Edgar Filing: SCANSOFT INC

AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JUNE 20, 2003

REGISTRATION NO. 333-100648
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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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POST-EFFECTIVE

AMENDMENT NO. 1

TO
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
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SCANSOFT, INC.
(Exact name of Registrant as specified in its charter)
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DELAWARE 3577 94-3156479
(State or other jurisdiction of (Primary Standard Industrial (I.R.S. Employer
incorporation or organization) Classification Code Number) Identification Number)

SCANSOFT, INC.
9 CENTENNIAL DRIVE
PEABODY, MA 01960
(978) 977-2000
(Address, including zip code, and telephone number, including area code, of
Registrant's principal executive offices)
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RICHARD S. PALMER
CHIEF FINANCIAL OFFICER
SCANSOFT, INC.
9 CENTENNIAL DRIVE
PEABODY, MA 01960
(978) 977-2000
(Name, address, including zip code, and telephone number, including area code,
of agent for service)
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WITH COPIES OF ALL ORDERS, NOTICES AND COMMUNICATIONS TO:

KATHARINE A. MARTIN KEITH L. JOHNSON ROY LARSON
ROBERT SANCHEZ CHIEF LEGAL COUNSEL SENIOR COUNSEL
WILSON SONSINI GOODRICH & ROSATI STATE OF WISCONSIN XEROX CORPORATION
PROFESSIONAL CORPORATION INVESTMENT BOARD 800 LONG RIDGE ROAD
650 PAGE MILL ROAD 121 EAST WILSON STREET STAMFORD, CT 06904
PALO ALTO, CA 94304 MADISON, WI 53702 (203) 968-4528
(650) 493-9300 (608) 266-2381

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Approximate date of commencement of proposed sale to the public: As soon as
practicable after the effective date of this Registration Statement.

If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. [X]

If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]

If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]

If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]

If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [ ]
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PROSPECTUS

SCANSOFT, INC.
9,000,000 SHARES OF COMMON STOCK

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The common stock being registered by this prospectus (the "Shares") may be
sold from time to time by three of our current stockholders (the "Registering
Stockholders").

The resale of the Shares is not being underwritten. The registration
statement of which this prospectus is a part was originally declared effective
on February 10, 2003 (the "Registration Statement"). We filed a post-effective
amendment to the Registration Statement on June 20, 2003 to update the
information contained in the Registration Statement and this prospectus. The
Registering Stockholders may sell or distribute the Shares, from time to time
depending on market conditions and other factors, through underwriters, dealers,
brokers or other agents, or directly to one or more purchasers. The offering
price may be the market price prevailing at the time of sale or a privately
negotiated price. We will not receive any of the proceeds from the sale of the
Shares. However, we are paying substantially all expenses incidental to their
registration.

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Our common stock is quoted on the Nasdaq National Market under the symbol
"SSFT." On June 16, 2003, the last reported sale price of our common stock was
$6.01 per share.

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INVESTING IN OUR COMMON STOCK INVOLVES A HIGH DEGREE OF RISK. SEE "RISK
FACTORS" BEGINNING ON PAGE 6 OF THIS PROSPECTUS TO READ ABOUT RISKS YOU SHOULD
CONSIDER BEFORE BUYING SHARES OF OUR COMMON STOCK.

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

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The date of this prospectus is June 20, 2003.

TABLE OF CONTENTS

PAGE
----

Prospectus Summary.......................................... 1
The Offering................................................ 4
Summary Consolidated Financial Data......................... 5
Risk Factors................................................ 6
Forward-Looking Statements.................................. 15
Trademarks and Other Information............................ 15
Price Range of Common Stock................................. 16
Dividend Policy............................................. 16
Selected Consolidated Financial Data........................ 17
Selected Quarterly Operating Results........................ 19
Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. 21
Business.................................................... 38
Management.................................................. 50
Certain Relationships and Securities Transactions........... 70
Principal Stockholders...................................... 72
Selling Stockholders........................................ 74
Plan of Distribution........................................ 76
Description of Capital Stock................................ 78
Shares Eligible for Future Sale............................. 82
Legal Matters............................................... 83
Experts..................................................... 83
Where You Can Find More Information......................... 83
Index to Financial Statements............................... F-1

PROSPECTUS SUMMARY

You should read the following summary together with the more detailed
information concerning our company, the common stock being sold in this offering
and our financial statements appearing in this prospectus. Because this is only
a summary, you should read the rest of this prospectus before you invest in our
common stock. Read this entire prospectus carefully, especially the risks
described under "Risk Factors."

SCANSOFT

We are a leading provider of software that allows users to convert
documents, images and speech into information used within digital applications.
Our products and technologies automate manual processes and help enterprises,
professionals and consumers increase productivity, reduce costs and save time.
Our products are built upon digital capture and speech technologies, and are
sold as solutions into the financial, legal, healthcare, government,
telecommunications and automotive industries. Our digital capture technologies
transform text and images into digital documents and information. Our speech
technologies transform speech into text and text into speech, and enable the
voice control of hardware and software applications.

Our software is delivered as independent applications or as technology
included by others into larger integrated systems, such as enabling document
conversion capabilities within networked digital copiers or enabling voice
control within customer service call centers. Our digital capture solutions
eliminate the need to manually reproduce documents, automate the integration of
documents into business systems, and enable the use of electronic documents and
forms within XML, Internet, mobile and other business applications. Our speech
solutions automatically create documents from speech, transform text into
synthesized speech, and enable seamless interaction with hardware and software
systems simply by speaking. Our products and technologies deliver a measurable
return on investment to our customers.

Our technologies are based on complex mathematical formulas, which require
large amounts of linguistic and image data, acoustic models and recognition
techniques. A significant investment in capital and time would be necessary to
replicate our current capabilities, and we continue to build upon our leadership
position. Our digital capture technology is recognized as the most accurate in
the industry, with rates as high as 99.8%, and supports more than 100 languages.
Our speech technology has industry-leading recognition accuracy, provides
natural sounding synthesized speech in 20 languages, and supports a broad range
of hardware platforms and operating systems. Our technologies are covered by
more than 300 patents or patent applications.

We have established relationships with more than 2,000 resellers, including
leading system vendors, independent software vendors, value-added resellers and
distributors, through which we market and distribute our products and solutions.
In digital capture, companies such as Brother, Canon, Hewlett-Packard, Visioneer
and Xerox include our technology in digital copiers, printers and scanners, as
well as multifunction devices that combine these capabilities. In addition,
companies such as Corel, Kofax, Lockheed Martin, Microsoft and Symantec embed
our digital capture technology into their commercial software applications. In
speech, companies such as Cisco, Dictaphone, Lucent, GSL and Microsoft embed our
technologies into telecommunications systems, as well as automotive, PC or
multimedia applications. Each of these listed companies is one of our five
largest revenue producing OEM customers, in their respective category, for the
year ended December 31, 2002. We also maintain an extensive network of
value-added resellers to address the needs of specific markets, such as
financial, legal, healthcare and government. We sell our applications to
enterprises, professionals and consumers through major independent distributors
that deliver our products to computer superstores, consumer electronic stores,
mail order houses, office superstores and eCommerce Web sites.

We sustained recurring losses from operations in each reporting period
through December 31, 2001. We reported net income of $0.1 million and $6.3
million in the three months ended March 31, 2003 and the fiscal year ended
December 31, 2002, respectively.

RECENT DEVELOPMENTS

On January 3, 2003, we paid $3.3 million in full settlement of all
principal and accrued interest on the promissory note issued in connection with
our acquisition of substantially all of the speech and language technology
operations of Lernout & Hauspie Speech Products N.V. ("L&H") on December 12,
2001. Additionally, on December 18, 2002, we issued 81,900 and 68,100 shares of
our common stock to L&H and L&H Holdings USA, Inc., respectively. These shares
were issued in accordance with the terms and conditions of the share repurchase
agreement entered into with L&H in September 2002.

On January 30, 2003, we completed the acquisition of the Speech Processing
Telephony and Voice Control business units of Royal Philips Electronics N.V.
("Philips"), and related intellectual property, on the terms set forth in the
purchase agreement dated October 7, 2002, as amended. The Telephony business
unit offers speech-enabled services, including directory assistance, interactive
voice response and voice portal applications for enterprise customers, telephony
vendors and carriers. The Voice Control business unit offers a product portfolio
including small footprint speech recognition engines for embedded applications
such as voice-controlled climate, navigation and entertainment features in
automotive vehicles, as well as voice dialing for mobile phones. As
consideration for these business units and intellectual property, we paid 3.1
million euros ($3.4 million) in cash at closing, subject to adjustment in
accordance with the provisions of the purchase agreement, as amended, and agreed
to pay an additional 1.0 million euros in cash prior to December 31, 2003,
issued a 5.0 million euro note due December 31, 2003 and bearing 5.0% interest
per annum and issued a $27.5 million three-year, zero-interest subordinated
debenture, convertible at any time at Philips' option into shares of our common
stock at $6.00 per share. We anticipate that all related adjustments will be
completed no later than December 31, 2003. The technology acquired includes
several speech recognition and voice control products. In conjunction with the
acquisition, our business operations were significantly restructured, which has
caused disruption in our employee and customer base. The Philips operations had
consisted of approximately 250 employees of which we hired only 116. Based on
our prior acquisition experience, we expect revenue and earnings to be weighted
toward the second half of the year as we complete the integration of our sales
team and re-engage Philip customers, partners and channels.

On February 14, 2003, we completed an underwritten public offering of
7,184,406 shares of our common stock at $3.80 per share. Of the total shares
sold, 6,184,406 shares were sold on behalf of L&H and L&H Holdings USA, Inc. We
sold 1,000,000 common shares and received gross proceeds of $3.8 million. On
March 12, 2003, we received $4.1 million of gross proceeds from the exercise of
the over allotment option of 1,072,500 shares granted to the underwriters as
part of the underwritten offering. After considering offering costs, the net
proceeds of the underwritten public offering amounted to approximately $5.5
million.

On April 24, 2003, we announced that we had signed a definitive merger
agreement to acquire SpeechWorks International, Inc. ("SpeechWorks"), a Boston,
Massachusetts-based company that provides speech recognition, text-to-speech and
speaker verification for network and embedded environments, including multimodal
devices with both an audio interface and visual display. Under the terms of the
agreement, we will acquire SpeechWorks in a tax-free, stock-for-stock merger
with an equity value at the time of announcement of approximately $132.0
million, net of SpeechWorks' cash balance of $49.0 million as of December 31,
2002. Upon completion of the merger, holders of SpeechWorks common stock will be
entitled to receive 0.860 shares of ScanSoft common stock for each share of
SpeechWorks common stock exchanged in the merger. The acquisition is expected to
be completed in the third quarter of 2003. The agreement may be terminated by
either ScanSoft or SpeechWorks upon certain events occurring or not occurring,
as defined in the agreement. In certain cases, if the agreement is terminated,
we may be required to pay SpeechWorks up to $6.5 million.

Upon the closing of the merger, we intend to initiate the repurchase of up
to $25 million of our common stock, provided that we will not repurchase more
than 20% of the number of shares of our common stock issued to SpeechWorks
stockholders in the merger. Repurchases of stock will occur from time to time on
the open market or in privately negotiated transactions. The timing and amount
of any

shares repurchased will be determined by our management based on its evaluation
of market conditions and other factors. The repurchase program is expected to
extend for a period of twelve months following the closing of the merger and may
be suspended or discontinued at any time. Any repurchased shares will be
available for use in connection with general corporate purposes.

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We maintain executive offices and principal facilities at 9 Centennial
Drive, Peabody, MA 01960. Our telephone number is (978) 977-2000. We maintain a
web site at www.ScanSoft.com.

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THE OFFERING

Common stock registered....... Up to 9,000,000 shares of our common stock
currently owned by the Registering
Stockholders.

Common stock to be outstanding
before and after the
registration.................. 66,150,349 shares

Risk factors.................. See "Risk Factors" and other information
included in this prospectus for a discussion of
risks you should carefully consider before
deciding to invest in shares of our common
stock

Nasdaq National Market
symbol........................ SSFT

The foregoing information is based on 66,150,349 shares outstanding as of
May 30, 2003. This information does not include:

- 3,562,238 shares of Series B Preferred Stock that are convertible into
common stock on a one-to-one basis;

- 525,732 shares of common stock issuable upon exercise of outstanding
warrants at an exercise price of $0.61 per share;

- 78,000 shares of common stock issuable upon exercise of outstanding
warrants at an exercise price of $8.10 per share.

- 15,985,679 shares of common stock issuable as of May 30, 2003 upon
exercise of outstanding stock options granted under our equity
compensation plans at a weighted average exercise price of $3.362 per
share; and

- 2,196,202 shares of common stock reserved for future issuance as of May
30, 2003 under our equity compensation plans. This number includes
227,901 shares reserved for future issuance under the ScanSoft 1995
Employee Stock Purchase Plan. Excluded from this number are 2,500,000
shares that were approved for future issuance by our board of directors
on June 2, 2003 under the 2000 Nonstatutory Stock Plan and 500,000 shares
that were approved for issuance by our board of directors, subject to
stockholder approval, under the proposed amendment to the 1995 Employee
Stock Purchase Plan.

SUMMARY CONSOLIDATED FINANCIAL DATA

The following table presents summary historical consolidated financial data
for the five most recent fiscal years and the first three months of the current
year comparative to the same period in the prior year. The financial data are
derived from our consolidated financial statements. Since the information in
this table is only a summary and does not provide all of the information
contained in our financial statements, including related notes, you should read
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," and our consolidated financial statements, including related notes,
contained elsewhere in this prospectus or as filed with the SEC. See "Where You
Can Find More Information" on page 83.

THREE MONTHS
ENDED MARCH 31, YEAR ENDED DECEMBER 31,
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2003(4) 2002 2002(4) 2001 2000 1999 1998
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(IN THOUSANDS, EXCEPT PER SHARE DATA)

CONSOLIDATED STATEMENT OF
OPERATIONS DATA:
Total revenue.................... $27,836 $23,765 $106,619 $ 62,717 $ 47,961 $31,629 $79,070
Income (loss) from
operations(1)(2)............... 149 (2,601) 6,603 (16,931) (52,497) (3,613) (3,858)
Income (loss) before income
taxes.......................... 171 (2,676) 6,587 (17,194) (52,779) (2,598) (3,805)
Net income (loss)................ $ 76 $(2,882) $ 6,333 $(16,877) $(53,251) $(2,748) $(3,805)
Net income (loss) per share:
basic and diluted.............. $ 0.00 $ (0.05) $ 0.09 $ (0.34) $ (1.26) $ (0.11) $ (0.19)
Weighted average common shares
outstanding
Basic.......................... 67,689 62,304 67,010 49,693 42,107 25,630 19,728
Diluted........................ 77,220 62,304 72,796 49,693 42,107 25,630 19,728

AS OF
MARCH 31, AS OF DECEMBER 31,
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2003 2002 2001 2000 1999 1998
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(IN THOUSANDS)

CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and
short-term investments........ $ 20,277 $ 18,853 $ 14,324 $ 2,633 $ 5,224 $ 8,123
Working capital (deficit)....... 5,314 16,842 9,318 (6,484) 7,031 6,569
Total assets.................... 197,756 143,690 142,070 109,480 29,982 28,445
Long-term liabilities........... 30,969(3) 725 6,370 2,172 -- 91
Total stockholders' equity...... $125,625 $119,378 $114,534 $ 87,461 $21,924 $ 7,582

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(1) See Notes 4, 5, 8 and 18 to Notes to Consolidated Financial Statements.

(2) See Notes 5 and 9 to Notes to Unaudited Consolidated Financial Statements.

(3) See Note 5 to Notes to Unaudited Consolidated Financial Statements.

(4) On January 30, 2003, we acquired the Philips Speech Processing Telephony and
Voice Control business units of Royal Philips Electronics ("PSP"). The
acquisition was accounted for under the purchase method of accounting. The
pro forma combined ScanSoft/PSP statement of operations data for the three
months ended March 31, 2003 and the year ended December 31, 2002 reflecting
the impact of the PSP acquisition as if it had occurred at the beginning of
each period presented is set forth on pages F-6 and F-5, respectively.

RISK FACTORS

You should carefully consider the risks described below before making your
decision to invest in our common stock. The risks and uncertainties described
below are not the only ones facing us. Additional risks and uncertainties not
presently known to us or that we do not currently believe are important to an
investor may also harm our business operations. If any of the events,
contingencies, circumstances or conditions described in the following risks
actually occur, our business, financial condition or our results of operations
could be seriously harmed. If that happens, the trading price of our common
stock could decline and you may lose part or all of the value of any shares held
by you.

RISKS RELATING TO OUR BUSINESS

OUR QUARTERLY OPERATING RESULTS ARE SUBJECT TO FLUCTUATIONS AND SEASONALITY.
IF WE FAIL TO MEET THE EXPECTATIONS OF SECURITIES ANALYSTS OR INVESTORS, OUR
SHARE PRICE MAY DECREASE SIGNIFICANTLY.

Our revenue and operating results have fluctuated in the past and may not
meet the expectations of securities analysts or investors in the future. If this
occurs, the price of our common stock would likely decline. Factors that may
cause fluctuations in our operating results include the following:

- slowing sales by our distribution and fulfillment partners to their
customers, which may place pressure on these partners to reduce purchases
of our products;

- volume, timing and fulfillment of customer orders;

- customers delaying their purchase decisions in anticipation of new
versions of products;

- customers delaying, canceling or limiting their purchases as result of
the threat or results of terrorism or military actions taken by the
United States or its allies;

- introduction of new products by us or our competitors;

- seasonality;

- reduction in the prices of our products in response to competition or
market conditions;

- returns and allowance charges in excess of recorded amounts;

- timing of significant marketing and sales promotions;

- increased expenditures incurred pursuing new product or market
opportunities;

- inability to adjust our operating expenses to compensate for shortfalls
in revenue against forecast;

- demand for products; and

- general economic trends as they affect retail and corporate sales.

Due to the foregoing factors, among others, our revenue and operating
results are difficult to forecast. Our expense levels are based in significant
part on our expectations of future revenue. Therefore, our failure to meet
revenue expectations would seriously harm our business, operating results,
financial condition and cash flows. Further, an unanticipated decline in revenue
for a particular quarter may disproportionately affect our profitability because
a relatively small amount of our expenses are intended to vary with our revenue
in the short term.

WE HAVE A HISTORY OF LOSSES. WE MAY INCUR LOSSES IN THE FUTURE.

We sustained recurring losses from operations in each reporting period
through December 31, 2001. We reported net income of $0.1 million and $6.3
million for the three months ended March 31, 2003 and the fiscal year ended
December 31, 2002, respectively. If we cannot maintain profitability, the market
price for our stock may decline, perhaps substantially.

OUR BUSINESS COULD BE HARMED IF WE DO NOT SUCCESSFULLY MANAGE THE INTEGRATION
OF THE BUSINESSES THAT WE ACQUIRE, INCLUDING OUR PLANNED MERGER WITH
SPEECHWORKS AND THE RECENTLY COMPLETED ACQUISITION OF THE SPEECH PROCESSING
TELEPHONY AND VOICE CONTROL BUSINESS UNITS OF PHILIPS.

As part of our business strategy, we have in the past acquired, and expect
to continue to acquire, other businesses and technologies. Our recent
acquisitions of the speech and language technology operations of Lernout &
Hauspie Speech Products N.V. and certain of its affiliates, including L&H
Holdings USA, Inc. (collectively, L&H), and the Telephony and Voice Control
business units of Philips Speech Processing required substantial integration and
management efforts. Our pending acquisition of SpeechWorks will pose similar,
and potentially greater, challenges. Acquisitions of this nature involve a
number of risks, including:

- difficulty in transitioning and integrating the operations and personnel
of the acquired businesses;

- potential disruption of our ongoing business and distraction of
management;

- difficulty in incorporating acquired technology and rights into our
products and technology;

- unanticipated expenses and delays in completing acquired development
projects and technology integration;

- management of geographically remote units both in the United States and
internationally;

- impairment of relationships with partners and customers;

- entering markets or types of businesses in which we have limited
experience; and

- potential loss of key employees of the acquired company.

As a result of these and other risks, we may not realize anticipated
benefits from our acquisitions. Any failure to achieve these benefits or failure
to successfully integrate acquired businesses and technologies could seriously
harm our business. The size of the SpeechWorks merger significantly increases
both the scope and consequences of our integration risks.

OUR OPERATING RESULTS COULD BE ADVERSELY AFFECTED AS A RESULT OF PURCHASE
ACCOUNTING TREATMENT, AND THE CORRESPONDING IMPACT OF AMORTIZATION OF OTHER
INTANGIBLES RELATING TO OUR PROPOSED MERGER WITH SPEECHWORKS, IF THE RESULTS
OF THE COMBINED COMPANY DO NOT OFFSET THESE ADDITIONAL EXPENSES.

Under accounting principles generally accepted in the United States of
America, we will account for the proposed merger with SpeechWorks using the
purchase method of accounting. Under purchase accounting, we will record the
market value of our common stock issued in connection with the merger and the
amount of direct transaction costs as the cost of acquiring the business of
SpeechWorks. We will allocate that cost to the individual assets acquired and
liabilities assumed, including various identifiable intangible assets such as
acquired technology, acquired trade names, and acquired customer relationships
and assumed above-market lease liabilities based on their respective fair
values. Intangible assets generally will be amortized over a four to ten year
period. The amount of purchase price allocated to goodwill will be approximately
$112.8 million and the amount allocated to identifiable intangible assets will
be approximately $13.9 million. Goodwill is not subject to amortization but is
subject to at least an annual impairment analysis, which may result in an
impairment charge if the carrying value exceeds its implied fair value. If other
identifiable intangible assets were amortized in equal quarterly amounts over a
six-year period following completion of the merger, the accounting charge
attributable to these items would be approximately $0.6 million per quarter and
$2.3 million per fiscal year. As a result, purchase accounting treatment of the
merger could decrease net income for us in the foreseeable future, which could
have a material and adverse effect on the market value of our common stock
following completion of the merger.

THE COMBINED COMPANY THAT WOULD RESULT FROM OUR PROPOSED MERGER WITH
SPEECHWORKS WILL BE MANAGED BY A MANAGEMENT TEAM CONSISTING OF CURRENT
SCANSOFT AND SPEECHWORKS EXECUTIVES, AND THIS MANAGEMENT TEAM MAY UNDERTAKE A
STRATEGY AND BUSINESS DIRECTION WHICH IS DIFFERENT FROM THAT WHICH OUR CURRENT
MANAGEMENT TEAM WOULD UNDERTAKE.

After the merger, the new management team of the combined company will
consist of certain current ScanSoft and SpeechWorks executives. The manner in
which the new management team conducts the business of the combined company, and
the direction in which the new management team moves the business, may differ
from the manner and direction in which the current management of either ScanSoft
or SpeechWorks would direct the combined or separate companies on a stand-alone
basis. Such control by the new management team, together with the effects of
future market factors and conditions, could ultimately evolve into an
integration and business strategy that, when implemented, differs from the
strategy and business direction currently recommended by ScanSoft's or
SpeechWorks' current respective management and board of directors. The new
management team, and any change in business or direction, may not improve, and
could adversely impact, the combined company's financial condition and results
of operations.

THE SALE OF A SUBSTANTIAL NUMBER OF SHARES OF SPEECHWORKS COMMON STOCK IN
CONNECTION WITH THE ACCELERATION OF OPTIONS AND SHARES OF RESTRICTED COMMON
STOCK MAY CAUSE THE PRICE OF SPEECHWORKS COMMON STOCK TO DECLINE.

In order to eliminate the ongoing compensation expense and limit the number
of outstanding options that would result from SpeechWorks options remaining
outstanding as our options after the merger, we have required that all
SpeechWorks options be accelerated and, to the extent not exercised, terminated
prior to the closing of the merger. The vesting of options held by non-officer
SpeechWorks employees will accelerate as of the second business day following
the filing date of the registration statement relating to the shares of our
common stock to be issued pursuant to the proposed merger. The vesting of all
options and 50% of the shares of restricted stock held by SpeechWorks officers
and directors will accelerate prior to the closing of the merger on a date to be
determined by the SpeechWorks board of directors. SpeechWorks has indicated to
us that it cannot determine the number of options that SpeechWorks employees,
officers and directors will exercise and, with respect to the shares of
SpeechWorks common stock issued upon exercise, sell prior to the effective time
of the merger. SpeechWorks has informed us that it expects, however, that all
SpeechWorks optionholders will exercise their in-the-money options prior to the
closing of the merger and that many SpeechWorks optionholders, including
SpeechWorks executive officers and directors, will elect to sell at least the
portion of the SpeechWorks shares issued upon exercise as is necessary to recoup
the exercise price and pay any tax liabilities which the optionholder incurs in
connection with the option exercise. In addition, SpeechWorks executive officers
and directors and other SpeechWorks employees may for personal reasons,
including to diversify their investment holdings, elect to sell some or all of
the remaining SpeechWorks shares acquired upon exercise of options prior to the
closing of the merger. As of May 28, 2003, officers and directors of SpeechWorks
owned options to purchase an aggregate of 1,637,131 shares of SpeechWorks common
stock, of which 513,032 were then unvested, and all other employees held options
to purchase an aggregate of 3,451,222 shares of SpeechWorks common stock, of
which 1,811,155 were then unvested, with an exercise price less than $4.95. The
market price of SpeechWorks common stock could decline as a result of the sale
of some or all of these shares or the perception that substantial sales could
occur, and such decline may adversely impact the market price of our common
stock or our ability to obtain the required stockholder approvals to complete
the merger.

A LARGE PART OF OUR REVENUE IS DEPENDENT ON CONTINUED DEMAND FOR OUR PRODUCTS
FROM ORIGINAL EQUIPMENT MANUFACTURERS, OR OEM, PARTNERS. A SIGNIFICANT
REDUCTION IN OEM REVENUE WOULD SERIOUSLY HARM OUR BUSINESS, RESULTS OF
OPERATIONS, FINANCIAL CONDITION AND STOCK PRICE.

Many of our technologies are licensed to partners that incorporate our
technologies into solutions that they sell to their customers. The commercial
success of these licensed products depends to a substantial

degree on the efforts of these licensees in developing and marketing products
incorporating our technologies. The integration of our technologies into their
products takes significant time, effort and investment, and products
incorporating our technologies may not be successfully implemented or marketed
by our licensees.

OEM revenue represented 36% and 38% of our consolidated revenue for the
three-month periods ended March 31, 2003 and 2002, respectively. A select few of
our OEM partners account for a majority of our OEM revenues. Our partners are
not required to continue to bundle or embed our software, and they may choose
the software products of our competitors in addition to, or in place of, our
products. A significant reduction in OEM revenue would seriously harm our
business, results of operations, financial condition and stock price.

SPEECH TECHNOLOGIES MAY NOT ACHIEVE WIDESPREAD ACCEPTANCE BY BUSINESSES, WHICH
COULD LIMIT OUR ABILITY TO GROW OUR SPEECH BUSINESS.

The market for speech technologies is relatively new and rapidly evolving.
Our ability to increase revenue in the future depends in large measure on
acceptance by both our customers and the end users of speech technologies in
general and our products in particular. The continued development of the market
for our current and future speech solutions will also depend on the following
factors:

- widespread deployment and acceptance of speech technologies;

- consumer demand for speech-enabled applications;

- development by third-party vendors of applications using speech
technologies; and

- continuous improvement in speech technology.

Sales of our speech products would be harmed if the market for speech
software does not continue to develop or develops more slowly than we expect.

WE HAVE GROWN AND MAY CONTINUE TO GROW THROUGH ACQUISITIONS, WHICH MAY RESULT
IN SIGNIFICANT INTANGIBLE ASSETS, DILUTION OF OUR EXISTING STOCKHOLDERS, USE
OF CASH AND OTHER RISKS.

We have made several significant acquisitions over the last two years, have
recently completed the purchase of certain businesses and intellectual property
from Philips and have announced the pending acquisition of SpeechWorks and may
acquire additional complementary assets, technologies or businesses in the
future. Our past acquisitions have given rise to, and future acquisitions may
result in, substantial levels of intangible assets that will be amortized or
subject to impairment analyses in future periods, and our future results will be
adversely affected if we do not realize benefits from these acquisitions
commensurate with amortization and potential impairment charges. In addition,
our acquisition of Caere Corporation included a substantial write-off of
acquired in-process research and development costs, and similar write-offs may
also occur as a result of other acquisitions.

In connection with the Caere and L&H acquisitions, we issued 19.0 million
and 7.4 million shares of our common stock, respectively, and in connection with
the proposed SpeechWorks acquisition, we expect to issue approximately 32.6
million shares of our common stock, subject to adjustment based on the number of
shares of SpeechWorks common stock outstanding at the closing of the merger. We
may continue to issue equity securities for future acquisitions and working
capital purposes that could dilute our existing stockholders. In connection with
the L&H acquisition, we issued a promissory note for $3.5 million. Under the
terms of the Philips acquisition, we paid 3.1 million euros ($3.4 million) in
cash at closing, subject to adjustment in accordance with the provisions of the
purchase agreement, as amended, and agreed to a deferred payment of 1.0 million
euros in cash prior to December 31, 2003, issued a 5.0 million euro note due
December 31, 2003 and bearing 5.0% interest per annum and issued a $27.5 million
three-year, zero-interest subordinated debenture, convertible at any time at
Philips' option into shares of our common stock at $6.00 per share. Future
acquisitions may also require us to expend

significant funds or incur debt. If we expend funds or incur additional debt,
our ability to obtain financing for working capital or other purposes could
decrease.

SALES OF OUR DOCUMENT AND PDF CONVERSION PRODUCTS AND OUR DIGITAL PAPER
MANAGEMENT PRODUCTS REPRESENTED APPROXIMATELY 43% OF OUR REVENUE FOR THE
THREE-MONTH PERIOD ENDED MARCH 31, 2003 AND APPROXIMATELY 51% FOR THE
THREE-MONTH PERIOD ENDED MARCH 31, 2002. ANY REDUCTION IN REVENUE FROM THESE
PRODUCT AREAS COULD SERIOUSLY HARM OUR BUSINESS.

Historically, a few product areas have generated a substantial portion of
our revenues. For the three months ended March 31, 2003, our document and PDF
conversion products represented approximately 26% of our revenue and our digital
paper management products represented approximately 17% of our revenue. For the
three months ended March 31, 2002, our document and PDF conversion products
represented approximately 36% of our revenue, and our digital paper management
products represented approximately 15% of our revenue. Although the relative
share of our revenue derived from these products decreased due to the inclusion
of sales of our its speech products after the L&H acquisition, a reduction in
the revenue contribution from these product areas could seriously harm our
business, results of operations, financial condition, cash flows and stock
price.

THE PROTECTION OF OUR PROPRIETARY TECHNOLOGY AND INTELLECTUAL PROPERTY IS KEY
TO OUR SUCCESS.

We rely heavily on our proprietary technology, trade secrets and other
intellectual property. Unauthorized parties may attempt to copy aspects of our
products or to obtain and use information that we regard as proprietary.
Policing unauthorized use of our products is difficult and we may not be able to
protect our technology from unauthorized use. Additionally, our competitors may
independently develop technologies that are substantially the same as or
superior to our technologies. In addition, the laws of some foreign countries do
not protect our proprietary rights to the same extent as the laws of the United
States. Although the source code for our proprietary software is protected both
as a trade secret and as a copyrighted work, litigation may be necessary to
enforce our intellectual property rights, to protect our trade secrets, to
determine the validity and scope of the proprietary rights of others, or to
defend against claims of infringement or invalidity. Litigation, regardless of
the outcome, can be very expensive and can divert management efforts.

THIRD PARTIES HAVE CLAIMED AND MAY CLAIM IN THE FUTURE THAT WE ARE INFRINGING
THEIR INTELLECTUAL PROPERTY. WE COULD BE EXPOSED TO SIGNIFICANT LITIGATION OR
LICENSING EXPENSES OR BE PREVENTED FROM SELLING OUR PRODUCTS IF SUCH CLAIMS
ARE SUCCESSFUL.

Like other technology companies, from time to time, we are subject to
claims that we or our customers may be infringing or contributing to the
infringement of the intellectual property rights of others. We may be unaware of
the intellectual property rights of others that may cover some of our
technologies and products. If it appears necessary or desirable, we may seek
licenses for these intellectual property rights. However, we may not be able to
obtain licenses from some or all claimants, the terms of any offered licenses
may not be acceptable to us, or we may not be able to resolve disputes without
litigation. Any litigation regarding intellectual property could be costly and
time-consuming and could divert the attention of our management and key
personnel from our business operations. In the event of a claim of intellectual
property infringement, we may be required to enter into costly royalty or
license agreements. Third parties claiming intellectual property infringement
may be able to obtain injunctive or other equitable relief that could
effectively block our ability to develop and sell our products.

On November 27, 2002, AllVoice Computing plc filed an action against us in
the United States District Court for the Southern District of Texas claiming
patent infringement. Damages are sought in an unspecified amount. We filed an
Answer on December 23, 2002. We believe this claim has no merit, and we intend
to defend the action vigorously.

On December 28, 2001, we were sued for patent infringement initiated by the
Massachusetts Institute of Technology and Electronics For Imaging, Inc. We were

one of more than 200 defendants named in this

lawsuit. Damages are sought in an unspecified amount. We filed an Answer and
Counterclaim on June 28, 2002. We believe this claim has no merit, and intend to
defend the action vigorously.

On August 16, 2001, we were sued by Horst Froessl for patent infringement.
Damages are sought in an unspecified amount. We filed an Answer and Counterclaim
on September 19, 2001. We believe this claim has no merit, and intend to defend
the action vigorously.

We believe that the final outcome of the current litigation matters
described above will not have a significant adverse effect on our financial
position and results of operations, and believe that we will not be required to
expend a significant amount of resources defending such claims. However, should
we not prevail in these litigation matters or if we are required to expend a
significant amount of resources defending such claims, our operating results,
financial position and cash flows could be adversely impacted. If any third
parties are successful in intellectual property infringement claims against us,
we may be subject to significant damages or injunctions, and our operating
results and financial position could be harmed.

THE MARKETS IN WHICH WE OPERATE ARE HIGHLY COMPETITIVE AND RAPIDLY CHANGING.
WE MAY BE UNABLE TO COMPETE SUCCESSFULLY AGAINST NEW ENTRANTS AND ESTABLISHED
COMPANIES WITH GREATER RESOURCES.

There are a number of companies that develop or may develop products that
compete in our targeted markets; however, there is no one company that competes
with us in all of our product areas. The individual markets in which we compete
are highly competitive, and are rapidly changing. Within digital capture, we
compete directly with ABBYY, I.R.I.S. and NewSoft. Within speech, we compete
with AT&T, IBM, Loquendo, Microsoft, Nuance Communications, Rhetorical and Temic
Speech Processing, among others. Vendors such as Adobe and Microsoft offer
solutions that can be considered alternatives to some of our solutions. In
addition, a number of smaller companies produce technologies or products that
are in some markets competitive with our solutions. Current and potential
competitors have established, or may establish, cooperative relationships among
themselves or with third parties to increase the ability of their technologies
to address the needs of our prospective customers.

The competition in these markets could adversely affect our operating
results by reducing the volume of the products we sell or the prices we can
charge. Some of our current or potential competitors have significantly greater
financial, technical and marketing resources than we do. These competitors may
be able to respond more rapidly than we can to new or emerging technologies or
changes in customer requirements. They may also devote greater resources to the
development, promotion and sale of their products than we do. The price and
performance of our products and technologies may not be superior relative to the
products of our competitors. As a result, we may lose competitive position,
which loss could result in lower prices, fewer customer orders, reduced revenue,
reduced gross margins and loss of market share. Our products and technologies
may not achieve market acceptance or sell at favorable prices, which could hurt
our revenue, results of operations and the price of our common stock.

Some of our customers, such as Microsoft, have developed or acquired
products or technologies that compete with our products and technologies. These
customers may give higher priority to the sale of these competitive products or
technologies. To the extent they do so, market acceptance and penetration of our
products, and therefore our revenue, may be adversely affected.

Our success will depend substantially upon our ability to enhance our
products and technologies and to develop and introduce, on a timely and
cost-effective basis, new products and features that meet changing customer
requirements and incorporate technological advancements. If we are unable to
develop new products and enhance functionalities or technologies to adapt to
these changes, or are unable to realize synergies among our acquired products
and technologies, our business will suffer.

OUR SOFTWARE PRODUCTS MAY HAVE BUGS, WHICH COULD RESULT IN DELAYED OR LOST
REVENUE, EXPENSIVE CORRECTION, LIABILITY TO OUR CLIENTS AND CLAIMS AGAINST US.

Complex software products such as ours may contain errors, defects or other
software bugs. Defects in the solutions or products that we develop and sell to
our customers could require expensive corrections and result in delayed or lost
revenue, adverse client reaction and negative publicity about us or our products
and services. Customers who are not satisfied with any of our products could
bring claims against us for damages, which, even if unsuccessful, would likely
be time-consuming to defend, and could result in costly litigation and payment
of damages. Such claims could harm our financial results and competitive
position.

WE RELY ON A SMALL NUMBER OF DISTRIBUTION AND FULFILLMENT PARTNERS, INCLUDING
1450, DIGITAL RIVER, INGRAM MICRO AND TECH DATA, TO DISTRIBUTE MANY OF OUR
PRODUCTS. ANY DISRUPTION IN THESE CHANNELS COULD HARM OUR RESULTS OF
OPERATIONS.

Our products are sold through, and a substantial portion of our revenue is
derived from, a network of over 2000 channel partners, including value-added
resellers, computer superstores, consumer electronic stores, mail order houses,
office superstores and eCommerce Web sites. We rely on a small number of
distribution and fulfillment partners, including 1450, Digital River, Ingram
Micro and Tech Data to serve this network of channel partners. For the
three-month period ended March 31, 2003, two distribution and fulfillment
partners, Ingram Micro and Digital River, accounted for 25% and 17% of our
consolidated revenue, respectively. During the three-month period ended March
31, 2002, Ingram Micro and Digital River accounted for 27% and 11% of our
consolidated revenue, respectively. A disruption in these distribution and
fulfillment partner relationships could negatively affect our results of
operations in the short term. Any disruption for which we are unable to
compensate could have a more sustained impact on our results of operations.

A SIGNIFICANT PORTION OF OUR ACCOUNTS RECEIVABLE IS CONCENTRATED AMONG OUR
THREE LARGEST DISTRIBUTION AND FULFILLMENT PARTNERS, INGRAM MICRO, INC., TECH
DATA CORPORATION, AND DIGITAL RIVER, INC.

Our products are sold through, and a substantial portion of our accounts
receivable is derived from, three distribution and fulfillment partners. At
March 31, 2003, Ingram Micro, Tech Data and Digital River represented 16%, 3%
and 15% of our net accounts receivable, respectively. At March 31, 2002, Ingram
Micro, Tech Data and Digital River represented 16%, 11% and 9%, of our net
accounts receivable, respectively. In addition, although we perform ongoing
credit evaluations of our distribution and fulfillment partners' financial
condition and maintain reserves for potential credit losses, we do not require
collateral. While, to date, such losses have been within our expectations, we
cannot assure you that these actions will be sufficient to meet future
contingencies. If any of these distribution and fulfillment partners were unable
to pay us in a timely fashion or if we were to experience significant credit
losses in excess of our reserves, our results of operations, cash flows and
financial condition would be seriously harmed.

A SIGNIFICANT PORTION OF OUR REVENUE IS DERIVED FROM SALES IN EUROPE AND ASIA.
OUR RESULTS COULD BE HARMED BY ECONOMIC, POLITICAL, REGULATORY AND OTHER RISKS
ASSOCIATED WITH THESE AND OTHER INTERNATIONAL REGIONS.

Since we sell our products worldwide, our business is subject to risks
associated with doing business internationally. We anticipate that revenue from
international operations will represent an increasing portion of our total
revenue. Reported international revenue for the three-month periods ended March
31, 2003 and March 31, 2002, represented 26% and 22% of our consolidated revenue
for those periods, respectively. Most of these international revenues are
produced by sales in Europe and Asia. A number of our OEM partners distribute
their products throughout the world and do not provide us with the geographical
dispersion of their products. However, based on an estimate that factors our OEM
partners' geographical revenue mix into our revenue generated from these OEM
partners, international revenue would have represented approximately 33% and 30%
of our consolidated revenue for the three-month periods ended March 31, 2003 and
March 31, 2002, respectively.

Therefore, in addition to risks to our business based on a potential
downturn in the world economy, a region-specific downturn affecting countries in
Western Europe and/or Asia could have a negative effect on our future results of
operations.

In addition, some of our products are developed and manufactured outside
the United States. A significant portion of the development and manufacturing of
our speech products are completed in Belgium, and a significant portion of our
digital capture research and development is conducted in Hungary. In addition,
in connection with the Philips acquisition, we have added an additional research
and development location in Germany. Our future results could be harmed by a
variety of factors associated with international sales and operations in
addition to the risks the company as a whole faces, including:

- changes in a specific country's or region's political or economic
conditions;

- trade protection measures and import or export licensing requirements
imposed by the United States or by other countries;

- negative consequences from changes in applicable tax laws;

- difficulties in staffing and managing operations in multiple locations in
many countries;

- difficulties in collecting trade accounts receivable in other countries;
and

- less effective protection of intellectual property.

WE ARE EXPOSED TO FLUCTUATIONS IN FOREIGN CURRENCY EXCHANGE RATES.

Because we have international subsidiaries and distributors that operate
and sell our products outside the United States, we are exposed to the risk of
changes in foreign currency exchange rates or declining economic conditions in
these countries. We generally do not engage in hedging transactions to manage
our exposure to currency fluctuations. However, in connection with the Philips
acquisition, on January 30, 2003, we entered into a forward hedge in the amount
of $5.3 million to meet our obligation to pay a 5.0 million euro promissory note
issued to Philips as part of the acquisition. Our exposure to currency rate
fluctuations could affect our results of operations and cash flows.

IF WE ARE UNABLE TO ATTRACT AND RETAIN TECHNICAL AND OPERATIONAL PERSONNEL,
OUR BUSINESS COULD BE HARMED.

If any of our key employees were to leave, we could face substantial
difficulty in hiring qualified successors and could experience a loss in
productivity while any successor obtains the necessary training and experience.
Our employment relationships are generally at-will and we have had key employees
leave in the past. We cannot assure you that one or more key employees will not
leave in the future. We intend to continue to hire additional highly qualified
personnel, including software engineers and operational personnel, but we may
not be able to attract, assimilate or retain qualified personnel in the future.
Any failure to attract, integrate, motivate and retain these employees could
harm our business.

RISKS RELATING TO THIS OFFERING

FUTURE SALES OF OUR COMMON STOCK BY CERTAIN OF OUR STOCKHOLDERS COULD CAUSE OUR
STOCK PRICE TO DECREASE.

Upon the effectiveness of this registration statement, the 9,000,000 shares
registered hereby will be freely tradable. If the Registering Stockholders were
to sell a significant portion of their shares, or investors become concerned
about the possibility of substantial sales, the market price of our common stock
could decrease.

THE STOCKHOLDINGS OF OUR TWO LARGEST STOCKHOLDERS MAY ENABLE THEM TO INFLUENCE
MATTERS REQUIRING STOCKHOLDER APPROVAL.

As of May 30, 2003, Xerox beneficially owned approximately 22.7% of our
outstanding common stock, including warrants exercisable for up to 525,732
shares of our common stock and 3,562,238 shares of our outstanding Series B
Preferred Stock, each of which is convertible into one share of our common
stock. The number of shares of common stock issuable upon exercise of the Xerox
warrants may increase in accordance with a formula defined in the warrant
agreement. The State of Wisconsin Investment Board, or SWIB, is our second
largest stockholder, owning approximately 17.7% of our common stock as of May
30, 2003. Because of their large holdings of our capital stock relative to other
stockholders, Xerox and SWIB, acting individually or together, could have a
strong influence over matters requiring approval by our stockholders.

THE MARKET PRICE OF OUR COMMON STOCK HAS BEEN AND MAY CONTINUE TO BE SUBJECT
TO WIDE FLUCTUATIONS.

Our stock price historically has been and may continue to be volatile.
Various factors contribute to the volatility of our stock price, including, for
example, quarterly variations in our financial results, new product
introductions by us or our competitors and general economic and market
conditions. While we cannot predict the individual effect that these factors may
have on the market price of our common stock, these factors, either individually
or in the aggregate, could result in significant volatility in our stock price
during any given period of time. Moreover, companies that have experienced
volatility in the market price of their stock often are subject to securities
class action litigation. If we were the subject of such litigation, it could
result in substantial costs and divert management's attention and resources.

WE HAVE IMPLEMENTED ANTI-TAKEOVER PROVISIONS, WHICH COULD DISCOURAGE OR
PREVENT A TAKEOVER, EVEN IF AN ACQUISITION WOULD BE BENEFICIAL TO OUR
STOCKHOLDERS.

Provisions of our amended and restated certificate of incorporation, bylaws
and Delaware law could make it more difficult for a third party to acquire us,
even if doing so would be beneficial to our stockholders. These provisions
include:

- a preferred shares rights agreement;

- authorized "blank check" preferred stock;

- a prohibition on cumulative voting in the election of directors;

- a limitation on the ability of stockholders to call special meetings of
stockholders;

- a requirement that all stockholder actions be taken at meetings of our
stockholders; and

- a requirement for advance notice for nominations of directors and for
stockholder proposals.

FORWARD-LOOKING STATEMENTS

This prospectus contains forward-looking statements. These forward-looking
statements include predictions regarding:

- our revenue, earnings, cash flow and liquidity;

- our strategy relating to speech and language technologies;

- our expectations regarding our acquisition of certain business units and
related intellectual property from Philips;

- the potential of future product releases;

- our product development plans and investments in research and
development;

- future acquisitions, and our ability to successfully complete our pending
acquisition of SpeechWorks, as well as any effects that may result from
our completion of, or failure to complete, the pending acquisition of
SpeechWorks;

- international operations and localized versions of our products;

- cost savings arising from our 2002 restructuring; and

- legal proceedings and litigation matters.

You can identify these and other forward-looking statements by the use of
words such as "may," "will," "should," "expects," "plans," "anticipates,"
"believes," "estimates," "predicts," "intends," "potential," "continue" or the
negative of such terms, or other comparable terminology. Forward-looking
statements also include the assumptions underlying or relating to any of the
foregoing statements.

Our actual results could differ materially from those anticipated in these
forward-looking statements as a result of various factors, including those set
forth in this prospectus under the heading "Risk Factors." All forward-looking
statements included in this document are based on information available to us on
the date hereof. We assume no obligation to update any forward-looking
statements.

TRADEMARKS AND OTHER INFORMATION

You should rely only on the information contained in this prospectus. We
have not authorized anyone to provide you with information different from that
contained in this prospectus. The Registering Stockholders may offer to sell,
and seek offers to buy, shares of our common stock only in jurisdictions where
offers and sales are permitted. The information contained in this prospectus is
accurate only as of the date of this prospectus, regardless of the time of
delivery of this prospectus or of any sale of our common stock. In this
prospectus, "ScanSoft," "we," "us," and "our" refer to ScanSoft, Inc., its
predecessors and its consolidated subsidiaries.

ScanSoft(R), Dragon NaturallySpeaking(R), OmniForm(R), OmniPage(R),
TextBridge(R), Pagis(R), PaperPort(R) and PaperPort Deluxe(R) are registered
trademarks of ScanSoft, Inc. RealSpeak(TM), AudioMining(TM), MediaIndexer(TM),
Capture Development System(TM) and PaperPortOnline(TM) are trademarks of
ScanSoft, Inc. Each trademark, trade name, or service mark of any other company
appearing in this prospectus belongs to its holder.

Information contained on our web site or any other web sites identified in
this prospectus is not part of this prospectus. All Web site addresses listed in
this prospectus are intended to be inactive, textual references only.

PRICE RANGE OF COMMON STOCK

Our common stock commenced trading on the NASDAQ National Market on
December 11, 1995 under the symbol "VSNR," and traded under that symbol until
March 3, 1999. Our common stock is now traded under the symbol "SSFT." As of May
30, 2003, there were outstanding approximately 66,150,349 shares of common stock
held by approximately 570 stockholders of record. The following table sets forth
for the periods indicated the high and low sale prices for our common stock as
reported on the NASDAQ National Market.

HIGH LOW
----- -----

FISCAL 2003:
First Quarter............................................. $6.50 $3.81
Second Quarter (through June 16, 2003).................... $6.55 $4.45
FISCAL 2002:
First Quarter............................................. $6.00 $2.88
Second Quarter............................................ 8.85 5.30
Third Quarter............................................. 7.94 3.15
Fourth Quarter............................................ 7.77 3.16
FISCAL 2001:
First Quarter............................................. $1.69 $0.66
Second Quarter............................................ 1.69 0.50
Third Quarter............................................. 1.68 1.20
Fourth Quarter............................................ 5.50 1.35
FISCAL 2000:
First Quarter............................................. $6.81 $3.72
Second Quarter............................................ 5.00 2.22
Third Quarter............................................. 2.81 1.28
Fourth Quarter............................................ 1.75 0.41

The last reported sale price of our common stock on the Nasdaq National
Market on June 16, 2003 was $6.01.

DIVIDEND POLICY

We have never declared or paid any cash dividends on our capital stock. We
currently expect to retain future earnings, if any, to finance the growth and
development of our business and do not anticipate paying any cash dividends in
the foreseeable future.

Our loan and security agreement with Silicon Valley Bank, dated October 31,
2002, contains a restrictive covenant which prohibits us from paying or
declaring any dividends on our capital stock during the term of the agreement
(except for dividends payable solely in capital stock) without Silicon Valley
Bank's prior written consent. In addition, the zero coupon convertible
subordinated debenture due in 2006 that was issued to Koninklijke Royal Philips
Electronics N.V. ("Philips") in connection with our acquisition of the Speech
Processing Telephony and Voice Control business units of Philips contains a
restrictive covenant which prohibits us from paying or declaring any dividend or
distribution (other than distributions of our equity securities) on our capital
stock while the note is outstanding. This restriction terminates if one half or
more of the note is converted by Philips into common stock.

SELECTED CONSOLIDATED FINANCIAL DATA

The following selected consolidated financial data is not necessarily
indicative of the results of future operations and should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and our consolidated financial statements and related notes included
elsewhere in this prospectus. See "Where You Can Find More Information" on page
83. This selected consolidated financial data reflects the adoption of EITF
01-9, Accounting for Consideration Given by a Vendor to a Customer (Including a
Reseller of the Vendor's Products), as described in Note 2 to the Notes to the
Consolidated Financial Statements included elsewhere in the prospectus.

The statement of operations data for the years ended December 31, 2002,
2001, and 2000 and the balance sheet data as of December 31, 2002 and 2001 have
been derived from our consolidated financial statements audited by
PricewaterhouseCoopers LLP, independent accountants, included elsewhere in this
prospectus. The statement of operations data for the three months ended March
31, 2003 and 2002 and the balance sheet data as of March 31, 2003 have been
derived from our unaudited consolidated financial statements included elsewhere
in this prospectus, which in the opinion of our management, reflect all
adjustments (consisting of only normal recurring adjustments) necessary for a
fair presentation of the financial position and results of operations for these
periods.

On March 2, 1999, we acquired ScanSoft, Inc., an indirect wholly owned
subsidiary of Xerox Corporation. On June 30, 1999, we acquired certain assets
and liabilities of MetaCreations Corporation. On March 13, 2000, we acquired
Caere Corporation. On December 12, 2001, we acquired substantially all of the
speech and language technology operations of Lernout & Hauspie Speech Products
N.V. ("L&H"). On January 30, 2003, we acquired the Philips Speech Processing
Telephony and Voice Control business units of Royal Philips Electronics ("PSP").
These acquisitions were each accounted for under the purchase method of
accounting. Accordingly, the results of operations from the ScanSoft,
MetaCreations, Caere, L&H and PSP acquisitions are included in our results of
operations from the applicable acquisition dates.

Through December 1998, we developed and sold scanner hardware and software
products. On January 6, 1999, we sold our hardware business. Accordingly, the
results of the hardware business are included in our results of operations
through the date of disposal.

THREE MONTHS
ENDED MARCH 31, YEAR ENDED DECEMBER 31,
----------------- --------------------------------------------------
2003 2002 2002 2001 2000 1999 1998
------- ------- -------- -------- -------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)

CONSOLIDATED STATEMENT OF OPERATIONS
DATA:
Total revenue.......................... $27,836 $23,765 $106,619 $ 62,717 $ 47,961 $31,629 $79,070
------- ------- -------- -------- -------- ------- -------
Costs and expenses:
Cost of revenue...................... 4,302 4,129 16,419 12,849 12,692 7,602 59,370
Cost of revenue from amortization of
intangible assets.................. 2,057 3,542 9,470 14,192 11,569 1,405 --
Research and development............. 7,177 6,986 27,633 13,968 14,967 6,920 4,408
Selling, general and
administrative..................... 13,261 9,711 43,771 25,311 27,111 14,509 19,150
Amortization of goodwill and other
intangible assets(1)............... 361 957 1,682 13,328 11,017 516 --
Restructuring and other charges,
net(2)(3).......................... 529 1,041 1,041 -- 4,811 346 --
Acquired in-process research and
development(4)..................... -- -- -- -- 18,291 3,944 --
------- ------- -------- -------- -------- ------- -------
Total costs and expenses............. 27,687 26,366 100,016 79,648 100,458 35,242 82,928
------- ------- -------- -------- -------- ------- -------
Income (loss) from operations.......... 149 (2,601) 6,603 (16,931) (52,497) (3,613) (3,858)
Other income (expense), net............ 22 (75) (16) (263) (282) 1,015 53
------- ------- -------- -------- -------- ------- -------
Income (loss) before income taxes...... 171 (2,676) 6,587 (17,194) (52,779) (2,598) (3,805)
Provision for (benefit from) income
taxes................................ 95 206 254 (317) 472 150 --
------- ------- -------- -------- -------- ------- -------
Net income (loss)...................... $ 76 $(2,882) $ 6,333 $(16,877) $(53,251) $(2,748) $(3,805)
======= ======= ======== ======== ======== ======= =======
Net income (loss) per share: basic and
diluted.............................. $ 0.00 $ (0.05) $ 0.09 $ (0.34) $ (1.26) $ (0.11) $ (0.19)
======= ======= ======== ======== ======== ======= =======
Weighted average common shares
outstanding:
Basic................................ 67,689 62,304 67,010 49,693 42,107 25,630 19,728
======= ======= ======== ======== ======== ======= =======
Diluted.............................. 77,220 62,304 72,796 49,693 42,107 25,630 19,728
======= ======= ======== ======== ======== ======= =======

AS OF AS OF DECEMBER 31,
MARCH 31, --------------------------------------------------
2003 2002 2001 2000 1999 1998
--------- -------- -------- -------- ------- -------
(IN THOUSANDS)

CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and short-term
investments.................................. $ 20,277 $ 18,853 $ 14,324 $ 2,633 $ 5,224 $ 8,123
Working capital (deficit)...................... 5,314 16,842 9,318 (6,484) 7,031 6,569
Total assets................................... 197,756 143,690 142,070 109,480 29,982 28,445
Long-term liabilities.......................... 30,969 725 6,370 2,172 -- 91
Total stockholders' equity..................... $125,625 $119,378 $114,534 $ 87,461 $21,924 $ 7,582

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

(1) See Notes 4 and 5 to Notes to Consolidated Financial Statements.

(2) See Note 8 to Notes to Consolidated Financial Statements.

(3) See Note 9 to Notes to Unaudited Consolidated Financial Statements.

(4) See Note 18 to Notes to Consolidated Financial Statements.

SELECTED QUARTERLY OPERATING RESULTS

The following table sets forth unaudited quarterly consolidated statement
of operations data for the nine quarters ended March 31, 2003 as well as the
percentage of total revenue represented by each item. The information for each
of these quarters has been prepared on substantially the same basis as the
audited financial statements included elsewhere in this prospectus, and, in the
opinion of our management, includes all adjustments, consisting only of normal
recurring adjustments, necessary for the fair presentation of the results of
operations for such periods. This quarterly information reflects the adoption of
EITF 01-9, Accounting for Consideration Given by a Vendor to a Customer
(Including a Reseller of the Vendor's Products), as described in Note 2 to the
Notes to the Consolidated Financial Statements included elsewhere in the
prospectus. The financial data as presented in the table should be read in
conjunction with such consolidated financial statements. These quarterly
operating results are not necessarily indicative of the operating results for
the full year ending December 31, 2003 or any future period.

QUARTER ENDED
--------------------------------------------------------------------------------------------------
MAR. 31, DEC. 31, SEPT. 30, JUNE 30, MAR. 31, DEC. 31, SEPT. 30, JUNE 30, MAR. 31,
2003 2002 2002 2002 2002 2001 2001 2001 2001
-------- -------- --------- -------- -------- -------- --------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)

CONSOLIDATED STATEMENT OF
OPERATIONS DATA:
Total revenue................ $27,836 $28,435 $28,235 $26,184 $23,765 $18,587 $16,765 $14,864 $12,501
Costs and expenses:
Cost of revenue.............. 4,302 3,482 4,199 4,609 4,129 3,634 3,497 2,828 2,890
Cost of revenue from
amortization of intangible
assets..................... 2,057 1,976 1,976 1,976 3,542 3,656 3,512 3,512 3,512
Research and development..... 7,177 6,323 7,257 7,067 6,986 3,952 3,581 3,238 3,197
Selling, general and
administrative............. 13,261 11,720 11,412 10,928 9,711 6,367 6,545 6,113 6,286
Amortization of goodwill and
other intangible
assets(1).................. 361 236 236 253 957 3,364 3,321 3,321 3,322
Restructuring and other
charges, net(2)(3)......... 529 -- -- -- 1,041 -- -- -- --
------- ------- ------- ------- ------- ------- ------- ------- -------
Total costs and expenses..... 27,687 23,737 25,080 24,833 26,366 20,973 20,456 19,012 19,207
------- ------- ------- ------- ------- ------- ------- ------- -------
Income (loss) from
operations................. 149 4,698 3,155 1,351 (2,601) (2,386) (3,691) (4,148) (6,706)
Other income (expense),
net........................ 22 162 (168) 65 (75) (137) 12 (5) (133)
------- ------- ------- ------- ------- ------- ------- ------- -------
Income (loss) before income
taxes...................... 171 4,860 2,987 1,416 (2,676) (2,523) (3,679) (4,153) (6,839)
Provision for (benefit from)
income taxes............... 95 420 162 (534) 206 (155) (465) 242 61
------- ------- ------- ------- ------- ------- ------- ------- -------
Net income (loss)............ $ 76 $ 4,440 $ 2,825 $ 1,950 $(2,882) $(2,368) $(3,214) $(4,395) $(6,900)
======= ======= ======= ======= ======= ======= ======= ======= =======
Net income (loss) per share:
Basic...................... $ 0.00 $ 0.07 $ 0.04 $ 0.03 $ (0.05) $ (0.04) $ (0.06) $ (0.09) $ (0.15)
======= ======= ======= ======= ======= ======= ======= ======= =======
Diluted.................... $ 0.00 $ 0.06 $ 0.04 $ 0.03 $ (0.05) $ (0.04) $ (0.06) $ (0.09) $ (0.15)
======= ======= ======= ======= ======= ======= ======= ======= =======
Weighted average common
shares outstanding:
Basic...................... 67,689 66,709 67,865 67,595 62,304 52,858 50,875 48,939 46,100
======= ======= ======= ======= ======= ======= ======= ======= =======
Diluted.................... 77,220 73,850 74,787 76,677 62,304 52,858 50,875 48,939 46,100
======= ======= ======= ======= ======= ======= ======= ======= =======

AS A PERCENTAGE OF TOTAL
REVENUE:
Total revenue................ 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Costs and expenses:
Cost of revenue.............. 15.5 12.3 14.9 17.6 17.4 19.5 20.9 19.1 23.0
Cost of revenue from
amortization of intangible
assets..................... 7.4 7.0 7.0 7.5 14.9 19.5 20.9 23.6 28.0
Research and development..... 25.8 22.2 25.7 27.0 29.3 21.1 21.4 21.9 25.5
Selling, general and
administrative............. 47.6 41.2 40.4 41.7 40.9 34.3 39.0 41.1 50.1
Amortization of goodwill and
other intangible assets.... 1.3 0.8 0.8 1.0 4.0 18.1 19.8 22.3 26.5
Restructuring and other
charges, net............... 1.9 0.0 -- -- 4.4 -- -- -- --
------- ------- ------- ------- ------- ------- ------- ------- -------
Total costs and expenses..... 99.5 83.5 88.8 94.8 110.9 112.5 122.0 128.0 153.1
------- ------- ------- ------- ------- ------- ------- ------- -------
Income (loss) from
operations................. 0.5 16.5 11.2 5.2 (10.9) (12.5) (22.0) (28.0) (53.1)
Other income (expense),
net........................ 0.0 0.6 (0.6) 0.2 (0.3) (0.7) 0.1 0.0 (1.1)
------- ------- ------- ------- ------- ------- ------- ------- -------
Income (loss) before income
taxes...................... 0.5 17.1 10.6 5.4 (11.2) (13.2) (21.9) (28.0) (54.2)
Provision for (benefit from)
income taxes............... 0.3 1.5 0.6 (2.0) 0.9 (0.8) (2.7) 1.6 1.0
------- ------- ------- ------- ------- ------- ------- ------- -------
Net income (loss)............ 0.2% 15.6% 10.0% 7.4% (12.1)% (12.4)% (19.2)% (29.6)% (55.2)%
======= ======= ======= ======= ======= ======= ======= ======= =======

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

(1) See Notes 4 and 5 to Notes to Consolidated Financial Statements.

(2) See Note 8 to Notes to Consolidated Financial Statements.

(3) See Note 9 to Notes to Unaudited Consolidated Financial Statements.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

RECENT DEVELOPMENTS

On April 24, 2003, we announced that we had signed a definitive merger
agreement to acquire SpeechWorks International, Inc. ("SpeechWorks"), a Boston,
Massachusetts-based company that provides speech recognition, text-to-speech and
speaker verification for network and embedded environments, including multimodal
devices with both an audio interface and visual display. Under the terms of the
agreement, we will acquire SpeechWorks in a tax-free, stock-for-stock merger
with an equity value at the time of announcement of approximately $132.0
million, net of SpeechWorks' cash balance of $49.0 million as of December 31,
2002. Upon completion of the merger, holders of SpeechWorks common stock will be
entitled to receive 0.860 shares of our common stock for each share of
SpeechWorks common stock exchanged in the merger. The acquisition is expected to
be completed in the third quarter of 2003. The agreement may be terminated by
either us or SpeechWorks upon certain events occurring or not occurring, as
defined in the agreement. In certain cases, if the agreement is terminated, we
may be required to pay SpeechWorks up to $6.5 million. Upon the closing of the
merger, we intend to initiate the repurchase of up to $25 million of our common
stock, provided that we will not repurchase more than 20% of the number of
shares of our common stock issued to SpeechWorks stockholders in the merger.
Repurchases of

stock will occur from time to time on the open market or in privately negotiated
transactions. The timing and amount of any shares repurchased will be determined
by our management based on its evaluation of market conditions and other
factors. The repurchase program is expected to extend for a period of twelve
months following the closing of the merger and may be suspended or discontinued
at any time. Any repurchased shares will be available for use in connection with
general corporate purposes.

