Red Hat Inc – IPO: ‘424B1’ on 8/11/99

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Initial Public Offering (IPO):  Prospectus   —   Rule 424(b)(1)
Filing Table of Contents

Document/Exhibit                   Description                      Pages   Size 

 1: 424B1       Prospectus                                            98    484K 

Document Table of Contents

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                                             As filed Pursuant to Rule 424(b)(1)
                                                      Registration No. 333-80051

6,000,000 Shares

[LOGO]
Common Stock
----------------

This is an initial public offering of shares of Red Hat, Inc. All of the
6,000,000 shares of common stock are being sold by Red Hat.                     

At the request of Red Hat, the underwriters have reserved up to 800,000 
shares of common stock for sale at the initial public offering price through a  
directed share program, to directors, officers and employees of Red Hat and to  
open source software developers and other persons that Red Hat believes have    
contributed to the success of the open source software community and the growth 
of Red Hat.                                                                     

Prior to this offering, there has been no public market for the common  
stock. The common stock has been approved for quotation on the Nasdaq National  
Market under the symbol "RHAT".                                                 

SEE "RISK FACTORS" BEGINNING ON PAGE 7 TO READ ABOUT CERTAIN FACTORS YOU
SHOULD CONSIDER BEFORE BUYING SHARES OF THE COMMON STOCK.                       

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

    NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY OTHER REGULATORY BODY
HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE ADEQUACY OR  
ACCURACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL   
OFFENSE.                                                                        

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

                                                                [Download Table]

                                                           Per Share      Total   
                                                          -----------  -----------
                                                                                  
Initial public offering price............................  $   14.00   $84,000,000
Underwriting discount ...................................  $    0.98   $ 5,880,000
Proceeds, before expenses, to Red Hat....................  $   13.02   $78,120,000

If the underwriters sell more than 6,000,000 shares of common stock, the
underwriters have the option to purchase up to an additional 900,000 shares from
Red Hat at the initial public offering price less the underwriting discount.    

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

  The underwriters expect to deliver the shares against payment in New York,
New York on August 16, 1999.                                                    

GOLDMAN, SACHS & CO.                                                            

THOMAS WEISEL PARTNERS LLC                        

HAMBRECHT & QUIST 

                        E*OFFERING

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

Prospectus dated August 11, 1999. 

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DESCRIPTION OF INSIDE FRONT COVER:                                              

[Graphic Description] 

This inside front cover contains the following:                         

   A picture of the shrink-wrapped Official Red Hat Linux 6.0 operating system
package. This picture is surrounded by the names of entities which are OEM,     
distribution or marketing partners of Red Hat. Below the package appears the    
text, "The Revolution of Choice." At the bottom of the page the following text  
appears, "Red Hat Linux. Delivering free choice in operating system technology. 
Partnering to ensure wide availability of Linux applications and systems." The  
Red Hat "Shadow Man" logo appears in the lower right corner of the page.        

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PROSPECTUS SUMMARY

YOU SHOULD READ THE FOLLOWING SUMMARY TOGETHER WITH THE MORE DETAILED   
INFORMATION AND OUR FINANCIAL STATEMENTS AND NOTES TO THOSE STATEMENTS APPEARING
ELSEWHERE IN THIS PROSPECTUS.                                                   

RED HAT 

OUR BUSINESS

We are a leading developer and provider of open source software and     
services, including the Red Hat Linux operating system. Unlike proprietary      
software, open source software has publicly available source code and can be    
copied, modified and distributed with minimal restrictions. Our web site,       
REDHAT.COM, is a leading online source of information and news about open source
software and one of the largest online communities of open source software users
and developers. In addition to offering extensive content for the open source   
community, REDHAT.COM serves as an important forum for open source software     
development and offers software downloads and a shopping site. Our broad range  
of professional services includes technical support, training and education,    
custom development, consulting and hardware certification. We are committed to  
serving the interests and needs of open source software users and developers and
to sharing all of our product developments with the open source community.      

  Red Hat Linux is our principal product. Since its introduction in 1994, we
believe Red Hat Linux has emerged as the most popular Linux-based operating     
system in the world. Red Hat Linux represented approximately 56% of new license 
shipments of Linux-based server operating systems in 1998, according to         
International Data Corporation. Our web site had 265,000 unique visitors and    
approximately 2.5 million page views during March 1999. A unique visitor is an  
individual visitor to our REDHAT.COM web site. Page views are the total number  
of complete pages retrieved and viewed by visitors to REDHAT.COM. We generated  
approximately $10.8 million in revenue for the fiscal year ended February 28,   
1999, primarily from the sale of Official Red Hat Linux. Our products are also  
generally available via free download from REDHAT.COM and other sites across the
internet, but do not include technical support or printed user documentation in 
these instances. Companies with which we have strategic alliances or investment 
relationships include Compaq, Dell, IBM, Intel, Netscape, Novell, Oracle, SAP   
and Silicon Graphics.                                                           

OUR MARKET OPPORTUNITY

The rapid growth of the internet in recent years has accelerated the    
development of open source software. Under the open source software model,      
software is created through the collaborative efforts of large communities of   
independent developers. Developers work alone or in groups to write code, make  
the code available over the internet, solicit feedback on it from other         
developers, then modify and share it with others for general use. This          
continuous process results in the rapid evolution and improvement of open source
software.                                                                       

   We believe open source software offers many potential benefits for software
customers, users and vendors. Customers and users are able to acquire the       
software at little or no cost, install the software on as many computers as they
wish, and customize the software to suit their particular needs. In addition,   
customers and users can obtain software updates, improvements and support from  
multiple vendors, reducing reliance on any single vendor. Vendors are able to   
leverage the community of open source developers, allowing them to reduce       
development costs and decrease their time to market. Vendors are also able to   
distribute their products freely over the internet, enabling them to create     
large global user bases quickly.                                                

Open source software is particularly well-suited to the internet and    
includes the                                                                    

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following leading internet software and server products:                        

- Apache Web Server--the most common web server in use today;           

- Perl--a standard scripting language for Apache servers; and           

- Sendmail--an e-mail routing tool that handles a majority of all e-mail
traffic.                                                            

Operating systems based on the Linux kernel are some of the better known
open source products. Linux-based operating systems represented 17% of new      
license shipments of server operating systems in 1998, according to             
International Data. Despite strong initial market acceptance, these operating   
systems have been slow to penetrate large corporations at the enterprise level  
due in part to the lack of viable open source industry participants to offer    
technical support and other services on a long-term basis.                      

OUR STRATEGY

We seek to enhance our position as a leading provider of open source    
software and services by:                                                       

- continuing to enhance our web site to create the definitive online    
destination for the open source community;                          

- expanding our professional services capabilities to capture large     
corporate business on an enterprise basis;                          

    - increasing market acceptance of open source software, particularly through
  technology alliances and sharing our development efforts and resources
with third-party developers;                                        

- continuing to invest in the development of open source technology; and

- enhancing the Red Hat brand through targeted advertising and public   
relations campaigns.                                                

OUR HISTORY 

 Red Hat, Inc. was incorporated in Connecticut in March 1993 as ACC Corp.,
Inc. In September 1995, ACC Corp., Inc. changed its name to Red Hat Software,   
Inc. In September 1998, Red Hat Software, Inc. reincorporated in Delaware. In   
June 1999, Red Hat Software, Inc. changed its name to Red Hat, Inc. Unless the  
context otherwise requires, any reference to "Red Hat", "we", "our" and "us" in 
this prospectus refers to Red Hat, Inc., a Delaware corporation, and its        
subsidiaries and predecessors. Our principal executive offices are located at   
2600 Meridian Parkway, Durham, N.C. 27713. Our telephone number is (919)        
547-0012.                                                                       

"Red Hat", the Red Hat "Shadow Man" logo, "RPM", and "PowerTools" are   
trademarks or service marks of Red Hat, Inc. Other trademarks and tradenames in 
this prospectus are the property of their respective owners.                    

    Except as presented in the financial statements or as otherwise specified in
this prospectus, all information in this prospectus:                            

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

   - reflects a 2-for-1 stock split of the common stock which will occur prior
to the closing of this offering; and                                

- reflects the automatic conversion of all outstanding shares of our    
      preferred stock into a total of 33,945,452 shares of common stock upon the
closing of this offering.                                           

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THE OFFERING

                                                        [Enlarge/Download Table]
                                                                                          
Shares offered by Red Hat.................... 6,000,000 shares                            

Shares to be outstanding after the                                                        
offering..................................... 66,835,104 shares                           

Use of proceeds.............................. To provide working capital and for other    
                                              general corporate purposes including        
                                              geographic expansion. See "Use of Proceeds".

Nasdaq National Market symbol................ RHAT                                        

    The number of shares of common stock to be outstanding after the offering is
based on the number of shares outstanding on July 31, 1999. This number does not
include 5,762,188 shares of common stock issuable upon the exercise of stock    
options outstanding on July 31, 1999 with a weighted average exercise price of  
$2.51 per share or 3,197,450 shares of common stock issuable upon exercise of   
warrants outstanding on July 31, 1999 with an exercise price of $.0001 per      
share. This number also does not include an aggregate of 8,075,910 shares       
reserved as of July 31, 1999 for future stock option grants and purchases under 
Red Hat's equity compensation plans. See "Management--Employee Benefit Plans"   
and note 11 of notes to financial statements.                                   

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SUMMARY FINANCIAL DATA

The following table summarizes the financial data of our business. You  
should read this information with the discussion in "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and our financial    
statements and notes to those statements included elsewhere in this prospectus. 

                                                        [Enlarge/Download Table]

                                                                                                           THREE MONTHS ENDED  
                                                                 YEAR ENDED FEBRUARY 28,                        MAY 31,        
                                                 -------------------------------------------------------  -------------------- 
                                                   1995       1996(1)      1997       1998       1999       1998       1999    
                                                 ---------  -----------  ---------  ---------  ---------  ---------  --------- 
                                                                                                              (UNAUDITED)      
                                                                     (IN THOUSANDS, EXCEPT PER SHARE DATA)                     
                                                                                                                               
STATEMENT OF OPERATIONS DATA:                                                                                                  
Revenue......................................... $     482   $     930   $   2,603  $   5,156  $  10,790  $   1,551  $   2,797 
Net income (loss)...............................      (128)       (155)         33          8        (91)       (53)    (2,089)
Net income (loss) available to common                                                                                          
  stockholders..................................      (128)       (155)         33          8       (130)       (53)    (2,132)
Earnings (loss) per common share:                                                                                              
  Basic......................................... $   (0.01)  $   (0.01)  $    0.00  $    0.00  $   (0.01) $    0.00  $   (0.09)
  Diluted.......................................     (0.01)      (0.01)       0.00       0.00      (0.01)      0.00      (0.09)
Weighted average common shares outstanding:                                                                                    
  Basic.........................................    12,000      22,626      23,500     23,500     23,550     23,500     24,383 
  Diluted.......................................    12,000      22,626      27,233     34,578     23,550     23,500     24,383 
Pro forma earnings (loss) per common share:                                                                                    
  Basic......................................... $   (0.01)  $   (0.01)  $    0.00  $    0.00  $    0.00  $    0.00  $   (0.04)
  Diluted.......................................     (0.01)      (0.01)       0.00       0.00       0.00       0.00      (0.04)
Pro forma weighted average common shares                                                                                       
  outstanding:                                                                                                                 
  Basic.........................................    12,000      22,626      23,500     30,842     43,930     37,103     57,782 
  Diluted.......................................    12,000      22,626      27,233     34,578     43,930     37,103     57,782 

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

(1) Red Hat's fiscal year ended on February 29, 1996.                           

    The following table presents a summary of our balance sheet at May 31, 1999:

- on an actual basis;                                                   

 - on a pro forma basis to reflect conversion of all outstanding shares of
  our preferred stock into a total of 33,945,452 shares of common stock,
which will occur upon closing of this offering; and                 

  - on a pro forma as adjusted basis to reflect the sale of 6,000,000 shares
    of common stock in this offering at the initial public offering price of
    $14.00 per share after deducting the underwriting discount and estimated
offering expenses.                                                  

                                                        [Enlarge/Download Table]

                                                                     MAY 31, 1999             
                                                         -------------------------------------
                                                                                   PRO FORMA  
                                                          ACTUAL     PRO FORMA    AS ADJUSTED 
                                                         ---------  -----------  -------------
                                                                    (IN THOUSANDS)            
                                                                                              
BALANCE SHEET DATA:                                                                           
Cash and cash equivalents............................... $  13,982   $  13,982     $  90,852  
Working capital.........................................    13,217      13,217        90,087  
Total assets............................................    22,162      22,162        99,032  
Long-term liabilities...................................       385         385           385  
Mandatorily redeemable preferred stock..................    15,338          --            --  
Total stockholders' equity (deficit)....................      (196)     15,142        92,012  

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RISK FACTORS

   THIS OFFERING INVOLVES A HIGH DEGREE OF RISK. YOU SHOULD CAREFULLY CONSIDER
THE RISKS DESCRIBED BELOW AND THE OTHER INFORMATION IN THIS PROSPECTUS BEFORE   
DECIDING TO INVEST IN THE SHARES OF COMMON STOCK.                               

RISKS RELATED TO OUR LINUX-BASED OPEN SOURCE BUSINESS MODEL 

OUR BUSINESS MAY NOT SUCCEED BECAUSE OPEN SOURCE SOFTWARE BUSINESS MODELS ARE   
UNPROVEN                                                                    

We have not demonstrated the success of our open source business model, 
which gives our customers the right freely to copy and distribute our software. 
No other company has built a successful open source business. Few open source   
software products have gained widespread commercial acceptance partly due to the
lack of viable open source industry participants to offer adequate service and  
support on a long term basis. In addition, open source vendors are not able to  
provide industry standard warranties and indemnities for their products, since  
these products have been developed largely by independent parties over whom open
source vendors exercise no control or supervision. If open source software      
should fail to gain widespread commercial acceptance, we would not be able to   
sustain our revenue growth and our business could fail.                         

OUR RELIANCE ON THE SUPPORT OF LINUS TORVALDS AND OTHER PROMINENT LINUX         
DEVELOPERS COULD IMPAIR OUR ABILITY TO RELEASE MAJOR PRODUCT UPGRADES AND   
MAINTAIN MARKET SHARE                                                       

  We may not be able to release major product upgrades of Red Hat Linux on a
timely basis because the heart of Red Hat Linux, the Linux kernel, is maintained
by third parties. Linus Torvalds, the original developer of the Linux kernel and
a small group of independent engineers are primarily responsible for the        
development and evolution of the Linux kernel. If this group of developers fails
to further develop the Linux kernel or if Mr. Torvalds or other prominent Linux 
developers, such as Alan Cox, David Miller or Stephen Tweedie, were to join one 
of our competitors or no longer work on the Linux kernel, we will have to either
rely on another party to further develop the kernel or develop it ourselves. We 
cannot predict whether enhancements to the kernel would be available from       
reliable alternative sources. We could be forced to rely to a greater extent on 
our own development efforts, which would increase our development expenses and  
may delay our product release and upgrade schedules. In addition, any failure on
the part of the kernel developers to further develop and enhance the kernel     
could stifle the development of additional Linux-based applications.            

WE MAY NOT BE ABLE TO EFFECTIVELY ASSEMBLE AND TEST OUR SOFTWARE BECAUSE IT     
CONSISTS LARGELY OF CODE DEVELOPED BY INDEPENDENT THIRD PARTIES OVER WHOM WE
EXERCISE NO CONTROL, WHICH COULD RESULT IN UNRELIABLE PRODUCTS AND DAMAGE TO
OUR REPUTATION                                                              

  Red Hat Linux, in compressed form, consists of approximately 573 megabytes
of code. Of that total, approximately 500 megabytes have been developed by      
independent third parties, including approximately 10 megabytes of code         
contained in the Linux kernel. Included within the 573 megabytes of code are    
approximately 645 distinct software components developed by thousands of        
individual programmers which we must assemble and test before we can release a  
new version of Red Hat Linux. If these components are not reliable, Red Hat     
Linux could fail, resulting in serious damage to our reputation and potential   
litigation. Although we attempt to assemble only the best available components, 
we cannot be sure that we will be able to identify the highest quality and most 
reliable components or to successfully assemble and test them. In addition, if  
these components were no longer available, we would have to develop them        
ourselves, which                                                                

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would significantly increase our development expenses.                          

THE SCARCITY OF SOFTWARE APPLICATIONS FOR LINUX-BASED OPERATING SYSTEMS COULD   
PREVENT COMMERCIAL ADOPTION OF OUR PRODUCTS                                 

 Our products will not gain widespread commercial adoption until there are
more third-party software applications designed to operate on Linux-based       
operating systems. These applications include word processors, databases,       
accounting packages, spreadsheets, e-mail programs, internet browsers,          
presentation and graphics software and personal productivity applications. We   
intend to encourage the development of additional applications that operate on  
Linux-based operating systems by attracting third-party developers to the Linux 
platform and by maintaining our existing developer relationships through        
marketing and technical support for third-party developers. If we are not       
successful in achieving these goals, however, our products will not gain        
widespread commercial acceptance and we will not be able to maintain our product
sales growth.                                                                   

WE MAY NOT BE ABLE TO GENERATE REVENUE FROM SALES OF OFFICIAL RED HAT LINUX IF  
USERS CAN MORE QUICKLY DOWNLOAD IT FROM THE INTERNET                        

    Anyone can download a free copy of Red Hat Linux from the internet. However,
because this download can take up to 36 hours using a standard telephone        
connection, many of our users choose to buy the shrink-wrapped version of       
Official Red Hat Linux. If hardware and data transmission technology advances in
the future to the point where increased bandwidth allows users to more quickly  
download our products from the internet, users may no longer choose to purchase 
Official Red Hat Linux. This could lead to a significant loss of product        
revenue.                                                                        

OUR CUSTOMERS MAY FIND IT DIFFICULT TO INSTALL AND IMPLEMENT RED HAT LINUX,     
WHICH COULD LEAD TO CUSTOMER DISSATISFACTION AND DAMAGE OUR REPUTATION      

Installation and implementation of Red Hat Linux often involves a       
significant commitment of resources, financial and otherwise, by our customers. 
This process can be lengthy due to the size and complexity of our products and  
the need to purchase and install new applications. The failure by us to attract 
and retain services personnel to support our customers, the failure of companies
with which we have strategic alliances to commit sufficient resources towards   
the installation and implementation of our products, or a delay in              
implementation for any other reason could result in dissatisfied customers. This
could damage our reputation and the Red Hat brand, resulting in decreased       
product revenue.                                                                

NEGATIVE REACTION WITHIN THE OPEN SOURCE COMMUNITY TO OUR BUSINESS STRATEGY     
COULD HARM OUR REPUTATION AND BUSINESS                                      

Some members of the open source software community have criticized the  
expansion of our strategic focus in online chat rooms, electronic bulletin      
boards and articles posted on the web. These critics argue that our strategy    
could fragment the Linux community into a variety of competing factions,        
resulting in a less cohesive and cooperative development process. Others have   
suggested that by expanding our focus, we are trying to dominate the market for 
Linux-based operating systems and the open source community in the same way that
some companies have been able to dominate the traditional software markets. This
type of negative reaction, if widely shared by our customers, developers or the 
rest of the open source community, could harm our reputation, diminish the Red  
Hat brand and result in decreased revenue.                                      

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RISKS RELATED TO OUR FINANCIAL RESULTS AND CONDITION

OUR LIMITED OPERATING HISTORY IN THE NEW AND DEVELOPING MARKET FOR LINUX-BASED  
OPERATING SYSTEMS MAKES IT DIFFICULT TO EVALUATE OUR BUSINESS               

    Red Hat was formed in March 1993. We began offering Red Hat Linux in October
1994. Our limited operating history makes it difficult to evaluate the risks and
uncertainties that we face. Our failure to address these risks and uncertainties
could cause our business results to suffer and result in the loss of all or part
of your investment.                                                             

WE EXPECT TO INCUR SUBSTANTIAL LOSSES IN THE FUTURE                             

    We have incurred operating losses in four of our previous five fiscal years,
including our most recent fiscal year ended February 28, 1999. We expect to     
incur significant losses at least through the fiscal year ending February 28,   
2001 as we substantially increase our sales and marketing, research and         
development and administrative expenses. In addition, we are investing          
considerable resources in our web initiative. As a result, we cannot be certain 
when or if we will achieve sustained profitability. Failure to become and remain
profitable may adversely affect the market price of our common stock and our    
ability to raise capital and continue operations. See "Management's Discussion  
and Analysis of Financial Condition and Results of Operations--Overview",       
"--Results of Operations" and "--Liquidity and Capital Resources".              

YOU SHOULD NOT RELY ON OUR QUARTERLY RESULTS OF OPERATIONS AS AN INDICATION OF  
OUR FUTURE RESULTS BECAUSE THEY FLUCTUATE SIGNIFICANTLY AND ARE DIFFICULT TO
FORECAST                                                                    

Due to our limited operating history and the unpredictability of our    
business, our revenue and operating results may fluctuate significantly from    
quarter to quarter and are difficult to forecast. We base our current and       
projected future expense levels in part on our estimates of future revenue. Our 
expenses are to a large extent fixed in the short term. We may not be able to   
adjust our spending quickly if our revenue falls short of our expectations.     
Accordingly, a revenue shortfall in a particular quarter would have a           
disproportionate adverse effect on our operating results for that quarter. You  
should not rely on quarter-to-quarter comparisons of our results of operations  
as an indication of our future performance. Our future operating results may    
fall below expectations of securities analysts or investors, which would likely 
cause the market price of our common stock to decline significantly. See        
"Management's Discussion and Analysis of Financial Condition and Results of     
Operations--Quarterly Results of Operations".                                   

OUR FAILURE TO UPDATE AND MODERNIZE OUR INTERNAL SYSTEMS, PROCEDURES AND        
CONTROLS MAY PREVENT THE IMPLEMENTATION OF OUR BUSINESS STRATEGIES IN A     
RAPIDLY EVOLVING MARKET AND MAY RETARD OUR FUTURE GROWTH                    

 Our operational and financial systems, procedures and controls, which are
adequate for a small private company, are becoming outdated as we grow. Since   
March 1, 1998, we have more than tripled the number of our employees. To        
accommodate this growth, we have evaluated our financial and operational        
systems, procedures and controls. Although we have revised and updated most of  
them, if we continue our rapid growth, we may not be able to improve our        
transaction processing and reporting systems and procedures, or expand and train
our expanding workforce quickly enough to maintain a competitive position in our
markets. In addition, failure to quickly replace obsolete systems, procedures   
and controls could impede our management's decision-making abilities. This, in  
turn, may impair our ability to pursue business opportunities and may hamper    
future growth.                                                                  

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BECAUSE OUR HEADQUARTERS ARE NOT LOCATED IN A MAJOR METROPOLITAN AREA, WE MAY   
NOT BE ABLE TO RECRUIT AND RETAIN QUALIFIED PROFESSIONALS, WHO ARE CURRENTLY
IN HIGH DEMAND AND WHOSE NUMBERS ARE LIMITED                                

 We compete intensely with other software companies nation-wide to recruit
and hire from a limited pool of qualified personnel. Because our headquarters   
are not located in a major metropolitan area, many qualified candidates may be  
unwilling to relocate to North Carolina and work for Red Hat. If we cannot      
attract and hire additional qualified sales and marketing, professional services
and software engineering and development personnel, our business results will   
suffer.                                                                         

OUR MANAGEMENT TEAM MAY NOT BE ABLE TO SUCCESSFULLY IMPLEMENT OUR BUSINESS      
STRATEGIES BECAUSE IT HAS ONLY RECENTLY BEGUN TO WORK TOGETHER              

 Our business is highly dependent on the ability of our management to work
together effectively to meet the demands of our growth. Several members of our  
senior management, including our President, Matthew Szulik, our Chief Operating 
Officer, Tim Buckley and our Chief Marketing Officer, Tom Butta, have been      
employed by us for a relatively short period of time. We are also actively      
searching for a new Chief Financial Officer and expect to hire one within the   
next few months. These individuals have not previously worked together as a     
management team. In addition, the members of our management team who have been  
with us since 1997 or earlier have had only limited experience managing a       
rapidly growing company on either a public or private basis. The failure of our 
management team to work together effectively could prevent efficient            
decision-making by our executive team, affecting product development and sales  
and marketing efforts, which would negatively impact our operating results.     

WE COULD LOSE ROBERT YOUNG, MATTHEW SZULIK, TIM BUCKLEY, MARC EWING OR OTHER KEY
PERSONNEL, WHICH COULD PREVENT US FROM EXECUTING OUR BUSINESS STRATEGIES    

Our future success depends on the continued services of a number of key 
officers, including our Chairman and Chief Executive Officer, Robert Young; our 
President, Matthew Szulik; our Chief Operating Officer, Tim Buckley; and our    
Executive Vice President and Chief Technology Officer, Marc Ewing. The loss of  
the technical knowledge and industry expertise of any of these officers could   
seriously impede our success. Moreover, the loss of one or a group of our key   
employees, particularly to a competitor, and any resulting loss of customers    
could reduce our market share and diminish the Red Hat brand.                   

WE MAY LACK THE FINANCIAL AND OPERATIONAL RESOURCES NEEDED TO INCREASE OUR      
MARKET SHARE AND COMPETE EFFECTIVELY WITH MICROSOFT, OTHER ESTABLISHED      
OPERATING SYSTEMS DEVELOPERS AND OTHER SERVICE AND SUPPORT PROVIDERS        

 In the market for operating systems, we face significant competition from
larger companies with greater financial resources and name recognition than we  
have. These competitors, which offer hardware-independent multi-user operating  
systems for Intel platforms and/or UNIX-based operating systems, include        
Microsoft, Novell, IBM, Sun Microsystems, The Santa Cruz Operation, AT&T,       
Compaq, Hewlett-Packard, Olivetti and Unisys. We do not believe that any of     
these competitors currently produce and market any open source software         
products.                                                                       

  As we increase our services offerings, we may face competition from larger
and more capable companies that currently service and support other operating   
systems, particularly UNIX-based operating systems, due to the fact that Linux- 
and UNIX-based operating systems share many common features. These companies may
be able to leverage their existing service organizations and provide higher     
levels of support on a more cost-effective basis than we can. We may not be able
to compete successfully with these current or potential competitors. See        
"Business--Competition".                                                        

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WE MAY NOT BE ABLE TO MATCH THE PROMOTIONAL ACTIVITIES AND PRICING POLICIES     
OFFERED BY OTHER SUPPLIERS OF LINUX-BASED AND OTHER OPEN SOURCE OPERATING   
SYSTEMS, WHICH COULD RESULT IN A LOSS OF MARKET SHARE                       

    In the new and rapidly-evolving market for Linux-based operating systems, we
face intense competition from a number of other suppliers of Linux-based        
operating systems. We also face competition to a lesser extent from developers  
of non-Linux-based open source operating systems such as BSD-based operating    
systems. BSD-based operating systems such as FreeBSD, NetBSD and OpenBSD are    
open source operating systems produced by communities of developers working     
together via the internet, and which are published and distributed by Walnut    
Creek CD-ROM, among others. We expect competition in broader open source        
operating systems and the Linux-based operating systems market to intensify. In 
addition, companies like Sun Microsystems, Corel and Cygnus Solutions, which    
have large customer bases and greater financial resources and name recognition  
than we do, have indicated a growing interest in the market for Linux-based     
operating systems. These companies may be able to undertake more extensive      
promotional activities, adopt more aggressive pricing policies, and offer more  
attractive terms to their customers than we can. Furthermore, because           
Linux-based operating systems can be downloaded from the internet for free or   
purchased at a nominal cost and modified and re-sold with few restrictions,     
traditional barriers to entry are minimal. Accordingly, it is possible that new 
competitors or alliances among existing competitors may emerge and rapidly      
acquire significant market share. See "Business--Competition".                  

IF WE FAIL TO ESTABLISH AND MAINTAIN STRATEGIC DISTRIBUTION AND OTHER           
COLLABORATIVE RELATIONSHIPS WITH INDUSTRY-LEADING COMPANIES, WE MAY NOT BE  
ABLE TO ATTRACT AND RETAIN A LARGER CUSTOMER BASE                           

Our success depends on our ability to continue to establish and maintain
strategic distribution and other collaborative relationships with               
industry-leading hardware manufacturers, distributors, software vendors and     
enterprise solutions providers. These relationships allow us to offer our       
products and services to a much larger customer base than we would otherwise be 
able to through our direct sales and marketing efforts. We may not be able to   
maintain these relationships or replace them on attractive terms.               

In addition, our existing strategic relationships do not, and any future
strategic relationships may not, afford us any exclusive marketing or           
distribution rights. As a result, the companies with which we have strategic    
alliances are free to pursue alternative technologies and to develop alternative
products and services in addition to or in lieu of our products and services,   
either on their own or in collaboration with others, including our competitors. 
Moreover, we cannot guarantee that the companies with which we have strategic   
relationships will market our products effectively or continue to devote the    
resources necessary to provide us with effective sales, marketing and technical 
support. See "Business--Sales, Marketing and Distribution".                     

ANY DISRUPTION IN OUR RELATIONSHIPS WITH OUR TWO LARGEST DISTRIBUTORS, ON WHOM  
WE RELY FOR A SIGNIFICANT PERCENTAGE OF OUR PRODUCT REVENUE, COULD CAUSE OUR
REVENUE TO DECLINE                                                          

We are highly dependent on revenue from sales to our two largest        
distributors, Frank Kasper & Associates and Ingram Micro, who together accounted
for approximately 54% of our total revenue for the fiscal year ended February   
28, 1999. These distributors are not obligated to purchase products from us and 
the loss of one or both of these distributors, or a reduction in the amount of  
product sales generated by them, could significantly reduce our product revenue.
See "Business--Sales, Marketing and Distribution".                              

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WE MAY NOT BE ABLE TO GENERATE ENOUGH ADDITIONAL REVENUE FROM OUR PLANNED       
INTERNATIONAL EXPANSION TO OFFSET THE COSTS ASSOCIATED WITH ESTABLISHING AND
MAINTAINING FOREIGN OPERATIONS                                              

   A key component of our growth strategy is to expand our presence in foreign
markets. We have recently established subsidiaries in Ireland, the UK and       
Germany, and are considering further expansion within Europe. We may also enter 
other markets as opportunities arise. It will be costly to establish            
international facilities and operations, promote our brand internationally, and 
develop localized web sites and other systems. Revenue from international       
activities may not offset the expense of establishing and maintaining these     
foreign operations. In addition, because we have little experience in marketing 
and distributing products or services for these markets, we may not benefit from
any first-to-market advantages.                                                 

WE MAY NOT BE ABLE TO MEET THE OPERATIONAL AND FINANCIAL CHALLENGES THAT WE WILL
ENCOUNTER AS OUR INTERNATIONAL OPERATIONS EXPAND                            

As we expand our international operations, we will face a number of     
additional challenges associated with the conduct of business overseas. For     
example:                                                                        

- we may have difficulty managing and administering a globally-dispersed
business;                                                           

- fluctuations in exchange rates may negatively affect our operating    
results;                                                            

  - we may not be able to repatriate the earnings of our foreign operations;

  - we will have to comply with a wide variety of foreign laws with which we
are not familiar;                                                   

 - we may not be able to adequately protect our trademarks overseas due to
    the uncertainty of laws and enforcement in certain countries relating to
the protection of intellectual property rights;                     

- reductions in business activity during the summer months in Europe and
  certain other parts of the world could negatively impact the operating
results of our foreign operations;                                  

   - export controls could prevent us from shipping our products into and from
some markets;                                                       

- multiple and possibly overlapping tax structures could significantly  
reduce the financial performance of our foreign operations;         

 - changes in import/export duties and quotas could affect the competitive
    pricing of our products and services and reduce our market share in some
countries; and                                                      

- economic or political instability in some international markets could 
      result in the forfeiture of some foreign assets and the loss of sums spent
developing and marketing those assets.                              

EXPANDING OUR SERVICES BUSINESS WILL BE COSTLY AND MAY NOT RESULT IN ANY BENEFIT
TO US                                                                       

  We have recently expanded our strategic focus to place additional emphasis
on consulting, custom development, education and support services, from which we
have historically derived an insignificant amount of revenue. We cannot be      
certain that our customers will engage our professional services organization to
assist with support, consulting, custom development, training and implementation
of our products. We also cannot be certain that we can attract or retain a      
sufficient number of the highly qualified services personnel that the expansion 
of our services business will need. In addition, this expansion has required,   
and will continue to require, significant additional expenses and development,  
financial and operational resources. The need for these additional resources    
will place further strain on our management, financial and operational resources
and may make it more difficult for us to achieve and maintain profitability.    

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ATTEMPTS TO EXPAND BY MEANS OF BUSINESS COMBINATIONS AND STRATEGIC ALLIANCES MAY
NOT BE SUCCESSFUL AND MAY HARM OUR OPERATIONAL EFFICIENCY, FINANCIAL        
PERFORMANCE AND RELATIONSHIPS WITH EMPLOYEES AND THIRD PARTIES              

 We may expand our operations or market presence by entering into business
combinations, investments, joint ventures or other strategic alliances with     
hardware manufacturers, software vendors, internet companies, open source       
software developers or other companies both in the United States and            
internationally. Our ability to expand in this way may be limited due to the    
many financial and operational risks accompanying these transactions. For       
example:                                                                        

- we may have difficulty assimilating the operations, technology and    
personnel of the combined companies;                                

    - our business may be disrupted by the allocation of resources to consummate
these transactions;                                                 

    - we may have problems retaining key technical and managerial personnel from
acquired companies;                                                 

    - we may experience one-time in-process research and development charges and
ongoing expenses associated with amortization of goodwill and other 
purchased intangible assets;                                        

- our stockholders will be diluted if we issue equity to fund these     
transactions;                                                       

- acquired businesses may initially be unprofitable resulting in our    
assumption of operating losses and increased expenses;              

    - our reputation may be harmed if the open source development community does
not approve of these transactions; and                              

    - our relationships with existing employees, customers and business partners
may be weakened or terminated as a result of these transactions.    

RISKS RELATED TO OUR INTERNET STRATEGY

WE MAY FAIL TO PROMOTE AND ENHANCE OUR WEB SITE EFFECTIVELY, WHICH MAY PREVENT  
US FROM ATTRACTING NEW VISITORS, ADVERTISERS OR ELECTRONIC COMMERCE PARTNERS
TO OUR WEB SITE                                                             

    Enhancing the REDHAT.COM web site is critical to our ability to increase our
revenue. In order to attract and retain internet users, advertisers and         
electronic commerce partners, we intend to substantially increase our           
expenditures for enhancing and further developing our web site. Our success in  
promoting and enhancing the REDHAT.COM web site will also depend on our ability 
to provide high quality content, features and functionality. If we fail to      
promote our web site successfully or if visitors to our web site or advertisers 
do not perceive our services to be useful, current or of high quality, our      
ability to generate revenue from our web site will be significantly impaired.   

