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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549



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FORM 10-Q


(MARK ONE)



|[X] | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGEACT OF 1934
|--- | --------------------------------------------------------------------------------------

FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2002

OR



|[   ] | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGEACT OF 1934
|----- | ---------------------------------------------------------------------------------------

For the transition period from ____________ to ____________.

Commission File Number 000-30715

COSINE COMMUNICATIONS, INC.

(Exact name of Registrant as specified in its charter)


|                                                                              |  |                                                  
|----------------------------------------------------------------------------- |  | -------------------------------------------------
|Delaware(State or other jurisdiction of
incorporation or organization)        |  | 94-3280301(I.R.S. Employer
Identification Number)
|                                                                             
|3200 Bridge Parkway, Redwood City, CA(Address of principal executive offices) |  | 94065(Zip Code)                                  

Registrants telephone number including area code: (650) 637-4777

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

There were 101,467,568 shares of the Companys Common Stock, par value
$.0001, outstanding on April 30, 2002.



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PAGE 1 OF 21



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TABLE OF CONTENTS



|                              |                                                                                               |                                            |  |  |  |  |  | 
|----------------------------- | --------------------------------------------------------------------------------------------- | ------------------------------------------ |  |  |  |  |  | 
|PART I. FINANCIAL INFORMATION
|                              | ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS                                                    
|                              |                                                                                               | CONSOLIDATED BALANCE SHEETS               
|                              |                                                                                               | CONSOLIDATED STATEMENTS OF OPERATIONS     
|                              |                                                                                               | CONSOLIDATED STATEMENTS OF CASH FLOWS     
|                              |                                                                                               | NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                              | ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|                              | ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK                           
|PART II. OTHER INFORMATION   
|                              | ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS                                            
|                              | ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K                                                     
|SIGNATURE                    



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##### Table of Contents



COSINE COMMUNICATIONS, INC.

FORM 10-Q

Quarter ended March 31, 2002

TABLE OF CONTENTS

|          |  |                                                                                                     |      |   
|--------- |  | --------------------------------------------------------------------------------------------------- | ---- | --
|          |  |                                                                                                     | Page
|          |  |                                                                                                     |     
|PART I   
|         
|Item 1.   |  | Consolidated Financial Statements:                                                                  |      |   
|         
|          |  | Consolidated Balance Sheets as of March 31, 2002 and December 31, 2001.                             |      | 3 
|         
|          |  | Consolidated Statements of Operations for the Three Months Ended March 31, 2002
and March 31, 2001. |      | 4 
|         
|          |  | Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2002
and March 31, 2001. |      | 5 
|         
|          |  | Notes to Consolidated Financial Statements                                                          |      | 6 
|         
|Item 2.   |  | Managements Discussion and Analysis of Financial Condition and Results of Operations               |      | 10
|         
|Item 3.   |  | Quantitative and Qualitative Disclosures About Market Risk                                          |      | 20
|         
|PART II  
|         
|Item 2.   |  | Changes in Securities and Use of Proceeds                                                           |      | 20
|         
|Item 6.   |  | Exhibits and Reports on Form 8-K                                                                    |      | 20
|         
|Signature |  | 21                                                                                                 

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PART I. FINANCIAL INFORMATION




ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS




COSINE COMMUNICATIONS, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except for share data)