RESULTS OF OPERATIONS

The following table presents, as a percentage of total revenue, certain
selected financial data for the three months ended March 31, 2003 and 2002 and
for each of the three years in the period ended December 31:

THREE MONTHS ENDED
MARCH 31 YEAR ENDED DECEMBER 31,
------------------ -------------------------
2003 2002 2002 2001 2000
------ ------ ------ ------ -------

Total revenue.............................. 100.0% 100.0% 100.0% 100.0% 100.0%
Costs and expenses:
Cost of revenue.......................... 15.5 17.4 15.4 20.5 26.5
Cost of revenue from amortization of
intangible assets..................... 7.4 14.9 8.9 22.6 24.1
Research and development................. 25.8 29.3 25.9 22.3 31.2
Selling, general and administrative...... 47.6 40.9 41.1 40.4 56.5
Amortization of goodwill and other
intangible assets(1)(4)............... 1.3 4.0 1.6 21.3 22.9
Restructuring and other charges,
net(2)(5)............................. 1.9 4.4 0.9 -- 10.0
Acquired in-process research and
development(3)........................ -- -- -- -- 38.1
----- ----- ----- ----- ------
Total costs and expenses................. 99.5 110.9 93.8 127.1 209.3
----- ----- ----- ----- ------
Income (loss) from operations............ 0.5 (10.9) 6.2 (27.1) (109.3)
Other income (expense), net.............. 0.0 (0.3) -- (0.4) (0.6)
----- ----- ----- ----- ------
Income (loss) before income taxes........ 0.5 (11.2) 6.2 (27.5) (109.9)
Provision for (benefit from) income
taxes................................. 0.3 0.9 0.2 (0.5) 1.0
----- ----- ----- ----- ------
Net income (loss)........................ 0.2% (12.1)% 6.0% (27.0)% (110.9)%
===== ===== ===== ===== ======

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

(1) See Notes 4 and 5 of Notes to Consolidated Financial Statements.

(2) See Note 8 of Notes to Consolidated Financial Statements.

(3) See Note 18 of Notes to Consolidated Financial Statements.

(4)See Notes 6 and 7 to Unaudited Consolidated Financial Statements.

(5)See Note 9 to Unaudited Consolidated Financial Statements.

GENERAL

We derive our revenue from sales of our software products to customers
through distribution partners and value-added resellers, royalty revenues from
OEM partners, license fees from sales of our products to customers and from
services, primarily maintenance associated with software license transactions.

transaction is invoiced and payment is due. Based on reports from distributors
and resellers of their inventory balances at the end of each period, we record
an allowance against accounts receivable for the sales price of all inventory
subject to return. If we experience significant returns from distributors or
resellers, our liquidity may be adversely impacted. We make an estimate of sales
returns by retailers or by end users, whether to us directly or through our
distributors or resellers based on historical returns experience. The provision
for these estimated returns is recorded as a reduction of revenue at the time
that the related revenue is recorded. Historically, we have not experienced
significant returns from retailers or end-users. If actual returns differ
significantly from our estimates, such differences could have a material impact
on the results of operations for the period in which the actual returns become
known.

Royalty revenue derived from sales to OEM customers is recognized when
software copies are deployed based upon reports of actual deployments received
from OEM customers and payment is due.

Cost of revenue consists primarily of material and fulfillment costs,
third-party royalties, salaries for product support personnel, and engineering
costs associated with certain contracts which are accounted for under the
percentage-of-completion method of accounting.

Cost of revenue from amortization of intangible assets includes the
amortization of acquired patents and core and completed technology.

Research and development expense consists primarily of salary and benefits
costs of engineers. We believe that the development of new products and the
enhancement of existing products are essential to our success. Accordingly, we
plan to continue to invest in research and development activities. To date, we
have not capitalized any development costs as the cost incurred after
technological feasibility but before release of product has not been
significant.

Selling expenses include salaries, commissions, advertising, direct mail,
public relations, trade shows, travel and other related sales and marketing
expenses. General and administrative expenses include personnel costs for
administration, finance, human resources, information systems and general
management, in addition to legal and accounting expenses and other professional
services. We attempt to control selling, general and administrative expense;
however, if revenue continues to grow, we expect selling, general and
administrative expense to increase to support our growing operations. In
addition, we may increase selling, general and administrative expenses in
advance of revenue to support expected future revenue growth in specific product
lines or geographic regions.

Amortization of other intangible assets excludes amortization of acquired
patents and core and completed technology which is included in cost of revenue
from amortization of intangible assets.

CRITICAL ACCOUNTING POLICIES

GENERAL

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 the
disclosure of contingent assets and liabilities at the dates of the financial
statements and the reported amounts of revenue and expenses during the reporting
periods. On an ongoing basis, we evaluates our estimates and judgments,
including those related to revenue recognition, including estimating valuation
allowances (specifically sales returns and other allowances); the recoverability
of intangible assets, including goodwill; and valuation allowances for deferred
tax assets. Actual amounts could differ significantly from these estimates. We
base our estimates and judgments on historical experience and various other
factors that are believed to be reasonable under the circumstances, the results
of which form the basis for making judgments about the carrying values of assets
and liabilities and the amounts of revenue and expenses that are not readily
apparent from other sources.

We believe the following critical accounting policies most significantly
affect the portrayal of our financial condition and results of operations and
require our most difficult and subjective judgments.

REVENUE RECOGNITION

Sales of our software products through distributors and value-added
resellers provide rights of return for as long as the distributors or resellers
hold the inventory. As a result, we recognize revenues from sales to
distributors and resellers only when products have been sold by the distributors
or resellers to retailers and end-users. Title and risk of loss pass to the
distributor or reseller upon shipment, at which time the transaction is invoiced
and payment is due. Based on reports from distributors and resellers of their
inventory balances at the end of each period, we record an allowance against
accounts receivable for the sales price of all inventory subject to return. If
we experience significant returns from distributors or resellers, our liquidity
may be adversely impacted. We make an estimate of sales returns by retailers or
by end users, whether to us directly or through our distributors or resellers,
based on historical returns experience. The provision for these estimated
returns is recorded as a reduction of revenue at the time that the related
revenue is recorded. Historically, we have not experienced significant returns
from retailers or end-users. If actual returns differ significantly from our
estimates, such differences could have a material impact on the results of
operations for the period in which the actual returns become known. Our accounts
receivable balance, including accounts receivable from a related party, was
$20.7 million, $17.2 million and $14.3 million at March 31, 2003, December 31,
2002 and December 31, 2001, respectively. These balances are net of sales
returns and other allowances of $8.6 million, $5.4 million and $5.5 million and
allowances for doubtful accounts of $0.6 million, $0.5 million and $0.8 million
as of March 31, 2003, December 31, 2002 and December 31, 2001, respectively.

Royalty revenue derived from sales to OEM customers is recognized when
software copies are deployed, based upon reports of actual deployments received
from OEM customers, and payment is due.

We may enter into software license agreements that require significant
modification of our software. We recognize revenue with respect to these
agreements under the percentage-of-completion method. We determine progress
toward completion based upon costs incurred to date as compared with total
estimated costs at the contract completion date. If our total costs
significantly differ from our estimates, or we incur losses on these contracts,
our results of operations may be materially impacted. We did not have any
significant contracts requiring customization or modification of our software at
March 31, 2003.

In accordance with EITF 01-09, Accounting for Consideration Given by a
Vendor to a Customer (Including a Reseller of the Vendor's Products), we account
for amounts paid to customers as a reduction of revenue, unless the
consideration relates to an identifiable benefit and the benefit's fair value
can be established, in which case we record the consideration as an operating
expense. In order to determine the appropriate classification of the marketing
program costs, we review the nature of the program, the documentation supporting
the fair value of the program, and whether the program could be provided
independent of the sale of the goods and services. We evaluate our marketing
programs quarterly to determine whether costs meet the criteria for expense
classification. Generally, our programs meet the criteria; therefore, we do not
report any material costs as a reduction of revenue. If in the future, the
nature of our marketing programs change or could not be provided independent of
the sale of the related goods or services, we may require reclassification of
these programs in our statement of operations.

VALUATION OF LONG-LIVED AND INTANGIBLE ASSETS AND GOODWILL

We have significant long-lived tangible and intangible assets and goodwill,
which are susceptible to valuation adjustments as a result of changes in various
factors or conditions. The most significant long-lived tangible and intangible
assets are fixed assets, patents, core technology, and trademarks, which are
amortized using the straight-line method over their estimated useful lives. The
values of intangible assets, with the exception of goodwill, were initially
determined by a risk-adjusted, discounted cash flow approach. We assess the
potential impairment of identifiable intangible assets and fixed assets whenever
events or

changes in circumstances indicate that the carrying value may not be
recoverable. Factors we consider important, which could trigger an impairment of
such assets, include the following:

- significant underperformance relative to historical or projected future
operating results;

- significant changes in the manner of or use of the acquired assets or the
strategy for our overall business;

- significant negative industry or economic trends;

- significant decline in our stock price for a sustained period; and

- a decline in our market capitalization below net book value.

Future adverse changes in these or other unforeseeable factors could result
in an impairment charge that would impact future results of operations and
financial position in the reporting period identified.

Effective January 1, 2002, we adopted Statement of Financial Accounting
Standards No. 142, Goodwill and Other Intangible Assets, or SFAS 142. SFAS 142
requires, among other things, the discontinuance of goodwill amortization, the
identification of reporting units for purposes of assessing potential future
impairments of goodwill and the assessment of goodwill impairment at least
annually, or more frequently when events and circumstances occur indicating that
the recorded goodwill might be impaired. We have determined that we operate in
one reporting unit.

Significant judgments and estimates are involved in determining the useful
lives of our intangible assets, determining what reporting units exist and
assessing when events or circumstances would require an interim impairment
analysis of goodwill or other long-lived assets to be performed. Changes in
events or circumstances, including but not limited to technological advances or
competition that could result in shorter useful lives, additional reporting
units that may require alternative methods of estimating fair value, or economic
or market conditions that may affect previous assumptions and estimates, could
have a significant impact on our results of operations or financial position
through accelerated amortization expense or impairment charges.

ACCOUNTING FOR ACQUISITIONS

We have completed five significant business acquisitions, including the
Philips acquisition on January 30, 2003, which have resulted in significant
goodwill and other intangible asset balances. Our future business strategy
contemplates that we may continue to pursue additional acquisitions in the
future. Our accounting for acquisitions involves significant judgments and
estimates, including primarily, but not limited to: the fair value of certain
forms of consideration, the fair value of acquired intangible assets, which
involve projections of future revenues and cash flows, the fair value of other
acquired assets and assumed liabilities, including potential contingencies, and
the useful lives and, as applicable, the reporting unit, of the assets. The
impact of prior or future acquisitions on our financial position or results of
operations may be materially impacted by the change in or initial selection of
assumptions and estimates. Additionally, under SFAS 142, we determine the fair
value of the reporting unit, for purposes of the first step in our annual
goodwill impairment test, based on our stock price. If prior or future
acquisitions are not accretive to our results of operations as expected, or our
stock price declines dramatically, we may be required to complete the second
step in our annual goodwill impairment test, which requires significant
judgments and estimates and which may result in material impairment charges in
the period in which they are determined.

INCOME TAXES

At December 31, 2002, we have gross deferred tax assets of $45.6 million,
which have been offset by a full valuation allowance as a result of cumulative
historical losses. Our income tax provision reflects state and foreign
withholding and income taxes. We have not incurred any significant federal
income tax provision in the three months ended March 31, 2003 and 2002 or the
years ended December 31, 2002, 2001 or 2000 because of the ability to fully
utilize our net operating loss carry-forwards or because we did

not generate taxable income. A significant portion of our gross deferred tax
assets relates to net operating loss carry-forwards, the full utilization of
which is based on a number of factors, including future profitability, if any,
and potential limitations resulting from tax laws.

Our income tax provisions and our assessment of the realizability of our
deferred tax assets involve significant judgments and estimates. If we continue
to generate taxable income through profitable operations in future years, we
will be required to recognize these deferred tax assets through the reduction of
the valuation allowance, which would result in a material benefit to our results
of operations in the period in which the benefit is determined.

THREE MONTHS ENDED MARCH 31, 2003 COMPARED TO THREE MONTHS ENDED MARCH 31, 2002

TOTAL REVENUE

Total revenue for the three months ended March 31, 2003 increased by $4.1
million, or 17% from the comparable period in 2002. This growth in revenue was
the result of revenue generated from our speech and language products. Revenue
from our speech and language products was $15.2 million and $7.4 million for the
three months ended March 31, 2003 and 2002, respectively. The increase of $7.8
million in speech revenue was due to an increase of $2.9 million resulting from
greater market acceptance and the launch of Dragon Naturally Speaking 7.0,
increased demand from OEMs for our Real Speak product (text to speech) of $3.3
million, and $1.9 million in incremental revenue from products acquired in the
Philips acquisition, which occurred on January 30, 2003. Revenue from our
digital capture products was $12.6 million and $16.4 million for the three
months ended March 31, 2003 and 2002, respectively. The net decrease of $3.8
million in revenue from our digital capture products from 2002 was due primarily
to the recognition in the first quarter 2002 of deferred revenue items
associated with completed OEM services, and the lower sales of our OmniPage
product, offset by the launch of PaperPort 9.0.

Geographic revenue classification is based on the country in which the sale
is invoiced. Revenue for the quarter ended March 31, 2003 was 74% North America
and 26% international, versus 78% North America and 22% international for the
same period 2002.

A number of our OEM partners distribute their products throughout the world
and do not provide us with the geographical dispersion of their products. We
believe that, if we were provided with this information, our geographical
revenue classification would indicate a higher international percentage. Based
on an estimate that factors our OEM partners' geographical revenue mix into our
revenues generated from these OEM partners, revenue for the period ending March
31, 2003 was approximately 67% North America and 33% international versus 70%
North America and 30% international for the comparable period in 2002. The
increase in our international revenue percentage for the period ending March 31,
2003 was a direct result of our increased focus on international markets.

The following table presents the breakdown of our total revenue by
distribution channel:

QUARTER
ENDED
MARCH 31,
-----------
2003 2002
---- ----

VAR/Retail.............................................. 36% 40%
Direct.................................................. 28% 22%
OEM..................................................... 36% 38%
--- ---
100% 100%
=== ===

The increase in our direct revenues and the corresponding decrease in our
other sales channels, as a percent of revenue, for the first quarter 2003 as
compared to the same period 2002, was due to the launch of two of our flagship
products, PaperPort 9.0 and Dragon Naturally Speaking 7.0.

COST OF REVENUE

Cost of revenue for the three months ended March 31, 2003 was $4.3 million,
or 15.5% of revenue, compared to $4.1 million or 17.4% for the comparable period
in 2002. The increase in cost of revenue in absolute dollars for the three-month
period ended March 31, 2003 was directly attributable to the overall increase in
our direct revenue. The decrease in cost of revenue as a percentage of total
revenue was due to continued productivity gains in our manufacturing and
fulfillment operations and an increase in higher-margin license revenue.

COST OF REVENUE FROM AMORTIZATION OF INTANGIBLE ASSETS

Cost of revenue from amortization of intangible assets for the three months
ended March 31, 2003 was $2.1 million or 7.4% of revenue, compared to $3.5
million, or 14.9% for the comparable period in 2002. The decrease in cost of
revenue from amortization of intangible assets of $1.4 million was due to $1.6
million of intangible assets that became fully amortized during fiscal year
2002. This reduction was partially offset by $0.1 million of amortization
related to the Philips acquisition completed on January 30, 2003.

RESEARCH AND DEVELOPMENT EXPENSE

Research and development expense for the three months ended March 31, 2003
was $7.2 million, or 25.8% of revenue, compared to $7.0 million or 29.4% for the
comparable period in 2002. The increase in research and development expense of
$0.2 million was primarily the result of increased headcount associated with the
Philips acquisition. Before consideration of the SpeechWorks acquisition,
research and development expenses are expected to decline as a percentage of
revenue over the remainder of the year as revenue from the Philips products
grows and research and development spending is held flat.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE

Selling, general and administrative expense for the three months ended
March 31, 2003 was $13.3 million, or 47.6% of revenue, compared to $9.7 million,
or 40.9% for the comparable period in 2002. The increase in selling, general and
administrative expense in absolute dollars was primarily the result of increased
headcount costs resulting from the addition of 19 sales and marketing employees
associated with the Philips acquisition. The remaining increase in general and
administrative expenses is due primarily to increased legal expenses, and
transition expenses associated with the Philips integration. Before
consideration of the SpeechWorks acquisition, as a percentage of revenue, we
expect selling, general and administrative expenses for the full year to
approximate 40% of revenue.

AMORTIZATION OF OTHER INTANGIBLE ASSETS

Amortization of other intangible assets for the three months ended March
31, 2003, was $0.4 million or 1.3% of revenue, compared to $1.0 million or 4.0%
for the comparable period in 2002. The decrease in this amortization expense is
due to $0.6 million of intangible assets that became fully amortized during
fiscal year 2002. This reduction was partially offset by $0.1 million of
amortization related to the Philips acquisition.

RESTRUCTURING AND OTHER CHARGES, NET

In connection with the Philips acquisition, we eliminated 25 of our
personnel across all functional areas, resulting in approximately $0.5 million
in severance related restructuring costs in the three month period ended March
31, 2003.

general and administrative functions. In the first quarter of 2002, we recorded
a restructuring charge in the amount of $0.6 million for severance payments to
these employees and a charge of $0.4 million for certain termination fees to be
incurred as a result of exiting the facilities, including the write-off of
previously recorded assembled workforce assets of $0.1 million.

INCOME (LOSS) FROM OPERATIONS

As a result of the above factors, income from operations was $0.1 million
for the three months ended March 31, 2003 or 0.5% of revenue, compared with a
loss of ($2.6) million or (11.0)% for the comparable period in 2002.

OTHER INCOME (EXPENSE), NET

Interest income was $41,000 and $54,000 for the three months ended March
31, 2003 and 2002, respectively. Interest expense was $81,000 and $85,000 for
the three months ended March 31, 2003 and 2002, respectively. Other expense for
the three months ended March 31, 2003 consists primarily of foreign exchange
gains of $107,000 and other expenses of $46,000, compared to foreign exchange
losses of $19,000 and other expenses of $25,000 for the three months ended March
31, 2002.

INCOME (LOSS) BEFORE INCOME TAXES

Income before income taxes was $0.2 million for the three months ended
March 31, 2003 or 0.5% of revenue, compared with a loss of ($2.7) million or
(11.3)% for the comparable period in 2002.

INCOME TAXES

The provision for income taxes for the three months ended March 31, 2003
was $0.1 million or 0.3% of revenue, compared to $0.2 million or 0.8% in the
comparable period for 2002. The provision for income taxes consists primarily of
foreign tax provisions for which no net operating loss carryforwards are
available to offset income and foreign withholding and state income taxes.

NET INCOME (LOSS)

As a result of all these factors, net income totaled $0.1 million for the
three months ended March 31, 2003, compared with a loss of ($2.9) million or
(12.1)% for the comparable period in 2002.

DECEMBER 31, 2002 COMPARED TO DECEMBER 31, 2001

TOTAL REVENUE

Total revenue for 2002 increased by $43.9 million or 70% compared to 2001.
The growth in revenue for the year ended December 31, 2002 was primarily the
result of revenue generated from our speech products. Revenue from our speech
products was $44.2 million and $1.8 million for 2002 and 2001, respectively. The
increase in speech revenue was due to the L&H acquisition, which occurred in
December 2001. Revenue from our digital capture products was $62.4 million and
$60.9 million for 2002 and 2001, respectively. The net increase of $1.5 million
in revenue from our digital capture products from 2001 was due primarily to an
increase of $3.6 million in sales of digital capture products through the
channel network, partially offset by a decrease in revenue of $2.1 million from
Xerox, a related party, due to the cancellation of its retail multi-function
product line in late 2001.

Geographic revenue classification is based on the country in which the sale
is invoiced. Revenue for 2002 was 73% North America and 27% international,
versus 79% North America and 21% international for 2001.

on an estimate that factors our OEM partners' geographical revenue mix into our
revenues generated from these OEM partners, revenue for 2002 was approximately
67% North America and 33% international versus 70% North America and 30%
international for 2001. The increase in our international revenue percentage for
2002 was driven primarily from Europe and Asia and was the result of increased
sales and marketing efforts and additional resellers.

The following table presents the breakdown of our total revenue by
distribution channel:

YEAR ENDED
DECEMBER 31,
-------------
2002 2001
----- -----

VAR/retail.............................................. 43% 45%
Direct.................................................. 23% 24%
OEM..................................................... 34% 31%
--- ---
100% 100%
=== ===

The increase in OEM, and the corresponding decrease in VAR/retail, as a
percent of revenue for 2002 as compared to 2001, was due to the addition of
speech products in 2002. OEMs represent a higher percentage of revenue for our
speech products than for our digital capture products.

Effective January 1, 2002, we implemented EITF 01-9, Accounting for
Consideration Given by a Vendor to a Customer (Including a Reseller of the
Vendor's Products). The implementation resulted in a $0.3 million reduction to
total revenue and a corresponding reduction of selling, general and
administrative expense for 2002. Additionally, it resulted in the
reclassification of $1.1 million from selling, general and administrative
expense to net revenue for 2001.

COST OF REVENUE

Cost of revenue for 2002 was $16.4 million or 15.4% of revenue, compared to
$12.8 million or 20.5% for 2001. The increase in cost of revenue in absolute
dollars for 2002 was directly attributable to the increase in the volume of
product sales to VAR/retail customers as well as increased embedded text-to-
speech revenue, which bears a higher cost of revenue than our traditional
software products. The decrease in cost of revenue as a percentage of total
revenue for 2002, as compared to 2001, was due to lower supply chain logistics
and fulfillment costs, partially offset by the higher cost of embedded
text-to-speech revenue.

COST OF REVENUE FROM AMORTIZATION OF INTANGIBLE ASSETS

Cost of revenue from amortization of intangible assets for 2002 was $9.5
million compared to $14.2 million for 2001. The decrease in cost of revenue from
amortization of intangible assets of $4.7 million was due to $6.6 million of
intangible assets that became fully amortized in the first quarter of 2002. This
reduction was partially offset by $1.9 million of amortization recorded for the
acquired L&H and Audiomining assets.

RESEARCH AND DEVELOPMENT EXPENSE

Research and development costs for 2002 were $27.6 million or 25.9% of
total revenue, compared to $14.0 million or 22.3% of total revenue for 2001. The
increase in research and development expenses of $13.6 million for 2002 was
primarily the result of increased headcount of 138 employees associated with the
L&H acquisition. Cost savings from the restructuring actions taken in 2002 for
2002 was approximately $1.3 million. Due to our acquisition of the core research
and development assets of Philips speech business units, we expected 2003
research and development expenses as a percentage of revenue to increase over
2002 initially, but decline by the end of the year, as revenue from the Philips
products grows and research and development spending is held flat, ending the
year slightly better than 2002 as a percentage of revenue.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE

Selling, general and administrative expense for 2002 was $43.8 million or
41.1% of total revenue, compared to $25.3 million or 40.4% for 2001. The
increase in selling, general and administrative expense in absolute dollars for
2002 was primarily the result of increased headcount costs of $9.9 million
resulting from the addition of 74 employees, primarily in sales and marketing,
as well as $3.1 million of increased marketing programs in support of the higher
revenue. These increases were largely attributable to the L&H acquisition and
expanded focus on international sales and marketing. As a percentage of revenue,
we expect selling, general and administrative expenses to remain consistent on
an annual basis with 2002 even after consideration of the Philips acquisition.

AMORTIZATION OF GOODWILL AND OTHER INTANGIBLE ASSETS

Amortization of goodwill and other intangible assets for 2002 was $1.7
million compared to $13.3 million for 2001. The decrease in amortization expense
is directly attributable to the adoption of SFAS 142, as a result of which we
ceased the amortization of goodwill and acquired workforce of approximately $2.6
million per quarter. Additionally, amortization expense decreased $1.4 million
in 2002, due to intangible assets that became fully amortized in the first
quarter of 2002. This reduction was partially offset by additional amortization
of approximately $0.2 million for 2002 from the L&H and Audiomining
acquisitions.

RESTRUCTURING AND OTHER CHARGES, NET

In January 2002, we announced, and in March 2002 completed, a restructuring
plan to consolidate facilities, worldwide sales organizations, research and
development teams and other personnel following the L&H acquisition on December
12, 2001. As a result, we exited certain facilities in both North America and
Europe, eliminating 21 employee positions, including 12 in research and
development and 9 in selling, general and administrative functions. In the first
quarter of 2002, we recorded a restructuring charge in the amount of $0.6
million for severance payments to these employees and a charge of $0.4 million
for certain termination fees to be incurred as a result of exiting the
facilities, including the write-off of previously recorded assembled workforce
assets of $0.1 million.

During 2002, we paid a total of $0.8 million in severance payments, of
which $0.6 million related to the March 2002 restructuring and $0.2 million
related to severance paid to the former Caere President and CEO, pursuant to a
2000 restructuring.

At December 31, 2002, the remaining restructuring accrual from the current
and prior restructuring activities amounted to $0.7 million. This balance is
comprised of $0.2 million of lease exit costs resulting from the 2002
restructuring and $0.5 million of severance to the former Caere President and
CEO. The lease exit costs and severance due to the former Caere President and
CEO will be paid through January 2004 and March 2005, respectively.

INCOME (LOSS) FROM OPERATIONS

As a result of the above factors, income from operations was $6.6 million
for 2002 compared with a loss of ($16.9) million for 2001.

OTHER INCOME (EXPENSE), NET

Interest income was $0.4 million and $0.2 million for 2002 and 2001,
respectively. The increase in interest income from 2001 to 2002 was a result of
higher cash and cash equivalent balances, which grew from $14.3 million at
December 31, 2001 to $18.9 million at December 31, 2002. Interest expense
consists primarily of interest related to the $3.5 million note resulting from
the acquisition of L&H. Interest expense was $0.4 million and $0.2 million for
2002 and 2001, respectively. Other expense in 2002 consists primarily of foreign
exchange losses of $2,000, other expenses of $42,000, partially offset by a gain
on the disposal of assets of $41,000. Other expense in 2001 consists primarily
of foreign exchange losses of

$0.2 million and the write-off of an investment of $0.2 million recorded under
the cost method, which was deemed to be impaired, partially offset by other
income of $0.1 million.

INCOME (LOSS) BEFORE INCOME TAXES

Income before income taxes was $6.6 million for 2002, compared with a loss
of ($17.2) million for 2001.

INCOME TAXES

The provision for income taxes of $0.3 million for 2002 consisted of
foreign and state tax provisions of $1.2 million, offset by a federal tax
benefit of ($0.9) million, related to a refund of taxes paid by Caere
Corporation prior to its acquisition by us. The (benefit from) income taxes of
($0.3) million for 2001 consisted of foreign and state tax provisions of $0.4
million offset by the state tax benefit of ($0.7) million.

At December 31, 2002, we had federal net operating loss carryforwards of
approximately $82 million, of which approximately $9.1 million relate to tax
deductions from stock compensation. The tax benefit related to the stock
compensation, when realized, will be accounted for as additional paid-in capital
rather than as a reduction of the provision for income tax. At December 31, 2002
we had federal and state research and development credit carryforwards of
approximately $3.4 million. The net operating loss and credit carryforwards will
expire at various dates through 2021, if not utilized. Utilization of the net
operating losses and credits may be subject to a substantial annual limitation
due to the ownership change limitations provided by the Internal Revenue Code of
1986 and similar state provisions. The annual limitation may result in the
expiration of net operating losses and credits before utilization.

At December 31, 2002, gross deferred tax assets amounted to $45.6 million.
A full valuation allowance has been provided against the deferred tax assets due
to the uncertainty of their realization as a result of our cumulative historical
losses. During 2002, we generated income before income taxes of $6.6 million. If
we continue to generate taxable income through profitable operations in future
years we may be required to recognize these deferred tax assets through the
reduction of the valuation allowance, which would result in a material benefit
to our results of operations in the period in which the benefit is determined.

NET INCOME (LOSS)

As a result of all these factors, net income totaled $6.3 million for 2002,
compared with a net loss of ($16.9) million for 2001.

DECEMBER 31, 2001 COMPARED TO DECEMBER 31, 2000

TOTAL REVENUE

Total revenue of $62.7 million for 2001 increased by $14.8 million or 31%
from the comparable period in 2000. The primary factors responsible for this
growth include a $12.0 million revenue increase from our document and PDF
conversion product line driven primarily by its release of OmniPage 11, which
contained significant enhancements over the prior version, and secondarily by an
increased usage of our document conversion tool kits by software vendors,
integrators and in-house developers; $0.9 million revenue increase in our
digital paper management product line, also driven by the release of a
significantly improved new version of our PaperPort product; and a $2.7 million
revenue increase driven by a contract with an OEM customer. We also generated
additional revenue in the amount of $1.7 million from our speech products as a
result of the L&H acquisition on December 12, 2001.

North America accounted for 79% and International accounted for 21% of 2001
total revenue, versus 82% and 18%, respectively, for the comparable period in
2000. The release of international versions for two of our digital capture
products and additional sales and marketing resources in Europe expanded the
market opportunity for our digital capture products, thereby contributing to the
revenue growth in Europe for 2001.

The following table presents the breakdown of our total revenue by
distribution channel:

YEAR ENDED
DECEMBER 31,
-------------
2001 2000
----- -----

VAR/retail.............................................. 45% 50%
Direct.................................................. 24% 21%
OEM..................................................... 31% 29%
--- ---
100% 100%
=== ===

During 2001, our distribution and fulfillment partners, Ingram Micro and
Digital River, accounted for 28% and 15% of our total revenue, respectively. In
addition Xerox, an OEM customer, accounted for 11% of our total revenue. During
2000, Ingram Micro, Digital River and Xerox accounted for 7%, 11% and 12% of our
total revenue, respectively.

COST OF REVENUE

Cost of revenue in 2001 was $12.8 million, or 21%, of revenue compared to
$12.7 million, or 27%, of revenue in the comparable period of 2000. The decrease
in cost of revenue as a percentage of total revenue from the comparable period
in 2000 is directly attributed to the consolidation of our worldwide
manufacturing fulfillment activities and cost savings initiatives we introduced
in the second quarter of 2000. This decrease was partially offset by an increase
of $1.2 million in the cost of revenue in the second half of 2001, as a result
of costs associated with engineering efforts under an OEM contract.

COST OF REVENUE FROM AMORTIZATION OF INTANGIBLE ASSETS

Cost of revenue from amortization of intangible assets for 2001 was $14.2
million compared to $11.6 million for the same period in 2000. The increase in
cost of revenue from amortization of intangible assets of $2.6 million was
primarily attributable to a full year in 2001 of amortization expense for
patents and core and completed technology acquired from Caere late in the first
quarter of 2000.

RESEARCH AND DEVELOPMENT EXPENSE

Research and development costs were $14.0 million, or 22%, of revenue in
2001 compared to $15.0 million, or 31%, of revenue in 2000. The decrease in
research and development expense as a percentage of total revenue is a result of
$1.2 million of expenses associated with engineering efforts on an OEM contract
being charged to cost of revenues as well as increased revenues of $14.8 million
compared to the prior period. Additionally, during 2000, we transferred certain
digital capture development activities from Los Gatos, California to Budapest,
Hungary.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE

Selling, general and administrative expenses were $25.3 million, or 40%, of
total revenue in 2001 compared to $27.1 million, or 57%, of total revenue for
the same period in 2000. The absolute dollar decrease in selling, general and
administrative expense from the same period in 2000 was a result of cost
reduction efforts undertaken during the first and second quarters of 2000.
Additionally, we realized a gain of approximately $1.0 million, primarily due to
the favorable settlement of investment banking fees associated with the Caere
acquisition. The decrease in selling, general and administrative expense as a
percentage of revenue from the same period in 2000 is a result of the decreased
expenses as noted above, the realized gain and increased revenues compared to
the prior period.

AMORTIZATION OF GOODWILL AND OTHER INTANGIBLE ASSETS AND ACQUIRED IN-PROCESS
RESEARCH AND DEVELOPMENT

Amortization of goodwill and other intangible assets for 2001 was $13.3
million compared to $11.0 million for the same period in 2000. The increase in
amortization of intangible assets of $2.3 million compared to the same period in
2000 resulted from a full 12 months of amortization for the Caere acquisition
being taken during 2001 versus approximately nine months in 2000 due to the
timing of the Caere acquisition which was completed on March 13, 2000. In
connection with the Caere acquisition, $18.3 million was charged to operations
upon consummation of the acquisition, which represented acquired in-process
research and development on development projects that had not yet reached
technological feasibility and had no alternative future use.

RESTRUCTURING AND OTHER CHARGES, NET

There were no restructuring or other charges in 2001, compared with
approximately $4.8 million in 2000. In connection with the acquisition of Caere
in the first quarter of 2000, we identified 46 employees of Caere whose
positions were eliminated upon consummation of the acquisition. These positions
included 22 in research and development, 14 in general and administrative
functions, and 10 in sales and marketing. Additionally, the Caere president and
CEO position was eliminated. As a result, we established, as part of the
purchase price allocation, a restructuring reserve of $0.5 million for severance
payments to employees, and a restructuring reserve of $1.1 million for severance
to the Caere former president and CEO, the payments of which will continue
through March 2005.

In June 2000, we implemented a restructuring plan to strategically refocus
our business and bring operating expenses in line with net revenues. As a
result, we eliminated 65 employee positions, including 29 in research and
development, 13 in general and administrative functions and 23 in support and
marketing. We recorded a restructuring charge in the amount of $1.1 million for
severance payments to these employees and a restructuring charge of $0.4 million
for certain termination fees to be incurred as a result of exiting the Los
Gatos, California facility. Additionally, we wrote off $3.5 million of net
intangible assets acquired as part of the Caere acquisition, including the
acquired work force of $1.1 million and the favorable building lease of $2.4
million, which were impaired as a result of the restructuring action. At the
time of the restructuring, management expected these restructuring actions to
reduce operating expenses by approximately $10 million on an annualized basis.
Annualized cost savings realized from these actions amounted to $13.6 million.

For the years ended December 31, 2001 and 2000, we paid $0.8 million and
$1.1 million, respectively in severance payments related to these restructuring
actions. The remaining severance balance of $0.6 million primarily relates to
severance for the former Caere President and CEO and will be paid through March
2005.

LOSS FROM OPERATIONS

As a result of the above factors, loss from operations totaled
approximately ($16.9) million in 2001 compared to loss from operations of
approximately ($52.5) million in 2000.

OTHER INCOME (EXPENSE)

Interest income was $0.2 million and $0.1 million for 2001 and 2000,
respectively. The increase in interest income from 2000 to 2001 was a result of
significantly higher cash and cash equivalent balances, which grew from $2.6
million at December 31, 2000 to $14.3 million at December 31, 2001 and short-
term investments, which were generated from operations. Interest expense
consists of interest incurred for borrowings under credit facilities and
short-term notes. Interest expense was $0.2 million and $0.6 million for 2001
and 2000, respectively. The decrease in interest expense from 2000 to 2001
resulted from the repayment of all bank borrowings, including accrued interest,
of $3.4 million, under the bank credit facility during May 2001. Other expense
in 2001 consists primarily of foreign exchange losses of $0.2 million and

the write-off of an investment of $0.2 million recorded under the cost method,
which was deemed to be impaired, partially offset by other income of $0.1
million.

LOSS BEFORE INCOME TAXES

As a result of the above factors, loss before income taxes was
approximately ($17.2) million in 2001 compared to a loss before income taxes of
approximately ($52.8) million in 2000.

INCOME TAXES

The (benefit from) income taxes of ($0.3) million for the year ended
December 31, 2001 reflects a reduction of approximately $0.7 million in amounts
accrued for income taxes upon favorable completion of a state tax audit of Caere
for 1996 and 1997. This benefit was offset by tax provisions of $0.4 million for
foreign and state jurisdictions for which net operating losses were limited or
for which no net operating loss carryforwards were available. This compares to
tax provisions of $0.5 million for the year ended December 31, 2000, which
related to foreign and state income taxes.

NET LOSS

As a result of all these factors, net loss totaled approximately ($16.9)
million in 2001, compared to a net loss of approximately ($53.3) million in
2000.

LIQUIDITY AND CAPITAL RESOURCES

Three Months Ended March 31, 2003

As of March 31, 2003, we had cash and cash equivalents of $20.3 million and
net working capital of $5.3 million as compared to $18.9 million in cash and
cash equivalents and net working capital of $16.8 million at December 31, 2002.

Net cash provided by operating activities for the three months ended March
31, 2003 was $2.9 million compared to $0.2 million for the comparable period in
2002. Cash provided by operations in the 2003 period came primarily from
operating income, net of non-cash adjustments, and an increase in accounts
payable, offset by payments of accrued expenses assumed in the Philips
acquisition. The increase in accounts receivable allowances at March 31, 2003 as
compared to December 31, 2002 is attributable to higher shipments of our
products to distributors at the end of the quarter ended March 31, 2003 in
connection with our release of two new products, Dragon Naturally Speaking 7.0
and PaperPort 9.0. Historically, we have not incurred any significant losses on
its accounts receivable balances.

Net cash used in investing activities for the three months ended March 31,
2003 was $4.9 million compared to $1.8 million for the comparable period in
2002. Net cash used in investing activities during the 2003 period consisted of
$0.6 million in capital expenditures, which included costs to build out
facilities in both North America and Europe and $4.3 million of payments
associated with acquisitions. Net cash used in investing activities during 2002
consisted of $0.7 million in capital expenditures to build-out facilities in
both North America and Europe, $0.5 million for the acquisition of the L&H
Audiomining assets and $0.7 million related to the payment of acquisition
related liabilities.

Net cash provided by financing activities for the three months ended March
31, 2003 was $3.6 million compared to $0.1 million for the comparable period in
2002. Net cash provided by financing activities during the three months ended
March 31, 2003 consisted of proceeds of $0.5 million from the issuance of common
stock in connection with employee stock compensation plans and net proceeds of
$6.8 million excluding offering costs of $1.3 million paid in the prior year,
from the public issuance of our common stock. This was offset by a $0.4 million
payment to the former Caere President and CEO in connection with the settlement
of the non-competition and consulting agreement, and the payment of the $3.3
million note payable related to the acquisition of L&H assets during 2001. Net
cash provided by financing activities during 2002 consisted of proceeds of $1.2
million from the exercise of stock options, offset by a $0.1 million payment on
our capital lease obligation, a $0.1 million principal payment on a note payable

that was issued in connection with the acquisition of the L&H assets and a $1.0
million payment to the former Caere President and CEO in connection with the
settlement of the non-competition and consulting agreement.

On January 30, 2003, we completed the Philips acquisition. As consideration
for the acquisition, we paid 3.1 million euros ($3.4 million) in cash at
closing, subject to adjustment in accordance with the provisions of the purchase
agreement, as amended, and agreed to pay an additional 1.0 million euros in cash
due no later than December 31, 2003, issued a 5.0 million euro note due December
31, 2003 and bearing 5.0% interest per annum and issued a $27.5 million
three-year, zero-interest subordinated debenture, convertible at any time at
Philips' option into shares of our common stock at $6.00 per share.

The following table outlines our contractual payment obligations as of
March 31, 2003:

PAYMENTS DUE BY PERIOD
-------------------------------------------------------
LESS THAN MORE THAN
CONTRACTUAL OBLIGATIONS TOTAL 1 YEAR 1-3 YEARS 3-5 YEARS 5 YEARS
----------------------- ------- --------- --------- --------- ---------
(IN THOUSANDS)

Convertible debenture................... $27,524 $ -- $27,524 $ -- --
Deferred payment associated with Philips
acquisition, including imputed
interest.............................. 1,052 1,052 -- -- --
Euro denominated note (5 million)
associated with Philips acquisition... 5,407 5,407 -- -- --
Deferred payments for technology
license............................... 12,328 9,434 2,894 -- --
Operating leases........................ 8,099 2,123 4,310 1,666 --
Caere acquisition related costs......... 2,048 2,048 -- -- --
Imputed interest........................ 652 246 406 -- --
------- ------- ------- ------- -------
Total contractual cash obligations...... $57,110 $20,310 $35,134 $1,666 --
======= ======= ======= ======= =======

Through March 31, 2003, we have not entered into any off balance sheet
arrangements or transactions with unconsolidated entities or other persons.

Historically and through December 31, 2001 we sustained recurring losses
from operations in each reporting period. We reported net income of
approximately $6.3 million for 2002 and $0.1 million for the three months ended
March 31, 2003, and have an accumulated deficit of $146.9 million at March 31,
2003. We believe that we have the ability to maintain operating expenses at
levels commensurate with revenues to maintain positive cash flows from
operations. We also believe that our existing working capital, cash flows from
future operations and available borrowings under our line of credit facility
will be sufficient to meet our operating, investing and financing needs, for at
least the next twelve months, including the integration of the Philips
acquisition and the pending acquisition of SpeechWorks, and the debt obligations
incurred in connection with the Philips acquisition.

Year Ended December 31, 2002

As of December 31, 2002, we had cash and cash equivalents of $18.9 million
and net working capital of $16.8 million as compared to $14.3 million in cash
and cash equivalents and net working capital of $9.3 million at December 31,
2001.

Net cash provided by operating activities for the fiscal year ended
December 31, 2002 was $12.3 million compared to $10.4 million for the same
period in 2001. Cash provided by operations in the 2002 period came primarily
from operating income, net of non-cash adjustments, offset primarily by the net
impact of higher balances in accounts receivable, prepaid expenses and other
assets, and accrued expenses and lower deferred revenue due to the recognition
of revenue on a long-term contract that was classified as deferred revenue at
December 31, 2001, for which cash was collected in a prior period. The increase
in accounts receivable of $3.2 million at December 31, 2002, as compared to
December 31, 2001

was the result of significantly higher revenue, partially offset by improvement
in days sales outstanding. Historically, we have not incurred any significant
losses on our accounts receivable balances.

Net cash used in investing activities for 2002 was $6.0 million compared to
$10.7 million for 2001. Net cash used in investing activities during the 2002
period consisted of $2.4 million in capital expenditures, which included costs
to build out facilities in both North America and Europe and $3.6 million of
payments associated with acquisitions. Net cash used in investing activities
during 2001 included capital expenditures of $0.9 million and $10.1 million of
payments associated with acquisitions, offset by $0.3 million in proceeds from
the sale of property and equipment.

Net cash used in financing activities for 2002 was $1.9 million compared to
$12.4 million of net cash provided by financing activities for 2001. Net cash
used in financing activities during 2002 consisted of proceeds of $2.7 million
from the issuance of common stock in connection with employee stock compensation
plans and net proceeds of $5.6 million from a private placement of our common
stock. This was offset by a $0.3 million payment on our capital lease
obligation, a $7.0 million payment to repurchase shares of our common stock held
by L&H, $0.6 million in payments of notes payable related to prior acquisitions
and a $2.2 million payment to the former Caere President and CEO in connection
with the settlement of the non-competition and consulting agreement. Net cash
provided by financing activities during the comparable period in 2001 included
proceeds of $15.7 million from a private placement of our common stock, proceeds
of $1.1 million from the exercise of stock options partly offset by payments of
$3.4 million to repay in full our prior line of credit and payments of $1.0
million to repurchase shares of our stock on the open market.

Foreign Operations

We develop and sell our products throughout the world. As a result of the
Caere acquisition in March 2000, the L&H acquisition in December 2001 and our
recent acquisition of certain assets of Philips, we significantly increased our
presence in Europe and added operations in Asia. With our increased
international presence in a number of geographic locations and with
international revenues projected to increase in 2003, we are exposed to changes
in foreign currencies including the euro, Japanese yen and the Hungarian forint.
Changes in the value of the euro or other foreign currencies relative to the
value of the United States dollar could adversely affect future revenues and
operating results. We do not generally hedge any of our foreign-currency
denominated transactions or expected cash flows. However, in connection with the
Philips acquisition on January 30, 2003, we entered into a forward hedge in the
amount of $5.3 million to meet our obligation to pay the 5.0 million euro
promissory note issued as part of the acquisition.

Recently Issued Accounting Pronouncements

In November 2002, the Emerging Issues Task Force ("EITF") issued EITF No.
00-21, "Accounting for Revenue Arrangements with Multiple Deliverables." EITF
No. 00-21 addresses certain aspects of the accounting by a vendor for
arrangements under which it will perform multiple revenue-generating activities.
EITF No. 00-21 establishes three principles: revenue should be recognized
separately for separate units of accounting, revenue for a separate unit of
accounting should be recognized only when the arrangement consideration is
reliably measurable and the earnings process is substantially complete, and
consideration should be allocated among the separate units of accounting in an
arrangement based on their fair value. EITF No. 00-21 is effective for all
revenue arrangements entered into in fiscal periods beginning after June 15,
2003, with early adoption permitted. We do not expect the adoption of EITF No.
00-21 to have a material impact on our results of operations or financial
condition.

CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE

There have been no changes in and disagreements with accountants on
accounting and financial disclosure during the three months ended March 31, 2003
or the years ended December 31, 2002 and 2001.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We face exposure to adverse movements in foreign currency exchange rates,
as a significant portion of our revenue, expenses, assets, and liabilities are
denominated in currencies other than the U.S. Dollar, primarily the Euro Dollar.
These exposures may change over time as business practices evolve. We evaluate
our foreign currency exposures on an ongoing basis and make adjustments to our
foreign currency risk management program as circumstances change.

In certain instances, we enter into forward exchange contracts to hedge
against foreign currency fluctuations. These contracts are used to reduce our
risk associated with exchange rate movements, as the gains or losses on these
contracts are intended to offset the exchange rate losses or gains on the
underlying exposures. We do not engage in foreign currency speculation. The
success of our foreign currency risk management program depends upon the ability
of the forward exchange contracts to offset the foreign currency risk associated
with the hedged transaction. To the extent that the amount or duration of the
forward exchange contract and hedged transaction vary, we could experience
unanticipated foreign currency gains or losses that could have a material impact
on our results of operations.

We entered into a forward exchange contract to hedge the foreign currency
exposure on our 5 million euro note payable to Philips. A forward exchange
contract to exchange a total of $5.3 million for 5.0 million euros with a
weighted-average settlement price of 1.0636 euro/USD, with an original term of
11 months, was outstanding at March 31, 2003.

BUSINESS

OUR BUSINESS

We incorporated as Visioneer, Inc. in March 1992 and through December 1998
developed and sold scanner hardware and software products. On January 6, 1999,
Visioneer sold the hardware business and the Visioneer brand name to Primax
Electronics, Ltd., and on March 2, 1999, Visioneer acquired ScanSoft, then a
wholly owned subsidiary of Xerox Corporation, in a cash election merger from
Xerox Corporation.

The corporate entity "Visioneer" survived the merger, but changed its name
to "ScanSoft, Inc." In addition, Visioneer changed the ticker symbol for its
common stock that trades on the NASDAQ National Market, to "SSFT." On March 13,
2000, we merged with Caere Corporation, a California-based digital imaging
software company. In December 2001, we acquired certain assets and intellectual
property relating

to the former L&H entities that were in bankruptcy under the jurisdiction of
both the United States Bankruptcy Court for the District of Delaware and the
Belgium Court of Ieper and hired certain employees from those entities. In
January 2003, we acquired Royal Philips Electronics' Speech Processing Telephony
and Voice Control business units and related intellectual property for aggregate
consideration of approximately $39.4 million. Since 1997 and through March 2003,
we made five significant business acquisitions and acquired several key
technologies for aggregate consideration totaling approximately $273 million.

Our focus on providing solutions that enable the capture and conversion of
information requires a broad set of technologies and channel capabilities. We
have made and expect to continue to make acquisitions of other companies,
businesses and technologies to complement our internal investments in these
areas. We have a small team that focuses on evaluating market needs and
potential acquisitions to fulfill them. In addition, we have a disciplined
methodology for integrating acquired companies and businesses after the
transaction is complete.

OUR MARKETS AND PRODUCTS

DIGITAL CAPTURE MARKET

Document and PDF Conversion. Despite the broad use of computing systems in
enterprises, the majority of business information is still maintained in paper
form. The proliferation of PDF as a digital document standard does not resolve
the problem of accessing and utilizing information trapped in a static form. In
addition, manually reproducing static documents in digital form is time
consuming, costly and subject to error, taking valuable resources away from more
productive activities. Enterprises and workgroups seek solutions that integrate
paper and static PDF documents into their business processes, allowing them to
automate the way they store, edit, use and share information.

Our solutions help businesses save time and money by automatically
converting paper documents and PDF files into editable and usable business
documents. Based on optical character recognition, our software delivers highly
accurate document and PDF conversion, replacing the need to manually re-create
documents. Our software preserves document formatting and provides editing
capabilities that re-create the complex components in a typical document,
including formatted text, columns, graphics, tables and spreadsheets. Our
products can be used with existing business applications and enable the
distribution and publishing of documents to email, Internet and mobile
applications using standard file formats, including XML, HTML, PDF and Open
eBook.

The proliferation of multifunction devices and digital copiers connected
over a network has increased the number of documents that individuals within an
enterprise are transforming into digital format. Our software solutions create a
more efficient method to process static documents in enterprise content
management and database systems, thereby enhancing the value of their
investments in these systems. All of these documents can then be more easily
archived, edited and combined within the enterprise.

Our solutions are used in professional office settings, particularly in the
government, legal, finance and education sectors. Our software is available in
11 languages. We utilize a combination of our global reseller network and direct
sales to distribute our document and PDF conversion products. We license our
software to companies such as Canon, Hewlett-Packard and Xerox, which bundle our
solutions with multifunction devices, digital copiers, printers and scanners.

We also license software development toolkits to independent software
vendors, integrators and in-house developers to add document and PDF conversion
capabilities to their applications. Our independent software vendor customers
include vendors, such as Microsoft and Symantec. Our technology is also used
within high-end enterprise systems from vendors such as Kofax and Lockheed
Martin.

Digital Paper Management. As the volume and complexity of corporate data
continues to multiply, organizations are increasingly challenged in their
efforts to manage all of their paper and digital documents. The wide dispersion
of documents makes finding complete and specific information even more

difficult, time-consuming and costly. As a result, businesses need solutions
that allow individuals, workgroups or the entire organization to more
efficiently organize, find and share business documents.

Our solutions convert paper into digital documents that can be easily
archived, retrieved and shared. Our software can be used in conjunction with
network scanning devices to preserve an image of a document exactly as it
appears on paper. Our software automatically indexes the scanned image, so that
it can be stored together with other digital documents on a desktop, over a
network or within an enterprise content management system. In a single search,
users can quickly find scanned documents and existing digital files that match
the search criteria.

Within enterprises, workgroups and distributed teams, our products also
facilitate the movement of scanned paper and digital documents into email, print
and other business applications. This streamlines the flow of documents between
workers, decreasing the time and costs associated with managing and using paper
documents. Our solution integrates with established file systems, such as Oracle
9i Collaboration Suite, to simplify the transfer of documents between desktop
and enterprise content management systems.

Our solutions are used in enterprises and workgroups, especially those
within the legal, healthcare, financial, government, real estate and education
industries. Our software is available in eight languages. We utilize a
combination of our global reseller network and direct sales to distribute our
digital paper management products. We also license our software to companies
such as Brother, Hewlett-Packard, and Xerox, which bundle our solutions with
multifunction devices, digital copiers, printers and scanners.

Electronic Forms. Paper forms are expensive to print, store and
distribute. They must be physically circulated for approval and, when completed,
paper forms must be collected, verified and archived. Processing paper forms
adds to this expense by requiring the manual transfer of data on completed forms
into business applications. As a result, organizations seek solutions that
implement online alternatives to the use of paper forms in order to reduce costs
and increase operational efficiency.

Our products automatically convert paper forms into fillable electronic
forms that can be easily used by enterprises and other organizations. Our
products also convert static PDF and Microsoft Word forms into fillable
electronic forms using XML, HTML and PDF standards. Our solutions simplify the
design and creation of new forms that can be delivered electronically with the
same appearance as paper. Our products enable the access and distribution of
forms through the Web and email, and can be electronically routed, approved and
digitally signed. Our solution validates form information and automates data
collection by connecting electronic forms with standard database and back office
applications.

Our solutions are used in enterprises and workgroups, especially those
within the government, financial, public safety, education, legal, healthcare
and real estate industries. Our software is available in English, French and
German. We utilize a combination of our global reseller network and direct sales
to distribute our electronic forms products. Companies such as Hewlett-Packard
bundle our solutions with multifunction devices, digital copiers, printers and
scanners, and organizations such as the U.S. Internal Revenue Service and the
Law School Admission Council license our solutions.

The following table summarizes our digital capture products:

PRODUCT HIGHLIGHTS
------- ----------

DOCUMENT AND PDF - Converts paper and PDF into documents that can be edited,
CONVERSION archived and shared
OmniPage - Most widely used optical character recognition product
- Accuracy of up to 99.8%, the highest in the industry
- Converts into XML, HTML, Open eBook, Microsoft Word, Excel
and PowerPoint
- Retains precise document layout and formatting
- Integrates with enterprise content management systems
- Recognizes 114 languages
- Recent Editors' Choice Awards from PC Magazine and CNET
- Localized in 11 languages
- Available on Microsoft Windows 98/NT/2000/XP and Apple
Macintosh operating systems
Capture Development - Toolkit of sophisticated imaging, PDF and capture
System capabilities
- Optical character recognition, handprint, checkbox and
barcode recognition
- Supports PDF, JPEG, TIFF and other image formats
- Exports Microsoft Word and Excel, RTF, ASCII, HTML, PDF
and other document formats
- Recognizes more than 100 languages
- Supports over 200 scanning devices
- Available on Microsoft Windows NT/2000/XP operating
systems
DIGITAL PAPER MANAGEMENT - Simplifies scanning, organizing and sharing paper
PaperPort documents
- Index, search and retrieve scanned paper and digital
documents
- Adds document management and collaboration capabilities to
Microsoft Windows
- Thumbnail based visual file management
- Adds scanning and creation of searchable PDF files to
Oracle 9i
- Integrates with network file systems and content
management applications
- Speeds document set assembly and connectivity to workgroup
- Localized in eight languages
- Available on Microsoft Windows 98/NT/2000/XP operating
systems
ELECTRONIC FORMS - Converts paper, static PDF and Microsoft Word forms into
OmniForm fillable electronic forms
- Supports online filling, routing, electronic signing,
validation and collection of forms
- Connectivity with Microsoft Access, Excel, SQL Server,
Oracle and other database applications
- Supports XML, HTML and PDF standards
- Localized in English, French and German
- Available on Microsoft Windows 98/NT/2000/XP operating
systems

SPEECH MARKET

Speech Recognition and Dictation. Organizations demand solutions that
increase productivity by automating repetitive business processes, including the
creation of documents, data entry and completing forms. They also look for ways
to maximize the productivity of their existing workers, including those with
disabilities, and to comply with government requirements relating to workplace
safety and accessibility. Organizations also seek solutions that can reduce the
cost associated with manual transcription of

professional documents. Since most people can talk more quickly than they can
type, speech is a natural way to interact with computers to address these
problems.

Our speech recognition and dictation solutions increase productivity in the
workplace by using speech to create documents, streamline repetitive and complex
tasks, input data, complete forms and automate manual transcription processes.
Our solutions allow users to automatically convert speech into text at up to 160
words-per-minute, much faster than most people can type. Our software supports a
vocabulary of more than 250,000 words that can be expanded by users to include
specialized words and phrases. Our software is designed to adapt to individual
voice patterns and accents and is highly accurate, able to achieve accuracy
rates of approximately 95%, with the ability to achieve still greater accuracy
with frequent use. Our software supports multiple languages, including Dutch,
French, German, Italian, Japanese, Spanish, Swedish, and U.S./U.K. English.

Our solutions are valuable within enterprises and workgroups for a number
of reasons. Our software can operate within a distributed network environment,
where speaker profiles can be stored on a server and accessed from any networked
computer. Our solutions also speech enable existing business systems and
applications, including electronic records management systems and customer
service and billing applications. Our software allows a user to interact with a
computer without a keyboard or mouse, increasing the productivity of disabled
workers and those suffering from repetitive stress injury. Our solutions also
help government agencies address accessibility mandates, such as those described
in Section 508 of the U.S. Government Rehabilitation Act. We also deliver
versions of our products that are specialized for the medical, legal and public
safety vertical markets.

We offer a range of implementations, each with features that match a
specific customer target. Our solutions are also used in enterprises and
workgroups, particularly in the medical, legal, government, finance and
education sectors. Our software is available in eight languages. We utilize a
combination of our global reseller network and direct sales to distribute our
speech recognition and dictation products. We believe that we gain a competitive
advantage through our established value-added reseller community, who provide
local sales, integration, training and support services to our professional
end-user community. We also license our software to companies such as Corel and
Panasonic, which bundle our solutions with some of their products.

Telephony Solutions. Organizations look for ways to reduce the costs
associated with serving their customers without sacrificing the quality of
service that they deliver. They also seek solutions that more effectively
connect their mobile workforce with real-time enterprise information, including
customer data, email and schedules, while at the same time reducing operating
costs. Speech-based telephony technologies are used to implement systems and
applications to achieve these goals.

Our telephony solutions allow enterprise customers, telephony vendors and
carriers to speech-enable a range of services, including call center automation,
directory assistance, interactive voice response and voice portal applications.
Our solutions are highly scalable, able to handle large call volumes, and are
available on many hardware platforms and operating systems. These solutions are
based on text-to-speech and speech recognition technologies.

Our text-to-speech solutions deliver natural sounding results by using
segments of real human speech, thereby increasing listener satisfaction
especially in the delivery of multiple phrases and sentences. Our solutions
provide a single, standardized interface that supports the creation of
speech-enabled applications in 20 languages, more than any other vendor. Our
products also support the rapid and cost-effective implementation of customized
voices for specific customers.

Our telephony speech recognition solutions are based on speaker-independent
technology that adds voice control capabilities to applications. This technology
identifies specific words and phrases at any moment in time, converting spoken
words into instructions that control functions within applications. Our
technology supports 45 languages and can process a vocabulary of more than one
million words.

The technology is also used in our corporate voice dialing and automated
directory assistance applications.

Our solutions are used within a wide range of applications, including
accessing emails through unified messaging systems, automating call centers and
customer service operations, and adding voice capabilities to telecommunications
services such as directory assistance and name directories. These solutions are
intended to help organizations improve customer service, lower administrative
costs, and provide new productivity and communications services.

We license products to systems integrators, technology providers and
telecommunications companies that in turn sell an integrated solution to
businesses and end-users. This indirect, or channel-based, method of selling
allows us to focus on technology advancement instead of custom deployments. We
license our solutions to developers of telephony applications, including Cisco
and Lucent, which integrate our solutions into hardware and software platforms.

Voice Control. Automobile and mobile communications manufacturers and
their suppliers are accelerating the development of products that require
enhanced voice control capabilities. In addition, a growing number of
independent software and hardware vendors are incorporating voice control into
multimedia applications.

Our voice control solutions are based upon automatic speech recognition
technologies that allow users to interact with devices simply by speaking. Our
solutions for automotive and mobile applications support large, dynamic
vocabularies and have sophisticated noise management capabilities that ensure
accuracy, even at high vehicle speeds. Our products scale to meet the size and
accuracy requirements for automotive and navigation systems and offer rapid
application development tools, extensive compatibility with hardware and
operating systems, and support for up to 16 languages. By scale, we mean that we
offer a variety of voice control solutions that are designed to meet the
individual vocabulary, operating system and memory requirements of different
applications and devices. We include toolkits with our engines that help
developers add our technologies to applications such as navigation systems,
hands-free cell phone devices and voice-activated controls in an automobile.

Our voice control solutions are embedded by tier-one, automobile, cell
phone and aftermarket system manufacturers, including Citroen, Daimler Chrysler,
Delphi, General Motors, Microsoft and Pioneer. By embedded, we mean our
technologies are included as part of a larger system, application or solution
that is designed, manufactured and sold by our partners. These partners include
tier-one suppliers, companies whose size and importance qualifies them to be
direct suppliers to the major automotive manufacturers, and in-dash radio,
navigation system and other electronic device manufacturers, also known as
aftermarket systems providers. In addition, Microsoft ships our product as the
reference speech software development toolkit for Windows CE for Automotive, and
independent software developers embed our speech recognition technologies into
multimedia applications.

AudioMining. Our AudioMining products are based on our speech recognition
and dictation solutions and are used to automatically create index information
for words spoken in audio and video content. Our products allow users to search
for specific audio and video content using standard text queries. Our solutions
not only present matched audio and video files, but also provide random access
to precise match locations within each audio and video file. Our solutions can
also be used to time-align existing transcripts with video clips, automating the
creation of captions. Our AudioMining solutions provide efficient access to the
information currently hidden within media files and reduce the cost associated
with creating captioned video. AudioMining is used within call center and
security applications to facilitate the retrieval of specific recorded
conversations based on the identification of key words and phrases. AudioMining
is also used by content providers to enable text queries for specific Web-based
media content, such as news, financial analyst reports, sports and talk radio.

The following table summarizes our speech-related products:

PRODUCT HIGHLIGHTS
------- ----------

SPEECH RECOGNITION AND - Highly accurate automatic speech recognition
DICTATION - Converts speech into text at up to 160 words per minute
Dragon - Recognizes more than 250,000 words
NaturallySpeaking - Speech-enables Microsoft Windows applications
- Adds voice control to Microsoft Windows operating system
- Available in eight languages
- Vertical implementations for medical, legal and public
safety markets
- Performs complex tasks simply by speaking
- Complements accessibility efforts for disabled workers
- Supports Microsoft Windows 98/NT/2000/XP
AUDIOMINING DEVELOPMENT - Automatically converts speech within audio and video into
SYSTEM XML search index data
- Allows text-based search for content in audio and video
content
- Time-aligns captions for video content
- Supports word-spotting for call center and security
applications
TELEPHONY SOLUTIONS - Industry-leading synthesized human speech solution
RealSpeak - Converts text into speech in 20 languages
- Scalable, high-density capabilities
- Supports Microsoft Windows 98/NT/2000/XP, Windows CE,
Windows CE for Automotive; Sun Solaris; and Linux operating
systems
- Available on Hitachi, Intel, MIPS and NEC hardware systems
SpeechPearl - Provides accurate speech recognition and natural speech
understanding to automate telephony applications
- Recognizes a vocabulary of more than 1 million words
- Provides developer modules to simplify application
integration
- Supports 45 languages
- Supports Microsoft Windows 98/NT/2000/XP
VOICE CONTROL - Highly accurate speaker-independent embedded voice
recognition solution in 13 languages
- Adds sophisticated command and control applications into
automotive, mobile, PC and multimedia applications
- Rapid application development tools
- Accurate speech recognition engine in noisy environments,
even at high vehicle speeds
- Supports Microsoft Windows 98/NT/2000/XP, Windows CE,
Windows CE for Automotive; QNX; and Linux operating systems
- Available on Hitachi, Intel, MIPS and NEC hardware systems

OUR COMPETITIVE STRENGTHS

Core Technology Assets. In recent years, we have developed and acquired
extensive technology assets, intellectual property and industry expertise in
digital capture and speech. Our technologies are based on complex mathematical
formulas, which require extensive linguistic and image data, acoustic models and
recognition techniques. A significant investment in capital and time would be
necessary to replicate our current capabilities. We continue to invest in the
advancement of our technologies to maintain our market leading position and to
develop new applications. As of December 31, 2002 we had 250 full-time employees
in research and development, and our technologies are covered by more than 300
patents or patent applications. Additionally, in connection with the Philips
acquisition we hired

approximately 116 employees and acquired 132 patents and 189 pending patent
applications in speech. We also received licenses to additional speech patents
retained by Philips.