BECAUSE THERE IS NO INDUSTRY STANDARD FOR THE MEASUREMENT OF THE EFFECTIVENESS  
OF INTERNET ADVERTISING, ADVERTISERS MAY NOT INCREASE OR EVEN MAINTAIN THEIR
  CURRENT LEVELS OF INTERNET ADVERTISING, WHICH WOULD PREVENT US FROM GENERATING
A SIGNIFICANT AMOUNT OF REVENUE FROM OUR WEB SITE                           

As we execute our internet strategy, we expect to derive an increasing  
percentage of our revenue from sponsorships and advertising on our web site. We 
may not generate these revenues if advertisers do not maintain or increase their
current levels of internet advertising. As there is no industry standard for the
measurement of the effectiveness of internet advertising, advertisers that      
currently advertise on the internet may reduce or eliminate this form of        
advertising and advertisers that have traditionally relied upon other           
advertising media may be reluctant to begin to advertise on the internet.       
Moreover, widespread adoption of currently available software programs that     
limit or prevent advertisements from being delivered to an                      

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internet user's computer would negatively affect the commercial viability of    
internet advertising and would further deter advertisers from increasing or     
maintaining current levels of internet advertising. Our ability to successfully 
execute our internet strategy will be adversely affected if the market for      
internet advertising fails to develop or develops more slowly than expected.    

WE MAY NOT BE ABLE TO RESPOND QUICKLY TO NEW PRICING MODELS FOR ADVERTISING,    
WHICH COULD PREVENT US FROM ATTRACTING QUALITY SPONSORS TO OUR WEB SITE     

    Different pricing models are used to sell advertising on the internet. It is
difficult to predict which, if any, will emerge as the industry standard. If we 
cannot quickly and successfully respond to changes in pricing models for        
internet advertising, or identify and adopt any industry standards that may     
emerge, we will not be able to attract a sufficient number of quality sponsors  
and our internet advertising strategy will fail.                                

WE MAY BE UNABLE TO ADEQUATELY MEASURE THE DEMOGRAPHICS OF VISITORS TO OUR WEB  
SITE, WHICH IS CRITICAL TO OUR ABILITY TO ATTRACT ADVERTISING REVENUE       

 We expect that it will be important to our advertisers that we accurately
measure the demographics of the visitors to our web site. While we have not     
committed significant resources to the measurement of demographics to date, we  
are currently implementing systems designed to record demographic data on our   
web site's visitors. This implementation may be costly, and if not done         
effectively, may not permit us to accurately measure the demographic            
characteristics of our web site's visitors. Until these new systems are         
functional, we will continue to rely on third parties to provide some of these  
measurement services. If these parties were unable to provide these services, we
would need to obtain them from other providers, which might not be readily      
available. Companies may choose not to advertise on our web site or may pay less
for advertising if they do not perceive our measurements or measurements made by
third parties to be reliable.                                                   

OUR INTERNET STRATEGY WILL FAIL IF THE INFRASTRUCTURE OF THE INTERNET IS NOT    
CONTINUALLY DEVELOPED AND MAINTAINED                                        

The success of our internet strategy will depend in large part on the   
continued development and maintenance of the infrastructure of the internet.    
Because global commerce and the online exchange of information is new and       
evolving, we cannot predict with any certainty that the internet will be a      
viable commercial marketplace in the long term. The internet has experienced,   
and we expect it to continue to experience, significant growth in the number of 
users and amount of traffic. If the internet continues to experience an         
increased number of users, frequency of use or increased bandwidth requirements 
of users, it may not be able to support the demands placed upon it by this      
growth, and its performance and reliability may suffer. Furthermore, the        
internet has experienced a variety of outages and other delays as a result of   
damage to portions of its infrastructure, and could face similar outages and    
delays in the future. Any outage or delay could affect the level of internet    
usage, as well as the volume of traffic on our web site. In addition, the       
internet could lose its viability due to increased governmental regulation and  
delays in the development or adoption of new standards and protocols to handle  
increased levels of activity. If the necessary infrastructure, standards or     
protocols or complementary products, services or facilities are not developed,  
or if the internet does not become a viable commercial marketplace, our internet
strategy will not succeed.                                                      

WE ARE VULNERABLE TO UNEXPECTED NETWORK INTERRUPTIONS CAUSED BY SYSTEM FAILURES,
  WHICH MAY RESULT IN REDUCED VISITOR TRAFFIC ON OUR WEB SITE, DECREASED REVENUE
AND HARM TO OUR REPUTATION                                                  

   Substantially all of our communications hardware and other hardware related
to our web site is located at our facilities, although we are considering       
locating them to a third-party facility within the next six months. Fire,       
floods,                                                                         

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hurricanes, tornadoes, earthquakes, power loss, telecommunications failures,    
break-ins and similar events could damage these systems. In addition, although  
we have implemented network security measures, our servers are vulnerable to    
computer viruses, electronic break-ins, human error and other similar disruptive
problems which could adversely affect our systems and web site. Although we try 
to prevent unauthorized access to our systems, we cannot eliminate this risk    
entirely. We could lose revenue and suffer damage to our reputation if our      
systems were affected by any of these occurrences. Our insurance policies may   
not adequately compensate us for any losses that may occur due to failures or   
interruptions in our systems. We do not presently have any secondary "off-site" 
systems or a formal disaster recovery plan.                                     

VISITORS TO OUR WEB SITE COULD EXPERIENCE DELAYS AND DECREASED PERFORMANCE      
DURING PERIODS OF HEAVY TRAFFIC, WHICH COULD RESULT IN DISSATISFACTION WITH 
OUR WEB SITE AND DAMAGE TO OUR REPUTATION                                   

Our web site must accommodate a high volume of traffic and deliver      
frequently updated information. Our web site has in the past experienced slower 
response times or decreased traffic for a variety of reasons. These occurrences 
have not had a material impact on our business. These types of occurrences in   
the future, however, could materially adversely affect our reputation and brand 
name and could cause users to perceive our web site as not functioning properly.
Under these circumstances, our users might choose another web site or other     
methods to obtain Linux-based operating systems or Linux-related information.   

RISKS RELATED TO LEGAL UNCERTAINTY

WE COULD BE PREVENTED FROM SELLING OR DEVELOPING OUR PRODUCTS IF THE GNU GENERAL
  PUBLIC LICENSE AND SIMILAR LICENSES UNDER WHICH OUR PRODUCTS ARE DEVELOPED AND
LICENSED ARE NOT ENFORCEABLE                                                

   The Linux kernel and the Red Hat Linux operating system have been developed
and licensed under the GNU General Public License and similar licenses. These   
licenses state that any program licensed under them may be liberally copied,    
modified and distributed. We know of no circumstance under which these licenses 
have been challenged or interpreted in court. Accordingly, it is possible that a
court would hold these licenses to be unenforceable in the event that someone   
were to file a claim asserting proprietary rights in a program developed and    
distributed under them. Any ruling by a court that these licenses are not       
enforceable, or that Linux-based operating systems, or significant portions of  
them, may not be liberally copied, modified or distributed, would have the      
effect of preventing us from selling or developing our products.                

OUR PRODUCTS MAY CONTAIN DEFECTS THAT MAY BE COSTLY TO CORRECT, DELAY MARKET    
ACCEPTANCE OF OUR PRODUCTS AND EXPOSE US TO LITIGATION                      

    Despite testing by us and our customers, errors may be found in our products
after commencement of commercial shipments. This risk is exacerbated by the fact
that most of the code in our products is developed by independent parties over  
whom we exercise no supervision or control. If errors are discovered, we may    
have to make significant expenditures of capital to eliminate them and yet may  
not be able to successfully correct them in a timely manner or at all. Errors   
and failures in our products could result in a loss of, or delay in, market     
acceptance of our products and could damage our reputation and our ability to   
convince commercial users of the benefits of Linux-based operating systems and  
other open source software products.                                            

 In addition, failures in our products could cause system failures for our
customers who may assert warranty and other claims for substantial damages      
against us. Although our license agreements with our customers typically contain
provisions designed to limit our exposure to potential product liability        

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claims, it is possible that these provisions may not be effective or enforceable
under the laws of some jurisdictions. Our insurance policies may not adequately 
limit our exposure to this type of claim. These claims, even if unsuccessful,   
could be costly and time consuming to defend.                                   

WE ARE VULNERABLE TO CLAIMS THAT OUR PRODUCTS INFRINGE THIRD-PARTY INTELLECTUAL 
PROPERTY RIGHTS PARTICULARLY BECAUSE OUR PRODUCTS ARE COMPRISED OF MANY     
DISTINCT SOFTWARE COMPONENTS DEVELOPED BY THOUSANDS OF INDEPENDENT PARTIES  

We may be exposed to future litigation based on claims that our products
infringe the intellectual property rights of others. This risk is exacerbated by
the fact that most of the code in our products is developed by independent      
parties over whom we exercise no supervision or control. Claims of infringement 
could require us to reengineer our products or seek to obtain licenses from     
third parties in order to continue offering our products. In addition, an       
adverse legal decision affecting our intellectual property, or the use of       
significant resources to defend against this type of claim, could place a       
significant strain on our financial resources and harm our reputation.          

OUR EFFORTS TO PROTECT OUR TRADEMARKS MAY NOT BE ADEQUATE TO PREVENT THIRD      
PARTIES FROM MISAPPROPRIATING OUR INTELLECTUAL PROPERTY RIGHTS              

    Our most valuable intellectual property is our collection of trademarks. The
protective steps we have taken in the past have been, and may in the future     
continue to be, inadequate to deter misappropriation of our trademark rights.   
Although we do not believe that we have suffered any material harm from         
misappropriation to date, we may be unable to detect the unauthorized use of, or
take appropriate steps to enforce, our trademark rights. We have registered some
of our trademarks in the United States, Europe and Australia and have other     
trademark applications pending in Australia, Canada and Europe. Effective       
trademark protection may not be available in every country in which we offer or 
intend to offer our products and services. Failure to adequately protect our    
trademark rights could damage or even destroy the Red Hat brand and impair our  
ability to compete effectively. Furthermore, defending or enforcing our         
trademark rights could result in the expenditure of significant financial and   
managerial resources. See "Business-- Intellectual Property".                   

WE MAY BE SUED AS A RESULT OF INFORMATION PUBLISHED OR POSTED ON OR ACCESSIBLE  
FROM OUR REDHAT.COM WEB SITE                                                

We may be subjected to claims for defamation, negligence, copyright or  
trademark infringement or other claims relating to the information we publish on
our web site. These types of claims have been brought, sometimes successfully,  
against online services in the past, and can be costly to defend. We may also be
subjected to claims based on content that is accessible from our web site       
through links to other web sites or through content and materials that may be   
posted by visitors to our web site. We believe that the scope and amount of our 
commercial and general liability insurance is appropriate, given our current    
financial position. However, this insurance may not adequately protect us       
against these types of claims. We have not been a party to any lawsuit of this  
type to date.                                                                   

OUR SOFTWARE PRODUCTS, AS WELL AS THOSE OF OUR CUSTOMERS AND SUPPLIERS, COULD   
FAIL AS A RESULT OF THE YEAR 2000 PROBLEM                                   

We have conducted a review of Red Hat Linux and our internal systems to 
identify functions that need correction to be "Year 2000 compliant". We have    
not, however, tested our other products and have not tested or sought           
certifications from third parties bundling software applications and components 
with Official Red Hat Linux. Any failure by our products or third-party software
bundled with our products to function in the Year 2000 may decrease the value of
our products, give rise to warranty claims and tarnish the Red Hat brand.       
Additionally, the Year 2000 problem may affect us by causing disruptions in the 
business operations of, or delay technology purchases by, companies with which  
we do business, such as customers and suppliers causing a                       

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decrease in our product revenue. See "Management's Discussion and Analysis of   
Financial Condition and Results of Operations--Year 2000 Compliance".           

RISKS RELATED TO THIS OFFERING

CONCENTRATION OF OWNERSHIP WILL LIMIT YOUR ABILITY TO INFLUENCE CORPORATE       
MATTERS                                                                     
  Immediately following this offering, our directors, executive officers and
their affiliates will beneficially own approximately 67.7% of our outstanding   
common stock. These stockholders could determine the outcome of actions taken by
us that require stockholder approval. For example, these stockholders could     
elect all of our directors, delay or prevent a transaction in which stockholders
might receive a premium over the prevailing market price for their shares and   
control changes in management.                                                  

PROVISIONS OF OUR CHARTER AND BY-LAWS MAY DELAY OR PREVENT TRANSACTIONS THAT    
MANY STOCKHOLDERS MAY FAVOR                                                 

  Provisions of our certificate of incorporation and by-laws may discourage,
delay or prevent a merger or acquisition that stockholders may consider         
favorable, including transactions in which you might otherwise receive a premium
for your shares. These provisions include:                                      

    - authorizing the issuance of "blank check" preferred stock without any need
for action by stockholders;                                         

 - providing for a classified board of directors with staggered three-year
terms;                                                              

    - requiring supermajority stockholder voting to effect certain amendments to
our certificate of incorporation and by-laws;                       

- eliminating the ability of stockholders to call special meetings of   
stockholders;                                                       

- prohibiting stockholder action by written consent; and                

  - establishing advance notice requirements for nominations for election to
   the board of directors or for proposing matters that can be acted on by
stockholders at stockholder meetings.                               

Some provisions of Delaware law may also discourage, delay or prevent   
someone from acquiring us or merging with us. See "Description of Capital       
Stock--Delaware Law and Certain Charter and By-Law Provisions and Anti-Takeover 
Effects".                                                                       

OUR STOCK PRICE MAY BE EXTREMELY VOLATILE AND YOU MAY NOT BE ABLE TO RESELL YOUR
SHARES AT OR ABOVE THE INITIAL OFFERING PRICE                               

   Following this offering, the price at which our common stock will trade may
be extremely volatile and may fluctuate significantly. We determined the initial
public offering price of our common stock, together with the underwriters, based
on an assessment of the valuation of our stock. The public market may not agree 
with or accept this valuation. In addition, the stock market has from time to   
time experienced significant price and volume fluctuations that have affected   
the market prices for the securities of technology companies, particularly      
software and internet companies. After this offering, therefore, you might not  
be able to resell your shares at or above the initial public offering price.    

A SUBSTANTIAL NUMBER OF SHARES OF OUR COMMON STOCK COULD BE SOLD INTO THE PUBLIC
MARKET SOON AFTER THIS OFFERING, WHICH COULD DEPRESS OUR STOCK PRICE        

Once a trading market develops for our common stock, many of our        
stockholders will have an opportunity to sell their stock for the first time.   
More than 60,000,000 shares, or ten times the number of shares sold in this     
offering, assuming no exercise of the underwriters' over-allotment option, will 
become eligible for sale in the public market at various dates beginning 180    
days after the date of this prospectus. Sales of a substantial number of shares 
of common stock in the public market, or the threat that substantial sales might
occur, could cause the market price of our stock to decrease significantly.     
These factors could also make it difficult for us to raise additional capital by
selling stock. See "Shares Eligible for Future Sale".                           

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS 

Some of the statements under "Prospectus Summary", "Risk Factors",      
"Management's Discussion and Analysis of Financial Condition and Results of     
Operations", "Business", and elsewhere in this prospectus constitute            
forward-looking statements. In some cases, you can identify forward-looking     
statements by terminology such as "may", "will", "should", "expects", "plans",  
"anticipates", "believes", "estimated", "predicts", "potential", or "continue"  
or the negative of such terms or other comparable terminology. These statements 
are only predictions and involve known and unknown risks, uncertainties, and    
other factors that may cause our or our industry's actual results, levels of    
activity, performance, or achievements to be materially different from any      
future results, levels of activity, performance, or achievements expressed or   
implied by such forward-looking statements. These factors include, among other  
things, those listed under "Risk Factors" and elsewhere in this prospectus.     

  Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of        
activity, performance, or achievements. We are under no duty to update any of   
the forward-looking statements after the date of this prospectus to conform     
forward-looking statements to actual results.                                   

USE OF PROCEEDS 

We estimate the net proceeds to us from the sale of 6,000,000 shares of 
common stock in this offering to be approximately $76,870,000 at the initial    
public offering price of $14.00 per share and after deducting the underwriting  
discount and estimated offering expenses. If the underwriters' over-allotment   
option is exercised in full, we estimate net proceeds will be $88,588,000.      

  The principal purposes of this offering are to increase our capitalization
and financial flexibility, to provide a public market for the common stock and  
to facilitate access to public equity markets.                                  

We expect to use the net proceeds for working capital and other general 
corporate purposes, including geographic expansion involving the establishment  
of additional foreign offices and/or subsidiaries. We have not allocated any    
specific portion of the net proceeds to any particular purpose, and our         
management will have the ability to allocate the proceeds at its discretion. A  
portion of the net proceeds may be used for the acquisition of businesses,      
products and technologies that are complementary to our own. The net proceeds of
this offering will be invested in short-term, interest-bearing, investment-grade
securities until allocated for specific use.                                    

DIVIDEND POLICY 

We have never paid any cash dividends on our common stock and do not    
anticipate paying any cash dividends in the foreseeable future. We presently    
intend to retain future earnings, if any, to finance the expansion and growth of
our business. Payment of future dividends, if any, will be at the discretion of 
our Board of Directors after taking into account various factors, including our 
financial condition, operating results, current and anticipated cash needs and  
plans for expansion.                                                            

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CAPITALIZATION

  The following table sets forth the capitalization of Red Hat as of May 31,
1999:                                                                           

- on an actual basis;                                                   

- on a pro forma basis after giving effect to the conversion of our     
   outstanding preferred stock into common stock which will occur upon the
closing of this offering; and                                       

- on a pro forma as adjusted basis to reflect the sale of the 6,000,000 
 shares of common stock offered in this offering at the initial public
offering price of $14.00 per share after deducting the underwriting 
discount and estimated offering expenses.                           

   The outstanding share information excludes 5,369,088 shares of common stock
issuable upon the exercise of stock options outstanding on May 31, 1999,        
3,197,450 shares of common stock issuable upon the exercise of warrants         
outstanding on May 31, 1999 and 9,274,160 shares reserved as of May 31, 1999 for
future stock option grants and purchases under Red Hat's equity compensation    
plans. See "Management--Employee Benefit Plans" and note 11 to notes to         
financial statements.                                                           

You should read this information together with Red Hat's financial      
statements and the notes to those statements appearing elsewhere in this        
prospectus.                                                                     

                                                        [Enlarge/Download Table]

                                                                                            MAY 31, 1999            
                                                                                ------------------------------------
                                                                                                         PRO FORMA  
                                                                                 ACTUAL     PRO FORMA   AS ADJUSTED 
                                                                                ---------  -----------  ------------
                                                                                           (IN THOUSANDS)           
                                                                                                                    
Long-term obligations.........................................................  $      --   $      --    $       -- 
Stockholders' equity (deficit):                                                                                     
Preferred stock:                                                                                                    
  Series A preferred stock, par value $.0001; 6,801,400 shares authorized,                                          
    issued and outstanding (actual); no shares authorized, issued or                                                
    outstanding (pro forma and pro forma as adjusted).........................      1,997          --            -- 
  Series B preferred stock, par value $.0001; 8,116,550 shares authorized,                                          
    issued and outstanding (actual); no shares authorized, issued or                                                
    outstanding (pro forma and pro forma as adjusted).........................      6,936          --            -- 
  Series C preferred stock, par value $.0001; 2,054,776 shares authorized,                                          
    2,054,776 issued and outstanding (actual); no shares authorized, issued or                                      
    outstanding (pro forma and pro forma as adjusted).........................      6,405          --            -- 
  Preferred stock, par value $0.0001; no shares authorized, issued or                                               
    outstanding (actual); 5,000,000 shares authorized and no shares issued or                                       
    outstanding (pro forma and pro forma as adjusted).........................         --          --            -- 
  Common stock, par value $.0001; 225,000,000 shares authorized, 26,134,502                                         
    shares issued and outstanding (actual); 225,000,000, shares authorized,                                         
    60,079,954 shares issued and outstanding (pro forma); 225,000,000 shares                                        
    authorized, 66,079,954 shares issued and outstanding (pro forma as                                              
    adjusted).................................................................          3           6             7 
  Additional paid-in capital..................................................      5,946      21,281        98,150 
  Deferred compensation.......................................................     (3,578)     (3,578)       (3,578)
  Accumulated deficit.........................................................     (2,567)     (2,567)       (2,567)
                                                                                ---------  -----------  ------------
  Total stockholders' equity (deficit)........................................       (196)     15,142        92,012 
                                                                                ---------  -----------  ------------
  Total capitalization........................................................  $  15,142   $  15,142    $   92,012 
                                                                                ---------  -----------  ------------
                                                                                ---------  -----------  ------------

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DILUTION

   Red Hat's net tangible book value per share immediately after this offering
will be substantially less than the assumed initial public offering price. Red  
Hat's pro forma net tangible book value as of May 31, 1999 was $15.1 million, or
$0.25 per share. Pro forma net tangible book value per share represents the pro 
forma amount of total tangible assets less total liabilities, divided by the    
number of pro forma shares of common stock outstanding. After giving effect to  
the sale by us of the 6,000,000 shares of common stock in this offering at the  
initial public offering price of $14.00 per share, after deducting the          
underwriting discount and estimated offering expenses, the pro forma as adjusted
net tangible book value of Red Hat as of May 31, 1999 would have been $92.0     
million, or $1.39 per share. This represents an immediate increase in pro forma 
as adjusted net tangible book value of $1.14 per share to existing stockholders 
and an immediate dilution of $12.61 per share to investors purchasing common    
stock in this offering. The following table illustrates this per share dilution:

                                                        [Enlarge/Download Table]
                                                                                                 
Initial public offering price...............................................            $   14.00
  Pro forma net tangible book value per share prior to this offering........ $    0.25           
  Increase per share attributable to this offering..........................      1.14           
                                                                             ---------           
Adjusted pro forma net tangible book value per share after this offering....                 1.39
                                                                                        ---------
Dilution per share to new investors.........................................            $   12.61
                                                                                        ---------
                                                                                        ---------

 Assuming the exercise in full of the underwriters' over-allotment option,
Red Hat's pro forma as adjusted net tangible book value at May 31, 1999 would be
approximately $1.55 per share, representing an immediate increase in the pro    
forma net tangible book value of $1.30 per share to Red Hat's existing          
stockholders and an immediate decrease in net tangible book value of $12.45 per 
share to new investors.                                                         

   The following table summarizes, on a pro forma as adjusted basis, as of May
31, 1999, the difference between the number of shares of common stock purchased 
from Red Hat, the total consideration paid to Red Hat, and the average price per
share paid by existing stockholders and by new investors at the initial public  
offering price of $14.00 per share, before deducting the estimated underwriting 
discounts and offering expenses.                                                

                                                        [Enlarge/Download Table]

                                                 SHARES PURCHASED             TOTAL CONSIDERATION                     
                                           ----------------------------  -----------------------------  AVERAGE PRICE 
                                               NUMBER         PERCENT         AMOUNT         PERCENT      PER SHARE   
                                           ---------------  -----------  ----------------  -----------  --------------
                                                                                                                      
Existing stockholders.....................      60,079,954        90.9%  $     17,516,806        17.3%    $     0.29  
New investors.............................       6,000,000         9.1         84,000,000        82.7          14.00  
                                           ---------------       -----   ----------------       -----                 
    Total.................................      66,079,954       100.0%  $    101,516,806       100.0%                
                                           ---------------       -----   ----------------       -----                 
                                           ---------------       -----   ----------------       -----                 

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

  The discussion and the tables above assume no exercise of stock options or
warrants outstanding on May 31, 1999 and no issuance of shares reserved for     
future issuance under Red Hat's equity plans. As of May 31, 1999, there were    
options outstanding to purchase 5,369,088 shares of common stock at a weighted  
average exercise price of $1.23 per share and warrants outstanding to purchase  
3,197,450 shares of common stock at an exercise price of $.0001 per share.      
Assuming the exercise in full of all of these options and warrants, Red Hat's   
pro forma as adjusted net tangible book value at May 31, 1999 would be $1.43 per
share, representing an immediate increase in the pro forma net tangible book    
value of $1.18 per share to Red Hat's existing stockholders and an immediate    
decrease in net tangible book value of $12.57 per share to new investors. See   
"Capitalization" and "Management--Employee Benefit Plans".                      

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SELECTED FINANCIAL DATA 

   The statement of operations data presented below for the fiscal years ended
February 28, 1997, February 28, 1998 and February 28, 1999, and the balance     
sheet data as of February 28, 1998 and February 28, 1999, have been derived from
our financial statements which have been audited by PricewaterhouseCoopers LLP, 
independent accountants, and are included elsewhere in this prospectus. The     
statement of operations data for the three months ended May 31, 1998 and May 31,
1999 and the balance sheet data as of May 31, 1999 have been derived from our   
unaudited financial statements included elsewhere in this prospectus. In the    
opinion of management, these unaudited interim financial statements include all 
adjustments (consisting of normal recurring adjustments) necessary for the fair 
presentation of financial position, results of operations and cash flows. The   
balance sheet data as of February 28, 1997 have been derived from our audited   
financial statements which are not included in this prospectus. The statement of
operations data for the fiscal years ended February 28, 1995 and February 29,   
1996, and the balance sheet data as of February 28, 1995 and February 29, 1996  
have been derived from our unaudited financial statements which are not included
in this prospectus. You should read the data presented below in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of     
Operations" and the financial statements and notes to those statements appearing
elsewhere in this prospectus.                                                   

                                                        [Enlarge/Download Table]

                                                                       YEAR ENDED FEBRUARY 28,            
                                                             -------------------------------------------- 
                                                              1995    1996(2)    1997     1998     1999   
                                                             -------  -------   -------  -------  ------- 
                                                                                                          
                                                                (IN THOUSANDS, EXCEPT PER SHARE DATA)     
STATEMENT OF OPERATIONS DATA:                                                                             
Revenue:                                                                                                  
  Software and related products............................. $   482  $  930    $ 2,603  $ 5,132  $10,013 
  Web advertising...........................................      --      --         --       --       -- 
  Services and other........................................      --      --         --       24      777 
                                                             -------  -------   -------  -------  ------- 
    Total revenue...........................................     482     930      2,603    5,156   10,790 
Cost of revenue:                                                                                          
  Software and related products.............................     352     432      1,205    2,211    4,013 
  Web advertising...........................................      --      --         --       --       -- 
  Services and other........................................      --      --         --       --       28 
                                                             -------  -------   -------  -------  ------- 
    Total cost of revenue...................................     352     432      1,205    2,211    4,041 
                                                             -------  -------   -------  -------  ------- 
Gross profit................................................     130     498      1,398    2,945    6,749 
                                                             -------  -------   -------  -------  ------- 
Operating expense:                                                                                        
  Sales and marketing.......................................     133     241        491    1,252    3,083 
  Research and development..................................      80     250        325      903    2,220 
  General and administrative................................      44     140        526      799    1,484 
                                                             -------  -------   -------  -------  ------- 
    Total operating expenses................................     257     631      1,342    2,954    6,787 
                                                             -------  -------   -------  -------  ------- 
  Income (loss) from operations.............................    (127)   (133)        56       (9)     (38)
Other income (expense), net.................................      (1)    (22)       (23)      22      162 
                                                             -------  -------   -------  -------  ------- 
Income (loss) before income taxes...........................    (128)   (155)        33       13      124 
Provision for income taxes..................................      --      --         --        5      215 
                                                             -------  -------   -------  -------  ------- 
Net income (loss)...........................................    (128)   (155)        33        8      (91)
Accretion on mandatorily redeemable preferred stock.........      --      --         --       --      (39)
                                                             -------  -------   -------  -------  ------- 
Net income (loss) available to common stockholders.......... $  (128) $ (155)   $    33  $     8  $  (130)
                                                             -------  -------   -------  -------  ------- 
                                                             -------  -------   -------  -------  ------- 
Earnings (loss) per common share (1):                                                                     
  Basic.....................................................   (0.01)  (0.01)      0.00     0.00    (0.01)
  Diluted...................................................   (0.01)  (0.01)      0.00     0.00    (0.01)
Weighted average common shares outstanding:                                                               
  Basic.....................................................  12,000  22,626     23,500   23,500   23,550 
  Diluted...................................................  12,000  22,626     27,233   34,578   23,550 
Pro forma net income (loss) per common share (1):                                                         
  Basic.....................................................   (0.01)  (0.01)      0.00     0.00     0.00 
  Diluted...................................................   (0.01)  (0.01)      0.00     0.00     0.00 
Shares of common stock used in computing pro forma net                                                    
  income (loss) per share:                                                                                
  Basic.....................................................  12,000  22,626     23,500   30,842   43,930 
  Diluted...................................................  12,000  22,626     27,233   34,578   43,930 



                                                               THREE MONTHS                               
                                                              ENDED MAY 31,                               
                                                             ----------------                             
                                                              1998     1999                               
                                                             -------  -------                             
                                                               (UNAUDITED)                                
                                                                                                          

STATEMENT OF OPERATIONS DATA:                                                                             
Revenue:                                                                                                  
  Software and related products............................. $ 1,374  $ 1,936                             
  Web advertising...........................................      --       80                             
  Services and other........................................     177      781                             
                                                             -------  -------                             
    Total revenue...........................................   1,551    2,797                             
Cost of revenue:                                                                                          
  Software and related products.............................     682    1,181                             
  Web advertising...........................................      --      123                             
  Services and other........................................      --      443                             
                                                             -------  -------                             
    Total cost of revenue...................................     682    1,747                             
                                                             -------  -------                             
Gross profit................................................     869    1,050                             
                                                             -------  -------                             
Operating expense:                                                                                        
  Sales and marketing.......................................     382    1,629                             
  Research and development..................................     341      826                             
  General and administrative................................     214      824                             
                                                             -------  -------                             
    Total operating expenses................................     937    3,279                             
                                                             -------  -------                             
  Income (loss) from operations.............................     (68)  (2,229)                            
Other income (expense), net.................................      15      140                             
                                                             -------  -------                             
Income (loss) before income taxes...........................     (53)  (2,089)                            
Provision for income taxes..................................      --       --                             
                                                             -------  -------                             
Net income (loss)...........................................     (53)  (2,089)                            
Accretion on mandatorily redeemable preferred stock.........      --      (43)                            
                                                             -------  -------                             
Net income (loss) available to common stockholders.......... $   (53) $(2,132)                            
                                                             -------  -------                             
                                                             -------  -------                             
Earnings (loss) per common share (1):                                                                     
  Basic.....................................................    0.00    (0.09)                            
  Diluted...................................................    0.00    (0.09)                            
Weighted average common shares outstanding:                                                               
  Basic.....................................................  23,500   24,383                             
  Diluted...................................................  23,500   24,383                             
Pro forma net income (loss) per common share (1):                                                         
  Basic.....................................................    0.00    (0.04)                            
  Diluted...................................................    0.00    (0.04)                            
Shares of common stock used in computing pro forma net                                                    
  income (loss) per share:                                                                                
  Basic.....................................................  37,103   57,782                             
  Diluted...................................................  37,103   57,782                             

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                                                        [Enlarge/Download Table]

                                                                     FEBRUARY 28,                MAY 31, 
                                                        ---------------------------------------  ------- 
                                                        1995   1996(2)   1997    1998    1999     1999   
                                                        -----  -------   -----  ------  -------  ------- 
                                                                                                         
                                                                         (IN THOUSANDS)                  
BALANCE SHEET DATA:                                                                                      
Cash and cash equivalents.............................. $  --   $  --    $  --  $1,293  $10,055  $13,982 
Working capital (deficit)..............................  (129)   (160)    (324)  1,541   11,100   13,217 
Total assets...........................................   106     245      670   3,131   15,276   22,162 
Long term liabilities..................................    --      30      145      65      420      385 
Mandatorily redeemable preferred stock.................    --      --       --   1,983   12,107   15,338 
Total stockholders' equity (deficit)...................   (42)    (79)     (46)    (38)      (5)    (196)

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

(1) See note 2 to notes to financial statements.                                

(2) Red Hat's fiscal year ended on February 29, 1996.                           

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

    THE FOLLOWING DISCUSSION AND ANALYSIS SHOULD BE READ IN CONJUNCTION WITH RED
HAT'S FINANCIAL STATEMENTS AND RELATED NOTES INCLUDED ELSEWHERE IN THIS         
PROSPECTUS. THE FOLLOWING DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS THAT   
INVOLVE RISKS AND UNCERTAINTIES. ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE
INDICATED IN SUCH FORWARD-LOOKING STATEMENTS. SEE "SPECIAL NOTE REGARDING       
FORWARD-LOOKING STATEMENTS".                                                    

OVERVIEW

 Red Hat, Inc. is a leading developer and provider of open source software
products and services, and has built a comprehensive web site dedicated to the  
open source software community. Red Hat, Inc. was incorporated in Connecticut in
March 1993 as ACC Corp., Inc. In September 1995, ACC Corp., Inc. changed its    
name to Red Hat Software, Inc. In September 1998, Red Hat Software, Inc.        
reincorporated in Delaware. In June 1999, Red Hat Software, Inc. changed its    
name to Red Hat, Inc. We have financed our activities to date through proceeds  
from the private sale of equity securities and cash flow from operations.       

Sales of Official Red Hat Linux have represented our principal source of
revenue since its introduction in October 1994. We derive our software and      
related products revenue primarily from the sale of software products:          

- through distributors to enterprise and retail accounts;               

 - directly to individual users and enterprises through our REDHAT.COM web
site and our call center; and                                       

    - from original equipment manufacturers which license our software directly.