|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |          |        |         | 
|-------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | --------------------------------------------------------------------------------------------------------------------- | -------------------------- | -------- | ----------- | ------- | ------------ | -------- | ------ | ------- | 
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          | March 31,   |         | December 31,
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          | 2002        |         | 2001        
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |             
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          | (Unaudited) |         | (1)         
|ASSETS                                                  
|Current assets:                                          |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|                                                         | Cash and cash equivalents                                                                                                                                                      |                                                                                                                       | $                          | 51,358   |             |         | $            | 73,868   |       
|                                                         | Short-term investments                                                                                                                                                         |                                                                                                                       |                            | 99,189   |             |         |              | 91,010   |       
|                                                         | Accounts receivable:                                                                                                                                                           |                                                                                                                       |                            |          |             |         |              |          |       
|                                                         |                                                                                                                                                                                | Trade (net of allowance for doubtful accounts of $402 and $700
at March 31, 2002 and December 31, 2001, respectively) |                            |          | 5,737       |         |              |          | 13,978 |        
|                                                         |                                                                                                                                                                                | Other                                                                                                                 |                            |          | 953         |         |              |          | 1,277  |        
|                                                         | Inventory                                                                                                                                                                      |                                                                                                                       |                            | 6,744    |             |         |              | 5,229    |       
|                                                         | Prepaid expenses and other current assets                                                                                                                                      |                                                                                                                       |                            | 6,260    |             |         |              | 5,736    |       
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|                                                         |                                                                                                                                                                                |                                                                                                                       | Total current assets       |          |             | 170,241 |              |          |        | 191,098 | 
|                                                         | Property and equipment, net                                                                                                                                                    |                                                                                                                       |                            | 25,233   |             |         |              | 28,724   |       
|                                                         | Long-term deposits                                                                                                                                                             |                                                                                                                       |                            | 1,018    |             |         |              | 1,136    |       
|                                                         | Other assets                                                                                                                                                                   |                                                                                                                       |                            | 152      |             |         |              | 245      |       
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|                                                         |                                                                                                                                                                                | $                                                                                                                     | 196,644                    |          |             | $       | 221,203      |         
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|LIABILITIES AND STOCKHOLDERS EQUITY                    
|Current liabilities:                                     |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|                                                         | Accounts payable                                                                                                                                                               |                                                                                                                       | $                          | 2,767    |             |         | $            | 3,210    |       
|                                                         | Provision for warranty claims                                                                                                                                                  |                                                                                                                       |                            | 1,975    |             |         |              | 2,505    |       
|                                                         | Accrued other liabilities                                                                                                                                                      |                                                                                                                       |                            | 5,659    |             |         |              | 8,989    |       
|                                                         | Accrued compensation                                                                                                                                                           |                                                                                                                       |                            | 5,547    |             |         |              | 4,221    |       
|                                                         | Deferred revenue                                                                                                                                                               |                                                                                                                       |                            | 2,363    |             |         |              | 2,713    |       
|                                                         | Current portion of equipment and working capital loans                                                                                                                         |                                                                                                                       |                            | 2,436    |             |         |              | 2,549    |       
|                                                         | Current portion of obligations under capital lease                                                                                                                             |                                                                                                                       |                            | 3,577    |             |         |              | 3,487    |       
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|                                                         |                                                                                                                                                                                |                                                                                                                       | Total current liabilities  |          |             | 24,324  |              |          |        | 27,674  | 
|Long-term portion of equipment and working capital loans |                                                                                                                                                                                |                                                                                                                       | 1,439                      |          |             |         | 1,992        |         
|Long-term portion of obligations under capital lease     |                                                                                                                                                                                |                                                                                                                       | 975                        |          |             |         | 1,905        |         
|Accrued rent                                             |                                                                                                                                                                                |                                                                                                                       | 2,636                      |          |             |         | 2,556        |         
|Other long-term liabilities                              |                                                                                                                                                                                |                                                                                                                       | 12                         |          |             |         | 11           |         
|Commitments and contingencies                            |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|Stockholders equity:                                    |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|                                                         | Preferred stock, 3,000,000 authorized, none issued and outstanding                                                                                                             |                                                                                                                       |                            |         |             |         |              |         |       
|                                                         | Common stock, $.0001 par value, 300,000,000 shares authorized;
101,570,068 and 102,020,060 shares issued and outstanding at
March 31, 2002 and December 31, 2001, respectively |                                                                                                                       |                            | 10       |             |         |              | 10       |       
|                                                         | Additional paid-in capital                                                                                                                                                     |                                                                                                                       |                            | 569,944  |             |         |              | 575,885  |       
|                                                         | Notes receivable from stockholders                                                                                                                                             |                                                                                                                       |                            | (20,958  | )           |         |              | (25,466  | )     
|                                                         | Accumulated other comprehensive income                                                                                                                                         |                                                                                                                       |                            | 164      |             |         |              | 481      |       
|                                                         | Deferred compensation                                                                                                                                                          |                                                                                                                       |                            | (9,423   | )           |         |              | (14,321  | )     
|                                                         | Accumulated deficit                                                                                                                                                            |                                                                                                                       |                            | (372,479 | )           |         |              | (349,524 | )     
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|                                                         |                                                                                                                                                                                |                                                                                                                       | Total stockholders equity |          |             | 167,258 |              |          |        | 187,065 | 
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         
|                                                         |                                                                                                                                                                                | $                                                                                                                     | 196,644                    |          |             | $       | 221,203      |         
|                                                         |                                                                                                                                                                                |                                                                                                                       |                            |          |             |         |              |         