Broad Distribution Channels. We have established relationships with more
than 2,000 resellers, including leading system vendors, independent software
vendors and distributors. We maintain an extensive network of value-added
resellers to address the needs of specific markets, such as financial, legal,
healthcare and government. In addition, our channel network enables us to
introduce new products quickly and effectively into the global marketplace.

Leading Market Share. We have a strong market position in each of our
product categories and are the market leader in document and PDF conversion,
speech recognition and dictation, and text-to-speech. Approximately 79% of our
revenue for the year ended December 31, 2002 was derived from markets where we
are the established leader. As the established brand in our markets, we believe
we can target and win more partnership arrangements and new customers than our
competition.

International Focus. The broad language coverage within our products
increases the likelihood that we will be a selected technology provider to
vendors selling globally. With nearly one half of our staff located outside of
North America, we are able to efficiently compete on a global basis.

Multiple End Markets. We sell to a range of end markets and maintain a
tiered distribution model that provides a diversified revenue stream and broad
market exposure. We are not dependent on any single market segment or set of end
customers and earn revenue from both established and emerging markets.

OUR STRATEGY

Expand Digital Capture Solutions. We intend to enhance the value of our
digital capture solutions for enterprises to address the expanded use of content
management systems, the proliferation of PDF and the widespread adoption of
networked multifunction and digital scanning devices. We expect to introduce new
products or new versions of existing products to take advantage of these growth
opportunities. We also plan to enhance our software development toolkits so our
technologies can be integrated with more third-party solutions. We expect to
maintain product development and delivery cycles that range from 12 to 18 months
for each of our digital capture products and applications.

Pursue High Growth Markets In Speech. We intend to leverage our
technologies and market leadership in speech to expand our opportunities in the
automotive, healthcare, telecommunications, telematic and mobile markets. We
also intend to pursue emerging opportunities to use our speech technology within
consumer devices, games and other embedded applications. To expand our position,
we have introduced new versions of our products that are designed for specific
markets; completed new license agreements with customers and partners that will
resell our technologies; and completed the acquisition of Philips Speech
Processing Telephony and Voice Control business units that we believe complement
our existing solutions and resources in the telecommunications, automotive and
electronics markets.

Grow Market Share. We intend to increase our market share in each of our
product categories. In particular, we intend to expand and add features and
functions to our products to make our solutions more useful to and useable by a
larger customer base. In addition, we intend to aggressively pursue sales and
partnership opportunities to build on our leading positions in text-to-speech
and speech recognition, and to capture additional market share and increase the
penetration of our products.

Expand Worldwide Channels. We intend to expand our global channel network
and build upon our existing distribution channels, especially in Europe, Asia
and Latin America. In particular, we intend to replicate our successful North
American value-added reseller channel in Europe. Along these lines, we have
added sales employees in different geographic regions and launched programs and
events to help recruit new partners for our channel network.

Capitalize on Government Initiatives. We intend to market our products
aggressively in North America and abroad to capitalize on legislative mandates
and government initiatives to put government processes online, to enhance
opportunities for workers with disabilities and to promote public safety.

Pursue Strategic Acquisitions. We have selectively pursued strategic
acquisitions. For example, during the last year we completed the L&H acquisition
and completed the Philips acquisition. We intend to continue to pursue strategic
acquisitions as a part of our growth strategy.

SALES, DISTRIBUTION AND FULFILLMENT

We have established relationships with more than 2,000 channel partners,
including leading system vendors, independent software vendors, value-added
resellers and distributors, through which we market and distribute our products
and solutions. In digital capture, companies such as Brother, Canon, Hewlett-
Packard, Visioneer and Xerox include our technology in digital copiers, printers
and scanners, as well as multifunction devices that combine these capabilities.
In addition, companies such as Corel, Kofax, Lockheed Martin, Microsoft and
Symantec embed our digital capture technology into their commercial software
applications. In speech, companies such as Cisco, Dictaphone, Lucent, Matsushita
and Microsoft embed our technologies into telecommunications systems, as well as
automotive, PC or multimedia applications.

We also maintain an extensive network of value-added resellers to address
the needs of specific markets, such as financial, legal, healthcare and
government. We sell our applications to enterprises, professionals and consumers
through distribution and fulfillment partners, including 1450, Ingram Micro,
Tech Data and Digital River. These distribution and fulfillment partners provide
our products to computer superstores, consumer electronic stores, eCommerce Web
sites, mail order houses and office superstores, such as Amazon.com, Best Buy,
CDW, MicroWarehouse, Circuit City, CompUSA, Fry's Electronics, Office Depot, PC
Connection and Staples. We also maintain an extensive network of value added
resellers to address the needs of specific markets such as medical, legal and
public safety. We also sell products through our Web site at www.ScanSoft.com.

Until recently, most of our software products were manufactured, packaged
and shipped by GlobalWare Solutions on a worldwide basis. In June 2003, we
transitioned our manufacturing and fulfillment activity to Hewlett-Packard
Corporation. This agreement strengthens the strategic relationship between
Hewlett-Packard and us.

As of May 31, 2003, we employed 147 full-time sales and marketing employees
in offices worldwide.

PROPRIETARY TECHNOLOGY

We exploit our proprietary technology, trade secrets, know-how, continuing
technological innovations and licensing opportunities to maintain our
competitive position. We rely on patent law, copyright law, trade secret laws,
secrecy, technical measures, licensee agreements and non-disclosure agreements
to protect our technology, trade secrets and other proprietary rights. Our
policy is to file patent applications to protect technology, inventions and
improvements that are important to the development of our business, to maintain
a technological advantage over our competitors and to generate licensing
revenue. In this regard, we have obtained patents that directly relate to our
products. Furthermore, we obtained in the L&H acquisition 131 patents and 165
pending patent applications in speech. Our digital capture and speech
technologies are covered by more than 300 patents or patent applications. These
patents expire on various dates between 2005 and 2016.

In connection with the Philips acquisition we acquired 132 patents and 189
pending patent applications in speech. We also received licenses to additional
speech patents retained by Philips.

In order to protect our ownership rights in our software products, we
license our products to OEMs and resellers on a non-exclusive basis with
contractual restrictions on reproduction, distribution and transferability. In
addition, we generally license our software in object code form only. We license
certain of our software products to end-users by use of a "shrink-wrap" or
"click wrap" customer license that restricts the end-user to personal use of the
product.

We require our employees to execute confidentiality and invention
assignment agreements in order to protect our proprietary technology and other
proprietary rights. We also rely on trade secrets and proprietary know-how.

RESEARCH AND DEVELOPMENT

The market for our products and services is characterized by rapid
technological change, frequent new product introductions and enhancements,
evolving industry standards, and rapidly changing client requirements. As a
result, we believe that our future growth is highly dependent on the timely and
efficient introduction of new and updated products and technology. As of May 31,
2003, we employed 326 people in research and development, over half of whom are
located in international locations. Our employees based in overseas facilities
extend our global focus while often lowering our overall cost of research and
development. To promote efficiency in our research and development efforts, we
have organized the effective use of global development teams and a
comprehensively integrated development process. In addition, we have developed
and refined our time-to-market process, which contributes to cost-effective
resource management while promoting technology sharing across programs.

Our future success will depend in part on our ability to anticipate
changes, enhance our current products, develop and introduce new products that
keep pace with technological advancements and address the increasingly
sophisticated needs of our clients. Our research and development expenses for
the years ending December 31, 2002, 2001 and 2000 were $27.6 million, $14.0
million and $15.0 million, respectively. We expect that we will continue to
commit significant resources to research and development in the future and that
research and development expenses will continue to increase, particularly in
2003 as a result of the Philips acquisition. All research and development
expenses have been expensed as incurred.

INTERNATIONAL OPERATIONS

We currently have offices in a number of international locations including:
Australia, Belgium, Denmark, England, France, Germany, Hong Kong, Hungary,
Italy, Japan, the Netherlands, Poland, and Taiwan. The scope of our
international operations includes research and development, customer support and
sales and marketing. Our international research and development is conducted in
Budapest, Hungary; Merelbeke, Belgium and Aachen, Germany. Additionally sales
and support offices are located throughout the world to support our current
international customers and to expand our international revenue opportunities.

Geographic revenue classification is based on the country in which the sale
is invoiced. Revenue for the year ended December 31, 2002 was 73% North America
and 27% international, versus 79% North America and 21% international for the
comparable period in 2001.

A number of our OEM partners distribute their products throughout the world
and do not provide us with the geographical dispersion of their products. We
believe that if provided with this information, our geographical revenue
classification would indicate a higher international percentage. Based on an
estimate that factors our OEM partners' geographical revenue mix into our
revenues generated from these OEM partners, revenue for the year ended December
31, 2002, is approximately 67% North America and 33% international, compared to
70% North America and 30% international for the comparable period in 2001.

COMPETITION

There are a number of companies that develop or may develop products that
compete in our targeted markets; however, there is no one company that competes
with us in all of our product areas. The individual markets in which we compete
are highly competitive, and are rapidly changing. Within digital capture, we
compete directly with ABBYY, I.R.I.S. and NewSoft. Within speech, we compete
with AT&T, IBM, Nuance Communications and SpeechWorks International, among
others. Vendors such as Adobe and Microsoft offer solutions that can be
considered alternatives to some of our solutions. In addition, a number of
smaller companies produce technologies or products that are in some markets
competitive with our solutions. Current and potential competitors have
established, or may establish,

cooperative relationships among themselves or with third parties to increase the
ability of their technologies to address the needs of our prospective customers.

Some of our competitors or potential competitors in our markets have
significantly greater financial, technical and marketing resources than we do.
These competitors may be able to respond more rapidly than we can to new or
emerging technologies or changes in customer requirements. They may also devote
greater resources to the development, promotion and sale of their products than
we do.

EMPLOYEES

As of May 31, 2003 we employed 618 people on a full-time basis, 297 in the
United States and 321 internationally. Of the total, 326 were in product
research and development, 147 in sales and marketing, 95 in operations and
support, and 50 in finance and administration. Of these employees, 116 were
hired in connection with the Philips acquisition completed on January 30, 2003.
Of the total employees hired, 88 were in product research and development, 24 in
sales and marketing and 4 in operations and support. None of our employees are
subject to collective bargaining agreements. We have experienced no work
stoppages and believe that our employee relations are good. We have utilized the
services of consultants, third-party developers, and other vendors in our sales,
development, and manufacturing activities.

PROPERTIES

Our principal administrative, sales, marketing and support functions along
with our North American imaging research and development functions occupy 45,860
square feet of space that we lease in Peabody, Massachusetts. We also lease
26,568 square feet of space in Waltham, Massachusetts where our North American
speech and language research and development is performed. These leases expire
in July 2006 and September 2006, respectively. Additionally, we lease
approximately 21,180 square feet of research and development space located in
Budapest, Hungary and 20,085 square feet in Merelbeke, Belgium, which houses our
research and development and international headquarters space. These leases
expire in December 2006 and April 2008, respectively. In connection with the
Philips acquisition, we assumed a lease for approximately 39,000 square feet of
research and development space located in Aachen, Germany. This lease expires in
March 2006. We also lease a number of small sales and marketing offices in Asia
and Europe, including offices located in Amsterdam, the Netherlands; Hong Kong,
China; Taipei, Taiwan; Milan, Italy; Munich, Germany; Goteborg, Sweden; Paris,
France; Reading, England; Budapest, Hungary; and Tokyo, Japan.

We believe that our existing facilities are adequate for our needs for at
least the next twelve months.

LEGAL PROCEEDINGS

Like many companies in the software industry, we have from time to time
been notified of claims that we may be infringing the intellectual property
rights of others. These claims have been referred to legal counsel, and they are
in various stages of evaluation and negotiation. In addition, the following
claims are in litigation:

On November 27, 2002, AllVoice Computing plc filed an action against us in
the United States District Court for the Southern District of Texas claiming
patent infringement. In the lawsuit, AllVoice alleges that we are infringing
United States Patent No. 5,799,273 entitled "Automated Proofreading Using
Interface Linking Recognized Words to Their Audio Data While Text Is Being
Changed" (the "'273 Patent"). The '273 Patent generally discloses techniques for
manipulating audio data associated with text generated by a speech recognition
engine. Although we have several products in the speech recognition technology
field, we believe that our products do not infringe the '273 Patent because they
do not use the claimed techniques. Damages are sought in an unspecified amount.
We filed an Answer on December 23, 2002. For the reasons described here, we
believe this claim has no merit, and intend to defend the action vigorously.

In December 2001, the Massachusetts Institute of Technology and Electronics
For Imaging, Inc. sued us in the United States District Court for the Eastern
District of Texas for patent infringement. The patent infringement claim was
filed against more than 200 defendants. In their lawsuit, MIT and EFI allege
that we infringe United States Patent No. 4,500,919 entitled "Color Reproduction
System" (the "'919 Patent"). MIT and EFI allege that the '919 Patent discloses a
system for adjusting the colors of a scanned image on a television screen and
outputting the modified image to a device. We have several products that permit
a user to adjust the color of an image on a computer monitor. We have asserted
that our products do not infringe the '919 Patent because our products do not
contain all elements of the structure required by the claimed invention and
because our products do not perform all of the steps required by the claimed
method. Further, we believe there may be prior art that would render the '919
Patent invalid. The '919 Patent expired on May 6, 2002. Damages are sought in an
unspecified amount. We filed an Answer and Counterclaim on June 28, 2002. For
the reasons described here, we believe this claim has no merit, and intend to
defend the action vigorously.

On August 16, 2001, Horst Froessl sued us in the United States District
Court for the Northern District of California for patent infringement. In his
lawsuit, Froessl alleges that we infringe United States Patent No. 4,553,261
entitled "Document and Data Handling and Retrieval System" (the "'261 Patent").
Froessl alleges that the '261 Patent discloses a system for receiving and
optically scanning documents, converting selected segments of the digitalized
scan data into machine code, and storing and retrieving the documents and the
digitalized and converted segments. Although we have several products in the
scanning technology field, we have asserted that our products do not infringe
the '261 Patent because our products do not contain all elements of the
structure required by the claimed invention and because our products do not
perform all of the steps required by the claimed method. Further, we believe
there may be prior art that would render the '261 Patent invalid. Damages are
sought in an unspecified amount. We filed an Answer and Counterclaim on
September 19, 2001. For the reasons described here, we believe this claim has no
merit, and we intend to defend the action vigorously.

We believe that the final outcome of these matters will not have a
significant adverse effect on our financial position and results of operations,
and believe we will not be required to expend a significant amount of resources
defending such claims. However, should we not prevail in any such litigation,
our operating results and financial position could be adversely impacted.

MANAGEMENT

EXECUTIVE OFFICERS AND DIRECTORS

The following table sets forth certain information with respect to our
executive officers and directors as of June 16, 2003.

NAME AGE POSITION
---- --- --------

Paul A. Ricci........................ 46 Chief Executive Officer and Chairman of the
Board
Wayne S. Crandall.................... 44 Senior Vice President of Worldwide Sales and
Business Development
Jeanne McCann........................ 52 Senior Vice President of Speech Research and
Development
Richard S. Palmer.................... 52 Senior Vice President and Chief Financial
Officer
Robert J. Weideman................... 45 Senior Vice President and Chief Marketing
Officer
Ben S. Wittner....................... 45 Senior Vice President Imaging Research and
Development
Robert J. Frankenberg(1)(2).......... 56 Director
Katharine A. Martin.................. 40 Director and Corporate Secretary
Mark B. Myers(1)..................... 64 Director
Robert G. Teresi(1)(2)............... 61 Director

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

(1) Member of the audit committee.

(2) Member of the compensation committee.

Paul A. Ricci has served as our Chairman since March 2, 1999 and our Chief
Executive Officer since August 21, 2000. From January 1998 to August 2000, Mr.
Ricci was the Vice President, Corporate Business Development of Xerox. Prior to
1998, Mr. Ricci held several positions within Xerox, including serving as
President, Software Solutions Division and as President of the Desktop Document
Systems Division. Between June 1997 and March 1999, Mr. Ricci served as Chairman
of the Board of Directors of ScanSoft, Inc., which was then operating as an
indirect wholly owned subsidiary of Xerox.

Wayne S. Crandall has served as our Senior Vice President Sales and
Business Development since January of 2002. Mr. Crandall served as Senior Vice
President Sales and Marketing from November 2000 until December of 2001. From
March 2000 to November 2000, Mr. Crandall was Senior Vice President Sales, and
from March 1995 to March 2000, he was Vice President Sales and Channel
Marketing. From January of 1993 until March 1995, Mr. Crandall was our Managing
Director of International Sales, Marketing and Operations based in the United
Kingdom. From December 1989 until January of 1993, Mr. Crandall was Vice
President of North American Sales for Xerox Imaging Systems, a wholly owned
subsidiary of Xerox. From January of 1984 until December of 1989, Mr. Crandall
was the Director of North American Sales for Kurzweil Computer Products. From
1978 until January of 1984, Mr. Crandall held several sales and marketing
positions with Philips N.V., Lexitron, a Division of Raytheon and Savin
Corporation.

Jeanne McCann has served as our Senior Vice President of Speech Research
and Development since December 2001. From June 2000 to December 2001, Ms. McCann
served as Senior Vice President, Development - SLS Division of Lernout &
Hauspie. From July 1998 to June 2000, Ms. McCann served as Vice President,
Development for Dragon Systems, Inc., and from March 1997 to July 1998, as Vice
President, Development for Eastman Software, Inc.

Richard S. Palmer has served as our Senior Vice President and Chief
Financial Officer since May 2000. From July 1994 to April 2000, Mr. Palmer was
the Director of Corporate Development at Xerox Corporation. Prior to that, Mr.
Palmer worked in a number of financial management positions at Xerox, including
Vice President of Business Analysis for Xerox Financial Services, Inc.,
Corporate Assistant Treasurer, and Manager of Planning and Pricing for Xerox's
Latin American Operations.

Robert J. Weideman became our Chief Marketing Officer and Senior Vice
President in August 2002. Mr. Weideman has served as Vice President, Marketing
since November 2001. From February 1999 until November 2001, Mr. Weideman was
Vice President of Marketing for Cardiff Software, Inc. From August 1994 to
January 1999, Mr. Weideman was Vice President of Marketing for TGS N.V. (TGS
Inc., Europe).

Ben S. Wittner has served as our Senior Vice President Imaging Research and
Development since August 2000. From March 2000 to August 2000, Dr. Wittner
served as Vice President Technology Research and Development. From February 1995
until March 2000, Dr. Wittner was Director of OCR Research and Development of
ScanSoft, Inc., which was operating as an indirect wholly owned subsidiary of
Xerox until March 1999. Dr. Wittner joined ScanSoft in 1992 as manager of text
recognition for OCR development. Previously, Dr. Wittner was an individual
contributor and then supervisor for the handwriting recognition project at
NYNEX. Prior to that, he held a post-doctoral position at AT&T Bell
Laboratories, researching fundamentals and applications of neural networks. Dr.
Wittner earned a Ph.D. in mathematics from Cornell University.

Robert J. Frankenberg has served as a director since March 13, 2000. Since
December 1999, Mr. Frankenberg has served as Chairman of Kinzan, Inc., an
Internet Services software platform provider. From May 1997 to July 2000, Mr.
Frankenberg served as the Chairman, President and Chief Executive Officer of
Encanto Networks, Inc., a developer of hardware and software designed to enable
creation of businesses on the Internet. Since July 2000, Mr. Frankenberg has
continued as Chairman, and since January 2001, has served as Acting President
and CEO of Encanto. From April 1994 to August 1996, Mr. Frankenberg was
Chairman, President and Chief Executive Officer of Novell, Inc., a producer of
network software. Mr. Frankenberg is a director of Electroglas, Inc., National
Semiconductor, Daw Technologies, Inc. and Secure Computing Corporation.

Katharine A. Martin has served as a director since December 17, 1999. Since
March 2, 1999, Ms. Martin has served as our Corporate Secretary. Since September
1999, Ms. Martin has served as a Member of Wilson Sonsini Goodrich & Rosati,
Professional Corporation. Wilson Sonsini Goodrich & Rosati serves as our primary
outside corporate and securities counsel. Prior thereto, Ms. Martin was a
Partner of Pillsbury Madison & Sutro LLP.

Mark B. Myers has served as a director since March 2, 1999. Dr. Myers
served as Senior Vice President, Xerox Research and Technology, responsible for
worldwide research and technology from February 1992 until April 2000. Dr. Myers
is presently on the faculty of the Wharton Business School, The University of
Pennsylvania.

Robert G. Teresi has served as a director since March 13, 2000. Mr. Teresi
served as the Chairman of the Board, Chief Executive Officer and President of
Caere Corporation from May 1985 until March 2000.

BOARD COMMITTEES

Our audit committee consists of Messrs. Frankenberg, Myers and Teresi. The
audit committee reviews our internal accounting procedures and consults with and
reviews the services provided by our independent accountants.

Our compensation committee consists of Messrs. Frankenberg and Teresi. Ms.
Martin was a member of the compensation committee until she resigned from the
committee in October 2002. The compensation committee reviews and recommends to
the Board of Directors the compensation and benefits of our employees.

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

During 2002, no member of the compensation committee was an officer or
employee of our company. During 2002, none of our compensation committee members
or executive officers served as a member of the board of directors or
compensation committee of any entity that has an executive officer serving as a
member of our board of directors or compensation committee.

COMPENSATION OF NON-EMPLOYEE DIRECTORS

Non-employee directors are entitled to participate in the 1995 Directors'
Stock Option Plan. Options granted under this plan constitute the sole
compensation for board service. The plan, as amended in June 2001, provides that
each non-employee director will receive an initial option grant to purchase
50,000 shares of common stock at an exercise price equal to the fair market
value of the stock on the respective effective date of the grant. Each option is
exercisable in installments, 25% each year beginning on the first anniversary of
the grant so that the options are 100% exercisable four years after the
effective date of the grant. The plan also provides for the automatic annual
grant of stock options to purchase 15,000 shares of common stock, which was
5,000 prior to the June 2001 amendment, to each non-employee director on January
1 of each year, provided that, on such date, he or she shall have served on the
board for at least six months. These annual grants become fully vested and
exercisable on the first anniversary of the date of grant. Pursuant to the
automatic grant provisions, on January 2, 2001, each non-employee director was
granted an option to purchase 5,000 shares of common stock at an exercise price
of $.6563, the market price on that date, which amounted to 25,000 shares in the
aggregate. Also pursuant to these automatic grant provisions as stated in the
plan, on January 2, 2002, each non-employee director was granted an option to
purchase 15,000 shares of common stock at an exercise price of $4.45, the market
price on that date, which amounted to 75,000 shares in the aggregate. The June
2001 amendment also allowed for the non-automatic grant of an option to purchase
40,000 shares of common stock to all non-employee directors who were outside
directors on January 23, 2001 ("Eligible Directors"). Accordingly, each Eligible
Director received a grant of an option to purchase 40,000 shares on June 27,
2001 at an exercise price of $1.18, the market price on that date, which
amounted to 160,000 shares in the aggregate. These June 27, 2001 options became
fully vested and exercisable on June 27, 2002, the first anniversary of the date
of grant. Effective July 1, 2003, non-employee directors will receive an annual
stipend of $25,000.

EXECUTIVE COMPENSATION

The following table provides certain summary information for the fiscal
years 2002, 2001 and 2000 concerning compensation earned by our Chief Executive
Officer and by our four other most highly compensated named executive officers
whose compensation exceeded $100,000 in 2002 (the "Named Executive Officers").

LONG-TERM
COMPENSATION AWARDS
ANNUAL COMPENSATION ------------------------
---------------------------------- RESTRICTED SECURITIES ALL OTHER
NAME AND OTHER ANNUAL STOCK UNDERLYING ANNUAL
PRINCIPAL POSITION YEAR SALARY BONUS(1) COMPENSATION AWARD(S)($) OPTIONS(#) COMPENSATION(2)
------------------ ---- -------- -------- ------------ ----------- ---------- ---------------

Paul A. Ricci......... 2002 $299,000 $25,000(3) $107,000(4) $ -- 1,011,554 $ --
Chief Executive 2001 300,000 39,700 52,746(4)(5) -- -- --
Officer 2000(6) 110,385 12,248 -- -- 2,505,000 --
Michael K. Tivnan..... 2002 $274,516 $25,000(3) $ -- $ -- 122,918 $8,000
President and Chief 2001 275,016 99,250 5,289(5) -- -- 7,062
Operating Officer 2000(7) 269,180 36,378 5,289(5) -- 330,000 8,250
Wayne S. Crandall..... 2002 $224,500 $ -- $ -- $ -- 263,125 $7,125
Senior Vice
President, 2001 225,000 67,382 4,327(5) -- -- 9,154
Sales and Business 2000 180,673 58,102 577(5) -- 200,000 6,773
Development
Richard S. Palmer..... 2002 $219,500 $ -- $ -- $ -- 14,667 $6,967
Senior Vice
President 2001 220,000 69,872 4,231(5) 90,750(8) 100,000 7,017
and Chief Financial 2000(9) 155,833 25,868 4,231(5) 550,000 --
Officer
Robert J. Weideman.... 2002(10) $209,500 $42,000 $ 19,943(12) $200,002(11) 10,500 $6,650
Chief Marketing
Officer, Senior Vice
President

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

(1) Unless specified otherwise, bonuses were paid pursuant to Bonus Incentive
Plans.

(2) Represents Company contributions to our 401(k) plan.

(3) Represents a bonus paid for successful completion of the Lernout & Hauspie
acquisition.

(4) Includes allowance paid for remote living expenses.

(5) Includes payment of one week of accrued vacation.

(6) Mr. Ricci began serving in this capacity in August 2000.

(7) Mr. Tivnan served as President and Chief Executive Officer from March 1999
to August 2000, and thereafter as President and Chief Operating Officer.
Mr. Tivnan tendered his resignation as an executive officer and director
effective April 30, 2003.

(8) Mr. Palmer received a Restricted Stock Award for 75,000 shares. This
Restricted Stock Award has a 2 1/2 year cliff vesting, which vests 100% on
April 17, 2004. The value of the Restricted Stock Award as of December 31,
2002 was $390,000.

(9) Mr. Palmer joined ScanSoft in May 2000.

(10) Mr. Weideman began serving in this capacity in August 2002.

(11) Mr. Weideman received a Restricted Stock Award in November 2001 for 58,824
shares. This Restricted Stock Award vests in equal installments of 1/3 on
each anniversary date. On November 27, 2002, 19,608 shares vested at a
value of $147,060. The value of the unvested Restricted Stock holdings as
of December 31, 2002 was $203,923.

(12) Represents reimbursement of relocation expenses.

CHANGE IN CONTROL AND EMPLOYMENT AGREEMENTS

Our board of directors approved the acceleration of vesting of options for
certain officers and the directors in the event of a change in control. A change
in control includes a merger or consolidation of ScanSoft not approved by our
board of directors, certain changes in the composition of the board of
directors, and certain changes in the ownership of ScanSoft.

Mr. Ricci serves as our Chief Executive Officer and Chairman of the Board.
Under the terms of his August 21, 2000 employment agreement, his annual base
compensation is $300,000 and he is eligible to receive a target bonus of $50,000
per year. The agreement also provided for a grant of 2,500,000 options at
$1.3438 per share, subject to 1/8 vesting per quarter over a two-year period.
Mr. Ricci's severance (in the event of involuntary termination other than for
cause, death or disability) under the employment agreement would entitle him to,
among other things, a lump-sum payment equal to 8.5% of his base salary and
target bonus, and acceleration of vesting of all options held by him that were
unvested immediately prior to termination. Additionally, upon a change in
control, Mr. Ricci would be entitled to vesting of all of his unvested options.
Mr. Ricci's employment agreement was amended in July 2001 to provide him with a
living expenses allowance, not to exceed $107,000 annually, in connection with
his relocation to the Massachusetts area, where our corporate headquarters are
located.

Mr. Tivnan served as our President, Chief Operating Officer from August
2000 to April 2003. Mr. Tivnan tendered his resignation as an executive officer
and director effective April 30, 2003. As a result of Mr. Tivnan's resignation,
per an amended agreement, Mr. Tivnan will receive one-year salary of $250,000,
which will be paid over a one-year period. In addition, he will receive six
years of our medical benefits.

Mr. Crandall serves as our Senior Vice President Sales and Business
Development. Under the terms of a vesting agreement that he entered into in
April 1999, all of Mr. Crandall's unvested stock options will immediately vest
upon his involuntarily or constructive termination prior to, but in
contemplation of, or within twelve months after, a change in control.

Ms. McCann serves as Senior Vice President of Speech and Language Research
and Development. Under the terms of our letter addressed to Ms. McCann on
February 17, 2003, in the event there is a change in control of our company and
Ms. McCann's employment is terminated within six months of the change in
control, all of her stock options will become fully vested as of the effective
date of the termination of her employment.

Mr. Weideman serves as our Chief Marketing Officer. Under the terms of our
letter addressed to Mr. Weideman on September 26, 2002, in the event there is a
change in control of our company and Mr. Weideman's employment is terminated
within six months of the change in control, all of his stock options will become
fully vested as of the effective date of the termination of his employment.

Mr. Wittner serves as our Senior Vice President of Imaging Research and
Development. Under the terms of our letter addressed to Mr. Wittner in July
2000, in the event there is a change in control of our company and Mr. Wittner's
employment is terminated within twelve months of the change in control, all of
his stock options will become fully vested as of the effective date of the
termination of his employment. Additionally, in the event that Mr. Wittner's
position with us is eliminated for any reason other than for cause, Mr. Wittner
would be entitled to 52 weeks of severance pay, based on his base salary at the
time of termination.

RECENT OPTION GRANTS

The following table sets forth certain information regarding options
granted during the fiscal year ended December 31, 2002 to the Named Executive
Officers.

PERCENT OF
TOTAL POTENTIAL REALIZABLE VALUE AT
OPTIONS ASSUMED ANNUAL RATES OF
SECURITIES GRANTED TO STOCK PRICE APPRECIATION FOR
UNDERLYING EMPLOYEES EXERCISE OR OPTION TERM($)(2)
OPTIONS IN FISCAL BASE PRICE EXPIRATION -----------------------------
NAME GRANTED(#) YEAR(%)(1) ($/SHARE) DATE 5% 10%
---- ---------- ---------- ----------- ---------- ------------- -------------

Paul Ricci............ 11,554(3) .2362 5.3600 04/29/12 38,947.09 98,699.58
550,000(4) 11.2453 5.3600 04/29/12 1,853,981.36 4,698,352.77
450,000(4) 9.2007 6.9700 06/14/12 1,972,528.00 4,998,773.23
Michael Tivnan........ 22,918(3)(6) .4686 5.3600 04/29/12 77,253.72 195,776.09
100,000(5)(6) 2.0446 5.3600 04/29/12 337,087.52 854,245.96
Wayne Crandall........ 50,000(7) 1.0223 4.7000 02/11/12 147,790.24 374,529.48
13,125(3) .2684 5.3600 04/29/12 44,242.74 112,119.78
100,000(8) 2.0446 5.3600 04/29/12 337,087.52 854,245.96
100,000(8) 2.0446 6.9700 06/14/12 438,339.55 1,110,838.49
Richard S. Palmer..... 14,667(3) .2999 5.3600 04/29/12 49,440.63 125,292.25
Robert J. Weideman.... 10,500(3) .2147 5.3600 04/29/12 35,394.19 89,695.83

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

(1) Based on options to purchase an aggregate of 4,890,913 shares of common
stock granted to employees during fiscal 2002.

(2) Amounts represent hypothetical gains that could be achieved for the
respective options if exercised at the end of the option term. These gains
are based on assumed rates of stock appreciation of five percent (5%) and
ten percent (10%) compounded annually from the date the respective options
were granted to their expiration date and are not presented to forecast
possible future appreciation, if any, in the price of our common stock. The
gains shown are net of the option exercise price, but do not include
deductions for taxes or other expenses associated with the exercise of the
options or the sale of the underlying shares of common stock. The actual
gains, if any, on the stock option exercises will depend on the future
performance of our common stock, the optionee's continued employment through
applicable vesting periods and the date on which the options are exercised.

(3) Options granted to Mr. Ricci, Mr. Tivnan, Mr. Crandall, Mr. Palmer and Mr.
Weideman have a ten year term, and are exercisable 50% on 8/31/02 and 50% on
2/28/03.

(4) Options granted to Mr. Ricci have a ten year term, and are exercisable over
a two year period commencing one month after grant date.

(5) Options granted to Mr. Tivnan have a ten year term, and are 100% exercisable
on the grant anniversary date.

(6)Mr. Tivnan tendered his resignation as an executive officer and director
effective April 30, 2003. As a result of Mr. Tivnan's resignation, per an
amended agreement with Mr. Tivnan approved by our compensation committee, Mr.
Tivnan will be able to exercise all vested stock options with an exercise
price equal to or greater than $1.3438 for a period of one (1) year following
his effective termination date of April 30, 2004, and any vested stock
options with an exercise price less than $1.3438 for a period of eighty (80)
days following his effective termination date.

(7) Options granted to Mr. Crandall have a ten year term, and are exercisable
over a two year period commencing three months after grant date and monthly
thereafter.

(8)Options granted to Mr. Crandall have a ten year term, and are exercisable
over a four year period commencing one year after grant date and monthly
thereafter.

The following table shows the number of shares of common stock represented
by outstanding stock options held by each of the Named Executive Officers as of
December 31, 2002. No stock appreciation rights were granted in 2002 and none
were outstanding at December 31, 2002.

AGGREGATE OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION
VALUES(1)

NUMBER OF SECURITIES VALUE OF UNEXERCISED
SHARES UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS/SARS
ACQUIRED OPTIONS AT 12/31/02 AT 12/31/02
ON VALUE --------------------------- ---------------------------
EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
-------- -------- ----------- ------------- ----------- -------------

Paul A. Ricci.............. -- -- 2,821,609 714,945 $9,695,400 $ 17,550
Michael K. Tivnan.......... -- -- 988,395 216,459 3,640,686 232,050
Wayne Crandall............. -- -- 502,781 315,126 1,779,034 198,281
Richard S. Palmer.......... -- -- 494,834 169,833 1,463,055 401,750
Robert J. Weideman......... -- -- 140,666 369,834 243,749 656,251

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

(1) Based on a per share price of $5.20, the closing price of our common stock
as reported by the NASDAQ National Market on December 31, 2002, the last
trading day of the fiscal year, less the exercise price. The actual value of
unexercised options fluctuates with stock market activity.

COMPENSATION PLANS

1993 INCENTIVE STOCK OPTION PLAN

Our 1993 Incentive Stock Option Plan (the "1993 Plan") was adopted by our
board of directors and approved by our stockholders in February 1993. The 1993
Plan was last amended by our board of directors in June 2000.

General. The 1993 Plan provides for the granting of incentive stock
options within the meaning of Section 422 of the Internal Revenue Code of 1986,
as amended (the "Code"), and for the granting of nonstatutory stock options. As
of December 31, 2002, 1,363,904 shares had been issued upon exercise of options
granted under the 1993 Plan, options to purchase 2,506,085 shares were
outstanding, and 11 shares remained available for future grant. As of December
31, 2002, the fair market value of all shares of common stock subject to
outstanding options was $13,031,642, based on the closing sale price of $5.20
for our common stock as reported on the NASDAQ National Market on December 31,
2002. As of December 31, 2002, (i) options to purchase 1,883,713 shares of
common stock were outstanding under the 1993 Plan and held by all current
executive officers as a group, (ii) no options were outstanding and held by
current directors who are not executive officers and (iii) options to purchase
622,372 shares of common stock were outstanding and held by employees, including
current officers who are not executive officers, and consultants.

The 1993 Plan is not a qualified deferred compensation plan under Section
401(a) of the Code, and is not subject to the provisions of the Employee
Retirement Income Security Act of 1974, as amended. The maximum aggregate number
of shares which may be optioned and sold under the Plan is 3,870,000.

Purpose. The 1993 Plan seeks to attract and retain the best available
personnel, give our employees, officers, directors and consultants a greater
personal stake in the success of our business, and provide these individuals
with added incentive to continue and advance in their employment or services to
us.

Administration. The 1993 Plan may be administered by our board of
directors or by a committee designated by our board of directors; it is
currently administered by our board of directors and the compensation committee
of the board. Members of the board receive no additional compensation for their
services in connection with the administration of the 1993 Plan. All questions
of interpretation of the 1993 Plan are determined by the administrator, and
decisions of the administrator are final and binding upon all participants.

Eligibility. The 1993 Plan provides that options may be granted to our
employees (including officers and directors who are also employees) and
consultants. Incentive stock options may be granted only to

employees. The administrator selects the optionees and determines the number of
shares and the exercise price to be associated with each option. In making such
determination, there are taken into account the duties and responsibilities of
the optionee, the value of the optionee's services, the optionee's present and
potential contribution to our success, and other relevant factors. As of
December 31, 2002, there were approximately 489 employees eligible to
participate in the 1993 Plan. The 1993 Plan provides that the maximum number of
shares of common stock which may be granted under options to any one employee
during any fiscal year is 500,000, subject to certain adjustments. There is also
a limit on the aggregate market value of shares subject to all incentive stock
options that may be granted to an optionee during any calendar year.

Terms of Options. The terms of options granted under the 1993 Plan are
determined by the administrator. Each option is evidenced by a stock option
agreement between our company and the optionee and is subject to, among other
things, the following terms and conditions:

(a) Exercise of the Option. The optionee must earn the right to
exercise the option by continuing to work for us. The administrator
determines when options are exercisable. An option is exercised by giving
written notice of exercise to us specifying the number of full shares of
common stock to be purchased, and by tendering payment of the purchase
price to us. The method of payment of the exercise price of the shares
purchased upon exercise of an option is determined by the administrator.

(b) Exercise Price. The exercise price of options granted under the
1993 Plan is determined by the administrator, and must be at least equal to
the fair market value of the shares on the date of the first grant, in the
case of incentive stock options, and must not be less than 100% of the fair
market value per share on the date of grant, in the case of nonstatutory
incentive stock options, based upon the closing price on the NASDAQ
National Market on the date of grant. Incentive stock options granted to
stockholders owning more than 10% of our outstanding stock are subject to
the additional restriction that the exercise price on such options must be
at least 110% of the fair market value on the date of the grant.
Nonstatutory stock options granted to a covered employee under Section
162(m) of the Code are subject to the additional restriction that the
exercise price on such options must be at least 100% of the fair market
value on the date of grant.

(c) Termination of Employment. If the optionee's employment or
consulting relationship with us is terminated for any reason other than
death or total and permanent disability, options under the 1993 Plan may be
exercised not later than three months (or such other period of time not
exceeding 3 months and no less than 30 days as determined by the
administrator) after the date of such termination to the extent the option
was exercisable on the date of such termination. In no event may an option
be exercised by any person after the expiration of its term.

(d) Termination of Options. Incentive stock options granted under the
1993 Plan expire 10 years from the date of grant unless a shorter period is
provided in the option agreement. Incentive stock options and nonstatutory
stock options granted to stockholders owning more than 10% of our
outstanding stock may not have a term of more than five years and five
years and one day, respectively.

(e) Nontransferability of Options. Options are nontransferable by the
optionee, other than by will or the laws of descent and distribution, and
are exercisable only by the optionee during his or her lifetime.

(f) Acceleration of Option. In the event of a sale of all or
substantially all of our assets, or the merger with another corporation, an
option granted under the 1993 Plan will be assumed or an equivalent option
will be substituted by such successor corporation or a parent or subsidiary
of such successor corporation. The administrator may, in its discretion,
make provisions for the acceleration of the optionee's right to exercise
his or her outstanding options in full.

Amendment and Termination. The board of directors may amend the 1993 Plan
at any time or from time to time or may terminate it without approval of the
stockholders, with certain exceptions. The 1993

Plan terminated in February 2003, but any options then outstanding under the
1993 Plan will remain outstanding until they expire by their terms.

1995 EMPLOYEE STOCK PURCHASE PLAN

Our 1995 Employee Stock Purchase Plan (the "1995 ESPP") was adopted by our
board of directors and approved by our stockholders in November 1995. It was
last amended and restated as of April 27, 2000.

General. The 1995 ESPP is intended to qualify under the provisions of
Section 423 of the Code, is not a qualified deferred compensation plan under
Section 401(a) of the Code, and is not subject to the provisions of ERISA. A
total of 1,000,000 shares are currently authorized to be issued under the 1995
ESPP. Our board of directors has approved an amendment to the 1995 ESPP, subject
to stockholder approval, to increase the number of shares authorized for
issuance thereunder from 1,000,000 to 1,500,000. As of December 31, 2002, a
total of 688,388 shares had been issued to our employees under the 1995 ESPP,
and 311,612 shares remained available for future issuance. The average per share
issuance price for shares purchased by employees under the 1995 ESPP to date is
approximately $2.7414. As of December 31, 2002, approximately 264 employees were
eligible to participate in the 1995 ESPP.

Purpose. The purpose of the 1995 ESPP is to provide employees with an
opportunity to purchase our common stock through accumulated payroll deductions.
Employees make such purchases by participation in regular offering periods from
which they may withdraw at any time.

Administration. The 1995 ESPP may be administered by our board of
directors or a committee appointed by our board of directors. Currently the 1995
ESPP is administered by our board of directors. Our board of directors or its
committee has full power to adopt, amend and rescind any rules deemed desirable
and appropriate for the administration of the 1995 ESPP, to construe and
interpret the 1995 ESPP, and to make all other determinations necessary or
advisable for the administration of the 1995 ESPP.

Eligibility. Any person who, on the first day of an offering period, is
customarily employed by us for at least 20 hours per week and more than five
months in any calendar year is eligible to participate in the 1995 ESPP.

Offering Dates. In general, the 1995 ESPP is implemented by a series of
offering periods of 12 months duration, with new offering periods commencing on
or about February 16 and August 16 of each year. Each offering period consists
of two consecutive purchase periods of six months duration, with the last day of
such period being designated a purchase date. Our board of directors has the
power to change the duration and frequency of the offering and purchase periods
with respect to future offerings without stockholder approval if such change is
announced at least fifteen days prior to the scheduled beginning of the first
offering or purchase period to be affected.

Participation in the 1995 ESPP. Eligible employees may participate in the
1995 ESPP by completing an enrollment form provided by us and filing it with us
prior to the applicable offering date, unless a later time for filing the
enrollment form is set by our board of directors for all eligible employees with
respect to a given offering. The enrollment form currently authorizes payroll
deductions of not less than 1% and not more than 12% of the participant's
eligible compensation on the date of the purchase.

Purchase Price. The purchase price per share sold under the 1995 ESPP is a
price equal to the lower of 85% of the fair market value of the common stock at
the beginning of the offering period or the purchase date. The fair market value
is the per share closing price of the common stock on the NASDAQ National Market
as of such date reported by NASDAQ.

Payment of Purchase Price; Payroll Deductions. The purchase price of the
shares is accumulated by payroll deductions during the offering period. The
deductions may be up to 12% of a participant's eligible compensation received on
each payday during the offering period. Eligible compensation is defined in the
1995 ESPP to include the regular straight time gross earnings excluding payments
for overtime, shift

premium, incentive compensation, bonuses and commissions. A participant may
discontinue his or her participation in the 1995 ESPP at any time during the
offering period prior to a purchase date, and may decrease the rate of his or
her payroll deductions once during the offering period by completing and filing
a new enrollment form. No interest accrues on the payroll deductions of a
participant in the 1995 ESPP.

Purchase of Stock; Exercise of Option. By executing an enrollment form to
participate in the 1995 ESPP, the participant is entitled to have shares placed
under option. Unless the participant's participation is discontinued, each
participant's option for the purchase of shares will be exercised automatically
at the end of each purchase period at the applicable price. Notwithstanding the
foregoing, no participant shall be permitted to subscribe for shares under the
1995 ESPP if immediately after the grant of the option he or she would own 5% or
more of the voting power or value of all classes of our stock or of any of our
subsidiaries (including stock which may be purchased under the 1995 ESPP or
pursuant to any other options), nor shall any participant be granted an option
which would permit the participant to buy pursuant to all of our employee stock
purchase plans more than $25,000 worth of stock (determined at the fair market
value of the shares at the time the option is granted) in any calendar year.

Termination of Employment. Upon termination of a participant's continuous
status as an employee prior to the purchase date of an offering period for any
reason, including retirement or death, he or she will be deemed to have elected
to withdraw from the 1995 ESPP and the contributions credited to his or her
account but not yet used to exercise his or her option under the 1995 ESPP will
be returned to him or her.

Nontransferability. No rights or accumulated payroll deductions of a
participant under the 1995 ESPP may be pledged, assigned or transferred for any
reason.

Amendment and Termination of the 1995 ESPP. The board of directors may at
any time amend or terminate the 1995 ESPP, except that such termination shall
not affect options previously granted.

1995 DIRECTORS' STOCK OPTION PLAN

Our 1995 Directors' Stock Option Plan (the "1995 Directors' Plan") was
adopted by our board of directors and approved by our stockholders in October,
1995, and was last amended by our board of directors on April 5, 2002 and by our
stockholders on June 14, 2002. As of December 31, 2002, there were options to
purchase 355,000 shares of common stock outstanding under the 1995 Directors'
Plan, with exercise prices ranging from $0.6563 to $5.9375 per share.
Additionally, as of the same date, 450,000 shares remained available for future
grant under the 1995 Directors' Plan.

General. The 1995 Directors' Plan currently provides for the
non-discretionary grant of non-statutory stock options. Non-statutory stock
options granted under the 1995 Directors' Plan are intended not to qualify as
incentive stock options within the meaning of Section 422 of the Code.

Purpose. We, by means of the 1995 Directors' Plan, seek to attract and
retain the best available personnel for service as directors, to provide
additional incentive for such persons to exert maximum efforts to promote our
success, and to encourage their continued service on our board of directors.

Administration. Our board of directors administers the 1995 Directors'
Plan. The board has the power to construe and interpret the 1995 Directors' Plan
and options granted under it, to establish, amend, and revoke rules and
regulations for its administration, to amend the 1995 Directors' Plan, and
generally to exercise such powers and to perform such acts as the board deems
necessary or expedient to promote our best interests.

Eligibility. Options may be granted under the 1995 Directors' Plan only to
our non-employee directors. A "non-employee director" is a director who is not
an employee of our company or of any "parent" or "subsidiary" of our company, as
those terms are defined in the Code. The payment of a director's fee by us is
not sufficient in and of itself to constitute "employment." Four of our five
current directors (all except Mr. Ricci) are eligible to participate in the 1995
Directors' Plan.

Stock Subject to the 1995 Directors' Plan. If options granted under the
1995 Directors' Plan expire or otherwise terminate without being exercised, the
common stock not purchased pursuant to such options again becomes available for
issuance under the 1995 Directors' Plan. The number of shares authorized for
issuance under the 1995 Directors' Plan is 820,000.

Terms and Conditions of Options. Each option under the 1995 Directors'
Plan is subject to the following terms and conditions:

(a) Non-Discretionary Grants. Option grants are non-discretionary.
Each non-employee director is automatically granted an option to purchase
shares of common stock as follows:

- an initial grant of 50,000 on the date the person first becomes a
non-employee director; and

- an annual, subsequent grant of 15,000 on January 1 of each year,
provided that, on such date, the non-employee director has served on
our board of directors for at least six months.

At the June 2001 meeting, the stockholders approved a non-automatic
grant to any director who was an eligible director on January 23, 2001 of
an additional 40,000 shares. The 40,000 shares consist of (i) 30,000 shares
to raise their initial grant from 20,000 to 50,000 and (ii) 10,000 shares
to raise their subsequent grant from 5,000 to 15,000 (before the June 2001
amendment, the initial grant comprised 20,000 shares and the subsequent
grant comprised 5,000 shares). Each eligible director was granted 40,000
options on June 27, 2001.

(b) Exercise Price; Payment. The exercise price of each option
granted under the 1995 Directors' Plan is equal to 100% of the fair market
value of the common stock subject to such option on the date such option is
granted.

We may not: reduce the exercise price of any stock option, including
stock appreciation right, outstanding or to be granted in the future under
the 1995 Directors' Plan; cancel and re-grant options at a lower exercise
price (including entering into any "6 month and 1 day" cancellation and
re-grant scheme), whether or not the cancelled options are put back into
the available pool for grant; replace underwater options with restricted
stock in an exchange, buy-back or other scheme; or replace any options with
new options having a lower exercise price or accelerated vesting schedule
in an exchange, buy-back or other scheme.

(c) Option Vesting. Options granted pursuant to the 1995 Directors'
Plan may be exercised while the non-employee director is a director and for
a period of 90 days after ceasing to be a director. The exercise price per
share of the option is 100% of the fair market value per share on the grant
date. The initial grant vests over four years in 25% installments on the
anniversary of the grant date. The subsequent grant is exercisable as to
100% of the shares subject to the subsequent grant on the first anniversary
of the date of grant of the subsequent grant.

(d) Termination of Options. Currently no option granted under the
1995 Directors' Plan is exercisable after the expiration of ten years from
the date the option was granted.

(e) Non-transferability of Options. Options granted under the 1995
Directors' Plan are not transferable except by will or by the laws of
descent and distribution, and are exercisable during the lifetime of the
person to whom the option is granted only by such person or by his or her
guardian or legal representative.

Adjustment Provisions. If there is any change in the stock subject to the
1995 Directors' Plan or subject to any option granted under the 1995 Directors'
Plan (through merger, consolidation, reorganization, re-capitalization, stock
dividend, dividend in property other than cash, stock split, liquidating
dividend, combination of shares, exchange of shares, change in corporate
structure, or otherwise), the 1995 Directors' Plan and options outstanding
thereunder will be appropriately adjusted as to the class and maximum number of
shares subject to the 1995 Directors' Plan and the class, number of shares, and
price per share of stock subject to such outstanding options.

Effect of Certain Corporate Events. In the event of (i) a dissolution or
liquidation of our company, (ii) a sale of all or substantially all of our
assets, (iii) a merger or consolidation in which we are not the surviving
corporation, or (iv) any other capital reorganization in which more than 50% of
our shares entitled to vote are exchanged, we shall give to directors, at the
time of adoption of the 1995 Directors' Plan for liquidation, dissolution, sale,
merger, consolidation or reorganization, either a reasonable time thereafter
within which to exercise the option, including shares as to which the option
would not be otherwise exercisable, prior to the effectiveness of such
liquidation, dissolution, sale, merger, consolidation or reorganization, at the
end of which time the option shall terminate, or the right to exercise the
option, including shares as to which the option would not be otherwise
exercisable (or receive a substitute option with comparable terms), as to an
equivalent number of shares of stock of the corporation succeeding us or
acquiring our business by reason of such liquidation, dissolution, sale, merger,
consolidation or reorganization.

Duration, Amendment, and Termination. The board may suspend or terminate
the 1995 Directors' Plan at any time. Unless sooner terminated, the 1995
Directors' Plan terminates in October 2005. The board also may amend or
terminate the 1995 Directors' Plan from time to time in such respects as the
board may deem advisable.

1997 EMPLOYEE STOCK OPTION PLAN

Our 1997 Employee Stock Option Plan (the "1997 Plan") became effective on
January 1, 1997 and was last amended by our board of directors effective June,
2000.

General. The 1997 Plan provides for the granting of nonstatutory stock
options within the meaning of Section 422 of the Code. As of December 31, 2002,
312,476 shares had been issued upon exercise of options granted under the 1997
Plan, options to purchase 908,030 shares were outstanding, and 79,494 shares
remained available for future grant. As of December 31, 2002, the fair market
value of all shares of common stock subject to outstanding options was
$4,721,756, based on the closing sale price of $5.20 for our common stock as
reported on the NASDAQ National Market on December 31, 2002. As of December 31,
2002, (i) options to purchase 164,667 shares of common stock were outstanding
under the 1997 Plan and held by all current executive officers as a group (3
persons), (ii) options to purchase 20,000 shares were outstanding under the 1997
Plan and held by current directors (one person) who are not executive officers
and (iii) options to purchase 723,363 shares of common stock were outstanding
and held by employees, including current officers who are not executive
officers, and consultants.

Purpose. The purposes of the 1997 Plan are to attract and retain the best
available personnel for positions of substantial responsibility, to provide
additional incentive to our employees and consultants and to promote the success
of our business.

Administration. The 1997 Plan may be administered by our board of
directors or by a committee designated by our board of directors; it is
currently administered by our board of directors and the compensation committee
of the board. Members of the board receive no additional compensation for their
services in connection with the administration of the 1997 Plan. All questions
of interpretation of the 1997 Plan are determined by the administrator, and
decisions of the administrator are final and binding upon all participants.

Eligibility. The 1997 Plan provides that options may be granted to our
employees and consultants. For the purposes of the 1997 Plan, officers, named
executive officers and directors are not considered employees and are not
eligible to receive grants under the 1997 Plan unless they fall under a special
exception. The exception is that officers who are not previously employed by us
and for whom an option grant is an essential inducement for the officer to join
us may be treated as an employee for purposes of receiving a grant under the
1997 Plan. As of December 31, 2002, we had approximately 489 employees, seven
directors (including two employee directors), and 24 consultants. The
administrator, in its discretion, selects the employees and consultants to whom
options may be granted, the time or times at which such options are granted, and
the exercise price (within the limits described below) and number of shares
subject to each such grant.

Terms of Options. The terms of options granted under the 1997 Plan are
determined by the administrator. Each option is evidenced by a stock option
agreement between our company and the optionee and is subject to, among other
things, the following terms and conditions:

(b) Exercise Price. The administrator determines the exercise price
of options at the time the options are granted. The exercise price of a
stock option may not be less than 100% of the fair market value of the
common stock on the date such option is granted. The fair market value of
the common stock is generally determined with reference to the closing
sales price for the common stock (or the closing bid if no sales were
reported) on the date the option is granted.

We may not: reduce the exercise price of any stock option outstanding
or to be granted in the future under the 1997 Plan; cancel and re-grant
options at a lower exercise price (including entering into any "6 month and
1 day" cancellation and re-grant scheme), whether or not the cancelled
options are put back into the available pool for grant; replace underwater
options with restricted stock in an exchange, buy-back or other scheme; or
replace any options with new options having a lower exercise price or
accelerated vesting schedule in an exchange, buy-back or other scheme.

(c) Termination of Employment. If the optionee's employment or
consulting relationship with us is terminated for any reason other than
death or total and permanent disability, options under the 1997 Plan may be
exercised not later than thirty days (or such other period of time not
exceeding the expiration of the term of the option, as determined by the
administrator) after the date of such termination to the extent the option
was exercisable on the date of such termination. In no event may an option
be exercised by any person after the expiration of its term.

(d) Termination of Options. Nonstatutory options granted under the
1997 Plan expire ten years from the date of grant unless a shorter period
is provided in the option agreement.

(e) Nontransferability of Options. Generally, options under the 1997
Plan are nontransferable by the optionee, other than by will or the laws of
descent and distribution, and are exercisable only by the optionee during
his or her lifetime. However, the administrator may, in its discretion,
grant transferable nonstatutory stock options pursuant to option agreements
specifying (i) the manner in which the nonstatutory options are
transferable and (ii) that any such transfer be subject to applicable law.

(f) Effect of Corporate Transactions. In the event of our proposed
dissolution or liquidation, the options under the 1997 Plan will terminate
immediately prior to the consummation of the proposed action, unless
otherwise provided by the administrator. The administrator may, in the
exercise of its sole discretion in such instances, declare that any option
be terminated as of a date fixed by the administrator and give each
optionee the right to exercise the optionee's option as to all or any part
of the option, including shares as to which the option would not otherwise
be exercisable. In the event of a sale of all or substantially all of our
assets, or our merger with another corporation, an option granted under the
1997 Plan will be assumed or an equivalent option will be substituted by
the successor corporation or a parent or subsidiary of the successor
corporation. If the successor corporation does not assume or provide
substitute options, the administrator will make provisions for the
acceleration of the optionee's right to exercise his or her outstanding
options in full. If the administrator makes an option fully exercisable in
lieu of assumption or substitution in the event of a merger or sale of
assets, the administrator will notify the optionee that the option will be
fully exercisable for a period of 15 days from the date of the notice, and
the option will terminate upon the expiration of such period.

Amendment and Termination. Our board of directors may terminate the 1997
Plan, or may amend the 1997 Plan from time to time in any respect, as it feels
advisable. The 1997 Plan will terminate in January, 2007, but any options then
outstanding under the 1997 Plan will remain outstanding until they expire by
their terms.

1998 STOCK OPTION PLAN

Our 1998 Stock Option Plan (the "1998 Plan") was assumed by us upon the
consummation of the merger between Visioneer, Inc. and ScanSoft, Inc. on March
12, 1999. As of December 31, 2002, there were outstanding options to purchase
919,081 shares of common stock under the 1998 Plan, with exercise prices ranging
from $0.6100 to $1.3438 per share. As of December 31, 2002, there were no shares
available for future grants.

General. The purpose of the 1998 Plan is to obtain and retain the services
of the types of employees, consultants, officers and directors who will
contribute to our long range success and to provide incentives which are linked
directly to increases in share value which will benefit all of our stockholders.
Options granted under the 1998 Plan may be either "incentive stock options" or
nonstatutory stock options. However, only officers and employees are eligible to
be granted incentive stock options.

Administration. The 1998 Plan may be administered by our board of
directors or a committee appointed by our board of directors. The administrator
may make any determinations deemed necessary or advisable for the 1998 Plan.

Eligibility. Directors, officers, employees and consultants who, as
determined by the administrator, are responsible for or contribute to the
management, growth or profitability of our business may be granted stock options
under the 1998 Plan. However, only officers and employees may be granted
incentive stock options. As of December 31, 2002, we had approximately 489
employees, six directors (including two employee directors), and 24 consultants.
The administrator, in its discretion, selects the directors, officers, employees
and consultants to whom options may be granted, the time or times at which such
options are granted, and the exercise price (within the limits described below)
and number of shares subject to each such grant.

Limitations. The 1998 Plan provides that no one may be granted, during any
one year period, options to purchase more than 1,000,000 shares of our common
stock.

Terms and Conditions of Options. Each option is evidenced by a stock
option agreement between our company and the optionee, and is subject to the
following terms and conditions:

(a) Exercise Price. The administrator determines the exercise price
of options at the time the options are granted. The exercise price for
incentive stock options may not be less than 100% of the fair market value
of the shares of stock on the grant date. In the case of nonstatutory
options, the exercise price may be determined in the sole discretion of the
administrator, provided, that the exercise price may not be less than 85%
of the fair market value of the shares of stock on the grant date of the
nonstatutory option. In the case of either an incentive stock option or a
nonstatutory option granted to a 10% stockholder, the exercise price may
not be less than 110% of the fair market value. The fair market value of
our common stock is generally determined with reference to the closing sale
price for the common stock on the last market trading day prior to the date
the option is granted.

(b) Exercise of Option; Form of Consideration. The administrator
determines when options become exercisable, and may in its discretion,
accelerate the vesting of any outstanding option. The 1998 Plan provides
that options granted under the 1998 Plan must vest at a rate of at least
20% per year over a period of five years from the grant date, unless a
lower vesting rate or longer vesting period is permitted by applicable law
or regulation. In the case of an incentive stock option granted to a 10%
stockholder, the vesting or exercise period may not exceed five years from
the grant date. The 1998 Plan provides that the exercise price must be paid
in full at the time of exercise in cash.

(c) Term of Option. The term of an incentive stock option may be no
more than ten years from the grant date; provided, however, that in the
case of an incentive stock option granted to a 10% stockholder, the term of
the option may be no more than five years from the date of grant. No option
may be exercised after the expiration of its term.

(d) Termination of Service. If an optionee's service relationship
terminates for any reason, then the optionee generally may exercise the
option within 80 days of such termination, to the extent that the option is
vested on the date of termination (but in no event later than the
expiration of the term of such option as set forth in the option
agreement).

(e) Nontransferability of Options. Unless otherwise determined by the
administrator, options granted under the 1998 Plan are not transferable
other than by will or the laws of descent and distribution, and may be
exercised during the optionee's lifetime only by the optionee or by the
optionee's guardian or legal representative.

(f) Other Provisions. The stock option agreement may contain other
terms, provisions and conditions not inconsistent with the 1998 Plan as may
be determined by the administrator.

Adjustments Upon Changes in Capitalization. In the event that our stock
changes by reason of any stock split, reverse stock split, stock dividend,
recapitalization, combination or reclassification in our capital structure,
appropriate adjustments shall be made in the number and class of shares of stock
subject to the 1998 Plan, the number and class of shares of stock subject to any
option outstanding under the 1998 Plan, and the exercise price of any such
outstanding option or stock purchase right.

In the event of a liquidation or dissolution, the administrator may provide
that the holder of any option then exercisable have the right to exercise that
option subsequent to the liquidation or dissolution, and for the balance of its
term, solely for the kind and amount of shares of stock and other securities,
cash or other property receivable upon such liquidation or dissolution by a
holder of the number of shares of stock for which the option might have been
exercised immediately prior to the liquidation or dissolution. The administrator
may also provide, in the alternative, that each option granted under the 1998
Plan terminate as of a date to be fixed by the Board provided that written
notice is given to each optionee at least 30 days prior to the termination date.
Each option holder then has the right, during the 30 days preceding the option
termination, to exercise the option as to all or any part of the shares of stock
covered by the option, to the extent that the option is then exercisable.

In the case of any capital reorganization, any reclassification of the
common stock (other than a change in par value or recapitalization), or the
consolidation of our company with, or a sale of substantially all of our assets
(which sale is followed by our liquidation or dissolution), or merger of our
company with another person (a "Reorganization Event"), the administrator is to
determine whether the Reorganization Event constitutes a liquidation or
dissolution and to deliver to optionees at least 15 days prior to the
Reorganization Event a notice which (i) indicates whether the Reorganization
Event is a liquidation or dissolution, and (ii) advises the optionee of his or
her rights pursuant to the stock option agreement.