We recognize revenue from software product sales to distributors and original   
equipment manufacturers for which no technical support is provided at the time  
our products are shipped, net of a reserve for estimated sales returns. This    
reserve is recognized based on our historical experience of these distributors' 
rates of sell-through to the end user. Revenue from the sale of software        
products to individual users and enterprises for which no technical support is  
provided is recognized on the date we ship the software products. Upon the      
release of Version 6.0 of Red Hat Linux in May 1999, we began selling Official  
Red Hat Linux with 30 days of free telephone technical support and 90 days of   
free e-mail technical support. In accordance with the provisions of Statement of
Opinion No. 97-2 "Software Revenue Recognition", we are recognizing all of the  
revenue from the sale of Version 6.0 of Official Red Hat Linux ratably over the 
period that the technical support services are provided in proportion to the    
costs incurred to provide such technical support services as compared to        
estimated total costs to be incurred.                                           

    We have recently added new features to our REDHAT.COM web site. We intend to
develop additional features for our web site which we believe will result in    
both a substantial increase in the number of visitors who access our web site   
and increased advertising revenue. Advertising revenue is derived principally   
from short-term advertising contracts in which we typically guarantee a minimum 
number of impressions to be delivered to users over a specified period of time  
for a fixed fee. Advertising rates are typically measured on a cost per thousand
impressions basis. Advertising revenue is recognized ratably in the period in   
which the advertisement is displayed, provided that we have no significant      
remaining obligations, at the lesser of the ratio of impressions delivered over 
total guaranteed impressions or the straight line basis over the term of the    
contract. If we do not meet minimum guaranteed impressions requirements, we     
defer recognition of the corresponding revenue until the minimum number of      
guaranteed impressions is                                                       

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achieved. We did not generate revenue from the sale of advertising on our web   
site until the first quarter of the fiscal year ending February 29, 2000.       
However, we believe that the expected increase in traffic on our web site, along
with our focus on marketing our advertising services, will generate significant 
advertising revenue in the future.                                              

Prior to March 1999, we did not provide any service offerings to our    
customers. In March 1999, we expanded our service offerings to include          
comprehensive support and maintenance, custom development, consulting and       
education services. Although these services generated only an insignificant     
amount of revenue through February 28, 1999, we earned $0.6 million in service  
revenues during the three months ended May 31, 1999. We believe that because our
revenue has historically been derived from product offerings, this expansion in 
and active marketing of our service offerings will cause our services revenue to
continue to increase significantly as a percentage of total revenue in the      
fiscal year ending February 29, 2000. Revenue from support and maintenance      
agreements is deferred and recognized ratably over the term of the related      
agreement, which is typically one year. Revenue from custom development,        
consulting and education services, which includes offering training courses and 
hardware certification services, is recognized as the services are provided.    

Our software products are sold worldwide, with all of our total revenue 
coming from North America, except for some royalties received from international
sources which totalled less than $50,000 for the fiscal year ended February 28, 
1999. In June 1999 we established international operations and we expect that   
total revenue derived from sales outside of North America will increase in the  
fiscal year ending February 29, 2000 as we expand these operations.             

  We have historically experienced fluctuations in our results of operations
related to the release of major upgrades to Red Hat Linux. We believe that the  
anticipation by our customers of the release of these upgrades has resulted in, 
and will continue to result in, a decline in sales for several months prior to  
the release and an increase in sales immediately following the release. Prior to
our release in May 1999 of Version 6.0 of Official Red Hat Linux, software      
product sales decreased, but after the release we experienced an immediate      
significant increase in both the volume and dollar amount of software product   
sales. In addition, we believe that revenue from the sale of Official Red Hat   
Linux and related products will decline as a percentage of total revenue in the 
future as we continue to expand our services offerings and execute our web      
initiative.                                                                     

  Sales of software products to distributors comprised $0.7 million or 26.1%
of total software and related products revenue in the fiscal year ended February
28, 1997, $0.9 million or 17.3% of total software and related products revenue  
in the fiscal year ended February 28, 1998, and $5.9 million or 58.2% of total  
software and related products revenue in the fiscal year ended February 28,     
1999. Sales of software products to end users through our REDHAT.COM web site   
and call center comprised $1.9 million or 73.9% of total software and related   
products revenue in the fiscal year ended February 28, 1997, $3.0 million or    
58.8% of total software and related products revenue in the fiscal year ended   
February 28, 1998 and $3.2 million or 29.6% of total software and related       
products revenue in the fiscal year ended February 28, 1999.                    

    We plan to expand sales through distributors as well as direct sales through
our web site. We also plan to expand our original equipment manufacturer        
relationships in the fiscal year ending February 29, 2000 and therefore expect  
that our original equipment manufacturer-related revenue for this fiscal year   
will increase significantly as a percentage of total revenue as compared to the 
fiscal year ended February 28, 1999.                                            

Sales to Frank Kasper & Associates, one of our primary distributors,    
constituted approximately 16.0% of total revenue in the fiscal year ended       
February 28, 1997, and                                                          

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26.0% of total revenue in the fiscal year ended February 28, 1998. Sales to     
Frank Kasper & Associates and to Ingram Micro, our two largest distributors in  
fiscal 1999, comprised 54.0% of total revenue in the fiscal year ended February 
28, 1999. We provide our distributors an advertising allowance on a quarterly   
basis, determined upon our approval of the distributors' advertising plans.     
Distributors must then submit to us a detailed list of expenses incurred by us. 
We pay all approved expenses and recognize these costs as a component of sales  
and marketing expense as such expenses are incurred.                            

 We employed 140 people at June 30, 1999, compared to 38 at March 1, 1998.
This increase in headcount resulted primarily from:                             

- an increase in administrative personnel as we recruited our management
team;                                                               

 - an increase in support, maintenance, consulting and education personnel
     associated with our efforts to develop the infrastructure of our services
organization;                                                       

- an increase in research and development personnel; and                

- the commencement of international operations.                         

We expect to continue to increase expenses associated with our sales and
marketing, research and development and general and administrative groups in    
anticipation of continued growth and expansion. Given the expected increase in  
headcount, we anticipate that we will need to either expand our existing offices
or lease additional office space at a separate location within the next 12 to 18
months. We believe that this expansion will result in an increase in total      
facilities costs.                                                               

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RESULTS OF OPERATIONS 

The following table sets forth the results of operations for Red Hat    
expressed as a percentage of total revenue. The historical results are not      
necessarily indicative of results to be expected for any future period.         

                                                        [Enlarge/Download Table]

                                                                                     THREE MONTHS ENDED     
                                                       YEAR ENDED FEBRUARY 28,            MAY 31,           
                                                   -------------------------------  --------------------    
                                                                                                            
                                                     1997       1998       1999       1998       1999       
                                                   ---------  ---------  ---------  ---------  ---------    
                                                                                        (UNAUDITED)         
Revenue:                                                                                                    
  Software and related products...................     100.0%      99.5%      92.8%      88.6%      69.2%   
  Web advertising.................................       0.0        0.0        0.0        0.0        2.9    
  Services and other..............................       0.0        0.5        7.2       11.4       27.9    
                                                   ---------  ---------  ---------  ---------  ---------    
    Total revenue.................................     100.0      100.0      100.0      100.0      100.0    

Cost of revenue:                                                                                            
  Software and related products...................      46.3       42.9       37.2       44.0       42.2    
  Web advertising.................................       0.0        0.0        0.0        0.0        4.4    
  Services and other..............................       0.0        0.0        0.2        0.0       15.8    
                                                   ---------  ---------  ---------  ---------  ---------    
    Total cost of revenue.........................      46.3       42.9       37.4       44.0       62.4    

Gross profit......................................      53.7       57.1       62.6       56.0       37.6    

Operating expense:                                                                                          
  Sales and marketing.............................      18.8       24.3       28.6       24.6       58.2    
  Research and development........................      12.5       17.5       20.6       22.0       29.5    
  General and administrative......................      20.2       15.5       13.7       13.8       29.5    
                                                   ---------  ---------  ---------  ---------  ---------    
    Total operating expense.......................      51.5       57.3       62.9       60.4      117.2    

Income (loss) from operations.....................       2.2       (0.2)      (0.3)      (4.4)     (79.6)   

Other income (expense), net.......................      (0.9)       0.4        1.5        1.0        5.0    

Income before income taxes........................       1.3        0.2        1.2       (3.4)     (74.6)   

Provision for income taxes........................       0.0        0.1        2.0        0.0        0.0    
                                                   ---------  ---------  ---------  ---------  ---------    

Net income (loss).................................       1.3        0.1       (0.8)      (3.4)     (74.6)   

Accretion on mandatorily redeemable preferred                                                               
  stock...........................................       0.0        0.0       (0.4)       0.0       (1.5)   
                                                   ---------  ---------  ---------  ---------  ---------    

Net income (loss) available to common                                                                       
  stockholders....................................       1.3%       0.1%      (1.2)%      (3.4)%     (76.1)%
                                                   ---------  ---------  ---------  ---------  ---------    
                                                   ---------  ---------  ---------  ---------  ---------    

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THREE MONTHS ENDED MAY 31, 1999 AND 1998                                        

TOTAL REVENUE                                                                   

   Total revenue increased 80.3% to $2.8 million in the three months ended May
31, 1999 from $1.6 million in the three months ended May 31, 1998. Substantially
all of our revenue for the three months ended May 31, 1999 came from customers  
located in the United States.                                                   

SOFTWARE AND RELATED PRODUCTS REVENUE                                   

Software and related products revenue is comprised primarily of sales of
Official Red Hat Linux and related software products and sales of publications  
about Linux-based operating systems. Software and related products revenue      
increased 40.9% to $1.9 million or 69.2% of total revenue in the three months   
ended May 31, 1999 from $1.4 million or 88.6% of total revenue in the three     
months ended May 31, 1998. The decrease in software and related products as a   
percentage of total revenue was due to the increase in services and other       
revenue.                                                                        

   Software products revenue increased to $1.3 million during the three months
ended May 31, 1999 from $1.0 million for the three months ended May 31, 1998.   
The increase in software products revenue was due to higher sales of Official   
Red Hat Linux, as a result of the release of Version 6.0 of Official Red Hat    
Linux in May 1999.                                                              

   Related products revenue, which is comprised of revenue from sales of books
and other products, increased to $0.6 million during the three months ended May 
31, 1999 compared to $0.4 million in the three months ended May 31, 1998.       

WEB ADVERTISING REVENUE                                                 

Web advertising revenue is comprised of fees generated from short-term  
contracts with advertisers to present advertising on our web site. Web          
advertising revenue increased to $80,000 in the three months ended May 31, 1999 
from zero in the three months ended May 31, 1998. As a percentage of total      
revenue, web advertising revenue increased to 2.9% in the three months ended May
31, 1999 from zero in the three months ended May 31, 1998. These increases were 
due to the commencement of our web initiative during the three months ended May 
31, 1999.                                                                       

SERVICES AND OTHER REVENUE                                              

Services and other revenue is comprised of support and maintenance fees,
custom development fees, consulting and education fees and royalties received   
from licensing our trademarks. Services and other revenue increased to $0.8     
million in the three months ended May 31, 1999 from $0.2 million in the three   
months ended May 31, 1998. As a percentage of total revenue, services and other 
revenue increased to 27.9% in the three months ended May 31, 1999 from 11.4% in 
the three months ended May 31, 1998.                                            

    Services and other revenue was comprised of $0.6 million in services revenue
and $0.2 million in royalties for the three months ended May 31, 1999 as        
compared to $0.1 million in services revenue and $0.1 million in royalties for  
the three months ended May 31, 1998. The increase in services revenue resulted  
primarily from an increase in consulting and education revenue earned in the    
three months ended May 31, 1999 as we expanded our course offerings, and, to a  
lesser extent, an increase in support and maintenance revenues as we began to   
sell support and maintenance services. We expect services revenue to increase   
significantly in dollar amount and as a percentage of revenues as we continue to
develop and expand our support and maintenance, custom development and          
consulting and education services and as we actively market these services.     

COST OF REVENUE                                                                 

COST OF SOFTWARE AND RELATED PRODUCTS                                   

Cost of software and related products primarily consists of expenses we 
incur to manufacture, package and distribute our products and related           
documentation. These costs include expenses for physical media, literature and  
packaging, fulfillment and                                                      

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shipping. Also included are royalties paid by us for licensing third-party      
applications included in our software products and third-party publications.    
Cost of software and related products increased 73.0% to $1.2 million in the    
three months ended May 31, 1999 from $0.7 million in the three months ended May 
31, 1998. The increase in cost of software and related products was directly    
related to the increase in sales of software and related products. As a         
percentage of software and related products revenue, cost of software and       
related products increased to 61.0% in the three months ended May 31, 1999 from 
44.0% in the three months ended May 31, 1998. This increase was primarily due to
the commencement of our program providing 30 days of telephone installation     
support with the purchase of Version 6.0 of Official Red Hat Linux in May 1999. 

COST OF WEB ADVERTISING                                                 

Cost of web advertising revenue includes the cost of developing the     
advertising and supporting the website. Cost of web advertising revenue         
increased to $0.1 million in the three months ended May 31, 1999, compared to   
zero in the three months ended May 31, 1998. As a percentage of total revenue,  
cost of web advertising revenue increased to 4.4% in the three months ended May 
31, 1999, as compared to zero in the three months ended May 31, 1998. These     
increases were due to our offering web advertising for the first time during the
three months ended May 31, 1999.                                                

COST OF SERVICES AND OTHER                                              

Cost of services includes salaries of support and maintenance, custom   
development, consulting and education personnel and related costs. Cost of      
services and other for the three months ended May 31, 1999 was primarily        
comprised of costs of salaries and other related costs incurred for our training
and certification program. We incur no direct costs related to royalties        
received for our trademarks to third parties. Cost of services and other        
increased to $0.4 million in the three months ended May 31, 1999 from zero in   
the three months ended May 31, 1998. As a percentage of services and other      
revenue, cost of services and other increased to 56.7% in the three months ended
May 31, 1999 from zero in the three months ended May 31, 1998.                  

  We expect cost of services and other to increase in the fiscal year ending
February 29, 2000, as we expand our service offerings, which will include the   
costs associated with providing technical support and maintenance, custom       
development, consulting and education. We expect these costs to be high in      
dollar amount and as a percentage of services and other revenue due to costs    
that we will incur in connection with developing and expanding our services     
organization. Cost of services and other as a percentage of services and other  
revenue is expected to vary significantly from period to period depending upon  
the mix of services we provide, whether such services are provided by us or     
third-party contractors, and overall utilization rate of our services staff.    

GROSS PROFIT                                                                    

  Gross profit increased 21.0% to $1.0 million in the three months ended May
31, 1999 from $0.9 million in the three months ended May 31, 1998. As a         
percentage of total revenue, gross profit decreased to 37.6% in the three months
ended May 31, 1999 from 56.0% in the three months ended May 31, 1998. The       
increase in gross profit is due to the increased sales of our software products,
which is primarily the result of the release of Version 6.0 of Official Red Hat 
Linux in May 1999. The decrease in gross profit as a percentage of revenue is   
the result of the commencement of our program providing telephone installation  
support with the purchase of Version 6.0 of Official Red Hat Linux for no       
additional fee and our support, maintenance, consulting and education services  
during the three months ended May 31, 1999.                                     

OPERATING EXPENSE                                                               

SALES AND MARKETING                                                     

    Sales and marketing expense consists primarily of salaries and other related
costs for sales and marketing personnel, sales                                  

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commissions, travel, public relations, marketing materials and tradeshows. Sales
and marketing expense increased 326.4% to $1.6 million in the three months ended
May 31, 1999 from $0.4 million in the three months ended May 31, 1998. As a     
percentage of total revenue, sales and marketing expense increased to 58.2% in  
the three months ended May 31, 1999 from 24.6% in the three months ended May 31,
1998. These increases were due to higher advertising and promotional costs      
incurred to promote the release of Version 6.0 of Official Red Hat Linux, and   
costs incurred to promote our web site and service offerings. Sales and         
marketing expense also includes costs resulting from joint marketing            
arrangements with distributors. These costs totaled $0.1 million in the three   
months ended May 31, 1999, as compared to zero in the three months ended May 31,
1998. This increase is due to Ingram Micro becoming a distributor of our        
software products in November 1998. We expect sales and marketing expense to    
increase in the foreseeable future as we promote the expansion of our services  
offerings and web site and expand our international operations.                 

RESEARCH AND DEVELOPMENT                                                

    Research and development expense consists primarily of personnel and related
costs for our software products and web development efforts. Research and       
development expense increased 142.2% to $0.8 million in the three months ended  
May 31, 1999 from $0.3 million in the three months ended May 31, 1998. As a     
percentage of total revenue, research and development expense increased to 29.5%
in the three months ended May 31, 1999 from 22.0% in the three months ended May 
31, 1998. These increases resulted from increased spending related to the       
development of our web initiative and costs incurred to complete the development
of Version 6.0 of Official Red Hat Linux. We expect research and development    
expenses to continue to increase in the future as we develop our web site and   
expand features in Red Hat Linux.                                               

GENERAL AND ADMINISTRATIVE                                              

General and administrative expense consists primarily of personnel and  
related costs for general corporate functions, including finance, accounting,   
legal, human resources, facilities and information system expenses. General and 
administrative expense increased 285.0% to $0.8 million in the three months     
ended May 31, 1999 from $0.2 million in the three months ended May 31, 1998. As 
a percentage of total revenue, general and administrative expense increased to  
26.9% in the three months ended May 31, 1999 from 13.8% in the three months     
ended May 31, 1998. The increase in general and administrative expense resulted 
from:                                                                           

 - an increase in payroll costs of $0.3 million due to the increase in the
     number of general and administrative personnel to 17 at May 31, 1999 from
7 at May 31, 1998                                                   

- an increase in legal and accounting costs of $0.1 million in the three
   months ended May 31, 1999 as compared to the three months ended May 31,
1998                                                                

- an increase in facilities cost of $0.1 million due to higher costs    
associated with our new headquarters.                               

 - recognition of $0.1 million in non-cash compensation expense related to
amortization of deferred compensation.                              

   We expect general and administrative expense to continue to increase in the
next 12 months as we add administrative personnel to support our business       
expansion and as we amortize, over the vesting period of the options, which is  
generally four years, the deferred compensation balance of $3.6 million related 
to stock options granted by the Board of Directors during the three months ended
May 31, 1999.                                                                   

OTHER INCOME (EXPENSE), NET                                             

   Other income (expense) consists of interest income earned on cash deposited
in money market accounts and other short-term investments and interest expense  
incurred on capital leases. Other income (expense), net increased 833.3% to     
income of $0.1 million in                                                       

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the three months ended May 31, 1999 from income of $15,000 in the three months  
ended May 31, 1998. As a percentage of total revenue, other income (expense),   
net increased to 5.0% in the three months ended May 31, 1999 from 1.0% in the   
three months ended May 31, 1998. These increases resulted from higher average   
cash and cash equivalents and short-term investment balances in the three months
ended May 31, 1999 as compared to the three months ended May 31, 1998 due to    
receipt of proceeds from sale of preferred stock in September 1998 and in       
February, March and April 1999.                                                 

PROVISION FOR INCOME TAXES                                              

    We had no provision for income taxes for the three months ended May 31, 1999
and 1998, as we incurred losses during these periods.                           

ACCRETION OF MANDATORILY REDEEMABLE PREFERRED STOCK                     

    The increase in the accretion from mandatorily redeemable preferred stock to
$43,000 in the three months ended May 31, 1999 from zero for the three months   
ended May 31, 1998 was a result of the fact that we had no outstanding          
mandatorily redeemable preferred stock prior to September 1998.                 

FISCAL YEARS ENDED FEBRUARY 28, 1999 AND 1998                                   

TOTAL REVENUE                                                                   

Total revenue increased 109.3% to $10.8 million in the fiscal year ended
February 28, 1999 from $5.2 million in the fiscal year ended February 28, 1998. 

SOFTWARE AND RELATED PRODUCTS REVENUE                                   

  Software and related products revenue increased 95.1% to $10.0 million, or
92.8% of total revenue, in the fiscal year ended February 28, 1999 from $5.1    
million, or 99.5% of total revenue, in the fiscal year ended February 28, 1998. 
The decrease in software and related products revenue as a percentage of total  
revenue was due to the increase in services and other revenue.                  

  Software products revenue increased to $9.0 million during the fiscal year
ended February 28, 1999 from $3.9 million for the fiscal year ended February 28,
1998. The increase in software products revenue was due to higher sales of      
Official Red Hat Linux. We met the higher demand for Official Red Hat Linux by  
establishing a relationship with a major distributor in November 1998 and       
subsequently adding prominent national computer and software retailers.         

 Related products revenue decreased to $1.0 million during the fiscal year
ended February 28, 1999 compared to $1.2 million in the fiscal year ended       
February 28, 1998. During the fiscal year ended February 28, 1999, we reduced   
the number of publications that we published and distributed to focus our       
efforts on our software products.                                               

SERVICES AND OTHER REVENUE                                              

Services and other revenue increased to $0.8 million in the fiscal year 
ended February 28, 1999 from $24,000 in the fiscal year ended February 28, 1998.
As a percentage of total revenue, services and other revenue increased to 7.2%  
in the fiscal year ended February 28, 1999 from 0.5% in the fiscal year ended   
February 28, 1998.                                                              

    Services and other revenue was comprised of $0.1 million in services revenue
and $0.7 million in royalties for the fiscal year ended February 28, 1999       
compared to no services revenue and $24,000 in royalties for the fiscal year    
ended February 28, 1998. The increase in services revenue resulted from the     
introduction of our training and certification program during February 1999.    

The increase in royalties resulted from the licensing of some of our    
trademarks to third parties, nationally and internationally, as a way of        
increasing our market share in markets or geographic locations important to our 
business plan. This strategy allowed us to have a local presence without        
incurring the costs associated with establishing separate operations in each of 
these markets or geographic locations. During the fiscal year ended February 28,
1999, we licensed some of our trademarks to publishers, who paid us a           

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royalty based on their sales. We expect to discontinue some of these agreements 
during the fiscal year ending February 29, 2000 due to our geographic expansion 
plans.                                                                          

COST OF REVENUE                                                                 

COST OF SOFTWARE AND RELATED PRODUCTS                                   

    Cost of software and related products increased 81.5% to $4.0 million in the
fiscal year ended February 28, 1999 from $2.2 million in the fiscal year ended  
February 28, 1998. The increase in cost of software and related products was    
directly related to the increase in sales of software and related products. As a
percentage of software and related products revenue, cost of software and       
related products decreased to 40.1% in the fiscal year ended February 28, 1999  
from 43.1% in the fiscal year ended February 28, 1998. This decrease was due to 
the decline in royalties paid to third parties because of the reduction in the  
number of third-party applications included in our software products.           

COST OF SERVICES AND OTHER                                              

  Cost of services for the fiscal year ended February 28, 1999 was primarily
comprised of salaries and other related costs incurred for our training and     
certification program which commenced in February 1999. Cost of services and    
other increased to $28,000 in the fiscal year ended February 28, 1999 from zero 
in the fiscal year ended February 28, 1998. As a percentage of services and     
other revenue, cost of services and other increased to 3.6% in the fiscal year  
ended February 28, 1999 from zero percent in the fiscal year ended February 28, 
1998. These increases were due to greater costs associated with our preparation 
to expand our service offerings through the hiring of additional personnel.     

GROSS PROFIT                                                                    

Gross profit increased 129.2% to $6.7 million in the fiscal year ended  
February 28, 1999 from $2.9 million in the fiscal year ended February 28, 1998. 
As a percentage of total revenue, gross profit increased to 62.6% in the fiscal 
year ended February 28, 1999 from 57.1% in the fiscal year ended February 28,   
1998. These increases were primarily due to an increase in royalties received   
for licensing our trademarks to third parties of $0.7 million in the fiscal year
ended February 28, 1999 for which we incurred no direct costs.                  

OPERATING EXPENSE                                                               

SALES AND MARKETING                                                     

  Sales and marketing expense increased 146.2% to $3.1 million in the fiscal
year ended February 28, 1999 from $1.3 million in the fiscal year ended February
28, 1998. Costs associated with joint marketing arrangements with distributors  
totaled $0.1 million in the fiscal year ended February 28, 1999, as compared to 
zero in the fiscal year ended February 28, 1998. As a percentage of total       
revenue, sales and marketing expense increased to 28.6% in the fiscal year ended
February 28, 1999 from 24.3% in the fiscal year ended February 28, 1998. These  
increases were due to greater costs attributable to cooperative marketing       
arrangements with distributors, which were approximately $0.1 million in the    
fiscal year ended February 28, 1999 and were zero in the fiscal year ended      
February 28, 1998, and extensive public relations activities in the fiscal year 
ended February 28, 1999 to promote our brand.                                   

RESEARCH AND DEVELOPMENT                                                

Research and development expense increased 145.9% to $2.2 million in the
fiscal year ended February 28, 1999 from $0.9 million in the fiscal year ended  
February 28, 1998. As a percentage of total revenue, research and development   
expense increased to 20.6% in the fiscal year ended February 28, 1999 from 17.5%
in the fiscal year ended February 28, 1998. These increases resulted from an    
increase in the number of research and development personnel necessary to       
support both expanded functionality and ease of use of Official Red Hat Linux,  
costs of personnel involved in the GNOME graphical user interface project, and  
increases in quality assurance and technical documentation projects.            

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GENERAL AND ADMINISTRATIVE                                              

 General and administrative expense increased 85.8% to $1.5 million in the
fiscal year ended February 28, 1999 from $0.8 million in the fiscal year ended  
February 28, 1998. The increase in general and administrative expense resulted  
from:                                                                           

 - an increase in payroll costs of $0.3 million due to the increase in the
     number of general and administrative personnel to 14 at February 28, 1999
from 5 at February 28, 1998;                                        

 - an increase in legal and accounting costs of $0.4 million in the fiscal
     year ended February 28, 1999 incurred in connection with establishment of
new business activities; and                                        

- to a lesser extent, due to approximately $60,000 in costs incurred    
associated with relocating our offices in January 1999.             

As a percentage of total revenue, general and administrative expense    
decreased to 13.7% in the fiscal year ended February 28, 1999 from 15.5% in the 
fiscal year ended February 28, 1998. This decrease was due primarily to revenue 
increasing at a higher rate than general and administrative expense.            

OTHER INCOME (EXPENSE), NET                                             

 Other income (expense), net increased 656.6% to income of $0.2 million in
the fiscal year ended February 28, 1999 from income of $20,000 in the fiscal    
year ended February 28, 1998. As a percentage of total revenue, other income    
(expense), net increased to 1.5% in the fiscal year ended February 28, 1999 from
0.4% in the fiscal year ended February 28, 1998. These increases resulted from  
higher average cash and cash equivalents and short-term investment balances in  
the fiscal year ended February 28, 1999 compared to fiscal 1998 due to receipt  
of proceeds from the sale of preferred stock in September 1998 and the repayment
of outstanding notes payable during the fiscal year ended Feburary 28, 1998.    

PROVISION FOR INCOME TAXES                                              

Provision for income taxes increased to $0.2 million in the fiscal year 
ended February 28, 1999 from $5,000 in the fiscal year ended February 28, 1998. 
Our effective tax rate increased to 173.6% of income before income taxes for the
fiscal year ended February 28, 1999 from 38.7% of income for the fiscal year    
ended February 28, 1998. These increases resulted from the growth in our taxable
income and an increase in the valuation allowance on our net deferred tax assets
due to uncertainty of realization.                                              

ACCRETION OF MANDATORILY REDEEMABLE PREFERRED STOCK                     

    Accretion of mandatorily redeemable preferred stock of $39,000 in the fiscal
year ended February 28, 1999 was a result of the issuance of mandatorily        
redeemable preferred stock in September 1998. All of the outstanding preferred  
stock will convert into common stock upon the closing of this offering.         

FISCAL YEARS ENDED FEBRUARY 28, 1998 AND 1997                                   

TOTAL REVENUE                                                                   

Total revenue increased 98.1% to $5.1 million in the fiscal year ended  
February 28, 1998 from $2.6 million in the fiscal year ended February 28, 1997. 

SOFTWARE AND RELATED PRODUCTS REVENUE                                   

   Software and related products revenue increased by 97.1% to $5.1 million in
the fiscal year ended February 28, 1998 from $2.6 million in the fiscal year    
ended February 28, 1997. The increase in software and related products revenue  
resulted from increasing acceptance of Official Red Hat Linux by technical users
as a viable operating system.                                                   

SERVICES AND OTHER REVENUE                                              

Services and other revenue increased to $24,000 in the fiscal year ended
February 28, 1998 from zero in the fiscal year ended February 28, 1997. This    
increase resulted from royalty payments received from international             

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publishers of products bearing our trademarks in the fiscal year ended February 
28, 1998.                                                                       

COST OF REVENUE                                                                 

COST OF SOFTWARE AND RELATED PRODUCTS                                   

    Cost of software and related products increased 83.5% to $2.2 million in the
fiscal year ended February 28, 1998 from $1.2 million in the fiscal year ended  
February 28, 1997. The increase in cost of software and related products        
resulted from increased sales of our software and related products. As a        
percentage of software and related products revenue, cost of software and       
related products decreased to 42.9% in the fiscal year ended February 28, 1998  
from 46.3% in the fiscal year ended February 28, 1997. This decrease was due to 
growing sales and declining costs on a per unit basis.                          

GROSS PROFIT                                                                    

Gross profit increased 110.6% to $2.9 million in the fiscal year ended  
February 28, 1998 from $1.4 million in the fiscal year ended February 28, 1997. 
As a percentage of total revenue, gross profit increased to 57.1% in the fiscal 
year ended February 28, 1998 from 53.7% in the fiscal year ended February 28,   
1997.                                                                           

OPERATING EXPENSES                                                              

SALES AND MARKETING EXPENSE                                             

  Sales and marketing expense increased 154.8% to $1.3 million in the fiscal
year ended February 28, 1998 from $0.5 million in the fiscal year ended February
28, 1997. As a percentage of total revenue, sales and marketing expense         
increased to 24.3% in the fiscal year ended February 28, 1998 from 18.8% in the 
fiscal year ended February 28, 1997. These increases resulted from additional   
expense incurred due to significantly increasing the number of sales and        
marketing personnel, increased costs attributable to cooperative marketing      
arrangements with distributors, and higher advertising and tradeshows costs.    

RESEARCH AND DEVELOPMENT EXPENSE                                        

Research and development expense increased 177.6% to $0.9 million in the
year ended February 28, 1998 from $0.3 million in the year ended February 28,   
1997. As a percentage of total revenue, research and development expense        
increased to 17.5% in the fiscal year ended February 28, 1998 from 12.5% in the 
fiscal year ended February 28, 1997. These increases in research and development
expense were primarily due to the addition of software engineering and          
development personnel in the fiscal year ended February 28, 1998.               

GENERAL AND ADMINISTRATIVE EXPENSE                                      

 General and administrative expense increased 51.8% to $0.8 million in the
fiscal year ended February 28, 1998 from $0.5 million in the fiscal year ended  
February 28, 1997. The increase in general and administrative expense resulted  
from the growth in the number of general and administrative personnel. As a     
percentage of total revenue, general and administrative expense decreased to    
15.5% in the fiscal year ended February 28, 1998 from 20.2% in the fiscal year  
ended February 28, 1997. This decrease was due to total revenue increasing at a 
higher rate than general and administrative expense.                            

OTHER INCOME (EXPENSE), NET                                             

Other income (expense), net increased to income of $22,000 in the fiscal
year ended February 28, 1998 from expense of $23,000 in the fiscal year ended   
February 28, 1997. This increase in other income (expense), net was due to an   
increase in interest income resulting from higher average balances of cash and  
cash equivalents and short-term investments and lower interest expense on our   
notes payable which were repaid during the fiscal year ended February 28, 1997. 

PROVISION FOR INCOME TAXES                                              

   Provision for income taxes increased to a provision of $5,000 in the fiscal
year ended February 28, 1998 from zero in the fiscal year ended February 28,    
1997. For fiscal years                                                          

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ended February 28, 1998 and 1997, a full valuation allowance was provided       
against net deferred tax assets due to uncertainty of realization.              

QUARTERLY RESULTS OF OPERATIONS 

  The following table sets forth unaudited quarterly statement of operations
data for each of the five quarters in the period ended May 31, 1999. This       
information has been derived from unaudited interim financial statements that,  
in the opinion of management, have been prepared on a basis consistent with the 
financial statements contained elsewhere in this prospectus and include all     
adjustments, consisting only of normal recurring adjustments, necessary for a   
fair presentation of the financial information for the periods presented. This  
information should be read in conjunction with the financial statements and     
notes to those statements included elsewhere in this prospectus.                

                                                        [Enlarge/Download Table]

                                                                                   THREE MONTHS ENDED                       
                                                             ---------------------------------------------------------------
                                                               MAY 31,     AUG. 31,     NOV. 30,     FEB. 28,      MAY 31,  
                                                                1998         1998         1998         1999         1999    
                                                             -----------  -----------  -----------  -----------  -----------
                                                                                (IN THOUSANDS, UNAUDITED)                   
                                                                                                                            
Revenue:                                                                                                                    
  Software and related products.............................  $   1,374    $   2,167    $   2,964    $   3,508    $   1,936 
  Web advertising...........................................         --           --           --           --           80 
  Services and other........................................        177           71          360          169          781 
                                                             -----------  -----------  -----------  -----------  -----------
    Total revenue...........................................      1,551        2,238        3,324        3,677        2,797 
                                                             -----------  -----------  -----------  -----------  -----------
Cost of revenue:                                                                                                            
  Software and related products.............................        683          785        1,179        1,366        1,181 
  Web advertising...........................................         --           --           --           --          123 
  Services and other........................................         --           --           --           28          443 
                                                             -----------  -----------  -----------  -----------  -----------
    Total cost of revenue...................................        683          785        1,179        1,394        1,747 
                                                             -----------  -----------  -----------  -----------  -----------
    Gross profit............................................        868        1,453        2,145        2,283        1,050 
                                                             -----------  -----------  -----------  -----------  -----------
Operating expense:                                                                                                          
  Sales and marketing.......................................        382          482          781        1,438        1,629 
  Research and development..................................        341          458          624          797          826 
  General and administrative................................        214          331          502          437          824 
                                                             -----------  -----------  -----------  -----------  -----------
    Total operating expense.................................        937        1,271        1,907        2,672        3,279 
                                                             -----------  -----------  -----------  -----------  -----------
Income (loss) from operations...............................        (69)         182          238         (389)      (2,229)
                                                             -----------  -----------  -----------  -----------  -----------
Other income (expense), net.................................         15           13           34          100          140 
                                                             -----------  -----------  -----------  -----------  -----------
Income (loss) before income taxes...........................        (54)         195          272         (289)      (2,089)
Provision for income taxes..................................         --           62          153           --           -- 
                                                             -----------  -----------  -----------  -----------  -----------
Net income (loss)...........................................  $     (54)   $     133    $     119    $    (289)   $  (2,089)
                                                             -----------  -----------  -----------  -----------  -----------
                                                             -----------  -----------  -----------  -----------  -----------
Accretion on mandatorily redeemable preferred stock.........         --           --          (16)         (23)         (43)
                                                             -----------  -----------  -----------  -----------  -----------
Net income (loss) available to common stockholders..........  $     (54)   $     133    $     103    $    (312)   $  (2,132)
                                                             -----------  -----------  -----------  -----------  -----------
                                                             -----------  -----------  -----------  -----------  -----------

   The operating results for any quarter are not necessarily indicative of the
operating results for any future period. In particular, due to our limited      
operating history and the unpredictability of our industry, our revenue and net 
income may fluctuate significantly from quarter to quarter and are difficult to 
forecast. We base our current and future expense levels in part on our estimates
of future revenue. Our expenses are to a large extent fixed in the short term.  
We may not be able to adjust our spending quickly if our revenue falls short of 
our expectations. Accordingly, a revenue shortfall in a particular quarter would
have a disproportionate adverse effect on our net income for that quarter.      
Furthermore, we may make pricing, purchasing, service, marketing, acquisition or
financing decisions that could adversely affect our business, operating results 
and financial condition.                                                        

   Our quarterly operating results will fluctuate for many reasons, including:

- our ability to retain existing customers, attract new customers and   
satisfy our customers' demand;                                      

   - changes in gross margins of our current and future products and services;

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- the timing of our release of upgrade versions of our products;        

- introduction of new products and services by us or our competitors;   

- changes in the market acceptance of Linux-based operating systems;    

- changes in the usage of the internet and online services;             

- timing of upgrades and developments in the Linux kernel and other open
source software products;                                           

- the effects of acquisitions and other business combinations, including
one-time charges, goodwill amortization and integration expenses or 
difficulties; and                                                   

 - technical difficulties or system downtime affecting the internet or our
web site.                                                           

 For these reasons, you should not rely on period-to-period comparisons of
our financial results to forecast our future performance. Our future operating  
results may fall below                                                          

expectations of securities analysts or investors, which would likely cause the  
trading price of our common stock to decline significantly.                     

