.
4.2 See Exhibits 3.1 and 3.2 for provisions of the Amended and Restated
Certificate of Incorporation and Amended and Restated By-laws of the
Registrant defining the rights of holders of Common Stock of the
Registrant.
10.1(3) 1999 Stock Incentive Plan.
10.2(3) 1999 Employee Stock Purchase Plan.
10.3(4) Synet Service Corporation 1996 Stock Option Plan.
10.4(5) Global Integrity Corporation 1998 Stock Incentive Plan.
10.5++ Agreement, dated October 6, 2000, by and between the Registrant and BellSouth MNS, Inc.
10.7(4) Amended and Restated Registration Rights Agreement, dated December 14, 2000.
10.8(3) Secured Promissory Note, dated August 31, 1998, in favor of Brown Brothers Harriman & Co.
10.9(6) Agreement of Lease, dated September 25, 2001, by and between the Registrant and EBS Forty-
Fourth Property Associates LLC.
10.10 Intentionally omitted.
10.11(4) Professional Services Agreement, dated November 7, 2000 by and between the Registrant and
Bear, Sterns & Co., Inc.
10.12(4) Professional Services Agreement, dated March 1, 2000 by and between the Registrant and
RiverSoft Inc.
10.13 Partner Agreement, dated March 28, 2001, by and between the Registrant and RiverSoft Inc.
10.14 Service Agreement, dated February 2, 2000, by and between the Registrant and Cisco
Systems, Inc.
10.15++ Professional Services Agreement, effective October 7, 2001, by and
between the Registrant and Science Applications International
Corporation
10.16(4) Technical Services Agreement, dated November 17, 2000 by and between Science Applications
International Corporation and Global Integrity Corporation.
10.17(4) Assignment and Cross License Agreement, dated December 6, 2000 by and between Science
Applications International Corporation and Global Integrity Corporation.
10.18 Marketing Agreement, dated, August 2, 2001, by and between the
Registrant and BellSouth Telecommunications, Inc.
10.19(3) Investor's Rights Agreement, dated September 16, 1999, by and between Cisco Systems,
Inc. and the Registrant.
10.20+ Professional Services Subcontract, dated May 14, 1999, by and between Cisco Systems,
Inc. and the Registrant.
10.21(7) Employment Agreement, dated as of June 15, 2001, by and between the Registrant and Andrew
Zimmerman.
10.22(4) Service Agreement, dated January 1, 2001 by and between the Registrant and Eammon Kearns.
10.23(3) Employment Agreement, dated September 21, 1999, by and between Gerard Dorsey and the
Registrant.
21.1 List of Subsidiaries.
23.1 Consent of Arthur Andersen LLP.
99.1 Letter from the Registrant regarding Arthur Andersen.

(1) Incorporated by reference to Exhibit 3.2 of the Registrant's
Registration Statement on Form S-1, No. 333-84045 (Registration
Statement No. 333- 84045).
(2) Incorporated by reference to Exhibit 3.4 of Registration Statement No.
333-84045.
(3) Incorporated by reference to the identically numbered exhibit of
Registration Statement No. 333-84045.
(4) Incorporated by reference to the identically numbered exhibit of the
Registrant's Annual Report on Form 10K for the period ending December
31, 2000.
(5) Incorporated by reference to Exhibit 10.3.1 of the Registrant's Annual
Report on Form 10K for the period ending December 31, 2000.
(6) Incorporated by reference to Exhibit 10.1 of the Registrant's Quarterly
Report on Form 10Q for the period ending September 30, 2001
(7) Incorporated by reference to Exhibit 10.1 of the Registrant's Quarterly
Report on Form 10Q for the period ending June 30, 2001.
+ Non-confidential portions of this Exhibit were filed as the identically
numbered exhibit of Registration Statement No. 333-84045, which non-
confidential portions are incorporated herein by reference.
Confidential treatment was granted for certain portions of this Exhibit
pursuant to Rule 406 promulgated under the Securities Act. Confidential
portions of this Exhibit have been filed separately with the Securities
and Exchange Commission.
++ Confidential treatment to be requested for certain portions of this
Exhibit pursuant to Rule 406 promulgated under the Securities Act.
Confidential portions of this Exhibit have been filed separately with
the Securities and Exchange Commission.

S-3