If the Reorganization Event is determined to be a liquidation or
dissolution, in its sole and absolute discretion, the surviving corporation may,
but is not be obligated to, (i) tender stock options to the optionee with
respect to the surviving corporation which contains terms and provisions that
substantially preserve the rights and benefits of the optionee, and (ii) in the
event that no stock options have been tendered by the surviving corporation, the
optionee has the right exercisable during a 10-day period ending on the fifth
day prior to the Reorganization Event to exercise his or her options, to the
extent that such options are then exercisable.

If the Reorganization Event is not determined to be a liquidation or
dissolution, the optionee is entitled upon exercise of the option to purchase
the kind and number of shares of stock or other securities, cash or other
property of the surviving corporation receivable upon such event by a holder of
the number of shares of the common stock which the option entitles the optionee
to purchase from us immediately prior to such event. In the case of any
Reorganization Event that is a reorganization, merger or
64

consolidation in which we are not the surviving corporation, the administrator
may, in its sole and absolute discretion, accelerate the vesting period of the
options.

Amendment and Termination of the 1998 Plan. Our board of directors may
amend, alter, or discontinue the 1998 Plan. However, we must obtain stockholder
approval for any amendment to the 1998 Plan which would: (i) increase the total
number of shares of stock reserved for the purposes of the 1998 Plan; (ii)
materially increase the benefits accruing to eligible persons under the 1998
Plan; or (iii) materially modify the requirements for eligibility under the 1998
Plan. No such action by the board of directors or stockholders may alter or
impair any option previously granted under the 1998 Plan without the written
consent of the optionee. No options may be granted under the 1998 Plan on or
after December 31, 2002.

2000 STOCK PLAN

Our 2000 Stock Plan (the "2000 Plan") was adopted by our board of directors
and approved by our stockholders in May, 2000, and was last amended by the board
on April 5, 2002 and by our stockholders on June 14, 2002. As of December 31,
2002, there were options to purchase 2,612,837 shares of common stock under the
2000 Plan, with exercise prices ranging from $1.2813 to $6.97 per share. In
addition, as of the same date, there were available for future grant options to
purchase 1,701,113 shares of common stock.

General. The purpose of the 2000 Plan is to attract and retain the best
available personnel for positions of substantial responsibility, to provide
additional incentive to our employees and consultants and to promote the success
of our business. Options granted under the 2000 Plan may be either incentive
stock options or nonstatutory stock options. Stock purchase rights may also be
granted under the 2000 Plan.

Administration. The 2000 Plan generally may be administered by the board
or a committee appointed by the board. The administrator may make any
determinations deemed necessary or advisable for the 2000 Plan.

Eligibility. Nonstatutory stock options and stock purchase rights may be
granted under the 2000 Plan to our employees, directors and consultants. As of
December 31, 2002, we had approximately 489 employees, seven directors
(including two employee directors), and 24 consultants. Incentive stock options
may be granted only to employees. The administrator, in its discretion, selects
the employees, directors and consultants to whom options and stock purchase
rights may be granted, the time or times at which such options and stock
purchase rights shall be granted, and the exercise price and number of shares
subject to each such grant; provided, however, the exercise price of a stock
option may not be less than 100% of the fair market value of the common stock on
the date such option is granted.

Limitations. Section 162(m) of the Code places limits on the deductibility
for federal income tax purposes of compensation paid to certain of our executive
officers. In order to preserve our ability to deduct the compensation income
associated with options granted to such persons, the 2000 Plan provides that no
employee may be granted, in any fiscal year, options or stock purchase rights to
purchase more than 750,000 shares of common stock. Notwithstanding this limit,
however, in connection with such individual's initial employment with us, he or
she may be granted options or stock purchase rights to purchase up to an
additional 750,000 shares of common stock.

Terms and Conditions of Options. Each option is evidenced by a stock
option agreement between our company and the optionee, and is subject to the
following terms and conditions:

(a) Exercise Price. The administrator determines the exercise price
of options at the time the options are granted. The exercise price of a
stock option may not be less than 100% of the fair market value of the
common stock on the date such option is granted; provided, however, that
the exercise price of an incentive stock option granted to a 10%
stockholder may not be less than 110% of the fair market value on the date
such option is granted. The fair market value of the common stock is
generally determined with reference to the closing sale price for the
common stock (or the closing bid if no sales were reported) on the last
market trading day prior to the date the option is granted.

We may not: reduce the exercise price of any stock option, including
stock appreciation right, outstanding or to be granted in the future under
the 2000 Plan; cancel and re-grant options at a lower exercise price
(including entering into any "6 month and 1 day" cancellation and re-grant
scheme), whether or not the cancelled options are put back into the
available pool for grant; replace underwater options with restricted stock
in an exchange, buy-back or other scheme; or replace any options with new
options having a lower exercise price or accelerated vesting schedule in an
exchange, buy-back or other scheme.

(b) Exercise of Option; Form of Consideration. The administrator
determines when options become exercisable, and may in its discretion,
accelerate the vesting of any outstanding option. The means of payment for
shares issued upon exercise of an option is specified in each option
agreement. The 2000 Plan permits payment to be made by cash, check,
promissory note, other shares of our common stock (with some restrictions),
cashless exercises, any other form of consideration permitted by applicable
law, or any combination thereof.

(c) Term of Option. The term of an incentive stock option may be no
more than ten years from the date of grant; provided, however, that in the
case of an incentive stock option granted to a 10% stockholder, the term of
the option may be no more than five years from the date of grant. No option
may be exercised after the expiration of its term.

(d) Termination of Service. If an optionee's service relationship
terminates for any reason (excluding death or disability), then the
optionee generally may exercise the option within 90 days of such
termination or within such time period as specified in the option
agreement, to the extent that the option is vested on the date of
termination, (but in no event later than the expiration of the term of such
option as set forth in the option agreement). If an optionee's service
relationship terminates due to the optionee's disability, the optionee
generally may exercise the option, to the extent the option was vested on
the date of termination, within 12 months, or as specified in the option
agreement, from the date of such termination. If an optionee's service
relationship terminates due to the optionee's death, the optionee's estate
or the person who acquires the right to exercise the option by bequest or
inheritance generally may exercise the option, as to the vested shares
subject to the option (not including unvested shares), within 12 months
from the date of such termination or as defined in the option agreement.

(e) Nontransferability of Options. Unless otherwise determined by the
administrator, options granted under the 2000 Plan are not transferable
other than by will or the laws of descent and distribution, and may be
exercised during the optionee's lifetime only by the optionee.

(f) Other Provisions. The stock option agreement may contain other
terms, provisions and conditions not inconsistent with the 2000 Plan as may
be determined by the administrator.

Stock Purchase Rights. In the case of stock purchase rights, unless the
administrator determines otherwise, the restricted stock purchase agreement
shall grant us a repurchase option exercisable upon the voluntary or involuntary
termination of the purchaser's employment with us for any reason (including
death or disability). The purchase price for shares repurchased pursuant to the
restricted stock purchase agreement shall be the original price paid by the
purchaser and may be paid by cancellation of any indebtedness of the purchaser
to us. The repurchase option shall lapse at a rate determined by the
administrator.

Adjustments Upon Certain Corporate Transactions. In connection with any
merger of our company with or into another corporation or the sale of all or
substantially all of our assets, each outstanding option and stock purchase
right shall be assumed or an equivalent option or right substituted by the
successor corporation. If the successor corporation refuses to assume the
options or rights or to substitute substantially equivalent options or rights,
the optionee shall have the right to exercise the option or stock purchase right
as to all the optioned stock, including shares not otherwise vested or
exercisable. In such event, the administrator shall notify the optionee that the
option or stock purchase right is fully exercisable for fifteen days from the
date of such notice and that the option terminates upon expiration of such
period.

Amendment and Termination of the 2000 Plan. Our board of directors may
amend, alter, suspend or terminate the 2000 Plan, or any part thereof, at any
time and for any reason. Unless terminated earlier, the 2000 Plan shall
terminate ten years from the date the 2000 Plan or any amendment to add shares
to the 2000 Plan was last adopted by the board.

2000 Plan Benefits. The amount and timing of options and awards granted
under the 2000 Plan are determined in the sole discretion of the administrator.
As a result, the benefits or amounts that will be received by, or allocated to,
our CEO, our other named executive officers and our current directors under the
2000 Plan for 2003 are not determinable. However, the following sets forth the
options or awards granted to such persons in fiscal year 2002. Amounts granted
in 2002 may not be representative of amounts granted in the future.

2000 NONSTATUTORY STOCK PLAN

Our 2000 Nonstatutory Stock Plan (the "2000 Nonstatutory Plan") was adopted
by our board of directors in May 2000. As of December 31, 2002, there were
options to purchase 5,811,858 shares of common stock outstanding under the 2000
Nonstatutory Plan, with exercise prices ranging from $0.6563 to $8.74 per share.
In addition, as of the same date, there were available for future grant options
to purchase 651,779 shares of common stock. Since that date, our board of
directors has twice amended the 2000 Nonstatutory Plan, on February 17, 2003 and
June 2, 2003, thereby increasing the number of shares reserved for issuance
under the 2000 Nonstatutory Plan by 3,000,000 shares.

General. The purpose of the 2000 Nonstatutory Plan is to attract and
retain the best available personnel for positions of substantial responsibility
to provide additional incentive to our employees and consultants and to promote
the success of our business. Options granted under the 2000 Nonstatutory Plan
are nonstatutory stock options.

Administration. The 2000 Nonstatutory Plan generally may be administered
by the board or a committee appointed by the board. The administrator may make
any determinations deemed necessary or advisable for the 2000 Nonstatutory Plan.

Eligibility. Nonstatutory stock options may be granted under the 2000
Nonstatutory Plan to our employees, directors and consultants. As of December
31, 2002, we had approximately 489 employees, six directors (including two
employee directors), and 24 consultants. The administrator, in its discretion,
selects the employees, directors and consultants to whom options may be granted,
the time or times at which such options shall be granted, and the exercise price
and number of shares subject to each such grant; provided, however, the exercise
price of a stock option may not be less than 100% of the fair market value of
the common stock on the date such option is granted.

Terms and Conditions of Options. Each option is evidenced by a stock
option agreement between our company and the optionee, and is subject to the
following terms and conditions:

(a) Exercise Price. The administrator determines the exercise price
of options at the time the options are granted. The exercise price of a
stock option may not be less than 100% of the fair market value of the
common stock on the date such option is granted. The fair market value of
the common stock is generally determined with reference to the closing sale
price for the common stock (or the closing bid if no sales were reported)
on the last market trading day prior to the date the option is granted.

We may not: reduce the exercise price of any stock option outstanding
or to be granted in the future under the 2000 Nonstatutory Plan; cancel and
re-grant options at a lower exercise price (including entering into any "6
month and 1 day" cancellation and re-grant scheme), whether or not the
cancelled options are put back into the available pool for grant; replace
underwater options with restricted stock in an exchange, buy-back or other
scheme; or replace any options with new options having a lower exercise
price or accelerated vesting schedule in an exchange, buy-back or other
scheme.

(b) Exercise of Option; Form of Consideration. The administrator
determines when options become exercisable, and may in its discretion,
accelerate the vesting of any outstanding option. The means of payment for
shares issued upon exercise of an option is specified in each option
agreement. The 2000 Nonstatutory Plan permits payment to be made by cash,
check, promissory note, other shares of our common stock (with some
restrictions), cashless exercises, any other form of consideration
permitted by applicable law, or any combination thereof.

(c) Term of Option. The term of each stock option is specified in
each option agreement. No option may be exercised after the expiration of
its term.

(d) Termination of Service. If an optionee's service relationship
terminates for any reason (excluding death or disability), then the
optionee generally may exercise the option within 3 months of such
termination or within such time period as specified in the option
agreement, to the extent that the option is vested on the date of
termination, (but in no event later than the expiration of the term of such
option as set forth in the option agreement). If an optionee's service
relationship terminates due to the optionee's disability, the optionee
generally may exercise the option, to the extent the option was vested on
the date of termination, within 12 months, or as specified in the option
agreement, from the date of such termination. If an optionee's service
relationship terminates due to the optionee's death, the optionee's estate
or the person who acquires the right to exercise the option by bequest or
inheritance generally may exercise the option, as to the vested shares
subject to the option (not including unvested shares), within 12 months
from the date of such termination or as defined in the option agreement.

(e) Nontransferability of Options. Unless otherwise determined by the
administrator, options granted under the 2000 Nonstatutory Plan are not
transferable other than by will or the laws of descent and distribution,
and may be exercised during the optionee's lifetime only by the optionee.

(f) Other Provisions. The stock option agreement may contain other
terms, provisions and conditions not inconsistent with the 2000
Nonstatutory Plan as may be determined by the administrator.

Adjustments Upon Certain Corporate Transactions. In connection with any
merger of our company with or into another corporation or the sale of all or
substantially all of our assets, each outstanding option shall be assumed or an
equivalent option substituted by the successor corporation. If the successor
corporation refuses to assume the options or to substitute substantially
equivalent options, the optionee shall have the right to exercise the option as
to all the optioned stock, including shares not otherwise vested or exercisable.
In such event, the administrator shall notify the optionee that the option is
fully exercisable for 15 days from the date of such notice and that the option
terminates upon expiration of such period.

Amendment and Termination of the 2000 Nonstatutory Plan. Our board of
directors may amend, alter, suspend or terminate the 2000 Nonstatutory Plan, or
any part thereof, at any time and for any reason. Unless terminated earlier, the
2000 Nonstatutory Plan shall terminate ten years from the date the 2000
Nonstatutory Plan or any amendment to add shares to the 2000 Nonstatutory Plan
was last adopted by the board.

401(K) RETIREMENT PLAN

The 401(k) plan provides that each participant may contribute up to 15% of
his or her pre-tax gross compensation up to the statutory limit, which was
$11,000 in calendar year 2002. Through October 15, 2002, we provided a match of
an employee's contributions dollar for dollar up to 4%. For example, if an
employee contributed 6% we matched at 4%; if the employee contributed 4% we
matched the 4%; if the employee contributed 2% we matched the 2%, and so on.
Employees are 100% vested into the plan as soon as they start to contribute to
the plan. Effective October 16, 2002, this match was discontinued.

LIMITATIONS ON DIRECTORS' LIABILITY AND INDEMNIFICATION

Our certificate of incorporation provides that our directors will not be
personally liable to our company or our stockholders for monetary damages for
breach of their fiduciary duties as directors, except liability for any of the
following:

- any breach of their duty of loyalty to the corporation or its
stockholders;

- acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of law;

- payments of dividends or approval of stock repurchases or redemptions
that are prohibited by Delaware law; or

- any transaction from which the director derived an improper personal
benefit.

This limitation of liability does not apply to liabilities arising under
the federal securities laws and does not affect the availability of equitable
remedies such as injunctive relief or rescission.

Our certificate of incorporation and bylaws provide that we shall indemnify
our directors, officers, employees and other agents to the fullest extent
permitted by law. We believe that indemnification under our bylaws covers at
least negligence and gross negligence on the part of indemnified parties. Our
bylaws also permit us to secure insurance on behalf of any officer, director,
employee or other agent for any liability arising out of his or her actions in
such capacity, regardless of whether Delaware law would permit indemnification.

We have entered into agreements to indemnify our directors and executive
officers, in addition to the indemnification provided for in our certificate of
incorporation and bylaws. These agreements, among other things, provide for
indemnification of our directors and officers for expenses, judgments, fines,
penalties and settlement amounts incurred by any such person in any action or
proceeding arising out of such person's services as a director or officer or at
our request.

We believe that these provisions and agreements are necessary to attract
and retain qualified persons as directors and executive officers. There is no
pending litigation or proceeding involving any of our directors, officers,
employees or agents. We are not aware of any pending or threatened litigation or
proceeding that might result in a claim for indemnification by a director,
officer, employee or agent.

CERTAIN RELATIONSHIPS AND SECURITIES TRANSACTIONS

RELATED PARTY TRANSACTIONS

At December 31, 2002, Xerox owned approximately 19% of our outstanding
common stock and all of our outstanding Series B Preferred Stock. In connection
with our acquisition of ScanSoft, then a wholly owned subsidiary of Xerox, in
1999 (in which we assumed the name "ScanSoft"), we issued 3,562,238 shares of
Series B Preferred Stock to Xerox. The Series B Preferred Stock is convertible
into shares of common stock on a share for share basis. The Series B Preferred
Stock has a liquidation preference of $1.30 per share plus all declared but
unpaid dividends. The Series B Preferred Stockholders are entitled to
non-cumulative dividends at the rate of $0.065 per annum per share, payable
when, as and if declared by our board of directors. To date no dividends have
been declared by our board of directors. Holders of Series B Preferred Stock
have no voting rights, except those rights provided under Delaware law.

In addition, Xerox has the opportunity to acquire additional shares of
common stock pursuant to a ten-year warrant. The warrant allows Xerox to acquire
a number of shares of common stock equal to the number of options (whether
vested or unvested) that remain unexercised at the expiration of any ScanSoft
option assumed by us in the merger. The exercise price for each warrant share is
$0.61. If all of the assumed ScanSoft options expire without being exercised,
Xerox would be entitled to purchase 1,736,630 shares of common stock. The
warrant was fully vested on the date of grant; however, Xerox could not exercise
the warrant prior to March 2, 2002, unless, immediately after such exercise,
Xerox owned directly or indirectly less than 45% of our shares of common stock
outstanding immediately after such exercise. From the date of acquisition
through May 30, 2003, approximately 525,732 ScanSoft options have been forfeited
and accordingly, the Xerox warrant was exercisable for the purchase of 525,732
shares of our common stock.

We have entered into multiple non-exclusive agreements with Xerox in which
we grant Xerox the royalty-bearing right to copy and distribute certain versions
of our software programs with Xerox's multi-function peripherals. Xerox
accounted for 5%, 11% and 12% of total net revenues during each of the years
ended December 31, 2002, 2001 and 2000, respectively, amounting to $5.1 million,
$7.2 million and $6.0 million, respectively. As of December 31, 2002 and 2001,
Xerox owed us $1.5 million and $1.8 million, respectively, pursuant to these
agreements, which are included in accounts receivable. We believe that the terms
of our agreements with Xerox are no more favorable than those with unrelated
parties.

In connection with the Caere acquisition in the first quarter of 2000 and
pursuant to a concurrent non-competition and consulting agreement, we agreed to
pay the former Caere President and CEO, Robert Teresi, a current member of our
board of directors, on the second anniversary of the merger, March 13, 2002, the
difference between $13.50 and the closing price per share of our common stock at
that time, multiplied by 486,548. On March 5, 2002, we negotiated a deferred
payment agreement with the former Caere President and CEO to terminate this
agreement. Under the terms of the deferred payment agreement, we paid the former
Caere President and CEO $1.0 million in cash on March 5, 2002, and agreed to
make future cash payments totaling $3.3 million, with such amounts payable in
equal quarterly installments of approximately $0.4 million over the following
two years. During the year ended December 31, 2002, we paid three quarterly
installments under this agreement totaling $1.2 million. The total consideration
under the original agreement was accounted for in the Caere purchase price and
accordingly had no effect on the results of operations. The remaining liability
at December 31, 2002 is $2.1 million, of which $1.6 million is included in other
current liabilities and $0.5 million is included in other long-term liabilities.

During the year ended December 31, 2002, the law firm of Wilson Sonsini
Goodrich & Rosati, Professional Corporation acted as our primary outside
corporate and securities counsel. Ms. Martin, one of our directors, is a member
of Wilson Sonsini Goodrich & Rosati. Aggregate fees and costs billed to us
during the year ended December 31, 2002 by Wilson Sonsini Goodrich & Rosati were
approximately

$935,000. We believe that the services performed by Wilson Sonsini Goodrich &
Rosati were provided on terms no more favorable than those with unrelated
parties.

SECURITIES TRANSACTIONS

On September 13, 1999, we purchased 600,000 shares of Series A Preferred
Stock at a cost of $0.25 per share for a total investment of $150,000 in
BookmarkCentral.com (which was recently renamed EchoBahn.com, Inc.). One of our
former directors is a founder and the current President and Chief Executive
Officer of EchoBahn. During 2001, we wrote-off our investment in EchoBahn after
determining that the investment was impaired. We accounted for the investment
under the cost basis method of accounting.

In September 2002, we repurchased 1,461,378 shares of common stock from L&H
and certain other parties for $7.0 million. These shares represented a portion
of the common shares that we issued to the selling stockholders in connection
with our December 12, 2001 acquisition of certain of L&H's speech and language
technology operations and our March 21, 2002 acquisition of the AudioMining
assets of L&H Holdings USA, Inc. We agreed to issue 150,000 shares of our common
stock to the selling stockholders if we did not complete an underwritten public
offering for the selling stockholders by December 15, 2002. To fulfill this
obligation, on December 18, 2002, we issued 81,900 shares to Lernout & Hauspie
Speech Products, N.V. and 68,100 shares to L&H Holdings USA, Inc.

In connection with the Philips acquisition, in January 2003 we issued to
Philips a $27.5 million three-year, zero-interest convertible subordinate
debenture. This debenture is convertible into shares of our common stock at any
time at the option of Philips at a conversion price of $6.00 per share. We also
issued a note to Philips with a principal amount of euro 5 million due December
31, 2003 and bearing 5.0% interest per annum.

In connection with the March 31, 2003 acquisition of certain intellectual
property assets related to multimodal speech technology from Lobby7, Inc., we
issued a warrant expiring October 31, 2005, for the purchase of 78,000 shares of
our common stock at an exercise price of $8.10 per share.

PRINCIPAL STOCKHOLDERS

The following table sets forth certain information with respect to the
beneficial ownership of our common stock as of May 30, 2003, as to (1) each
person (or group of affiliated persons) who is known by us to own beneficially
more than 5% of our common stock; (2) each of our directors; (3) each officer
named in the Summary Compensation Table; and (4) all current directors and
executive officers as a group.

Beneficial ownership is determined in accordance with SEC rules and
includes voting or investment power with respect to securities. All shares of
common stock subject to options exercisable within 60 days of May 30, 2003 are
deemed to be outstanding and beneficially owned by the persons holding those
options for the purpose of computing the number of shares beneficially owned and
the percentage ownership of that person. They are not, however, deemed to be
outstanding and beneficially owned for the purpose of computing the percentage
ownership of any other person.

Subject to the paragraph above, percentage ownership of outstanding shares
is based on 66,150,349 shares of common stock outstanding as of May 30, 2003.

PERCENT OF
NUMBER OUTSTANDING
NAME AND ADDRESS OF BENEFICIAL OWNER (1) OWNED SHARES
---------------------------------------- ------------ -----------

Xerox Imaging Systems, Inc.(2).............................. 15,941,572 22.7%
800 Long Ridge Road
Stamford, CT 06904
State of Wisconsin Investment Board......................... 11,735,000 17.7%
P.O. Box 7842
Madison, WI 53707
Koninklijke Philips Electronics N.V.(3)..................... 4,587,334 6.5%
Breitner Centre
Amstelplein 2
107 MX Amsterdam, The Netherlands
Paul A. Ricci(4)............................................ 3,279,054 4.7%
Michael K. Tivnan(5)........................................ 1,027,554 1.5%
Mark B. Myers(6)............................................ 85,000 *
Katharine A. Martin(7)...................................... 101,000 *
Robert G. Teresi(8)......................................... 247,186 *
Robert J. Frankenberg(9).................................... 216,708 *
Wayne S. Crandall(10)....................................... 658,406 1.0%
Richard S. Palmer(11)....................................... 672,917 1.0%
Robert J. Weideman(12)...................................... 278,687 *
All directors and executive officers as a group (11
persons)(13).............................................. 7,061,735 9.7%

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

* Less than 1%.

(1) Unless otherwise indicated, the address for the following stockholders is
c/o ScanSoft, Inc., 9 Centennial Drive, Peabody, Massachusetts 01960.

(2) Includes a warrant that as of May 30, 2003 was exercisable for up to
525,732 shares of our common stock, and 3,562,238 shares of non-voting
Series B Preferred Stock. The shares that underlie this warrant and the
Series B shares have not been converted into common stock and are factored
into the calculation of Xerox's beneficial ownership only for the purposes
of this table. As of May 30, 2003, Xerox owned 11,853,602 shares of our
common stock. All of these securities are owned of record by Xerox Imaging
Systems, Inc., a wholly owned subsidiary of Xerox Corporation.

(3) Represents shares issuable upon conversion of a $27.5 million three-year,
zero-interest convertible debenture, convertible at any time at the option
of Koninklijke Philips Electronics N.V.

(4) Includes options to acquire 3,124,054 shares of our common stock that are
exercisable through July 29, 2003.

(5) Includes options to acquire 945,054 shares of our common stock that are
exercisable through July 29, 2003. Mr. Tivnan tendered his resignation as
an executive officer and director effective April 30, 2003.

(6) Represents options to acquire shares of our common stock that are
exercisable through July 29, 2003.

(7) Includes options to acquire 100,000 shares of our common stock that are
exercisable through July 29, 2003.

(8) Includes options to acquire 75,000 shares of our common stock that are
exercisable through July 29, 2003.

(9) Represents options to acquire shares of our common stock that are
exercisable through July 29, 2003.

(10) Includes options to acquire 630,406 shares of our common stock that are
exercisable through July 29, 2003.

(11) Includes 75,000 shares of restricted stock with a 2 1/2 year cliff vesting,
which vest 100% on April 17, 2004, and options to acquire 595,917 shares of
our common stock that are exercisable through July 29, 2003.

(12) Includes 58,854 shares of restricted stock, with restrictions lapsing 1/3
on each anniversary of the date of grant, of which 19,608 shares have been
released as of May 30, 2003, and options to acquire 218,833 shares of our
common stock that are exercisable through July 29, 2003.

(13) Includes 75,000 shares of restricted stock issued to Mr. Palmer (see note
11 above); 58,854 shares of restricted stock issued to Mr. Weideman (see
note 12 above); and options to acquire 6,481,787 shares of our common stock
that are exercisable through July 29, 2003.

SELLING STOCKHOLDERS

XEROX CORPORATION

The shares of common stock to be sold by Xerox pursuant to this prospectus
were issued in connection with our acquisition of ScanSoft (then an indirect
wholly owned subsidiary of Xerox) in March 1999. In the ScanSoft acquisition,
Xerox also was issued 3,562,238 shares of non-voting Series B Preferred Stock
and a ten-year warrant, which at December 31, 2002 was exercisable for the
purchase of up to 525,732 shares of our common stock. See "Certain Relationships
and Securities Transactions" for a discussion of the preferred stock and warrant
issued in the transaction. At May 30, 2003 Xerox owned approximately 17.9% of
our outstanding common stock and all of our outstanding Series B Preferred
Stock.

In addition to its share holdings in us, Xerox is a party to agreements
with us under which we derive a significant portion of our revenue. See "Certain
Relationships and Securities Transactions" above for further discussion.
Additionally, Herve J. Gallaire, Senior Vice President and Chief Technology
Officer of Xerox, served as one of our directors from June 27, 2001 until
September 25, 2002.

Other than as described above, Xerox has not had any position, office, or
other material relationship within the past three years with us or any of our
predecessors or affiliates.

STATE OF WISCONSIN INVESTMENT BOARD

The shares of common stock to be sold by SWIB pursuant to this prospectus
were issued and sold in a private placement by us pursuant to a Share Purchase
Agreement dated as of December 13, 2001, between our company and SWIB. Other
than SWIB's share holdings, SWIB has not had any position, office, or other
material relationship within the past three years with us or any of our
predecessors or affiliates.

SF CAPITAL PARTNERS, LTD.

The shares of common stock to be sold by SF Capital Partners Ltd. ("SF
Capital") pursuant to this prospectus were issued and sold in a private
placement by us pursuant to the Share Purchase Agreement dated as of April 12,
2002, between our company and SF Capital. Other than the SF Capital's share
holdings, SF Capital has not had any position, office, or other material
relationship within the past three years with us or any of our predecessors or
affiliates.

The aggregate number of shares of common stock included in this prospectus
that may be resold are summarized in the table below. All of the shares are
issued and outstanding as of May 30, 2003.

NUMBER OF SHARES NUMBER OF SHARES NUMBER OF SHARES
BENEFICIALLY OWNED REGISTERED FOR OWNED AFTER SALE OF
NAME OF REGISTERING STOCKHOLDER PRIOR TO OFFERING SALE(1) REGISTERED SHARES(2)
------------------------------- ------------------ ---------------- --------------------

Xerox Corporation(3)............... 11,853,602 4,500,000 7,353,602
State of Wisconsin Investment
Board(4)......................... 11,735,000 3,500,000 8,235,000
SF Capital Partners Ltd............ 1,000,000 1,000,000 --
---------- --------- ----------
Total............................ 24,588,602 9,000,000 15,588,602
========== ========= ==========

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

(1) This prospectus and the Registration Statement of which it is a part also
shall cover any additional shares of common stock which become issuable in
connection with the shares registered for sale hereby by reason of any stock
dividend, stock split, recapitalization or other similar transaction
effected without the receipt of consideration which results in an increase
in the number of outstanding shares of our common stock.

(2) The number presented assumes the sale of all of the shares covered by this
prospectus and that each party acquires no additional shares of common
stock.

(3) Based upon 66,150,349 shares outstanding as of May 30, 2003, Xerox currently
owns approximately 17.9% of our outstanding common stock and after the sale
of all of the shares registered hereby would own approximately

11.1% of our outstanding common stock. All shares are owned of record by
Xerox Imaging Systems, Inc., a wholly-owned subsidiary of Xerox Corporation.

(4) Based upon 66,150,349 shares outstanding as of May 30, 2003, SWIB currently
owns approximately 17.7% of our outstanding common stock and after the sale
of all the shares registered hereby would own approximately 12.4% of our
outstanding common stock.

PLAN OF DISTRIBUTION

We are registering all of the Shares on behalf of the Registering
Stockholders. All of the Shares were issued by us in private placement
transactions. We will receive no proceeds from this offering. The Registering
Stockholders may sell or distribute the Shares, from time to time depending on
market conditions and other factors, through underwriters, dealers, brokers or
other agents, or directly to one or more purchasers. We are paying substantially
all expenses incidental to their registration. The Registering Stockholders will
act independently of us in making decisions with respect to the timing, manner
and size of each sale. The sales may be made on one or more exchanges or in the
over-the-counter market or otherwise, at prices and at terms then prevailing or
at prices related to the then current market price, or in negotiated
transactions. The Registering Stockholders may effect such transactions by
selling the shares to or through broker-dealers. The Shares may be sold by one
or more of, or a combination of, the following:

- a block trade in which the broker-dealer so engaged will attempt to sell
the shares as agent but may position and resell a portion of the block as
principal to facilitate the transaction,

- purchases by a broker-dealer as principal and resale by such
broker-dealer for its account pursuant to this prospectus,

- an exchange distribution in accordance with the rules of such exchange,

- ordinary brokerage transactions and transactions in which the broker
solicits purchasers, and

- in privately negotiated transactions.

To the extent required, this prospectus may be amended or supplemented from
time to time to describe a specific plan of distribution. In effecting sales,
broker-dealers engaged by the Registering Stockholders may arrange for other
broker-dealers to participate in the re-sales. In connection with distributions
of such shares or otherwise, the Registering Stockholders may enter into hedging
transactions with broker-dealers or other financial institutions. In connection
with such transactions, broker-dealers or other financial institutions may
engage in short sales of our common stock in the course of hedging the positions
they assume with the Registering Stockholders. The Registering Stockholders may
also sell our common stock short and redeliver the shares to close out such
short positions. The Registering Stockholders may also enter into option or
other transactions with broker-dealers or other financial institutions which
require the delivery to such broker-dealer or other financial institution of the
shares offered hereby, which shares such broker-dealer or other financial
institution may resell pursuant to this prospectus (as supplemented or amended
to reflect such transaction). The Registering Stockholders may also pledge such
shares to a broker-dealer or other financial institution, and, upon a default,
such broker-dealer or other financial institution may effect sales of such
pledged shares pursuant to this prospectus (as supplemented or amended to
reflect such transaction). In addition, any such shares that qualify for sale
pursuant to Rule 144 may be sold under Rule 144 rather than pursuant to this
prospectus.

In effecting sales, brokers, dealers or agents engaged by the Registering
Stockholders may arrange for other brokers or dealers to participate. Brokers,
dealers or agents may receive commissions, discounts or concessions from the
Registering Stockholders in amounts to be negotiated prior to the sale. Such
brokers or dealers and any other participating brokers or dealers may be deemed
to be "underwriters" within the meaning of the Securities Act of 1933 in
connection with such sales, and any such commissions, discounts or concessions
may be deemed to be underwriting discounts or commissions under the Securities
Act of 1933. We will pay all reasonable expenses incident to the registration of
the Shares other than any commissions and discounts of underwriters, dealers or
agents.

In order to comply with the securities laws of certain states, if
applicable, the Shares being registered hereby must be sold in such
jurisdictions only through registered or licensed brokers or dealers. In
addition, in certain states such Shares may not be sold unless they have been
registered or qualified for sale in the applicable state or an exemption from
the registration or qualification requirement is available and there has been
compliance thereof.

We have agreed to indemnify the Registering Stockholders and persons
controlling the Registering Stockholders against certain liabilities, including
liabilities under the Securities Act of 1933. The Registering Stockholders have
agreed to indemnify us and certain related persons against certain liabilities,
including liabilities under the Securities Act of 1933.

We have agreed with the Registering Stockholders to keep this Registration
Statement effective until the earlier of (i) the date on which the Shares may be
resold by the Registering Stockholders without registration and without regard
to any volume limitations by reason of Rule 144(k) under the Securities Act or
any other rule of similar effect or (ii) when all of the Shares have been sold
pursuant to the Registration Statement.

DESCRIPTION OF CAPITAL STOCK

The following description of our capital stock is qualified in its entirety
by the provisions of our amended and restated certificate of incorporation and
bylaws, which have been incorporated by reference into this prospectus.

AUTHORIZED AND OUTSTANDING CAPITAL STOCK

Our charter provides that we are authorized to issue 140,000,000 shares of
common stock, $0.001 par value per share, and 40,000,000 shares of preferred
stock, $0.001 par value per share. As of May 30, 2003, there were outstanding
66,150,349 shares of common stock held by approximately 570 stockholders of
record, and 3,562,238 shares of Series B preferred stock held by Xerox. As of
May 30, 2003, there were no shares of Series A preferred stock outstanding.

COMMON STOCK

The holders of common stock are entitled to one vote per share on all
matters to be voted upon by the stockholders. Subject to preferences that may be
applicable to any outstanding preferred stock (see the section entitled
"Preferred Stock" below), the holders of common stock are entitled to receive
such dividends, if any, as may be declared from time to time by our board of
directors out of legally available funds. In the event of a liquidation,
dissolution or winding up, the holders of common stock are entitled to share
ratably in all assets remaining after payment of liabilities, subject to prior
rights of the preferred stock. The common stock has no preemptive or conversion
rights or other subscription rights. There are no redemption or sinking fund
provisions available to the common stock. The rights, preferences, and
privileges of holders of the common stock are subject to, and may be adversely
affected by, the rights of holders of shares of our preferred stock, as
discussed below.

PREFERRED STOCK

Our board of directors may issue preferred stock in different series and
classes and fix the dividend rights, dividend rate, conversion rights, voting
rights, rights and terms of redemption (including sinking fund provisions),
liquidation preferences, and other rights and preferences of preferred stock not
in conflict with our charter or Delaware law.

Our charter currently designates two series of preferred stock: the Series
A Participating Preferred Stock consisting of 100,000 shares and the Series B
Preferred Stock consisting of 15,000,000 shares. Our preferred stock may have
the effect of delaying, deferring or preventing a change in control without
further action by the stockholders (see the section entitled "Anti-Takeover
Provisions" below). Additionally, the issuance of preferred stock may adversely
affect the rights of the holders of common stock as follows:

- Dividends. Our preferred stock is entitled to receive dividends out of
any legally available assets, when and if declared by our board of
directors prior and in preference to any declaration or payment of any
dividend on the common stock. In addition, after the first issuance of
the Series A Participating Preferred Stock, we cannot declare a dividend
or make any distribution on the common stock unless we concurrently
declare a dividend on such Series A Participating Preferred Stock.
Moreover, we cannot pay dividends or make any distribution on the common
stock as long as dividends payable to the Series A Participating
Preferred Stock are in arrears. With respect to the Series B Preferred
Stock, we cannot declare a dividend or make any distribution on the
common stock unless full dividends on the Series B Preferred Stock have
been paid or declared and the sum sufficient for the payment set apart.

- Voting Rights. Each share of Series A Participating Preferred Stock
entitles its holder to 1,000 votes on all matters submitted to a vote of
our stockholders. In addition, the Series A Participating Preferred and
the common stock holders vote together as one class on all matters
submitted to a vote of our stockholders. The holders of Series B
Preferred Stock are not entitled to vote on any matter (except as
provided in Delaware law in connection with amendments to our charter
that,

among other things, would alter or change the rights and preferences of the
class, in which case each share of Series B Preferred Stock would be entitled to
one vote). However, the Series B Preferred Stock is convertible into common
stock, and as a result, may dilute the voting power of the common stock.

- Liquidation, Dissolution or Winding Up. The preferred stock is entitled
to certain liquidation preferences upon the occurrence of a liquidation,
dissolution or winding up. If there are insufficient assets or funds to
permit this preferential amount, then our entire assets and all of our
funds legally available for distribution will be distributed ratably
among the preferred stockholders. The remaining assets, if any, will be
distributed to the common stockholders on a pro rata basis.

- Preemptive Rights. Our Series A and Series B preferred stock do not have
any preemptive rights.

WARRANTS

As of May 30, 2003, Xerox owned a warrant to purchase up to a maximum of
525,732 shares of our common stock at an exercise price of $0.61 per share, and
Lobby7, Inc. owned a warrant to purchase up to a maximum of 78,000 shares of our
common stock at an exercise price of $8.10 per share.

REGISTRATION RIGHTS

Certain parties are entitled to have some of their shares of our stock
registered under the Securities Act pursuant to registration rights or share
purchase agreements between us and each of these parties. Specifically, Xerox
has the right to register all of its 11,441,572 shares, consisting of common,
preferred and warrant shares; and Merrill Lynch, Pierce Fenner & Smith
Incorporated ("Merrill Lynch") has the right to register 65,100 shares of our
common stock.

XEROX

Under a Registration Rights Agreement dated as of March 2, 1999 between our
company and Xerox, if Xerox requests that at least 10% of its registrable
securities be registered, we may be required, on up to three occasions, to
register Xerox's common, preferred and warrant shares for public resale. If we
are eligible to file registration statements on Form S-3, Xerox may require us
to register their remaining shares for public resale on Form S-3 up to two times
per 12-month period. Depending on market conditions, however, we may defer such
registration for up to 60 days.

Furthermore, in the event we elect to register any of shares of common
stock for purposes of effecting any public offering, Xerox is entitled to
include a portion of its shares of common stock in the registration, but we may
reduce the number of shares proposed to be registered in view of market
conditions.

All expenses in connection with any registration, other than underwriting
discounts and commissions, will be borne by us. Xerox's registration rights will
terminate when Xerox is entitled to sell all of its shares in any 90-day period
under Rule 144 of the Securities Act.

MERRILL LYNCH

Under a Registration Rights Agreement between our company and Merrill
Lynch, upon written request, Merrill Lynch may demand to have its registrable
securities registered for public resale on a Form S-3. In certain cases, we may
defer such registration for up to 60 days. All registration expenses incurred in
connection with our obligations under the Registration Rights Agreement will be
borne by us. The registration rights of Merrill Lynch are subordinate in all
respects to the registration rights of Xerox described above.

PHILIPS

Under a Plan of Distribution Agreement dated January 30, 2003 between our
company and Philips, Philips has agreed that prior to January 30, 2004, it will
not transfer or otherwise dispose of any shares of

common stock it receives upon conversion of its $27.5 million convertible
debenture. After this date, Philips may provide us with notice of its desire to
sell any of its shares, and we must discuss with Philips in good faith a
mutually agreeable plan of distribution for the shares desired to be sold. This
plan may include the registration of the shares for sale to the public or a
private placement. If we cannot mutually agree on a plan of distribution,
Philips may sell pursuant to Rule 144 or other applicable exemption from
registration a number of shares per fiscal quarter not greater than 25% of the
shares into which the convertible debenture was initially convertible. In any
event, after January 30, 2004, in the event we elect to register any of our
shares of common stock for purposes of effecting any public offering, Philips is
entitled to include a portion of its shares of common stock in the registration,
subject to reduction in certain circumstances.

ANTI-TAKEOVER PROVISIONS

Certain provisions of Delaware law, our Preferred Shares Rights Agreement,
and our certificate of incorporation and bylaws could make the following more
difficult: the acquisition of our company by means of a tender offer, or the
acquisition of control of our company by means of a proxy contest or otherwise.
These provisions, summarized below, are intended to discourage certain types of
coercive takeover practices and inadequate takeover bids, and are designed to
encourage persons seeking to acquire control to negotiate with our board of
directors. We believe that the benefits of increased protection against an
unfriendly or unsolicited proposal to acquire or restructure our company
outweigh the disadvantages of discouraging such proposals. Among other things,
negotiation of such proposals could result in an improvement of their terms.

THE DELAWARE BUSINESS COMBINATION STATUTE

We are subject to Section 203 of the General Corporation Law of the State
of Delaware. In general, Section 203 prohibits a publicly-held Delaware
corporation from engaging in a "business combination" with an "interested
stockholder" for a period of three years following the time the person became an
interested stockholder, unless, subject to certain other exceptions, the
"business combination" or the transaction in which the person became an
interested stockholder is approved by our board of directors in a prescribed
manner. Generally, a "business combination" includes a merger, asset or stock
sale, or other transaction resulting in a financial benefit to the interested
stockholder. Generally, an "interested stockholder" is a person who, together
with affiliates and associates, owns or, within three years prior to the
determination of interested stockholder status, did own, 15% or more of a
corporation's voting stock. The existence of this provision may have an
anti-takeover effect with respect to transactions not approved in advance by the
board of directors, including discouraging attempts that might result in a
premium over the market price for the shares of common stock held by
stockholders.

PREFERRED SHARES RIGHTS AGREEMENT

On October 23, 1996, our board of directors adopted a resolution creating a
series of preferred stock designated as Series A Participating Preferred Stock
and declaring a dividend of one preferred share purchase right for each
outstanding share of our common stock with each right entitling the registered
holder to purchase one one-thousandth of a share of our Series A Participating
Preferred Stock. The terms of the preferred share purchase rights are contained
in a Preferred Share Rights Agreement. This arrangement is designed to protect
and maximize the value of our outstanding equity interests in the company in the
event of an unsolicited attempt by an acquiror to take over our company in a
manner or on terms not approved by our board of directors. Takeover attempts
frequently include coercive tactics to deprive a corporation's board of
directors and its stockholders of any real opportunity to determine the
direction of the corporation.

The Preferred Shares Rights Agreement is aimed to deter such tactics. It
may have the effect of rendering more difficult or discouraging an acquisition
of our company deemed undesirable by our board of directors, by, for example,
causing substantial dilution to a person or group that attempts to acquire our
company on terms or in a manner not approved by our board of directors. The
preferred share purchase

rights described above are triggered within ten days after the accumulation of
20% or more of our outstanding common stocks by a single acquiror or group.

Our Preferred Share Rights Agreement and accompanying preferred share
purchase rights do not in any way weaken our financial strength or interfere
with its business plans. Rather, we believe that they represent a sound and
reasonable means of addressing the complex issues of corporate policy created by
the current takeover environment. Additionally, they should not preclude any
merger or business combination approved by our board of directors.

OTHER PROVISIONS IN OUR CHARTER AND BYLAWS

Our charter and bylaws provide other mechanisms that may help to delay,
defer or prevent a change in control. For example, our charter provides that
stockholders may not take action by written consent without a meeting, but must
take any action at a duly called annual or special meeting. This provision makes
it more difficult for stockholders to take action opposed by our board of
directors.

Our charter does not provide for cumulative voting in the election of
directors, which under Delaware law, precludes stockholders from cumulating
their votes in the election of directors, which consequently frustrates the
ability of minority stockholders to obtain representation on the board of
directors.

Under our charter, 24,900,000 shares of preferred stock remain
undesignated. The authorization of undesignated preferred stock makes it
possible for the board of directors, without stockholder approval, to issue
preferred stock with voting or other rights or preferences that could impede the
success of any attempt to obtain control of our company (see the section
entitled "Preferred Shares Rights Agreement" above).

Lastly, our bylaws contain advance notice procedures that apply to
stockholder proposals and the nomination of candidates for election as directors
by stockholders rather than the board.

TRANSFER AGENT AND REGISTRAR

The transfer agent and registrar for our common stock is U.S. Stock
Transfer Corporation.

NASDAQ NATIONAL MARKET LISTING

Our common stock is quoted on the NASDAQ National Market under the symbol
"SSFT." On June 16, 2003, the last reported sale price of our common stock was
$6.01 per share.

SHARES ELIGIBLE FOR FUTURE SALE

Future sales of substantial amounts of common stock, including shares
issued upon exercise of outstanding options and warrants, in the public market
following this offering could adversely affect market prices prevailing from
time to time and could impair our ability to raise capital through sale of our
equity securities.

Upon completion of this offering, we will have outstanding an aggregate of
approximately 66,150,349 shares of our common stock. Of these shares, shares
that are held by "affiliates" and shares that are "restricted securities," as
those terms are defined in Rule 144 under the Securities Act, may be sold in the
public market only if the requirements of Rule 144 are met. The following table
shows the number of shares of our stock that either are held by affiliates or
are restricted securities that may be sold in the public market pursuant to Rule
144 as of May 30, 2003:

NUMBER OF SHARES ELIGIBLE FOR SALE COMMENT
---------------------------------- ------------------------------------------------------------

33,547,629 shares saleable pursuant to Rule 144, subject to volume
limitations
65,100 shares saleable pursuant to Rule 144, without regard to
volume limitations

Generally, under Rule 144 of the Securities Act, persons who are affiliates
and persons who have beneficially owned shares of our stock that are restricted
securities for at least one year and would be entitled to sell within any
three-month period a number of shares that does not exceed the greater of:

- 1% of our outstanding shares of common stock, which amount was 661,503
shares as of May 30, 2003; or

- the reported average weekly trading volume of our common stock during the
four calendar weeks preceding a sale by such person.

Shares under Rule 144 are also subject to manner-of-sale provisions, notice
requirements and the availability of current public information.

LEGAL MATTERS

The validity of the shares registered hereby will be passed upon by Wilson
Sonsini Goodrich & Rosati, Professional Corporation, Palo Alto, California.
Katharine A. Martin, one of our directors, is a member of Wilson, Sonsini,
Goodrich & Rosati. See "Certain Relationships and Securities Transactions"
above.

EXPERTS

Our financial statements as of December 31, 2002 and 2001 and for each of
the three years in the period ended December 31, 2002 included in this
prospectus have been so included in reliance on the report of
PricewaterhouseCoopers LLP, independent accountants, given on the authority of
said firm as experts in auditing and accounting.

The combined balance sheets of Philips Speech Processing Telephony and
Voice Control (a division of Royal Philips Electronics N.V.) as of December 31,
2002 and 2001, and the related combined statements of operations and
comprehensive loss, changes in the net investment of the Philips Group, and cash
flows for each of the years in the two-year period ended December 31, 2002,
appearing elsewhere herein have been included in reliance upon the report of
KPMG Accountants N.V., Eindhoven, The Netherlands, independent accountants, upon
the authority of said firm as experts in auditing and accounting.

The financial statements of the Speech and Language Technologies operations
of Lernout & Hauspie Speech Products N.V. as of September 30, 2001 and for the
nine months ended September 30, 2001 included in this prospectus have been so
included in reliance on the report of PricewaterhouseCoopers LLP, independent
accountants, given on the authority of said firm as experts in auditing and
accounting.

WHERE YOU CAN FIND MORE INFORMATION

We file annual, quarterly and current reports, proxy and information
statements and other information with the SEC. You can inspect and copy these
reports, proxy and information statements and other information concerning
ScanSoft at the SEC's public reference facilities at Room 1024, 450 Fifth
Street, N.W., Washington, D.C. 20549. Information on the operation of the Public
Reference Room is available by calling the SEC at 1-800-SEC-0330. The SEC also
maintains a site on the Web at www.sec.gov that contains reports, proxy and
information statements and other information about us.

This prospectus is part of a Registration Statement on Form S-1 that we
filed with the SEC to register shares of our common stock. This prospectus does
not contain all of the information contained in the Registration Statement. The
Registration Statement together with its exhibits can be inspected and copied at
the public reference facilities of the SEC referred to above.

SCANSOFT, INC

INDEX TO FINANCIAL STATEMENTS

PAGE
----

UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS
Introduction to the Unaudited Pro Forma Combined Financial
Statements............................................. F-2
Unaudited Pro Forma Combined Balance Sheet as of March 31,
2003................................................... F-4
Unaudited Pro Forma Combined Statement of Operations for
the Year Ended December 31, 2002....................... F-5
Unaudited Pro Forma Combined Statement of Operations for
the Three Months Ended March 31, 2003.................. F-6
Notes to Unaudited Pro Forma Combined Financial
Statements............................................. F-7
CONSOLIDATED FINANCIAL STATEMENTS OF SCANSOFT, INC. AS OF
DECEMBER 31, 2002 AND 2001 AND FOR THE YEARS ENDED
DECEMBER 31, 2002, 2001 AND 2000
Report of Independent Accounts............................ F-12
Consolidated Balance Sheets............................... F-13
Consolidated Statements of Operations..................... F-14
Consolidated Statements of Stockholders' Equity........... F-15
Consolidated Statements of Cash Flows..................... F-16
Notes to Consolidated Financial Statements................ F-17
UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS OF SCANSOFT,
INC. AS OF MARCH 31, 2003 AND FOR THREE MONTHS ENDED MARCH
31, 2003 AND 2002
Consolidated Balance Sheet (Unaudited).................... F-51
Consolidated Statements of Operations (Unaudited)......... F-52
Consolidated Statements of Cash Flows (Unaudited)......... F-53
Notes to Unaudited Consolidated Financial Statements...... F-54
COMBINED FINANCIAL STATEMENTS OF THE PHILIPS SPEECH
PROCESSING TELEPHONY AND VOICE CONTROL DIVISION OF ROYAL
PHILIPS ELECTRONICS N.V. AS OF DECEMBER 31, 2002 AND 2001
Independent Auditors' Report.............................. F-69
Combined Balance Sheets................................... F-70
Combined Statements of Operations and Comprehensive
Loss................................................... F-71
Changes in the Net Investment of the Philips Group........ F-72
Combined Statements of Cash Flows......................... F-73
Notes to the Combined Financial Statements................ F-74
FINANCIAL STATEMENTS OF THE SPEECH AND LANGUAGE TECHNOLOGIES
OPERATIONS OF LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.
Report of Independent Accountants......................... F-92
Statement of Assets and Liabilities as of September 30,
2001................................................... F-93
Statement of Revenue and Direct Operating Expenses for the
Nine Months Ended September 30, 2001................... F-94
Notes to Financial Statements............................. F-95

F-1

UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS

On April 23, 2003, ScanSoft and SpeechWorks signed a definitive merger
agreement. Pursuant to the merger agreement and subject to its terms and
conditions, SpeechWorks common stockholders will receive 0.860 shares of
ScanSoft common stock for each share of SpeechWorks common stock.

The merger, which is expected to close in the third calendar quarter of
2003, is contingent upon the fulfillment of specified conditions, including all
required regulatory approvals, the adoption of the merger agreement and the
approval of the merger by SpeechWorks stockholders and the approval of the
issuance of shares of ScanSoft common stock in connection with the merger by
ScanSoft stockholders. The merger will be a tax-free merger and will be
accounted for as a purchase of a business.

On October 7, 2002, ScanSoft entered into a definitive agreement with Royal
Philips Electronics ("Philips") to acquire the Philips Speech Processing
Telephony and Voice Control business units ("PSP") and related intellectual
property. On January 30, 2003, ScanSoft completed the acquisition of PSP on the
terms set forth in the purchase agreement dated October 7, 2002, as amended. As
consideration for these business units and intellectual property, ScanSoft paid
3.1 million euros ($3.4 million) in cash at closing, subject to adjustment in
accordance with the provisions of the purchase agreement, as amended, and agreed
to a deferred payment of 1.0 million euros in cash prior to December 31, 2003,
issued a 5.0 million euro note due December 31, 2003 and bearing 5.0% interest
per annum and issued a $27.5 million three-year, zero-interest subordinated
debenture, convertible at any time at Philips' option into shares of our common
stock at $6.00 per share. The transaction was accounted for as a purchase, as
such the consolidated balance sheet of ScanSoft at March 31, 2003 includes the
assets acquired and liabilities assumed of PSP. The results of operations of PSP
for the period subsequent to January 30, 2003 are included within the unaudited
historical consolidated statement of operations of ScanSoft for the three months
ended March 31, 2003.

The following tables show summary unaudited pro forma financial information
as if ScanSoft, PSP and SpeechWorks had been combined as of the first day of the
earliest year presented for statement of operations purposes and as if ScanSoft
and SpeechWorks had been combined as of March 31, 2003 for balance sheet
purposes.

The unaudited pro forma combined financial information of SpeechWorks is
based on estimates and assumptions, which are preliminary and have been made
solely for purposes of developing such pro forma information. The estimated pro
forma adjustments arising from the proposed acquisition of SpeechWorks are
derived from the estimated purchase price and estimated fair values of the
assets acquired and liabilities assumed. Based on the fair value of ScanSoft's
common stock for a period of five days before and after the announcement of the
proposed merger with SpeechWorks, the average per share fair value of ScanSoft
common stock for purposes of accounting for the merger in accordance with
generally accepted accounting standards is $5.26. Accordingly, the final
purchase price will be determined based on the total shares of SpeechWorks
common stock outstanding, after applying the exchange ratio of 0.860, multiplied
by $5.26. Accordingly, the final stock-related purchase price is expected to
differ from the estimated purchase price of $167,865,000 reflected in the
unaudited pro forma financial information, primarily as a result of the actual
number of shares of common stock that will be issued prior to the completion of
the merger based on the exercise of stock options which will fully vest prior to
the merger. The final determination of purchase price, fair value and resulting
goodwill may differ significantly from that reflected in the pro forma statement
of operations and balance sheet.

The unaudited pro forma combined balance sheet data reflects the
preliminary purchase price of PSP. The final purchase price of PSP is
preliminary, pending resolution of the determination of the fair value of
allocation of certain contractual liabilities assumed by ScanSoft that are still
being determined based on the contractual nature of assignability of these
contracts. Additionally, the purchase price is subject to adjustment based on a
calculation set forth in the purchase agreement, as amended, which must be
agreed upon by the parties and which may result in an adjustment either to
increase or decrease the total purchase consideration. Upon final determination
of the fair value of the liabilities referred to above and the purchase price
adjustment, a corresponding adjustment will be recorded to goodwill.

F-2

The historical PSP financial information for the year ended December 31,
2002 has been derived from the audited financial statements of PSP included in
this joint proxy statement/prospectus and have been translated from euros to US
dollars using the exchange rates in effect at the end of the period for the
balance sheet and using average exchange rates for the respective periods for
the statement operations. The historical PSP financial information for the
period from January 1, 2003 to January 30, 2003 has been derived from the
unaudited financial statements of PSP which are not included in this joint proxy
statement/prospectus.

The pro forma data are presented for illustrative purposes only and are not
necessarily indicative of the operating results or financial position that would
have occurred if each transaction had been consummated as of January 1, 2002 for
statement of operations or March 31, 2003, for financial position respectively,
nor are the data necessarily indicative of future operating results or financial
position. The unaudited pro forma combined financial statements and related
notes thereto should be read in conjunction with the historical consolidated
financial statements of ScanSoft and PSP, and related notes thereto, and
"ScanSoft's Management's Discussion and Analysis of Financial Condition and
Results of Operations" included in this joint proxy statement/prospectus and the
historical consolidated financial statements of SpeechWorks incorporated by
reference in this joint proxy statement/prospectus or as filed by SpeechWorks
with the SEC. See the section entitled "Where You Can Find More Information" on
page 82.

F-3

SCANSOFT, INC.

UNAUDITED PRO FORMA COMBINED BALANCE SHEET

MARCH 31, 2003

SPEECHWORKS
ACQUISITION
HISTORICAL HISTORICAL PRO FORMA PRO FORMA
SCANSOFT (A) SPEECHWORKS (B) ADJUSTMENTS COMBINED
------------ --------------- ----------- ---------
(IN THOUSANDS)

ASSETS
Current assets:
Cash and cash equivalents............ $ 20,277 $ 42,675 $ 2,518(1) $ 65,470
Accounts receivable, net............. 19,482 11,188 (731)(1)(2) 29,939
Receivables from related party....... 1,231 -- 88(2) 1,319
Inventory............................ 1,367 433 -- 1,800
Prepaid expenses and other current
assets............................ 4,119 2,057 -- 6,176
--------- --------- --------- ---------
Total current assets............ 46,476 56,353 1,875 104,704
Goodwill............................... 97,117 10,707 (10,707)(1)
112,764(1) 209,881
Other intangible assets, net........... 49,569 4,926 (4,926)(1)
13,910(1) 63,479
Property and equipment, net............ 3,387 5,031 -- 8,418
Other assets........................... 1,207 2,321 900(1) 4,428
--------- --------- --------- ---------
Total Assets........................... $ 197,756 $ 79,338 $ 113,816 $ 390,910
========= ========= ========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable..................... 8,847 1,450 -- 10,297
Accrued expenses..................... 11,923 4,817 4,500(1) 21,240
Deferred revenue..................... 2,782 7,603 (1,466)(1) 8,919
Note payable......................... 5,458 904 -- 6,362
Deferred payment for business
acquisition....................... 1,052 -- -- 1,052
Deferred payment for technology
license........................... 9,434 -- -- 9,434
Other current liabilities............ 1,666 -- -- 1,666
--------- --------- --------- ---------
Total current liabilities....... 41,162 14,774 3,034 58,970
Deferred revenue....................... 209 250 -- 459
Note payable, net of current portion... 27,524 1,020 -- 28,544
Other liabilities...................... 3,236 5,493 1,976(1) 10,705
--------- --------- --------- ---------
Total liabilities............... 72,131 21,537 5,010 98,678
--------- --------- --------- ---------
Stockholders' equity:
Preferred stock...................... 4,631 -- -- 4,631
Common stock......................... 68 34 (34)(1)
32(1) 100
Additional paid-in capital........... 276,007 236,979 (236,979)(1)
167,833(1) 443,840
Treasury stock....................... (8,031) -- -- (8,031)
Deferred compensation................ (147) (5,118) 5,118(1)
(1,258)(1) (1,405)
Accumulated other comprehensive
loss.............................. (53) (1) 1(1) (53)
Accumulated deficit.................. (146,850) (174,093) 174,093(1) (146,850)
--------- --------- --------- ---------
Total stockholders' equity...... 125,625 57,801 108,806 292,232
--------- --------- --------- ---------
Total Liabilities and Stockholders'
Equity............................... $ 197,756 $ 79,338 $ 113,816 $ 390,910
========= ========= ========= =========

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

(A)As reported in ScanSoft's Quarterly Report on Form 10-Q for the three months
ended March 31, 2003, as filed with the SEC.

(B)As reported in SpeechWorks' Quarterly Report on Form 10-Q for the three
months ended March 31, 2003, as filed with the SEC.

See accompanying Notes to Unaudited Pro Forma Combined Financial Statements.

F-4

SCANSOFT, INC.

UNAUDITED PRO FORMA COMBINED STATEMENT OF OPERATIONS

FOR THE YEAR ENDED DECEMBER 31, 2002

PSP SPEECHWORKS
ACQUISITION PRO FORMA HISTORICAL ACQUISITION
HISTORICAL HISTORICAL PRO FORMA COMBINED SPEECHWORKS PRO FORMA PRO FORMA
SCANSOFT (A) PSP ADJUSTMENTS SCANSOFT/PSP (B) ADJUSTMENTS COMBINED
------------ ---------- ----------- ------------ ----------- ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

Product licenses................ $101,524 $ 15,253 $ -- $116,777 $ 17,773 $ -- $134,550
Professional services........... -- -- -- 19,663 (292)(2) 19,371
Related party................... 5,095 550 -- 5,645 -- 378(2) 6,023
Other revenues.................. -- -- -- -- 1,873 (86)(2) 1,787
Non-cash stock compensation..... -- -- (3,302) (3,302)
-------- -------- ------- -------- -------- ------- --------
Total revenue................... 106,619 15,803 -- 122,422 36,007 -- 158,429
-------- -------- ------- -------- -------- ------- --------
Costs and expenses:
Cost of revenue................ 16,419 2,382 (29)(5) 18,772 307 -- 19,079
Cost of professional services
-- non-cash compensation..... -- -- -- -- 554 -- 554
-- all other expenses........ -- -- -- -- 12,776 -- 12,776
Cost of other revenue.......... -- -- -- -- 1,991 -- 1,991
Cost of revenue from
amortization of intangible
assets....................... 9,470 -- 484(6) 9,954 1,284 (753)(3)(4) 10,485
Research and development
-- non-cash stock
compensation.............. -- -- -- -- 527 -- 527
-- all other expenses........ 27,633 9,856 -- 37,489 14,674 -- 52,163
Selling general and
administrative
-- non-cash stock
compensation.............. -- -- -- -- 3,227 -- 3,227
-- all other expenses........ 43,771 15,279 -- 59,050 41,193 -- 100,243
Amortization of other
intangible assets............ 1,682 -- 749(6) 2,431 3,832 (2,190)(3)(4) 4,073
Restructuring and other
charges...................... 1,041 -- -- 1,041 8,006 -- 9,047
-------- -------- ------- -------- -------- ------- --------
Total costs and expenses........ 100,016 27,517 1,204 128,737 88,371 (2,943) 214,165
-------- -------- ------- -------- -------- ------- --------
Income (loss) from operations... 6,603 (11,714) (1,204) (6,315) (52,364) 2,943 (55,736)
Other income (expense), net..... (16) 3 (286)(7)(8)(9) (299) 292 -- (7)
-------- -------- ------- -------- -------- ------- --------
Income (loss) before income
taxes.......................... 6,587 (11,711) (1,490) (6,614) (52,072) 2,943 (55,743)
Provision for (benefit from)
income taxes................... 254 (315) 315(10) 254 (175) -- 79
-------- -------- ------- -------- -------- ------- --------
Net income (loss)............... $ 6,333 $(11,396) $(1,805) (6,868) $(51,897) $ 2,943 $(55,822)
======== ======== ======= ======== ======== ======= ========
Net income (loss) per common
share:
Basic.......................... $ 0.09 $ (0.11) $ (0.60)
Diluted........................ $ 0.09 $ (0.11) $ (0.60)
Weighted average common shares:
Basic.......................... 67,010 (3,562)(11) 63,448 29,754(12) 93,202
Diluted........................ 72,796 (9,348)(11) 63,448 29,754(12) 93,202

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

(A)As reported in ScanSoft's annual financial statements for the year ended
December 31, 2002 included elsewhere in this joint proxy
statement/prospectus.