LIQUIDITY AND CAPITAL RESOURCES 

We have historically derived a significant portion of our liquidity and 
operating capital from sales of preferred stock and from cash flow from         
operations. At May 31, 1999, cash and cash equivalents totaled $13.9 million, an
increase of $3.9 million as compared to February 28, 1999. The increase in cash 
and cash equivalents resulted from $3.2 million of net proceeds from the sale of
our preferred stock, $1.8 million in proceeds from exercise of common stock     
options and warrants and $1.0 million from maturities of investment securities, 
partially offset by $1.5 million in cash used by operating activities during the
three months ended May 31, 1999.                                                

  Cash used by operations of $1.5 million for the three months ended May 31,
1999, resulted primarily from our net loss of $2.0 million, an increase in      
accounts receivable of $2.2 million, an increase in inventory of $0.7 million   
and deferred initial public offering costs of $0.4 million, partially offset by 
an increase in deferred revenue of $3.0 million. The increase in accounts       
receivable, inventory and deferred revenue resulted from the release of Version 
6.0 Official Red Hat Linux to our distributors in late April 1999. This release 
resulted in a significant amount of accounts receivable from distributors at May
31, 1999, due to large shipments of Version 6.0 of Official Red Hat Linux to    
distributors from the last week of April through the end of May 1999. The       
predominant portion of these outstanding accounts receivable was collected in   
June 1999.                                                                      

Cash provided by investing activities totaled $0.4 million for the three
months ended May 31, 1999 as a result $1.0 million in proceeds received from    
maturities of investments partially offset by purchases of equipment of $0.6    
million.                                                                        

   Cash generated by financing activities of $5.0 million for the three months
ended May 31, 1999 was comprised of $3.2 million of net proceeds from the sale  
of our preferred stock, and $1.8 million in proceeds from exercise of stock     
options and warrants.                                                           

 At February 28, 1999, cash and cash equivalents totaled $10.0 million, an
increase of $8.7 million as compared to February 28, 1998. The increase in cash 
and cash equivalents resulted primarily from $1.2 million in cash generated by  
operations and $10.1 million of net proceeds from issuance of preferred stock   
during the fiscal year ended February 28, 1999. These amounts were partially    
offset by $1.9 million of cash used to purchase short-term debt securities, net 
of maturities, and $0.7 million of additions to property and equipment.         

Cash generated by operations of $1.2 million for the fiscal year ended  
February 28, 1999 resulted primarily from an increase in accounts payable and   
accrued liabilities of $1.5 million and net noncash                             

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charges to income of $0.6 million partially offset by our net loss of $0.1      
million and an increase in accounts receivable of $0.6 million.                 

   Cash used in investing activities of $2.6 million was used to purchase $1.9
million of short-term debt securities, net of maturities, and office and        
computer equipment totaling $0.7 million.                                       

Cash from financing activities totaled $10.1 million in the fiscal year 
ended February 28, 1999 as a result of $6.9 million in net proceeds received    
from sales of Series B preferred stock in September 1998 and $3.2 million in net
proceeds received from sales of Series C preferred stock in February 1999. We   
received an additional $3.2 million in net proceeds from the sale of Series C   
preferred stock subsequent to February 28, 1999.                                

  We have experienced a substantial increase in our operating expenses since
our inception in connection with the growth of our operations and staffing and  
the expansion of our services operation and web site. Our capital requirements  
during the fiscal year ending February 29, 2000 depend on numerous factors      
including the amount of resources we devote to:                                 

- fund our domestic and international expansion;                        

- enhance our REDHAT.COM web site;                                      

- improve and extend our service offerings;                             

 - make possible investments in businesses, products and technologies; and

   - expand our sales and marketing programs and conduct more aggressive brand
promotions.                                                         

   We believe that the net proceeds from this offering, together with our cash
and cash equivalents, short-term investments and cash flow from operations, will
be sufficient to meet our anticipated cash needs for working capital and capital
expenditures for at least the next 12 months, as we are projecting that our     
capital needs will be approximately $35 million during this period. We may need 
to raise additional funds, however, in order to fund more rapid expansion. We   
may seek to sell additional equity or debt securities or to obtain a credit     
facility. The sale of additional equity or debt securities, if convertible,     
could result in additional dilution to our stockholders. The incurrence of      
indebtedness would result in increased fixed obligations and could result in    
operating covenants that would restrict our operations. We cannot guarantee that
financing will be available in amounts or on terms acceptable to us, if at all. 

RECENT ACCOUNTING PRONOUNCEMENTS

  In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments  
and Hedging Activities". This statement establishes accounting and reporting    
standards for derivative instruments, including certain derivative instruments  
embedded in other contracts, and for hedging activities. As issued, this        
statement is effective for all fiscal quarters of all fiscal years beginning    
after June 15, 1999, with earlier application encouraged. In May 1999, the      
Financial Accounting Standards Board delayed the effective date of this         
statement for one year, to fiscal years beginning after June 15, 2000. We do not
currently nor do we intend in the future to use derivative instruments and      
therefore do not expect that the adoption of Statement of Accounting Standards  
No. 133 will have any impact on our financial position or results of operations.

   In March 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants, issued Statement of Position No.     
98-1, "Accounting for the Costs of Computer Software Developed or Obtained for  
Internal Use", which provides guidance regarding when software developed or     
obtained for internal use should be capitalized. This statement is effective for
transactions entered into in fiscal years beginning after December 15, 1998. We 
do not expect that the adoption of this statement will                          

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have a material impact on our financial position or results of operations.      

In December 1998, the Accounting Standards Executive Committee issued   
Statement of Position No. 98-9, "Modification of Statement of Position No. 97-2,
Software Revenue Recognition, with Respect to Certain Transactions". Statement  
of Position No. 98-9 amends Statement of Position No. 97-2 to require           
recognition of revenue using the "residual method" in circumstances outlined in 
Statement of Position No. 98-9. Under the residual method, revenue is recognized
as follows:                                                                     

- the total fair value of undelivered elements, as indicated by vendor  
  specific objective evidence is deferred and subsequently recognized in
    accordance with the relevant sections of Statement of Position No. 97-2;
and                                                                 

  - the difference between the total arrangement fee and the amount deferred
for the undelivered elements is recognized as revenue related to the
delivered elements.                                                 

    Statement of Position No. 98-9 is effective for transactions entered into in
fiscal years beginning after March 15, 1999. Also, the provisions of Statement  
of Position No. 97-2 that were deferred by Statement of Position No. 98-4 will  
continue to be deferred until the date Statement of Position No. 98-9 becomes   
effective. We do not expect that the adoption of Statement of Position No. 98-9 
will have a significant impact on our results of operations or financial        
position.                                                                       

YEAR 2000 COMPLIANCE

   The year 2000 issue refers generally to the problems that some software may
have in determining the correct century for the year. For example, software and 
computer systems with date-sensitive functions that are not Year 2000 compliant 
may not be able to distinguish whether "00" means 1900 or 2000, which may result
in failures or the creation of erroneous results.                               

We have defined "Year 2000 compliant" as the ability to:                

- correctly handle date information needed for the December 31, 1999 to 
January 1, 2000 date change;                                        

- function according to the product documentation provided for this date
   change, without changes in operation resulting from the advent of a new
century, assuming correct configuration;                            

   - where appropriate, respond to two-digit date input in a way that resolves
  the ambiguity as to century in a disclosed, defined, and predetermined
manner;                                                             

  - if the date elements in interfaces and data storage specify the century,
     store and provide output of date information in ways that are unambiguous
as to century; and                                                  

- recognize the year 2000 as a leap year.                               

 In November 1998, we formed a committee consisting of our Chief Financial
Officer, our controller, a financial analyst and a systems administrator, as    
part of our effort to perform a coordinated audit of:                           

- our products;                                                         

- the software components and applications with which our products are  
bundled; and                                                        

- the systems upon which we rely for our internal operations.           

PRODUCTS                                                                        

   The committee has tested Version 4.2 and later versions of Red Hat Linux by
accelerating the date within these software programs to December 31, 1999 and   
observing which software components failed as the date changed to January 1,    
2000. These tests revealed that all of these versions of Red Hat Linux were Year
2000 compliant. In addition, in June 1999 we hired an independent contractor to 
test Versions 5.2 and 6.0 of Red Hat Linux for Year 2000 readiness. The         
independent contractor certified these products as Year 2000 compliant. In light
of the testing results                                                          

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and certification, we do not plan to generate a contingency plan if either of   
these products is later found not to be Year 2000 compliant. We have not,       
however, tested any products other than Red Hat Linux. The Year 2000 committee  
plans to test or have these products tested by the end of November 1999.        

    If it is later determined that products that we have not tested are not Year
2000 compliant, we believe that we have the resources, either in-house or within
the open source community, to quickly remedy any non-compliant products. If it  
is necessary to remedy problems related to the Year 2000 issue, such efforts    
could otherwise divert our resources from pursuing our business strategy. In    
addition, known or unknown errors or defects in our products could result in    
delay or loss of revenue, diversion of development resources, damage to our     
reputation, or increased service and warranty costs, any of which could         
materially adversely affect our business, operating results or financial        
condition. Furthermore, some commentators have predicted significant litigation 
regarding Year 2000 compliance issues, and we are aware of such claims and      
actions against other software vendors. Because of the unprecedented nature of  
this litigation, it is uncertain whether or to what extent we may be affected by
it.                                                                             

THIRD-PARTY PRODUCTS                                                            

    We bundle third-party applications and software components with Official Red
Hat Linux. To date, the committee has made no assessment of and has no knowledge
of third-party Year 2000 readiness. We intend to contact these third parties and
remedy problems on a case-by-case basis, as problems arise. Because we believe  
that the costs associated with the failure of third-party products will not be  
material to our business, results of operations or financial condition, we do   
not intend to expend resources to seek out and correct problems before they     
arise. Accordingly, it is possible that some of our customers may experience    
difficulties related to third-party software, which may affect the performance  
of our products and may lead to adverse results such as an unusually high number
of calls to our technical support department or other unusual requests for      
information or assistance. Responding to these requests may divert resources    
from pursuing our business strategy. Moreover, failure of applications bundled  
with our software may reduce the value of our products, decrease or delay       
revenues, tarnish our brand, give rise to breach of warranty claims or divert   
resources, any of which could materially adversely affect our business, results 
of operations and financial condition.                                          

INTERNAL SYSTEMS                                                                

    We are in the process of identifying and evaluating the Year 2000 compliance
of systems upon which we rely for internal operations such as our computer      
hardware, software, web server and other related equipment and systems, such as 
phone systems and security systems. In August 1999 we plan to test our internal 
systems by simulating a century roll-over. We do not believe that the costs     
involved in making our internal systems Year 2000 compliant will be material    
because all of our internal mission-critical hardware and enterprise software   
vendors and systems are certified Year 2000 compliant. These vendors include    
Oracle, Sun Microsystems, Lucent and Cisco. In addition, most of our internal   
systems run on Red Hat Linux. Most of our computer hardware is new, but in the  
event any of our hardware malfunctions, we will replace it. We do not expect to 
incur material costs to replace any such defective hardware.                    

   The lessor of our corporate headquarters has indicated that our offices are
Year 2000 compliant. We currently house substantially all of our communications 
hardware and our other computer operations related to our web site on site at   
our facilities, although we plan to move these operations to third-party        
facilities within the next six months. The owners of facilities we plan to use  
for that purpose have also certified to us that all of their systems and        
facilities are Year 2000 compliant.                                             

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WORST CASE SCENARIO                                                             

    We have not tested any of our products other than Red Hat Linux and have not
tested software provided by, nor sought certifications from, third-parties      
bundling software with Official Red Hat Linux. Our reasonably likely worst case 
Year 2000 scenario would be that these products and bundled software from       
third-parties fail in the year 2000, resulting in a decreased demand for our    
products and damage to the Red Hat brand. In the event of a Year 2000 failure we
would devote resources to correct it. Because of our skilled in-house developers
and relationships with the open source community and third-parties whose        
software we bundle with Red Hat Linux, we believe we will be able to respond    
promptly to any failures that occur. The costs of such response and the         
diversion of resources, however, could have a material adverse effect on our    
business, results of operation and financial condition.                         

CONTINGENCY PLANS AND EXPECTED COSTS                                            

    The committee is in the process of developing further checklists of software
applications to test and systems upon which we rely and, as we deem appropriate,
we will seek certification documents from the developers and providers regarding
Year 2000 compliance of their systems and products. The committee will develop  
contingency plans based on the responses regarding its critical systems that it 
receives, or does not receive, from its providers and developers. We presently  
expect that we will complete this effort in the fall of 1999.                   

    To date, we have not expended a material amount of capital resources on Year
2000 compliance and do not anticipate future expenditures to be material to our 
business, results of operations and financial condition. We have not hired      
additional personnel to specifically address our Year 2000 compliance issues,   
and presently, we do not expect to do so. Through June 30, 1999, we have        
incurred approximately $300,000 in costs to make our internal systems Year 2000 
compliant. These costs were primarily incurred to update our accounting and     
financial management software and systems. The product and testing expenditures 
to date relate primarily to on-going salary costs of personnel, including       
committee members, participating at various levels in our compliance efforts, as
well as payments of approximately $30,000 to the independent contractor that    
tested Versions 5.2 and 6.0 of Red Hat Linux. All costs related to achieving    
Year 2000 readiness are being expensed as incurred, unless they relate to the   
cost of new software or hardware for our internal systems.                      

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BUSINESS

RED HAT 

We are a leading developer and provider of open source software and     
services, including the Red Hat Linux operating system. Our web site,           
REDHAT.COM, is a leading online source of information and news about open source
software and one of the largest online communities of open source software users
and developers. In addition to offering extensive content for the open source   
community, REDHAT.COM serves as an important forum for open source software     
development and offers software downloads and a shopping site. Our broad range  
of professional services includes custom development and consulting, technical  
support, training and education and hardware certification. We are committed to 
serving the interests and needs of open source software users and developers and
to sharing all of our product developments with the open source community.      

INDUSTRY BACKGROUND 

IMPACT OF THE INTERNET                                                          

The internet has emerged as a global communications medium, enabling    
millions of people to gather information, communicate and conduct business      
electronically. International Data estimates that there were approximately 142  
million users of the internet at the end of 1998 and that the number of users   
will grow to over 500 million by the end of 2003. In addition, International    
Data estimates that worldwide internet commerce revenue will increase from      
approximately $50 billion in 1998 to more than $1 trillion in 2003.             

 The internet's ability to empower customers, reduce transaction costs and
product development times and accelerate the pace of business transactions has  
dramatically transformed the competitive landscape of a wide range of           
industries. The internet provides customers with a broader selection, increased 
purchasing power and unparalleled convenience while enabling businesses to reach
a global audience, increase economies of scale and operate with minimal         
infrastructure. The internet has facilitated the emergence of new competitors   
and is increasingly affecting the methods by which incumbent competitors sell   
goods and services and manage relationships with customers.                     

  For example, in the software industry, the internet is profoundly changing
the way that software is developed and distributed. The internet has enabled    
multiple groups of developers to collaborate on specific projects from remote   
locations around the globe. Developers can write code alone or in groups, make  
their code available over the internet, give and receive comments on other      
developers' code and modify it accordingly. The internet has also provided an   
avenue not only for less expensive and speedier delivery of code, but also for  
support and other online services.                                              

OPEN SOURCE SOFTWARE MOVEMENT                                                   

  The internet has accelerated the development of open source software. Open
source software has its origins in the academic and research environments and is
based on an open, collaborative approach to the development and distribution of 
software. The growth of the internet has greatly increased the scale and        
efficiency of open source development through the availability of collaborative 
technologies such as e-mail lists, news groups and web sites. These technologies
have enabled increasingly large communities of independent developers to        
collaborate on more complex open source projects. An early example of open      
source development is the X Windows system, a graphical user interface developed
by the X Consortium. The members of the X Consortium, originally Digital,       
Hewlett-Packard, IBM and Sun Microsystems, wanted a common user interface for   
their own proprietary operating systems. By openly sharing development ideas and
coding efforts, these companies were able to quickly and cost-effectively       
develop a superior user interface.                                              

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Open source software has emerged as a viable alternative to traditional 
proprietary software. Under the proprietary model of software development, a    
software developer generally licenses to the user only the object or binary     
code. Binary code consists of the 1s and 0s that only the computer understands. 
By contrast, under the open source development model, the software developer    
provides to the user access to both the binary code and the source code. Source 
code is the language used by the developers. The principal differentiating      
points of open source software include:                                         

- development process--open source software allows a company's in-house 
development team to collaborate with a community of independent     
developers;                                                         

- license terms--under open source licenses, the user has access to both
binary and source code, and the rights to copy, modify, alter and   
redistribute the software; and                                      

- shared improvements--under the open source model, the user has ongoing
access to improvements made to the software by others.              

   We believe open source software offers many potential benefits for software
customers, users and vendors. Customers and users are able to acquire the       
software at little or no cost, install the software on as many computers as they
wish, and customize the software to suit their particular needs. In addition,   
customers and users can obtain software updates, improvements and support from  
multiple vendors, reducing reliance on any single vendor. Vendors are able to   
leverage the community of open source developers, allowing them to reduce       
development costs and decrease their time to market. Vendors are also able to   
distribute their products freely over the internet, enabling them to create     
large global user bases quickly.                                                

    Participants in open source development can generate revenue in a variety of
ways, including:                                                                

   - making their own open source products widely available, and then offering
     technical support, custom development, and related services to customers;

   - using open source products as a means of attracting visitors to their web
sites, where they can earn money from the sale of other products,   
services, and advertising; and                                      

- developing brand loyalty and a reputation for quality by providing    
technically superior open source software products, which they can  
leverage to sell additional products and services to customers.     

Just as the open source model has benefited from the success of the     
internet, it has also greatly contributed to the internet's success. Open source
software comprises much of the internet's infrastructure, from domain name      
server software to web servers and e-mail router software. Open source software 
is particularly well-suited to the internet. With access to the source code,    
system administrators and developers can collaborate to debug, fix and optimally
configure their software on a real-time basis. This enables them to improve     
performance and keep data flowing continually across the internet, minimizing   
the disruptions and downtime common with proprietary software.                  

    The following examples demonstrate the prevalence of open source software on
the internet:                                                                   

    - Apache Web Server--based on code originally written at the National Center
for Supercomputing Applications at the University of Illinois at    
     Champaign-Urbana, is the most common web server in use today according to
a survey conducted by Netcraft.                                     

- Perl--a standard scripting language for Apache servers.               

 - Sendmail--the internet's standard e-mail routing tool, which we believe
handles a majority of the internet's e-mail traffic.                

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    One of the better known open source products is the Linux kernel, the engine
of Linux-based operating systems. An operating system is the software that      
allows a computer and its various hardware and software components to interact. 
An initial goal of the open source software movement was to develop an operating
system that was better, faster and more reliable than the proprietary operating 
systems then available. Viewing UNIX as the best commercially-available         
operating system, the open source community decided to incorporate the best     
design ideas from UNIX. Open source developers rewrote all of the underlying    
source code so that it could not be controlled by a single corporation or       
individual. By the early 1990s, these efforts had resulted in a number of       
significant software initiatives but had fallen short of building a complete    
operating system. Still missing from the project was the engine upon which the  
new operating system was to run, known as the kernel.                           

 In 1991, Linus Torvalds, a young Finnish developer, supplied a stable and
powerful open source kernel, known as Linux, to run the operating system.       
Operating systems based on the Linux kernel are robust and dynamic. Thousands of
developers worldwide continually collaborate on improving Linux-based operating 
systems and update them on a regular basis.                                     

Since 1991, the use of Linux-based operating systems has rapidly grown. 
According to International Data, Linux-based operating systems represented 17%  
of all new license shipments of server operating systems in 1998. Beginning in  
1998, a number of major technology industry leaders, including IBM, Intel and   
Hewlett-Packard, announced support for Linux-based operating systems. The Linux 
kernel and the standards around which it is developed remain under the close    
supervision of Linus Torvalds and a small group of kernel developers working    
under his leadership.                                                           

Some of the benefits enjoyed by users of Linux-based operating systems  
include:                                                                        

- reduced licensing costs;                                              

- flexibility resulting from access to and legal right to modify source 
code;                                                               

- stability and high performance;                                       

- comprehensive internet support;                                       

- compliance with standards; and                                        

- multi-platform capability.                                            

   Despite a strong initial market acceptance of Linux-based operating systems
and other open source products, there exists a number of obstacles to widespread
adoption within the enterprise, including:                                      

- lack of service and support;                                          

- scarcity of applications supporting Linux-based operating systems; and

- lack of well-financed, viable open source industry participants.      

   The ability of a Linux-based operating system to penetrate large businesses
on an enterprise-wide basis and to gain widespread acceptance as a viable       
alternative to operating systems developed under the proprietary software model,
depends, in large part, on the emergence of a proven leader in the open source  
community. This open source leader must demonstrate to the business enterprise, 
as well as to the community of application developers upon whom the business    
enterprise relies, a successful business model and the ability to support and   
service its products at a consistently high level.                              

THE RED HAT SOLUTION

To address the challenges facing the open source software market, our   
products and services offer the following features and benefits:                

SUPERIOR OPEN SOURCE PRODUCT OFFERINGS                                          

   We engineer what we believe to be the most technically advanced open source
operating system, Red Hat Linux. Our software engineers collaborate with        
critical open source software development teams working across the internet.    
This involvement enables us to remain abreast of technical advances, plans for  

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development of new features and timing of releases, as well as other information
related to the development of the Linux kernel and other open source projects.  
As a participant in these processes, we are able to react quickly to new        
developments and to contribute to the future direction of the Linux kernel and  
the open source development paradigm.                                           

  We compile and integrate more than 640 separate software packages into Red
Hat Linux, consisting of some of the most technically advanced software products
available, including compilers and web, e-mail, file transfer protocol and file 
servers. Red Hat Linux is:                                                      

   - flexible and scalable--capable of running a single desktop machine or the
entire network of a large business enterprise;                      

- functional--able to handle discrete or multiple applications being    
accessed by multiple users;                                         

- adaptable--allowing the user to modify the software to meet particular
needs and requirements; and                                         

  - reliable--constantly monitored and fine-tuned by thousands of developers
worldwide.                                                          

   These benefits have led many industry analysts to identify Red Hat Linux as
a superior operating system. This recognition has accelerated the deployment of 
Red Hat Linux within the business enterprise. According to International Data,  
Red Hat Linux accounted for approximately 56% of new license shipments of       
Linux-based server operating systems in 1998, or approximately 9% of total new  
server license shipments.                                                       

    In addition to offering technically advanced products, we provide purchasers
of our Official Red Hat Linux with extensive written documentation and limited  
installation support. Our team of technical writers works closely with our      
software development engineers to prepare manuals and other documentation that  
accurately and clearly describe the many features of Red Hat Linux and advise   
the user on how to exploit these features. In addition, we make Red Hat Linux   
available to users via free download from our web site and other sites across   
the internet.                                                                   

LEADING ONLINE DESTINATION FOR THE OPEN SOURCE COMMUNITY                        

   We have established our web site as a leading online destination related to
the open source movement. We are dedicated to serving the interests and needs of
open source software users and developers online. Our web site is a             
comprehensive resource for the latest information related to Linux and other    
open source projects. It contains news of interest to open source users and     
developers, features for the open source community, software updates and        
downloads, a shopping center for our shrink-wrapped products and support        
offerings, and a wealth of technical information related to open source         
products, including Red Hat Linux. Visitors to our site can organize and        
participate in user groups, make available bug fixes and incremental code       
improvements and share knowledge regarding the use and development of open      
source software.                                                                

   Our web site had 265,000 unique visitors and approximately 2.5 million page
views during March 1999.                                                        

  By acting as a clearinghouse of open source and Linux-related information,
and facilitating the interaction of developers, businesses and technology       
enthusiasts, our web site has become a community center for the open source     
movement.                                                                       

COMMITMENT TO THE OPEN SOURCE MODEL                                             

Red Hat has fully embraced the open source model. Whereas others have   
incorporated certain aspects of the open source software model into their       
businesses while retaining various features of the proprietary model, our       
product offerings are true open source offerings. We share all of our           
developments on and improvements to the Linux kernel and other open source      
products with the development community. In this way, we benefit independent    
developers by making our products more useful for them in their own             

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development projects. In addition, we have aggressively promoted and distributed
our products in the marketplace by making them available free of charge by      
download from our web site and other internet sites worldwide, by issuing       
thousands of free CD-ROMs containing Red Hat Linux at trade shows and through   
direct mailing campaigns, and by providing copies to academic and research      
institutions. Furthermore, in addition to the open source software we develop   
ourselves, we help fund a broad range of open source software projects and      
organizations, including the XFree86 group, the linuxconf open source software  
product and the Free Software Foundation.                                       

EXTENSIVE PROFESSIONAL SERVICES                                                 

We also offer a broad range of professional services relating to the    
development and use of open source products. These services include technical   
support, custom development, consulting, training, education and hardware       
certification. By servicing Red Hat Linux, we provide our customers and the open
source community with a respected and reliable technology partner, one that is  
available to help with the purchase, deployment, customization and maintenance  
of open source software solutions. We believe that providing these services and 
establishing ourselves as our customers' technology development partner will    
allow us to facilitate the widespread adoption of Red Hat Linux as a full scale 
enterprise solution.                                                            

STRATEGIC ALLIANCES                                                             

 In an effort to increase the market acceptance of open source software in
general, and the Red Hat Linux operating system in particular, we have          
established development, marketing or distribution relationships with leading   
technology companies, including Compaq, Dell, Hewlett-Packard, IBM, Intel,      
Oracle and Silicon Graphics. In addition, we share our development efforts with 
and commit resources to third party developers and vendors in order to expand   
the number of applications available for Linux-based operating systems. By      
establishing and maintaining these relationships, we are able to increase market
awareness of open source software, gather industry support for our products and 
penetrate new markets. See "--Sales, Marketing and Distribution".               

STRATEGY

 Our objective is to enhance our position as a leading worldwide developer
and provider of advanced, open source products and services, both via           
traditional channels and the internet. The key elements of our strategy are:    

CONTINUE TO ENHANCE OUR WEB SITE                                                

We are continuing to enhance our web site in an effort to create the    
definitive online destination for open source software products, software       
updates, news, and other information related to Linux-based operating systems   
and other open source projects, and to provide advertisers with a large and     
technically sophisticated audience. At REDHAT.COM, people from around the world 
will be able to obtain updates to open source software, purchase a wide array of
open source products and services, access and copy code for their own           
programming efforts, read news related to topics of interest to the community   
and interact with other community members. New features we anticipate adding to 
our web site include:                                                           

- software update notification;                                         

- automatic software updating for those who want it;                    

- registries and hosting of open source web sites and projects;         

- open source classifieds (including products for sale and employment   
listings);                                                          

- event calendars; and                                                  

- virtual trade shows.                                                  

By adding these features to our web site, we believe that our visitors will     
continue to visit on a regular basis, and that we will attract an increasing    
number of new visitors. In addition, we believe that these new features and     

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offerings will keep visitors on our site for longer periods of time, which we   
believe will be crucial to our ability to generate significant advertising      
revenue.                                                                        

EXPAND SERVICE CAPABILITIES TO ADDRESS THE ENTERPRISE NEEDS OF LARGE            
CORPORATIONS                                                                

We believe that we must expand our services capabilities to address the 
market need for quality custom engineering and development. We are currently    
expanding our professional services organization to enhance our ability to      
provide such services. Between March 1, 1998 and June 30, 1999 we added 23      
people to our professional services organization. We believe that as our user   
base grows, more of our customers, particularly our larger customers, will look 
to us to help them customize their operating systems to perform optimally within
their particular computing environments. We expect that many of our larger      
customers will also expect us to assume the role of their technology partner,   
and perform on-site consulting services such as large-scale system assessments  
and enterprise-wide system enhancements. We believe that by increasing our      
capacity to offer such services, we will be able to significantly increase our  
services revenue and establish ourselves as the premier open source service     
provider.                                                                       

INCREASE MARKET ACCEPTANCE OF OPEN SOURCE SOFTWARE                              

Although recent years have seen a substantial increase in the market    
acceptance of Linux-based operating systems and other open source software, we  
intend to promote further acceptance of open source software through a variety  
of means, including strengthening our existing alliances with other information 
technology companies and by establishing new alliances. The strength of these   
alliances is crucial to the expansion of the open source community, the         
technical advancement and widespread distribution of open source products and   
the development of third party applications suitable for Linux-based operating  
systems.                                                                        

By aligning ourselves with companies widely regarded as producing high  
quality and highly reliable software developed under the traditional software   
development model, we expect to bridge the gap between the open source community
and those customers who are currently skeptical or unaware of the benefits of   
open source software. We believe that by continuing to collaborate with         
industry-leading information technology companies, we will be able to further   
improve the performance and features of Red Hat Linux and other open source     
software products. Although we intend to increase our own engineering and       
development efforts, we believe that by entering into and maintaining strategic 
relationships with other market-leading companies, we will ensure that Red Hat  
Linux continues to develop technically, and that such development is compatible 
with the technological innovations of other key vendors in our industry.        

   By entering into additional strategic distribution relationships with major
distributors, retail outlets, original equipment manufacturers, and value-added 
resellers worldwide, we intend to make Red Hat Linux and other open source      
products more widely available. In order to support and develop leads for our   
indirect distribution channels, we plan to expand our field sales and support   
staff significantly. In addition, we expect to continue to share our development
efforts with and commit additional resources to applications developers and     
vendors in an effort to increase the third-party applications offerings that    
will run on Red Hat Linux. Third-party applications currently available for     
Linux-based operating systems include desktop office productivity tools from    
Applix, Corel and Star Division and enterprise software applications from IBM,  
Oracle and SAP.                                                                 

Additional means of increasing the market acceptance for Linux-based    
operating systems and other open source software include expanding our          
international presence, broadening our services offerings and publicizing       
success stories. We have only recently commenced operations in Europe, and while
we have a significant installed base                                            

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of international users, we intend to increase our overseas presence in the near 
future by establishing additional foreign offices or subsidiaries. In addition, 
we intend to expand our services offerings, including training, consulting and  
related services that customers have come to expect from information technology 
providers, which will increase their confidence in open source products and     
providers. Finally, we will continue to publicize, to the extent possible,      
success stories of customers who have found open source products to be more     
valuable than restrictive, proprietary products.                                

CONTINUE TO INVEST IN THE DEVELOPMENT OF OPEN SOURCE TECHNOLOGY                 

   We intend to continue to invest significant resources in the development of
new open source technology, capitalizing on our extensive experience working    
within the open source model. We expect this continued investment to take the   
form of increased expenditures on internal development efforts, including our   
Red Hat Advanced Development Laboratory, as well as continued funding of        
third-party open source projects. We also plan to continue our financial support
of the development efforts of many of the top-tier engineers in the open source 
community. This support will be directed towards an array of projects, ranging  
from the development of ease of use features, which we believe will take Red Hat
Linux from the server to the desktop, to the design of new networking and       
scalability features, which are expected to make Red Hat Linux more attractive  
as a server operating system. In particular, we are currently exploring the     
possibility of establishing a foundation to support the development of open     
source software. We would fund this foundation with cash, stock or a combination
thereof. We expect that, through these efforts, we will be able not only to     
foster the advancement of open source technology, but also to enhance and       
maintain our relationships within the open source community.                    

MAINTAIN AND CONTINUE TO ENHANCE THE                                            
RED HAT BRAND                                                               

We believe that continuing to build the Red Hat brand is vital to the   
expansion of our customer base and the maintenance of the energy of the current 
open source community. We intend to continue to aggressively promote our web    
site as the definitive source for open source products, services, resources and 
other information. Another component of our brand enhancement strategy is to    
expand our use of aggressive public relations campaigns by continuing to work   
with the media to educate the public on the benefits of open source software. In
addition, we expect to continue our pursuit of tightly-focused advertising      
campaigns, both in computer related publications and in general purpose media,  
in order to attract new users to Red Hat Linux and open source software.        
Moreover, we also intend to continue to devote substantial engineering resources
to open source development projects and to otherwise demonstrate our commitment 
to the open source philosophy. Through these measures, we intend to build the   
Red Hat brand into the preeminent symbol of quality for open source software.   

PRODUCTS AND SERVICES 

    We are a leading provider of open source software products and services. Our
product offerings include Red Hat Linux and related tools, documentation,       
manuals and general merchandise. Our professional services offerings,           
principally directed towards our larger corporate customers and strategic       
partners, include technical support, training and education, consulting and     
custom development and hardware certification.                                  

RED HAT LINUX AND RELATED SOFTWARE                                              

    OFFICIAL RED HAT LINUX 6.0. Official Red Hat Linux is our principal product.
We first released Official Red Hat Linux in October 1994, and began shipping the
latest release, Version 6.0, in May 1999. Official Red Hat Linux is available   
for the Intel, Sun SPARC and Compaq Alpha platforms. Official Red Hat           

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Linux provides everything the user needs to perform a wide variety of server    
functions, including setting-up a web, e-mail, file or print server as well as  
using his computer as a general purpose desktop workstation to perform virtually
any computing function. Official Red Hat Linux comes with a number of           
third-party applications including office productivity and e-commerce           
applications, as well as comprehensive user manuals and limited installation    
support. The suggested retail price for Official Red Hat Linux is $79.95.       

 Examples of the components included within the 573 megabytes of code that
comprise Red Hat Linux 6.0 are:                                                 

                                                        [Enlarge/Download Table]

                  COMPONENT                                       FUNCTION                  
----------------------------------------------  --------------------------------------------
                                                                                            
Linux Kernel (Version 2.2)....................  Core of the operating system                
X Windows System..............................  Graphical layer                             
GNOME.........................................  Graphical desktop user interface            
Gtk...........................................  Graphical development libraries             
Netscape Communicator.........................  Web browser                                 
Apache........................................  Web server                                  
Sendmail......................................  E-mail routing software                     
Perl..........................................  High-level programming language             
Efax..........................................  Fax utility                                 
Pilot Link....................................  Palm Pilot-Registered Trademark-            
                                                synchronization                             
GNOME PIM.....................................  Personal Information Manager                
Howto Greek (and other languages).............  Help files translated into Greek (and other 
                                                languages)                                  
RPM...........................................  Manages the various software packages       
All other components..........................  Libraries, tools, games and other integrated
                                                applications                                

Other Red Hat products include:                                         

    RED HAT POWERTOOLS:  Red Hat Powertools is a collection of open source tools
and applications that run on top of Red Hat Linux. The suggested retail price   
for Powertools is $39.95.                                                       

RED HAT LINUX CORE:  Red Hat Linux Core, consisting of Official Red Hat 
Linux 6.0 and the Official Red Hat Linux Installation Guide, is designed for    
developers and experienced users of Linux-based operating systems. Red Hat Linux
Core does not include installation support or third-party applications. The     
suggested retail price for Red Hat Linux Core is $39.95.                        

 EXTREME LINUX:  Extreme Linux, popular among students and researchers, is
designed to run on multiple computers using parallel processing. The open source
software included in this product was developed in part by the National         
Aeronautics and Space Administration. Extreme Linux does not include user       
manuals or installation support. The suggested retail price for Extreme Linux is
$29.95.                                                                         

 RED HAT SECURE WEB SERVER:  Red Hat Secure Web Server combines the Apache
open source web server with certain cryptography software we licensed from RSA  
Data Security, Inc. to create a secure web server suitable for conducting secure
transactions via the internet. Red Hat Secure Web Server won a "Best of Show"   
award at the 1998 Networld + Interop conference. Red Hat Secure Web Server      
cannot be downloaded from our web site and is available only in the U.S. and    
Canada due to export controls on encryption software. The suggested retail price
for Red Hat Secure Web Server is $99.95.                                        

Our products are also available for free download via the internet from 
REDHAT.COM and other web sites worldwide, except for Red Hat Secure Web Server  
and the third-party                                                             

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application software that is sold with Official Red Hat Linux. We encourage our 
customers to download Red Hat Linux and our other software products. By allowing
users to download our software free of charge, we are able to strengthen the Red
Hat brand and increase our installed base of users, at no incremental cost to   
us. Customers who obtain Red Hat Linux in this way receive substantially the    
same operating system software as is included in our shrink-wrapped packages,   
but do not receive installation support, documentation and other additional     
features.                                                                       

REDHAT.COM                                                                      

  As of June 30, 1999 we had 21 professionals focused on the development and
maintenance of our REDHAT.COM web site. REDHAT.COM offers users access to broad 
and authoritative content on open source software including news, documentation,
educational materials and case studies. This content is directed at a wide      
spectrum of open source software users, from system administrators to developers
to academics. We also offer extensive features for the open source community,   
software updates and downloads and a shopping center for our shrink-wrapped     
products and support offerings.                                                 

We intend to also offer the following benefits via our web site to our  
partners and users:                                                             

- Personalization--users will be able to register on the site and select
 custom presentations of information that are specifically tailored to
   their needs. These presentations, which will be known as MY.REDHAT.COM,
    will filter news and information (according to user-specified criteria),
promote various features of the site likely to be of interest to a  
    specific user and notify the user by e-mail of new content and upgrades.

 - Advertising and sponsorships--the REDHAT.COM audience is highly focused
      and technically sophisticated, representing an attractive target market of
     computing professionals for advertisers. We offer a number of advertising
     and sponsorship programs to our partners and others seeking to reach this
market.                                                             

  - Content subscriptions--we intend to make special market reports and data
and access to real-time support available to our users on an annual 
      subscription basis. By subscribing to our site, our customers will also be
     able to purchase additional features and services such as online training
and certification and remote software maintenance packages.         

- Commerce--we intend to build the REDHAT.COM store into the most       
comprehensive open source shopping resource for corporate enterprise
   buyers. Offerings and upsell opportunities will be presented throughout
the site in a context-relevant manner.                              

 - Licensing--we intend to license our content to other content providers,
  thereby generating additional traffic, extending the Red Hat brand and
increasing revenue.                                                 

PROFESSIONAL SERVICES                                                           

Although we have not generated significant revenue to date from our     
professional services, we have recently significantly expanded the scope of our 
service offerings and expect them to generate significant revenue in the future.

   SUPPORT AND MAINTENANCE.  Customers who purchase our Official Red Hat Linux
Version 6.0 product are entitled to 30 days of telephone installation support or
90 days of e-mail installation support at no additional charge. Customers       
seeking additional technical support may purchase telephone support agreements  
from us ranging in price from $995 for up to three incidents to $60,000 for     
24-hour-a-day unlimited support for one year. We have a highly-trained and      
skilled staff of technical support engineers to provide these services to our   
customers. In addition, we maintain relationships with several third-party      

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support providers in order to enhance and expand our technical support          
capabilities.                                                                   

TRAINING AND EDUCATION.  We provide training and educational programs to
those customers who want to learn how to optimize their use of Red Hat Linux.   
The most popular of these programs is the "Red Hat Certified Engineer" course   
that we offer at our corporate offices. This week-long course, taught by Red Hat
instructors and priced at approximately $2,500, gives a comprehensive overview  
of the use of Red Hat Linux. We also conduct on-site training for customers. We 
anticipate that we will work with third-party training and educational program  
providers to develop and offer additional training courses on a variety of      
topics related to Red Hat Linux and open source software.                       

  CONSULTING AND CUSTOM DEVELOPMENT. We offer specific consulting and custom
development services on an individualized basis. We have performed such services
related to the optimization of Red Hat Linux when used in conjunction with      
certain hardware products. We intend to expand our consulting and custom        
development capabilities in the near future.                                    

 HARDWARE CERTIFICATION. We perform testing and certification services for
hardware vendors seeking to market their products to Red Hat Linux users.       
Hardware vendors submit their products to us and, in exchange for a fee, we test
the hardware to determine whether it is compatible with Red Hat Linux. Products 
meeting our performance criteria are certified as Red Hat Linux compatible.     
Companies for which we have performed such services include Dell, IBM and       
Toshiba.                                                                        

PRODUCT AWARDS                                                                  

Red Hat Linux has won numerous awards, including:                       

  - Operating System Product of the Year, InfoWorld magazine, 1996, 1997 and
1998                                                                

- Productivity Award, Software Development Magazine, 1997               

- "Jolt" Product Excellence Award, Software Development Magazine, 1998  

- Reader's Choice Award, Linux Journal, 1997                            

- Just PLAIN COOL Award, Australian Personal Computing Magazine, 1998   

   - Environment/Desktop finalist, Ziff-Davis European Excellence awards, 1997

- Editor's Choice Award, Australian Personal Computing Magazine, 1998   

PRODUCTION AND FULFILLMENT                                                      

    We outsource the production, packaging and order fulfillment of our products
to third parties when it is cost effective to do so. To the extent possible, we 
limit our internal production activities to such tasks as quality inspection and
testing. We currently have production arrangements with JVC Disc America Co.,   
Webcom, Inc. and Brightstar Services, and order fulfillment arrangements with   
JVC. We believe that our existing production arrangements are sufficient to     
accommodate potential increases in sales volume for the foreseeable future.     

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CUSTOMERS AND APPLICATIONS

CUSTOMERS                                                                       

  Our customers range from individuals using our products for a wide variety
of personal and professional purposes to multinational Fortune 500 companies,   
government agencies, and research and academic institutions. The following is a 
partial list of customers which have purchased products and services from us in 
the past, but which may not necessarily be ongoing customers. These customers   
have purchased products and services ranging from a $24 technical manual to over
$23,000 in training and support services:                                       

                                                                [Download Table]

         CORPORATE                  GOVERNMENT            RESEARCH / ACADEMIC   
---------------------------  ------------------------  -------------------------
                                                                                
AT&T                         Canadian Department of    Carnegie Mellon          
                                                       University               
Bell Atlantic                Human Resources                                    
Boeing                                                 Cern Laboratories        
Burlington Coat Factory      Internal Revenue Service                           
Cisco Systems                                          Fermi National           
                                                       Accelerator              
GTE                          NASA                      Laboratory               
Hewlett-Packard                                                                 
Hughes Telecommunications    Waco Public Schools       Harvard-Smithsonian      
IBM                                                    Astrophysical Observatory
Intel                                                                           
Lucent Technologies                                    University of North      
                                                       Carolina                 
Nortel                                                                          
Sony Electronics                                       University of Rochester  

The following case studies provide examples of the manner in which our  
products are used:                                                              

- The Exploration Department of Amerada Hess, a Fortune 500 global oil  
 company, was frustrated with the cost and difficulty of upgrading its
 supercomputing hardware. In 1998, the Exploration Department replaced
     approximately $2.5 million of its supercomputing hardware with a $420,000
      cluster of more than 90 servers running Red Hat Linux. The department uses
    this cluster to identify potential offshore oil and gas reservoirs using
three-dimensional modeling software.                                

 - Garden Grove, California, a city with a population of 153,000, runs its
 government and public services entirely on Red Hat Linux. Since 1994,
   Garden Grove has not had a computer-related interruption in service for
any department, including its police department.                    

THIRD-PARTY APPLICATIONS                                                        

    Some of the third party applications that are included in Red Hat Linux are:

- Apache Web Server;                                                    

- Netscape Navigator and Communicator internet browsers;                

- file transfer protocol servers;                                       

- e-mail routing software;                                              

- GNU C and C++ computer language compilers and debuggers;              

- editors;                                                              

- databases; and                                                        

- games.                                                                

Some of the stand-alone third-party applications that are currently     
available to users of Linux-based operating systems are:                        

- Oracle, Informix and IBM databases;                                   

- Computer Associates UNICENTER network control software;               

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- Lotus Domino Notes Server;                                            

- Corel WordPerfect;                                                    

- Applixware Office Suite;                                              

- Star Office Suite;                                                    

- NEXS Spreadsheet; and                                                 

- MetroWerks Rapid Application Development tools.                       

SALES, MARKETING AND DISTRIBUTION 

SOFTWARE PRODUCTS AND SERVICES                                                  

We sell our products and services worldwide through direct marketing and
telesales campaigns and our web site, and indirectly through our distributors,  
retailers, catalogs and original equipment manufacturers. Our direct sales force
of 10 individuals as of June 30, 1999, is dedicated to increasing worldwide     
sales through our retail, distribution and original equipment manufacturers     
channels. As of June 30, 1999, our indirect distribution channel was composed of
five distributors, over 500 retailers and 12 original equipment manufacturers.  
We have recently begun to focus our sales efforts more aggressively on the      
business enterprise market.                                                     

    Our two largest distributors are Ingram Micro and Frank Kasper & Associates.
Ingram Micro, which began distributing our products during the fiscal year ended
February 28, 1999, accounted for approximately 34% of our                       
total revenue during that fiscal year. Frank Kasper & Associates accounted for  
approximately 26% of our total revenue for the fiscal year ended February 28,   
1998 and 20% for the fiscal year ended February 28, 1999.                       

 Our agreements with our distributors typically are not exclusive, have no
stated minimum purchase or license obligations and may be terminated by either  
party without cause. We believe that in the event of the termination of our     
relationship with one or more of our indirect channel partners, we could enter  
into replacement agreements with new partners. However, the failure to replace  
these partners with distributors of equal marketing capabilities and reputation 
could have a material adverse effect on our business, operating results and     
financial condition.                                                            

  We permit our original equipment manufacturers to distribute Red Hat Linux
with their own hardware in exchange for royalty payments to us. We currently    
have original equipment manufacturer agreements in place with Dell, Silicon     
Graphics and others. These agreements are not exclusive, have no stated minimum 
purchase or license obligations, and generally may not be terminated prior to   
the expiration of their terms which, in the case of Dell, is one year and, in   
the case of Silicon Graphics, is an initial term of one year, renewable for two 
additional one-year terms.                                                      

  We have established joint marketing relationships with a number of leading
technology companies including Compaq, Hewlett-Packard, IBM, Intel and Oracle.  
These agreements have one- or two-year terms and, with the exception of the     
Hewlett-Packard and Oracle agreements, may be terminated prior to the expiration
of their terms by either party with prior notice.                               

Our direct marketing efforts support our sales and distribution efforts 
through participation in industry trade shows, targeted advertising, channel    
sales programs, public relations campaigns, retail promotions, customer surveys 
and the promotion of our products through our web site. In addition, we offer   
our software products for free download from REDHAT.COM and other internet sites
worldwide.                                                                      

REDHAT.COM                                                                      

   We have a team of professionals dedicated to selling advertising on our web
site. Though these sales have been insignificant to date, we expect to generate 
significant revenue from the sale of advertising and sponsorships in the future.

COMPETITION 

In the market for operating systems, we compete with a limited number of
large and well-established companies that have                                  

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significantly greater financial resources, larger development staffs and more   
extensive marketing and distribution capabilities. These competitors include    
Microsoft, Novell, IBM, Sun Microsystems and The Santa Cruz Operation, all of   
which offer hardware-independent multi-user operating systems for Intel         
platforms, and AT&T, Compaq, Hewlett-Packard, Olivetti and Unisys, each of      
which, together with IBM and Sun Microsystems, offers its own version of the    
UNIX operating system. Many of these competitors bundle competitive operating   
systems with their own hardware offerings, thereby making it more difficult for 
us to penetrate their customer bases.                                           

 In the newer and rapidly evolving Linux-based operating system market, we
compete with a number of well-respected vendors and development projects. These 
competitors have established and stable customer bases and continue to attract  
new customers. We also compete for services revenue with a number of companies  
that provide technical support and other professional services to users of      
Linux-based operating systems, including some original equipment manufacturers  
with which we have agreements. Many of these companies have larger and more     
experienced services organizations than we do currently. In addition, we face   
potential competition from several companies with larger customer bases and     
greater financial resources and name recognition than we have, such as Sun      
Microsystems, Corel Corp. and Cygnus Solutions, each of which has indicated a   
growing interest in the Linux-based operating systems market.                   

The Linux-based operating systems market is not characterized by the    
traditional barriers to entry that are found in most other markets, due to the  
open source nature of our products. For example, anyone can copy, modify and    
redistribute Red Hat Linux themselves. Accordingly, it is possible that new     
competitors or alliances among competitors may emerge and rapidly acquire       
significant market share.                                                       

 We believe that the major factors affecting the competitive landscape for
our products include:                                                           

- name and reputation of vendor;                                        

- product performance, functionality and price;                         

- strength of relationships in the open source community;               

- availability of user applications;                                    

- ease of use;                                                          

- networking capability;                                                

- breadth of hardware compatibility;                                    

- quality of support and customer services;                             

- distribution strength; and                                            

- alliances with industry partners.                                     

Although we believe that we compete favorably with many of our competitors in a 
number of respects, including product performance, functionality and price,     
networking capability, and breadth of hardware compatibility, we believe that   
many of our competitors enjoy greater name recognition, have superior           
distribution capabilities and offer more extensive support services than we     
currently do. In addition, there are significantly more user applications       
available for competing operating systems, such as Windows NT and UNIX, than    
there are for Linux-based operating systems. An integral part of our strategy in
the near future, however, is to address these shortcomings by, among other      
things, strengthening our existing strategic relationships and entering into new
ones in an effort to enhance our name recognition, expand our distribution      
capabilities and attract more attention to the open source movement, which in   
turn should create additional incentives for software developers to write more  
applications for Red Hat Linux.                                                 

In the market for advertising revenue, we will compete with other online
content providers and traditional forms of media such as newspapers, magazines, 
radio and television. We believe that the principal                             

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competitive factors in attracting advertisers include the amount of traffic on  
REDHAT.COM, brand recognition, customer service and support, the demographics of
our users and visitors, our ability to offer targeted audiences and the overall 
cost-effectiveness of the advertising medium that we offer.                     

SOFTWARE ENGINEERING AND DEVELOPMENT

    We have invested, and intend to continue to invest, significant resources in
product and technology development. We focus and modify our product development 
efforts based on the needs of users and changes in the marketplace. We are      
currently focusing our development efforts on improving the Linux kernel, as    
well as commercializing our software innovations into new products and product  
enhancements that are easier to use and provide greater functionality.          

  Our software engineers have contributed to the development and maintenance
of some of the most important components of the Red Hat Linux operating system, 
including the installation program and the package management program. The      
installation program provides users with a single method to install the hundreds
of separate software programs that are included with Red Hat Linux so that from 
the user's perspective, the hundreds of programs appear as one. This simplified 
process sharply reduces the time and effort required to install a Linux-based   
operating system, as compared to the alternative of gathering the hundreds of   
programs one by one via the internet. The installation program provides default 
settings for the user depending upon whether the user wishes to use Red Hat     
Linux as a server operating system or as a workstation operating system. The    
installation also provides advanced users with the ability to customize the     
programs that are installed, allowing for significant flexibility and control   
over the operating system. The installation also automatically detects the type 
of hardware that comprises the user's computer, in order to ensure that all     
programs necessary for Red Hat Linux to work on the hardware are properly       
installed.                                                                      

Our software development engineers perform extensive testing of Red Hat 
Linux to ensure that it is properly assembled and works as a coherent whole from
the user's perspective. We use industry standard methods of quality assurance   
testing to ensure that Red Hat Linux is solidly engineered and ready for use by 
our customers when shipped. We also operate an extensive beta testing program   
for Red Hat Linux. Under this beta testing program, we post a beta or test      
version of the operating system on the internet. Developers and users around the
world then suggest improvements and identify bugs. Each suggestion is circulated
over the internet in an attempt to encourage others to assist in the programming
of a solution. In this way, Red Hat Linux users are treated as co-developers.   
Bug fixes and enhancements are tested by other users and our engineers, and when
corrected, added to the next release. When the beta version is viewed as stable 
and complete, it becomes the next production version, and a new beta cycle      
begins.                                                                         

   Our web development team consists of engineers with considerable experience
in developing scalable web-based applications. We continue to develop           
applications on REDHAT.COM for user registration, commerce, and content         
management and publication. We rigorously test these programs and have built in 
the software necessary to ensure high quality visits to our web site.           

Most of our software engineering and development work takes place at our
headquarters. As of June 30, 1999, we employed 53 individuals in our engineering
group, consisting of 22 software engineers, including several of the top Linux  
kernel developers in the world, 21 web design and development professionals, 5  
quality assurance engineers and 5 documentation specialists.                    

INTELLECTUAL PROPERTY 

   Red Hat Linux has been developed and made available for licensing under the
GNU General Public License and similar licenses. These licenses generally permit
anyone to copy, modify and distribute the software, subject only to the         
restriction that any resulting                                                  

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or derivative work is made available to the public under the same terms.        
Therefore, although we retain the copyrights to the code that we develop        
ourselves, due to the open source nature of our software products and the       
licenses under which we develop and distribute them, our most valuable          
intellectual property is our collection of trademarks. We rely primarily on a   
combination of trademarks and copyrights to protect our intellectual property.  
We also enter into confidentiality and nondisclosure agreements with our        
employees and consultants, and generally control access to and distribution of  
our documentation and other proprietary information.                            

    We pursue registration of some of our trademarks in the United States and in
other countries. We have registered the trademark "Red Hat" in the United States
and have registrations pending in the Australian, Canadian and European Union   
trademark offices. We have registered the Red Hat "Shadow Man" logo in the U.S.,
European Union and Australia and have registrations pending for it in the       
Canadian trademark office.                                                      

Despite our efforts to protect our trademark rights, unauthorized third 
parties have in the past attempted and in the future may attempt to             
misappropriate our trademark rights. We are currently investigating possible    
infringement claims against a third party in France whom we believe has         
misappropriated our tradename and trademarks. We cannot be certain that we will 
succeed in preventing the continued misappropriation of our tradename and       
trademarks in these circumstances or that we will be able to prevent this type  
of unauthorized use in the future. The laws of some foreign countries do not    
protect our trademark rights to the same extent as do the laws of the United    
States. In addition, policing unauthorized use of our trademark rights is       
difficult, expensive and time consuming. The loss of any material trademark or  
trade name could have a material adverse effect on our business, operating      
results and financial condition.                                                

 Although we do not believe that our products infringe the rights of third
parties, third parties have in the past asserted, and may in the future assert  
infringement claims against us which may result in costly litigation or require 
us to obtain a license to third-party intellectual rights. There can be no      
assurance that such licenses will be available on reasonable terms or at all,   
which could have a material adverse effect on our business, operating results   
and financial condition.                                                        

EMPLOYEES 

As of June 30, 1999, we had a total of 140 employees. Of the total      
employees, 53 were in software engineering, 35 in sales and marketing, 32 in    
customer service and technical support and 20 in finance and administration. Our
future success will depend in part on our ability to attract, retain and        
motivate highly qualified technical and management personnel, for whom          
competition is intense. From time to time we also employ independent contractors
to support our professional services, product development, sales, marketing and 
business development organizations. Our employees are not represented by any    
labor union and are not organized under a collective bargaining agreement, and  
we have never experienced a work stoppage. We believe our relations with our    
employees are good.                                                             

FACILITIES

    Our headquarters are currently located in a leased facility in Durham, North
Carolina, consisting of approximately 51,800 square feet under a five year lease
that will expire on January 14, 2004. The annual rental expense under this lease
is approximately $900,000. We believe that additional space will be required as 
our business expands and will be available on acceptable terms.                 

LEGAL PROCEEDINGS 

 We are not a party to any material legal proceedings. We may from time to
time become a party to various legal proceedings arising in the ordinary course 
of our business.                                                                

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MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS

The following table sets forth the executive officers, directors and key
employees of Red Hat, their ages and the positions held by them with Red Hat as 
of July 31, 1999:                                                               

                                                        [Enlarge/Download Table]

NAME                                                     AGE                           POSITION                      
----------------------------------------------------  ---------  ----------------------------------------------------
                                                                                                                     
EXECUTIVE OFFICERS AND DIRECTORS                                                                                     
Robert F. Young.....................................         45  Chief Executive Officer and Chairman of the Board of
                                                                 Directors                                           
Matthew J. Szulik...................................         42  President and Director                              
Marc Ewing..........................................         30  Executive Vice President, Chief Technology Officer  
                                                                 and Director                                        
Timothy J. Buckley..................................         48  Senior Vice President and Chief Operating Officer   
Manoj K. George.....................................         32  Chief Financial Officer, Director of Administration 
                                                                 and Treasurer                                       
Tom Butta...........................................         42  Chief Marketing Officer                             
David G. Shumannfang................................         31  Counsel and Secretary                               
Frank Batten, Jr. (1)(2)............................         40  Director                                            
William S. Kaiser (1)(2)............................         44  Director                                            
Eric Hahn (1)(2)....................................         39  Director                                            

KEY EMPLOYEES                                                                                                        
Erik W. Troan.......................................         25  Director of Engineering                             
Donald J. Barnes....................................         26  Director of Technical Projects                      
Theresa A. Williams-Spangler........................         41  Business Unit Leader--Sales                         
Dr. Charles A. Coleman, Jr..........................         53  Director of Information Services                    
Matthew Butterick...................................         28  Director of Internet Business                       
Colin Tenwick.......................................         39  General Manager for European Operations             
Carolyn Sparano.....................................         36  Director of Services                                

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

(1) Member of Compensation Committee.                                           

(2) Member of Audit Committee.                                                  

ROBERT F. YOUNG co-founded Red Hat and served as its President and a    
Director from its inception until November 1998. In November 1998, he was       
elected to his current positions as Chief Executive Officer and Chairman of the 
Board of Directors.                                                             

    MATTHEW J. SZULIK has served as President of Red Hat since November 1998 and
a Director since April 1999. Mr. Szulik also served as Chief Operating Officer  
of Red Hat from November 1998 to April 1999. Prior to joining Red Hat, from     
September 1997 to October 1998, Mr. Szulik served as President of Relativity    
Technologies, a computer software company. From February 1996 to May 1997, Mr.  
Szulik served as President of Sapiens International, a computer software        
company. Prior to that, from January 1993 to December 1995, he served as Senior 
Vice President in charge of sales and marketing for MapInfo Corp., a computer   
software company.                                                               

    MARC EWING co-founded Red Hat and has served as its Executive Vice President
and Chief Technology Officer and as a Director since its inception. Mr. Ewing   
participated in the design and development of Red Hat Linux and founded Red Hat 
Advanced Development Laboratories to develop open source graphical desktop      
applications for Linux in cooperation with the open source development          
community.                                                                      

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Prior to founding Red Hat, for various periods from January 1991 to August 1992,
Mr. Ewing worked as a systems programmer for IBM.                               

  TIMOTHY J. BUCKLEY has served as Senior Vice President and Chief Operating
Officer of Red Hat since April 1999. Prior to joining Red Hat, from October 1997
until April 1999, Mr. Buckley was Senior Vice President of Worldwide Sales at   
Visio Corp., a business software company. Mr. Buckley joined Visio in November  
1993 and served as Visio's Vice President of Worldwide Sales until his promotion
in October 1997.                                                                

MANOJ K. GEORGE has served as Red Hat's Chief Financial Officer and     
Treasurer since May 1998. From May 1997 to the present, he has held the position
of Director of Administration, and from May 1997 to May 1998 he served as Red   
Hat's Controller. From November 1994 to May 1997, Mr. George, a certified public
accountant, served, first as a staff accountant, then as a senior accountant    
with a regional accounting firm.                                                

  TOM BUTTA has served as Red Hat's Chief Marketing Officer since July 1999.
Prior to joining Red Hat, from July 1996 to July 1999, Mr. Butta served as Chief
Executive Officer of FGI, Inc., a marketing, research and advertising           
communications firm. From January 1995 until June 1996, he served as Chief      
Executive Officer of FGI New York, Inc., a marketing, research and advertising  
communications firm. Prior to that, Mr. Butta was Chief Executive Officer of    
Christopher Vincent, Inc., a marketing firm, from January 1989 to December 1994.

    DAVID G. SHUMANNFANG has served as Counsel of Red Hat since October 1996 and
Secretary of Red Hat since April 1997. From August 1993 to May 1996, Mr.        
Shumannfang earned his Juris Doctor from the University of North Carolina at    
Chapel Hill School of Law. Mr. Shumannfang is a member of the North Carolina    
State Bar.                                                                      

    FRANK BATTEN, JR. has served as a Director of Red Hat since August 1997. Mr.
Batten is currently Chairman of Landmark Communications Inc., a media company,  
and has served in that position since January 1998. Prior to that, Mr. Batten   
served Landmark Communications as its Executive Vice President, Corporate       
Development from October 1995 to January 1998. From June 1991 to October 1995,  
Mr. Batten was President and Publisher of the Virginian Pilot, a newspaper      
division of Landmark Communications.                                            

   WILLIAM S. KAISER has served as a Director of Red Hat since September 1998.
Mr. Kaiser has been employed by Greylock Management Corporation, a venture      
capital firm, since May 1986 and has been a general partner of the Greylock     
Limited Partnerships since January 1988. Mr. Kaiser is also a director of Open  
Market Inc., Clarus Corporation and Student Advantage, Inc.                     

   ERIC HAHN has served as a Director of Red Hat since April 1999. Mr. Hahn is
a founding partner of Inventures Group, a leading "mentor investment" venture   
capital firm. He served as Executive Vice President and Chief Technology Officer
of Netscape from November 1996 until June 1998. Prior to serving as Netscape's  
Chief Technology Officer, from November 1995 to November 1996, Mr. Hahn was     
general manager of Netscape's Server Products Division, overseeing product      
development for Netscape's enterprise, internet and extranet servers. Mr. Hahn  
joined Netscape following its acquisition of Collabra Software, Inc., which Mr. 
Hahn founded in February 1993.                                                  

    ERIK W. TROAN has served as Red Hat's Director of Engineering since February
1999. Prior to that, between May 1995 and February 1999, he served as Chief     
Developer at Red Hat. He is the co-author of LINUX APPLICATION DEVELOPMENT, a   
book covering mid-level programming on the Linux operating system and from 1995 
to 1996, was a regular columnist for the X Journal Magazine, covering free      
software topics.                                                                

   DONALD J. BARNES has served Red Hat as Director of Technical Projects since
February 1999. From November 1997 to February 1999, he served as Red Hat's      
Development Manager of Quality Assurance                                        

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and from May 1995 to November 1997 he served as a System's Engineer for Red Hat.
From May 1994 to May 1995, Mr. Barnes was a Systems Engineer for Northern       
Telecom Limited.                                                                

    THERESA SPANGLER has served as Business Unit Leader--Sales for Red Hat since
February 1999. Prior to joining Red Hat, from October 1997 to February 1999, she
served as Vice President of Sales and Marketing at Technauts, Inc., a software  
company. From December 1991 to March 1997, Ms. Spangler served as Senior        
Territory Manager for PictureTel Corp., a video conferencing equipment          
manufacturer.                                                                   

   CHARLES A. COLEMAN has served as Red Hat's Director of Information Services
since April 1999. From February 1999 to March 1999, Mr. Coleman acted as a      
consultant to Red Hat in connection with systems vendor evaluation, selection   
and implementation. From April 1998 to January 1999, Mr. Coleman served as      
President and Chief Information Officer at Critical Information Technologies,   
LLC, a data modeling and systems integration firm. From September 1996 to April 
1998 he was employed by Ellora Software, Inc., a clinical data management       
software developer, first as a consultant and then as a Vice President. From    
February 1994 to September 1996, Mr. Coleman was Senior Vice President of       
Inquiry Management and Database Systems for Computerworld, Inc. From August 1983
to February 1994 he served as President and Chief Information Officer of        
Response Technologies, Inc., a business processing reengineering company.       

MATTHEW BUTTERICK has served as Red Hat's Director of Internet Business 
since May 1999. Prior to joining Red Hat, Mr. Butterick was founder and         
President of Atomic Vision, a web site development company, from September 1994 
until May 1999.                                                                 

COLIN TENWICK has served as Red Hat's General Manager for European      
Operations since June 1999. Prior to joining Red Hat, Mr. Tenwick held numerous 
positions with Sybase, including Vice President and General Manager, European   
Operations from October 1998 to June 1999; Vice President and Managing Director,
U.K. Operations from November 1995 to October 1998; and Vice President,         
Marketing and Channel Sales, European Operations from April 1994 to November    
1995.                                                                           

CAROLYN SPARANO has served as Red Hat's Director of Services since June 
1999. Prior to joining Red Hat, Ms. Sparano served in several positions with    
INTERSOLV ASQ, including Vice President of Worldwide Training from March 1999 to
May 1999; Director of Consulting Services from August 1998 to March 1999;       
Director of World Wide DataDirect Solutions from March 1997 to August 1998;     
Director of DataDirect Technical Support from August 1995 to March 1997; and    
Manager of Technical Support from January 1992 to August 1995.                  

ELECTION OF OFFICERS AND DIRECTORS

Red Hat's executive officers are elected by the Board of Directors on an
annual basis and serve until their successors are duly elected and qualified.   
All of the current Directors were selected as Directors of Red Hat under the    
First Amended and Restated Stockholder's Voting Agreement dated February 25,    
1999, as amended, between Red Hat and some of its stockholders, which agreement 
will automatically terminate upon the closing of this offering. There are no    
family relationships among any of the executive officers or directors of Red    
Hat.                                                                            

Upon the closing of this offering, Red Hat's Board of Directors will be 
divided into three classes, with the members of each class of directors serving 
for staggered three-year terms. Messrs. Ewing and Hahn will serve in the class  
the term of which expires in 2000; Messrs. Szulik and Batten will serve in the  
class the term of which expires in 2001; and Messrs. Young and Kaiser will serve
in the class the term of which expires in 2002. At each annual meeting of       
stockholders, a class of directors will be elected for a three-year term to     
succeed the directors of the same class whose term is then expiring. Red Hat's  
adoption of a classified Board of Directors could have the effect of increasing 
the length                                                                      

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of time necessary to change the composition of a majority of the Board of       
Directors. See "Description of Capital Stock--Delaware Law and Certain Charter  
and By-Law Provisions and Anti-Takeover Effects".                               

COMMITTEES OF THE BOARD OF DIRECTORS

   The Board of Directors has appointed a Compensation Committee consisting of
Messrs. Batten, Kaiser and Hahn. The Compensation Committee reviews and         
evaluates the compensation and benefits of all of Red Hat's officers, reviews   
general policy matters relating to compensation and benefits of Red Hat's       
employees and makes recommendations concerning these matters to the Board of    
Directors. The Compensation Committee also administers Red Hat's stock option   
and stock purchase plans. See "--Employee Benefit Plans".                       

  The Board of Directors has also appointed an Audit Committee consisting of
Messrs. Batten, Kaiser and Hahn. The Audit Committee reviews, with Red Hat's    
independent auditors, the scope and timing of the auditors' services, the       
auditors' report on Red Hat's financial statements following completion of the  
auditors' audit, and Red Hat's internal accounting and financial control        
policies and procedures. In addition, the Audit Committee will make annual      
recommendations to the Board of Directors for the appointment of independent    
auditors for the ensuing year.                                                  

DIRECTOR COMPENSATION 

  Directors are reimbursed for reasonable out-of-pocket expenses incurred in
attending meetings of the Board of Directors and for meetings of any committees 
of the Board of Directors on which they serve. Directors are also eligible to   
participate in Red Hat's 1998 Stock Option Plan and 1999 Stock Option and       
Incentive Plan. In accordance with a policy approved by the Board of Directors, 
upon initial election or appointment to the Board of Directors, new non-employee
Directors will be granted non-qualified stock options to purchase 20,000 shares 
of common stock at a price at least equal to the fair market value of Red Hat's 
common stock on the date of grant. These options will vest 33 1/3% one year from
grant date and 8 1/3% at the end of each three-month period thereafter. Upon    
re-election, non-employee directors will be granted non-qualified stock options 
to purchase 10,000 shares of common stock to vest 33 1/3% one year from the date
of re-election and 8 1/3% at the end of each three-month period thereafter. Each
year of a non-employee director's tenure, the director will be granted          
non-qualified stock options to purchase 5,000 shares of common stock which will 
be fully vested upon grant. Upon the effectiveness of the registration statement
of which this prospectus is a part, according to the policy established by the  
Board of Directors, Messrs. Batten and Kaiser will each be granted non-qualified
stock options to purchase 10,000 shares of common stock at the initial public   
offering price. These options will vest as provided above. See "--Employee      
Benefit Plans". In addition, in April 1999, Mr. Hahn was granted a non-qualified
stock option under the 1998 Stock Option Plan to purchase 171,552 shares of     
common stock at an exercise price of $1.5705 per share.                         

COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION 

No interlocking relationship exists between the Board of Directors or   
Compensation Committee and the board of directors or compensation committee of  
any other company, nor has any interlocking relationship existed in the past.   