(B)As reported in SpeechWorks' annual financial statements for the year ended
December 31, 2002 incorporated by reference in this joint proxy
statement/prospectus.

See accompanying Notes to Unaudited Pro Forma Combined Financial Statements.

F-5

SCANSOFT, INC.

UNAUDITED PRO FORMA COMBINED STATEMENT OF OPERATIONS

FOR THE THREE MONTHS ENDED MARCH 31, 2003

PSP SPEECHWORKS
ACQUISITION PRO FORMA HISTORICAL ACQUISITION
HISTORICAL HISTORICAL PRO FORMA COMBINED SPEECHWORKS PRO FORMA PRO FORMA
SCANSOFT (A) PSP (C) ADJUSTMENTS SCANSOFT/PSP (B) ADJUSTMENTS COMBINED
------------ ---------- ----------- ------------ ----------- ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

Product licenses................ $26,516 $1,116 $ -- $27,632 $ 4,066 $ -- $31,698
Professional services........... -- -- -- -- 5,413 (113)(2) 5,300
Related party................... 1,320 -- -- 1,320 -- 124(2) 1,444
Other revenues.................. -- -- -- 280 (11)(2) 269
Non-cash stock compensation..... -- -- -- -- (1,028) -- (1,028)
------- ------ -------- ------- ------- ------- -------
Total revenue................... 27,836 1,116 -- 28,952 8,731 -- 37,683
------- ------ -------- ------- ------- ------- -------
Costs and expenses:
Cost of revenue................ 4,302 11 (2)(5) 4,311 103 -- 4,414
Cost of professional services
-- non-cash compensation..... -- -- -- -- 120 -- 120
-- all other expenses........ -- -- -- -- 3,636 -- 3,636
Cost of other revenue.......... -- -- -- -- 301 -- 301
Cost of revenue from
amortization of intangible
assets....................... 2,057 -- 40(6) 2,097 374 (241)(3)(4) 2,230
Research and development
-- non-cash stock
compensation................. -- -- -- -- 106 -- 106
-- all other expenses........ 7,177 837 -- 8,014 2,800 -- 10,814
Selling general and
administrative
-- non-cash stock
compensation................. -- -- -- -- 421 -- 421
-- all other expenses........ 13,261 874 -- 14,135 8,743 -- 22,878
Amortization of other
intangible assets............ 361 -- 63(6) 424 958 (547)(3)(4) 835
Restructuring and other
charges...................... 529 -- -- 529 687 -- 1,216
------- ------ -------- ------- ------- ------- -------
Total costs and expenses........ 27,687 1,722 101 29,510 18,249 (788) 46,971
------- ------ -------- ------- ------- ------- -------
Income (loss) from operations... 149 (606) (101) (558) (9,518) 788 (9,288)
Other income (expense), net..... 22 (10) (14)(7)(8)(9) (2) 88 -- 86
------- ------ -------- ------- ------- ------- -------
Income (loss) before income
taxes.......................... 171 (616) (115) (560) (9,430) 788 (9,202)
Provision for (benefit from)
income taxes................... 95 -- -- 95 (35) -- 60
------- ------ -------- ------- ------- ------- -------
Net income (loss)............... $ 76 $ (616) $ (115) (655) $(9,395) $ 788 $(9,262)
======= ====== ======== ======= ======= ======= =======
Net income (loss) per common
share:
Basic.......................... $ 0.00 $ (0.01) $ (0.10)
Diluted........................ $ 0.00 $ (0.01) $ (0.10)
Weighted average common shares:
Basic.......................... 67,689 (3,562)(11) 64,127 30,775(13) 94,902
Diluted........................ 77,220 (13,093)(11) 64,127 30,775(13) 94,902

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

(A)As reported in ScanSoft's quarterly report on Form 10-Q for the three months
ended March 31, 2003, as filed with the SEC.

(B)As reported in SpeechWorks' quarterly report on Form 10-Q for the three
months ended March 31, 2003, as filed with the SEC.

(C)Derived from PSP financial information for the period from January 1, 2003
through January 30, 2003.

See accompanying Notes to Unaudited Pro Forma Combined Financial Statements.

F-6

SCANSOFT, INC.

NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS

Pro forma adjustments reflect only those adjustments which are factually
determinable and do not include the impact of contingencies which will not be
known until the later of the closing of the transactions or the resolution of
the contingency. Pro forma adjustments include the following:

(1) To record the fair value of the assets to be acquired and the
liabilities to be assumed of SpeechWorks, subject to adjustment pending the
completion of a post-closing review of the purchased assets. The pro forma
information assumes that ScanSoft will issue 31,913,545 shares of its common
stock valued at $167,865,000 (based on average closing price of ScanSoft's
common stock of $5.26 per share for a period of five days before and after the
announcement of the proposed acquisition) as the consideration for the merger
with SpeechWorks. The shares are based upon the outstanding shares of
SpeechWorks common stock at March 31, 2003 of 33,883,537 plus 3,225,236
additional shares of SpeechWorks common stock assumed to be outstanding on March
31, 2003. The 3,225,236 additional shares of SpeechWorks common stock are based
upon the assumed exercise of stock options which will fully vest prior to the
effective time of the merger. The number of shares assumed to be exercised based
on the exercise prices of SpeechWorks stock options outstanding at March 31,
2003 which are below the price of ScanSoft's common stock at March 31, 2003
after consideration of the exchange ratio, or $3.87 per share. In addition, the
pro forma adjustments include $5,918,000 of cash received associated with the
assumed exercise of SpeechWorks stock options just prior to closing and the
payment of $3,400,000 related to investment bankers fees and legal and
accounting fees. ScanSoft also has accounted for $4,500,000 for anticipated
transaction fees as additional purchase consideration, which include legal and
accounting fees, investment bankers' fees, tax structuring fees, intellectual
property filing fees, due diligence fees and fees paid for directors' and
officers' liability insurance premiums for the former SpeechWorks board of
directors.

The acquisition of SpeechWorks by ScanSoft is expected to give rise to the
consolidation and elimination of certain SpeechWorks and ScanSoft personnel and
duplicate facilities. The pro forma balance sheet adjustments do not include any
amounts which may be recorded in accordance with Emerging Issue Task Force No.
95-3, "Recognition of Liabilities in Connection with a Purchase Business
Combination" as ScanSoft does not expect that a final integration plan will be
established until just prior to or immediately after the closing of the
transaction. However, ScanSoft, along with its' financial advisors Evercore
Partners, has prepared a preliminary analysis of the restructuring activities.
Based on this analysis, ScanSoft currently estimates that the integration
actions will result in costs of approximately $10.1 million primarily associated
with severance and duplicate facilities. ScanSoft estimates full year operating
synergies of approximately $27.5 million resulting from these actions. In
connection with the acquisition, ScanSoft will assume lease obligations
associated with office space which will become available beginning in January
2005. The gross lease payments associated with this additional office space,
amounting to $13,400,000, have not been recorded in the historical financial
statements of SpeechWorks. ScanSoft's plans with respect to this space will be
assessed in connection with the integration plan, however, the estimated
operating synergies and related costs do not reflect any plans with respect to
this space by ScanSoft. ScanSoft has not recorded the lease payments associated
with this office space in the pro forma financial statements, except with
respect to the above market lease rate.

ScanSoft believes that certain restructuring actions are an integral
component of the acquisition plan to enable the benefits of the combined
companies to be optimized and the benefits of the acquisition to be realized.
ScanSoft expects to complete these restructuring efforts within one year of the
closing.

F-7

SCANSOFT, INC.

NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

A summary of the transaction is as follows (in thousands):

Estimated consideration:
Common stock.............................................. $167,865
Transaction costs......................................... 4,500
--------
Total estimated purchase consideration................. $172,365
========
Preliminary allocation of the purchase consideration:
Fair value of net tangible assets acquired................ $ 45,691
Identifiable intangible assets............................ 13,910
Goodwill.................................................. 112,764
--------
$172,365
========

ScanSoft believes that the $13,910,000 of value ascribed to identifiable
intangible assets will be allocated to completed and core technology, customer
relationships (including license agreements) and tradenames.

The pro forma adjustments to SpeechWorks historical data made in
determining the net tangible assets acquired include the elimination of
$4,926,000 of intangible assets, $10,707,000 of goodwill and $57,801,000 of
stockholders' equity. The pro forma adjustments also include the following
adjustments to record the fair value of net tangible assets acquired and
liabilities assumed:

- Adjustment to reduce deferred revenue to the fair value associated with
performance obligations assumed by ScanSoft. A corresponding adjustment to
reduce accounts receivable associated with amounts which are due from
customers under sales transactions for which revenue was deferred by
SpeechWorks due to uncertainty of collectibility and which do not meet the
criteria of a performance obligation under Emerging Issues Task Force
Issue No. 01-03 Accounting in a Business Combination for Deferred Revenue
of an Acquiree.

- Adjustment of $1,100,000 to record the fair value of the liability
associated with ScanSoft's indemnification of former SpeechWorks directors
and $900,000 to record an asset for the related fair value of the
insurance policy associated with the indemnification provision.

- Adjustment of $824,000 to reduce the long-term facilities restructuring
accrual to its net present value. The difference between the undiscounted
and discounted lease payments will be recorded as non-cash interest
expense over the remaining lease term of 13 years.

- Adjustment of $1,700,000 to record a liability associated with the
above-market lease rate associated with certain assumed operating leases
for facilities.

- Adjustment to record $1,258,000 of deferred compensation associated with
unvested restricted stock which will be amortized to income over the
remaining vesting periods.

Pursuant to the rules and regulations of the Securities and Exchange
Commission, the pro forma adjustments to SpeechWorks historical income statement
data do not include the elimination of non-cash stock-based compensation expense
recorded in the historical financial statements which will not continue in the
post-acquisition financial statements of ScanSoft.

(2) Adjustment to reclassify related party transactions. For the year ended
December 31, 2002, SpeechWorks recognized professional services revenue and
other revenues of $292,000 and $86,000, respectively, from a transaction entered
into with a related party of ScanSoft. For the three months ended March 31,
2003, SpeechWorks recognized professional services revenue and other revenues of
$113,000

F-8

SCANSOFT, INC.

NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

and $11,000, respectively, from this related party. At March 31, 2003,
SpeechWorks had accounts receivable of $88,000 due from this related party.

(3) Adjustment to record amortization expense of $2,173,000 and $544,000
for the identifiable intangible assets associated with the SpeechWorks
acquisition for the year ended December 31, 2002 and the three months ended
March 31, 2003, respectively. Finalization of the allocation of the purchase
price to tangible and identifiable intangible assets acquired and liabilities
assumed is preliminary pending collection of data to evaluate estimates of
future revenues and earnings to determine a discounted cash flow valuation of
certain intangibles that meet the separate recognition criteria of FAS 141.
ScanSoft expects this process and subsequent allocation of purchase price to be
complete within 180 days of the closing of the transaction. ScanSoft's
preliminary assessment is that the weighted average useful life of the acquired
identifiable intangible assets will be six years. The acquired identifiable
intangible assets will be amortized using the straight-line method. An increase
in the amount of identifiable intangible assets or a change in the allocation
between the acquired identifiable intangible assets and goodwill for the
SpeechWorks acquisition of $1,000,000 would result in a change in pro forma
annual amortization expense of approximately $166,000. An increase in the
weighted average useful life of the acquired identifiable intangible assets from
six years to seven years would result in a decrease in pro forma amortization
expense of approximately $331,000 and $83,000 for the year ended December 31,
2002 and the three months ended March 31, 2003, respectively. A decrease in the
weighted average useful life of the acquired identifiable intangible assets from
six years to five years would result in an increase in pro forma amortization
expense of approximately $464,000 and $116,000 for the year ended December 31,
2002 and the three months ended March 31, 2003, respectively.

(4) Adjustment to eliminate amortization expense of $5,116,000 and
$1,332,000 for the year ended December 31, 2002 and the three months ended March
31, 2003, respectively, related to intangible assets of SpeechWorks existing
prior to the acquisition.

(5) Adjustment to eliminate amortization expense of $29,000 and $2,000 for
the year ended December 31, 2002 and the three months ended March 31, 2003,
respectively, related to intangible assets of PSP existing prior to the
acquisition.

(6) Adjustment to record amortization expense of $1,233,000 and $103,000
for the year ended December 31, 2002 and the three months ended March 31, 2003,
respectively, for the identifiable intangible assets associated with the PSP
acquisition, as if the acquisition had occurred on January 1, 2002.

(7) Adjustment to record interest expense of $236,000 and $20,000 for the
year ended December 31, 2002 and the three months ended March 31, 2003,
respectively, on the 5.0 million euro promissory note issued as partial purchase
consideration for the PSP acquisition, bearing interest at five percent per
year, as if the acquisition had occurred on January 1, 2002.

(8) Adjustment to record imputed interest expense of $47,000 and $4,000 for
the year ended December 31, 2002 and the three months ended March 31, 2003,
respectively, on the non-interest bearing deferred payment of 1.0 million euro
to be paid on December 31, 2003 as partial consideration for the PSP
acquisition, as if the acquisition had occurred on January 1, 2002.

(9) Adjustment to eliminate interest income (expense) of $3,000 and
($10,000) for the year ended December 31, 2002 and the three months ended March
31, 2003, respectively, recorded on intercompany balances between PSP and
Philips, as if the acquisition had occurred on January 1, 2002.

(10) Adjustment to eliminate the income tax benefit of $315,000 for the
year ended December 31, 2002 recorded by PSP in its historical statements of
operations which would not have been realized by ScanSoft had the acquisition
occurred on January 1, 2002.

F-9

SCANSOFT, INC.

NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

(11) Adjustment to exclude the assumed conversion of Series B participating
preferred stock of 3,562,000 for the year ended December 31, 2002 and the three
months ended March 31, 2003, respectively, and to exclude common stock
equivalents totaling 9,348,000 and 13,093,000 for the year ended December 31,
2002 and the three months ended March 31, 2003, respectively, because their
impact would be antidilutive. The pro forma net loss per share and the shares
used in pro forma net loss per share do not include the effects of the assumed
conversion to common stock of the convertible debenture issued to Philips as
partial purchase consideration for the PSP acquisition because the impact would
be antidilutive. The total shares of common stock to be issued upon conversion
of the debenture would be 4,583,333.

(12) Adjustment to include the issuance of 29,754,000 shares of ScanSoft
common stock upon closing as if the acquisition had occurred on January 1, 2002.
The 29,754,000 shares reflect 27,819,000 shares of SpeechWorks common stock
outstanding on January 1, 2002 and the assumed conversion of stock options for
1,935,000 shares of SpeechWorks common stock, which will fully vest prior to the
effective time of the merger and for which exercise prices are below market
value on January 1, 2002, multiplied by the exchange ratio of 0.860.

(13) Adjustment to include the issuance of 30,775,000 shares of ScanSoft
common stock upon closing as if the acquisition had occurred on January 1, 2002.
The 30,775,000 shares reflect 28,477,000 shares of SpeechWorks common stock
outstanding on January 1, 2002 and the assumed conversion of stock options for
2,298,000 shares of SpeechWorks common stock, which will fully vest prior to the
effective time of the merger and for which exercise prices are below market
value on January 1, 2002, multiplied by the exchange ratio of 0.860.

F-10

SCANSOFT'S CONSOLIDATED FINANCIAL STATEMENTS

F-11

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and

Stockholders of ScanSoft, Inc.:

In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, of stockholders' equity and of
cash flows present fairly, in all material respects, the financial position of
ScanSoft, Inc. and its subsidiaries at December 31, 2002 and December 31, 2001,
and the results of their operations and their cash flows for each of the three
years in the period ended December 31, 2002 in conformity with accounting
principles generally accepted in the United States of America. 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 of these statements in accordance with
auditing standards generally accepted in the United States of America, which
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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

As discussed in Note 2 to the consolidated financial statements, effective
January 1, 2002, the Company changed its method of accounting for goodwill and
other intangible assets.

/s/ PricewaterhouseCoopers LLP

Boston, Massachusetts

February 9, 2003, except as to Note 20

for which the date is March 11, 2003

F-12

SCANSOFT, INC.

CONSOLIDATED BALANCE SHEETS

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)

DECEMBER 31,
----------------------
2002 2001
--------- ---------

ASSETS
Current assets:
Cash and cash equivalents................................. $ 18,853 $ 14,324
Accounts receivable, less allowances of $5,903 and $6,273,
respectively........................................... 15,650 12,464
Receivables from related party (Note 19).................. 1,518 1,802
Inventory................................................. 1,241 507
Prepaid expenses and other current assets................. 3,167 1,614
--------- ---------
Total current assets................................... 40,429 30,711
Goodwill.................................................. 63,059 65,231
Other intangible assets, net.............................. 33,823 43,301
Property and equipment, net............................... 2,846 2,150
Other assets.............................................. 3,533 677
--------- ---------
Total assets........................................... $ 143,690 $ 142,070
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 7,085 $ 5,320
Accrued expenses.......................................... 9,773 14,471
Deferred revenue.......................................... 1,790 1,375
Note payable (Note 9)..................................... 3,273 227
Other current liabilities (Note 19)....................... 1,666 --
--------- ---------
Total current liabilities.............................. 23,587 21,393
Deferred revenue............................................ 244 2,534
Long-term note payable, net of current portion.............. -- 3,273
Other liabilities (Note 19)................................. 481 336
--------- ---------
Total liabilities...................................... 24,312 27,536
--------- ---------
Commitments and contingencies (Notes 10, 13 and 20)
Stockholders' equity:
Preferred stock, $0.001 par value; 40,000,000 shares
authorized; 3,562,238 shares issued and outstanding
(liquidation preference $4,631)........................ 4,631 4,631
Common stock, $0.001 par value; 140,000,000 shares
authorized; 65,540,154 and 62,754,211 shares issued and
63,422,776 and 62,098,211 shares outstanding,
respectively........................................... 66 63
Additional paid-in capital................................ 269,858 264,893
Treasury stock, at cost (2,117,378 and 656,000 shares,
respectively).......................................... (8,031) (1,031)
Deferred compensation..................................... (173) (276)
Accumulated other comprehensive loss...................... (47) (487)
Accumulated deficit....................................... (146,926) (153,259)
--------- ---------
Total stockholders' equity............................. 119,378 114,534
--------- ---------
Total liabilities and stockholders' equity............. $ 143,690 $ 142,070
========= =========

The accompanying notes are an integral part of these consolidated financial
statements.
F-13

SCANSOFT, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

YEAR ENDED DECEMBER 31,
------------------------------
2002 2001 2000
-------- -------- --------

Revenue, third parties...................................... $101,524 $ 55,509 $ 41,977
Revenue, related party...................................... 5,095 7,208 5,984
-------- -------- --------
Total revenue.......................................... 106,619 62,717 47,961
-------- -------- --------
COSTS AND EXPENSES:
Cost of revenue........................................... 16,419 12,849 12,692
Cost of revenue from amortization of intangible assets.... 9,470 14,192 11,569
Research and development.................................. 27,633 13,968 14,967
Selling, general and administrative....................... 43,771 25,311 27,111
Amortization of goodwill and other intangible assets...... 1,682 13,328 11,017
Restructuring and other charges, net...................... 1,041 -- 4,811
Acquired in-process research and development.............. -- -- 18,291
-------- -------- --------
Total costs and expenses............................... 100,016 79,648 100,458
-------- -------- --------
Income (loss) from operations............................... 6,603 (16,931) (52,497)
Other income (expense):
Interest income........................................... 354 209 112
Interest expense.......................................... (369) (166) (620)
Other (expense) income, net............................... (1) (306) 226
-------- -------- --------
Income (loss) before income taxes........................... 6,587 (17,194) (52,779)
Provision for (benefit from) income taxes................... 254 (317) 472
-------- -------- --------
Net income (loss)........................................... $ 6,333 $(16,877) $(53,251)
======== ======== ========
Net income (loss) per share: basic.......................... $ 0.09 $ (0.34) $ (1.26)
======== ======== ========
Net income (loss) per share: diluted........................ $ 0.09 $ (0.34) $ (1.26)
======== ======== ========
Weighted average common shares outstanding: basic........... 67,010 49,693 42,107
======== ======== ========
Weighted average common shares outstanding: diluted......... 72,796 49,693 42,107
======== ======== ========

The accompanying notes are an integral part of these consolidated financial
statements.
F-14

SCANSOFT, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

PREFERRED STOCK COMMON STOCK ADDITIONAL
------------------ ------------------- PAID-IN
SHARES AMOUNT SHARES AMOUNT CAPITAL
--------- ------ ---------- ------ ----------

Balance at December 31, 1999............................. 3,562,238 $4,631 26,690,027 $27 $100,397
Issuance of common stock under employee stock
compensation plans...................................... 354,203 815
Issuance of common stock and common stock options in
connection with Caere merger............................ 19,028,518 19 118,047
Comprehensive loss:
Net loss..............................................
Foreign currency translation adjustment...............
Comprehensive loss....................................
--------- ------ ---------- --- --------
Balance at December 31, 2000............................. 3,562,238 4,631 46,072,748 46 219,259
Issuance of common stock under employee stock
compensation plans...................................... 623,534 1 1,130
Issuance of common stock in connection with L&H
acquisition............................................. 7,400,000 8 27,792
Issuance of common stock in private placement............ 8,261,905 8 15,721
Issuance of common stock in connection with settlement of
Caere acquisition liability............................. 262,200 700
Issuance of restricted stock............................. 133,824 291
Compensation expense associated with restricted stock....
Repurchase of common stock at cost.......................
Comprehensive loss:
Net loss..............................................
Foreign currency translation adjustment...............
Comprehensive loss....................................
--------- ------ ---------- --- --------
Balance at December 31, 2001............................. 3,562,238 4,631 62,754,211 63 264,893
Issuance of common stock under employee stock
compensation plans...................................... 1,449,484 1 2,682
Issuance of common stock in connection with AudioMining
acquisition............................................. 121,359 638
Issuance of common stock in private placement............ 1,000,000 1 5,592
Issuance of common stock issued to L&H in connection with
registration rights as amended.......................... 150,000 1 (1)
Issuance of common stock in connection with settlement of
note payable............................................ 65,100 336
Compensation expense associated with restricted stock....
Recognition of liability in connection with the
settlement of a stock price guarantee................... (4,282)
Repurchase of common stock at cost.......................
Comprehensive income:
Net income............................................
Foreign currency translation adjustment...............
Comprehensive income..................................
--------- ------ ---------- --- --------
Balance at December 31, 2002............................. 3,562,238 $4,631 65,540,154 $66 $269,858
========= ====== ========== === ========

ACCUMULATED
TREASURY STOCK OTHER
------------------- DEFERRED COMPREHENSIVE ACCUMULATED
SHARES DOLLARS COMPENSATION LOSS DEFICIT
--------- ------- ------------ ------------- -----------

Balance at December 31, 1999............................. -- -- -- $ (83,131)
Issuance of common stock under employee stock
compensation plans......................................
Issuance of common stock and common stock options in
connection with Caere merger............................
Comprehensive loss:
Net loss.............................................. (53,251)
Foreign currency translation adjustment............... $ (93)
Comprehensive loss....................................
--------- ------- ----- ----- ---------
Balance at December 31, 2000............................. (93) (136,382)
Issuance of common stock under employee stock
compensation plans......................................
Issuance of common stock in connection with L&H
acquisition.............................................
Issuance of common stock in private placement............
Issuance of common stock in connection with settlement of
Caere acquisition liability.............................
Issuance of restricted stock............................. $(291)
Compensation expense associated with restricted stock.... 15
Repurchase of common stock at cost....................... 656,000 $(1,031)
Comprehensive loss:
Net loss.............................................. (16,877)
Foreign currency translation adjustment............... (394)
Comprehensive loss....................................
--------- ------- ----- ----- ---------
Balance at December 31, 2001............................. 656,000 (1,031) (276) (487) $(153,259)
Issuance of common stock under employee stock
compensation plans......................................
Issuance of common stock in connection with AudioMining
acquisition.............................................
Issuance of common stock in private placement............
Issuance of common stock issued to L&H in connection with
registration rights as amended..........................
Issuance of common stock in connection with settlement of
note payable............................................
Compensation expense associated with restricted stock.... 103
Recognition of liability in connection with the
settlement of a stock price guarantee...................
Repurchase of common stock at cost....................... 1,461,378 (7,000)
Comprehensive income:
Net income............................................ 6,333
Foreign currency translation adjustment............... 440
Comprehensive income..................................
--------- ------- ----- ----- ---------
Balance at December 31, 2002............................. 2,117,378 $(8,031) $(173) $ (47) $(146,926)
========= ======= ===== ===== =========

TOTAL COMPREHENSIVE
STOCKHOLDERS' INCOME
EQUITY (LOSS)
------------- -------------

Balance at December 31, 1999............................. $ 21,924
Issuance of common stock under employee stock
compensation plans...................................... 815
Issuance of common stock and common stock options in
connection with Caere merger............................ 118,066
Comprehensive loss:
Net loss.............................................. (53,251) $(53,251)
Foreign currency translation adjustment............... (93) (93)
--------
Comprehensive loss.................................... $(53,344)
-------- ========
Balance at December 31, 2000............................. 87,461
Issuance of common stock under employee stock
compensation plans...................................... 1,131
Issuance of common stock in connection with L&H
acquisition............................................. 27,800
Issuance of common stock in private placement............ 15,729
Issuance of common stock in connection with settlement of
Caere acquisition liability............................. 700
Issuance of restricted stock............................. --
Compensation expense associated with restricted stock.... 15
Repurchase of common stock at cost....................... (1,031)
Comprehensive loss:
Net loss.............................................. (16,877) (16,877)
Foreign currency translation adjustment............... (394) (394)
--------
Comprehensive loss.................................... $(17,271)
-------- ========
Balance at December 31, 2001............................. 114,534
Issuance of common stock under employee stock
compensation plans...................................... 2,683
Issuance of common stock in connection with AudioMining
acquisition............................................. 638
Issuance of common stock in private placement............ 5,593
Issuance of common stock issued to L&H in connection with
registration rights as amended..........................
Issuance of common stock in connection with settlement of
note payable............................................ 336
Compensation expense associated with restricted stock.... 103
Recognition of liability in connection with the
settlement of a stock price guarantee................... (4,282)
Repurchase of common stock at cost....................... (7,000)
Comprehensive income:
Net income............................................ 6,333 6,333
Foreign currency translation adjustment............... 440 440
--------
Comprehensive income.................................. $ 6,773
-------- ========
Balance at December 31, 2002............................. $119,378
========

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

F-15

SCANSOFT, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

YEAR ENDED DECEMBER 31,
-------------------------------
2002 2001 2000
------- -------- --------

CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss)........................................... $ 6,333 $(16,877) $(53,251)
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation........................................... 2,007 1,762 2,091
Amortization of goodwill and other intangible assets... 11,152 27,520 22,586
Accounts receivable allowances......................... 370 (1,102) (2,904)
Gain on disposal or sale of property and equipment..... (30) -- --
Write-off of acquired in-process research and
development.......................................... -- -- 18,291
Provision for impairment of intangible assets.......... -- -- 3,490
Non-cash portion of restructuring charges.............. 113 -- 272
Deferred compensation.................................. 103 15 --
Gain on settlement of acquisition liability............ -- (1,050) --
Other.................................................. -- (83) --
Changes in operating assets and liabilities, net of
effects from acquisitions:
Accounts receivable.................................... (2,921) (252) 3,740
Inventory.............................................. (456) 418 257
Prepaid expenses and other current assets.............. (1,372) 18 278
Other assets........................................... (2,738) 435 (441)
Accounts payable....................................... 532 (542) (700)
Accrued expenses....................................... 1,166 (543) (1,547)
Deferred revenue....................................... (1,916) 653 2,292
------- -------- --------
Net cash provided by (used in) operating
activities........................................ 12,343 10,372 (5,546)
------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures for property and equipment........... (2,410) (943) (1,048)
Proceeds from sale of property and equipment.............. 42 344 --
Cash paid for acquisitions, including transaction costs... (3,606) (10,118) --
Cash of businesses acquired, net of cash paid............. -- -- 1,419
Net change in restricted cash............................. -- 62 --
------- -------- --------
Net cash provided by (used in) investing activities.... (5,974) (10,655) 371
------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES
Short-term bank borrowings, net........................... -- (3,400) 3,400
Payments of capital lease obligation...................... (320) -- (1,600)
Payment of note payable................................... (641) -- (1,600)
Purchase of treasury stock................................ (7,000) (1,031) --
Payments under deferred payment agreement................. (2,233) -- --
Proceeds from issuance of common stock, net of issuance
costs.................................................. 5,593 15,731 --
Proceeds from issuance of common stock under employee
stock compensation plans............................... 2,683 1,131 815
------- -------- --------
Net cash provided by (used in) financing
activities........................................ (1,918) 12,431 2,615
------- -------- --------
Effects of exchange rate changes on cash and cash
equivalents............................................... 78 (395) (31)
------- -------- --------
Net increase (decrease) in cash and cash equivalents........ 4,529 11,753 (2,591)
Cash and cash equivalents at beginning of year.............. 14,324 2,571 5,162
------- -------- --------
Cash and cash equivalents at end of year.................... $18,853 $ 14,324 $ 2,571
======= ======== ========

The accompanying notes are an integral part of these consolidated financial
statements.
F-16

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. ORGANIZATION AND PRESENTATION

ScanSoft, Inc. was incorporated as Visioneer, Inc. in March 1992 and
through December 1998, developed and sold scanner hardware and software
products. On January 6, 1999, Visioneer sold the hardware business and the
Visioneer brand name to Primax Electronics, Ltd., and on March 2, 1999,
Visioneer acquired ScanSoft, in a cash election merger, from Xerox Corporation.
The corporate entity "Visioneer" survived the merger, but changed its name to
"ScanSoft, Inc." In addition, Visioneer changed the ticker symbol for its common
stock that trades on the NASDAQ, to "SSFT." On March 13, 2000, the Company
merged with Caere Corporation ("Caere"), a California-based digital imaging
software company. On December 12, 2001, the Company acquired the speech and
language technologies operations of Lernout & Hauspie Speech Products, N.V.
(L&H). The acquisitions of Caere and L&H were accounted for under the purchase
method of accounting and, accordingly, the results of operations from the
acquired businesses have been included in the Company's financial statements as
of the acquisition dates. (see Note 18)

When we refer to "we" or "ScanSoft" or "the Company" in this Annual Report
on Form 10-K, we mean the current Delaware corporation ScanSoft, Inc., including
all of its consolidated subsidiaries.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Use of Estimates in the Preparation of Financial Statements

Basis of Consolidation

The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. Intercompany transactions and balances have
been eliminated.

Foreign Currency Translation

The functional currency of the Company's foreign subsidiaries is the local
currency, with the exception of Budapest, for which the functional currency is
the U.S. dollar. Assets and liabilities of foreign subsidiaries that are
denominated in foreign currencies are translated into U.S. dollars at exchange
rates in effect at the balance sheet date. Revenue and expense items are
translated using the average exchange rates for the period. Net unrealized gains
and losses resulting from foreign currency translation are included in other
comprehensive income (loss), which is a separate component of stockholders'
equity, except for Budapest for which foreign currency translation adjustments
are recorded in other income (expense). Foreign currency transaction gains and
losses are included in results of operations. The Company reported foreign
currency transaction gains and (losses) of $2,000, $0.2 million and $(0.1)
million for the years ended 2002, 2001 and 2000, respectively.

Revenue Recognition

The Company derives revenue from the sale of its software products to
end-users through distribution partners and value added resellers (VARs),
royalties received from OEM partners, license fees from sales

F-17

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

of its products to end-users and from services, primarily maintenance associated
with software license transactions. Additionally shipping and handling costs
billed to customers are recorded as revenue with the related costs recognized in
cost of revenues.

The Company applies the provisions of Statement of Position 97-2 Software
Revenue Recognition, as amended by Statement of Position 98-9 Modification of
SOP 97-2, Software Revenue Recognition, With Respect to Certain Transactions, to
all transactions involving the sale of software products. In addition, the
Company applies the provisions of Staff Accounting Bulletin 101, Revenue
Recognition in Financial Statements. Accordingly, provided that the fee is fixed
or determinable and collection of the receivable is reasonably assured, the
Company generally recognizes revenue from sales of its software products upon
receipt of evidence of the arrangement and upon product shipment or deployment,
except for shipments to a distributor or reseller.

Under the terms of our agreements with distributors and authorized
resellers (including VARs), title and risk-of-loss pass to the customer upon
shipment, at which time the transaction is invoiced and payment is due.
Agreements provide distributors and resellers rights of return. As a result, the
Company recognizes revenue from sales to distributors and resellers only upon
sale of the products by the distributor or reseller to retailers or end-users.
Based on reports from distributors and resellers of their inventory balances at
the end of each period, the Company records an allowance against accounts
receivable for the sales price of all inventory subject to return.

In addition, the Company records reserves for estimated sales returns by
retailers and end-users to it directly or through the Company's distributors or
resellers based on historical returns experience. The provision for these
estimated returns is recorded as a reduction of revenue at the time that the
related revenue is recorded. Such returns from retailers and end-users have not
been significant. Also, from time to time, the Company offers its customers
rebates or offers price protection incentive programs to retailers for the sale
of the Company's products. The Company estimates the impact on revenue of rebate
or price protection programs based upon its historical experience with similar
programs for like products. The estimated reserve for such rebates or programs
is recorded as a reduction of revenue in the period when the rebate or price
protection program is available to the end-user or retailer.

The Company also receives royalties from agreements with original equipment
manufacturers (OEMs). Under the terms of its OEM licensing agreements, the
Company ships a master disk to the OEM and permits the OEM to make multiple
copies. Royalty payments are due to the Company upon the OEM's deployment of
copies of licensed software. Royalty revenue derived from sales to OEM partners
is recognized when software copies are deployed and payment becomes due.
Historically, the Company had not been able to obtain royalty reports from OEM
customers with whom the Company had significant past experience and, therefore,
recognized revenue based on estimated deployments in the respective period. The
Company has determined that it is now able to obtain royalty reports on a timely
basis and as a result can more accurately record OEM revenue based on reports of
actual deployments received from OEM customers. Therefore, beginning with the
fourth quarter of 2002, OEM revenue is recorded based on actual deployments as
reported by OEM customers. This change did not have a material effect on our
financial position, results of operations or cash flows. Additionally, the
differences between actual and estimated deployments were not material for the
years ended December 31, 2001 or 2000, or for any interim period during those
years.

The Company applies the residual method to account for revenues when an
order contains one or more elements to be delivered in the future (for example,
maintenance and support services or training) and when evidence of the fair
value of all undelivered elements exists. Under the residual method, the fair
value of the undelivered elements is initially deferred and the remaining
portion of the arrangement fee is recognized as revenues related to the
delivered elements. If evidence of the fair value of one or more of the
undelivered elements does not exist, all revenues are deferred and recognized
only when delivery of
F-18

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

those elements occurs or when fair value can be established. Vendor-specific
objective evidence (VSOE) of the fair value of each undelivered element is based
on the prices charged by the Company to its customers when these elements are
sold separately or, in the case of some maintenance services, based on the
contractual maintenance renewal rates. VSOE of the fair value of training
service is based on the fee charged per day or per student, depending on the
type of training provided.

The Company recognizes revenue from the sale of maintenance and support to
end-users ratably over the contract period, usually one year. Payments received
in advance for maintenance and support revenue are initially recorded as
deferred revenue. Revenue from training service is recognized as it is provided.

The Company's products do not require installation or implementation by the
Company and do not require significant production, modification or customization
of the software. However, the Company occasionally enters into software license
agreements with customers that require significant modification of the software.
Revenue is recognized under these arrangements in accordance with Statement of
Position 81-1 (SOP 81-1), Accounting for Performance of Construction-Type and
Certain Performance-Type Contracts. Under the percentage-of-completion method,
the Company determines progress toward completion based on costs incurred to
date as compared with total estimated costs at the contract completion date.
Anticipated losses, if any, are recognized in the period in which determined.

Effective January 1, 2002, the Company implemented EITF 01-9, Accounting
for Consideration Given by a Vendor to a Customer (Including a Reseller of the
Vendor's Products). The implementation resulted in a $0.3 million, $1.1 million
and $1.1 million reduction in total revenue and a corresponding reduction of
selling, general and administrative expense for the years ended 2002, 2001 and
2000, respectively.

Costs of Revenue

Costs of Revenue from Amortization of Intangible Assets

Cost of revenue from amortization of intangible assets includes the
amortization of acquired patents and core and completed technology.

Cash Equivalents

Cash equivalents are short-term, highly liquid instruments with original
maturities of 90 days or less at the date of acquisition. The Company invests
primarily in commercial paper.

Accounts Receivable

The Company establishes reserves against its accounts receivable for
potential credit losses when it determines receivables are at risk for
collection based upon the length of time the receivables are outstanding as well
as various other criteria. Receivables are written off against these reserves in
the period they are determined to be uncollectible.

Inventory

Inventory is stated at the lower of cost (determined on a first-in,
first-out basis) or market value.

F-19

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Property and Equipment

Property and equipment are stated at cost and are depreciated using the
straight-line method over the estimated useful lives of the assets. Leasehold
improvements are amortized over the term of the related lease or the useful
life, if shorter. The cost and related accumulated depreciation of sold or
retired assets are removed from the accounts and any gain or loss is included in
operations. Repairs and maintenance costs are expensed as incurred.

Long-lived and Intangible Assets and Goodwill

The Company has significant long-lived tangible and intangible assets,
including goodwill, which are susceptible to valuation adjustments as a result
of changes in various factors or conditions. The most significant long-lived
tangible and intangible assets are fixed assets, patents, core technology, and
trademarks which are amortized using the straight-line method over their
estimated useful lives. The values of intangible assets, with the exception of
goodwill, were initially determined by a risk-adjusted, discounted cash flow
approach. We assess the potential impairment of identifiable intangible assets
and fixed assets whenever events or changes in circumstances indicate that the
carrying value may not be recoverable. Factors we consider important, which
could trigger an impairment of such assets, include the following:

- Significant underperformance relative to historical or projected future
operating results;

- Significant changes in the manner of or use of the acquired assets or the
strategy for our overall business;

- Significant negative industry or economic trends;

- Significant decline in our stock price for a sustained period; and

- A decline in our market capitalization below net book value.

Effective January 1, 2002, the Company adopted Statement of Financial
Accounting Standards No. 142, Goodwill and Other Intangible Assets or SFAS 142.
SFAS 142 requires, among other things, the discontinuance of goodwill
amortization. The standard also includes provisions for the reassessment of the
useful lives of existing recognized intangible assets and the identification of
reporting units for purposes of assessing potential future impairments of
goodwill. SFAS 142 required us to complete a transitional impairment test of
goodwill within six months of the date of adoption. We have reassessed the
useful lives of our existing intangible assets, other than goodwill, and believe
that the original useful lives remain appropriate. In addition, we have
determined that we operate in one reporting unit and, therefore, have completed
our transitional goodwill impairment test on an enterprise-wide level. Based on
this analysis, we have determined that goodwill recorded was not impaired, and
no impairment charge has been recorded. We will complete additional goodwill
impairment analyses at least annually, or more frequently when events and
circumstances occur indicating that the recorded goodwill might be impaired.

Significant judgments and estimates are involved in determining the useful
lives of our intangible assets, determining what reporting units exist and
assessing when events or circumstances would require an interim impairment
analysis of goodwill or other long-lived assets to be performed. Changes in
events or circumstances, including but not limited to technological advances or
competition which could result in shorter useful lives, additional reporting
units which may require alternative methods of estimating fair value, or
economic or market conditions which may affect previous assumptions and
estimates, could have

F-20

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

a significant impact on our results of operations or financial position through
accelerated amortization expense or impairment charges. (See Notes 4 and 5)

Research and Development Costs

Costs incurred in the research and development of new software products and
enhancements to existing products, other than certain software development costs
that qualify for capitalization, are expensed as incurred. Software development
costs incurred subsequent to the establishment of technological feasibility, but
prior to the general release of the product, are capitalized and amortized to
cost of revenue over the estimated useful life of the related products. In the
years ended December 31, 2002, 2001 and 2000, costs eligible for capitalization
were not material.

Income Taxes

Deferred tax assets and liabilities are determined based on the difference
between the financial statement and tax bases of assets and liabilities using
enacted tax rates in effect in the years in which the differences are expected
to reverse. A valuation allowance against deferred tax assets is recorded if,
based on the weight of available evidence, it is more likely than not that some
or all of the deferred tax assets will not be realized. The Company does not
provide for U.S. income taxes on the undistributed earnings of its foreign
subsidiaries, which the Company considers to be permanent investments.

Comprehensive Income (Loss)

Comprehensive income (loss) consists of net loss and other comprehensive
income (loss), which includes foreign currency translation adjustments. For the
purposes of comprehensive loss disclosures, the Company does not record tax
provisions or benefits for the net changes in the foreign currency translation
adjustment, as the Company intends to permanently reinvest undistributed
earnings in its foreign subsidiaries.

Concentration of Risk

Financial instruments that potentially subject the Company to significant
concentrations of credit risk consist principally of cash equivalents, and trade
accounts receivable. The Company places its cash and cash equivalents with
financial institutions with high credit ratings. The Company performs ongoing
credit evaluations of its customers' financial condition and does not require
collateral, since management does not anticipate nonperformance of payment. The
Company also maintains reserves for potential credit losses and such losses have
been within management's expectations. At December 31, 2002, no customer
represented greater than 10% of our net accounts receivable balance. At December
31, 2001, three customers represented 16%, 11% and 5%, of our net accounts
receivable balance, respectively.

Fair Value Disclosures of Financial Instruments

Financial instruments include cash equivalents, accounts receivable, and
long-term notes payable and are carried in the financial statements at amounts
that approximate their fair value as of December 31, 2002 and 2001.

Advertising Costs

Advertising costs are expensed as incurred and are classified as selling,
general and administrative costs. The Company incurred advertising costs of $3.0
million, $2.5 million and $1.9 million for the years ended December 31, 2002,
2001 and 2000, respectively.

F-21

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Net Income (Loss) Per Share

Basic net income (loss) per share is computed by dividing net income (loss)
available to common stockholders by the weighted-average number of common shares
outstanding for the period. Basic net income per share for the year ended
December 31, 2002 includes the assumed conversion of the Series B Preferred
Stock, which participates in dividends with common stock when and if declared as
well as the weighted average impact of vested restricted stock. Diluted net
income (loss) per share is computed by dividing net income (loss) available to
common stockholders by the weighted-average number of common shares outstanding
for the period plus potential dilutive common shares, which include the assumed
conversion of the Series B Preferred Stock, and the effect, when dilutive, of
outstanding stock options, warrants, and unvested shares of restricted stock
using the treasury stock method. All potential dilutive common shares are
excluded from the computation of net loss per share because they are
antidilutive. Dilutive common equivalent shares consist of stock options and
warrants and are calculated using the treasury stock method.

The following is a reconciliation of the shares used in the computation of
basic and diluted net income (loss) per share (in thousands, except per share
amounts):

YEAR ENDED
----------------------------
2002 2001 2000
------ -------- --------

Net income (loss)...................................... $6,333 $(16,877) $(53,251)
Basic:
Weighted average common shares outstanding........... 63,448 49,693 42,107
Assumed conversion of Series B Preferred Stock....... 3,562 -- --
------ -------- --------
Weighted average common shares:
basic.................................................. 67,010 49,693 42,107
====== ======== ========
Net income (loss) per share:
basic.................................................. $ 0.09 $ (0.34) $ (1.26)
====== ======== ========
Effect of dilutive common equivalent shares:
Stock options..................................... 5,223 -- --
Warrants.......................................... 468 -- --
Unvested restricted stock......................... 95 -- --
------ -------- --------
Weighted average common shares:
diluted................................................ 72,796 49,693 42,107
====== ======== ========
Net income (loss) per share:
diluted................................................ $ 0.09 $ (0.34) $ (1.26)
====== ======== ========

For the year ended December 31, 2002, stock options to purchase 1,039,955
shares of common stock were outstanding but were excluded from the calculation
of diluted net income per share because the options' exercise prices were
greater than the average market price of the Company's common stock.
Additionally, stock options to purchase 5,080,343 and 5,179,653 shares of common
stock were not included in the calculation of diluted net loss per share for the
years ended December 31, 2001 and 2000, respectively, because they were
antidilutive.

Potential weighted average common shares, including stock options, unvested
restricted stock, preferred shares and warrants at December 31, 2001 and 2000,
were 11,755,150 and 9,534,865,

F-22

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

respectively. These potential common shares were excluded from the calculation
of diluted net loss per share as their inclusion would have been antidilutive
for the period presented.

On January 30, 2003, the Company issued a $27.5 million subordinated
debenture which is convertible into the Company's common stock at $6.00 per
share. (See Note 20)

Accounting for Stock-Based Compensation

The Company accounts for stock-based awards to employees using the
intrinsic value method as prescribed in Accounting Principles Board ("APB")
Opinion No. 25, "Accounting for Stock Issued to Employees" and related
interpretations. The Company follows the disclosure provisions of Statement of
Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation"
(see Note 11). Deferred compensation is recorded for restricted stock granted to
employees based on the fair value of the Company's common stock at the date of
grant and is amortized over the period in which the restrictions lapse. All
stock-based awards to non-employees are accounted for at their fair value in
accordance with SFAS No. 123 and related interpretations.

Had compensation expense for the Company's stock-based compensation plans
been determined based on fair market value at the grant dates, as prescribed by
SFAS No. 123, the Company's net loss and pro forma net income (loss) and net
(income) loss and pro forma net income (loss) per share would have been as
follows (in thousands, except per share amounts):

YEAR ENDED DECEMBER 31,
-----------------------------
2002 2001 2000
------- -------- --------

Net income (loss) -- as reported...................... $ 6,333 $(16,877) $(53,251)
Stock-based compensation.............................. 9,217 5,020 4,168
------- -------- --------
Net loss -- pro forma................................. $(2,884) $(21,897) $(57,419)
======= ======== ========
Net income (loss) per share -- as reported: basic and
diluted............................................. $ 0.09 $ (0.34) $ (1.26)
Net loss per share -- pro forma: basic and diluted.... $ (0.04) $ (0.44) $ (1.36)

The fair value of each option grant was estimated on the date of grant
using the Black-Scholes option-pricing model with the following assumptions:
expected volatility of 80% for 2002 and 130% for 2001 and 2000, risk-free
interest rate of 4.33% to 2.26% for options granted in 2002, 3.66% to 4.97% for
options granted in 2001 and 5.02% to 6.68% for options granted in 2000, and a
weighted average expected option term of 3.5 years for 2002 and 5 years for 2001
and 2000, respectively. The Company has not paid dividends to date and assumed
no dividend yield.

For the Employee Stock Purchase Plan, the fair value of each purchase right
was estimated at the beginning of the offering period using the Black-Scholes
option-pricing model with the following assumptions used in 2002, 2001 and 2000:
expected volatility of 80% for 2002, 133% to 168% for 2001 and 128% for 2000;
risk-free interest rate of 1.65% to 3.36%, 3.41% to 5.04% and 6.10% for 2002,
2001 and 2000, respectively; and expected lives of six months for all three
years. The Company has not paid dividends and assumed no dividend yield. The
weighted-average fair value of all purchase rights granted in 2002, 2001 and
2000, were $1.49, $1.04 and $1.73, respectively.

Recently Issued Accounting Standards

On December 31, 2002, the FASB issued FASB Statement No. 148 (SFAS 148),
Accounting for Stock-Based Compensation -- Transition and Disclosure, amending
FASB Statement No. 123 (SFAS 123), Accounting for Stock-Based Compensation. This
Statement amends SFAS 123 to provide alternative methods of transition for an
entity that voluntarily changes to the fair value based method of

F-23

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

accounting for stock-based employee compensation. It also amends the disclosure
provisions of that Statement to require prominent disclosure about the effects
on reported net income of an entity's accounting policy decisions with respect
to stock-based employee compensation. Finally, SFAS 148 amends APB Opinion No.
28, Interim Financial Reporting, to require disclosure about those effects in
interim financial information. For entities that voluntarily change to the fair
value based method of accounting for stock-based employee compensation, the
transition provisions are effective for fiscal years ending after December 15,
2002. For all other companies, the disclosure provisions and the amendment to
APB No. 28 are effective for interim periods beginning after December 15, 2002.
SFAS 148 did not have any effect on our financial position, results of
operations or cash flows as we have elected to continue to follow the
recognition provisions of APB No. 25.

On November 25, 2002, the FASB issued FASB Interpretation No. 45 ("FIN
45"), Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others, an interpretation of
FASB Statements No. 5, 57, and 107 and Rescission of FASB Interpretation No. 34.
FIN 45 clarifies the requirements of FASB Statement No. 5, Accounting for
Contingencies (SFAS 5), relating to the guarantor's accounting for, and
disclosure of, the issuance of certain types of guarantees.

FIN 45 requires that upon issuance of a guarantee, the guarantor must
recognize a liability for the fair value of the obligation it assumes under that
guarantee. FIN 45 covers guarantee contracts that have any of the following four
characteristics: (a) contracts that contingently require the guarantor to make
payments to the guaranteed party based on changes in an underlying that is
related to an asset, a liability, or an equity security of the guaranteed party
(e.g., financial and market value guarantees), (b) contracts that contingently
require the guarantor to make payments to the guaranteed party based on another
entity's failure to perform under an obligating agreement (performance
guarantees), (c) indemnification agreements that contingently require the
indemnifying party (guarantor) to make payments to the indemnified party
(guaranteed party) based on changes in an underlying that is related to an
asset, a liability, or an equity security of the indemnified party, such as an
adverse judgment in a lawsuit or the imposition of additional taxes due to
either a change in the tax law or an adverse interpretation of the tax law, and
(d) indirect guarantees of the indebtedness of others.

FIN 45 specifically excludes certain guarantee contracts from its scope.
Additionally, certain guarantees are not subject to FIN 45's provisions for
initial recognition and measurement but are subject to its disclosure
requirements. The initial recognition and measurement provisions are effective
for guarantees issued or modified after December 31, 2002. The Company has
evaluated the impact of FIN 45 on its financial statements and determined that
the recognition provision will not have an impact on the financial position or
results of operations for 2002.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated
with Exit or Disposal Activities, or SFAS 146. This statement addresses
financial accounting and reporting for costs associated with exit or disposal
activities and nullifies EITF Issue 94-3, Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring), or EITF 94-3. SFAS 146 requires that
a liability for a cost associated with an exit or disposal activity be
recognized when the liability is incurred. EITF 94-3 allowed for an exit cost
liability to be recognized at the date of an entity's commitment to an exit
plan. SFAS 146 also requires that liabilities recorded in connection with exit
plans be initially measured at fair value. The provisions of SFAS 146 are
effective for exit or disposal activities that are initiated after December 31,
2002, with early adoption encouraged. The Company does not expect the adoption
of SFAS 146 will have a material impact on its financial position or results of
operations.

In August 2001, the FASB issued Statement of Financial Accounting Standards
No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS
144). The objectives of SFAS 144 are to

F-24

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

address significant issues relating to the implementation of FASB Statement No.
121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of (SFAS 121), and to develop a single accounting model,
based on the framework established in SFAS 121, for long-lived assets to be
disposed of by sale, whether previously held and used or newly acquired. SFAS
144 supersedes SFAS 121; however, it retains the fundamental provisions of SFAS
121 for (1) the recognition and measurement of the impairment of long-lived
assets to be held and used and (2) the measurement of long-lived assets to be
disposed of by sale. SFAS 144 supersedes the accounting and reporting provisions
of Accounting Principles Board No. 30, Reporting the Results of
Operations -- Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions (APB
30), for segments of a business to be disposed of. However, SFAS 144 retains the
requirement of APB 30 that entities report discontinued operations separately
from continuing operations and extends that reporting requirement to "a
component of an entity" that either has been disposed of or is classified as
"held for sale." SFAS 144 also amends the guidance of Accounting Research
Bulletin No. 51, Consolidated Financial Statements, to eliminate the exception
to consolidation for a temporarily controlled subsidiary. SFAS 144 is effective
for financial statements issued for fiscal years beginning after December 15,
2001, including interim periods, and, generally, its provisions are to be
applied prospectively. The Company adopted the provisions of SFAS 144 in 2002
and its adoption had no impact on its results of operations.

3. INVENTORY

Inventory consists of the following (in thousands):

DECEMBER 31,
-------------
2002 2001
------ ----

Raw materials............................................... $ 26 $107
Finished goods............................................ 1,215 400
------ ----
$1,241 $507
====== ====

4. GOODWILL

In June 2001, the Financial Accounting Standards Board issued Statements of
Financial Accounting Standards No. 142 (SFAS 142), "Goodwill and Other
Intangible Assets." SFAS 142 addresses financial accounting and reporting for
acquired goodwill and other intangible assets, including how goodwill and other
intangible assets should be accounted for after they have been initially
recognized. SFAS 142 provides that goodwill and intangible assets that have
indefinite useful lives not be amortized but rather be tested at least annually
for impairment; intangible assets with finite useful lives will continue to be
amortized over their useful lives.

The Company adopted SFAS 142 on January 1, 2002 and discontinued the
amortization of goodwill (including acquired workforce) of approximately $65.2
million. Upon adoption, the Company reclassified $31,000 of previously
amortizable acquired workforce to goodwill. The Company had previously been
recording amortization expense on goodwill and acquired workforce of $10.4
million annually or $2.6 million per quarter.

Under SFAS 142, the Company was required to complete a transitional
impairment test on all goodwill effective as of January 1, 2002 on a reporting
unit basis. A reporting unit is defined as an operating segment or one level
below an operating segment referred to as a component. A component of an
operating segment is a reporting unit if the component constitutes a business
and discrete financial information is prepared and regularly reviewed by
management. The Company determined that it operates

F-25

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

in one reporting unit and, therefore, has completed the transitional goodwill
impairment test on an enterprise-wide basis.

SFAS 142 provides for a two-step impairment test to identify potential
goodwill impairment. The first step of the goodwill impairment test compares the
fair value of a reporting unit with its carrying value, including goodwill. If
the fair value of a reporting unit exceeds its carrying value, goodwill of the
reporting unit is considered not impaired, thus the second step of the
impairment test, which determines the amount of goodwill impairment, is
unnecessary.

The fair value of the reporting unit was determined using the Company's
market capitalization as of January 1, 2002. As the fair value of the reporting
unit as of January 1, 2002 was in excess of the carrying amount of the net
assets, the Company concluded that its goodwill was not impaired, and no
impairment charge was recorded. The Company performed its annual assessment for
2002 in the fourth quarter. Based on the Company's market capitalization as of
November 30, 2002, the fair value of the reporting unit was in excess of the
carrying amount of the net assets as of November 30, 2002. Therefore, no further
analysis was required under SFAS 142.

Intangible assets are amortized on a straight-line basis over their
estimated useful lives of three to twelve years. As required, upon adoption of
SFAS 142, the Company reassessed the useful lives of its intangible assets and
determined that no adjustments were required.

The following summary reflects the consolidated results of operations as if
SFAS 142 had been adopted at the beginning of the periods presented (in
thousands, except net income (loss) per share amounts):

YEAR ENDED DECEMBER 31,
----------------------------
2002 2001 2000
------ -------- --------

Net income (loss):
Reported net income (loss)........................... $6,333 $(16,877) $(53,251)
Effect of goodwill amortization...................... -- 10,387 9,601
------ -------- --------
Adjusted net income (loss)........................... $6,333 $ (6,490) $(43,650)
====== ======== ========
Basic net income (loss) per share:
Reported basic net income (loss) per share........... $ 0.09 $ (0.34) $ (1.26)
Effect of goodwill amortization...................... -- .21 .23
------ -------- --------
Adjusted basic net income (loss) per share........... $ 0.09 $ (0.13) $ (1.03)
====== ======== ========
Diluted net income (loss) per share:
Reported diluted net income (loss) per share......... $ 0.09 $ (0.34) $ (1.26)
Effect of goodwill amortization...................... -- .21 .23
------ -------- --------
Adjusted diluted net income (loss) per share......... $ 0.09 $ (0.13) $ (1.03)
====== ======== ========

F-26

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

5. OTHER INTANGIBLE ASSETS

Other intangible assets consist of the following (in thousands):

GROSS CARRYING ACCUMULATED NET CARRYING
AMOUNT AMORTIZATION AMOUNT
-------------- ------------ ------------

DECEMBER 31, 2002
Patents and core technology.................... $48,130 $19,190 $28,910
Completed technology........................... 16,340 16,340 --
Trademarks..................................... 7,461 2,836 4,625
Non-competition agreement...................... 4,048 4,048 --
Acquired favorable lease....................... 553 553 --
OEM relationships.............................. 1,100 812 288
Other.......................................... 200 200 --
------- ------- -------
$77,832 $43,979 $33,823
======= ======= =======
DECEMBER 31, 2001
Patents and core technology.................... $46,456 $11,771 $34,685
Completed technology........................... 16,340 14,714 1,626
Trademarks..................................... 7,461 1,784 5,677
Non-competition agreement...................... 4,048 3,646 402
Acquired favorable lease....................... 553 355 198
OEM relationships.............................. 1,100 524 576
Assembled workforce............................ 374 270 104
Other.......................................... 200 167 33
------- ------- -------
$76,532 $33,231 $43,301
======= ======= =======

The balances of patents and core technology, trademarks and assembled
workforce at December 31, 2002 reflect the impact of the restatement described
in Note 18. As a result of the restatement, $16.6 million, $2.9 million and $3.3
million of patents and core technology, trademarks and assembled workforce,
respectively, were reallocated to goodwill.

Aggregate amortization expense was $11.2 million ($9.5 million included in
cost of revenue) for the year ended December 31, 2002. Estimated amortization
expense for each of the five succeeding fiscal years as of December 31, 2002 is
as follows (in thousands):

SELLING,
COST OF GENERAL AND
YEAR ENDING REVENUE ADMINISTRATIVE TOTAL
----------- ------- -------------- -------

2003................................................. $ 7,905 $ 944 $ 8,849
2004................................................. 7,461 516 7,977
2005................................................. 3,060 516 3,576
2006................................................. 2,026 301 2,327
2007................................................. 2,026 258 2,284
Thereafter........................................... 7,281 1,529 8,810
------- ------ -------
Total................................................ $29,759 $4,064 $33,823
======= ====== =======

F-27

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

6. PROPERTY AND EQUIPMENT

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

DECEMBER 31,
USEFUL LIFE -----------------
(IN YEARS) 2002 2001
----------- ------- -------

Computers, software and equipment...................... 3 $ 7,650 $ 6,300
Leasehold improvements................................. 2-4 1,315 436
Furniture and fixtures................................. 3 443 193
Construction in process................................ -- 9 176
------- -------
9,417 7,105
Accumulated depreciation............................... (6,571) (4,955)
------- -------
$ 2,846 $ 2,150
======= =======

Depreciation expense, associated with property and equipment, for the years
ended December 31, 2002, 2001 and 2000 was $2.0 million, $1.8 million, and $2.1
million, respectively.

In January 2002, the Company entered into a one-year capital lease
agreement for certain equipment. Total payments during the year were $0.3
million. No further obligation exists as of December 31, 2002. 7. ACCRUED
EXPENSES

Accrued expenses consist of the following (in thousands):

DECEMBER 31,
-----------------
2002 2001
------- -------

Accrued compensation........................................ $ 2,122 $ 2,775
Accrued sales and marketing incentives...................... 1,802 1,160
Accrued restructuring....................................... 665 634
Accrued royalties........................................... 238 750
Accrued professional fees................................... 472 571
Accrued acquisition liabilities............................. 1,437 6,065
Accrued transaction costs................................... 217 882
Accrued taxes and other..................................... 2,820 1,634
------- -------
$ 9,773 $14,471
======= =======

8. RESTRUCTURING AND OTHER CHARGES

In connection with the acquisition of Caere in the first quarter of 2000,
ScanSoft identified 46 employees of Caere whose positions were eliminated upon
consummation of the acquisition. These positions included 22 in research and
development, 14 in general and administrative functions, and 10 in sales and
marketing. Additionally, the Caere president and CEO position was eliminated. As
a result, ScanSoft established as part of the purchase price allocation, a
restructuring reserve of $0.5 million for severance payments to employees, and a
restructuring reserve of $1.1 million for severance to the Caere former
president and CEO, the payments of which will continue through March 2005.

In June 2000, ScanSoft implemented a restructuring plan to strategically
refocus our business and bring operating expenses in line with net revenues. As
a result, the Company eliminated 65 employee

F-28

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

positions including 29 in research and development, 13 in general and
administrative functions and 23 in support and marketing. ScanSoft recorded a
restructuring charge in the amount of $1,069,000 for severance payments to these
employees and a restructuring charge of $0.4 million for certain termination
fees to be incurred as a result of exiting the Los Gatos facility. Additionally,
ScanSoft wrote-off $3.5 million of net intangible assets acquired as part of the
Caere acquisition including the acquired work force of $1.1 million and the
favorable building lease of $2.4 million, which were impaired as a result of the
restructuring action.

The Company was obligated to pay retention bonuses amounting to
approximately $0.8 million and $0.2 million relating to key employees who were
employed in the Caere integration and restructuring of the companies,
respectively. These retention bonuses were expensed as incurred and were not
included in the purchase price of the acquisition. As of December 31, 2000, the
Company had paid all of these bonuses.

During the fourth quarter of 2000, the Company incurred an additional $0.3
million of facility related exit costs related to leasehold improvements on the
Los Gatos facility in space vacated by the Company.

Additionally, during the fourth quarter the Company reversed $0.4 million
of restructuring accruals taken in June 2000. Facility related contracts
accounted for $0.3 million of the reserve. The remaining $0.1 million related to
severance accruals for employees who left the Company prior to being eligible to
receive severance benefits.

Through December 31, 2001 ScanSoft paid $1.9 million in severance payments
related to these restructuring actions.

In January 2002, the Company announced, and in March 2002 completed, a
restructuring plan to consolidate facilities, worldwide sales organizations,
research and development teams and other personnel following the December 12,
2001 L&H acquisition. As a result, the Company exited facilities in both North
America and Europe, eliminating 21 employee positions, including 12 in research
and development and 9 in selling, general and administrative functions. In the
first quarter of 2002, the Company recorded a restructuring charge in the amount
of $0.6 million for severance payments to these employees, and a restructuring
charge of $0.4 million for certain termination fees to be incurred as a result
of exiting the facilities, including the write-off of previously recorded
assembled workforce of $0.1 million.

During the fiscal year ended December 31, 2002, the Company paid a total of
$0.8 million in severance payments, of which $0.6 million related to the March
2002 restructuring and $0.2 million related to severance paid to the former
Caere President and CEO, pursuant to a 2000 restructuring.