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EXECUTIVE COMPENSATION

  The following table sets forth the compensation earned by Robert F. Young,
Red Hat's Chief Executive Officer, and Red Hat's only other executive officer   
during the fiscal year ended February 28, 1999 whose salary and bonus exceeded  
$100,000 for such fiscal year for services rendered in all capacities to Red Hat
during the fiscal year ended February 28, 1999. As of June 30, 1999, the        
annualized base salaries of Red Hat's executive officers not listed in the table
below who, had they been employed by Red Hat for the full fiscal year ended     
February 28, 1999, would have earned in excess of $100,000, were: Matthew J.    
Szulik -- $185,000 and Timothy J. Buckley -- $155,000.                          

SUMMARY COMPENSATION TABLE

                                                        [Enlarge/Download Table]

                                                                LONG-TERM                              
                                                              COMPENSATION                             
                                      ANNUAL                     AWARDS                                
                                   COMPENSATION        ---------------------------                     
NAME AND PRINCIPAL           ------------------------     SECURITIES UNDERLYING          ALL OTHER     
  POSITION                    SALARY($)    BONUS($)            OPTIONS(#)            COMPENSATION ($)  
---------------------------  -----------  -----------  ---------------------------  -------------------
                                                                                                       
Robert F. Young                                                                                        
  Chairman and Chief                                                                                   
  Executive Officer........     161,458       25,000                   --                   41,141     
Marc Ewing                                                                                             
  Executive Vice President                                                                             
  and Chief Technology                                                                                 
  Officer..................     145,125       20,000                   --                       --     

Red Hat has never granted any stock options to Mr. Young or Mr. Ewing.  

CHANGE IN CONTROL ARRANGEMENTS

    Matthew Szulik, Red Hat's President, is a party to an incentive stock option
agreement and a non-qualified stock option agreement, which both provide for the
lapsing of Red Hat's repurchase right as to 33 1/3% of his option shares if he  
is terminated without cause on or before March 13, 2000 and for the lapsing in  
full of Red Hat's repurchase right as to any unvested option shares upon the    
termination of his employment, either by Red Hat's successor without cause or by
Mr. Szulik for good reason, following a change in control of Red Hat.           

  Tim Buckley, Red Hat's Chief Operating Officer, is a party to an incentive
stock option agreement and a non-qualified stock option agreement, which both   
provide for the lapsing of Red Hat's repurchase right as to 33 1/3% of his      
option shares if he is terminated without cause on or before April 12, 2000 and 
for the lapsing in full of Red Hat's repurchase right as to any unvested option 
shares upon the termination of his employment, either by Red Hat's successor    
without cause or by Mr. Buckley for good reason, following a change in control  
of Red Hat.                                                                     

EMPLOYEE BENEFIT PLANS

1998 STOCK OPTION PLAN, AS AMENDED                                              

 Red Hat's 1998 Stock Option Plan, as amended, was adopted by the Board of
Directors and approved by Red Hat's stockholders in August 1998, and was amended
in November 1998, February 1999 and June 1999. The aggregate number of shares of
common stock which may be issued under the 1998 Stock Option Plan is 9,434,800. 
Under the 1998 Stock Option Plan, Red Hat is authorized to grant incentive stock
options and non-qualified stock options, as well as awards of common stock and  
opportunities to make direct purchases of common stock to employees,            
consultants, directors and officers                                             

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of Red Hat. The 1998 Stock Option Plan is administered by the Board of Directors
and the Compensation Committee. The 1998 Stock Option Plan provides that the    
Board of Directors and the Compensation Committee each has the authority to     
select the participants and determine the terms of the stock options, awards and
purchase rights granted under the 1998 Stock Option Plan. Options granted under 
the 1998 Stock Option Plan are immediately exercisable. Red Hat has a right of  
repurchase over all exercised but unvested shares which lapses over a period of 
four years. An incentive stock option is not transferable by the recipient      
except by will or by the laws of descent and distribution. Non-qualified stock  
options and other awards are transferable only to the extent provided in the    
agreement relating to such option or award or in response to a valid domestic   
relations order. No incentive stock options may be exercised more than three    
months following termination of employment, and no stock option may be exercised
following termination of employment for cause. However, in the event that       
termination is due to death or disability, the stock option is exercisable for a
maximum of 180 days after such termination. In June 1999, the Board of Directors
and the stockholders voted to terminate the 1998 Stock Option Plan effective on 
the consummation of the offering. As of June 30, 1999 Red Hat had outstanding   
under the 1998 Stock Option Plan incentive stock options exercisable for        
2,471,858 shares of common stock and non-qualified stock options exercisable for
2,705,030 shares of common stock.                                               

1999 STOCK OPTION AND INCENTIVE PLAN                                            

Red Hat's 1999 Stock Option and Incentive Plan was adopted by Red Hat's 
Board of Directors and approved by its stockholders in June 1999. The 1999 Stock
Option and Incentive Plan provides for the grant of stock-based awards to       
employees, officers and directors of, and consultants or advisors to, Red Hat   
and its subsidiaries, including incentive stock options and non-qualified stock 
options and other equity-based awards. Incentive stock options may be granted   
only to employees of Red Hat. A total of 6,500,000 shares of common stock may be
issued upon the exercise of options or other awards granted under the 1999 Stock
Option and Incentive Plan. The maximum number of shares that may be granted to  
any employee under the 1999 Stock Option and Incentive Plan shall not exceed    
3,250,000 shares of common stock during any calendar year.                      

The 1999 Stock Option and Incentive Plan is administered by the Board of
Directors and the Compensation Committee. The 1999 Stock Option and Incentive   
Plan provides that the Board of Directors and the Compensation Committee each   
has the authority to select the persons to whom awards are granted and determine
the terms of each award, including the number of shares of common stock to be   
granted. Payment of the exercise price of an award may be made in cash, shares  
of common stock, a combination of cash or stock or by any other method approved 
by the Board or Compensation Committee, consistent with Section 422 of the      
Internal Revenue Code and Rule 16b-3 under the Exchange Act. Unless otherwise   
permitted by Red Hat, awards are not assignable or transferable except by will  
or the laws of descent and distribution.                                        

 Each of the Board of Directors or Compensation Committee may, in its sole
discretion, amend, modify or terminate any award granted or made under the 1999 
Stock Option and Incentive Plan, so long as such amendment, modification or     
termination would not materially and adversely affect the participant. Each of  
the Board or Compensation Committee may also, in its sole discretion, accelerate
or extend the date or dates on which all or any particular option or options    
granted under the 1999 Stock Option and Incentive Plan may be exercised.        

1999 EMPLOYEE STOCK PURCHASE PLAN                                               

   The 1999 Employee Stock Purchase Plan was adopted by the Board of Directors
and approved by the stockholders in June 1999. The 1999 Employee Stock Purchase 
Plan                                                                            

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provides for the issuance of a maximum of 750,000 shares of common stock.       

The 1999 Employee Stock Purchase Plan is administered by the Board of   
Directors and the Compensation Committee. All employees of Red Hat whose        
customary employment is for more than 20 hours per week and for more than three 
months in any calendar year and who have completed more than 90 days of         
employment with Red Hat on or before the first day of any six-month payment     
period are eligible to participate in the 1999 Employee Stock Purchase Plan.    
Outside directors and employees who would own 5% or more of the total combined  
voting power of value of Red Hat's stock immediately after the grant may not    
participate in the 1999 Employee Stock Purchase Plan. To participate in the 1999
Employee Stock Purchase Plan, an employee must authorize Red Hat to deduct an   
amount not less than one percent nor more than 10 percent of a participant's    
total cash compensation from his or her pay during six-month payment periods.   
The first payment period will commence on a date to be determined by the Board  
of Directors and end on March 31, 2000. Thereafter, the payment periods will    
commence on the first day of April and October, and end on the last day of the  
following March and September, respectively, of each year, but in no case shall 
an employee be entitled to purchase more than 1,000 shares in any one payment   
period. The exercise price for the option granted in each payment period is 85% 
of the lesser of the average market price of the common stock on the first or   
last business day of the payment period, in either event rounded up to the      
nearest cent. If an employee is not a participant on the last day of the payment
period, such employee is not entitled to exercise his or her option, and the    
amount of his or her accumulated payroll deductions will be refunded. Options   
granted under the 1999 Employee Stock Purchase Plan may not be transferred or   
assigned. An employee's rights under the 1999 Employee Stock Purchase Plan      
terminate upon his or her voluntary withdrawal from the plan at any time or upon
termination of employment. No options have been granted to date under the 1999  
Employee Stock Purchase Plan.                                                   

401(K) PLAN                                                                     

Red Hat has a Section 401(k) Profit Sharing Plan. The 401(k) plan is a  
tax-qualified plan covering all full-time Red Hat employees who are over 21     
years of age and who have completed three months of service with Red Hat. If,   
however, an employee was employed by Red Hat prior to February 1999, the 401(k) 
plan covered such employee regardless of age or length of service with Red Hat. 
Under the 401(k) plan, participants may elect to defer a portion of their       
compensation. In addition, at the discretion of the Board of Directors, Red Hat 
may make matching contributions into the 401(k) plan for all eligible employees.
Red Hat has not made any contributions to the 401(k) plan to date.              

LIMITATION OF LIABILITY AND INDEMNIFICATION OF OFFICERS AND DIRECTORS 

Red Hat's Third Amended and Restated Certificate of Incorporation and   
Amended and Restated By-Laws provide that the directors and officers of Red Hat 
shall be indemnified by Red Hat to the fullest extent permitted by Delaware law,
as it now exists or may in the future be amended, against all expenses and      
liabilities reasonably incurred in connection with their service for or on      
behalf of Red Hat. In addition, the Third Amended and Restated Certificate of   
Incorporation provides that the directors of Red Hat will not be personally     
liable for monetary damages to Red Hat for breaches of their fiduciary duty as  
directors, unless they violated their duty of loyalty to Red Hat or its         
stockholders, acted in bad faith, knowingly or intentionally violated the law,  
authorized illegal dividends or redemptions or derived an improper personal     
benefit from their action as directors. Red Hat intends to obtain insurance     
which insures the directors and officers of Red Hat against certain losses and  
which insures Red Hat against its obligations to indemnify the directors and    
officers.                                                                       

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TRANSACTIONS WITH AFFILIATES

   On August 15, 1997, Red Hat sold 6,801,400 shares of its Series A preferred
stock to Frank Batten, Jr., Frank Batten, Louis F. Ryan as trustees under a     
trust agreement dated April 11, 1988, as amended in a private financing at a    
price of $.294057 per share. The trust is a 5% stockholder of Red Hat.          

   On September 29, 1998, Red Hat sold an aggregate of 8,116,550 shares of its
Series B preferred stock in a private financing at a price of $.857 per share.  
Among the purchasers in this financing were Frank Batten, Jr., Frank Batten,    
Louis F. Ryan as trustees under a trust agreement dated April 11, 1988, as      
amended, Intel Corporation, Greylock IX Limited Partnership and Benchmark       
Capital Partners II, L.P., each a 5% stockholder of Red Hat.                    

  From February 25, 1999 through April 1, 1999, Red Hat sold an aggregate of
2,054,776 shares of its Series C preferred stock in a private financing at a    
price of $3.141 per share. Among the purchasers in this financing were Frank    
Batten, Jr., Frank Batten, Louis F. Ryan as trustees under a trust agreement    
dated April 11, 1988, as amended, Intel Corporation, Greylock IX Limited        
Partnership and Benchmark Capital Partners II, L.P., each a 5% stockholder of   
Red Hat.                                                                        

    Red Hat believes that all transactions set forth above were made on terms no
less favorable to it than would have been obtained from unaffiliated third      
parties. Red Hat has adopted a policy providing that all future transactions    
between Red Hat and any of its officers, directors and affiliates will be on    
terms no less favorable to Red Hat than could be obtained from unaffiliated     
third parties and will be approved by a majority of the disinterested members of
Red Hat's Board of Directors.                                                   

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PRINCIPAL STOCKHOLDERS

The following table sets forth certain information known to Red Hat     
regarding beneficial ownership of Red Hat's common stock as June 30, 1999 and as
adjusted to reflect the sale of the shares of common stock in this offering by: 

    - each person known by Red Hat to be the beneficial owner of more than 5% of
Red Hat's common stock;                                             

  - Red Hat's Chief Executive Officer and only other executive officer whose
    salary and bonus during the fiscal year ended February 28, 1999 exceeded
$100,000 for such fiscal year;                                      

- each of Red Hat's directors; and                                      

- all executive officers and directors as a group.                      

 Unless otherwise indicated, to the knowledge of Red Hat, each stockholder
possesses sole voting and investment power over the shares listed, except for   
shares owned jointly with that person's spouse.                                 

The number of shares of common stock deemed outstanding includes shares 
issuable upon exercise of options and warrants held by the respective person or 
group which may be exercised within 60 days after June 30, 1999. For purposes of
calculating each person's or group's percentage ownership, stock options        
exercisable within 60 days after June 30, 1999 and warrants are included for    
that person or group but not the stock options and warrants of any other person 
or group.                                                                       

                                                        [Enlarge/Download Table]

                                                                                            PERCENTAGE OF SHARES  
                                                                                             BENEFICIALLY OWNED   
                                                                                          ------------------------
                    NAME AND ADDRESS OF                                                     BEFORE        AFTER   
                    BENEFICIAL OWNER (1)                      SHARES BENEFICIALLY OWNED    OFFERING     OFFERING  
------------------------------------------------------------  --------------------------  -----------  -----------
                                                                                                                  
5% STOCKHOLDERS                                                                                                   
Greylock IX Limited Partnership.............................            8,723,866               14.4%        13.1%
  One Federal Street                                                                                              
  Boston, MA 02110                                                                                                
Benchmark Capital Partners II, L.P..........................            5,815,910                9.6          8.7 
  2840 Sand Hill Road, Suite 2000                                                                                 
  Menlo Park, CA 94025                                                                                            
Intel Corporation...........................................            3,005,058                5.0          4.5 
  2200 Mission College Blvd. RN6-46                                                                               
  Santa Clara, CA 95052                                                                                           
EXECUTIVE OFFICERS AND DIRECTORS                                                                                  
Robert F. Young (2).........................................            9,081,826               15.0         13.6 
Marc Ewing (3)..............................................            9,088,476               15.0         13.7 
Matthew Szulik (4)..........................................            2,736,248                4.4          4.0 
Frank Batten, Jr. (5).......................................           15,005,888               24.8         22.5 
  c/o Landmark Communications                                                                                     
  150 W. Brambleton Avenue                                                                                        
  Norfolk, VA 23510-2075                                                                                          
William S. Kaiser (6).......................................            8,723,866               14.4         13.1 
  c/o Greylock IX Limited Partnership                                                                             
  One Federal Street                                                                                              
  Boston, MA 02110                                                                                                
Eric Hahn...................................................              171,552              *            *     
All executive officers and directors as                                                                           
  a group (9 persons) (7)...................................           47,145,578               74.1%        67.7%

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

*   Represents beneficial ownership of less than one percent of outstanding     
common stock.                                                           

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(1) Unless otherwise indicated, the address for each beneficial owner is c/o Red
Hat, Inc., 2600 Meridian Parkway, Durham, N.C. 27713.                   

(2) Includes 3,222,746 shares held of record by Nancy Young, Mr. Young's wife,  
    300,000 held by the Nancy R. Young GRAT dated April 28, 1999, 200,000 shares
   held of record by the Young Family Trust dated April 28, 1999 and 1,418,160
    shares held of record by trusts for the benefit of Mr. Young's children. Mr.
   Young disclaims beneficial ownership of these shares. Also includes 300,000
shares held of record by the Robert F. Young GRAT dated April 28, 1999. 

(3) Includes 200,000 shares held of record by the Ewing Family Trust dated April
 28, 1999 and 1,012,720 shares held of record by trusts for the benefit of
Mr. Ewing's children. Mr. Ewing disclaims beneficial ownership of these 
  shares. Also includes 600,000 shares held of record by the Marc Ewing GRAT
dated April 28, 1999.                                                   

(4) Includes 36,000 shares held of record by trusts for the benefit of Mr.      
Szulik's children. Mr. Szulik disclaims beneficial ownership of these   
   shares. Also includes 27,678 shares held of record by the Matthew J. Szulik
GRAT dated May 26, 1999. Also includes 1,672,570 shares of common stock 
issuable upon exercise of stock options.                                

(5) Includes 1,519,246 shares held of record by the 1988 Batten Trust and       
13,486,642 shares held of record by the 1998 Frank Batten, Jr. Grantor  
Annuity Trust.                                                          

(6) Includes shares held by Greylock IX Limited Partnership. Mr. Kaiser is a    
  general partner of Greylock IX GP Limited Partnership, the general partner
of Greylock IX Limited Partnership. Mr. Kaiser disclaims beneficial     
ownership of these shares.                                              

(7) Includes 3,031,190 shares of common stock issuable upon exercise of stock   
options.                                                                

DESCRIPTION OF CAPITAL STOCK

GENERAL 

Effective upon the closing of this offering and the filing of Red Hat's 
Third Amended and Restated Certificate of Incorporation, as amended as of that  
date, the authorized capital stock of Red Hat will consist of 225,000,000 shares
of common stock, par value $.0001 per share, and 5,000,000 shares of preferred  
stock, par value $.0001 per share.                                              

Prior to the effectiveness of the registration statement of which this  
prospectus is a part, and in accordance with Red Hat's Second Amended and       
Restated Certificate of Incorporation, as amended and then in effect, Red Hat   
was authorized to issue up to 70,620,652 shares of common stock, par value      
$.0001 per share, of which 26,889,652 shares were issued and outstanding as of  
July 31, 1999 and 16,972,726 shares of preferred stock, par value $.0001 per    
share, of which as of July 31, 1999, 16,972,726 shares were issued and          
outstanding. Upon the closing of this offering, all shares of preferred stock   
will automatically convert into 33,945,452 shares of common stock.              

    The following summary description of Red Hat's capital stock is not intended
to be complete and is qualified by reference to the provisions of applicable law
and to Red Hat's Third Amended and Restated Certificate of Incorporation and    
Amended and Restated By-laws, filed as exhibits to the registration statement of
which this prospectus is a part.                                                

COMMON STOCK

As of July 31, 1999, there were 26,889,652 shares of common stock       
outstanding held by 80 stockholders of record. Based upon the number of shares  
outstanding as of that date and giving effect to the issuance of the 6,000,000  
shares of common stock offered by Red Hat in this offering and the conversion of
the outstanding shares of preferred stock, there will be 66,835,104 shares of   
common stock outstanding upon the closing of this offering. In addition, as of  
July 31, 1999, there were outstanding stock options for the purchase of         
5,762,188 shares of common stock and outstanding warrants for the               

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purchase of 3,197,450 shares of common stock.                                   

   Holders of common stock are entitled to one vote for each share held on all
matters submitted to a vote of stockholders and do not have cumulative voting   
rights. Directors are elected by a plurality of the votes of the shares present 
in person or by proxy at the meeting and entitled to vote in such election.     
Holders of common stock are entitled to receive ratably such dividends, if any, 
as may be declared by the Board of Directors out of funds legally available     
therefor, after provision has been made for any preferential dividend rights of 
outstanding preferred stock. Upon the liquidation, dissolution or winding up of 
Red Hat, the holders of common stock are entitled to receive ratably the net    
assets of Red Hat available after the payment of all debts and other liabilities
of Red Hat, and after the satisfaction of the rights of any outstanding         
preferred stock. Holders of the common stock have no preemptive, subscription,  
redemption or conversion rights, nor are they entitled to the benefit of any    
sinking fund. The outstanding shares of common stock are, and the shares offered
by Red Hat in this offering will be, when issued and paid for, validly issued,  
fully paid and non-assessable. The rights, powers, preferences and privileges of
holders of common stock are subordinate to, and may be adversely affected by,   
the rights of the holders of shares of any series of preferred stock which Red  
Hat may designate and issue in the future.                                      

PREFERRED STOCK 

The Board of Directors will be authorized, without further stockholder  
approval, to issue from time to time up to an aggregate of 5,000,000 shares of  
preferred stock, in one or more series. Each series of preferred stock shall    
have such number of shares, designations, preferences, voting powers,           
qualifications and special or relative rights or privileges as shall be         
determined by the Board of Directors, which may include, among others, dividend 
rights, voting rights, redemption and sinking fund provisions, liquidation      
preferences, conversion rights and preemptive rights.                           

    The stockholders of Red Hat have granted the Board of Directors authority to
issue the preferred stock and to determine its rights and preferences in order  
to eliminate delays associated with a stockholder vote on specific issuances.   
The rights of the holders of common stock will be subordinate to the rights of  
holders of any preferred stock issued in the future. The issuance of preferred  
stock, while providing desirable flexibility in connection with possible        
acquisitions and other corporate purposes, could adversely affect the voting    
power or other rights of the holders of common stock, and could make it more    
difficult for a third party to acquire, or discourage a third party from        
attempting to acquire, a majority of the outstanding voting stock of Red Hat.   
Red Hat has not, to date, issued any shares of such preferred stock and has no  
present plans to issue any shares of preferred stock.                           

DELAWARE LAW AND CERTAIN CHARTER AND BY-LAW PROVISIONS AND ANTI-TAKEOVER EFFECTS

Upon completion of this offering, the provisions of Section 203 of the  
General Corporation Law of Delaware will prohibit Red Hat from engaging in a    
"business combination" with an "interested stockholder" for a period of three   
years after the date of the transaction in which the person became an interested
stockholder, unless the business combination is approved in a prescribed manner.
A "business combination" includes mergers, asset sales and other transactions   
resulting in a financial benefit to the interested stockholder. An "interested  
stockholder" is defined as a person who, at the time of determination whether a 
person is an interested stockholder,                                            

- beneficially owns 15% or more of Red Hat's common stock; or           

   - is an affiliate or associate of Red Hat and benefically owned 15% or more
   of Red Hat's common stock at any time within three years of the date of
determination.                                                      

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  Red Hat's Third Amended and Restated Certificate of Incorporation provides
for the division of the Board of Directors into three classes as nearly equal in
size as possible with staggered three-year terms. See "Management--Election of  
Officers and Directors". In addition, Red Hat's Third Amended and Restated      
Certificate of Incorporation provides that directors may be removed only for    
cause by the affirmative vote of the holders of 75% of the shares of capital    
stock of Red Hat entitled to vote. Under Red Hat's Third Amended and Restated   
Certificate of Incorporation, any vacancy on the Board of Directors, however    
occurring, including a vacancy resulting from an enlargement of the Board, may  
only be filled by vote of a majority of the directors then in office. The likely
effect of the classification of the Board of Directors and the limitations on   
the removal of directors and filling of vacancies is an increase in the time    
required for the stockholders to change the composition of the Board of         
Directors. For example, because only two directors may be replaced by           
stockholder vote at each annual meeting of stockholders, stockholders seeking to
replace a majority of the members of the Board of Directors will need at least  
two annual meetings of stockholders to effect this change.                      

Red Hat's Third Amended and Restated Certificate of Incorporation also  
provides that, after the effective date of the registration statement of which  
this prospectus is a part, any action required or permitted to be taken by the  
stockholders of Red Hat at an annual meeting or special meeting of stockholders 
may only be taken if it is properly brought before the meeting and may not be   
taken by written action in lieu of a meeting. Red Hat's Amended and Restated    
By-laws provide that special meetings of the stockholders may only be called by 
the Board of Directors, the Chairman of the Board of Directors, the Chief       
Executive Officer or the President of Red Hat. Red Hat's Amended and Restated   
By-laws further provide that in order for any matter to be considered "properly 
brought" before a meeting, a stockholder must comply with requirements regarding
advance notice to Red Hat. The foregoing provisions could have the effect of    
delaying until the next stockholders meeting stockholder actions which are      
favored by the holders of a majority of the outstanding voting securities of Red
Hat. These provisions may also discourage another person or entity from making a
tender offer for Red Hat's common stock, because such person or entity, even if 
it acquired a majority of the outstanding voting securities of Red Hat, would be
able to take action as a stockholder, such as electing new directors or         
approving a merger, only at a duly called stockholders meeting, and not by      
written consent.                                                                

  The General Corporation Law of Delaware provides that the affirmative vote
of a majority of the shares entitled to vote on any matter is required to amend 
a corporation's certificate of incorporation or by-laws, unless a corporation's 
certificate of incorporation or by-laws, as the case may be, requires a greater 
percentage. Red Hat's Third Amended and Restated Certificate of Incorporation   
requires the affirmative vote of the holders of at least 75% of the shares of   
capital stock of Red Hat issued and outstanding and entitled to vote to amend or
repeal any of the foregoing provisions of the Restated Certificate of           
Incorporation. Red Hat's Amended and Restated By-laws may be amended or repealed
by a majority vote of the Board of Directors except for provisions relating to  
the Board of Directors which may only be amended or repealed by the affirmative 
vote of the holders of at least 75% of the shares of capital stock issued and   
outstanding and entitled to vote. The Amended and Restated By-laws may also be  
amended or repealed by the affirmative vote of the holders of at least 75% of   
the shares of capital stock of Red Hat issued and outstanding and entitled to   
vote. The 75% stockholder vote would be in addition to any separate class vote  
that might in the future be required in accordance with the terms of any series 
of preferred stock that might be outstanding at the time any such amendments are
submitted to stockholders.                                                      

TRANSFER AGENT AND REGISTRAR

The transfer agent and registrar for the common stock is Chase Mellon   
Shareholder Services, LLC.                                                      

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SHARES ELIGIBLE FOR FUTURE SALE 

    Prior to this offering, there has been no market for Red Hat's common stock.
Future sales of substantial amounts of common stock in the public market could  
adversely affect prevailing market prices from time to time. Furthermore, since 
only a limited number of shares will be available for sale shortly after this   
offering because of certain contractual and legal restrictions on resale        
described below, sales of substantial amounts of Red Hat's common stock in the  
public market after the restrictions lapse could adversely affect the prevailing
market price and Red Hat's the ability to raise equity capital in the future.   

SALES OF RESTRICTED SHARES

Based on shares outstanding at June 30, 1999 upon completion of this    
offering, Red Hat will have outstanding an aggregate of 66,579,704 shares of    
common stock, assuming no exercise of the underwriters' over-allotment option   
and no exercise of outstanding options or warrants. Of these shares, the        
6,000,000 shares sold in this offering will be freely tradable without          
restrictions or further registration under the Securities Act, unless such      
shares are purchased by an existing affiliate of Red Hat as that term is defined
in Rule 144 under the Securities Act.                                           

The remaining 60,579,704 shares of common stock held by existing        
stockholders are restricted shares or are restricted by the contractual         
provisions described below. Restricted shares may be sold in the public market  
only if registered or if they qualify for an exemption from registration under  
Rule 144, 144(k) or 701 promulgated under the Securities Act, which are         
summarized below. Of these restricted shares, 1,990,000 shares will be available
for resale in the public market in reliance on Rule 144(k), all of which shares 
are restricted by the terms of the lock-up agreements described below. An       
additional 31,773,102 shares will be available for resale in the public market  
in reliance on Rule 144, all of which shares are restricted by the terms of the 
lock-up agreements. The remaining 26,296,852 shares become eligible for resale  
in the public market at various dates thereafter, all of which shares are       
restricted by the terms of the lock-up agreements.                              

  Under Rule 144 as currently in effect, beginning 90 days after the date of
this prospectus, a person who has beneficially owned restricted shares for at   
least one year and has complied with the requirements described below would be  
entitled to sell a certain number of shares within any three-month period. That 
number of shares cannot exceed the greater of one percent of the number of      
shares of common stock then outstanding, which will equal approximately 666,000 
shares immediately after this offering, or the average weekly trading volume of 
the common stock on the Nasdaq National Market during the four calendar weeks   
preceding the filing of a notice on Form 144 reporting such sale. Sales under   
Rule 144 are also restricted by certain manner of sale provisions, notice       
requirements and the availability of current public information about Red Hat.  
Rule 144 also provides that affiliates of Red Hat who are selling shares of     
common stock that are not restricted shares must nonetheless comply with the    
same restrictions applicable to restricted shares with the exception of the     
holding period requirement.                                                     

  Under Rule 144(k), a person who is not deemed to have been an affiliate of
Red Hat at any time during the 90 days preceding a sale, and who has            
beneficially owned the shares proposed to be sold for at least two years, is    
entitled to sell such shares without complying with the manner of sale, public  
information, volume limitation or notice provisions of Rule 144. Accordingly,   
unless otherwise restricted, these shares may therefore be sold immediately upon
the completion of this offering.                                                

OPTIONS 

    Rule 701 provides that the shares of common stock acquired upon the exercise
of currently outstanding options or other rights granted under Red Hat's stock  
plans may be resold, to the extent not restricted by the terms                  

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of the lock-up agreements, by persons, other than affiliates, beginning 90 days 
after the date of this prospectus, restricted only by the manner of sale        
provisions of Rule 144, and by affiliates in accordance with Rule 144, without  
compliance with its one-year minimum holding period. As of June 30, 1999,       
459,750 shares will be available for resale in the public market in reliance on 
Rule 701, all of which shares are restricted by the terms of the lock-up        
agreements. As of June 30, 1999, the Board of Directors had authorized an       
aggregate of up to 16,684,800 shares of common stock for issuance under Red     
Hat's stock option and stock purchase plans. As of June 30, 1999, options to    
purchase a total of 5,176,888 shares of common stock were outstanding, all of   
which options are exercisable but restricted by Red Hat's right to repurchase   
unvested shares upon the termination of such optionee's business relationship   
with Red Hat. Of these options, 407,425 shares are no longer restricted by Red  
Hat's right of repurchase and will be eligible for sale, if not restricted by   
the terms of the lock-up agreements, in the public market in accordance with    
Rule 701 under the Securities Act beginning 90 days after the date of this      
prospectus. Of the total shares issuable upon exercise of these options, all of 
these shares are restricted by the terms of the lock-up agreements.             

Red Hat intends to file one or more registration statements on Form S-8 
under the Securities Act following this offering to register all shares of      
common stock which are issuable upon exercise of outstanding stock options or   
other rights granted under Red Hat's stock plan(s) and common stock issuable    
under Red Hat's stock option and stock purchase plans. These registration       
statements are expected to become effective upon filing. Shares covered by these
registration statements will thereupon be eligible for sale in the public       
markets, upon the expiration or release from the terms of the lock-up           
agreements, to the extent applicable.                                           

WARRANTS

As of June 30, 1999, Red Hat had outstanding warrants exercisable for a 
total of 3,197,450 shares of common stock, all of which are currently           
exercisable. All of these shares are restricted by the terms of the lock-up     
agreements.                                                                     

LOCK-UP AGREEMENTS

   Except for sales of common stock to the underwriters in accordance with the
terms of the underwriting agreement Red Hat, the executive officers, directors, 
stockholders and substantially all optionholders have agreed not to sell or     
otherwise dispose of, directly or indirectly, any shares of common stock (or any
security convertible into or exchangeable or exercisable for common stock)      
without the prior written consent of Goldman, Sachs & Co. for a period of 180   
days after the date of this prospectus. In addition, for a period of 180 days   
from the date of this prospectus, except as required by law, Red Hat has agreed 
that its Board of Directors will not consent to any offer for sale, sale or     
other disposition, or any transaction which is designed or could be expected to 
result in the disposition by any person, directly or indirectly, of any shares  
of common stock without the prior written consent of Goldman Sachs. See         
"Underwriting". Goldman Sachs, in its sole discretion, at any time or from time 
to time and without notice, may release for sale in the public market all or any
portion of the shares restricted by the terms of the lock-up agreements.        

REGISTRATION RIGHTS 

   Upon the expiration of the contractual lock-up period, certain stockholders
of Red Hat will be entitled to require Red Hat to register under the Securities 
Act up to a total of 55,725,622 shares of outstanding common stock under the    
terms of an investor rights agreement with Red Hat. The investor rights         
agreement provides that if Red Hat proposes to register in a firm commitment    
underwritten offering any of its securities under the Securities Act at any time
or times, if not restricted by the underwriters of the offering, the            
stockholders having registration rights shall be entitled to include shares of  
common stock held by them in such registration. However, the managing           
underwriter of any offering may exclude for marketing reasons some or all of the
shares from the registration. Some of these                                     

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stockholders also have the right to require Red Hat, on no more than five       
occasions, to prepare and file a registration statement under the Securities Act
registering the shares of common stock held by them. Red Hat is required to bear
the expenses of all such registrations, except underwriting discounts and       
commissions. The investor rights agreement terminates in 2002 on the third      
anniversary of the offering.                                                    

EFFECTS OF SALES OF SHARES

    Prior to this offering, there has been no public market for the common stock
of Red Hat, and no predictions can be made as to the effect, if any, that market
sales of shares of common stock prevailing from time to time, or the            
availability of shares for future sale, may have on the market price for the    
common stock. Sales of substantial amounts of common stock, or the perception   
that such sales could occur, could adversely effect prevailing market prices for
the common stock and could impair Red Hat's future ability to obtain capital    
through an offering of equity securities.                                       

LEGAL MATTERS 

The validity of the shares of common stock to be issued in this offering
will be passed upon for Red Hat by Testa, Hurwitz & Thibeault, LLP, Boston,     
Massachusetts. Certain legal matters in connection with this offering will be   
passed upon for the underwriters by Hale and Dorr LLP, Boston, Massachusetts.   

EXPERTS 

 The financial statements as of February 28, 1998 and 1999 and for each of
the three years in the period ended February 28, 1999 included in this          
prospectus have been so included in reliance upon 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 

  Red Hat has filed with the Commission a registration statement on Form S-1
under the Securities Act registering the common stock to be sold in this        
offering. As permitted by the rules and regulations of the Commission, this     
prospectus omits certain information contained in the registration statement and
the exhibits and schedules filed as a part of the registration statement. For   
further information concerning Red Hat and the common stock to be sold in this  
offering, you should refer to the registration statement and to the exhibits and
schedules filed as part of the registration statement. Statements contained in  
this prospectus regarding the contents of any agreement or other document filed 
as an exhibit to the registration statement are not necessarily complete, and in
each instance reference is made to the copy of the agreement filed as an exhibit
to the registration statement each statement being qualified by this reference. 
The registration statement, including the exhibits and schedules filed as a part
of the registration statement, may be inspected at the public reference         
facilities maintained by the Commission at Room 1024, Judiciary Plaza, 450 Fifth
Street, N.W., Washington, D.C. 20549, and at its regional offices located at    
Seven World Trade Center, New York, New York 10007 and 500 West Madison Street, 
Suite 1400, Chicago, Illinois 60661, and copies of all or any part thereof may  
be obtained from such offices upon payment of the prescribed fees. You may call 
the Commission at 1-800-SEC-0330 for further information on the operation of the
public reference rooms and you can request copies of the documents upon payment 
of a duplicating fee, by writing to the Commission. In addition, the Commission 
maintains a web site that contains reports, proxy and information statements and
other information regarding registrants (including Red Hat) that file           
electronically with the Commission which can be accessed at http://www.sec.gov. 