F-29

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The following table sets forth the 2002, 2001 and 2000 restructuring
accrual activity (in thousands):

LEASE INTANGIBLE
EMPLOYEE EXIT ASSET
RESTRUCTURING AND OTHER CHARGES ACCRUAL RELATED COSTS IMPAIRMENT TOTAL
--------------------------------------- -------- ----- ---------- ------

Restructuring reserve provided in March 2000
acquisition.................................... $1,552 $1,552
Restructuring and other charges for June 2000
restructuring.................................. 1,069 $397 $3,490 4,956
Additional restructuring charges for June 2000
restructuring.................................. 276 276
Reversal of excess restructuring charges related
to June 2000 restructuring..................... (73) (347) (420)
Non-cash write-off............................... (276) (3,490) (3,766)
Cash payments.................................... (1,120) (1,120)
------ ---- ------ ------
Balance at December 31, 2000..................... 1,428 50 -- 1,478
Cash payments.................................... (794) (50) (844)
------ ---- ------ ------
Balance at December 31, 2001..................... $ 634 $ -- $ -- $ 634
Restructuring and other charges for March 2002
restructuring.................................. 576 465 -- 1,041
Non-cash write-off............................... (113) -- (113)
Cash payments.................................... (764) (133) (897)
------ ---- ------ ------
Balance at December 31, 2002..................... $ 446 $219 $ -- $ 665
====== ==== ====== ======

9. DEBT

Credit Facility

On October 31, 2002, the Company entered into a two year Loan and Security
Agreement (the "Loan Agreement") with Silicon Valley Bank (the "Bank") that
consisted of a $10 million revolving loan (the "Credit Facility"). Borrowings
under the Credit Facility will bear interest at the Bank's prime rate plus
0.375% or 0.75%, (4.625% at December 31, 2002) which is determined by the
Company's fixed charge coverage ratio, as defined in the Loan Agreement. The
maximum aggregate amount of borrowings outstanding at any one time will be
limited to the lesser of $10.0 million or a borrowing base equal to either 80%
or 70% of eligible accounts receivable, as defined in the Loan Agreement, based
on the Company's fixed charge coverage ratio. As of December 31, 2002, based
upon the calculated borrowing base, available borrowings totaled approximately
$8.6 million. Borrowings under the loan agreement cannot exceed the borrowing
base and must be repaid in the event they exceed the calculated borrowing base
or upon expiration of the two year loan term. Pursuant to the Loan Agreement,
the Company will be required to maintain certain financial and non-financial
covenants, the most restrictive of which is a quarterly minimum fixed charge
coverage ratio of 1.25 to 1.00. Borrowings under the Loan Agreement are
collateralized by substantially all of the Company's personal property,
predominantly its accounts receivable, but not its intellectual property. As of
December 31, 2002, there was no outstanding balance under this Credit Facility
and the Company was in compliance with all debt covenants.

F-30

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

that was issued to Koninklijke Royal Philips Electronics N.V. ("Philips") in
connection with our acquisition of the Speech Processing Telephony and Voice
Control business units of Philips contains a restrictive covenant which
prohibits us from paying or declaring any dividend or distribution (other than
distributions of our equity securities) on our capital stock while the note is
outstanding. This restriction terminates if one half or more of the note is
converted by Philips into common stock.

On March 14, 2000, the Company entered into a one year Credit Agreement
(the "Agreement") with its then primary financial institution for a $10 million
revolving loan (the "Prior Credit Facility"). Borrowings under the Prior Credit
Facility bore interest at the prime rate plus one percent and, as amended,
expired on September 30, 2001. The maximum aggregate amount of borrowings
outstanding at any one time as amended was $5.0 million. During 2001, the
Company repaid all amounts due under the Prior Credit Facility, which included
principal and interest amounting to $3.4 million. The Prior Credit Facility was
terminated and cancelled upon the final payment.

Note Payable

In connection with the L&H acquisition (see Note 18), the Company issued a
$3.5 million promissory note (the "Note") to Lernout & Hauspie Speech Products,
N.V. The unsecured Note had a stated maturity date of December 15, 2004 and bore
interest at 9% per annum. Payments of principal and interest in the amount of
$133,000 were due quarterly commencing on March 15, 2002, for a total of eleven
payments. During the year ended December 31, 2002, four quarterly payments were
made in accordance with the terms and conditions of the promissory note.

In connection with an agreement to repurchase 1,461,378 shares of common
stock from L&H Holdings USA, Inc. and Lernout & Hauspie Speech Products N.V.
(collectively, L&H) (see Note 10), entered into by the Company in September
2002, the terms of the Note were amended to provide for the acceleration of the
maturity date of the outstanding principal and interest to January 1, 2003 if
consummation of the underwritten public offering (also described in Note 10) did
not occur by January 1, 2003. The Company did not complete the offering by
January 1, 2003 and accordingly, the debt became immediately due and payable. To
fulfill this obligation, on January 3, 2003, the Company paid $3.3 million in
full settlement of all of the outstanding principal and accrued interest under
the Note. The Company has classified the debt as current in its balance sheet at
December 31, 2002.

10. STOCKHOLDERS' EQUITY

Preferred Stock

The Company is authorized to issue up to 40,000,000 shares of preferred
stock, par value $0.001 per share. The Company has designated 100,000 shares as
Series A Preferred Stock and 15,000,000 as Series B Preferred Stock. In
connection with the acquisition of ScanSoft (see Note 1), the Company issued
3,562,238 shares of Series B Preferred Stock to Xerox Corporation ("Xerox"). The
Series B Preferred Stock is convertible into shares of common stock on a
one-for-one basis. The Series B Preferred Stock has a liquidation preference of
$1.30 per share plus all declared but unpaid dividends. The Series B Preferred
Stock holders are entitled to non-cumulative dividends at the rate of $0.065 per
annum per share, payable when, as and if declared by the Board of Directors. To
date no dividends have been declared by the Board of Directors. Holders of
Series B Preferred Stock have no voting rights, except those rights provided
under Delaware law. The undesignated shares of preferred stock will have rights,
preferences, privileges and restrictions, including voting rights, dividend
rights, conversion rights, redemption privileges and liquidation preferences, as
shall be determined by the Board of Directors upon issuance of the preferred
stock. The Company has reserved 3,562,238 shares of its common stock for
issuance upon conversion of the Series B Preferred Stock.

F-31

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Common Stock Warrants

In connection with the ScanSoft acquisition (see Note 1), the Company
issued Xerox a ten-year warrant that allows Xerox to acquire a number of shares
of common stock equal to the number of stock options (whether vested or
unvested) that remains unexercised at the expiration of any ScanSoft stock
option assumed by the Company in the merger. The exercise price for each warrant
share is $0.61. If all of the assumed ScanSoft options expire without being
exercised, Xerox would be entitled to purchase 1,736,630 shares of common stock.
From the date of acquisition through December 31, 2002, 525,732 ScanSoft options
have been forfeited and accordingly, the Xerox warrant at December 31, 2002 was
exercisable for the purchase of 525,732 shares of the Company's common stock.

Stock Repurchase

During 2001, the Board of Directors authorized the repurchase of up to 2
million shares of common stock for a period of one year ending on August 22,
2002. Purchases were made in the open market and in privately negotiated
transactions. Repurchased shares are available for issuance under employee stock
plans or in the ordinary course of business. During the year ended December 31,
2001 the Company repurchased 656,000 shares of common stock at a cost of $1.0
million. No other shares were repurchased under the program.

In September of 2002, the Company repurchased 1,461,378 shares of common
stock from L&H Holdings USA, Inc. and Lernout & Hauspie Speech Products N.V.
(collectively, L&H) and certain other parties at $4.79 per share for a total
consideration of $7.0 million. The price per share was based on the greater of
$4.79 or the twenty day trading average beginning August 14, 2002, which was
$4.67. These shares represented a portion of the common shares that were issued
to L&H in connection with the December 12, 2001 acquisition of certain of L&H's
speech and language technology operations and the March 21, 2002 acquisition of
the AudioMining assets of L&H Holdings USA, Inc.

As of December 31, 2002 and 2001, the Company had 2,117,378 and 656,000
shares of common stock in treasury at a cost of $8.0 million and $1.0 million,
respectively.

Other

On April 12, 2002, the Company completed a private placement of 1.0 million
shares of common stock at a purchase price of $6.00 per share with SF Capital
Partners Ltd. ("SF Capital"), resulting in proceeds, net of issuance costs, of
$5.6 million. In purchasing these shares, SF Capital was provided with certain
registration rights which required that the shares be registered no later than
August 10, 2002. The shares held by SF Capital were were registered on February
10, 2003.

In connection with the agreement to repurchase 1,461,378 shares of common
stock from L&H Holdings USA, Inc. and Lernout & Hauspie Speech Products N.V.
(collectively, L&H) entered into by the Company in September 2002, the Company
agreed to issue an additional 150,000 shares of its common stock to L&H if it
did not complete an underwritten public offering of the shares held by L&H by
December 15, 2002. The Company further agreed to issue an additional 150,000
shares of its common stock to L&H if it did not complete an underwritten public
offering by February 15, 2003. The Company also would be required to issue an
additional 100,000 shares of its common stock to L&H if, by February 15, 2003,
it failed to file a registration statement to register the shares remaining
unsold. The value ascribed to the potential right to acquire additional shares
of the Company's common stock was valued at $0.3 million using a
probability-weighted, Black-Scholes valuation model and recorded as a credit to
additional paid-in capital, with a corresponding reduction in additional paid-in
capital because the Company has an accumulated deficit. Accordingly, the right
had no net effect on the Company's financial position or results of operations.
The Company completed the public offering on February 14, 2003.

F-32

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

Because the offering was not completed by December 15, 2002, the Company issued
L&H 150,000 shares of common stock on December 18, 2002.

During December 2001, the Company issued 262,200 shares of its common stock
in partial settlement of a $2.1 million liability assumed in connection with the
Caere acquisition. The common stock was valued at $0.7 million based on the fair
value of the common stock on the date the agreement was reached. The Company
also agreed to pay $0.7 million in cash as part of the settlement. The Company
realized a gain on this settlement of $0.7 million as a reduction of general and
administrative expenses in 2001.

On December 21, 2001, the Company committed to issuing 65,100 shares of its
common stock in partial settlement of a $1.0 million liability incurred as part
of the Caere acquisition. The common stock was valued at $0.3 million based on
the fair value of the common stock on the date agreement was reached. The
Company also agreed to pay $0.3 million in cash as part of the settlement. The
Company realized a gain on this settlement of $0.3 million as a reduction of
general and administrative expenses in 2001. The $0.3 million value of the
common stock is reflected in other long-term liabilities at year-end as the
shares were not issued as of December 31, 2001. The stock was issued in January
2002.

11. STOCK COMPENSATION PLANS

Stock Option and Award Plans

The Company has several stock-based compensation plans under which
employees, officers, directors and consultants may be granted stock awards or
options to purchase the Company's common stock generally at the fair market
value on the date of grant. Plans do not allow for options to be granted at
below fair market value nor can they be re-priced at anytime. Options become
exercisable over various periods, typically two to four years and have a maximum
term of 10 years. At December 31, 2002, 18,028,104 shares were authorized for
grant under the Company's stock-based compensation plans, of which 2,882,397
were available for future grant. To date, all stock options have been granted
with exercise prices equal to or greater than the fair market value of the
Company's common stock on the date of grant.

During 2001, the Company awarded 133,824 shares of restricted common stock
to senior executives at a weighted average fair value at the grant date of $2.72
resulting in deferred compensation of $291,000. Restrictions lapse over a period
of 2 to 4 years depending on the grant. The restricted stock awards entitle the
participant to full dividend and voting rights. Unvested shares are restricted
as to disposition and subject to forfeiture under certain circumstances.
Deferred compensation expense is amortized to compensation expense over the
period that the restrictions lapse. During 2002 and 2001, compensation expense
of $103,000 and $15,000 was recognized, respectively. No restricted stock was
awarded for the year ended December 31, 2002.

F-33

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The following table summarizes activity under all stock option plans and
for options granted outside the plans:

WEIGHTED
NUMBER AVERAGE
OF SHARES EXERCISE PRICE
---------- --------------

Balance at December 31, 1999................................ 4,178,837 $2.77
Options granted............................................. 7,453,007 $2.26
Options granted in exchange for Caere options............... 4,577,993 $2.51
Options exercised........................................... (307,307) $0.97
Options canceled............................................ (3,536,878) $2.80
----------
Balance at December 31, 2000................................ 12,365,652 $2.49
Options granted............................................. 3,891,021 $2.39
Options exercised........................................... (527,582) $1.96
Options canceled............................................ (2,511,922) $3.27
----------
Balance at December 31, 2001................................ 13,217,169 $2.33
Options granted............................................. 4,965,913 $5.43
Options exercised........................................... (1,362,299) $1.83
Options canceled............................................ (1,675,076) $4.03
----------
Balance at December 31, 2002................................ 15,145,707 $3.20
==========

The weighted average grant date fair value per share of options granted was
$3.12, $1.92 and $1.83 for the years ended December 31, 2002, 2001 and 2000,
respectively.

Stock options to purchase 8,389,293, 6,502,668 and 4,088,911 shares of
common stock were exercisable as of December 31, 2002, 2001 and 2000,
respectively.

The following table summarizes information about stock options outstanding
under the Company's stock compensation plans at December 31, 2002:

OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------- ----------------------------
WEIGHTED
AVERAGE WEIGHTED WEIGHTED
EXERCISE SHARES REMAINING AVERAGE SHARES AVERAGE
PRICE RANGE OUTSTANDING LIFE IN YEARS EXERCISE PRICE EXERCISABLE EXERCISE PRICE
----------- ----------- ------------- -------------- ----------- --------------

$0.41 - $1.23 1,717,044 7.46 $0.90 1,264,731 $0.89
$1.25 - $1.28 787,931 7.61 1.28 638,216 1.28
$1.31 - $1.34 2,782,819 7.63 1.34 2,764,370 1.34
$1.41 - $2.22 1,674,869 6.83 1.76 1,215,901 1.77
$2.28 - $3.40 1,621,170 7.58 3.15 805,982 3.06
$3.60 - $4.30 2,461,171 8.28 4.22 635,343 4.21
$4.45 - $5.20 729,509 8.09 4.85 264,097 4.90
$5.36 - $5.36 1,687,590 9.33 5.36 461,049 5.36
$5.38 - $6.97 1,644,104 7.75 6.65 339,604 6.38
$7.14 - $8.74 39,500 9.53 7.54 0 0.00
---------- ---------
$0.41 - $8.74 15,145,707 7.85 $3.20 8,389,293 $2.25
========== =========

F-34

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

1995 Employee Stock Purchase Plan

The Company's 1995 Employee Stock Purchase Plan, as amended on June 29,
1999, authorizes the issuance of a maximum of 1,000,000 shares of common stock
in semi-annual offerings to employees at a price equal to the lower of 85% of
the closing price on the applicable offering commencement date or 85% of the
closing price on the applicable offering termination date. The Company issued
87,185, 95,952 and 46,896 shares of common stock under this plan during the
years ended December 31, 2002, 2001 and 2000 respectively. The weighted average
fair value of common stock on the grant date was $1.48, $0.71 and $1.08 during
the years ended December 31, 2002, 2001 and 2000 respectively.

12. COMPREHENSIVE INCOME (LOSS)

Total comprehensive income (loss), net of taxes, was $6.8 million, ($17.3)
million and ($53.3) million for the years ended December 31, 2002, 2001 and 2000
respectively. Total comprehensive income (loss) consisted of net income or loss
and foreign currency translation adjustments for the respective periods.

13. COMMITMENTS AND CONTINGENCIES

Operating Leases

The Company has various operating leases for office space around the world.
These obligations extend through 2008. Future minimum payments under operating
leases with an initial term of more than one year are as follows (in thousands):

YEAR ENDING
DECEMBER 31,
------------

2003........................................................ $2,020
2004........................................................ 1,827
2005........................................................ 1,779
2006........................................................ 1,421
2007........................................................ 332
Thereafter.................................................. 83
------
Total....................................................... $7,462
======

Total rent expense under operating leases for the years ended December 31,
2002, 2001 and 2000 was $1.8 million, $0.8 million and $0.8 million,
respectively.

Litigation and Other Claims

Like many companies in the software industry, the Company has from time to
time been notified of claims that it may be infringing certain intellectual
property rights of others. These claims have been referred to counsel, and they
are in various stages of evaluation and negotiation. If it appears necessary or
desirable, the Company may seek licenses for these intellectual property rights.
There is no assurance that licenses will be offered by all claimants, that the
terms of any offered licenses will be acceptable to the Company or that in all
cases the dispute will be resolved without litigation, which may be time
consuming and expensive, and may result in injunctive relief or the payment of
damages by the Company.

F-35

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

On November 27, 2002, AllVoice Computing plc filed an action against the
Company in the United States District Court for the Southern District of Texas
claiming patent infringement. In the lawsuit, AllVoice alleges that the Company
is infringing United States Patent No. 5,799,273 entitled "Automated
Proofreading Using Interface Linking Recognized Words to Their Audio Data While
Text Is Being Changed" (the "'273 Patent"). The '273 Patent generally discloses
techniques for manipulating audio data associated with text generated by a
speech recognition engine. Although the Company has several products in the
speech recognition technology field, the Company believes that its products do
not infringe the '273 Patent because they do not use the claimed techniques.
Damages are sought in an unspecified amount. The Company filed an Answer on
December 23, 2002. For the reasons described here, the Company believes this
claim has no merit, and intends to defend the action vigorously.

In December 2001, the Massachusetts Institute of Technology and Electronics
For Imaging, Inc. sued the Company in the United States District Court for the
Eastern District of Texas for patent infringement. The patent infringement claim
was filed against more than 200 defendants. In their lawsuit, MIT and EFI allege
that the Company is infringing United States Patent No. 4,500,919 entitled
"Color Reproduction System" (the "'919 Patent"). MIT and EFI allege that the
'919 Patent discloses a system for adjusting the colors of a scanned image on a
television screen and outputting the modified image to a device. The Company has
several products that permit a user to adjust the color of an image on a
computer monitor. The Company has asserted that its products do not infringe the
'919 Patent because its products do not contain all elements of the structure
required by the claimed invention and because its products do not perform all of
the steps required by the claimed method. Further, the Company believes there
may be prior art that would render the '919 Patent invalid. The '919 Patent
expired on May 6, 2002. Damages are sought in an unspecified amount. The Company
filed an Answer and Counterclaim on June 28, 2002. For the reasons described
here, the Company believes this claim has no merit, and intends to defend the
action vigorously.

On August 16, 2001, Horst Froessl sued the Company in the United States
District Court for the Northern District of California for patent infringement.
In his lawsuit, Froessl alleges that the Company is infringing United States
Patent No. 4,553,261 entitled "Document and Data Handling and Retrieval System"
(the "'261 Patent"). Froessl alleges that the '261 Patent discloses a system for
receiving and optically scanning documents, converting selected segments of the
digitalized scan data into machine code, and storing and retrieving the
documents and the digitalized and converted segments. Although the Company has
several products in the scanning technology field, the Company has asserted that
its products do not infringe the '261 Patent because its products do not contain
all elements of the structure required by the claimed invention and because its
products do not perform all of the steps required by the claimed method.
Further, the Company believes there may be prior art that would render the '261
Patent invalid. Damages are sought in an unspecified amount. The Company filed
an Answer and Counterclaim on September 19, 2001. For the reasons described
here, the Company believes this claim has no merit, and intends to defend the
action vigorously.

The Company believes that the final outcome of these matters will not have
a significant adverse effect on its financial position and results of
operations, and the Company believes it will not be required to expend a
significant amount of resources defending such claims. However, should the
Company not prevail in any such litigation, its operating results and financial
position could be adversely impacted.

Guarantees

The Company has entered into agreements to indemnify its directors and
officers to the fullest extent authorized or permitted under applicable law.
These agreements, among other things, provide for the indemnification of its
directors and officers for expenses, judgments, fines, penalties and settlement
amounts incurred by any such person in his or her capacity as a director or
officer of the company, whether or not such person is acting or serving in any
such capacity at the time any liability or expense is

F-36

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

incurred for which indemnification can be provided under the agreements. The
Company has a Director and Officer insurance policy in effect that reduces its
exposure under these agreements and enables it to recover a portion of any
future amounts paid. While the maximum potential amount of any future payments
under these agreements is uncertain, as a result of its insurance coverage the
Company believes the estimated fair value of these agreements is minimal.

The Company currently includes indemnification provisions in the contracts
it enters with its customers and business partners. Generally, these provisions
require the Company to defend claims arising out of its products' infringement
of third-party intellectual property rights, breach of contractual obligations
and/or unlawful or otherwise culpable conduct on its part. The indemnity
obligations imposed by these provisions generally cover damages, costs and
attorneys' fees arising out of such claims. In most, but not all, cases the
Company's total liability under such provisions is limited to either the value
of the contract or a specified, agreed upon, amount. In some cases, its total
liability under such provisions is unlimited. In many, but not all, cases the
term of the indemnity provision is perpetual. Although these provisions are
included in most of its contracts with customers and business partners, as noted
above, the Company is currently indemnifying the liabilities of only four
parties pursuant to such provisions. Each of these four parties is a defendant
in a case filed by the Massachusetts Institute of Technology and Electronics for
Imaging, Inc. in the United States District Court for the Eastern District of
Texas in December 2001. The case, which alleges patent infringement by certain
ScanSoft products, is more fully described above. The Company's indemnity
obligations in this case have required it to incur costs and attorney fees of
approximately $0.1 million to date. The Company cannot predict the outcome of
this case or the total additional indemnity costs it may produce, though it may
be required to indemnify one or more defendants in addition to those it is
already indemnifying. While the maximum potential amount of future payments the
Company could be required to make under all the indemnification provisions in
its contracts with customers and business partners is unlimited, it believes
that the estimated fair value of these provisions is moderate due to the low
frequency with which these provisions have been triggered.

14. 401(K) SAVINGS PLAN

The Company has established a retirement savings plan under Section 401(k)
of the Internal Revenue Code (the "401(k) Plan"). The 401(k) Plan covers
substantially all employees of the Company who meet minimum age and service
requirements, and allows participants to defer a portion of their annual
compensation on a pre-tax basis. Through October 15, 2002, the Company matched
an employee's contributions dollar for dollar up to 4%. Employees are 100%
vested into the plan as soon as they start to contribute to the plan. Effective
October 16, 2002, this match was discontinued. The Company's contributions to
the 401(k) Plan totaled $0.6 million, $0.4 million and $0.4 million for the
years ended December 31, 2002, 2001 and 2000, respectively.

15. SUPPLEMENTAL CASH FLOW INFORMATION

During the years ended December 2002, 2001 and 2000, the Company made cash
payments for interest totaling $0.3 million, $0.1 million and $0.6 million,
respectively.

During the years ended December 2002, 2001 and 2000, the Company made cash
payments for income taxes totaling $0.6 million, $0.3 million and $0.3 million,
respectively.

During December 2002, the Company issued 150,000 shares of common stock
valued at $0.3 million in connection with the agreement to repurchase 1,461,378
shares of common stock from L&H. (see Note 10)

During 2002, the Company entered into favorable settlement agreements
related to liabilities assumed in the L&H acquisition, resulting in a reduction
of $2.2 million of the assumed liabilities recorded at the

F-37

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

date of acquisition with a corresponding reduction recorded to the carrying
value of goodwill. (see Note 18)

During March 2002, the Company issued 121,359 shares of the Company's
common stock valued at $0.6 million in connection with a purchase agreement in
which the Company acquired patents and core technology associated with the
Audiomining assets of the speech and language technology assets of L&H. In
addition, the Company issued a 9% promissory note in the principal amount of
$0.4 million with principal and interest to be repaid in full on July 31, 2002
and $0.5 million in cash, for total consideration of $1.5 million.

During January 2002, the Company issued 65,100 shares of its common stock
in partial settlement of a $1.0 million liability incurred as part of the Caere
acquisition. The common stock was valued at $0.3 million based on the fair value
of the common stock on December 21, 2001, the date the agreement was reached.

During January 2002, the Company acquired $0.3 million of equipment through
a one-year capital lease arrangement. No further obligation exists as of
December 31, 2002.

During December 2001, the Company issued 7.4 million shares of the
Company's common stock valued at $27.8 million, a 9% promissory note in the
principal amount of $3.5 million in connection with the L&H acquisition (see
Note 18) in which the Company acquired patents, trademarks, tradenames, product
and customer contracts associated with certain of the speech and language
technology assets of L&H.

During March 2000, the Company acquired all of the outstanding capital
stock of Caere Corporation. As consideration, the Company issued 19.0 million
shares of common stock valued at $98.5 million and stock options for the
purchase of approximately 4.6 million shares of the Company's common stock
valued at $15.5 million in exchange for outstanding employee stock options of
Caere. In addition, pursuant to a concurrent non-competition agreement and
subject to certain other conditions, the Company agreed to pay in cash the
former Caere President and CEO on the second anniversary of the merger, March
13, 2002, the difference between $13.50 and the closing price per share of
ScanSoft common stock at that time, multiplied by 486,548. (see Note 19)

16. SEGMENT AND GEOGRAPHIC INFORMATION

The Company operates in a single segment. The following table presents
total revenue information by geographic area and principal product line (in
thousands):

YEAR ENDED DECEMBER 31,
----------------------------
2002 2001 2000
-------- ------- -------

North America.......................................... $ 77,540 $49,266 $39,479
Other foreign countries................................ 29,079 13,451 8,482
-------- ------- -------
Total................................................ $106,619 $62,717 $47,961
======== ======= =======

F-38

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

YEAR ENDED DECEMBER 31,
----------------------------
2002 2001 2000
-------- ------- -------

Digital Capture........................................ $ 62,454 $60,966 $47,961
Speech................................................. 44,165 1,751 --
-------- ------- -------
Total................................................ $106,619 $62,717 $47,961
======== ======= =======

Revenue classification above is based on the country in which the sale
originates or is invoiced. Revenue in other countries predominately relates to
sales to customers in Asia and Europe. Intercompany sales are insignificant as
products sold in other countries are sourced within Europe or the United States.

A number of the Company's North American OEM customers distribute its
products throughout the world but because these customers do not provide the
geographic dispersion of products sales, the Company recorded the revenue in the
North America category.

For the year ended December 31, 2002, two distribution and fulfillment
partners, Ingram Micro and Digital River, accounted for 25% and 12% of our
consolidated revenue, respectively. During the year ended December 31, 2001,
Ingram Micro and Digital River accounted for 28% and 15% of our consolidated
revenue, respectively. During the year ended December 31, 2000, Ingram Micro and
Digital River accounted for 7% and 11% of our consolidated revenue,
respectively.

The following table summarizes the Company's long-lived assets, excluding
intangible assets, by geographic location (in thousands):

DECEMBER 31,
---------------
2002 2001
------ ------

North America............................................... $1,992 $2,165
Other foreign countries..................................... 1,951 662
------ ------
$3,943 $2,827
====== ======

17. INCOME TAXES

The components of the income tax provision (benefit) are as follows (in
thousands):

YEAR ENDED DECEMBER 31,
-----------------------
2002 2001 2000
------ ------ -----

Federal..................................................... $(900) $ (16) $ --
Foreign................................................... 907 277 382
State..................................................... 247 (578) 90
----- ----- ----
Provision (benefit) for income taxes................... $ 254 $(317) $472
===== ===== ====

The benefit for federal and state income taxes in 2002 and 2001,
respectively relate to refunds related to Caere Corporation.

F-39

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

For financial reporting purposes, income (loss) before income taxes
includes the following components (in thousands):

YEAR ENDED DECEMBER 31,
----------------------------
2002 2001 2000
------ -------- --------

North America.......................................... $4,585 $(17,797) $(53,609)
Foreign................................................ 2,002 603 830
------ -------- --------
Total................................................ $6,587 $(17,194) $(52,779)
====== ======== ========

The cumulative amount of undistributed earnings of foreign subsidiaries,
which is intended to be permanently reinvested and for which U.S. income taxes
have not been provided, totaled approximately $3.5 million at December 31, 2002.

Deferred tax assets (liabilities) consist of the following (in thousands):

DECEMBER 31,
-------------------
2002 2001
-------- --------

Deferred tax assets
Net operating loss carryforwards.......................... $ 33,212 $ 36,439
Federal and state credit carryforwards.................... 4,903 4,011
Capitalized start-up and development costs................ 1,062 1,108
Accrued expense and other reserves........................ 3,600 3,374
Deferred revenue.......................................... 558 1,136
Depreciation.............................................. 2,210 1,960
Other..................................................... 8 4
-------- --------
Gross deferred tax assets................................. 45,553 48,032
Deferred tax liabilities
Acquired intangibles...................................... (4,538) (7,767)
Valuation allowance......................................... (41,015) (40,265)
-------- --------
Net deferred tax assets................................ $ -- $ --
======== ========

At December 31, 2002 and 2001, the Company provided a valuation allowance
for the full amount of its net deferred tax assets due to the uncertainty of
realization of those assets as a result of the recurring and cumulative losses
from operations.

The Company monitors the realization of its deferred tax assets based on
changes in circumstances, for example, recurring periods of income for tax
purposes following historical periods of cumulative losses or changes in tax
laws or regulations. Our income tax provisions and our assessment of the
realizability of our deferred tax assets involve significant judgments and
estimates. If we continue to generate taxable income through profitable
operations in future years we may be required to recognize these deferred tax
assets through the reduction of the valuation allowance which would result in a
material benefit to our results of operations in the period in which the benefit
is determined.

F-40

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

A reconciliation of the Company's effective tax rate to the statutory
federal rate is as follows:

YEAR ENDED DECEMBER 31,
---------------------------
2002 2001 2000
----- ----- -----

Federal statutory tax rate............................ 34.0% (34.0)% (34.0)%
Nondeductible amortization and in-process research and
development......................................... 0.0% 20.0% 5.3%
Foreign taxes......................................... 6.6% (0.4)% 0.4%
State tax, net of federal benefit..................... 3.1% (4.4)% 0.1%
Other................................................. (2.2)% 2.3% --
Change in valuation allowance......................... (17.4)% 16.5% 29.1%
Federal research and development credits.............. (6.5)% (1.8)% --
Federal benefit -- refundable taxes................... (13.7)% -- --
----- ----- -----
3.9% (1.8)% 0.9%
===== ===== =====

At December 31, 2002 and 2001, the Company had federal net operating loss
carryforwards of approximately $82 million and $90 million, respectively, of
which approximately $9.1 million and $4.1 million, respectively, relate to tax
deductions from stock compensation. The tax benefit related to the stock
compensation, when realized, will be accounted for as additional paid-in capital
rather than as a reduction of the provision for income tax. At December 31, 2002
the Company had federal and state research and development credit carryforwards
of approximately $3.4 million and $2.3 million respectively. At December 31,
2001, the Company had federal and state research and development credit
carryforwards of approximately $2.8 million and $1.6 million, respectively. The
net operating loss and credit carryforwards will expire at various dates through
2021, if not utilized. Utilization of the net operating losses and credits may
be subject to a substantial annual limitation due to the ownership change
limitations provided by the Internal Revenue Code of 1986 and similar state
provisions. The annual limitation may result in the expiration of net operating
losses and credits before utilization.

18. ACQUISITIONS

Audiomining Acquisition:

On February 22, 2002, the Company entered into a definitive asset purchase
agreement (the "Purchase Agreement") to acquire certain assets and intellectual
property from L&H Holdings USA, Inc. The transaction was completed on March 21,
2002. Pursuant to the Purchase Agreement, the Company acquired patents and core
technology associated with the Audiomining assets of the speech and language
technology assets of L&H and paid $1.5 million in total consideration to L&H as
follows: $0.5 million in cash, 121,359 shares of the Company's common stock
valued at $0.6 million (based on the average of the closing share price of the
Company's stock 5 days before and after the date the transaction was completed)
and a 9% promissory note in the principal amount of $0.4 million (the "Note"),
with principal and interest to be repaid in full on July 31, 2002. The Company
incurred $0.2 million of acquisition related costs. The purchase price including
acquisition costs of $1.7 million was allocated to core technology.

On July 31, 2002, the Company repaid all amounts due under the Note, which
included principal and interest of $0.4 million.

F-41

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The following table identifies the intangible assets acquired in connection
with Audiomining and their respective lives:

AMOUNT LIFE
(IN THOUSANDS) (IN YEARS)
-------------- ----------

Core technology...................................... $1,674 3.5
------
$1,674
======

Acquisition of Lernout & Hauspie (L&H) Speech Products N.V. Assets:

On December 7, 2001, the Company entered into a definitive asset purchase
agreement (the "Purchase Agreement") to acquire certain assets and intellectual
property relating to the former L&H entities that were in bankruptcy under the
jurisdiction of both the U.S. Bankruptcy Court for the District of Delaware and
the Commercial Court of Ieper, Belgium. The Company purchased these assets in a
closed auction proceeding administered by the creditors committee of the former
entities and approved by both the U.S. and Belgium courts on December 11, 2001.
The transaction was completed on December 12, 2001 and the Company's results
from operations include L&H activities since that date.

Pursuant to the Purchase Agreement, the Company acquired patents,
trademarks, tradenames, product and customer contracts associated with certain
of the speech and language technology assets of L&H. In addition, the Company
obtained rights to accounts receivable related to the customer contracts
acquired and fixed assets. The Company also hired 223 employees from L&H. The
Company paid $41.3 million in total consideration to the creditors as follows:
$10.0 million in cash, 7.4 million shares of the Company's common stock valued
at $27.8 million (based on the average of the closing share price of our stock 3
days before and after the proposed acquisition was announced) and a 9%
promissory note in the principal amount of $3.5 million, to be repaid in
installments of $0.1 million of principal and interest quarterly commencing on
March 15, 2002, for a total of eleven payments. All remaining principal and
interest shall become due on December 15, 2004. The Company incurred
approximately $1.0 million of acquisition related costs.

On December 27, 2001, the Company filed a Form 8-K reporting the
transaction as an acquisition of assets. The Company had ongoing discussions
with the SEC regarding historical financial statement requirements related to
the acquisition. Following these discussions, the Company concluded that, for
purposes of Rule 3-05 of Regulation S-X, the L&H transaction was an acquisition
of a business and not an acquisition of assets. In connection with these
discussions, the Company also concluded that the transaction should be reported
as an acquisition of a business for accounting purposes rather than an
acquisition of assets, as previously reported. On August 14, 2002, the Company
filed a Form 10-Q/A to restate the financial statements as of and for the
quarter ended March 31, 2002 to reflect the impact of the change in the
accounting for the acquisition. The change in the accounting for the transaction
was determined to have an immaterial impact on the financial position, results
of operations or cash flows of the Company for the year ended December 31, 2001.
The results of operations of the acquired business have been included in the
financial statements of the Company as of the date of acquisition.

F-42

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The change in accounting for the transaction resulted in a reallocation of
the purchase price from amortizable intangible and tangible assets to goodwill.
The following summarizes the impact of the reallocation of the purchase price
(in 000's):

DECEMBER 31, 2001
---------------------
AS
PREVIOUSLY AS
REPORTED REVISED
---------- --------

Balance Sheet:
Goodwill, net............................................. $ 42,169 $ 65,231
Other intangible assets, net.............................. 66,107 43,301
Property and equipment, net............................... 2,406 2,150
-------- --------
Total goodwill, other intangible assets and property and
equipment, net............................................ $110,682 $110,682
======== ========

Information presented below is consistent with disclosure related to the
acquisition of a business.

The purchase price was allocated to the tangible and intangible assets
acquired (patents and core technology and trade names and trademarks) and
liabilities assumed based on their respective fair market values. The total
identifiable tangible assets amounted to $21.0 million. The excess of the
purchase price over the fair value of the identifiable intangible assets and net
liabilities assumed amounted to $23.0 million and was allocated to goodwill. The
Company believes that the acquisition resulted in an excess of the purchase
price over the fair value of the net assets acquired because the Company
purchased, in an auction as a result of L&H's bankruptcy status, a substantial
portfolio of patents and core technology in speech and language technology which
were internally developed or acquired by L&H over the course of several years.
Furthermore, the acquisition enabled the Company to enter the speech and
language market immediately upon completion of the acquisition. The entire $23.0
million allocated to goodwill is deductible for tax purposes. The purchase price
including acquisition costs was allocated as follows (in thousands):

Identified intangible assets................................ $20,970
Goodwill.................................................... 23,031
Net current liabilities assumed............................. (1,701)
-------
$42,300
=======

Net current liabilities assumed primarily relate to accounts receivable and
assumed liabilities for products which were sold prior to the acquisition date
and which were expected to be upgraded with newer versions in 2002 and
liabilities for development contracts with customers. During 2002, the Company
entered into favorable settlement agreements related to these liabilities
resulting in a reduction of $2.2 million of the assumed liabilities recorded at
the date of acquisition with a corresponding reduction recorded to the carrying
value of goodwill.

The values of the patents, core technology and trade names and trademarks
were determined using the income approach. The income approach requires a
projection of revenues and expenses specifically attributed to the intangible
assets. The discounted cash flow ("DCF") method is then applied to the potential
income streams after making necessary adjustments with respect to such factors
as the wasting nature of the identifiable intangible assets and the allowance of
a fair return on the net tangible assets and other intangible assets employed.
There are several variations on the income approach, including the relief-
from-royalty method, the avoided cost method and the lost profits method. The
relief-from-royalty method was used to value the patents, core technology and
trade names and trademarks. The relief-from-royalty method is used to estimate
the cost savings that accrue to the owner of the intangible assets that would
otherwise have to pay royalties or licensee fees on revenues earned through the
use of the asset. The
F-43

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

royalty rate used in the analysis is based on an analysis of empirical,
market-derived royalty rates for guideline intangible assets.

OEM contracts and customer relationships, as well as completed technology,
were determined to have de minimus values and, accordingly, no amount of the
purchase price was allocated to these intangible assets. A discounted cash flow
method was used to estimate the residual cash flows attributable to OEM
contracts and customer relationships. The projections included negative cash
flows over the early years of the relationship and, when combined with the
contributory asset charged for the other technology-based assets, such as
patents and core technology which are required to realize revenue under these
arrangements, resulted in de minimus value for the OEM contracts and the
customer relationships. The completed technology was valued using individual
cash flow projections for each technology, adjusted for capital charges, and
discounted to present value using a weighted average cost of capital. Cash flow
projections and operating profits are negative for the initial years and when
considered with the short life cycle of the application-based completed
technology, the value ascribable to the completed technology was de minimus.

The following table identifies the intangible assets acquired and their
respective lives over which the assets will be amortized on a straight-line
basis:

AMOUNT LIFE
(IN THOUSANDS) (IN YEARS)
-------------- ----------

Patents and core technology................................. $17,870 10
Trade names and trademarks.................................. 3,100 12
-------
$20,970
=======

Caere Acquisition:

On March 13, 2000, the Company acquired all of the outstanding capital
stock of Caere Corporation, a California-based company that designed, developed
and marketed a range of optical character recognition software tools, for
approximately $48.5 million in cash, 19.0 million shares of common stock of the
Company valued at $98.5 million, and the issuance of stock options for the
purchase of approximately 4.6 million shares of the Company's common stock
valued at $15.5 million, in exchange for outstanding employee stock options of
Caere. The fair value of the employee stock options was estimated using the
Black-Scholes option pricing model. In addition, pursuant to a concurrent
non-competition agreement and subject to certain other conditions, the Company
agreed to pay in cash the former Caere President and CEO on the second
anniversary of the merger, March 13, 2002, the difference between $13.50 and the
closing price per share of ScanSoft common stock at that time, multiplied by
486,548. The value of this stock price guarantee at the date of acquisition was
approximately $4.1 million and has been included in the total purchase price of
the acquisition (see Note 19). Additionally, in conjunction with the
acquisition,

F-44

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

the Company incurred approximately $1.8 million of acquisition related costs.
The purchase price of Caere, including acquisition costs was allocated as
follows (in thousands):

Property and equipment...................................... $ 2,865
Current and other tangible assets........................... 58,400
Liabilities assumed......................................... (16,985)
Goodwill.................................................... 61,095
Core technology............................................. 17,905
Completed technology........................................ 16,340
Other identified intangible assets.......................... 10,448
Acquired in-process research and development................ 18,291
--------
$168,359
========

The amounts allocated to identifiable tangible and intangible assets,
including acquired in-process research and development, were based on the fair
value of the assets. Goodwill represents the amount by which the cost of
acquired net assets exceeded the fair values of those net assets on the date of
purchase. Acquired in-process research and development represented development
projects that had not yet reached technological feasibility and had no
alternative future use. Accordingly, the amount of $18.3 million was charged to
operations upon consummation of the acquisition.

The values of the core technology, developed technology and acquired
in-process technology were determined by a risk adjusted, discounted cash flow
approach. The value of in-process research and development was determined by
estimating the costs to develop the in-process projects into commercially viable
products, estimating the resulting net cash flows from the sale of such
products, discounting net cash flows back to their present values, and adjusting
those results to reflect the projects' stages of completion at the acquisition
date. These include projects (primarily major version upgrades) in each of
Caere's major products, including OmniPage, OmniForm, and PageKeeper. The
discount rates used were 14% for developed technology, 19% for core technology,
and 24% for in-process technology. The discount rate for in-process technology
takes into consideration the Company's weighted average cost of capital adjusted
for the inherent uncertainties surrounding the successful development of the
in-process research and development, the profitability levels of such technology
and the uncertainty of technological advances, which could potentially impact
the estimates described above.

The percentage of completion of the in-process projects ranged from 50% to
67% at the date of the acquisition. Revenues were initially projected to be
generated in late 2000 for each of the product versions in development at the
acquisition date. As of December 31, 2000, revenues from these projects were
expected to be generated beginning in the second quarter of 2001. All these
projects were completed during 2001.

F-45

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The table following identifies the intangible assets acquired in connection
with Caere and their respective lives:

AMOUNT LIFE
(IN THOUSANDS) (IN YEARS)
-------------- ----------

Goodwill.................................................... $ 61,095 6
Core technology............................................. 17,905 5
Completed technology........................................ 16,340 2
Other identified intangible assets.......................... 10,448 2-5
--------
$105,788
========

Other identified intangible assets consist of a non-compete agreement,
acquired work force, a favorable building lease agreement, and patents on the
Caere technology. These assets have expected useful lives of 2, 3, 4 and 5
years, respectively, and are being amortized accordingly.

During the year ended December 31, 2000, the Company, as a result of a June
restructuring (see Note 8), wrote-off $1.1 million of acquired workforce and
$2.4 million of the favorable building lease established as part of the
identifiable intangible assets acquired from Caere. The portion of the assets
impaired related directly to the number of employees terminated and facility
space vacated in connection with these restructuring actions.

This acquisition was accounted for under the purchase method of accounting.
Accordingly, the results of operations of Caere and the fair market value of
acquired assets and assumed liabilities have been included in the financial
statements of the Company as of the date of acquisition.

Pro Forma Results (Unaudited)

The following table reflects unaudited pro forma results of operations of
the Company as if that the acquisition of L&H had occurred on January 1, 2001
(in thousands, except per share data):

YEAR ENDED
DECEMBER 31,
2001
------------

Revenues.................................................... $ 93,561
Net loss.................................................... $(53,803)
Net loss per diluted share.................................. $ (0.95)

The unaudited pro forma results of operations are not necessarily
indicative of the actual results that would have occurred had the transactions
actually taken place at the beginning of these periods

19. RELATED PARTIES

At December 31, 2002, Xerox owned approximately 19% of the Company's
outstanding common stock and all of the Company's outstanding Series B Preferred
Stock. In addition, Xerox has the opportunity to acquire additional shares of
common stock pursuant to a warrant (see Note 10). The Company and Xerox have
entered into multiple non-exclusive agreements in which the Company grants Xerox
the royalty-bearing right to copy and distribute certain versions of the
Company's software programs with Xerox's multi-function peripherals. Xerox
accounted for 5%, 11% and 12% of total net revenues during each of the years
ended December 31, 2002, 2001 and 2000, respectively. As of December 31, 2002
and 2001, Xerox owed the Company $1.5 million and $1.8 million, respectively,
pursuant to these agreements, which are included in accounts receivable.

F-46

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

In connection with the Caere acquisition in the first quarter of 2000 and
pursuant to a concurrent non-competition and consulting agreement, the Company
agreed to pay in cash to the former Caere President and CEO, a current member of
the Board of Directors of the Company, on the second anniversary of the merger,
March 13, 2002, the difference between $13.50 and the closing price per share of
ScanSoft common stock at that time, multiplied by 486,548. On March 5, 2002, the
Company negotiated a deferred payment agreement with the former Caere President
and CEO to terminate this agreement. Under the terms of the deferred payment
agreement, the Company paid $1.0 million in cash on March 5, 2002 and agreed to
make future cash payments totaling $3.3 million, with such amounts payable in
equal quarterly installments of approximately $0.4 million over the following
two years. During the year ended December 31, 2002, the Company paid three
quarterly installments under this agreement totaling $1.2 million.

The total consideration of this agreement was accounted for in the original
Caere purchase price and had no effect on the results of operations. The
remaining liability at December 31, 2002 is $2.1 million, of which $1.6 million
is included in other current liabilities and $0.5 million is included in other
long-term liabilities.

20. SUBSEQUENT EVENTS

On March 11, 2003, the Company received $3.8 million of net proceeds from
the exercise of the over allotment option of 1,072,500 shares granted to the
underwriters as part of the underwritten offering completed on February 14,
2003.

On February 14, 2003, the Company completed an underwritten public offering
of 7,184,406 shares of the Company's common stock at $3.80 per share. Of the
total shares sold, 6,184,406 shares were sold on behalf of Lernout & Hauspie
Speech Products N.V., and L&H Holdings USA, Inc. The Company sold 1,000,000
common shares and received gross proceeds of $3.8 million. After considering
offering costs the estimated net proceeds amounted to approximately $2.1
million.

On January 30, 2003, the Company completed the acquisition of the Speech
Processing Telephony and Voice Control business units (together, "PSP") of Royal
Philips Electronics, and related intellectual property on the terms set forth in
the purchase agreement dated October 7, 2002, as amended. As consideration for
these business units and intellectual property, the Company paid 3.1 million
euros ($3.4 million) in cash at closing, subject to adjustment in accordance
with the provisions of the purchase agreement, as amended, and agreed to pay an
additional 1.0 million euros in cash prior to December 31, 2003, issued a 5.0
million euro note due December 31, 2003 and bearing 5.0% interest per annum and
issued a $27.5 million three-year, zero-interest subordinated debenture,
convertible at any time at Philips' option into shares of the Company's common
stock at $6.00 per share. The zero coupon convertible subordinated debenture
contains a restrictive covenant which prohibits the Company from paying or
declaring any dividend or distribution (other than distributions of our equity
securities) on its capital stock while the note is outstanding. This restriction
terminates if one half or more of the note is converted by Philips into common
stock.

The Telephony business unit offers speech-enabled services including
directory assistance, interactive voice response and voice portal applications
for enterprise customers, telephony venders and carriers. The Voice Control
business unit offers a product portfolio including small footprint speech
recognition engines for embedded applications such as voice-controlled climate,
navigation and entertainment features in automotive vehicles, as well as voice
dialing for mobile phones.

The acquisition of PSP enhances the Company's market share in key markets
and provides the Company additional competitive advantages in its target
markets, specifically the telephony, automotive and embedded markets. In
addition, the acquisition enhances the distribution channel adding new

F-47

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

reference accounts for both customer relationships and technology partners.
These incremental intangible benefits attributed to excess purchase
consideration resulting in goodwill.

The Company's results of operations for fiscal year 2002 reported on this
Form 10-K do not include the effect of operations for PSP as the acquisition was
completed on January 30, 2003, subsequent to year-end.

Under the terms of the purchase agreement the purchase price is subject to
adjustment based on a comparison of net assets at the closing date to the net
assets of PSP set forth in the agreement, and the amount by which the cash
contributed by Philips to PSP in January 2003 exceeded or was less then 800,000
euros. Philips is required to provide to the Company a balance sheet for PSP as
of January 30, 2003, as well as a statement detailing the amount of cash
contributed to PSP during the month of January 2003. As of the date of this
report filed on Form 10-K, neither the closing balance sheet nor the
contribution schedule for January were available from Philips. Also, severance
costs associated with the restructuring actions are anticipated. As a result, it
is impractical to provide information with respect to the purchase price
allocation as of the date of closing. It is anticipated that the majority of the
purchase price of $39.4 million will be allocated to goodwill and other
intangible assets.

On January 3, 2003, in connection with a promissory note debt covenant
violation, the Company paid $3.3 million in full settlement of all principal and
accrued interest on the promissory note issued in connection with the L&H
acquisition on December 12, 2001.

21. QUARTERLY DATA (UNAUDITED)

The following information has been derived from unaudited consolidated
financial statements that, in the opinion of management, include all recurring
adjustments necessary for a fair presentation of such information.

FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER YEAR
------- ------- ------- ------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

2002
Total revenue............................ $23,765 $26,184 $28,235 $28,435 $106,619
Net income (loss).......................... $(2,882) $ 1,950 $ 2,825 $ 4,440 $ 6,333
Net income (loss) per share:
Basic.................................... $ (0.05) $ 0.03 $ 0.04 $ 0.07 $ 0.09
Diluted.................................. $ (0.05) $ 0.03 $ 0.04 $ 0.06 $ 0.09
Weighted average common shares outstanding:
Basic.................................... 62,304 67,595 67,865 66,709 67,010
Diluted.................................. 62,304 76,677 74,787 73,850 72,796
2001
Total revenue............................ $12,501 $14,864 $16,765 $18,587 $ 62,717
Net income (loss).......................... $(6,900) $(4,395) $(3,214) $(2,368) $(16,877)
Net income (loss) per share:
Basic.................................... $ (0.15) $ (0.09) $ (0.06) $ (0.04) $ (0.34)
Diluted.................................. $ (0.15) $ (0.09) $ (0.06) $ (0.04) $ (0.34)
Weighted average common shares outstanding:
Basic.................................... 46,100 48,939 50,875 52,858 49,693
Diluted.................................. 46,100 48,939 50,875 52,858 49,693

F-48

REPORT OF INDEPENDENT ACCOUNTANTS ON
FINANCIAL STATEMENT SCHEDULE

To the Board of Directors of Scansoft, Inc.:

Our audits of the consolidated financial statements referred to in our
report dated February 9, 2003, except as to Note 20 for which the date is March
11, 2003, appearing in this Registration Statement of ScanSoft, Inc. also
included an audit of the financial statement schedule listed in Item 16(b) of
this Registration Statement. In our opinion, this financial statement schedule
presents fairly, in all material respects, the information set forth therein
when read in conjunction with the related consolidated financial statements.

/s/ PricewaterhouseCoopers LLP

Boston, Massachusetts

February 9, 2003

F-49

VALUATION AND QUALIFYING ACCOUNTS AND RESERVES

(IN THOUSANDS)

ACCOUNTS RECEIVABLE

2002 2001 2000
------ ------- ------

Balance at beginning of year................................ $6,273 $ 7,375 $3,690
Additions charged to costs and expenses..................... 200 186 726
Additions charged to other accounts......................... (73)(a) (1,185)(a) 3,116(a)
Deductions and write-offs................................... (497) (103) (157)
------ ------- ------
Balance at end of year...................................... $5,903 $ 6,273 $7,375
====== ======= ======

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

(a) Net increase (decrease) in amounts recorded against revenue as of December
31, 2002, 2001 and 2000, respectively.

F-50

SCANSOFT, INC.

CONSOLIDATED BALANCE SHEET

(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

MARCH 31,
2003
---------

ASSETS
Current assets:
Cash and cash equivalents................................. $ 20,277
Accounts receivable, less allowances of $9,202............ 19,482
Receivables from related party............................ 1,231
Inventory................................................. 1,367
Prepaid expenses and other current assets................. 4,119
--------
Total current assets................................. 46,476
Goodwill.................................................. 97,117
Other intangible assets, net.............................. 49,569
Property and equipment, net............................... 3,387
Other assets.............................................. 1,207
--------
Total assets......................................... $197,756
========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 8,847
Accrued expenses.......................................... 11,923
Deferred revenue.......................................... 2,782
Note payable.............................................. 5,458
Deferred payment for business acquisition................. 1,052
Deferred payment for technology license................... 9,434
Other current liabilities................................. 1,666
--------
Total current liabilities............................ 41,162
Deferred revenue............................................ 209
Long-term note payable...................................... 27,524
Other liabilities........................................... 3,236
--------
Total liabilities.................................... 72,131
--------
Commitments and contingencies (Notes 5, 13 and 16)
Stockholders' equity:
Preferred stock, $0.001 par value; 40,000,000 shares
authorized; 3,562,238 shares issued and outstanding
(liquidation preference $4,631)........................ 4,631
Common stock, $0.001 par value; 140,000,000 shares
authorized; 67,820,379 shares issued and 65,703,001
shares outstanding..................................... 68
Additional paid-in capital................................ 276,007
Treasury stock, at cost (2,117,378 shares)................ (8,031)
Deferred compensation..................................... (147)
Accumulated other comprehensive loss...................... (53)
Accumulated deficit....................................... (146,850)
--------
Total stockholders' equity........................... 125,625
--------
Total liabilities and stockholders' equity........... $197,756
========

The accompanying notes are an integral part of these consolidated financial
statements.
F-51

SCANSOFT, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

(UNAUDITED)

THREE MONTHS ENDED
MARCH 31,
-------------------
2003 2002
-------- --------

Revenue, third parties...................................... $26,516 $22,416
Revenue, related party...................................... 1,320 1,349
------- -------
Total revenue........................................ 27,836 23,765
------- -------
COSTS AND EXPENSES:
Cost of revenue........................................... 4,302 4,129
Cost of revenue from amortization of intangible assets.... 2,057 3,542
Research and development.................................. 7,177 6,986
Selling, general and administrative....................... 13,261 9,711
Amortization of other intangible assets................... 361 957
Restructuring and other charges, net...................... 529 1,041
------- -------
Total costs and expenses............................. 27,687 26,366
------- -------
Income (loss) from operations............................... 149 (2,601)
Other income (expense):
Interest income........................................... 41 54
Interest expense.......................................... (80) (85)
Other income (expense), net............................... 61 (44)
------- -------
Income (loss) before income taxes........................... 171 (2,676)
Provision for income taxes.................................. 95 206
------- -------
Net income (loss)........................................... $ 76 $(2,882)
======= =======
Net income (loss) per share: basic and diluted.............. $ 0.00 $ (0.05)
======= =======
Weighted average common shares outstanding: basic........... 67,689 62,304
======= =======
Weighted average common shares outstanding: diluted......... 77,220 62,304
======= =======

The accompanying notes are an integral part of these consolidated financial
statements.
F-52

SCANSOFT, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

(UNAUDITED)

THREE MONTHS ENDED
MARCH 31,
-------------------
2003 2002
-------- --------

CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss)........................................... $ 76 $(2,882)
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation........................................... 415 450
Amortization of goodwill and other intangible assets... 2,418 4,499
Accounts receivable allowances......................... 171 1,060
Non-cash portion of restructuring charges.............. -- 113
Deferred compensation.................................. 26 26
Foreign exchange gain.................................. (46) --
Non-cash interest expense.............................. 9 --
Changes in operating assets and liabilities, net of
effects from business acquisitions:
Accounts receivable.................................... (211) (624)
Inventory.............................................. 238 (688)
Prepaid expenses and other current assets.............. 359 (754)
Other assets........................................... (94) 121
Accounts payable....................................... 1,309 1,593
Accrued expenses....................................... (2,019) (175)
Other liabilities...................................... 271 --
Deferred revenue....................................... (63) (2,540)
------- -------
Net cash provided by operating activities.............. 2,859 199
------- -------
CASH FLOWS FROM INVESTING ACTIVITIES
Capital expenditures for property and equipment........... (605) (661)
Cash paid for acquisitions, including transaction costs
net of cash received................................... (4,341) (1,162)
------- -------
Net cash used in investing activities.................. (4,946) (1,823)
------- -------
CASH FLOWS FROM FINANCING ACTIVITIES
Payment of note payable................................... (3,273) (55)
Payments of capital lease obligation...................... -- (105)
Payments under deferred payment agreement................. (410) (1,000)
Proceeds from issuance of common stock, net of issuance
costs.................................................. 6,773 --
Proceeds from issuance of common stock under employee
stock compensation plans............................... 531 1,240
------- -------
Net cash provided by financing activities.............. 3,621 80
------- -------
Effects of exchange rate changes on cash and cash
equivalents............................................... (110) 3
------- -------
Net increase (decrease) in cash and cash equivalents........ 1,424 (1,541)
Cash and cash equivalents at beginning of period............ 18,853 14,324
------- -------
Cash and cash equivalents at end of period.................. $20,277 $12,783
======= =======

The accompanying notes are an integral part of these consolidated financial
statements.
F-53

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

1. BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements of ScanSoft,
Inc. ("ScanSoft") have been prepared in accordance with accounting principles
generally accepted in the United States of America. In the opinion of
management, these interim consolidated financial statements reflect all
adjustments, consisting of normal recurring adjustments, necessary for a fair
presentation of the financial position at March 31, 2003 and 2002 and the
results of operations and cash flows for the three months ended March 31, 2003
and 2002. Although ScanSoft believes that the disclosures in these financial
statements are adequate to make the information presented not misleading,
certain information normally included in the footnotes prepared in accordance
with generally accepted accounting principles has been condensed or omitted as
permitted by the rules and regulations of the Securities and Exchange
Commission. The accompanying financial statements should be read in conjunction
with the audited financial statements and notes thereto included in this
prospectus. The results for the three months ended March 31, 2003 are not
necessarily indicative of the results that may be expected for the year ending
December 31, 2003, or any future period.

On January 30, 2003, ScanSoft completed the acquisition of the Philips
Speech Processing Telephony and Voice Control business units of Royal Philips
Electronics N.V. ("Philips"), and related intellectual property (the "Philips
acquisition"). The Telephony business unit offers speech-enabled services
including directory assistance, interactive voice response and voice portal
applications for enterprise customers, telephony vendors and carriers. The Voice
Control business unit offers a product portfolio including small footprint
speech recognition engines for embedded applications such as voice-controlled
climate, navigation and entertainment features in automotive vehicles, as well
as voice dialing for mobile phones. The results of operations of the acquired
business have been included in the financial statements of ScanSoft as of
January 30, 2003, the date of acquisition.

Certain prior year financial statement amounts have been reclassified to
conform with the current year presentation.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

FOREIGN CURRENCY RISK MANAGEMENT

In certain circumstances, ScanSoft enters into forward exchange contracts
to hedge against foreign currency fluctuations. These contracts are used to
reduce ScanSoft's risk associated with exchange rate movements, as the gains or
losses on these contracts are intended to offset the exchange rate losses or
gains on the underlying exposures. ScanSoft does not engage in foreign currency
speculation. Hedges of underlying exposures are designated and documented at the
inception of the hedge and are evaluated for effectiveness monthly. Forward
exchange contracts hedging firm commitments qualify for hedge accounting when
they are designated as a hedge of the foreign currency exposure and they are
effective in minimizing such exposure. Gains and losses on forward exchange
contracts that qualify for hedge accounting are recognized as other
comprehensive income (loss), along with the associated losses and gains on the
hedged item. As the terms of the forward exchange contract and underlying
exposure are matched generally at

F-54

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

inception, hedging effectiveness is calculated by comparing the change in fair
value of the contract to the change in fair value of the underlying exposure.
Based upon period-end exchange rates, ScanSoft estimates the aggregate contract
value of the forward exchange contracts to be representative of the fair value
of these instruments.

On January 30, 2003, ScanSoft entered into a forward exchange contract to
hedge the foreign currency exposure of its 5 million euro note payable to
Philips. The contract and the note payable each have a term that expires on
December 31, 2003. For the quarter ended March 31, 2003, ScanSoft recorded a net
exchange rate gain of approximately $7,000 in other comprehensive income on the
note payable and associated forward exchange contract.

RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In November 2002, the Emerging Issues Task Force ("EITF") issued EITF No.
00-21, "Accounting for Revenue Arrangements with Multiple Deliverables." EITF
No. 00-21 addresses certain aspects of the accounting by a vendor for
arrangements under which it will perform multiple revenue-generating activities.
EITF No. 00-21 establishes three principles: revenue should be recognized
separately for separate units of accounting, revenue for a separate unit of
accounting should be recognized only when the arrangement consideration is
reliably measurable and the earnings process is substantially complete, and
consideration should be allocated among the separate units of accounting in an
arrangement based on their fair value. EITF No. 00-21 is effective for all
revenue arrangements entered into in fiscal periods beginning after June 15,
2003, with early adoption permitted. ScanSoft does not expect the adoption of
EITF No. 00-21 to have a material impact on its results of operations or
financial condition.

3. ACCOUNTING FOR STOCK-BASED COMPENSATION

ScanSoft recognizes compensation costs using the intrinsic value-based
method described in Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees". The following table illustrates the effect on net
income (loss) and basic and diluted net income (loss) per common share as if the
fair value method prescribed in Statement of Financial Accounting Standards No.
123, "Accounting For Stock-Based Compensation", had been applied for ScanSoft's
stock-based compensation and recorded in the consolidated financial statements:

THREE MONTHS ENDED
MARCH 31,
---------------------
2003 2002
--------- ---------
(IN THOUSANDS, EXCEPT
PER SHARE DATA)

Net income (loss) -- as reported............................ $ 76 $(2,882)
Less:Total stock-based employee compensation expense
determined under the fair value-based-method........... (2,310) (1,594)
------- -------
Net loss -- pro forma....................................... $(2,234) $(4,476)
======= =======
Net income (loss) per share -- as reported: basic and
diluted................................................... $ 0.00 $ (0.05)
Net loss per share -- pro forma: basic and diluted.......... $ (0.03) $ (0.07)

F-55

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

4. INVENTORY

Inventory consists of the following (in thousands):

MARCH 31,
2003
---------

Raw materials............................................... $ 26
Finished goods.............................................. 1,341
------
$1,367
======

5. ACQUISITION OF PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL BUSINESS

On January 30, 2003, ScanSoft completed the acquisition of the Philips
Speech Processing Telephony and Voice Control business units of Royal Philips
Electronics N.V. ("Philips"), and related intellectual property. The Telephony
business unit offers speech-enabled services including directory assistance,
interactive voice response and voice portal applications for enterprise
customers, telephony vendors and carriers. The Voice Control business unit
offers a product portfolio including small footprint speech recognition engines
for embedded applications such as voice-controlled climate, navigation and
entertainment features in automotive vehicles, as well as voice dialing for
mobile phones.

The acquisition of the Philips Speech Processing Telephony and Voice
Control business enhances ScanSoft's market share in key markets and gives
ScanSoft additional competitive momentum in its target markets, specifically the
telephony, automotive and embedded markets. In addition, it enhances the
distribution channel adding new reference accounts for both customer
relationships and technology partners. These incremental intangible benefits
attributed to excess purchase consideration resulting in goodwill.

The results of operations of the acquired business have been included in
the financial statements of ScanSoft since the date of acquisition.