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RED HAT, INC. 
INDEX TO FINANCIAL STATEMENTS 

                                                        [Enlarge/Download Table]

                                                                                       PAGE   
                                                                                       -----  
                                                                                              
Report of Independent Accountants....................................................      F-2

Balance Sheets at February 28, 1998 and 1999 and May 31, 1999........................      F-3

Statements of Operations for the years ended February 28, 1997, 1998 and 1999 and the         
  three months ended May 31, 1998 and 1999...........................................      F-4

Statements of Stockholders' Equity (Deficit) for the years ended February 28, 1997,           
  1998 and 1999 and the three months ended May 31, 1999..............................      F-5

Statements of Cash Flows for the years ended February 28, 1997, 1998 and 1999 and the         
  three months ended May 31, 1998 and 1999...........................................      F-6

Notes to Financial Statements........................................................      F-7

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REPORT OF INDEPENDENT ACCOUNTANTS 

The Board of Directors and Stockholders of                                      
Red Hat, Inc.                                                                   

  In our opinion, the accompanying balance sheets and the related statements
of operations, of stockholders' equity (deficit), and of cash flows present     
fairly, in all material respects, the financial position of Red Hat, Inc. at    
February 28, 1998 and 1999, and the results of its operations and its cash flows
for each of the three years in the period ended February 28, 1999, in conformity
with generally accepted accounting principles. 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 generally accepted auditing       
standards 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 the opinion expressed above.              

/s/ PricewaterhouseCoopers LLP                                                  

Raleigh, North Carolina                                                         
April 30, 1999, except as to note 14                                            
which is as of August 11, 1999                                                  

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RED HAT, INC. 

BALANCE SHEETS

                                                        [Enlarge/Download Table]

                                                                         FEBRUARY 28,                   PRO     
                                                            --------------------------------------     FORMA    
                                                               1998         1999        MAY 31,       MAY 31,   
                                                            -----------  -----------      1999          1999    
                                                                                      ------------  ------------
                                                                                      (UNAUDITED)   (UNAUDITED) 
                                                                                                                
                          ASSETS                                                                                
Current assets:                                                                                                 
  Cash and cash equivalents...............................  $ 1,292,562  $10,055,227   $13,982,093   $13,982,093
  Short-term investments..................................      100,000    2,037,992    1,023,518     1,023,518 
  Accounts receivable, net................................      744,551    1,127,193    3,321,175     3,321,175 
  Inventory...............................................      141,176      345,630    1,074,190     1,074,190 
  Prepaid expenses........................................      383,830      173,730      337,107       337,107 
  Income tax receivable...................................           --      114,145      114,145       114,145 
                                                            -----------  -----------  ------------  ------------
    Total current assets..................................    2,662,119   13,853,917   19,852,228    19,852,228 
Property and equipment, net...............................      337,327    1,270,576    1,797,790     1,797,790 
Other assets, net.........................................       81,188      151,310      512,440       512,440 
Investments...............................................       50,000           --           --            -- 
                                                            -----------  -----------  ------------  ------------
    Total assets..........................................  $ 3,130,634  $15,275,803   $22,162,458   $22,162,458
                                                            -----------  -----------  ------------  ------------
                                                            -----------  -----------  ------------  ------------

      LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)                                                            
Current liabilities:                                                                                            
  Accounts payable........................................  $   773,936  $ 2,087,305   $3,264,987    $3,264,987 
  Royalties payable.......................................      247,323      144,074       92,000        92,000 
  Accrued expenses........................................       50,334      379,757      185,465       185,465 
  Deferred revenue........................................       26,207       33,352    2,983,734     2,983,734 
  Current portion of capital lease obligations............       22,797      108,897      108,897       108,897 
                                                            -----------  -----------  ------------  ------------
    Total current liabilities.............................    1,120,597    2,753,385    6,635,083     6,635,083 
Capital lease obligations.................................       65,032      419,778      384,937       384,937 
Commitments and contingencies (Note 12)...................                                                      
Mandatorily redeemable preferred stock:                                                                         
  Series A, 6,801,400 shares authorized, issued and                                                             
    outstanding; none pro forma...........................    1,983,209    1,992,184    1,997,139            -- 
  Series B, 8,116,550 shares authorized, issued and                                                             
    outstanding; none pro forma...........................           --    6,919,644    6,936,415            -- 
  Series C, 1,797,929 and 2,054,776 shares authorized at                                                        
    February 28, 1999 and May 31, 1999, respectively;                                                           
    1,027,388 and 2,054,776 shares issued and outstanding                                                       
    at February 28, 1999 and May 31, 1999, respectively;                                                        
    none pro forma........................................           --    3,195,591    6,404,980            -- 
Stockholders' equity (deficit):                                                                                 
  Common stock, $.0001 par value, 225,000,000 shares                                                            
    authorized, 23,500,000, 23,852,950 and 26,134,502                                                           
    shares issued and outstanding at February 28, 1998,                                                         
    1999 and May 31, 1999, respectively (60,079,954 shares                                                      
    issued and outstanding pro forma at May 31, 1999).....        2,350        2,385        2,613         6,008 
  Additional paid-in capital..............................      263,650      427,464    5,946,087    21,281,226 
  Deferred compensation...................................           --           --   (3,577,698)   (3,577,698)
  Accumulated deficit.....................................     (304,204)    (434,628)  (2,567,098)   (2,567,098)
                                                            -----------  -----------  ------------  ------------
    Total stockholders' equity (deficit)..................      (38,204)      (4,779)    (196,096)   15,142,438 
                                                            -----------  -----------  ------------  ------------
    Total liabilities and stockholders' equity                                                                  
      (deficit)...........................................  $ 3,130,634  $15,275,803   $22,162,458   $22,162,458
                                                            -----------  -----------  ------------  ------------
                                                            -----------  -----------  ------------  ------------

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

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RED HAT, INC. 

STATEMENTS OF OPERATIONS

                                                        [Enlarge/Download Table]

                                                                             THREE MONTHS       
                                            YEAR ENDED FEBRUARY 28,         ENDED MAY 31,       
                                        -------------------------------  --------------------   
                                          1997       1998       1999       1998       1999      
                                        ---------  ---------  ---------  ---------  ---------   
                                                                             (UNAUDITED)        
                                                                                                
Revenue:                                                                                        
  Software and related products........ $2,603,131 $5,131,623 $10,012,923 $1,373,650 $1,935,818 
  Web advertising......................        --         --         --         --     80,050   
  Services and other...................        --     24,000    776,996    177,315    781,351   
                                        ---------  ---------  ---------  ---------  ---------   
    Total revenue...................... 2,603,131  5,155,623  10,789,919 1,550,965  2,797,219   
                                        ---------  ---------  ---------  ---------  ---------   
Cost of revenue:                                                                                
  Software and related products........ 1,204,721  2,210,538  4,012,685    682,415  1,180,904   
  Web advertising                              --         --         --         --    123,000   
  Services and other...................        --         --     28,148         --    443,160   
                                        ---------  ---------  ---------  ---------  ---------   
    Total cost of revenue.............. 1,204,721  2,210,538  4,040,833    682,415  1,747,064   
                                        ---------  ---------  ---------  ---------  ---------   
Gross profit........................... 1,398,410  2,945,085  6,749,086    868,550  1,050,155   
                                        ---------  ---------  ---------  ---------  ---------   
Operating expense:                                                                              
  Sales and marketing..................   491,473  1,252,362  3,083,162    381,658  1,628,567   
  Research and development.............   325,244    902,826  2,220,115    340,965    826,124   
  General and administrative...........   525,978    798,592  1,483,909    213,651    824,158   
                                        ---------  ---------  ---------  ---------  ---------   
    Total operating expense............ 1,342,695  2,953,780  6,787,186    936,274  3,278,849   
                                        ---------  ---------  ---------  ---------  ---------   
Income (loss) from operations..........    55,715     (8,695)   (38,100)   (67,724) (2,228,694) 
                                        ---------  ---------  ---------  ---------  ---------   
Other income (expense):                                                                         
  Interest income......................       200     34,410    171,181     15,223    150,109   
  Interest expense.....................   (23,304)   (13,036)    (9,463)        --    (10,805)  
                                        ---------  ---------  ---------  ---------  ---------   
    Other income (expense), net........   (23,104)    21,374    161,718     15,223    139,304   
                                        ---------  ---------  ---------  ---------  ---------   
Income (loss) before income taxes......    32,611     12,679    123,618    (52,501) (2,089,390) 
Provision for income taxes.............        --      4,906    214,686         --         --   
                                        ---------  ---------  ---------  ---------  ---------   
Net income (loss)......................    32,611      7,773    (91,068)   (52,501) (2,089,390) 
Accretion on mandatorily redeemable                                                             
  preferred stock......................        --         --    (39,356)        --    (43,080)  
                                        ---------  ---------  ---------  ---------  ---------   
Net income (loss) available to common                                                           
  stockholders......................... $  32,611  $   7,773  $(130,424) $ (52,501) $(2,132,470)
                                        ---------  ---------  ---------  ---------  ---------   
                                        ---------  ---------  ---------  ---------  ---------   
Net income (loss) per common share:                                                             
  Basic................................    0.0014     0.0003    (0.0055)   (0.0022)   (0.0875)  
  Diluted..............................    0.0012     0.0002    (0.0055)   (0.0022)   (0.0875)  
Weighted average common shares                                                                  
  outstanding:                                                                                  
  Basic................................ 23,500,000 23,500,000 23,550,050 23,500,000 24,383,353  
  Diluted.............................. 27,232,520 34,578,277 23,550,050 23,500,000 24,383,353  
Pro forma net income (loss) per common                                                          
  share (unaudited):                                                                            
  Basic................................    0.0014     0.0003    (0.0021)   (0.0014)   (0.0362)  
  Diluted..............................    0.0012     0.0002    (0.0021)   (0.0014)   (0.0362)  
Pro forma weighted average common                                                               
  shares outstanding (unaudited):                                                               
  Basic................................ 23,500,000 30,841,785 43,929,824 37,102,800 57,781,609  
  Diluted.............................. 27,232,520 34,578,277 43,929,824 37,102,800 57,781,609  

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

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RED HAT, INC. 

STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)

                                                        [Enlarge/Download Table]

                                  COMMON STOCK        ADDITIONAL                                      TOTAL      
                             -----------------------   PAID-IN       DEFERRED      ACCUMULATED    STOCKHOLDERS'  
                               SHARES      AMOUNT      CAPITAL     COMPENSATION      DEFICIT     EQUITY (DEFICIT)
                             ----------  -----------  ----------  --------------  -------------  ----------------
                                                                                                                 
Balance at February 29,                                                                                          
  1996...................... 23,500,000   $   2,350   $  263,650   $         --    $  (344,588)    $    (78,588) 
Net income..................         --          --           --             --         32,611           32,611  
                             ----------  -----------  ----------  --------------  -------------  ----------------
Balance at February 28,                                                                                          
  1997...................... 23,500,000       2,350      263,650             --       (311,977)         (45,977) 
Net income..................         --          --           --             --          7,773            7,773  
                             ----------  -----------  ----------  --------------  -------------  ----------------
Balance at February 28,                                                                                          
  1998...................... 23,500,000       2,350      263,650             --       (304,204)         (38,204) 
Exercise of common stock                                                                                         
  warrants..................    352,950          35          (17)            --             --               18  
Tax benefit on exercise of                                                                                       
  common stock warrants.....         --          --      163,831             --             --          163,831  
Accretion of mandatorily                                                                                         
  redeemable preferred                                                                                           
  stock.....................         --          --           --             --        (39,356)         (39,356) 
Net loss....................         --          --           --             --        (91,068)         (91,068) 
                             ----------  -----------  ----------  --------------  -------------  ----------------
Balance at February 28,                                                                                          
  1999...................... 23,852,950       2,385      427,464             --       (434,628)          (4,779) 
Exercise of common stock                                                                                         
  options and warrants......  2,281,552         228    1,840,624             --             --        1,840,852  
Deferred compensation.......         --          --    3,677,999     (3,677,999)            --               --  
Amortization of deferred                                                                                         
  compensation..............         --          --           --        100,301             --          100,301  
Accretion of mandatorily                                                                                         
  redeemable preferred                                                                                           
  stock.....................         --          --           --             --        (43,080)         (43,080) 
Net loss....................         --          --           --             --     (2,089,390)      (2,089,390) 
                             ----------  -----------  ----------  --------------  -------------  ----------------
Balance at May 31, 1999                                                                                          
  (unaudited)............... 26,134,502   $   2,613   $5,946,087   $ (3,577,698)   $(2,567,098)    $   (196,096) 
                             ----------  -----------  ----------  --------------  -------------  ----------------
                             ----------  -----------  ----------  --------------  -------------  ----------------

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

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RED HAT, INC. 

STATEMENTS OF CASH FLOWS

                                                        [Enlarge/Download Table]

                                                                                            THREE MONTHS       
                                                                                               ENDED           
                                                       YEAR ENDED FEBRUARY 28,                MAY 31,          
                                                  ----------------------------------  ------------------------ 
                                                    1997        1998        1999         1998         1999     
                                                  ---------  ----------  -----------  ----------  ------------ 
                                                                                            (UNAUDITED)        
                                                                                                               
Cash flows from operating activities:                                                                          
Net income (loss)...............................  $  32,611  $    7,773  $   (91,068) $  (52,501) $ (2,089,390)
Adjustments to reconcile net income (loss) to                                                                  
  net cash provided by (used in) operating                                                                     
  activities:                                                                                                  
  Depreciation and amortization.................     37,134     102,876      177,656      31,379        65,657 
  Tax benefit of options exercised..............         --          --      163,831          --            -- 
  Deferred compensation.........................         --          --           --          --       100,301 
  Provision for doubtful accounts...............     38,986      38,141      185,092          --        19,120 
  Provision for inventory obsolescence..........         --          --      182,509      68,439            -- 
  Deferred revenue..............................         --      26,207        7,145          --     2,950,382 
  Changes in operating assets and liabilities:                                                                 
    Accounts receivable.........................   (251,774)   (479,746)    (567,734)    105,851    (2,213,102)
    Inventory...................................    (14,934)    (84,507)    (386,963)    (74,482)     (728,560)
    Prepaid expenses............................    (12,248)   (370,571)     210,100    (120,991)     (163,377)
    Income tax receivable.......................         --          --     (114,145)         --            -- 
    Other assets................................      1,613     (15,408)     (75,478)     (2,790)     (362,428)
    Accounts payable............................    282,453     290,253    1,313,369     (33,465)    1,177,682 
    Royalties payable...........................     57,477     189,846     (103,249)    118,727       (52,074)
    Accrued expenses............................    (66,044)     19,019      329,423     (11,290)     (194,292)
                                                  ---------  ----------  -----------  ----------  ------------ 
      Net cash provided by (used in) operating                                                                 
        activities..............................    105,274    (276,117)   1,230,488      28,877    (1,490,081)
                                                  ---------  ----------  -----------  ----------  ------------ 
Cash flows from investing activities:                                                                          
Purchase of investment securities...............         --    (150,000)  (1,966,600)         --            -- 
Proceeds from maturity of investment                                                                           
  securities....................................         --          --      100,000     100,000     1,014,474 
Purchase of equipment...........................   (201,322)   (158,004)    (654,235)    (71,537)     (591,573)
Proceeds from sale of equipment.................         --      24,272           --          --            -- 
                                                  ---------  ----------  -----------  ----------  ------------ 
      Net cash provided by (used in) investing                                                                 
        activities..............................   (201,322)   (283,732)  (2,520,835)     28,463       422,901 
                                                  ---------  ----------  -----------  ----------  ------------ 
Cash flows from financing activities:                                                                          
Proceeds from borrowing from stockholders.......     50,000          --           --          --            -- 
Repayments of borrowings from stockholders......         --     (86,243)          --          --            -- 
Proceeds from notes payable.....................     46,048     239,214           --          --            -- 
Repayments of notes payable.....................         --    (279,019)          --          --            -- 
Proceeds from issuance of mandatorily redeemable                                                               
  preferred stock, net..........................         --   1,983,209   10,084,854          --     3,188,035 
Proceeds from exercise of common stock options                                                                 
  and warrants..................................         --          --           18          --     1,840,852 
Payments on capital lease obligations...........         --      (4,750)     (31,860)     (7,737)      (34,841)
                                                  ---------  ----------  -----------  ----------  ------------ 
      Net cash provided by (used in) financing                                                                 
        activities..............................     96,048   1,852,411   10,053,012      (7,737)    4,994,046 
                                                  ---------  ----------  -----------  ----------  ------------ 
Net increase in cash and cash equivalents.......         --   1,292,562    8,762,665      49,603     3,926,866 
Cash and cash equivalents beginning of the                                                                     
  year..........................................         --          --    1,292,562   1,292,562    10,055,227 
                                                  ---------  ----------  -----------  ----------  ------------ 
Cash and cash equivalents end of year...........  $      --  $1,292,562  $10,055,227  $1,342,165  $ 13,982,093 
                                                  ---------  ----------  -----------  ----------  ------------ 
                                                  ---------  ----------  -----------  ----------  ------------ 

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

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS 

1. NATURE OF BUSINESS                                                           

BUSINESS ACTIVITY                                                               

    Red Hat, Inc. ("Red Hat" or the "Company") is a leading developer and global
provider of open source software products and services, and has built a         
comprehensive web site dedicated to the open source software community. Red Hat,
Inc. was incorporated in Connecticut in March 1993 as ACC Corp., Inc. In        
September 1995 ACC Corp., Inc. changed its name to Red Hat Software, Inc. In    
September 1998, Red Hat Software, Inc. reincorporated in Delaware. In June 1999,
Red Hat Software, Inc. changed its name to Red Hat, Inc. The Linux operating    
system ("Linux") is copyrighted under the terms of the GNU General Public       
License (the "GPL") which states that the source code must be freely            
distributable. The Company develops and publishes software applications that are
sold as shrink-wrapped software and releases freely-redistributable software    
available for unrestricted download on the internet. In addition, the Company   
publishes and sells reference books on the Linux operating system.              

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES                                   

UNAUDITED INTERIM FINANCIAL STATEMENTS                                          

    The financial statements as of May 31, 1998 and 1999 and for the three month
period then ended are unaudited and reflect all adjustments (consisting of      
normal recurring adjustments) which are, in the opinion of the Company's        
management, necessary for a fair presentation of financial position, results of 
operations and cash flows. All financial statement disclosures related to the   
three month period ended May 31, 1998 and 1999 are unaudited.                   

UNAUDITED PRO FORMA BALANCE SHEET                                               

The Board of Directors has authorized the Company to file a Registration
Statement with the Securities and Exchange Commission permitting the Company to 
sell shares of common stock in an initial public offering ("IPO"). If the IPO is
consummated as presently anticipated, each share of the Series A, Series B, and 
Series C mandatorily redeemable preferred stock will automatically convert into 
two shares of common stock. The unaudited pro forma balance sheet reflects the  
subsequent conversion of Series A, Series B, and Series C preferred shares into 
common stock at a 2 for 1 conversion ratio as if such conversion has occurred as
of February 28, 1999.                                                           

USE OF ESTIMATES                                                                

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

CASH AND CASH EQUIVALENTS                                                       

   The Company considers investments purchased with a maturity period of three
months or less at the date of purchase to be cash equivalents.                  

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)                       
INVESTMENTS                                                                     

    The Company's investments are all in debt securities which are classified as
held-to-maturity and are carried at amortized cost in accordance with Statement 
of Financial Accounting Standards No. 115 "Accounting for Investments in Debt   
and Equity Securities", as the Company has both the positive intent and ability 
to hold them to maturity.                                                       

INVENTORY                                                                       

    The costs incurred for duplicating the computer software, documentation, and
training materials from the product masters and for packaging the product for   
distribution are capitalized as inventory using the weighted average method and 
charged to cost of sales when revenue from the sale of units is recognized.     
Management periodically evaluates the realizability of inventory based on       
planned release dates of product updates and records a reserve for obsolescence 
when necessary. The reserve for inventory obsolescence was $0 and $182,509 at   
February 28, 1998 and 1999, respectively. The reserve for inventory obsolescence
was $182,509 at May 31, 1999.                                                   

CAPITALIZED SOFTWARE COSTS                                                      

  Capitalization of software development costs begins upon the establishment
of technological feasibility and ceases when the product is available for       
general release. The establishment of technological feasibility and the ongoing 
assessment of recoverability of capitalized software development costs require  
considerable judgment by management concerning certain external factors         
including, but not limited to, technological feasibility, anticipated future    
gross revenue, estimated economic life and changes in software and hardware     
technologies. As a result of the Company's practice of releasing source code    
that it has developed on a weekly basis for unrestricted download on the        
internet, there is generally no passage of time between achievement of          
technological feasibility and the availability of the Company's product for     
general release. Therefore, the Company has no capitalized software development 
costs at February 28, 1998 and 1999.                                            

PROPERTY AND EQUIPMENT                                                          

Property and equipment is primarily comprised of furniture and computer 
equipment which are recorded at cost and depreciated over their estimated useful
lives using the straight line method. Expenditures for maintenance and repairs  
are charged to operations as incurred; major expenditures for renewals and      
betterments are capitalized and depreciated. Property and equipment acquired    
under capital leases are being depreciated over their estimated useful lives or 
the respective lease term, if shorter. Depreciation periods used for property   
and equipment are as follows:                                                   

                                                                [Download Table]
                                                                      
Computer equipment...........................................  3 years
Furniture and fixtures.......................................  7 years
                                                               4 to 25
Leasehold improvements.......................................  years  

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)                       
OTHER ASSETS                                                                    

Costs incurred for acquiring trademarks, copyrights and patents are     
capitalized and amortized over their estimated useful lives, which range from 5 
to 15 years, using the straight line method. Other assets also includes security
deposits which are expected to be refunded to the Company upon termination of   
certain leases.                                                                 

IMPAIRMENT OF LONG-LIVED ASSETS                                                 

   The Company evaluates the recoverability of its property and equipment, and
other assets in accordance with Statement of Financial Accounting Standards No. 
121, "Accounting for the Impairment of Long-Lived Assets to be Disposed of"     
("SFAS 121"). SFAS 121 requires recognition of impairment of long-lived assets  
in the event the net book value of such assets exceeds the estimated future     
undiscounted cash flows attributable to such assets or the business to which    
such intangible assets relate. No impairments were required to be recognized    
during the years ended February 28, 1997, 1998 and 1999.                        

REVENUE RECOGNITION                                                             

  Revenues from the sale of software products for which no technical support
is provided are generally recognized upon shipment of the products, net of      
estimated returns. A reserve for sales returns is recognized for sales of       
software products to distributors, who have a right of return, based on the     
Company's historical experience of sell-through to the end user by the          
distributor. The Company recognizes revenues from the sale of software products 
to new distributors of its software products based upon sell-through to the end 
user until the Company has sufficient historical experience with the distributor
to allow the accurate estimation of sales returns.                              

  Upon the release of Version 6.0 of Official Red Hat Linux in May 1999, the
Company began providing certain telephone and e-mail technical support services 
for a period of 90 days from the date of registration of the software products  
for no additional fee. In accordance with the provisions of Statement of Opinion
No. 97-2, "Software Revenue Recognition" ("SOP 97-2"), the Company is           
recognizing all of the revenue from the sale of Version 6.0 of Official Red Hat 
Linux over the period that the technical support services are provided as the   
Company does not sell these technical support services separately and therefore 
does not have vendor specific objective evidence of the fair value of these     
services. These revenues are recognized ratably over the period that the        
technical support services are provided in proportion to the costs incurred to  
provide such technical support services as compared to estimated total costs to 
be incurred. The Company currently does not provide support and maintenance     
services as part of the fee for any of its software products, other than Version
6.0 of Official Red Hat Linux.                                                  

Revenue for maintenance and support services, other than installation   
support, is deferred and recognized ratably over the term of the agreement,     
which is typically twelve months. Such revenues have been insignificant to date.

Revenue from customer training, and other services is recognized as the 
service is performed.                                                           

Royalty revenue, which is included in services and other revenue, is    
comprised primarily of royalties received from the sale of rights to the        
Company's brand and trademark and royalties received from international         
distributors of the Company's products. Royalty revenue is recognized           

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)                       
when received. Revenue from sale of books, which is include in software and     
related products revenue, published by the Company, is recognized at the date of
shipment, net of estimated returns.                                             

Web advertising revenue is recognized ratably in the period in which the
advertisement is displayed, provided that the Company has no significant        
remaining obligations, at the lesser of the ratio of connections to the         
advertiser's website delivered over total guaranteed connections to the         
advertiser's website or the straight line basis over the term of the contract.  
If minimum guaranteed connections are not met, the Company defers recognition of
the corresponding revenue until the guaranteed connections are achieved. The    
Company did not generate revenue from the sale of advertising on its web site   
during the fiscal years ended February 28, 1997, 1998 and 1999. The Company     
began selling advertising space on its website during the three months ended May
31, 1999.                                                                       

ROYALTY COSTS                                                                   

   Royalties that the Company is required to pay on applications licensed from
third parties that are a component of the software products sold by the Company 
are expensed as cost of sales on a per unit basis as software products are sold.
Royalties paid in advance of the sale of the Company's software products are    
included in prepaid expenses and recorded as expense when the related software  
products are sold.                                                              

STOCK BASED COMPENSATION                                                        

    The Company accounts for stock based compensation based on the provisions of
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to     
Employees" ("APB No. 25"), which states that no compensation expense is recorded
for stock options or other stock-based awards to employees that are granted with
an exercise price equal to or above the estimated fair value per share of the   
Company's common stock on the grant date. In the event that stock options are   
granted with an exercise price below the estimated fair market value of the     
Company's common stock at the grant date, the difference between the fair market
value of the Company's common stock and the exercise price of the stock option  
is recorded as deferred compensation. Deferred compensation is amortized to     
compensation expense over the vesting period of the stock option. The Company   
recognized $100,301 in non-cash compensation expense related to amortization of 
deferred compensation during the three months ended May 31, 1999. The Company   
has adopted the disclosure requirements of Statement of Financial Accounting    
Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), which
requires compensation expense to be disclosed based on the fair value of the    
options granted at the date of the grant.                                       

SALES AND MARKETING EXPENSES                                                    

   Sales and marketing expenses consist primarily of costs, including salaries
and sales commissions, of all personnel involved in the sales process and       
related expenses. Sales and marketing expenses also include costs of advertising
and trade shows. All costs of advertising, including cooperative marketing      
arrangements, the software products, books and related services offered by the  
Company are expensed as incurred. Advertising expense totaled $69,109, $152,939 
and $597,822 for the years ended February 28, 1997, 1998 and 1999, respectively.

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)                       
RESEARCH AND DEVELOPMENT COSTS                                                  

Research and development expenses include all direct costs, primarily   
salaries for Company personnel and outside consultants, related to the          
development of new products and significant enhancements to existing products   
and are charged to operations as incurred until such time as technological      
feasibility is achieved.                                                        

INCOME TAXES                                                                    

The Company accounts for income taxes using the liability method which  
requires the recognition of deferred tax assets or liabilities for the temporary
differences between financial reporting and tax bases of the Company's assets   
and liabilities and for tax carryforwards at enacted statutory tax rates in     
effect for the years in which the differences are expected to reverse. The      
effect on deferred taxes of a change in tax rates is recognized in income in the
period that includes the enactment date. In addition, valuation allowances are  
established when necessary to reduce deferred tax assets to the amounts expected
to be realized.                                                                 

SIGNIFICANT CUSTOMERS AND CREDIT RISK                                           

Financial instruments which potentially subject the Company to          
concentrations of credit risk consist principally of temporary cash investments 
and trade receivables. The Company places its temporary cash investments with   
high-credit quality financial institutions which invest primarily in U.S.       
Government instrumentalities, commercial paper of prime quality and certificates
of deposit guaranteed by banks which are members of the FDIC. The Company       
performs ongoing credit evaluations to reduce credit risk and requires no       
collateral from its customers. Management estimates the allowance for           
uncollectible accounts based on their historical experience and credit          
evaluation. Sales to one distributor comprised $416,501 or 16%, $1,340,462 or   
26% and $2,135,733 or 20% of total revenues for the years ended February 28,    
1997, 1998 and 1999, respectively. Sales to one other distributor comprised     
$3,719,162 or 34% of total revenues for the year ended February 28, 1999.       
Receivables from two distributors comprised 75% and 25%, respectively, of net   
accounts receivable at February 28, 1999. Accounts receivable from one          
distributor comprised 42% of net receivables at February 28, 1998.              

All of the Company's software revenues are from sales transactions      
originating in the United States. The Company has received certain royalty      
payments from international sources; however, such amounts have been            
insignificant to date.                                                          

CASH FLOWS                                                                      

   The Company made cash payments for interest of $23,304, $13,036, and $9,463
for the years ended February 28, 1997, 1998, and 1999, respectively. The Company
made no cash payments for income taxes during the years ended February 28, 1997 
and 1998 and $163,831 during the year ended February 28, 1999.                  

The Company acquired property and equipment through the assumption of   
capital lease obligations amounting to $22,466, $75,299 and $472,706 for the    
years ended February 28, 1997, 1998, and 1999 respectively.                     

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)                       
NET INCOME (LOSS) PER COMMON SHARE                                              

HISTORICAL                                                                      

  The Company computes net income (loss) per common share in accordance with
Statement of Financial Accounting Standards No. 128, "Earnings Per Share,"      
("SFAS 128") and SEC Staff Accounting Bulletin No. 98 ("SAB No. 98"). Under the 
provisions of SFAS 128 and SAB No. 98, basic net income (loss) per common share 
("Basic EPS") is computed by dividing net income (loss) available to common     
stockholders by the weighted average number of common shares outstanding.       
Diluted net income (loss) available to common stockholders per common share     
("Diluted EPS") is computed by dividing net income (loss) by the weighted       
average number of common shares and dilutive potential common share equivalents 
then outstanding. Potential common shares consist of shares issuable upon the   
exercise of stock options and warrants and shares issuable upon conversion of   
outstanding mandatorily redeemable preferred stock. The calculation of the net  
loss per share available to common stockholders for the fiscal year ended       
February 28, 1999 does not include 24,299,071 potential shares of common stock  
equivalents, as their impact would be antidilutive.                             

PRO FORMA (UNAUDITED)                                                           

Pro forma net income (loss) per common share is calculated assuming     
conversion of all mandatorily redeemable preferred stock which converts         
automatically upon the completion of the initial public offering into 31,890,676
and 33,945,452 shares of common stock (see Note 9) at February 28, 1999 and May 
31, 1999, respectively. Therefore, accretion of mandatorily redeemable preferred
stock of $43,080 for the three months ended May 31, 1999 is excluded from the   
calculation of pro forma net income (loss) per common share.                    

   The calculation of pro forma net loss per common share for the three months
ended May 31, 1999 does not include 5,536,707 potential shares of common stock  
equivalents, as their impact would be anti-dilutive.                            

SEGMENT REPORTING                                                               

 In June 1997, the FASB issued Statement of Financial Accounting Standards
No. 131, "Disclosures about Segments of an Enterprise and Related Information"  
("SFAS 131"). This statement requires companies to report information about     
operating segments in interim and annual financial statements. It also requires 
segment disclosures about products and services, geographic areas and major     
customers. The Company adopted SFAS 131 effective for its fiscal year ended     
February 28, 1998. The Company has determined that it did not have any          
separately reportable operating segments as of February 28, 1997, 1998 or 1999  
or as of May 31, 1999.                                                          

COMPREHENSIVE INCOME                                                            

 In June 1997, the FASB issued Statement of Financial Accounting Standards
No. 130, "Reporting Comprehensive Income" ("SFAS 130"). SFAS 130 establishes    
standards for reporting and display of comprehensive income and its components  
in a full set of general-purpose financial statements. SFAS 130 is effective for
financial statements for fiscal years beginning after December 15, 1997. Its    
adoption did not impact the Company's financial position, results of            

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)                       
operations, or cash flows as the Company had no items of other comprehensive    
income during the three year period ended February 28, 1999 or the three months 
ended May 31, 1998 and 1999.                                                    

RECENT ACCOUNTING PRONOUNCEMENTS                                                

In June 1998, the Financial Accounting Standards Board ("FASB") issued  
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative 
Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 establishes          
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts (collectively referred to as 
derivatives), and for hedging activities. SFAS 133 as amended by SFAS 137, is   
effective for all fiscal quarters of all fiscal years beginning after June 15,  
2000, with earlier application encouraged. The Company does not currently nor   
does it intend in the future to use derivative instruments and therefore does   
not expect that the adoption of SFAS 133 will have any impact on its financial  
position or results of operations.                                              

   In March 1998, the Accounting Standards Executive Committee of the American
Institute of Certified Public Accountants ("AICPA"), issued Statement of        
Position No. 98-1, "Accounting for the Costs of Computer Software Developed or  
Obtained for Internal Use" ("SOP No. 98-1"), which provides guidance regarding  
when software developed or obtained for internal use should be capitalized. SOP 
No. 98-1 is effective for fiscal years beginning after December 15, 1998. The   
adoption of SOP No. 98-1 in the three months ended May 31, 1999, did not have a 
material impact on its financial position or results of operations.             

In December 1998, the AICPA issued Statement of Position No. 98-9,      
"Modification of SOP No. 97-2, Software Revenue Recognition, with Respect to    
Certain Transactions" ("SOP No. 98-9"). SOP No. 98-9 amends SOP No. 97-2 to     
require recognition of revenue using the "residual method" in circumstances     
outlined in the SOP. Under the residual method, revenue is recognized as        
follows: (1) the total fair value of undelivered elements, as indicated by      
vendor specific objective evidence, is deferred and subsequently recognized in  
accordance with the relevant sections of SOP No. 97-2 and (2) the difference    
between the total arrangement fee and the amount deferred for the undelivered   
elements is recognized as revenue related to the delivered elements. SOP No.    
98-9 is effective for transactions entered into in fiscal years beginning after 
March 15, 1999. Also, the provisions of SOP No. 97-2 that were deferred by SOP  
No. 98-4 will continue to be deferred until the date SOP No. 98-9 becomes       
effective. The Company does not expect that the adoption of SOP No. 98-9 will   
have a significant impact on the Company's results of operations or financial   
position.                                                                       

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

3. ACCOUNTS RECEIVABLE                                                          

  Accounts receivable, which are primarily from product sales, are presented
net of an allowance for doubtful accounts. The activity in the Company's        
allowance for doubtful accounts for the years ended February 28, 1997, 1998 and 
1999 is presented in the following table:                                       

                                                        [Enlarge/Download Table]

                                       BALANCE AT   CHARGED TO                    BALANCE AT 
                                        BEGINNING    INCOME OR                      END OF   
YEAR ENDED FEBRUARY 28,                 OF PERIOD     EXPENSE    DEDUCTIONS (A)     PERIOD   
-------------------------------------  -----------  -----------  ---------------  -----------
                                                                                             
1997.................................   $      --    $  38,986      $    (554)     $  38,432 
1998.................................      38,432       38,141        (27,829)        48,744 
1999.................................      48,744      185,092        (73,458)       160,378 

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

(a) Represents amounts written-off as uncollectible accounts receivable.        