Consideration for the acquisition, including transaction costs of $2.1
million, before determination of the purchase price adjustment to be determined
by the parties as described below totaled $39.5 million. The consideration
consisted of 3.1 million euros ($3.4 million) in cash paid at closing, subject
to adjustment in accordance with the provisions of the purchase agreement, as
amended, and a deferred payment of 1.0 million euros in cash due no later than
December 31, 2003, a 5.0 million euro note due December 31, 2003 bearing 5.0%
interest per annum and a $27.5 million three-year, zero-interest subordinated
debenture, convertible at any time at Philips' option into shares of common
stock at $6.00 per share. The fair value of the convertible debenture was
determined to be $27.5 million based on the present value of the expected cash
outflows using an incremental borrowing rate of 12% and the value of the
conversion feature based on the Black-Scholes option pricing calculation using
the following assumptions: the fair value of ScanSoft's common stock of $3.62
per share, the closing price of ScanSoft's common stock on the day the parties
entered into the acquisition agreement, volatility of 100%, risk-free interest
rate of 2.16%, no dividends and an expected term of 3 years. The following
allocation is based on

F-56

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

the January 30, 2003 balance sheet of the Philips Speech Processing Telephony
and Voice Control business units:

Total consideration:
Cash...................................................... $ 3,350
Other current liability (1.0 million euro payable)........ 1,080
Note payable.............................................. 5,410
Convertible debenture..................................... 27,520
Transaction costs......................................... 2,100
-------
Total purchase consideration........................... $39,460
=======
Preliminary allocation of the purchase consideration:
Current assets............................................ $ 3,930
Property, plant and equipment............................. 310
Identifiable intangible assets............................ 5,650
Goodwill.................................................. 34,130
-------
Total assets acquired.................................. 44,020
-------
Current liabilities....................................... (4,560)
=======
$39,460
=======

Current assets acquired primarily relate to accounts receivable, and
current liabilities assumed primarily relate to accounts payable and assumed
contractual liabilities related to development work with customers which were
agreed to prior to the acquisition date. ScanSoft also assumed certain
contractual liabilities, which relate to projects for the development of speech
and language databases with the European Union. The fair value of the liability
on these European Union contracts is still being determined based on the
contractual nature of assignability of these contracts. Upon final determination
of the fair value any adjustment to the liability will result in a corresponding
adjustment to goodwill.

The purchase price is subject to adjustment based on a calculation set
forth in the purchase agreement, as amended, which must be agreed upon by the
parties and which may result in an adjustment either to increase or decrease the
total purchase consideration. Upon final determination of the purchase price
adjustment, a corresponding adjustment will be recorded to goodwill. The
following are the identifiable intangible assets acquired and the respective
periods over which the assets will be amortized on a straight-line basis:

AMORTIZATION
AMOUNT PERIOD
-------------- ------------
(IN THOUSANDS)
(IN YEARS)

Patents and core technology................................ $3,990 10
Completed technology....................................... 460 5.5
Customer relationships..................................... 1,030 1.8
Trade names and trademarks................................. 170 5
------ ---
$5,650 9.3
====== ===

The values of the patents and core technology, completed technology,
contractual customer relationships and trade names and trademarks were
determined using the income approach. The income approach requires a projection
of revenues and expenses specifically attributed to the intangible assets. The

F-57

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

discounted cash flow ("DCF") method is then applied to the potential income
streams after making necessary adjustments with respect to such factors as the
wasting nature of the identifiable intangible assets and the allowance of a fair
return on the net tangible assets and other intangible assets employed. There
are several variations on the income approach, including the relief-from-royalty
method, the avoided cost method and the lost profits method. The
relief-from-royalty method was used to value the patents, core technology and
trade names and trademarks. The relief-from-royalty method is used to estimate
the cost savings that accrue to the owner of the intangible assets that would
otherwise have to pay royalties or licensee fees on revenues earned through the
use of the asset. The royalty rate used in the analysis is based on an analysis
of empirical, market-derived royalty rates for guideline intangible assets.

Typically, revenue is projected over the expected remaining useful life of
the intangible asset. The market-derived royalty rate is then applied to
estimate the royalty savings. The key assumptions used in valuing the patents
and core technology are as follows: royalty rate 5%, discount rate 16%, tax rate
40% and estimated life of 10 years. The key assumptions used in valuing the
completed product technology are as follows: royalty rate 5%, discount rate 16%,
tax rate 40% and weighted average 5.5 years. The key assumptions used in valuing
the trade names and trademarks are as follows: observed royalty rate 0.25%,
discount rate 15%, tax rate 40% and estimated life of 5 years. The key
assumptions used in valuing the contractual customer relationships are as
follows: tax rate 40% and weighted average life of 1.8 years.

Based on the preliminary purchase price allocation above, ScanSoft
allocated $34.1 million of the purchase consideration to goodwill. All goodwill
and other intangible assets will be deductible for tax purposes.

Under the terms of the purchase agreement, as amended, Philips agreed to
reimburse ScanSoft for the costs, up to 5 million euros, associated with certain
restructuring actions taken through December 31, 2003, primarily headcount and
facilities related charges associated with operations based in Germany. As of
March 31, 2003, ScanSoft entered into severance agreements with a total of 70
employees of Philips resulting in severance costs totaling $1.3 million. Of
these amounts, 34 employees and related severance costs of $1.0 million were
subject to reimbursement by Philips pursuant to the purchase agreement and as
such a related receivable was recorded and remains outstanding at March 31,
2003. The remainder was recorded as part of the purchase price allocation in
accordance with EITF 95-3, "Recognition of Liabilities in Connection with a
Purchase Business Combination." To the extent that the total reimbursable costs
exceed 5.0 million euros as of or at any time prior to December 31, 2003,
Philips will reimburse ScanSoft for one-third of the excess and ScanSoft will be
responsible for the remaining two-thirds of any excess. To the extent that the
total reimbursable costs are less than 5.0 million euros at December 31, 2003,
Philips will pay to ScanSoft an amount equal to two-thirds of such difference.
Any adjustment will either increase or decrease the total purchase consideration
and a corresponding adjustment will be recorded to goodwill.

The final purchase price, adjusted for the matters described in this Note
5, is expected to be determined no later than December 31, 2003.

F-58

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

PRO FORMA RESULTS (UNAUDITED)

The following table reflects unaudited pro forma results of operations of
ScanSoft assuming that the Philips acquisition had occurred on January 1, 2003
and 2002, respectively (in thousands, except per share data):

THREE MONTHS ENDED
MARCH 31,
-------------------
2003 2002
-------- --------

Revenues.................................................... $28,952 $27,187
Net loss.................................................... $ (547) $(5,915)
Net loss per diluted share.................................. $ (0.01) $ (0.09)

The unaudited pro forma results of operations are not necessarily
indicative of the actual results that would have occurred had the transactions
actually taken place at the beginning of these periods.

6. GOODWILL

As noted in Note 5, ScanSoft completed the Philips acquisition on January
30, 2003 adding $34.1 million to goodwill.

7. OTHER INTANGIBLE ASSETS

Other intangible assets consist of the following (in thousands):

GROSS NET
CARRYING ACCUMULATED CARRYING
AMOUNT AMORTIZATION AMOUNT
-------- ------------ --------

MARCH 31, 2003
Patents and core technology........................... $54,080 $22,374 $31,706
Completed technology.................................. 29,314 16,354 12,960
Trademarks............................................ 5,671 1,895 3,776
Non-competition agreement............................. 4,048 4,048 --
Acquired favorable lease.............................. 553 553 --
Customer relationships................................ 2,130 1,003 1,127
Other................................................. 200 200 --
------- ------- -------
$95,996 $46,427 $49,569
======= ======= =======

On March 31, 2003, ScanSoft entered into an agreement that grants an
exclusive license to ScanSoft to resell, in certain geographies worldwide,
certain productivity applications. This period of exclusivity of the license
expires after 7 years unless terminated earlier as allowed under the agreement.
Total consideration paid by ScanSoft for the license is $13.0 million and will
be paid as follows: 1) $6.4 million on or before June 30, 2003, 2) $3.3 million
on March 31, 2004 and 3) $3.3 million on March 31, 2005. Based on the net
present value of the deferred payments due in 2004 and 2005, using an interest
rate of 7.0%, ScanSoft recorded $12.3 million as completed technology which will
be amortized to cost of goods sold based on the greater of (a) the ratio of
current gross revenue to total current and future revenues for the product(s) or
(b) the straight-line basis over the period of expected use, seven years. The
difference of $0.7 million, representing the difference between the stated price
and the net present value of the payments, will be charged to interest expense
over the payment period. As of March 31, 2003, payments due on or before March
31, 2004, and the remaining balance due, have been classified as deferred
payment for technology license and other liabilities, long-term respectively.

F-59

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

On March 31, 2003, ScanSoft acquired certain intellectual property assets
related to multimodal speech technology, in exchange for $0.1 million in cash
and the issuance of a warrant valued at $0.1 million (Note 14). The purchase
price was recorded as completed technology and will be amortized over three
years. Aggregate amortization expense was $2.4 million and $4.5 million (of
which $2.1 million and $3.5 million was included in cost of revenue) for the
three-month period ended March 31, 2003 and 2002, respectively. Estimated
amortization expense for the remaining period of fiscal year 2003, the four
succeeding fiscal years and thereafter as of March 31, 2003 is as follows (in
thousands):

SELLING,
COST OF GENERAL AND
YEAR ENDING REVENUE ADMINISTRATIVE TOTAL
----------- ------- -------------- -------

2003................................................. $ 7,577 $1,149 $ 8,726
2004................................................. 9,767 1,044 10,811
2005................................................. 5,366 550 5,916
2006................................................. 4,286 335 4,621
2007................................................. 4,270 293 4,563
Thereafter........................................... 13,400 1,532 14,932
------- ------ -------
Total................................................ $44,666 $4,903 $49,569
======= ====== =======

8. ACCRUED EXPENSES

Accrued expenses consist of the following (in thousands):

MARCH 31,
2003
---------

Compensation................................................ $ 1,673
Sales and marketing incentives.............................. 2,431
Restructuring............................................... 922
Royalties................................................... 280
Professional fees........................................... 576
Acquisition liabilities..................................... 1,743
Other....................................................... 4,298
-------
$11,923
=======

9. RESTRUCTURING AND OTHER CHARGES

In January 2002, ScanSoft announced, and in March 2002 completed, a
restructuring plan to consolidate facilities, worldwide sales organizations,
research and development teams and other personnel following the December 12,
2001 L&H acquisition. As a result, ScanSoft exited facilities in both North
America and Europe, eliminating 21 employee positions, consisting of 12 in
research and development and 9 in selling, general and administrative functions.
In the first quarter of 2002, ScanSoft recorded a restructuring charge in the
amount of $0.6 million for severance payments to these employees, and a
restructuring charge of $0.4 million for certain termination fees to be incurred
as a result of exiting the facilities, including the write-off of previously
recorded assembled workforce of $0.1 million.

In connection with the Philips acquisition (Note 5), ScanSoft eliminated 25
ScanSoft personnel across all functional areas resulting in approximately $0.5
million in severance related restructuring costs in the three month period ended
March 31, 2003.

F-60

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

At March 31, 2003, the remaining restructuring accrual from the current and
prior restructuring activities amounted to $0.9 million. This balance is
comprised of $0.2 million of lease exit costs resulting from the 2002
restructuring and $0.7 million of employee-related severance costs, of which
$0.4 million are for severance to the former Caere President and CEO. The
severance costs related to the 2003 Philips related restructuring actions will
be paid through June 30, 2003. The lease exit costs and severance due to the
former Caere President and CEO will be paid through January 2004 and March 2005,
respectively.

The following table sets forth the 2003 and 2002 restructuring accrual
activity (in thousands):

LEASE
EMPLOYEE EXIT
RESTRUCTURING AND OTHER CHARGES ACCRUAL RELATED COSTS TOTAL
--------------------------------------- -------- ----- ------

Balance at December 31, 2001............................... $634 $ -- $ 634
Restructuring and other charges -- March 2002.............. 576 465 1,041
Non-cash write-off......................................... -- (113) (113)
Cash payments.............................................. (764) (133) (897)
---- ----- ------
Balance at December 31, 2002............................... $446 $ 219 $ 665
Restructuring charges -- January 2003...................... 529 -- 529
Cash payments.............................................. (222) (50) (272)
---- ----- ------
Balance at March 31, 2003.................................. $753 $ 169 $ 922
==== ===== ======

10. NET INCOME (LOSS) PER SHARE

Basic net income (loss) per share is computed using the weighted average
number of common shares outstanding during the period. Basic net income per
share for the three months ended March 31, 2003 includes the assumed conversion
of the Series B Preferred Stock, which participates in dividends with common
stock when and if declared, as well as the weighted average impact of vested
shares of restricted stock. Diluted net income (loss) per share is computed
based on (i) the weighted average number of common shares outstanding, (ii) the
assumed conversion of the Series B Preferred Stock, and (iii) the effect, when
dilutive, of outstanding stock options, the convertible debenture, warrants, and
unvested shares of restricted stock using the treasury stock method.

F-61

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

The following is a reconciliation of the shares used in the computation of
basic and diluted net income (loss) per share (in thousands):

THREE MONTHS
ENDED
MARCH 31,
---------------
2003 2002
------ ------

Basic net income (loss) per share:
Weighted average number of common shares outstanding...... 64,127 62,304
Assumed conversion of Series B Preferred Stock............ 3,562 --
------ ------
Weighted average common shares: basic....................... 67,689 62,304
Effect of dilutive common equivalent shares:
Stock options.......................................... 5,931 --
Convertible debenture.................................. 3,058 --
Warrants............................................... 458 --
Unvested restricted stock.............................. 84 --
------ ------
Weighted average common shares: diluted..................... 77,220 62,304
====== ======

For the three months ended March 31, 2003, shares used in computing diluted
net income per share exclude 3,834,088 common share equivalents because their
exercise prices were greater than the average market price of ScanSoft common
stock for that period. For the three months ended March 31, 2002, shares used in
computing diluted net loss per share excludes 10,356,614 common share
equivalents. These potential common shares were excluded from the calculation of
diluted net loss per share as their inclusion would have been antidilutive for
all periods presented.

11. COMPREHENSIVE INCOME (LOSS)

Total comprehensive income (loss), net of taxes, was $70,000 and ($2.9)
million for the three months ended March 31, 2003 and 2002, respectively. Total
comprehensive income for the three months ended March 31, 2003, consisted of net
income of $76,000, foreign currency translation adjustments of approximately
($13,000) and approximately $7,000 related to the forward foreign exchange hedge
on the 5 million euro promissory note to Philips (Note 5).

12. DEBT

CREDIT FACILITY

On October 31, 2002, ScanSoft entered into a two year Loan and Security
Agreement (as amended, the "Loan Agreement") with Silicon Valley Bank (the
"Bank") that consisted of a $10 million revolving loan (the "Credit Facility").
Borrowings under the Credit Facility bear interest at the Bank's prime rate plus
0.375% or 0.75%, (5.00% at March 31, 2003) which is determined by ScanSoft's
fixed charge coverage ratio, as defined in the Loan Agreement. The maximum
aggregate amount of borrowings outstanding at any one time is limited to the
lesser of $10.0 million or a borrowing base equal to either 80% or 70% of
eligible accounts receivable, as defined in the Loan Agreement, based on
ScanSoft's fixed charge coverage ratio. As of March 31, 2003, based upon the
calculated borrowing base, available borrowings totaled $10.0 million.
Borrowings under the Loan Agreement cannot exceed the borrowing base and must be
repaid in the event they exceed the calculated borrowing base or upon expiration
of the two-year loan term. Pursuant to the Loan Agreement, ScanSoft is required
to maintain certain financial and non-financial covenants, the most restrictive
of which is a quarterly minimum fixed charge coverage ratio of 1.25 to 1.00.
Borrowings under the Loan Agreement are collateralized by substantially all of
ScanSoft's

F-62

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

personal property, predominantly its accounts receivable, but not its
intellectual property. As of March 31, 2003, there was no outstanding balance
under this Credit Facility and ScanSoft was in compliance with all debt
covenants.

The Loan Agreement also contains a restrictive covenant regarding the
payment or declaring of any dividends on ScanSoft's capital stock during the
term of the agreement (except for dividends payable solely in capital stock)
without the Bank's prior written consent.

NOTES PAYABLE

In connection with the L&H acquisition, ScanSoft issued a $3.5 million
promissory note (the "Note") to Lernout & Hauspie Speech Products, N.V. The Note
had a stated maturity date of December 15, 2004 and bore interest at 9% per
annum. Payments of principal and interest in the amount of $133,000 were due
quarterly commencing on March 15, 2002, for a total of eleven payments. During
the year ended December 31, 2002, four quarterly payments were made in
accordance with the terms and conditions of the promissory note. In connection
with an agreement, entered into by ScanSoft in September 2002 to repurchase
1,461,378 shares of common stock from L&H Holdings USA, Inc. and Lernout &
Hauspie Speech Products N.V. (collectively, L&H) and to register in an
underwritten offering the remaining shares held by L&H, the terms of the Note
were amended to provide for the acceleration of the maturity date of the
outstanding principal and interest to January 1, 2003 if consummation of the
underwritten public offering did not occur by January 1, 2003. ScanSoft did not
complete the offering by January 1, 2003 and, accordingly, the debt became
immediately due and payable. To fulfill this obligation, on January 3, 2003,
ScanSoft paid $3.3 million in full settlement of all of the outstanding
principal and accrued interest under the Note. In connection with the Philips
acquisition on January 30, 2003, ScanSoft issued a 5 million euro promissory
note (the "Philips Note") to Philips. The unsecured Philips Note matures on
December 31, 2003 and bears interest at 5% per annum. Payments of principal and
accrued interest are due at maturity. The Philips Note may be pre-paid by
ScanSoft at any time without penalty. In connection with the issuance of the
Philips Note, ScanSoft entered into a forward foreign exchange contract on
January 31, 2003 to hedge the foreign exchange exposure on the Philips Note. The
amount of the forward foreign exchange contract is equivalent to the principal
amount of the Philips Note, and the duration of the forward contract coincides
with the maturity date of the Philips Note. The foreign exchange hedge on the
Philips Note resulted in a foreign exchange gain of approximately $0.1 million,
which will be recorded in income over the term of the forward contract.

CONVERTIBLE DEBENTURE

On January 30, 2003, ScanSoft issued a $27.5 million three-year,
zero-interest convertible subordinated debenture due January 2006 (the
"Convertible Note") to Philips in connection with the Philips acquisition (Note
5). The Convertible Note is convertible into shares of ScanSoft's common stock
at $6.00 per share at any time until maturity at Philips' option. The conversion
rate may be subject to adjustments from time to time as provided in the
Convertible Note. The Convertible Debenture contains a provision in which all
amounts unpaid at maturity will bear interest at a rate of 3% per quarter until
paid.

The Convertible Note contains restrictive covenants that place restrictions
on the declaration or payment of dividends or distributions (other than
distributions of equity securities of ScanSoft) on, or the redemption or
purchase of, any shares of ScanSoft's capital stock while the Convertible Note
is outstanding. This restriction terminates when one-half or more of the
principal amount of the Convertible Note is converted by Philips into common
stock. The Convertible Note contains a restrictive provision which provides
Philips the right to require ScanSoft to redeem the Convertible Note or any
remaining portion of the principal amount, on the date a "Change in Control"
occurs. The Convertible Note provides that a "Change in Control" is deemed to
have occurred when any person or entity acquires beneficial

F-63

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

ownership of shares of capital stock of ScanSoft entitling such person or entity
to exercise 40% or more of the total voting power of all shares of capital stock
of ScanSoft, or ScanSoft sells all or substantially all of its assets, subject
to certain exceptions. The proposed acquisition of SpeechWorks International
Inc. (Note 16) will not result in such a "Change in Control".

13. COMMITMENTS AND CONTINGENCIES

LITIGATION AND OTHER CLAIMS

Like many companies in the software industry, ScanSoft has from time to
time been notified of claims that it may be infringing certain intellectual
property rights of others. Where appropriate these claims have been referred to
counsel, and they are in various stages of evaluation and negotiation or have
been resolved. If it appears necessary or desirable, ScanSoft may seek licenses
for these intellectual property rights. There is no assurance that licenses will
be offered by all claimants, that the terms of any offered licenses will be
acceptable to ScanSoft or that in all cases the dispute will be resolved without
litigation, which may be time consuming and expensive, and may result in
injunctive relief or the payment of damages by ScanSoft.

From time to time, we receive information concerning possible infringement
by third parties of our intellectual property rights, whether developed,
purchased or licensed by us. In response to any such circumstance, we have our
counsel investigate the matter thoroughly and we take all appropriate action to
defend our rights in these matters. On November 27, 2002, AllVoice Computing plc
filed an action against ScanSoft in the United States District Court for the
Southern District of Texas claiming patent infringement. In the lawsuit,
AllVoice alleges that ScanSoft is infringing United States Patent No. 5,799,273
entitled "Automated Proofreading Using Interface Linking Recognized Words to
Their Audio Data While Text Is Being Changed" (the "'273 Patent"). The '273
Patent generally discloses techniques for manipulating audio data associated
with text generated by a speech recognition engine. Although ScanSoft has
several products in the speech recognition technology field, ScanSoft believes
that its products do not infringe the '273 Patent because they do not use the
claimed techniques. Damages are sought in an unspecified amount. ScanSoft filed
an answer on December 23, 2002. ScanSoft believes this claim has no merit, and
intends to defend the action vigorously.

On December 28, 2001, the Massachusetts Institute of Technology and
Electronics For Imaging, Inc. sued ScanSoft in the United States District Court
for the Eastern District of Texas for patent infringement. The patent
infringement claim was filed against more than 200 defendants. In their lawsuit,
MIT and EFI allege that ScanSoft is infringing United States Patent No.
4,500,919 entitled "Color Reproduction System" (the "'919 Patent"). MIT and EFI
allege that the '919 Patent discloses a system for adjusting the colors of a
scanned image on a television screen and outputting the modified image to a
device. ScanSoft has several products that permit a user to adjust the color of
an image on a computer monitor. ScanSoft has asserted that its products do not
infringe the '919 Patent because its products do not contain all elements of the
structure required by the claimed invention and because its products do not
perform all of the steps required by the claimed method. Further, ScanSoft
believes there may be prior art that would render the '919 Patent invalid. The
'919 Patent expired on May 6, 2002. Damages are sought in an unspecified amount.
ScanSoft filed an Answer and Counterclaim on June 28, 2002. ScanSoft believes
this claim has no merit, and intends to defend the action vigorously.

On August 16, 2001, Horst Froessl sued ScanSoft in the United States
District Court for the Northern District of California for patent infringement.
In his lawsuit, Froessl alleges that ScanSoft is infringing United States Patent
No. 4,553,261 entitled "Document and Data Handling and Retrieval System" (the
"'261 Patent"). Froessl alleges that the '261 Patent discloses a system for
receiving and optically scanning documents, converting selected segments of the
digitalized scan data into machine code, and storing and retrieving the
documents and the digitalized and converted segments. Although ScanSoft

F-64

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

has several products in the scanning technology field, ScanSoft has asserted
that its products do not infringe the '261 Patent because its products do not
contain all elements of the structure required by the claimed invention and
because its products do not perform all of the steps required by the claimed
method. Further, ScanSoft believes there may be prior art that would render the
'261 Patent invalid. The '261 Patent will expire on May 31, 2003. Damages are
sought in an unspecified amount. ScanSoft filed an Answer and Counterclaim on
September 19, 2001. ScanSoft believes this claim has no merit, and intends to
defend the action vigorously.

ScanSoft believes that the final outcome of these matters will not have a
significant adverse effect on its financial position and results of operations,
and ScanSoft believes it will not be required to expend a significant amount of
resources defending such claims. However, should ScanSoft not prevail in any
such litigation, its operating results and financial position could be adversely
impacted.

GUARANTEES

ScanSoft has entered into agreements to indemnify its directors and
officers to the fullest extent authorized or permitted under applicable law.
These agreements, among other things, provide for the indemnification of its
directors and officers for expenses, judgments, fines, penalties and settlement
amounts incurred by any such person in his or her capacity as a director or
officer of ScanSoft, whether or not such person is acting or serving in any such
capacity at the time any liability or expense is incurred for which
indemnification can be provided under the agreements. ScanSoft has a Director
and Officer insurance policy in effect that reduces its exposure under these
agreements and enables it to recover a portion of any future amounts paid. While
the maximum potential amount of any future payments under these agreements is
uncertain, as a result of its insurance coverage ScanSoft believes the estimated
fair value of these agreements is minimal.

ScanSoft currently includes indemnification provisions in the contracts it
enters with its customers and business partners. Generally, these provisions
require ScanSoft to defend claims arising out of its products' infringement of
third-party intellectual property rights, breach of contractual obligations
and/or unlawful or otherwise culpable conduct on its part. The indemnity
obligations imposed by these provisions generally cover damages, costs and
attorneys' fees arising out of such claims. In most, but not all, cases
ScanSoft's total liability under such provisions is limited to either the value
of the contract or a specified, agreed upon, amount. In some cases its total
liability under such provisions is unlimited. In many, but not all, cases the
term of the indemnity provision is perpetual. Although these provisions are
included in most of its contracts with customers and business partners, as noted
above, ScanSoft is currently defending only four parties pursuant to such
provisions. Each of these four parties is a defendant in a case filed by the
Massachusetts Institute of Technology and Electronics for Imaging, Inc. in the
United States District Court for the Eastern District of Texas in December 2001.
The case, which alleges patent infringement by certain ScanSoft products, is
more fully described above. Although ScanSoft believes this claim has no merit,
ScanSoft cannot predict the outcome of this case or the total additional
indemnity costs it may produce, though it may be required to indemnify one or
more defendants in addition to those it is already indemnifying, and additional
indemnification obligations may arise in other litigations. While the maximum
potential amount of future payments ScanSoft could be required to make under all
the indemnification provisions in its contracts with customers and business
partners is unlimited, it believes that the estimated fair value of these
provisions is minimal due to the low frequency with which these provisions have
been triggered.

F-65

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

14. EQUITY TRANSACTIONS

COMMON STOCK WARRANTS

In connection with the March 31, 2003 acquisition of the certain
intellectual property assets related to multimodal speech technology (Note 7),
ScanSoft issued a warrant expiring October 31, 2005, for the purchase of 78,000
shares of common stock of ScanSoft at an exercise price of $8.10 per share. The
warrant was immediately exercisable and was valued at $0.1 million based upon
the Black-Scholes option pricing model with the following assumptions: expected
volatility of 80%, a risk-free rate of 1.87%, an expected term of 2.5 years, no
dividends and a stock price of $4.57 based on ScanSoft's stock price at the time
of issuance. The purchase price was recorded as completed technology and will be
amortized over three years.

UNDERWRITTEN PUBLIC OFFERING

During the three months ended March 31, 2003, ScanSoft completed an
underwritten public offering of 8,256,906 shares of ScanSoft common stock at
$3.80 per share. Of the total shares sold, 6,184,406 shares were sold on behalf
of Lernout & Hauspie Speech Products N.V. and L&H Holdings USA, Inc. ScanSoft
sold 2,072,500 common shares and received gross proceeds of $7.9 million. After
considering offering costs, the net proceeds amounted to approximately $5.5
million.

15. SEGMENT AND GEOGRAPHIC INFORMATION

ScanSoft operates in a single segment. The following table presents total
revenue information by geographic area and principal product line (in
thousands):

THREE MONTHS ENDED
MARCH 31,
-------------------
2003 2002
-------- --------

North America............................................... $20,608 $18,625
Other foreign countries..................................... 7,228 5,140
------- -------
Total..................................................... $27,836 $23,765
======= =======

THREE MONTHS ENDED
MARCH 31,
-------------------
2003 2002
-------- --------

Digital Capture............................................. $12,587 $16,370
Speech...................................................... 15,249 7,395
------- -------
Total..................................................... $27,836 $23,765
======= =======

Revenue classification above is based on the country in which the sale
originates or is invoiced. Revenue in other countries predominately relates to
sales to customers in Asia and Europe. Intercompany sales are insignificant as
products sold outside of the United States or Europe are sourced within Europe
or the United States.

A number of ScanSoft's North American OEM customers distribute products
throughout the world but because these customers do not provide the geographic
dispersion of their product sales, ScanSoft recorded the revenue in the North
America category. However, based on an estimate that factors our OEM partners'
geographical revenue mix to our revenue generated from these OEM partners,
international revenue would have represented approximately 33% and 30% of our
consolidated revenue for the quarters ended March 31, 2003 and March 31, 2002,
respectively.

F-66

SCANSOFT, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

16. SUBSEQUENT EVENT

On April 23, 2003, ScanSoft announced it had signed a definitive merger
agreement to acquire SpeechWorks International, Inc. ("SpeechWorks"), a Boston,
Massachusetts-based company that provides speech recognition, text-to-speech and
speaker verification for network and embedded environments, including multimodal
devices with both an audio interface and visual display. Under the terms of the
agreement, ScanSoft will acquire SpeechWorks in a tax-free, stock-for-stock
merger with an equity value at the time of announcement of approximately $132.0
million, net of SpeechWorks' cash balance of $49.0 million as of December 31,
2002. Upon completion of the merger, holders of SpeechWorks common stock will be
entitled to receive 0.860 shares of ScanSoft common stock for each share of
SpeechWorks common stock exchanged in the merger. The acquisition is expected to
be completed in the third quarter of 2003. The agreement may be terminated by
either ScanSoft or SpeechWorks upon certain events occurring or not occurring,
as defined in the agreement. In certain cases, if the agreement is terminated,
ScanSoft may be required to pay SpeechWorks up to $6.5 million.

F-67

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL

(A DIVISION OF ROYAL PHILIPS ELECTRONICS N.V.)

INDEX TO COMBINED FINANCIAL STATEMENTS

PAGE
----

Independent Auditors' Report................................ F-69
Combined Balance Sheets..................................... F-70
Combined Statements of Operations and Comprehensive Loss.... F-71
Changes in the Net Investment of the Philips Group.......... F-72
Combined Statements of Cash Flows........................... F-73
Notes to the Combined Financial Statements.................. F-74

F-68

INDEPENDENT AUDITORS' REPORT

The Supervisory Board of Royal Philips Electronics N.V.

We have audited the accompanying combined balance sheets of Philips Speech
Processing Telephony and Voice Control (A division of Royal Philips Electronics
N.V.) as of December 31, 2002, and the related combined statements of operations
and comprehensive loss, changes in the net investment of the Philips Group, and
cash flows for each of the years in the two-year period ended December 31, 2002.
These combined financial statements are the responsibility of Philips Speech
Processing Telephony and Voice Control's management. Our responsibility is to
express an opinion on these combined financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards in the United States of America. 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 audit provides a
reasonable basis for our opinion.

In our opinion, the combined financial statements referred to above present
fairly, in all material respects, the financial position of Philips Speech
Processing Telephony and Voice Control (A division of Royal Philips Electronics
N.V.) as of December 31, 2002, and the results of its operations and its cash
flows for the two-year period ended December 31, 2002, in conformity with
generally accepted accounting principles in the United States of America.

/s/ KPMG ACCOUNTANTS N.V. KPMG Accountants N.V.

Eindhoven, The Netherlands

June 10, 2003

F-69

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

COMBINED BALANCE SHEETS

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

ASSETS
CURRENTS ASSETS:
Cash...................................................... 23 7
Accounts receivable, net (Notes 3 and 16)................. 3,036 3,359
Receivables from related parties (Note 13)................ 512 347
Inventory, net (Note 4)................................... 662 291
Deferred income taxes (Notes 9 and 13).................... 25 0
Other current assets (Note 5)............................. 240 216
------ -----
TOTAL CURRENT ASSETS........................................ 4,498 4,220
------ -----
Property, plant and equipment, net (Notes 6 and 15)......... 521 336
Intangible assets, net (Note 7)............................. 184 117
------ -----
TOTAL ASSETS................................................ 5,203 4,673
====== =====
LIABILITIES AND NET INVESTMENT OF THE PHILIPS GROUP
CURRENT LIABILITIES:
Accounts payable.......................................... 850 483
Deferred income........................................... 1,481 572
Payables to related parties (Note 13)..................... 1,541 672
Deferred income tax liability (Notes 9 and 13)............ 17 16
Other accrued liabilities (Note 8)........................ 2,153 2,896
------ -----
TOTAL CURRENT LIABILITIES................................... 6,042 4,639
------ -----
Long-term provisions (Note 10).............................. 269 245
TOTAL LIABILITIES........................................... 6,311 4,884
------ -----
Commitments and contingencies (Note 14)
NET INVESTMENT OF THE PHILIPS GROUP......................... (1,108) (211)
------ -----
TOTAL LIABILITIES AND NET INVESTMENT OF THE PHILIPS GROUP... 5,203 4,673
====== =====

The accompanying notes are an integral part of these combined financial
statements.
F-70

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

COMBINED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS

YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Revenue:
Revenue, third parties.................................... 15,801 16,127
Revenue, related parties.................................. 2,890 582
TOTAL REVENUE (NOTES 13 AND 15)............................. 18,691 16,709
Cost of sales............................................... 3,288 2,519
GROSS PROFIT................................................ 15,403 14,190
------- -------
Operating expenses:
Selling and marketing..................................... 15,066 12,415
Research and development (Note 13)........................ 13,512 10,421
General and administrative (Note 13)...................... 3,877 3,739
Total operating expenses.................................... 32,455 26,575
OPERATING LOSS.............................................. (17,052) (12,385)
------- -------
Interest revenue, net (Note 13)............................. 2 3
LOSS BEFORE INCOME TAXES.................................... (17,050) (12,382)
------- -------
Income tax benefit (Note 9)................................. 1,364 333
NET LOSS.................................................... (15,686) (12,049)
======= =======
Components of other comprehensive income:
Foreign currency translation adjustments.................. 58 (41)
COMPREHENSIVE LOSS.......................................... (15,628) (12,090)
======= =======

The accompanying notes are an integral part of these combined financial
statements.
F-71

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

CHANGES IN THE NET INVESTMENT OF THE PHILIPS GROUP

NET INVESTMENT OF THE
PHILIPS GROUP
---------------------
(IN THOUSANDS
OF EURO'S)

BALANCE DECEMBER 31, 2000................................... 972
Net cash transfer from Philips.............................. 13,548
Components of comprehensive income:
Net loss.................................................. (15,686)
Foreign currency translation adjustments.................. 58
BALANCE DECEMBER 31, 2001................................... (1,108)
Net cash transfer from Philips.............................. 12,987
Components of comprehensive income:
Net loss.................................................. (12,049)
Foreign currency translation adjustments.................. (41)
BALANCE DECEMBER 31, 2002................................... (211)

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

F-72

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

COMBINED STATEMENTS OF CASH FLOWS

YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Cash flows from operating activities:
Net loss.................................................... (15,686) (12,049)
Adjustments to reconcile net income to net cash provided by
(used in) operating activities
Deferred taxation......................................... (1,260) 24
Depreciation and amortization............................. 607 438
Change in assets and liabilities:
Accounts receivable, net............................... 1,033 (323)
Related parties, net................................... 2 (704)
Inventory, net......................................... 851 371
Other current assets................................... 207 24
Accounts payable....................................... (69) (367)
Deferred income and other accrued liabilities.......... (30) (166)
Long-term provisions................................... 85 (24)
Effect of exchange rate changes............................. (38) 105
NET CASH USED IN OPERATING ACTIVITIES....................... (14,298) (12,671)
Cash flows from investing activities:
Purchases of property, plant and equipment................ (201) (189)
Effect of exchange rate changes............................. -- 3
NET CASH USED IN INVESTING ACTIVITIES....................... (201) (186)
Cash flows from financing activities:
Net cash transferred from Philips......................... 13,606 12,946
Effect of exchange rate changes............................. 4 (107)
NET CASH PROVIDED BY FINANCING ACTIVITIES................... 13,610 12,839
Effect of exchange rate changes............................. 34 2
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS........ (855) (16)
Cash and cash equivalents, beginning of period.............. 878 23
Cash and cash equivalents, end of period.................... 23 7
Supplementary information:
Cash received from Philips for income taxes............... 9,897 105
Cash received from (paid to) Philips for interest......... (576) 2

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

F-73

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS

DECEMBER 31, 2002

1. DESCRIPTION OF THE COMPANY AND BASIS OF PRESENTATION

DESCRIPTION OF THE COMPANY

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL (PSP), a division of
Royal Philips Electronics N.V. (Philips and Philips Group) is active in the
field of speech processing technology. Starting from the traditional
tape-recorded dictation Philips in the past two decades has become a global
leader in the field of speech processing, offering a wide portfolio of
state-of-the-art products and technologies. Philips Speech Processing Telephony
is offering speech-enabled services including directory assistance, interactive
voice response and voice portal applications for enterprise customers, telephony
vendors and carriers. Philips Speech Processing Voice Control is operating on
the market for speech-enabled automotive and mobile products. It offers a
product portfolio including small footprint speech recognition engines for
embedded applications like voice controlled climate, navigation and
entertainment features within cars as well as voice dialing within mobile
phones. With presence in Aachen, Germany, Dallas, USA, and Taipei, Taiwan PSP is
able to cover the global market with products supporting more than 40 languages
and that can process a vocabulary of more than one million words.

Royal Philips Electronics N.V., the Netherlands, and ScanSoft, Inc., of
Peabody, MA, USA entered into a purchase agreement in which ScanSoft acquires
the business, employees and intellectual property of Philips Speech Processing
Telephony and Philips Speech Processing Voice Control. The transaction was
consummated on January 30, 2003. See note 17 for additional disclosure of the
transaction.

BASIS OF PRESENTATION

The combined financial statements reflect the financial position, results
of operations, changes in net investment of the Philips Group, and cash flows of
the PSP business unit of Philips as if PSP had been a separate entity for all
periods presented. The combined financial statements have been prepared using
Philips' historical basis for PSP's assets and liabilities and results of
operations, which have been stated in conformity with accounting principles
generally accepted in the United States of America (U.S. GAAP). All significant
intercompany transactions and balances have been eliminated in preparation of
the combined financial statements.

Corporate overheads have been allocated to PSP from Philips at central,
regional and local levels for amounts, including directors remuneration,
marketing, management information systems, accounting and financial reporting,
treasury, human resources, legal, tax and security, based on the net sales of
PSP compared to the consolidated net sales of Philips. Management believes these
allocations are reasonable. However, the costs of these services charged to PSP
are not necessarily indicative of the costs that would have been incurred had
PSP operated as an entity independent of Philips, or as an autonomous public
company, for all periods presented.

PSP purchases components used in the production process, as well as
equipment and supplies under collective purchase agreements and purchase
conditions negotiated by Philips. Management believes that the benefits derived
from such agreements and conditions would unlikely have been obtained had PSP
been a stand-alone company.

The pension and other postretirement benefit costs attributable to PSP have
been based on the charge incurred by individual operations in respect of
specific plans of which employees of PSP are members. For the purposes of
presentation of the combined financial statements, the participation in the
Philips plans has been treated as participation in various multi-employer plans.
The charges included in the combined financial statements reflect the
arrangements of Philips and are therefore not necessarily indicative of the
pension and other postretirement benefit costs had PSP been a stand-alone
company. During the year
F-74

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

ended December 31, 2001, PSP has benefited from contribution holidays with
respect to certain over-funded Philips pension plans. During 2002 no
contribution holidays existed anymore. Upon divestment, PSP will not benefit
from any contribution holidays, as the employees will no longer participate in
Philips' plans.

Because in the past PSP was not a separate legal group of companies or a
separate holding company within the Philips Group of companies, the proportion
of share capital and reserves attributable to PSP has been shown in the combined
balance sheets as part of the "Net investment of the Philips Group". For the
purpose of these combined financial statements, interest charge is calculated
based on the average rate of interest for long-term debt paid by Philips and the
average amount of net investment of the Philips Group invested in PSP during the
reporting periods, taking into account the debt-to-equity ratio reported by
Philips during the reporting periods. In addition, PSP has a number of
short-term balances with other Philips Group businesses. These balances arise
from trading transactions and services or other items and have been aggregated
on the combined balance sheets under the headings "Receivables from related
parties" and "Payables to related parties".

Historically, PSP's operations have been included in the combined income
tax returns filed by Philips in each of the countries where PSP is located
(country fiscal unity). Income tax expense in these combined financial
statements has been calculated on an as if separate tax return basis. The
current tax expense is assumed to be settled within the financial period
following the period in which it arises. Tax effects that may arise from PSP's
divestment from the Philips Group have not been reflected in PSP's combined
financial statements.

Other significant features of the PSP divestment from Philips are described
in Note 17.

The financial information included herein is not necessarily indicative of
the combined results of operations, financial position, changes in the net
investment of the Philips Group and cash flows of PSP in the future or what they
would have been for the periods presented had PSP been a separate stand-alone
entity.

REPORTING CURRENCY

The Euro is used as reporting currency. The financial statements of foreign
operations are translated into euros. Assets and liabilities are translated
using the exchange rates on the respective balance sheet dates. Income and
expense items are translated at average rates during the period.

2. SUMMARY OF ACCOUNTING POLICIES

CASH AND CASH EQUIVALENTS

Historically, Philips manages cash and cash equivalents on a centralized
basis. Cash receipts associated with PSP's business are transferred to Philips
on a daily basis and Philips funds PSP's disbursements. These cash transactions
are reflected in the caption "Net investment of the Philips Group". In certain
countries, however, PSP has dedicated bank accounts, operating under periodic
cash pooling with Philips. Furthermore, PSP entities have small amounts of petty
cash.

F-75

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

ACCOUNTS RECEIVABLE

Accounts receivables are stated at face value, net of allowances for
doubtful accounts.

INVENTORY

Finished goods inventories are valued at the lower of cost, as determined
by the first-in, first-out (FIFO) method, or net realizable value. Provision is
made for obsolescence. Work in process comprises deferred costs on uncompleted
contracts.

PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment are stated at cost, less accumulated
depreciation. Depreciation is calculated using the straight-line method over the
expected economic life of the asset. Costs related to maintenance activities are
expensed in the period in which they are incurred. Following are the expected
useful lives of the assets:

Machines and installations.................................. from 5 to 10 years
Other fixed assets.......................................... from 3 to 5 years

INTANGIBLE ASSETS

Intangible assets consists of acquired intellectual property rights
consisting of computer software for resale, which is being amortized on the
straight-line method over 5 years.

IMPAIRMENT OF LONG-LIVED ASSETS

Through December 31, 2001, PSP evaluated the recoverability of its
long-lived assets in accordance with Statement of Financial Accounting Standards
(SFAS) No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed of". Whenever adverse events or changes in
business climate result in the expected undiscounted future cash flows from the
related asset being less than the carrying value of the asset, an impairment
loss would be recognized for the excess of the carrying value of the assets over
the expected discounted future cash flows.

On January 1, 2002, PSP adopted SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets". SFAS No. 144 amends existing
guidance on asset impairment and provides a single accounting model for
long-lived assets to be disposed of SFAS No. 144 also changes the criteria for
classifying an asset as held-for-sale; and broadens the scope of businesses to
be disposed of that qualify for reporting as discontinued operations, and
changes the timing of recognizing losses on such operations. The adoption of
SFAS No. 144 on January 1, 2002 did not have an impact on the Company's combined
financial statements.

INCOME TAXES

Income taxes are accounted for under the asset and liability method.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to

F-76

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

apply to taxable income in the years in which those temporary differences are
expected to be recovered or settled. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period that
includes the enactment date. Deferred tax assets, including assets arising from
loss carry forwards, are recognized if it is more likely than not that the asset
will be realized.

REVENUE RECOGNITION

PSP recognizes revenue in accordance with Statement of Position 97-2,
Software Revenue Recognition, as amended by Statement of Position 98-9, and the
Securities and Exchange Commission's Staff Accounting Bulletin No. 101 Revenue
Recognition in Financial Statements. Revenue from the sale of hardware and
software to end users is recognized upon delivery, provided that no significant
obligations remain, evidence of the arrangement exists, the fees are fixed or
determinable, and collectibility of the related receivable is reasonably
assured.

Revenue from royalties on sales of PSP's products by original equipment
manufacturers to third parties is recognized upon delivery to the third party
when such information is available, or when notified by the reseller that such
royalties are due as a result of a sale, provided that collectibility of the
related receivable is reasonably assured. Revenue from maintenance contracts is
recognized ratably over the contract term.

Revenue from development of custom software is recognized on a completed
contract basis. The Company has applied the completed contract method for
recognizing revenues on contracts involving software and services which
represent significant customization or modification of the software because they
do not have the ability to make reasonably dependable estimates of the extent of
progress to completion. Accordingly, all project costs and progress payments are
deferred until the project is complete. Any anticipated losses are recognized
immediately.

RESEARCH AND DEVELOPMENT AND CAPITALIZED SOFTWARE DEVELOPMENT COSTS

Under SFAS No. 86 "Accounting for the Costs of Computer Software to be
Sold, Leased or Otherwise Marketed", costs incurred in the research and
development of software products are expensed as incurred until technological
feasibility has been established. Once established, these costs would be
capitalized. The establishment of technological feasibility and the ongoing
assessment of the recoverability of these costs requires considerable judgment
by management with respect to certain external factors, including, but not
limited to, anticipated future gross product revenues, estimated economic life
and changes in software and hardware technologies. In the year ended December
31, 2001 and the nine-month period ended September 29, 2002, costs eligible for
capitalization were not material.

PENSION AND OTHER POSTRETIREMENT BENEFITS

PSP accounts for the cost of pension plans and postretirement benefits
other than pensions in accordance with SFAS No. 87, "Employers Accounting for
Pensions" and SFAS No. 106, "Employers Accounting for Postretirement Benefits
Other Than Pensions", respectively. These plans are generally part of pension
and postretirement benefit plans within Philips, and are accounted for by PSP as
multi-employer plans.

STOCK-BASED COMPENSATION

PSP applies SFAS No. 123, "Accounting for Stock-Based Compensation", which
allows companies which have stock-based compensation arrangements with employees
to continue to apply the existing accounting required by Accounting Principles
Board ("APB") Opinion No. 25, "Accounting for Stock

F-77

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

Issued to Employees", and to provide pro forma disclosure of the accounting
results of applying the fair value method of SFAS No. 123. PSP accounts for
stock-based compensation arrangements (related to Philips stock options granted
to PSP employees) under the intrinsic value method of APB Opinion No. 25. The
following table illustrates the effect on net income if the fair value based
method had been applied to all outstanding and unvested awards in each period.

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Net loss, as reported....................................... (15,686) (12,049)
Deduct: Total share-based employee compensation expense
determined under fair value based method for all awards,
net of related tax effects................................ (116) (148)
Pro forma net loss.......................................... (15,802) (12,197)
======= =======

USE OF ESTIMATES

The preparation of financial statements in conformity with US GAAP requires
management to make estimates and assumptions that affect reported amounts in the
financial statements and the accompanying notes. While management bases its
assumptions and estimates on the facts and circumstances known at the balance
sheet date, actual results could materially differ from those estimates.

ACCOUNTING STANDARDS NOT YET ADOPTED

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 143, "Accounting for Asset Retirement Obligations" (SFAS No. 143). SFAS No.
143 requires PSP to record the fair value of an asset retirement obligation as a
liability in the period in which it incurs a legal obligation associated with
the retirement of tangible long-lived assets that result from the acquisition,
construction, development and/or normal use of the assets. PSP would also record
a corresponding asset, which is depreciated over the life of the asset.
Subsequent to the initial measurement of the asset retirement obligation, the
obligation will be adjusted at the end of each period to reflect the passage of
time and changes in the estimated future cash flows underlying the obligation.
PSP is required to adopt SFAS No. 143 on January 1, 2003. PSP believes that the
adoption of SFAS No. 143 will not have a material impact on its financial
statements.

In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections"
(SFAS No. 145). SFAS No. 145 provides for the rescission of several previously
issued accounting standards, new accounting guidance for the accounting for
certain lease modifications and various technical corrections to existing
pronouncements that are not substantive in nature. SFAS No. 145 will be adopted
on January 1, 2003, except for the provisions relating to the amendment of SFAS
No. 13, "Accounting for Leases", which was adopted as required for transactions
occurring subsequent to May 15, 2002. PSP believes that the adoption of SFAS No.
145 will not have a material impact on its financial statements.

In June 2002, the FASB issued SFAS No. 146, "Accounting for Exit or
Disposal Activities" (SFAS No. 146). SFAS No. 146 addresses significant issues
regarding the recognition, measurement and reporting of costs that are
associated with exit and disposal activities, including restructuring activities
that are currently accounted for pursuant to the guidance that the Emerging
Issues Task Force (EITF) has set forth in EITF Issue No. 94-3, "Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)". The scope of
SFAS No. 146 also includes (1) costs related to terminating a contract that is
not a capital lease, and

F-78

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

(2) termination benefits that employees who are involuntarily terminated receive
under the terms of a one-time benefit arrangement that is not an ongoing benefit
arrangement or an individual deferred compensation contract. SFAS No. 146 is to
be applied prospectively to exit or disposal activities initiated after December
31, 2002. PSP believes that the adoption of SFAS No. 146 will not have a
material impact on its financial statements.

In December 2002, the FASB issued SFAS 148, "Accounting for Stock Based
Compensation -- Transition and Disclosure -- an amendment of FASB statement No.
123" ("SFAS 148"). SFAS 148 permits two additional transition methods for
entities that adopt the fair value based method of accounting for stock-based
employee compensation. The Statement also requires new disclosures about the
ramp-up effect of stock-based employee compensation on reported results. The
Statement also requires that those effects be disclosed more prominently by
specifying the form, content, and location of those disclosures. The transition
guidance and annual disclosure provisions of SFAS 148 are effective for fiscal
years ending after December 15, 2002, with earlier application permitted in
certain circumstances. The interim disclosure provisions are effective for
financial reports containing financial statements for interim periods beginning
after December 15, 2002. PSP has adopted the disclosure requirements as from
2002.

PSP has decided to adopt the fair value recognition of SFAS 123 accounting
"Stock Based Compensation" as from January 1, 2003 prospectively to all employee
awards granted, modified or settled after January 1, 2003.

In November 2002, the Emerging Task-Force issued its consensus on EITF
00-21, "Revenue Arrangements with Multiple Deliverables" ("EITF 00-21") on an
approach to determine whether an entity should divide an arrangement with
multiple deliverables into separate units of accounting. According to the EITF
in an arrangement with multiple deliverables, the delivered item(s) should be
considered a separate unit of accounting if all of the following criteria are
met: (1) The delivered item(s) has value to the customer on a standalone basis,
(2) There is objective and reliable evidence of the fair value of the
undelivered item(s), (3) If the arrangement includes a general right of return,
delivery or performance of the undelivered item(s) is considered probable and
substantially in the control of the vendor. If all the conditions above are met
and there is objective and reliable evidence of fair value for all units of
accounting in an arrangement, the arrangement consideration should be allocated
to the separate units of accounting based on their relative fair values.
However, there may be cases in which there is objective and reliable evidence of
the fair value(s) of the undelivered item(s) in an arrangement, but no such
evidence for one or more of the delivered items. In those cases, the residual
method should be used to allocate the arrangement consideration. The guidance in
this Issue is effective for revenue arrangements entered into in fiscal
beginning after June 15, 2003. Alternatively, entities may elect to report the
change in accounting as a cumulative-effect adjustment in accordance with
Opinion 20. If so elected, disclosure should be made in periods subsequent to
the date of initial application of this consensus of the amount of recognized
revenue that was previously included in the cumulative effect adjustment. PSP
believes that the adoption of EITF 00-21 will not have a significant impact on
the combined financial statements.

F-79

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

3. ACCOUNTS RECEIVABLE

Accounts receivable consisted of the following:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Trade accounts receivable................................... 4,503 5,055
Allowance for doubtful accounts............................. (1,467) (1,696)
------ ------
Total accounts receivable, net.............................. 3,036 3,359
====== ======

4. INVENTORY

Inventory consisted of the following:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Work in process............................................. 606 69
Finished goods.............................................. 225 257
Allowance for obsolescence.................................. (169) (35)
---- ---
Total inventory, net........................................ 662 291
==== ===

5. OTHER CURRENT ASSETS

Other current assets consisted of the following:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Royalties receivable........................................ 22 0
Prepaid expenses and sundry receivables..................... 218 216
--- ---
Total Other current assets.................................. 240 216
=== ===

6. PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment consisted of the following:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Machines and installations.................................. 1,374 1,155
Other fixed assets.......................................... 3,730 3,389
Accumulated depreciation.................................... (4,583) (4,208)
------ ------
Total property, plant and equipment, net.................... 521 336
====== ======

F-80

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

7. INTANGIBLE ASSETS

Intangible assets consisted of the following:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Computer software for resale, gross......................... 230 194
Accumulated amortisation.................................... (46) (77)
--- ---
Intangible asset, net....................................... 184 117
=== ===

Amortization of computer software costs was E 46 thousand and E 31 thousand
for the year ended December 31, 2001 and the year ended December 31, 2002,
respectively. The estimated amortisation expense for the next three years is
E 39 thousand per year.

8. OTHER ACCRUED LIABILITIES

Other accrued liabilities consisted of the following:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Salaries and wages, holiday allowance, year-end payment..... 1,245 1,113
Accrued holiday rights...................................... 335 242
Obligation towards former stock holders..................... 196 165
Accrued sales tax........................................... 56 139
Accrued commercial costs.................................... 83 348
Accrued R&D costs........................................... 0 156
Customer deposit............................................ 0 330
Others...................................................... 238 403
----- -----
Total other accrued liabilities............................. 2,153 2,896
===== =====

9. INCOME TAXES

Historically, PSP's operations have been included in the combined income
tax returns filed by Philips in each of the countries where PSP is located
(country fiscal unity). The income tax expense reported and the determination of
deferred tax assets to be realized in PSP's combined financial statements is
based on an as if separate tax return basis.

F-81

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

The following table presents the principal reasons for the difference
between the effective income tax rate and statutory income tax rate in the
Netherlands:

YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN PERCENTAGES)

Statutory income tax rate in the Netherlands................ 35% 35%
Foreign rate differentials.................................. 4% 4%
Change in valuation allowance............................... -31% -35%
Others...................................................... 0% -1%
Effective income tax rate................................... 8% 3%

The income tax expense is as follows:

YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Income (loss) before income taxes:
The Netherlands........................................... 0 0
Foreign................................................... (17,050) (12,382)
Income tax benefit (expense):
Current taxes
The Netherlands........................................... 0 0
Foreign................................................... 105 357
Deferred taxes
The Netherlands........................................... 0 0
Foreign................................................... 1,259 (24)
Income tax benefit.......................................... 1,364 333

F-82

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

The sources of differences between the financial accounting and tax basis
of PSP's assets and liabilities that give rise to the net deferred tax assets
are as follows:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Deferred tax assets:
Doubtful accounts......................................... 84 66
Accrued compensation...................................... 131 288
Taxes other than income taxes............................. 84 10
Jubilee provision......................................... 19 25
Others.................................................... 174 168
Property, plant and equipment............................. 110 78
Net operating losses...................................... 29,436 32,941
------- -------
TOTAL GROSS DEFERRED TAX ASSETS............................. 30,038 33,576
------- -------
Valuation allowance......................................... (29,978) (33,546)
NET DEFERRED TAX ASSETS..................................... 60 30
Deferred tax liabilities:
Fixed assets.............................................. 27 21
Accruals.................................................. 17 18
Others.................................................... 8 7
------- -------
TOTAL GROSS DEFERRED LIABILITIES............................ 52 46
======= =======
NET DEFERRED TAX ASSETS (LIABILITIES)....................... 8 (16)

Based upon an as if separate tax return basis, as at December 31, 2002 PSP
has incurred E 22.8 million of operating loss carry forwards expiring at various
dates through 2022 and E 59.3 million of operating loss carry forwards with no
expiration date.

The valuation allowance for deferred tax assets as of December 31, 2001 and
December 31, 2002 was E 30.0 million and E 33.5 million, respectively. The net
change in total valuation allowance for the year ended December 31, 2001 and the
year ended December 31, 2002 was an increase of E 4.1 million and E 3.5 million,
respectively. In assessing the realizability of deferred tax assets, PSP
considers whether it is more likely than not that some portion or all of the
deferred tax assets will not be realized. The ultimate realization of deferred
tax assets is dependent upon the generation of future taxable income during the
periods in which those temporary differences become deductible. PSP considers
the scheduled reversal of deferred tax liabilities, projected future taxable
income and tax planning strategies in making this assessment. Based upon the
level of historical taxable income and projections for future taxable income
over the periods in which the deferred tax assets are deductible, management
believes it is more likely than not that PSP will realize the benefits of those
deductible differences for which a valuation allowance has not been recorded.

F-83

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

10. LONG-TERM PROVISIONS

Long-term provisions consisted of the following:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------
(IN THOUSANDS OF EURO'S)

Provision for pensions...................................... 199 162
Provision for jubilee benefit obligations................... 70 83
--- ---
Total long-term provisions.................................. 269 245
=== ===

11. PENSION AND OTHER POST RETIREMENT COSTS

Employees of PSP participate in various defined benefit and defined
contribution pension plans of the Philips Group. For the purposes of the
preparation of these combined financial statements, PSP's participation in the
Philips plans has been treated as participation in various multi-employer plans.
Accordingly, the charges included in the combined financial statements may not
be indicative of the pension and other post retirement costs had PSP been a
stand alone entity.

Pension premium charged for the year ended December 31, 2001 and the year
ended December 31, 2002 were E 86 thousand and E 114 thousand, respectively.

In addition to receiving pension benefits, PSP employees in certain
countries participate in other postretirement benefit plans of the Philips
Group. These other postretirement benefits under SFAS No. 106 are recorded at
the country central level and charged out to the various local entities as part
of human resource overhead (surcharge on salaries paid). The charge to PSP is
approximately E 13 thousand and E 48 thousand for the year ended December 31,
2001 and the year ended December 31, 2002, respectively.

12. EQUITY INCENTIVE PLANS

EXISTING PHILIPS INCENTIVE PLANS

Philips has granted stock options on its ordinary shares to members of
PSP's management and certain key employees under either a Euro (EUR) denominated
plan or a United States Dollar (USD) denominated plan. Under Philips' plans,
options are granted with an exercise price equal to the fair market value of the
underlying ordinary shares on the date of grant. Options are subject to vesting
periods typically of three years and expirations of five or ten years. A limited
number of options have also been granted under variable plans, subject to
achievement of certain financial objectives during multi-year performance
cycles. Exercise of all options is restricted by Philips' rules on insider
trading.

STOCK-BASED COMPENSATION

Pro forma net income information, as required by SFAS No. 123, has been
determined as if PSP had accounted for employee share options granted to PSP's
employees by Philips under SFAS No. 123's fair value method. The pro forma
amounts below are not necessarily representative of the effects of share-based
awards on future net income because the plans eventually adopted by PSP after
divestment from Philips may differ from Philips share options plans. Accordingly
future grants of employee stock options to PSP's employees may not be comparable
to awards made to employees while PSP was a part of Philips.

F-84

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

The fair value of each option was estimated on the date of grant using the
Black-Scholes option-pricing model with the following weighted average
assumptions:

DECEMBER 31, DECEMBER 31,
2001 2002
------------ ------------

(EUR -- DENOMINATED)
Risk-free interest rate..................................... 4.66% 4.70%
Expected dividend yield..................................... 1.2% 1.2%
Expected option life........................................ 5 yrs. 5 yrs.
Expected stock price volatility............................. 49% 53%

(USD -- DENOMINATED)
Risk-free interest rate..................................... 4.77% 4.65%
Expected dividend yield..................................... 1.2% 1.2%
Expected option life........................................ 5 yrs. 5 yrs.
Expected stock price volatility............................. 49% 49%

The assumptions were used for these calculations only and do not
necessarily represent an indication of management's expectations of future
development.

The following table summarizes information about the number of Philips
share options granted to PSP's employees, those outstanding at December 31, 2001
and December 31, 2002 and changes during the period:

Fixed option plans:

DECEMBER 31, 2001 DECEMBER 31, 2002
-------------------------- -------------------------
WEIGHTED WEIGHTED
AVERAGE EXERCISE AVERAGE EXERCISE
SHARES PRICE SHARES PRICE
------- ---------------- ------ ----------------
(IN EUR) (IN EUR)

Options outstanding, beginning of period..... 3,200 43.18 9,325 33.77
Options granted.............................. 6,125 28.85 6,336 34.78
Options exercised............................
Options forfeited............................ (3,107) 32.74
Options outstanding, end of period........... 9,325 33.77 12,554 34.53
Weighted average fair value of options
granted during the year in EUR............. 14.75 14.90
(IN USD) (IN USD)

Options outstanding, beginning of period..... 24,500 40.61 16,700 29.57
Options granted.............................. 11,950 25.68 8,892 30.70
Options exercised............................
Options forfeited............................ (19,750) 40.90 (4,750) 39.08
Options outstanding, end of period........... 16,700 29.57 20,842 27.90
Weighted average fair value of options
granted during the year in USD............. 11.90 13.01

F-85

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

Variable option plans:

Options outstanding, beginning of period..... 3,200 43.18 9,325 33.77
Options granted.............................. 6,125 28.85
Options exercised............................
Options forfeited............................ (2,675) 32.41
Options outstanding, end of period........... 9,325 33.77 6,650 34.31
Weighted average fair value of options
granted during the year in EUR............. 14.75
(IN USD) (IN USD)
Options outstanding, beginning of period..... 22,500 42.00 14,700 30.20
Options granted.............................. 11,950 25.68
Options exercised............................
Options forfeited............................ (19,750) 40.90 (1,750) 43.04
Options outstanding, end of period........... 14,700 30.20 12,950 28.48
Weighted average fair value of options
granted during the year in USD............. 11.90

The following table summarizes information about stock options outstanding
at December 31, 2002:

Fixed option plans:

OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------------- -----------------------------------
NUMBER WEIGHTED AVERAGE
OUTSTANDING AT REMAINING NUMBER EXERCISABLE
DECEMBER 31, EXERCISE PRICE CONTRACTUAL LIFE AT DECEMBER 31, WEIGHTED PRICE
YEAR OF GRANT 2002 PER SHARE (YEARS) 2002 PER SHARE
------------- -------------- -------------- ---------------- ------------------ --------------

(price in EUR) (price in EUR)
2000................. 2,500 42.90 7.79 -- --
2001................. 4,150 29.14 8.29 -- --
2002................. 5,904 34.78 9.29 -- --
(price in USD) (price in USD)
1999................. 2,000 24.96 6.5 2,000 24.96
2000................. 3,000 36.65-43.05 7.46 -- --
2001................. 9,950 25.68 8.29 -- --
2002................. 5,892 30.70 9.29 -- --
TOTAL................ 33,396 2,000

F-86

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

Variable option plans:

OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------------- -----------------------------------
NUMBER WEIGHTED AVERAGE
OUTSTANDING AT REMAINING NUMBER EXERCISABLE
DECEMBER 31, EXERCISE PRICE CONTRACTUAL LIFE AT DECEMBER 31, WEIGHTED PRICE
2002 PER SHARE (YEARS) 2002 PER SHARE
-------------- -------------- ---------------- ------------------ --------------

(price in EUR) (price in EUR)
2000................. 2,500 42.90 7.79 -- --
2001................. 4,150 29.14 8.29 -- --
(price in USD) (price in USD)
2000................. 3,000 36.65 - 43.05 7.46 -- --
2001................. 9,950 25.68 8.29 -- --
TOTAL................ 19,600

13. TRANSACTIONS WITH RELATED PARTIES

PSP sells products to and purchases certain products and services from
Philips in the normal course of business. Transactions between PSP and Philips
are effected at prices that are intended to reflect the market value of the
products and services involved. The following table summarizes transactions
between PSP and Philips:

DECEMBER 31, DECEMBER 31,
IN THOUSANDS OF EURO'S 2001 2002
---------------------- ------------ ------------

STATEMENT OF OPERATIONS:
Sales to Philips group...................................... 2,890 582
Interest revenue............................................ 2 3
Corporate overhead allocation............................... 308 212
Corporate Research.......................................... 3,058 1,958

DECEMBER 31, DECEMBER 31,
IN THOUSANDS OF EURO'S 2001 2002
---------------------- ------------ ------------

BALANCE SHEET:
Income taxes receivable (included in Receivables from
related parties).......................................... 105 259
Trade accounts receivable from Philips Group................ 512 347
Trade accounts payable to Philips Group..................... 1,541 672
Deferred income taxes....................................... 8 (16)

Interest revenue in these combined financial statements is calculated based
on the average rate of interest for long-term debt paid by Philips and the
average amount of net investment of the Philips Group invested in PSP during the
reporting periods, taking into account the debt-to-equity ratio reported by
Philips during the reporting periods.