4. PROPERTY AND EQUIPMENT                                                       

The Company's property and equipment consisted of the following:        

                                                                [Download Table]

                                              FEBRUARY 28,        MAY 31,   
                                          ---------------------  ---------- 
                                                                            
                                            1998        1999        1999    
                                          ---------  ----------  ---------- 
Computer equipment......................  $ 420,523  $  818,676  $1,410,246 
Furniture and fixtures..................     69,256     583,175     583,174 
Leasehold improvements..................         --     214,868     214,868 
                                          ---------  ----------  ---------- 
                                            489,779   1,616,719   2,208,288 
Less: accumulated depreciation..........   (152,452)   (346,143)   (410,498)
                                          ---------  ----------  ---------- 
                                          $ 337,327  $1,270,576  $1,797,790 
                                          ---------  ----------  ---------- 
                                          ---------  ----------  ---------- 

5. OTHER ASSETS                                                                 

Other assets were comprised of the following:                           

                                                                [Download Table]

                                                   FEBRUARY 28,       MAY 31, 
                                               --------------------  ---------
                                                                              
                                                 1998       1999       1999   
                                               ---------  ---------  ---------
Security deposits............................  $  11,900  $  78,130  $  11,900
Trademarks, patents and copyrights, net......     69,288     73,180     72,706
Deferred offering costs......................         --         --    427,834
                                               ---------  ---------  ---------
                                               $  81,188  $ 151,310  $ 512,440
                                               ---------  ---------  ---------
                                               ---------  ---------  ---------

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

6. FAIR VALUE OF FINANCIAL INSTRUMENTS                                          

The carrying value of cash and cash equivalents, accounts payable and   
accounts receivable at February 28, 1998 and 1999 approximated their fair value 
due to the short-term nature of these items.                                    

The fair value of the Company's short-term and long-term investments at 
February 28, 1998 and 1999 approximated their carrying values as these          
investments were primarily in short-term U.S. Government obligations.           

7. ACCRUED EXPENSES                                                             

Accrued expenses were comprised of the following:                       

                                                                [Download Table]

                                                   FEBRUARY 28,       MAY 31, 
                                               --------------------  ---------
                                                 1998       1999       1999   
                                               ---------  ---------  ---------
                                                                              
Payroll......................................  $      --  $ 212,608  $  22,064
Vacation.....................................      3,501     59,165    126,044
Taxes........................................      5,151     14,025      9,623
Other........................................     41,682     93,959     27,734
                                               ---------  ---------  ---------
                                               $  50,334  $ 379,757  $ 185,465
                                               ---------  ---------  ---------
                                               ---------  ---------  ---------

8. INCOME TAXES                                                                 

   The components of the Company's provision for income taxes consisted of the
following:                                                                      

                                                                [Download Table]

                                                     YEAR ENDED FEBRUARY 28,    
                                                 -------------------------------
                                                   1997       1998       1999   
                                                 ---------  ---------  ---------
                                                                                
Current tax provision:                                                          
  Federal....................................... $      --  $      --  $ 149,284
  State.........................................        --      4,906     65,402
                                                 ---------  ---------  ---------
  Current tax expense...........................        --      4,906    214,686
                                                 ---------  ---------  ---------
Deferred tax benefit:                                                           
  Federal.......................................        --         --         --
  State.........................................        --         --         --
                                                 ---------  ---------  ---------
  Deferred tax benefit..........................        --         --         --
                                                 ---------  ---------  ---------
    Net provision for income taxes.............. $      --  $   4,906  $ 214,686
                                                 ---------  ---------  ---------
                                                 ---------  ---------  ---------

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

8. INCOME TAXES (CONTINUED)                                                     
   Significant components of the Company's deferred tax assets and liabilities
at February 28, 1999 and 1998 consisted of the following:                       

                                                                [Download Table]

                                                           FEBRUARY 28,     
                                                       -------------------- 
                                                         1998       1999    
                                                       ---------  --------- 
                                                                            
Domestic net operating loss carryforwards............  $  23,697  $      -- 
Accounts receivable..................................     21,818    217,777 
Allowance for inventory obsolescence.................         --     70,785 
Research and development credit......................     67,629         -- 
Other accruals.......................................      1,376     22,947 
                                                       ---------  --------- 
  Total deferred tax assets..........................    114,520    311,509 
Valuation allowance for deferred tax assets..........   (109,040)  (307,423)
                                                       ---------  --------- 
  Deferred tax assets................................      5,480      4,086 
                                                       ---------  --------- 
Property and equipment...............................     (5,480)    (4,086)
                                                       ---------  --------- 
  Total deferred tax liabilities.....................     (5,480)    (4,086)
                                                       ---------  --------- 
  Net deferred tax assets............................  $      --  $      -- 
                                                       ---------  --------- 
                                                       ---------  --------- 

 As of February 28, 1998 and 1999, and May 31, 1999 the Company provided a
full valuation allowance against its net deferred tax assets since realization  
of these benefits can not be reasonably assured. An increase in the valuation   
allowance was recorded during fiscal 1999 and the three months ended May 31,    
1999 to reserve the increase in total deferred tax assets at February 28, 1999  
and May 31, 1999 due to uncertainty of realizability.                           

As of February 28, 1998, the Company had federal and state net operating
loss carryforwards of approximately $70,000. This carryforward was fully        
utilized during 1999.                                                           

Taxes computed at the statutory federal income tax rate of 34% are      
reconciled to the provision for income taxes as follows:                        

                                                                [Download Table]

                                                 1997       1998       1999    
                                               ---------  ---------  --------- 
                                                                               
Effective rate...............................          0%        39%       174%
                                               ---------  ---------  --------- 
United States Federal tax at statutory                                         
  rate.......................................  $  12,214  $   4,311  $  42,030 
State taxes (net of Federal benefit).........      1,897     13,392      7,619 
Change in valuation reserves.................    (17,040)    28,993    198,477 
Research and development credit..............         --    (67,629)   (43,959)
Non-deductible items.........................      2,929     25,839     10,519 
                                               ---------  ---------  --------- 
Provision for income taxes...................  $      --  $   4,906  $ 214,686 
                                               ---------  ---------  --------- 
                                               ---------  ---------  --------- 

9. MANDATORILY REDEEMABLE PREFERRED STOCK                                       

The Company has authorized 6,801,400, 8,116,550 and 2,054,776 shares of 
Series A, Series B and Series C mandatorily redeemable preferred stock,         
respectively. The shares of Series A,                                           

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

9. MANDATORILY REDEEMABLE PREFERRED STOCK (CONTINUED)                           
Series B and Series C mandatorily redeemable preferred stock have a par value of
$0.0001 per share.                                                              

 On August 15, 1997, the Company entered into a purchase agreement with an
investor (the "Series A Investor"). In connection with this agreement, the      
Company issued 6,801,400 shares of Series A preferred stock to the Series A     
Investor for $2,000,000 or $0.2941 per share, less related issuance costs of    
$16,791. The Series A preferred stock became mandatorily redeemable with the    
issuance of the Series B mandatorily preferred stock in September 1998.         

 On September 29, 1998, the Company entered into a purchase agreement with
several investors (the "Series B Investors"). In connection with this agreement,
the Company issued 8,116,550 shares of Series B mandatorily redeemable preferred
stock to the Series B Investors for $6,955,884, or $0.857 per share, less       
related issuance costs of $66,621.                                              

On February 25, 1999, the Company entered into a purchase agreement with
several investors (the "Series C Investors"). In connection with this agreement,
the Company issued 1,027,388 shares of Series C mandatorily redeemable preferred
stock to the Series C Investors for $3,227,026, or $3.141 per share.            

  The Company had additional closings of the Series C mandatorily redeemable
preferred stock financing subsequent to February 28, 1999. Additional Series C  
Investors purchased 1,027,388 shares of Series C mandatorily redeemable         
preferred stock for $3,227,026, or $3.141 per share in March and April of 1999. 
Total issuance costs related to sales of Series C mandatorily redeemable        
preferred stock were $62,870.                                                   

DIVIDENDS                                                                       

The Series A, Series B and Series C stockholders (the "Holders") are not
entitled to dividends unless dividends are declared on shares of common stock,  
in which case the Holders shall receive a distribution on each outstanding share
of Series A, Series B and Series C mandatorily redeemable preferred stock on an 
as if converted basis.                                                          

CONVERSION                                                                      

Each share of Series A, Series B and Series C mandatorily redeemable    
preferred stock can be converted to common stock at the option of the Holders at
a two-to-one conversion rate, after certain adjustments. This conversion rate   
shall be adjusted upon the issuance by the Company of additional common shares  
(with certain exceptions) for consideration per share less than $0.343 per      
share, in the case of Series A mandatorily redeemable preferred stock, $0.996   
per share, in the case of Series B mandatorily redeemable preferred stock and   
$3.893 per share, in the case of Series C mandatorily redeemable preferred      
stock. The conversion rate shall also be adjusted for common stock splits,      
reverse common stock splits, dividends and distributions.                       

Each share of Series A, Series B and Series C mandatorily redeemable    
preferred stock will be automatically converted into shares of common stock, at 
the then effective conversion rate, upon the closing of a sale of the common    
stock of the Company in a qualified public offering.                            

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

9. MANDATORILY REDEEMABLE PREFERRED STOCK (CONTINUED)                           
VOTING RIGHTS                                                                   

   Holders of Series A, Series B and Series C mandatorily redeemable preferred
stock have the right to one vote for each common share into which such shares   
could then be converted, as described above.                                    

LIQUIDATION                                                                     

  In the event of the liquidation, dissolution or winding up of the Company,
Holders shall be entitled to receive, prior to any distributions to common      
stockholders, an amount in cash equal to the greater of (i) $0.343 per share, in
the case of Series A, $0.996 per share, in the case of Series B, and $3.893 per 
share, in the case of Series C, plus any dividends declared but unpaid, or (ii) 
such amount per share as would have been payable had each such share been       
converted into common stock immediately prior to liquidation, dissolution or    
winding up, as described above. In the event that assets of the Company are     
insufficient to permit payment of the above mentioned amounts, the Holders shall
share ratably in any distribution of the remaining assets and funds of the      
Company in proportion to the respective amounts which would otherwise be payable
under these circumstances.                                                      

REDEMPTION                                                                      

   The Company could be required to redeem the Series A, Series B and Series C
mandatorily redeemable preferred stock from the Holders upon receipt of written 
request from Holders of shares representing at least 66 2/3% of the aggregate   
number of shares of common stock issuable upon conversion. Redemption may first 
be made by the Holders on February 25, 2004 and on each of the first and second 
anniversaries thereof. Redemption is limited to 33% and 50% of the Series A,    
Series B and Series C shares outstanding on February 25, 2004 and the first     
anniversary thereof, respectively. There is no limitation on the number of      
shares on February 25, 2006. The redemption price is equal to $0.343 per share  
in the case of Series A, $0.996 per share, in the case of Series B and $3.893   
per share, in the case of Series C, after adjustment for certain events. The    
carrying value of the Company's mandatorily redeemable preferred stock is being 
accreted to its redemption price over the redemption period using the effective 
interest rate method. In conjunction with the sale of the Series B mandatorily  
redeemable preferred stock, the Series A mandatorily redeemable preferred stock 
became mandatorily redeemable.                                                  

CARRYING VALUE                                                                  

  The Series A, Series B and Series C mandatorily redeemable preferred stock
were initially recorded at the total net proceeds received by the Company upon  
issuance. The difference between the total net proceeds at issuance of          
$12,068,063 and the total redemption price of $14,416,585 is charged to         
accumulated deficit over the period from issuance until redemption first becomes
available. The amount of accretion recognized during each period is determined  
by using the effective interest rate method. For the year ended February 28,    
1999 the accretion was $39,356. The Company had no outstanding mandatorily      
redeemable preferred stock prior to the fiscal year ended February 28, 1999. The
Company sold an additional 1,027,388 shares of Series C preferred stock for net 
proceeds of $3,164,156 in March and April 1999 with a redemption value of       
$4,004,758. Accretion on preferred stock was $43,080 for the three months ended 
May 31, 1999.                                                                   

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

10. COMMON STOCK                                                                

On September 28, 1998, the Company effected a 100 for 1 stock split for 
holders of its common stock. Amounts presented for the periods prior to the     
stock split have been restated to reflect the stock split on a retroactive      
basis.                                                                          

The Company has authorized 68,620,652 shares of common stock with a par 
value of $0.0001 per share. Holders of these shares have one vote per share.    
Upon the dissolution, liquidation or winding up of the Company, holders of      
common stock will be entitled to receive the assets of the Company after        
satisfaction of the preferential rights of the outstanding Series A, Series B   
and Series C mandatorily redeemable preferred stock or any other outstanding    
stock ranking on liquidation senior to or on parity with the common stock.      

    On September 29, 1998, in connection with the above mentioned sale of Series
B mandatorily redeemable preferred stock, certain stockholders, primarily       
comprised of officers of the Company, entered into a common stock purchase      
agreement with the Series B Investors. In connection with this agreement, those 
stockholders sold 2,625,500 shares of common stock to the Series B Investors for
$1,125,000 or $0.429 per share.                                                 

   On February 25, 1999, in connection with the above mentioned sale of Series
C mandatorily redeemable preferred stock, certain stockholders, primarily       
comprised of officers of the Company, entered into a common stock purchase      
agreement with the Series C Investors. In connection with this agreement, those 
stockholders sold 492,184 shares of common stock to the Series C Investors for  
$772,975 or $1.571 per share. Upon additional closings of the Series C          
mandatorily redeemable preferred stock financing in March and April of 1999, an 
additional 492,184 shares of common stock were sold by certain stockholders,    
primarily comprised of officers of the Company, to the additional Series C      
Investors for $772,975 or $1.571 per share.                                     

11. STOCK OPTIONS AND WARRANTS                                                  

STOCK OPTIONS                                                                   

During September 1998, the Company's Board of Directors approved a stock
option plan. As of February 28, 1999 and May 31, 1999, 7,434,800 shares of      
common stock were reserved for issuance upon exercise of options granted to any 
employee, officer or director or consultant of the Company at terms and prices  
to be determined by the Board of Directors. In June 1999, the option pool was   
increased to 9,434,800 shares. The plan provides that the exercise price per    
share and the purchase price per share for each non-qualified option should be  
set by the Board on the date of grant. The price for each Incentive Stock Option
(ISO) shall not be less than the fair market value of the common stock on the   
date of grant. The maximum term for an option granted is ten years from the date
of grant. The Company believes that all options and warrants, granted through   
February 28, 1999, have been granted at their fair values on their respective   
grant dates. Options granted under the plan generally vest 25% upon completion  
of one full year of service and 6.25% on the first day of each subsequent       
three-month period. All options are immediately exercisable upon grant into     
restricted shares of the Company's common stock with the same vesting provisions
as the original option. The Company, at its option, may repurchase these        
restricted shares at the original purchase price under certain circumstances.   

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

11. STOCK OPTIONS AND WARRANTS (CONTINUED)                                      
   The activity for the stock option plan for the year ended February 28, 1999
and for the period from March 1, 1999 to May 31, 1999 is presented in the       
following table. Prior to March 1, 1998, the Company had granted no stock       
options.                                                                        

                                                        [Enlarge/Download Table]

                                                                                 WEIGHTED     
                                                                  SHARES          AVERAGE     
                                                                UNDERLYING    EXERCISE PRICE  
                                                                  OPTIONS        PER SHARE    
                                                                -----------  -----------------
                                                                                              
Outstanding at February 28, 1998...............................         --       $      --    
Granted........................................................  4,322,570            0.36    
Forfeited......................................................    (20,000)           0.18    
                                                                -----------                   
Outstanding at February 28, 1999...............................  4,302,570            0.36    
Granted (unaudited)............................................  3,207,070            2.17    
Exercised (unaudited).......................................... (2,091,552)           0.88    
Forfeited (unaudited)..........................................    (49,000)           0.89    
                                                                -----------                   
Outstanding at May 31, 1999 (unaudited)........................  5,369,088       $    1.23    

 The Company recorded deferred compensation of $3,677,999 during the three
months ended May 31, 1999 to reflect the difference between the aggregate fair  
market value and exercise price during this period of all stock options granted 
with an exercise price below the fair market value of the Company's common stock
at the date of the grant.                                                       

 During June 1999, the Company granted stock options for the purchase of a
total of 333,800 shares to employees. An additional $1,851,360 in deferred      
compensation was recorded related to the grant of these options. As of June 30, 
1999, the Company had outstanding stock options for the purchase of 5,176,888   
shares with a weighted average exercise price of $1.58.                         

In July 1999, the Company granted 350,000 stock options with an exercise
price of $5.00 per share to an executive. The Company recorded $2,100,000 in    
deferred compensation related to this grant in July 1999.                       

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

11. STOCK OPTIONS AND WARRANTS (CONTINUED)                                      
 The following summarizes information about the Company's stock options at
February 28, 1999:                                                              

                                                                [Download Table]

                        OPTIONS OUTSTANDING                 OPTIONS EXERCISABLE   
             ------------------------------------------  -------------------------
                              WEIGHTED       WEIGHTED                   WEIGHTED  
                               AVERAGE        AVERAGE                    AVERAGE  
 EXERCISE       NUMBER      CONTRACTURAL     EXERCISE       NUMBER      EXERCISE  
  PRICES     OUTSTANDING        LIFE           PRICE     EXERCISABLE      PRICE   
-----------  ------------  ---------------  -----------  ------------  -----------
                                                                                  
 $    0.18     1,200,000           9.58      $    0.18     1,200,000    $    0.18 
 $    0.43     3,102,570           9.67      $    0.43     3,102,570    $    0.43 

                                                                [Download Table]

                                                        EXERCISE     NUMBER OF 
DATE OF GRANT                                             PRICE       SHARES   
-----------------------------------------------------  -----------  -----------
                                                                               
March 1999...........................................   $    1.57      212,000 
April 1999...........................................   $    1.57    2,393,972 
May 3, 1999..........................................   $    1.57       40,000 
May 10, 1999.........................................   $    5.00      561,098 
June 16, 1999........................................   $    5.00       79,200 
June 30, 1999........................................   $   10.80       14,600 
June 30, 1999........................................   $    5.00      240,000 
                                                                    -----------
                                                                     3,540,870 

STOCK WARRANTS                                                                  

 On October 10, 1995, the Company issued warrants (which are equivalent to
nonqualified stock options) to purchase 3,740,400 shares of common stock to     
three of its employees with an exercise price of $.0001 per share. The warrants 
vest 25% annually on each May 1, beginning May 1, 1996 and ending May 1, 1999.  
The warrants terminate upon death, permanent disability, termination of         
employment or May 1, 2006. The Company and certain founding shareholders have a 
right of first refusal to purchase the warrant shares on the same terms as a    
proposed purchaser and a right to purchase the shares upon the death,           
disability, or termination of employment of the employee. Upon the death,       
disability, or termination without cause of the employee, the purchase price    
shall be 80% of the fair market value of the Company's common stock as          
determined by the board of directors. If the employee is terminated for cause,  
the purchase price shall be 80% of the lesser of the book value or the fair     
market value of the Company's common stock.                                     

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

11. STOCK OPTIONS AND WARRANTS (CONTINUED)                                      
The activity for the stock warrants is presented in the following table:

                                                        [Enlarge/Download Table]

                                                    YEAR ENDED FEBRUARY 28,                           
                          ----------------------------------------------------------------------------
                                    1997                      1998                      1999          
                          ------------------------  ------------------------  ------------------------
                                        WEIGHTED                  WEIGHTED                  WEIGHTED  
                                         AVERAGE                   AVERAGE                   AVERAGE  
                            SHARES      EXERCISE      SHARES      EXERCISE      SHARES      EXERCISE  
                          UNDERLYING      PRICE     UNDERLYING      PRICE     UNDERLYING      PRICE   
                           WARRANTS     PER SHARE    WARRANTS     PER SHARE    WARRANTS     PER SHARE 
                          -----------  -----------  -----------  -----------  -----------  -----------
                                                                                                      
Outstanding at beginning                                                                              
  of year................  3,740,400    $  0.0001    3,740,400    $  0.0001    3,740,400    $  0.0001 
                          -----------  -----------  -----------  -----------  -----------  -----------
Exercised................         --           --           --           --     (352,950)   $  0.0001 
Outstanding at end of                                                                                 
  year...................  3,740,400    $  0.0001    3,740,400    $  0.0001    3,387,450    $  0.0001 
Exercisable at end of                                                                                 
  year...................    935,100    $  0.0001    1,870,200    $  0.0001    2,452,350    $  0.0001 

During the three month period ended May 31, 1999, warrants to purchase  
190,000 shares were exercised. At May 31, 1999, warrants to purchase 3,197,450  
shares remained outstanding. Amounts as of May 31, 1999 are unaudited.          

 SFAS 123 requires the Company to disclose pro forma information regarding
option grants made and warrants issued to its employees. SFAS 123 specifies     
certain valuation techniques that produce estimated compensation charges that   
are included in the pro forma results below. These amounts have not been        
reflected in the Company's statement of operations, because APB No. 25 specifies
that no compensation charge arises when the exercise price of employees' stock  
options and warrants equal the market value of the underlying stock at the grant
date, as in the case of options and warrants granted to the Company's employees.
The fair value of options and warrants was estimated using the minimum value    
method with the following assumptions:                                          

                                                                [Download Table]

                                                       EMPLOYEE       EMPLOYEE   
                                                         STOCK          STOCK    
                                                        OPTIONS       WARRANTS   
                                                     -------------  -------------
                                                                                 
Expected dividend yield.............................        0.00%          0.00% 
Risk-free interest rate.............................        4.98%          5.81% 
Expected volatility.................................        0.00%          0.00% 
Expected life (in years)............................           6              6  

SFAS 123 pro forma numbers are as follows:                              

                                                                [Download Table]

                                                                     1999   
                                                                   ---------
                                                                            
Net loss available to common stockholders as reported                       
  under APB No. 25...............................................  $ 130,424
Pro forma net loss available to common stockholders..............  $ 287,288

 The Company did not grant any stock options or warrants in fiscal 1998 or
1997 and, therefore, no pro forma disclosure for these years is provided.       

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

11. STOCK OPTIONS AND WARRANTS (CONTINUED)                                      
   The weighted average estimated fair value of employee stock options granted
during the year ended February 28, 1999 was $0.27 per share. The weighted       
average estimated fair value of the warrants at the time of grant was $0.0001   
per share.                                                                      

12. COMMITMENTS AND CONTINGENCIES                                               

As of February 28, 1999, the Company leased office space and certain    
equipment under various noncancelable operating and capital leases. Future      
minimum lease payments required under the operating and capital leases at       
February 28, 1999 are as follows:                                               

                                                                [Download Table]

                                                       OPERATING    CAPITAL 
                                                         LEASES     LEASES  
                                                       ----------  ---------
                                                                            
2000.................................................  $  945,612  $ 139,698
2001.................................................     934,208    136,901
2002.................................................     931,283    120,863
2003.................................................     932,200    112,089
2004.................................................     819,266     99,687
                                                       ----------  ---------
  Total minimum lease payments.......................  $4,562,569    609,238
                                                       ----------           
                                                       ----------           
Less amount representing interest (at rates ranging                         
  from 8.2% to 9.6%).................................                 80,563
                                                                   ---------
Present value of net minimum lease payments..........                528,675
Less current portion.................................                108,897
                                                                   ---------
  Long-term portion..................................              $ 419,778
                                                                   ---------
                                                                   ---------

  Rent expense under operating leases for the years ended February 28, 1997,
1998 and 1999 was $86,313, $171,191 and $308,973 respectively.                  

    The Company has entered into an agreement with a bank to provide a letter of
credit pertaining to its building lease. The Company is required by the bank to 
maintain a compensating balance of $65,000 which is equal to the amount of the  
letter of credit. This amount is included in cash and cash equivalents.         

The Company has executed licensing contracts to publish, bundle and     
distribute software products developed by other companies in return for royalty 
payments based on a percentage of the revenues generated by the Company from the
sale of these products. Prepaid royalty payments are included in current assets 
and royalty payments due are included in royalties payable.                     

In April 1999, the Company also contracted with a web support firm to   
maintain its backup web site. The initial fee of $98,000 was due upon receipt   
and installation of the hardware. The Company has agreed to pay a monthly       
maintenance fee of $17,000 for a period of 36 months.                           

13. EMPLOYEE BENEFIT PLAN                                                       

    The Company provides a retirement plan qualified under Section 401(k) of the
Internal Revenue Code ("IRC") of 1986, as amended. Participants may elect to    
contribute a portion of their annual compensation to the plan, after complying  
with certain limitations set by the IRC. Employees are                          

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RED HAT, INC. 

NOTES TO FINANCIAL STATEMENTS (CONTINUED) 

13. EMPLOYEE BENEFIT PLAN (CONTINUED)                                           
eligible to participate in the plan who are over 21 years of age and have       
completed three months of service with Red Hat. If, however, an employee was    
employed by the Company prior to February 1999, the 401(k) Plan covers such     
employee regardless of age or length of service. The Company has the option to  
make contributions to the plan but did not make any contributions to the plan   
for the years ended February 28, 1997, 1998 and 1999.                           

14. SUBSEQUENT EVENTS                                                           

   On June 2, 1999, the Board of Directors approved a two-for-one common stock
split to be effective prior to the effective date of the Company's planned      
initial public offering. All share and per share information in the accompanying
financial statements and notes to the financial statements has been             
retroactively restated to reflect the effect of this stock split.               

    In addition, the Board of Directors approved an amendment to the certificate
of incorporation to take effect as of the effective date of the registration    
statement, increasing the authorized capital stock to 225,000,000 shares of     
common stock and 5,000,000 shares of preferred stock each with a par value of   
$.0001 per share.                                                               

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UNDERWRITING

  Red Hat and the underwriters named below have entered into an underwriting
agreement concerning the shares being offered. Each underwriter has severally   
agreed to purchase the number of shares indicated in the following table.       
Goldman, Sachs & Co., Thomas Weisel Partners LLC, Hambrecht & Quist LLC and     
E*OFFERING Corp. are the representatives of the underwriters.                   

                                                                [Download Table]

                                                                   Number of 
        Underwriters                                                Shares   
----------------------------------------------------------------  -----------
                                                                             
Goldman, Sachs & Co. ...........................................   2,280,000 
Thomas Weisel Partners LLC......................................   1,003,200 
Hambrecht & Quist LLC...........................................   1,003,200 
E*OFFERING Corp.................................................     273,600 
Advest, Inc.....................................................      60,000 
Banc of America Securities LLC..................................     120,000 
William Blair & Company, L.L.C..................................      60,000 
J.C. Bradford & Co..............................................      60,000 
Credit Suisse First Boston Corporation..........................     120,000 
Dain Rauscher Wessels                                                        
    a division of Dain Rauscher Incorporated....................      60,000 
Deutsche Bank Securities Inc....................................     120,000 
First Union Capital Markets Corp................................      60,000 
Friedman, Billings, Ramsey & Co., Inc...........................      60,000 
Edward D. Jones & Co., L.P......................................     120,000 
Legg Mason Wood Walker Incorporated.............................      60,000 
McDonald Investments Inc........................................      60,000 
Merrill Lynch, Pierce, Fenner & Smith Incorporated..............     120,000 
Redwine & Company, Inc..........................................      60,000 
The Robinson-Humphrey Company, LLC..............................      60,000 
Scott & Stringfellow, Inc.......................................      60,000 
Muriel Siebert & Co., Inc.......................................      60,000 
Wasserstein Perella Securities, Inc.............................     120,000 
                                                                  -----------
        Total...................................................   6,000,000 
                                                                  -----------
                                                                  -----------

   If the underwriters sell more shares than the total number presented in the
table above, the underwriters have an option to buy up to an additional 900,000 
shares from Red Hat to cover such sales. They may exercise that option for 30   
days. If any shares are purchased upon exercise of this option, the underwriters
will severally purchase shares in approximately the same proportion as presented
in the table above.                                                             

    The following table shows the per share and total underwriting discounts and
commissions to be paid to the underwriters by Red Hat. These amounts are shown  
assuming both no exercise and full exercise of the underwriters' option to      
purchase additional shares.                                                     

Paid by Red Hat 

                                                                [Download Table]

                     No         Full   
                  Exercise    Exercise 
                 ----------  ----------
                                       
Per Share......  $     0.98  $     0.98
Total..........  $5,880,000  $6,762,000

  Shares sold by the underwriters to the public will initially be offered at
the initial public offering price presented on the cover of this prospectus. Any
shares sold by the underwriters to securities dealers may be sold               

U-1 

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at a discount of up to $0.58 per share from the initial public offering price.  
Any of these securities dealers may resell any shares purchased from the        
underwriters to certain other brokers or dealers at a discount of up to $0.10   
per share from the initial public offering price. If all the shares are not sold
at the initial offering price, the representatives may change the offering price
and the other selling terms.                                                    

 Red Hat and its officers, directors, and securityholders have agreed with
the underwriters not to dispose of or hedge any of its common stock or          
securities convertible into or exchangeable for shares of common stock during   
the period from the date of this prospectus continuing through the date 180 days
after the date of this prospectus, except with the prior written consent of     
Goldman Sachs. See "Shares Eligible for Future Sale" for a discussion of        
restrictions by transfer of Red Hat's common stock.                             

At the request of Red Hat, the underwriters have reserved up to 800,000 
shares of common stock for sale, at the initial public offering price through a 
directed share program, to directors, officers, employees of Red Hat and to open
source software developers and other persons that Red Hat believes have         
contributed to the success of the open source software community and the growth 
of Red Hat through a directed share program. There can be no assurance that any 
of the reserved shares will be so purchased. The number of shares of common     
stock available for sale to the general public in the public offering will be   
reduced to the extent these persons purchase these reserved shares. Any reserved
shares not so purchased will be offered to the general public on the same basis 
as the other shares offered hereby.                                             

   Thomas Weisel Partners LLC, one of the representatives of the underwriters,
was organized and registered as a broker-dealer in December 1998. Since December
1998, Thomas Weisel Partners has been named as a lead or co-manager of 56 filed 
public offerings of equity securities, of which 31 have been completed, and has 
acted as a syndicate member in an additional 27 public offerings of equity      
securities. Thomas Weisel Partners does not have any material relationship with 
Red Hat or any of our officers, directors or other controlling persons, except  
for its contractual relationship with Red Hat under the terms of the            
underwriting agreement entered into in connection with this offering.           

Prior to this offering, there has been no public market for our common  
stock. The initial public offering price was negotiated among Red Hat and the   
representatives. Among the factors considered in determining the initial public 
offering price of the shares, in addition to prevailing market conditions, were 
Red Hat's historical performance, estimates of the business potential and       
earnings prospects of Red Hat, an assessment of Red Hat's management and the    
consideration of the above factors in relation to market valuation of companies 
in related businesses.                                                          

Red Hat's common stock has been approved for quotation on the Nasdaq    
National Market under the symbol "RHAT".                                        

In connection with this offering, the underwriters may purchase and sell
shares of common stock in the open market. These transactions may include short 
sales, stabilizing transactions and purchases to cover positions created by     
short sales. Short sales involve the sale by the underwriters of a greater      
number of shares than they are required to purchase in the offering. Stabilizing
transactions consist of certain bids or purchases made for the purpose of       
preventing or retarding a decline in the market price of the common stock while 
the offering is in progress.                                                    

The underwriters also may impose a penalty bid. This occurs when a      
particular underwriter repays to the underwriters a portion of the underwriting 
discount received by it because the representatives have repurchased shares sold
by or for the account of that underwriter in stabilizing or short covering      
transactions.                                                                   

 These activities by the underwriters may stabilize, maintain or otherwise
affect the market price of the common stock. As a result,                       

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the price of the common stock may be higher than the price that otherwise might 
exist in the open market. If these activities are commenced, they may be        
discontinued by the underwriters at any time. These transactions may be effected
on the Nasdaq National Market, in the over-the-counter market or otherwise.     

The underwriters do not expect sales to discretionary accounts to exceed
five percent of the total number of shares offered.                             

Red Hat estimates that its share of the total expenses of the offering, 
excluding underwriting commissions, will be approximately $1,250,000.           

Red Hat has agreed to indemnify the several underwriters against certain
liabilities, including liabilities under the Securities Act.                    

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DESCRIPTION OF INSIDE BACK COVER:                                               

[Graphic Description] 

This inside back cover contains the following:                          

Awards Red Hat has won in the last three years with the graphical       
representations or logos of each award. The presentation of the awards is       
surrounded by the words "And the Winner is... Red Hat Linux". The Red Hat       
"Shadow Man" logo appears above the award presentation.                         

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

    No dealer, salesperson or other person is authorized to give any information
or to represent anything not contained in this prospectus. This prospectus is an
offer to sell only the shares offered hereby, but only under circumstances and  
in jurisdictions where it is lawful to do so. The information contained in this 
prospectus is current only as of its date.                                      

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

TABLE OF CONTENTS 

                                                                [Download Table]

                                                                            Page
                                                                            ----
                                                                                
Prospectus Summary........................................................    3 
Risk Factors..............................................................    7 
Special Note Regarding Forward-Looking Statements.........................   18 
Use of Proceeds...........................................................   18 
Dividend Policy...........................................................   18 
Capitalization............................................................   19 
Dilution..................................................................   20 
Selected Financial Data...................................................   21 
Management's Discussion and Analysis of Financial Condition and Results of      
  Operations..............................................................   23 
Business..................................................................   40 
Management................................................................   55 
Transactions with Affiliates..............................................   62 
Principal Stockholders....................................................   63 
Description of Capital Stock..............................................   64 
Shares Eligible for Future Sale...........................................   67 
Legal Matters.............................................................   69 
Experts...................................................................   69 
Where You Can Find More Information.......................................   69 
Index to Financial Statements.............................................  F-1 
Underwriting..............................................................  U-1 

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

    Through and including September 5, 1999 (the 25th day after the date of this
prospectus), all dealers effecting transactions in these securities, whether or 
not participating in this offering, may be required to deliver a prospectus.    
This is in addition to the dealer's obligation to deliver a prospectus when     
acting as an underwriter and concerning an unsold allotment or subscription.    

6,000,000 Shares

Red Hat 

Common Stock

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

[LOGO]

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

GOLDMAN, SACHS & CO.
THOMAS WEISEL PARTNERS LLC
HAMBRECHT & QUIST 
E*OFFERING

Representatives of the Underwriters 

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

Dates Referenced Herein   and   Documents Incorporated by Reference

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