Income tax expense has been calculated on an as if separate tax return
basis. Tax effects that may arise from PSP's divestment from the Philips Group
have not been reflected in PSP's combined financial statements.

Corporate overheads have been allocated to PSP from Philips at central,
regional and local levels for amounts including, but not limited to, directors
remuneration, marketing, management information systems, accounting and
financial reporting, treasury, human resources, legal, tax and security, based
on

F-87

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

the net sales of PSP compared to the consolidated net sales of Philips.
Management believes these allocations are reasonable. However, the costs of
these services charged to PSP are not necessarily indicative of the costs that
would have been incurred had PSP operated as an entity independent of Philips.

Philips Corporate Research is contracted by PSP to perform certain research
and development projects; the projects are determined on a yearly basis. The fee
charged is reported under Research & Development expenses.

14. COMMITMENTS AND CONTINGENCIES

PSP is potentially subject to lawsuits, claims and proceedings, which arise
in the ordinary course of business. There are no such matters pending that PSP
expects to be material in relation to its business, financial condition or
results of operations.

RENT AGREEMENTS

PSP has entered into certain short-term contracts to rent office and
warehouse facilities. The rent charged to income amounted to E 1,112 thousand
and E 1,013 thousand for the year ended December 31, 2001 and the year ended
December 31, 2002 respectively, of which E 181 thousand and E 284 thousand
respectively relates to charges from Philips based on square meters occupied.

The table below presents the amounts of rent payable under the present
contracts for the upcoming periods.

RENT
IN THOUSANDS OF EURO'S AMOUNT
---------------------- -----------

Year 2003................................................... 779
Year 2004................................................... 531
Year 2005................................................... 531
Year 2006................................................... 133
Year 2007 and later......................................... 0

15. GEOGRAPHICAL INFORMATION

PSP operates and derives its revenue from all major regions in the world.
The geographical location of property, plant and equipment and the geographical
origin of revenues are as follows:

AMERICAS EUROPE ASIA PACIFIC TOTAL
-------- ------ ------------ ------

December 31, 2001
Net sales..................................... 7,883 9,446 1,362 18,691
Property, plant and equipment, net............ 129 378 14 521
December 31, 2002
Net sales..................................... 8,424 7,907 378 16,709
Property, plant and equipment, net............ 48 284 4 336

F-88

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

16. CONCENTRATION OF RISKS AND FINANCIAL INSTRUMENTS

CONCENTRATION OF CREDIT RISK

Credit risk represents the risk that a loss would be recognized at the
reporting date if counter parties failed completely to perform as contracted.
Financial instruments which potentially subject PSP to a concentration of credit
risk consist principally of accounts receivable. Management believes it has
adequately provided for the collection risk in PSP's trade accounts receivable
by recording an allowance for doubtful accounts which reduces such amounts to
their net realizable value.

Due to the project nature of the speech processing business, PSP derives a
substantial portion of its revenues from a limited number of customers. In the
year 2001 and the year 2002, two and three customers, respectively accounted for
more than 10% of revenues each, and in the aggregate for 28% and 45% of
revenues, respectively.

FINANCIAL INSTRUMENTS

PSP's earnings, cash flows, and financial position are exposed to foreign
currency risk from foreign currency denominated receivables, payables,
forecasted transactions, as well as net investments in certain foreign
operations. These items are denominated in various foreign currencies, including
mainly the U.S. Dollar.

PSP periodically assesses its foreign currency exchange risk exposure. As
USA customers are invoiced from Dallas, USA, in US Dollars and European
customers are invoiced from Aachen, Germany, in Euro the currency risk exposure
is very limited. Accordingly, PSP does not enter into any hedging activities or
purchase derivative instruments.

During 2001, PSP recorded a net foreign currency transaction profit of E 23
thousand and during the year 2002, a loss was recorded of E 16 thousand, which
is included in cost of sales.

FAIR VALUE OF FINANCIAL ASSETS AND LIABILITIES

The carrying values of accounts receivable and accounts payable approximate
fair value because of the short maturity of these instruments.

17. PSP DIVESTMENT

On October 7, 2002, Royal Philips Electronics N.V. and ScanSoft, Inc.
signed a purchase agreement for the transfer of PSP's business, employees,
assets and liabilities to ScanSoft. The transaction was consummated on January
30, 2003.

To provide for an orderly transfer and transition of PSP from Philips to
ScanSoft, various ancillary agreements were executed that cover a wide range of
matters, including but not limited to:

- the transfer by Philips to ScanSoft of the business, employees, assets
and liabilities associated with PSP's business (Purchase Agreement, Local
Asset Transfer Agreements);

- the transfer or license by Philips to ScanSoft of certain intellectual
property rights (Technology Transfer and License Agreement, Trademark
Transfer and License Agreement);

- the provision by Philips of certain corporate and local human resource
management, finance and accounting, housing, information technology and
other services to ScanSoft (Transition Services Agreement).

F-89

PHILIPS SPEECH PROCESSING TELEPHONY AND VOICE CONTROL
(A division of Royal Philips Electronics N.V.)

NOTES TO THE COMBINED FINANCIAL STATEMENTS -- (CONTINUED)

STOCK INCENTIVE PLANS

The Philips stock options granted to the PSP employees were not converted
into options for shares of ScanSoft. Upon closing, PSP employees with
outstanding exercisable options had a limited period of time to exercise these
options and all unvested options were cancelled. In addition, ScanSoft has
assumed no obligation towards the beneficiaries or towards Philips with respect
to these outstanding Philips' stock options.

PENSIONS AND OTHER POSTRETIREMENT BENEFITS

In most countries PSP's employees have pension entitlements as part of
their benefit packages, and as it is common practice that in offering
transferring employees equivalent benefit packages, this equivalence also
extends to pension rights. In fact there exists a compulsory European Directive
obliging member states to implement legislation in each EC country to the effect
that in case of transfer of a business, all pension entitlements transfer with
the transferred employees. In the Netherlands, this law has become effective on
July 1, 2002.

In some countries, the pension entitlements are part of a state scheme; in
many countries, however, the entitlements are specifically related to Philips,
and require a per country approach on how to deal with pension rights going
forward and the treatment of accrued rights in the past. There are legal
requirements which dictate a transfer of pension liabilities, but also if there
is not a strict legal requirement, in many cases taking into account the
justified interest of employees will be a precondition for a smooth transition
process in terms of consultation with works council and unions.

Pension entitlement for PSP's employees may be funded by way of a separate
pension fund, with an insurance company or by way of a book reserve system.

In case a book reserve system was used by Philips in a country, the pension
liabilities transferred to ScanSoft and Philips included a provision in the
local balance sheet which was equal to the actuarial present value of pension
rights accrued up to the effective date as calculated under the relevant local
book reserve system concerned.

In case of a dedicated Philips pension fund, transferred employees either
received a premium free policy or a collective transfer of liabilities and
assets under the terms and rules set by the pertaining pension fund took place.

F-90

FINANCIAL STATEMENTS OF
THE SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS
OF LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

F-91

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholders of
ScanSoft, Inc.:

We have audited the accompanying statement of assets and liabilities of the
Speech and Language Technologies operations of Lernout & Hauspie Speech Products
N.V. (the "Business" as defined in Note 1) as of September 30, 2001 and the
related statement of revenue and direct operating expenses for the nine months
ended September 30, 2001 (herein referred to as the "financial statements").
These financial statements are the responsibility of the management of ScanSoft,
Inc. Our responsibility is to express an opinion on these financial statements
based on our audit.

We conducted our audit in accordance with auditing standards generally
accepted in the United States of America. 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 audit provides a
reasonable basis for our opinion.

The accompanying financial statements were prepared for the purpose of
complying with the rules and regulations of the Securities and Exchange
Commission as described in Note 1 and are not intended to be a complete
presentation of the Business' results of operations and financial position.

In our opinion, the financial statements referred to above present fairly,
in all material respects, the assets and liabilities as of September 30, 2001
and the revenue and direct operating expenses (as described in Note 1 to the
financial statements) for the nine months ended September 30, 2001, in
conformity with accounting principles generally accepted in the United States of
America.

/s/ PricewaterhouseCoopers LLP

September 6, 2002
Boston, Massachusetts

F-92

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

STATEMENT OF ASSETS AND LIABILITIES
SEPTEMBER 30, 2001
(IN THOUSANDS)

ASSETS
Accounts receivable, net of allowance for doubtful accounts
of $767................................................... $ 7,703
Inventory................................................... 138
Prepaid expenses and other current assets................... 126
Property and equipment, net................................. 4,160
Intangible assets, net of accumulated amortization of
$1,734.................................................... 8,448
-------
Total assets.............................................. $20,575
=======

LIABILITIES AND PARENT COMPANY INVESTMENT
Accounts payable............................................ 4,694
Accrued liabilities......................................... 4,383
-------
Total liabilities......................................... 9,077
Commitments and contingencies (Note 7)
Parent company investment................................... 11,498
-------
Total liabilities and parent company investment........... $20,575
=======

The accompanying notes are an integral part of these financial statements.
F-93

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

STATEMENT OF REVENUE AND DIRECT OPERATING EXPENSES
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2001
(IN THOUSANDS)

Revenue..................................................... $ 34,173
Direct operating expenses:
Cost of revenue........................................... 4,439
Cost of revenue from amortization of intangible assets.... 1,734
Research and development.................................. 28,440
Selling, general and administrative....................... 32,742
--------
Total direct operating expenses........................ 67,355
--------
Excess of direct operating expenses over revenue............ $(33,182)
========

The accompanying notes are an integral part of these financial statements.
F-94

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS OF
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

NOTES TO FINANCIAL STATEMENTS

1. BASIS OF PRESENTATION

General. The accompanying financial statements have been prepared pursuant
to the transaction described below and present the assets and liabilities and
the revenue and direct operating expenses of the Speech and Language
Technologies operations of Lernout & Hauspie Speech Products N.V. ("L&H"),
hereinafter defined as the "Business" or "SLT." SLT was a provider of speech and
language software, which included the RealSpeak text-to-speech technology,
Dragon speech recognition software and other speech and voice-related
technologies aimed at the telecommunications, automotive and mobile device
markets. L&H did not maintain SLT as a separate business unit, but rather
operated the Business within Lernout & Hauspie Speech Products N.V. and several
of its subsidiaries, the most significant of which was L&H Holdings USA. In
November 2000, Lernout & Hauspie Speech Products N.V. and L&H Holdings USA, Inc.
filed for Chapter 11 bankruptcy protection in the United States Bankruptcy Court
for the District of Delaware. L&H NV also filed a bankruptcy proceeding in
Icper, Belgium. In order to facilitate the sale of its assets in connection with
the bankruptcy proceedings, L&H segregated the SLT operations into eight speech
and language technology asset groups.

On December 7, 2001, ScanSoft, Inc. ("ScanSoft") entered into an Asset
Purchase Agreement (the "Purchase Agreement") to acquire certain assets and
intellectual property and assume certain liabilities of the Speech and Language
Technologies operations of L&H. The acquisition was conducted in a closed
auction proceeding and approved by the United States bankruptcy court on
December 11, 2001. The acquisition was completed on December 12, 2001.

Pursuant to the Purchase Agreement, ScanSoft acquired three of the eight
asset groups of SLT: Dragon Naturally Speaking ("DNS"), Text to Speech ("TTS")
and Automated Speech Recognition ("ASR"), which represented the majority of the
revenue-generating assets of SLT. The net assets acquired by ScanSoft consisted
of (1) patents, trademarks, trade names and products associated with the
acquired speech and language technology assets of L&H; (2) customer contracts
and relationships and certain obligations associated with such contracts; (3)
rights to accounts receivable related to the customer contracts acquired; and
(4) certain inventory, fixed assets and other liabilities. ScanSoft also hired
223 employees of the research and development, sales and marketing and general
and administrative organizations of SLT. ScanSoft paid total consideration of
$41.3 million as follows: $10.0 million in cash, 7.4 million shares of ScanSoft
common stock valued at $27.8 million (based on the average of the closing share
price of the common stock 3 days before and after the proposed acquisition was
announced) and a 9% promissory note in the principal amount of $3.5 million to
be repaid in installments of $0.1 million of principal and interest quarterly
commencing on March 15, 2002. All remaining principal and interest on the note
is due and payable on December 15, 2004.

On August 13, 2002, the U.S. Bankruptcy Court for the District of Delaware
approved, without objection, ScanSoft's agreement with representatives of L&H
Holdings USA and Lernout & Hauspie Speech Products N.V. to repurchase shares of
ScanSoft common stock worth $7.0 million at a share price equal to the average
of the closing price for the 20 trading days beginning August 14, 2002, but no
less than $4.79 per share. In addition, ScanSoft agreed to issue up to 300,000
shares of common stock to the holders of approximately six million shares
remaining in the event that Scansoft does not offer the remaining shares in a
public offering by February 15, 2003, and 100,000 shares of common stock if
ScanSoft has not registered the remaining shares by February 15, 2003.

Basis of Presentation. As described above, L&H did not operate SLT as a
separate business unit, therefore, complete financial statements historically
were not prepared for SLT. The accompanying financial statements were derived
from the historical accounting records of L&H in order to present the statement
of assets and liabilities as of September 30, 2001, and the statement of revenue
and direct operating expenses for the nine months ended September 30, 2001, in
accordance with accounting
F-95

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS OF
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)

principles generally accepted in the United States of America. As noted above,
the three asset groups acquired by ScanSoft represented the majority of the
revenue-generating assets of SLT. Accordingly, the statement of assets and
liabilities and the statement of revenue and direct operating expenses reflect
all of the eight technology asset groups. All other assets, liabilities,
revenues, and operating expenses of L&H were excluded from the financial
statements, as they were not directly attributable to SLT.

Direct operating expenses are comprised primarily of employee-related
expenses, including employee salaries and benefits, and other direct costs
related to the operations of the Business such as cost of revenue, advertising,
depreciation and amortization. Direct operating expenses also include other
operating expenses, including facilities and related costs, which were allocated
to the Business based on the number of employees dedicated to the Business.
Additionally, the Business relied on L&H for certain administrative, management
and other support services, and the related expenses were also allocated to the
Business based on the number of employees dedicated to the Business. Management
believes the method used to allocate the direct operating expenses and other
infrastructure and support costs is reasonable. L&H did not segregate indirect
corporate expenses and interest income (expense); accordingly these items are
not included in the financial statements of the Business. The statement of
assets and liabilities includes liabilities which existed at the time of
bankruptcy filing. No adjustment to reflect the ultimate settlement of these
liabilities subsequent to September 30, 2001 has been reflected in these
financial statements. The financial statements are therefore stated at
historical cost.

The financial statements were prepared to substantially comply with the
rules and regulations of the Securities and Exchange Commission for business
combinations and are not intended to be a complete presentation of the Business'
financial position, results of operations and cash flows. The historical net
assets and historical revenue and direct operating expenses of the Business
could differ from those that would have resulted had the Business operated
autonomously or as an entity independent of L&H. Furthermore, the financial
statements reflect all of the operations of the Business; however, as described
above, ScanSoft did not acquire all of the net assets of SLT, did not retain a
significant number of personnel directly related to historical operations of the
Business, and did not continue to operate the facilities previously used by the
Business. Consequently, the historical operating results may not be indicative
of the results of operations of the Business in the future.

As described above, L&H did not maintain SLT as a separate business unit.
More specifically, SLT was defined by L&H during 2001 in connection with
bankruptcy proceedings. Since L&H did not have a policy of allocating certain
assets and liabilities and income and expense balances to the Business, such
amounts, as described above, have not been included in the financial statements.
Consequently, a full balance sheet, statement of operations and stockholders'
equity are impractical to prepare. Furthermore, a statement of cash flows is not
presented because the Business did not maintain a cash balance and was dependent
upon L&H for financing the cash flows of the operations.

In accordance with Rule 3-06 of Regulation S-X, the statement of revenue
and direct operating expenses is presented for the nine months ended September
30, 2001 in satisfaction of the requirement for one year of audited financial
statements.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

REVENUE RECOGNITION

Revenue was derived primarily from the sale of software products to
end-users through distribution partners and value added resellers (VARs),
royalty revenues from OEM partners, and license fees from direct sales of
products to end-users.

F-96

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS OF
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)

SLT applied the provisions of Statement of Position 97-2 "Software Revenue
Recognition," as amended by Statement of Position 98-9 "Modification of SOP
97-2, Software Revenue Recognition, With Respect to Certain Transactions" to all
transactions involving the sale of software products. In addition, SLT applied
the provisions of Staff Accounting Bulletin No. 101, "Revenue Recognition in
Financial Statements."

SLT sold software products to distributors and resellers who in turn sold
the products to retailers and VARs. Title and risk-of-loss passed to the
distributor upon shipment, at which time payment was generally due. Revenue from
sales of products to distributors and resellers was recognized (i) upon shipment
by the distributor or reseller to the VAR or (ii) upon shipment by the retailer
to end-users of the products. Agreements with distributors and resellers
provided for rights of return which, in the case of VARs, generally lapsed upon
shipment to the VARs, and, in the case of sales to retailers, upon shipment to
end-users. Provisions for product returns were recorded as a reduction of
revenue.

From late 2000 to mid-2001, SLT changed the distribution channel of its
retail products from traditional distributors and resellers to republishers.
Republishers had sole responsibility for the marketing, manufacturing and
distribution of SLT's products to retailers. Under the republishing
arrangements, SLT earned a royalty based on the sale price of its products by
republishers to retailers, as reported by republishers. Republishing
arrangements generated proportionately lower revenue than did traditional
distribution channels since the seller received a royalty in lieu of the full
sales price. Similarly, the direct costs, primarily manufacturing and marketing,
were proportionately lower under republisher agreements than under agreements
with traditional distributors and resellers.

SLT entered into royalty-bearing agreements with original equipment
manufacturers (OEMs) and recognized revenue for royalty fees based on actual
royalties earned and reported.

Revenue from the direct sales of licenses of SLT's software products to
end-users was recognized upon delivery, provided that no significant obligations
remained, evidence of the arrangement existed, the fees were fixed or
determinable, and collectibility was reasonably assured.

For arrangements with multiple elements (e.g., undelivered maintenance and
support bundled with perpetual licenses), SLT allocated revenue to the delivered
elements of the arrangement using the residual value method, deferring revenue
for undelivered elements based on evidence of the fair value of those
undelivered elements, which was specific to SLT. The vendor specific objective
evidence of fair values for the ongoing maintenance and support obligations was
based upon substantive renewal rates stated in the contractual arrangements.
Maintenance and support revenue, which was not significant to the results of
operations, was recognized ratably over the service period.

SLT also entered into fixed-fee contracts for software and related
services, which included significant customization or modification of the
software. As a result, SLT recognized revenue on the percentage-of-completion
basis of accounting. Under the percentage-of-completion basis of accounting,
revenue was recognized as the work progressed in amounts estimated to equal the
actual progress on the contract. In applying this method, SLT measured each
project's percentage-of-completion by the ratio of labor hours incurred to date
to the estimated total labor hours for the project. Losses on contracts were
recorded in the period they are determined, and the related obligations to
perform the remaining services were included in accrued liabilities. For
contracts in which SLT was unable to reasonably estimate the cost to complete
the contract, SLT recognized revenue upon completion of the contract.

INVENTORY

Inventory is stated at the lower of cost (determined on a first-in,
first-out basis) or market value. At September 30, 2001, inventory consisted
primarily of finished goods.
F-97

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS OF
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)

PROPERTY AND EQUIPMENT

Property and equipment are stated at cost. Major improvements are
capitalized, while expenditures for maintenance, repairs, and minor improvements
are charged to expense. When assets are retired or otherwise disposed of, the
assets and related accumulated depreciation and amortization are eliminated from
the accounts and any resulting gain or loss is reflected in results of
operations. Depreciation was computed using the straight-line method over the
estimated useful lives of the assets for computer equipment, software,
furniture, fixtures and office equipment. Leasehold improvements are depreciated
over the term of the lease.

INTANGIBLE ASSETS

Intangible assets represent the original fair value of intangible assets
resulting from prior business or asset acquisitions, adjusted for impairment
charges to reduce the carrying value to its fair value at the time of the
impairment charge. Intangible assets were amortized using the straight-line
method over their estimated useful lives of 5 years. Amortization expense
amounted to $1.7 million for the nine months ended September 30, 2001. This
amount is included in cost of revenue.

IMPAIRMENT OF LONG-LIVED ASSETS

The recoverability of long-lived assets is evaluated upon indication of
possible impairment by measuring the carrying value of the assets against the
related undiscounted future cash flows. When an evaluation indicates that the
future undiscounted cash flows are not sufficient to recover the carrying value
of the asset, the asset is adjusted to its estimated fair value by recording an
impairment charge based on the excess of the carrying value of the assets over
the discounted estimated cash flows.

RESEARCH AND DEVELOPMENT

Research and development costs were expensed as incurred.

FOREIGN CURRENCY TRANSLATION

The functional currencies for the Business were the U.S. Dollar and the
Euro as determined by the location of the operation. The financial information
recorded in the Euro was translated to U.S. dollars using the average exchange
rate for the nine months ended September 30, 2001. Translation gains and losses
were recorded as non-operating expense and therefore are not included in the
statement of revenues and direct operating expenses.

INCOME TAXES

No provision for income taxes was provided in the accompanying statement of
revenue and direct operating expenses because, on a separate return basis, the
business would have generated a taxable loss. No tax benefit resulting from such
taxable loss was recorded due to the uncertainty of realizing such tax benefit.

There are no net deferred tax assets reflected in the accompanying
statement of assets and liabilities because, on a separate return basis, a full
valuation allowance would have been recorded due to the uncertainty of
realization of the net assets.

F-98

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS OF
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)

CONCENTRATION OF CREDIT RISK

SLT sold its software products and services to channel partners or
customers located mainly in North America, Europe, and Asia-Pacific. SLT did not
require collateral from its customers. For the nine months ended September 30,
2001, no customer accounted for more than 10% of revenue. At September 30, 2001,
two customers accounted for 21% and 17% of net accounts receivable,
respectively.

USE OF ESTIMATES

3. PROPERTY AND EQUIPMENT

Property and equipment consisted of the following at September 30, 2001 (in
thousands):

USEFUL LIVES
IN YEARS
------------

Computer equipment and software............................. 3 $ 19,108
Furniture, fixtures and office equipment.................... 5-7 5,633
Leasehold improvements...................................... 6 2,724
--------
27,465
Accumulated depreciation.................................... (23,305)
--------
$ 4,160
========

Depreciation expense associated with property and equipment was $5.1
million for the nine months ended September 30, 2001.

4. ACCOUNTS PAYABLE AND ACCRUED LIABILITIES

Accounts payable at September 30, 2001 include $3.7 million of liabilities
that existed prior to the bankruptcy filings during 2000.

Accrued liabilities were comprised of the following at September 30, 2001
(in thousands):

Accrued employee compensation and benefits.................. $2,546
Obligations to perform services under customer development
contracts................................................. 1,283
Accrued expenses............................................ 554
------
Total accrued liabilities.............................. $4,383
======

5. INTERCOMPANY COST ALLOCATIONS AND PARENT COMPANY INVESTMENT

Certain costs are allocated to the Business by the Parent, primarily
related to certain facilities, infrastructure and support services. The
estimated costs of such services have been allocated to the financial statements
of the Business based on employee headcount of the Business proportionate to the
headcount of the Parent. Management believes these allocations are reasonable.
See Note 1.

F-99

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS OF
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)

The Business obtained financing for its day-to-day operations from L&H (the
"Parent"). Parent company investment represents these investments made by the
Parent. Interest expense associated with the Parent's general corporate debt has
not been included in the financial statements because amounts were neither
charged nor allocated to the Business.

6. EMPLOYEE BENEFIT PLANS

Employee benefit costs included in direct operating expenses comprise the
cost of medical, dental, life insurance and other benefit costs. For U.S.
employees, employee benefit costs included employer contributions to a
retirement savings plan under Section 401(k) of the Internal Revenue Service,
which covered substantially all U.S. employees who met minimum age and service
requirements. Employer contributions represented a match of 50% of contributions
made by employees through payroll deductions in amounts allowed up to 3% of an
employee's salary. The employer contribution was capped at 50% of the statutory
maximums. The 401(k) employer contribution associated with the SLT employees for
the nine months ended September 30, 2001 was approximately $150,000.

7. COMMITMENTS AND CONTINGENCIES

OPERATING LEASES

Operating leases for facilities were entered into by L&H. The Business'
operations were conducted from several of these facilities which also supported
other operations of L&H. Rent expense allocated to the Business was
approximately $3.0 million for the nine months ended September 30, 2001.

COMMITMENTS AND CONTINGENCIES

L&H entered into arrangements with third-parties under which L&H granted
rights to the manufacturing, marketing and distribution of certain products of
the Business. Under certain of these agreements, L&H granted rights to future
products. As a result of the bankruptcy proceedings, and more specifically the
transfer to ScanSoft of the rights to the same products and technologies,
certain of these third parties claimed that L&H breached their respective
contracts. Subsequent to the acquisition of the Business by ScanSoft, L&H,
ScanSoft and certain of these third parties entered into settlement agreements
which required payments by each of the parties. The total amount due to the
third parties amounted to approximately $2.2 million, of which L&H was obligated
for approximately $0.7 million. No amounts have been recorded in the historical
financial statements of the Business at September 30, 2001 because the financial
obligation arose in connection with the acquisition by ScanSoft on December 12,
2001.

L&H established a Key Employee Retention Plan ("KERP") in order to retain
certain employees during 2001. Under the KERP, L&H was obligated to make
payments to employees, including SLT employees, only upon termination of
employment due to the acquisition by a third party of the assets of L&H. The
maximum KERP obligation related to SLT employees totaled $3.0 million at
September 30, 2001.

F-100

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS OF
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)

8. SEGMENT INFORMATION

SLT operated in one segment. The revenue and related cost of revenue SLT
attributed to geographic areas (based on the location in which the sale was
invoiced) was as follows for the nine months ended September 30, 2001 (in
thousands):

NORTH
AMERICA EUROPE TOTAL
------- ------ -------

Revenue.................................................. $25,105 $9,068 $34,173
Cost of revenue.......................................... 3,315 1,124 4,439
Cost of revenue from amortization of intangible assets... -- 1,734 1,734
Property and equipment, net.............................. 3,135 1,025 4,160

9. RECENTLY ISSUED ACCOUNTING STANDARDS

In June 2001, the Financial Accounting Standards Board issued Statements of
Financial Accounting Standards No. 141 ("SFAS 141"), Business Combinations and
No. 142 ("SFAS 142"), Goodwill and Other Intangible Assets. SFAS 141 requires
business combinations initiated after June 30, 2001 to be accounted for using
the purchase method of accounting, and broadens the criteria for recording
intangible assets separate from goodwill. SFAS 142 addresses financial
accounting and reporting for acquired goodwill and other intangible assets,
including how goodwill and other intangible assets should be accounted for after
they have been initially recognized. In addition, SFAS 142 includes provisions
for the reclassification of certain existing recognized intangible assets, such
as acquired workforce, into goodwill. SFAS 142 provides that goodwill and
intangible assets that have indefinite useful lives not be amortized but rather
be tested at least annually for impairment; intangible assets with finite useful
lives will continue to be amortized over their useful lives. SFAS 142 also
provides specific guidance for testing goodwill for impairment. The statement is
effective for acquisitions that are completed after June 30, 2002 and for
existing acquisitions on January 1, 2002. The statement would not have had a
significant impact on the Business' financial position or results of operations.

In August 2001, the FASB issued Statement of Financial Accounting Standards
No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS
144"). SFAS 144 superseded SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of and provides a
single accounting model, based on the framework established in SFAS 121, for
long-lived assets to be disposed of by sale, whether previously held and used or
newly acquired. SFAS 144 is effective for financial statements issued for fiscal
years beginning after December 15, 2001. The statement would not have had a
significant impact on the Business' financial position or results of operations.

In November 2001, the Emerging Issues Task Force ("EITF"), a committee of
the FASB, reached a consensus on EITF Issue 01-9, Accounting for Consideration
Given by a Vendor to a Customer (Including a Reseller of the Vendor's
Products)("EITF 01-9"). EITF 01-9 presumes that consideration from a vendor to a
customer or reseller of the vendor's products is a reduction of the selling
prices of the vendor's products and, therefore, should be characterized as a
reduction of revenue when recognized in the vendor's income statement and could
lead to negative revenue under certain circumstances. Revenue reduction is
required unless consideration relates to a separate identifiable benefit and the
benefit's fair value can be established, in which case such amounts may be
recorded as operating expenses. EITF 01-9 would not have had a significant
impact on the Business' results of operations.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated
with Exit or Disposal Activities ("SFAS No. 146"). This statement addresses
financial accounting and reporting for costs associated with exit or disposal
activities and nullifies EITF Issue No. 94-3, Liability Recognition for

F-101

SPEECH AND LANGUAGE TECHNOLOGIES OPERATIONS OF
LERNOUT & HAUSPIE SPEECH PRODUCTS N.V.

NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)

Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring) ("EITF 94-3"). SFAS No.
146 requires that a liability for a cost associated with an exit or disposal
activity be recognized when the liability is incurred. EITF 94-3 allowed for an
exit cost liability to be recognized at the date of an entity's commitment to an
exit plan. SFAS 146 also requires that liabilities recorded in connection with
exit plans be initially measured at fair value. The provisions of SFAS 146 are
effective for exit or disposal activities that are initiated after December 31,
2002. The statement would not have had a significant impact on the Business'
financial position or results of operations.

F-102

PART II

INFORMATION NOT REQUIRED IN PROSPECTUS

ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION

The following table sets forth the costs and expenses, other than
underwriting discounts and commissions, payable by us in connection with the
filing of this Registration Statement. All amounts, other than the SEC
registration fee, are estimates and are subject to future contingencies.

SEC registration fee........................................ $ 4,000
Blue Sky fees and expenses.................................. 5,000
Printing and filing costs................................... 165,000
Legal fees and expenses..................................... 150,000
Accounting fees and expenses................................ 180,000
Transfer Agent and Registrar Fees........................... 25,000
Miscellaneous expenses...................................... 100,000
--------
Total............................................. $629,000
========

ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS

Our Certificate of Incorporation eliminates the liability of our directors
to us for monetary damages for breach of fiduciary duty as a director to the
fullest extent permissible under Delaware law, as such law exists currently or
as it may be amended in the future. Under Delaware law, such provision may not
eliminate or limit director monetary liability for: (a) breaches of the
director's duty of loyalty to us or our stockholders; (b) acts or omissions not
in good faith or involving intentional misconduct or knowing violations of law;
(c) the payment of unlawful dividends or unlawful stock repurchases or
redemptions; or (d) transactions in which the director received an improper
personal benefit. Such limitation of liability provisions also may not limit a
director's liability for violation of, or otherwise relieve us or our directors
from the necessity of complying with, federal or state securities laws, or
affect the availability of non-monetary remedies such as injunctive relief or
rescission.

Our Bylaws provide that we shall indemnify our directors and officers and
may indemnify our employees and other agents to the fullest extent permitted by
law. We believe that indemnification under our Bylaws covers at least negligence
and gross negligence on the part of indemnified parties. Our Bylaws also permit
us to secure insurance on behalf of any officer, director, employee or other
agent for any liability arising out of his or her actions in such capacity,
regardless of whether we would have the power to indemnify him or her against
such liability under the General Corporation Law of Delaware. We currently have
secured such insurance on behalf of our officers and directors.

We have entered into agreements to indemnify our directors and officers, in
addition to indemnification provided for in our Bylaws. Subject to certain
conditions, these agreements, among other things, indemnify our directors and
officers for certain expenses (including attorney's fees), judgments, fines and
settlement amounts incurred by any such person in any action or proceeding,
including any action by or in the right of ScanSoft, arising out of such
person's services as a director or officer of our company, any of our
subsidiaries or any other company or enterprise to which the person provides
services at our request.

ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES

During the past three years, we have issued unregistered securities to a
limited number of persons, as described below. None of these transactions
involved any underwriters, underwriting discounts or commissions, or any public
offering.

II-1

(a) On April 25, 2001, we sold the State of Wisconsin Investment Board
("SWIB") 4,761,905 shares of our common stock, at a price of $1.05 per share. We
relied upon Section 4(2) of the Securities Act in connection with the issuance
of these shares, and appropriate legends were affixed to the share certificates
issued in the transaction. SWIB represented its intention to acquire the
securities for investment purposes only and not with a view to or for sale in
connection with any distribution thereof. Additionally, SWIB had access, through
its relationship with us, to information about us.

(b) On November 12, 2001, we issued 262,200 shares of our common stock at a
price per share of $2.67 to Bear, Stearns & Co., Inc. ("Bear Stearns"). We
relied upon Section 4(2) of the Securities Act in connection with the issuance
of these shares. The shares were issued pursuant to a Settlement and Release
Agreement. We, as successor-in-interest to Caere Corporation, and Bear Stearns
are parties to an engagement letter dated September 9, 1999 (the "Bear
Engagement Letter"). Pursuant to the terms of the Bear Engagement Letter, Bear
Stearns was to receive certain payments from us as compensation for its role as
financial advisor with respect to certain transactions (the "Original Bear
Payment"). Bear Stearns agreed to accept payment other than the Original Bear
Payment as payment in full to satisfy fees and expenses due from us to Bear
Stearns, including 262,200 shares of common stock. Bear Stearns represented its
intention to acquire the securities for investment purposes only and not with a
view to or for sale in connection with any distribution thereof. Additionally,
Bear Stearns had access, through its relationship with us, to information about
us.

(c) On December 12, 2001, in connection with the acquisition of the speech
and language assets of Lernout & Hauspie N.V. and related entities ("L&H"), L&H
was issued 7,400,000 shares of our common stock. We relied upon Section 4(2) of
the Securities Act in connection with the issuance of these shares, and
appropriate legends were affixed to the share certificates issued in the
transaction. L&H represented its intention to acquire the securities for
investment purposes only and not with a view to or for sale in connection with
any distribution thereof. Additionally, L&H had access, through its relationship
with us, to information about us.

(d) On December 13, 2001, we sold SWIB 3,500,000 shares of our common
stock, at a price of $3.10 per share. We relied upon Section 4(2) of the
Securities Act in connection with the issuance of these shares, and appropriate
legends were affixed to the share certificates issued in the transaction. SWIB
represented its intention to acquire the securities for investment purposes only
and not with a view to or for sale in connection with any distribution thereof.
Additionally, SWIB had access, through its relationship with us, to information
about us.

(e) On December 28, 2001, we agreed to issue to Merrill Lynch, Pierce,
Fenner & Smith Incorporated ("Merrill Lynch") 65,100 shares of our common stock
at a price per share of $5.16. We relied upon Section 4(2) of the Securities Act
in connection with the issuance of these shares, and appropriate legends were
affixed to the share certificates issued in the transaction. The shares were
issued pursuant to a Settlement and Termination Agreement. We and Merrill Lynch
are parties to an engagement letter dated December 13, 1999 (the "Merrill
Engagement Letter"). Pursuant to the terms of the Merrill Engagement Letter,
Merrill Lynch was to receive certain payments from us as compensation for its
role as financial advisor with respect to certain transactions (the "Original ML
Payment"). Merrill Lynch agreed to accept payment other than the Original ML
Payment as payment in full to satisfy fees and expenses due by us to Merrill
Lynch, including 65,100 shares of our common stock. Merrill Lynch represented
its intention to acquire the securities for investment purposes only and not
with a view to or for sale in connection with any distribution thereof.
Additionally, Merrill Lynch had access, through its relationship with us, to
information about us.

(f) On March 21, 2002, in connection with the acquisition of the
AudioMining assets of L&H Holdings USA, Inc. ("L&H Holdings"), L&H Holdings was
issued 121,359 shares of our common stock. We relied upon Section 4(2) of the
Securities Act in connection with the issuance of these shares, and appropriate
legends were affixed to the share certificates issued in the transaction. L&H
Holdings represented its intention to acquire the securities for investment
purposes only and not with a view to or

II-2

for sale in connection with any distribution thereof. Additionally, L&H Holdings
had access, through its relationship with us, to information about us.

(g) On April 12, 2002, we sold SF Capital Partners Ltd. ("SF Capital")
1,000,000 shares of our common stock, at a price of $6.00 per share. We relied
upon Section 4(2) of the Securities Act in connection with the issuance of these
shares on the basis that the transaction did not involve a public offering, and
appropriate legends were affixed to the share certificates issued in the
transaction. SF Capital represented its intention to acquire the securities for
investment purposes only and not with a view to or for sale in connection with
any distribution thereof, and that it is an "accredited investor" as that term
is defined in Rule 501 under the Securities Act. Additionally, SF Capital had
access, through its relationship with us, to information about us.

(h) On January 30, 2003, we issued to Koninklijke Philips Electronics N.V.
("Philips") a $27.5 million three-year, zero-interest convertible subordinate
debenture. This debenture is convertible into shares of our common stock at any
time at the option of Philips at a conversion price of $6.00 per share. We also
issued a note to Philips with a principal amount of euro 5 million due December
31, 2003 and bearing 5.0% interest per annum. We relied upon Section 4(2) of the
Securities Act in connection with the issuance of these securities, and
appropriate legends we placed on such securities. Philips represented its
intention to acquire the securities for investment purposes only and not with a
view to or for sale in connection with any distribution thereof.

ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

(a) EXHIBITS

EXHIBIT
NUMBER DESCRIPTION
------- -----------

II-3

EXHIBIT
NUMBER DESCRIPTION
------- -----------

4.4(1) Registration Rights Agreement, dated March 2, 1999, between
the Registrant and Xerox Corporation.
4.5(19) Registration Rights Agreement, dated December 12, 2001, as
amended and restated on March 21, 2002, between the
Registrant, Lernout & Hauspie Speech Products N.V., and
certain other parties.
4.6(19) Share Purchase Agreement, dated as of December 13, 2001,
between the Registrant and the State of Wisconsin Investment
Board, as amended.
4.7(19) Registration Rights Agreement, dated December 28, 2001,
between Registrant and Merrill Lynch, Pierce, Fenner & Smith
Incorporated.
4.8(19) Share Purchase Agreement, dated as of April 12, 2002,
between the Registrant and SF Capital Partners Ltd.
4.9(19) Agreement for the sale and purchase of certain shares of
ScanSoft, Inc. held by Lernout & Hauspie Speech Products
N.V. and L&H Holdings USA, dated as of September 16, 2002,
by and among ScanSoft, Inc., Lernout & Hauspie Speech
Products N.V. and L&H Holdings USA.
4.10(19) Lock-Up Agreement, dated September 16, 2002, by and between
Lernout & Hauspie Speech Products N.V., L&H Holdings USA and
Paul A. Ricci.
4.11(19) Lock-Up Agreement, dated September 16, 2002, by and between
Lernout & Hauspie Speech Products N.V., L&H Holdings USA and
Michael K. Tivnan.
4.12(19) Form of Lock-Up Agreement, dated September 16, 2002, by and
between Lernout & Hauspie Speech Products N.V., L&H Holdings
USA and each of the Registrant's Named Executive Officers,
directors and Robert J. Weideman.
4.13(19) Form of Lock-up Agreement between the underwriters and
officers and directors of the Registrant.
4.14(19) Form of Lock-up Agreement between the underwriters and
certain stockholders of the Registrant.
4.15(23) Form of Warrant to be issued to Evercore Investments LLC.
5.1 Opinion of Counsel as to the validity of the Shares.
10.1(5) Form of Indemnification Agreement.
10.2(8)** 1995 Directors' Stock Option Plan, as amended.
10.3(9) LZW Paper Input System Patent License Agreement, dated
October 20, 1995, between the Registrant and Unisys
Corporation.
10.4(9) Patent License agreement, dated November 13, 1995, between
the Registrant and Wang Laboratories, Inc.
10.5(10) Software Distribution Agreement, dated April 26, 1995,
between Xerox Imaging Systems, Inc. and Tech Data
Corporation.
10.6(10) Assignment, Assumption, Renewal and Modification Agreement,
dated June 18, 1997, between Xerox Imaging Systems, Inc.,
the Registrant and Tech Data Product Management, Inc.
10.7(19) Distribution Agreement, dated September 22, 1993, between
Ingram Micro, Inc. and Xerox Imaging Systems, Inc., as
amended.
10.8(21) Gold Disk Bundling Agreement: Pagis SE & Pagis Pro, dated
June 29, 1998, between Xerox Corporation, through its
Channels Group, and the Registrant, as amended.
10.9(21) Gold Disk Bundling Agreement, dated March 25, 1998, between
Xerox Corporation, Office Document Products Group and the
Registrant.

II-4

EXHIBIT
NUMBER DESCRIPTION
------- -----------

10.10(11)** Caere Corporation 1992 Non-Employee Directors' Stock Option
Plan.
10.11(12)** Stand Alone Stock Option Agreement Number 1, dated as of
August 21, 2000, by and between the Registrant and Paul A.
Ricci.
10.12(13)** Employment Agreement, dated August 21, 2000, by and between
the Registrant and Paul A. Ricci.
10.13(13)** Employment Agreement, dated August 21, 2000, by and between
the Registrant and Michael K. Tivnan.
10.14(14) Lease Agreement, dated December 18, 2000, by and between
James M. Salar, as trustee of the JMS Realty Trust, and the
Registrant.
10.15(22) Gold Disk Bundling Agreement, dated as of September 30,
1999, as amended by Amendment Number 1, dated as of January
1, 2000, between the Registrant and Xerox Corporation.
10.16(15) Termination Agreement, dated March 5, 2002, by and between
the Registrant and Robert Teresi.
10.17(19)** 1993 Incentive Stock Option Plan, as amended.
10.18(19)** 1995 Employee Stock Purchase Plan, as amended and restated
on April 27, 2000.
10.19(19)** 1997 Employee Stock Option Plan, as amended.
10.20(16)** 1998 Stock Option Plan.
10.21(8)** 2000 Stock Option Plan.
10.22(19) Settlement and Release Agreement, dated as of November 12,
2001, between the Registrant and Bear, Stearns & Co. Inc.
10.23(19) Settlement and Termination Agreement, dated as of December
28, 2001, between the Registrant and Merrill Lynch, Pierce,
Fenner & Smith Incorporated.
10.24(19) Agreement for the sale and purchase of certain shares of
ScanSoft, Inc. held by Lernout & Hauspie Speech Products
N.V. and L&H Holdings USA, dated as of September 16, 2002,
by and among ScanSoft, Inc., Lernout & Hauspie Speech
Products N.V. and L&H Holdings USA, Inc.
10.25(20) Loan and Security Agreement, dated as of October 31, 2002,
between the Registrant and Silicon Valley Bank.
10.26(19)** Vesting Agreement, dated June 24, 1999, between the
Registrant and Wayne Crandall.
10.27(19)** Letter, dated July 7, 2000, from the Registrant to Ben
Wittner regarding certain employment matters.
10.28(18)** Amendment No. 1, dated July 26, 2001, to Employment
Agreement, dated August 21, 2000 by and between the
Registrant and Paul A. Ricci.
10.29(19) Letter of Intent, dated March 20, 2002, between the
Registrant and Digital River, Inc.
10.30(19) Technology Transfer and License Agreement, dated as of
January 30, 2003, between Koninklijke Philips Electronics
N.V. and the Registrant.
10.31(19) Promissory Note, dated January 30, 2003, between Koninklijke
Philips Electronics N.V. and the Registrant.
10.32(19) Zero Coupon Convertible Subordinated Note, dated January 30,
2003, between Koninklijke Philips Electronics N.V. and the
Registrant.
10.33(19) Plan of Distribution Agreement, dated January 30, 2003,
between Koninklijke Philips Electronics N.V. and the
Registrant.
10.34(23)** Proposed Amended and Restated 1995 Employee Stock Purchase
Plan.

II-5

EXHIBIT
NUMBER DESCRIPTION
------- -----------

10.35(24)** Letter, dated February 17, 2003, from the Registrant to
Jeanne McCann regarding certain employment matters.
10.36(24)** Letter, dated September 26, 2002, from the Registrant to
Robert J. Weideman regarding certain employment matters.
10.37(24)** Amendment No. 1, dated April 28, 2003, to Employment
Agreement, dated August 21, 2000, by and between the
Registrant and Michael K. Tivnan.
10.38(24)+ Reseller Agreement, dated as of March 31, 2003, by and
between the Registrant and International Business Machines.
10.39(24) Loan and Security Agreement, dated as of October 31, 2002,
as amended on May 7, 2003, between the Registrant and
Silicon Valley Bank.
21.1(17) Subsidiaries of the Registrant.
23.1 Consent of Counsel (Included in Exhibit 5.1 above).
23.2 Consent of PricewaterhouseCoopers LLP.
23.3 Consent of PricewaterhouseCoopers LLP.
23.4 Consent of KPMG Accountants N.V.
24.1# Power of Attorney.

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

# Previously filed.

** Denotes Management compensatory plan or arrangement.

+Confidential treatment requested on portions of this exhibit. Unredacted
versions of this exhibit have been filed separately with the Commission.

(1) Incorporated by reference from the Registrant's Registration Statement on
Form S-4 (No. 333-70603) filed with the Commission on January 14, 1999.

(2) Incorporated by reference from the Registrant's Registration Statement on
Form S-4 (No. 333-96487) filed with the Commission on February 9, 2000.

(3) Incorporated by reference from the Registrant's Current Report on Form 8-K
filed with the Commission on December 27, 2001.

(4) Incorporated by reference from the Registrant's Quarterly Report on Form
10-Q for the fiscal quarter ended March 31, 2001, filed with the Commission
on May 11, 2001.

(5) Incorporated by reference from the Registrant's Registration Statement on
Form S-1 (No. 333-98356) filed with the Commission on October 19, 1995.

(6) Incorporated by reference from the Registrant's Amendment No. 1 to
Registration Statement of Form 8-A (No. 0-27038) filed with the Commission
on December 6, 1995.

(7) Incorporated by reference from the Registrant's current Report on Form 8-K
dated October 31, 1996.

(8) Incorporated by reference from the Registrant's Definitive Proxy Statement,
filed with the Commission on April 30, 2002.

(9) Incorporated by reference from the Registrant's Amendment No. 1 to
Registration Statement of Form S-1 (No. 33-98356) filed with the Commission
on November 15, 1995.

(10) Incorporated by reference from the Registrant's Annual Report on Form 10-K
for the fiscal year ended January 3, 1999, filed with the Commission on
April 5, 1999.

(11) Incorporated by reference from the Registrant's Registration Statement on
Form S-8 (No. 333-33464) filed with the Commission on March 29, 2000.

(12) Incorporated by reference from the Registrant's Registration Statement on
Form S-8 (No. 333-49656) filed with the Commission on November 9, 2000.

II-6

(13) Incorporated by reference from the Registrant's Quarterly Report on Form
10-Q for the fiscal quarter ended September 30, 2000, filed with the
Commission on November 13, 2000.

(14) Incorporated by reference from the Registrant's Annual Report on Form 10-K
for the fiscal year ended December 31, 2000, filed with the Commission on
April 2, 2001.

(15) Incorporated by reference from the Registrant's Current Report on Form 8-K
filed with the Commission on March 7, 2002.

(16) Incorporated by reference from the Registrant's Registration Statement on
Form S-8 (No. 333-74343) filed with the Commission on March 12, 1999.

(17) Incorporated by reference from the Registrant's Annual Report on Form 10-K
for the fiscal year ended December 31, 2001, filed with the Commission on
April 1, 2002.

(18) Incorporated by reference from the Registrant's Quarterly Report on Form
10-Q for the fiscal quarter ended September 30, 2001, filed with the
Commission on November 7, 2001.

(19) Incorporated by reference from the Registrant's Statement on Form S-1
(33-100647), as amended, filed with the Commission on October 21, 2002.

(20) Incorporated by reference from the Registrant's Quarterly Report on Form
10-Q for the fiscal quarter ended September 30, 2002, filed with the
Commission on November 14, 2002.

(21) Incorporated by reference from the Registrant's Amendment No. 2 to Form
10-K for the fiscal year ended January 3, 1999, filed with the Commission
on February 8, 2000.

(22) Incorporated by reference from the Registrant's Amendment No. 1 to Form
10-K for the fiscal year ended December 31, 2000, filed with the Commission
on August 8, 2001.

(23) Incorporated by reference from the Registrant's Registration Statement on
Form S-4 (No. 333-106184) filed with the Commission on June 17, 2003.

(24) Incorporated by reference from the Registrant's Quarterly Report on Form
10-Q for the fiscal quarter ended March 31, 2003, filed with the Commission
on May 15, 2003.

(b) FINANCIAL STATEMENT SCHEDULES

The schedule listed below and the Report of Independent Accountants on
Financial Statement Schedule are filed as part of this Registration Statement.

PAGE
----

Report of Independent Accountants on Financial Statement
Schedule.................................................. F-49
Schedule II -- Valuation and Qualifying Accounts and
Reserves.................................................. F-50

All other schedules have been omitted because the information required to
be set forth therein is not applicable or is shown in the financial statements
or notes thereto.

ITEM 17. UNDERTAKINGS

(a) The undersigned Registrant hereby undertakes:

(1) To file, during any period in which offers or sales are being
made, a post-effective amendment to this Registration Statement:

(i) To include any prospectus required by Section 10(a) (3) of the
Securities Act of 1933, as amended (the "Securities Act");

(ii) To reflect in the prospectus any facts or events arising after
the effective date of this Registration Statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set forth
in this Registration Statement;

II-7

(iii) To include any material information with respect to the plan
of distribution not previously disclosed in this Registration Statement
or any material change to such information in this Registration
Statement.

(2) That, for the purpose of determining any liability under the
Securities Act, each such post-effective amendment shall be deemed to be a
new registration statement relating to the securities offered herein, and
the offering of such securities at that time shall be deemed to be the
initial bona fide offering thereof.

(3) To remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the
termination of this offering.

(b) Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions, or otherwise, the Registrant
has been advised that in the opinion of the Commission such indemnification is
against public policy as expressed in the Securities Act and is, therefore,
unenforceable. In the event that a claim for indemnification against such
liabilities (other than the payment by the Registrant of expenses incurred or
paid by a director, officer or controlling person of the Registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.

II-8

SIGNATURES

Pursuant to the requirements of the Securities Act, Registrant has duly
caused this Post-Effective Amendment No. 1 to Registration Statement to be
signed on its behalf by the undersigned, thereunto duly authorized, in the City
of Peabody, State of Massachusetts, on the 19th day of June, 2003.

SCANSOFT, INC.

By: /s/ RICHARD S. PALMER
------------------------------------
Richard S. Palmer
Chief Financial Officer
(Principal Financial Officer)

Pursuant to the requirements of the Securities Act of 1933, as amended,
this Amendment No. 4 to Registration Statement has been signed by the following
persons in the capacities and on the dates indicated below.

SIGNATURE TITLE DATE
--------- ----- ----

* Chairman of the Board, Chief June 19, 2003
------------------------------------------------ Executive Officer and Director
Paul A. Ricci (Principal Executive Officer)

/s/ RICHARD S. PALMER Chief Financial Officer June 19, 2003
------------------------------------------------ (Principal Financial Officer)
Richard S. Palmer

/s/ GERALD C. KENT, JR. Vice President, Chief Accounting June 19, 2003
------------------------------------------------ Officer and Controller (Principal
Gerald C. Kent, Jr. Accounting Officer)

* Director June 19, 2003
------------------------------------------------
Robert J. Frankenberg

* Director June 19, 2003
------------------------------------------------
Katharine A. Martin

* Director June 19, 2003
------------------------------------------------
Mark B. Myers

* Director June 19, 2003
-----------------------------------------
Robert G. Teresi

*By: /s/ RICHARD S. PALMER
-----------------------------------------
Richard S. Palmer
Attorney-in-Fact

II-9

EXHIBIT INDEX

EXHIBIT
NUMBER DESCRIPTION
------- -----------

2.1(1) Agreement and Plan of Merger, dated December 2, 1998,
between Visioneer, Inc., a Delaware corporation, and
Registrant.
2.2(2) Agreement and Plan of Reorganization, dated January 15,
2000, by and among Registrant, Scorpion Acquisitions
Corporation, a Delaware corporation and a wholly-owned
subsidiary of Registrant, and Caere Corporation, a Delaware
corporation.
2.3(3) Asset Purchase Agreement, dated as of December 7, 2001, by
and among the Registrant and Lernout & Hauspie Speech
Products N.V., a corporation organized and existing under
the laws of the Kingdom of Belgium, L&H Holdings USA, a
Delaware corporation that is a wholly-owned subsidiary of
L&H, and certain other parties.
2.4(19) Purchase Agreement, dated October 7, 2002, between
Koninklijke Philips Electronics N.V. and the Registrant.
2.5(19) Amendment No. 1 to Purchase Agreement, dated as of December
20, 2002, between Koninklijke Philips Electronics N.V. and
the Registrant.
2.6(19) Amendment No. 2 to Purchase Agreement, dated as of January
29, 2003, between Koninklijke Philips Electronics N.V. and
the Registrant.
2.7(23) Agreement and Plan of Reorganization, dated as of April 23,
2003, by and among the Registrant, Spiderman Acquisition
Corporation and SpeechWorks International, Inc.
3.1(4) Amended and Restated Certificate of Incorporation of
Registrant.
3.2(19) Amended and Restated Bylaws of Registrant.
4.1(6) Specimen Common Stock Certificate.
4.2(7) Preferred Shares Rights Agreement, dated as of October 23,
1996, between the Registrant and U.S. Stock Transfer
Corporation, including the Certificate of Designation of
Rights, Preferences and Privileges of Series A Participating
Preferred Stock, the form of Rights Certificate and Summary
of Rights attached thereto as Exhibits A, B and C,
respectively.
4.3(1) Common Stock Purchase Warrant.
4.4(1) Registration Rights Agreement, dated March 2, 1999, between
the Registrant and Xerox Corporation.
4.5(19) Registration Rights Agreement, dated December 12, 2001, as
amended and restated on March 21, 2002, between the
Registrant, Lernout & Hauspie Speech Products N.V., and
certain other parties.
4.6(19) Share Purchase Agreement, dated as of December 13, 2001,
between the Registrant and the State of Wisconsin Investment
Board, as amended.
4.7(19) Registration Rights Agreement, dated December 28, 2001,
between Registrant and Merrill Lynch, Pierce, Fenner & Smith
Incorporated.
4.8(19) Share Purchase Agreement, dated as of April 12, 2002,
between the Registrant and SF Capital Partners Ltd.
4.9(19) Agreement for the sale and purchase of certain shares of
ScanSoft, Inc. held by Lernout & Hauspie Speech Products
N.V. and L&H Holdings USA, dated as of September 16, 2002,
by and among ScanSoft, Inc., Lernout & Hauspie Speech
Products N.V. and L&H Holdings USA.
4.10(19) Lock-Up Agreement, dated September 16, 2002, by and between
Lernout & Hauspie Speech Products N.V., L&H Holdings USA and
Paul A. Ricci.
4.11(19) Lock-Up Agreement, dated September 16, 2002, by and between
Lernout & Hauspie Speech Products N.V., L&H Holdings USA and
Michael K. Tivnan.
4.12(19) Form of Lock-Up Agreement, dated September 16, 2002, by and
between Lernout & Hauspie Speech Products N.V., L&H Holdings
USA and each of the Registrant's Named Executive Officers,
directors and Robert J. Weideman.
4.13(19) Form of Lock-up Agreement between the underwriters and
officers and directors of the Registrant.

EXHIBIT
NUMBER DESCRIPTION
------- -----------

4.14(19) Form of Lock-up Agreement between the underwriters and
certain stockholders of the Registrant.
4.15(23) Form of Warrant to be issued to Evercore Investments LLC.
5.1 Opinion of Counsel as to the validity of the Shares.
10.1(5) Form of Indemnification Agreement.
10.2(8)** 1995 Directors' Stock Option Plan, as amended.
10.3(9) LZW Paper Input System Patent License Agreement, dated
October 20, 1995, between the Registrant and Unisys
Corporation.
10.4(9) Patent License agreement, dated November 13, 1995, between
the Registrant and Wang Laboratories, Inc.
10.5(10) Software Distribution Agreement, dated April 26, 1995,
between Xerox Imaging Systems, Inc. and Tech Data
Corporation.
10.6(10) Assignment, Assumption, Renewal and Modification Agreement,
dated June 18, 1997, between Xerox Imaging Systems, Inc.,
the Registrant and Tech Data Product Management, Inc.
10.7(19) Distribution Agreement, dated September 22, 1993, between
Ingram Micro, Inc. and Xerox Imaging Systems, Inc., as
amended.
10.8(21) Gold Disk Bundling Agreement: Pagis SE & Pagis Pro, dated
June 29, 1998, between Xerox Corporation, through its
Channels Group, and the Registrant, as amended.
10.9(21) Gold Disk Bundling Agreement, dated March 25, 1998, between
Xerox Corporation, Office Document Products Group and the
Registrant.
10.10(11)** Caere Corporation 1992 Non-Employee Directors' Stock Option
Plan.
10.11(12)** Stand Alone Stock Option Agreement Number 1, dated as of
August 21, 2000, by and between the Registrant and Paul A.
Ricci.
10.12(13)** Employment Agreement, dated August 21, 2000, by and between
the Registrant and Paul A. Ricci.
10.13(13)** Employment Agreement, dated August 21, 2000, by and between
the Registrant and Michael K. Tivnan.
10.14(14) Lease Agreement, dated December 18, 2000, by and between
James M. Salar, as trustee of the JMS Realty Trust, and the
Registrant.
10.15(22) Gold Disk Bundling Agreement, dated as of September 30,
1999, as amended by Amendment Number 1, dated as of January
1, 2000, between the Registrant and Xerox Corporation.
10.16(15) Termination Agreement, dated March 5, 2002, by and between
the Registrant and Robert Teresi.
10.17(19)** 1993 Incentive Stock Option Plan, as amended.
10.18(19)** 1995 Employee Stock Purchase Plan, as amended and restated
on April 27, 2000.
10.19(19)** 1997 Employee Stock Option Plan, as amended.
10.20(16)** 1998 Stock Option Plan.
10.21(8)** 2000 Stock Option Plan.
10.22(19) Settlement and Release Agreement, dated as of November 12,
2001, between the Registrant and Bear, Stearns & Co. Inc.
10.23(19) Settlement and Termination Agreement, dated as of December
28, 2001, between the Registrant and Merrill Lynch, Pierce,
Fenner & Smith Incorporated.
10.24(19) Agreement for the sale and purchase of certain shares of
ScanSoft, Inc. held by Lernout & Hauspie Speech Products
N.V. and L&H Holdings USA, dated as of September 16, 2002,
by and among ScanSoft, Inc., Lernout & Hauspie Speech
Products N.V. and L&H Holdings USA, Inc.
10.25(20) Loan and Security Agreement, dated as of October 31, 2002,
between the Registrant and Silicon Valley Bank.

EXHIBIT
NUMBER DESCRIPTION
------- -----------

10.26(19)** Vesting Agreement, dated June 24, 1999, between the
Registrant and Wayne Crandall.
10.27(19)** Letter, dated July 7, 2000, from the Registrant to Ben
Wittner regarding certain employment matters.
10.28(18)** Amendment No. 1, dated July 26, 2001, to Employment
Agreement, dated August 21, 2000, by and between the
Registrant and Paul A. Ricci.
10.29(19) Letter of Intent, dated March 20, 2002, between the
Registrant and Digital River, Inc.
10.30(19) Technology Transfer and License Agreement, dated as of
January 30, 2003, between Koninklijke Philips Electronics
N.V. and the Registrant.
10.31(19) Promissory Note, dated January 30, 2003, between Koninklijke
Philips Electronics N.V. and the Registrant.
10.32(19) Zero Coupon Convertible Subordinated Note, dated January 30,
2003, between Koninklijke Philips Electronics N.V. and the
Registrant.
10.33(19) Plan of Distribution Agreement, dated January 30, 2003,
between Koninklijke Philips Electronics N.V. and the
Registrant.
10.34(23)** Proposed Amended and Restated 1995 Employee Stock Purchase
Plan.
10.35(24)** Letter, dated February 17, 2003, from the Registrant to
Jeanne McCann regarding certain employment matters.
10.36(24)** Letter, dated September 26, 2002, from the Registrant to
Robert J. Weideman regarding certain employment matters.
10.37(24)** Amendment No. 1, dated April 28, 2003, to Employment
Agreement, dated August 21, 2000, by and between the
Registrant and Michael K. Tivnan.
10.38(24)+ Reseller Agreement, dated as of March 31, 2003, by and
between the Registrant and International Business Machines.
10.39(24) Loan and Security Agreement, dated as of October 31, 2002,
as amended on May 7, 2003, between the Registrant and
Silicon Valley Bank.
21.1(17) Subsidiaries of the Registrant.
23.1 Consent of Counsel (Included in Exhibit 5.1 above).
23.2 Consent of PricewaterhouseCoopers LLP.
23.3 Consent of PricewaterhouseCoopers LLP.
23.4 Consent of KPMG Accountants N.V.
24.1# Power of Attorney.

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

# Previously filed.

** Denotes Management compensatory plan or arrangement.

+ Confidential treatment requested on portions of this exhibit. Unredacted
versions of this exhibit have been filed separately with the Commission.