See accompanying notes.

(1)  The information in this column was derived from the Companys audited
consolidated financial statements for the year ended December 31, 2001.

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COSINE COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except for per share data)
(Unaudited)

|                                            |                             |                               |         |                    |        |      |         |        |        | 
|------------------------------------------- | --------------------------- | ----------------------------- | ------- | ------------------ | ------ | ---- | ------- | ------ | ------ | 
|                                            |                             |                               |         | Three Months Ended
|                                            |                             |                               |         | March 31,         
|                                            |                             |                               |         |                   
|                                            |                             |                               |         | 2002               |        | 2001
|                                            |                             |                               |         |                    |        |     
|Revenue                                     |                             | $                             | 7,093   |                    |        | $    | 6,055   |       
|                                            | Cost of goods sold1         |                               |         | 3,367              |        |      |         | 8,845  |       
|                                            |                             |                               |         |                    |        |      |         |       
|Gross profit (loss)                         |                             |                               | 3,726   |                    |        |      | (2,790  | )     
|                                            |                             |                               |         |                    |        |      |         |       
|Operating expenses:                         |                             |                               |         |                    |        |      |         |       
|                                            | Research and development2   |                               |         | 12,831             |        |      |         | 18,697 |       
|                                            | Sales and marketing3        |                               |         | 10,879             |        |      |         | 16,370 |       
|                                            | General and administrative4 |                               |         | 3,850              |        |      |         | 6,983  |       
|                                            |                             |                               |         |                    |        |      |         |       
|                                            |                             | Total operating expenses      |         |                    | 27,560 |      |         |        | 42,050 | 
|                                            |                             |                               |         |                    |        |      |         |       
|Loss from operations                        |                             |                               | (23,834 | )                  |        |      | (44,840 | )     
|                                            |                             |                               |         |                    |        |      |         |       
|Other income (expenses):                    |                             |                               |         |                    |        |      |         |       
|                                            | Interest income and other   |                               |         | 1,343              |        |      |         | 3,795  |       
|                                            | Interest expense5           |                               |         | (303               | )      |      |         | (488   | )     
|                                            |                             |                               |         |                    |        |      |         |       
|                                            |                             | Total other income (expenses) |         |                    | 1,040  |      |         |        | 3,307  | 
|                                            |                             |                               |         |                    |        |      |         |       
|Loss before income tax provision            |                             |                               | (22,794 | )                  |        |      | (41,533 | )     
|                                            | Income tax provision        |                               |         | 161                |        |      |         | 313    |       
|                                            |                             |                               |         |                    |        |      |         |       
|Net loss                                    |                             | $                             | (22,955 | )                  |        | $    | (41,846 | )     
|                                            |                             |                               |         |                    |        |      |         |       
|Basic and diluted net loss per common share |                             | $                             | (0.23   | )                  |        | $    | (0.44   | )     
|                                            |                             |                               |         |                    |        |      |         |       
|Shares used in computing per share amounts  |                             |                               | 99,200  |                    |        |      | 94,979  |       
|                                            |                             |                               |         |                    |        |      |         |       



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|1 |  | Cost of goods sold includes $350 and $881 for the three months ended March
31, 2002 and 2001, respectively, of non-cash charges related to equity
issuances.                  
|- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| 
| 
| 
| 
|2 |  | Research and development expenses include $1,133 and $5,245 for the three
months ended March 31, 2002 and 2001, respectively, of non-cash charges related
to equity issuances.
| 
| 
| 
| 
|3 |  | Sales and marketing expenses include $918 and $3,730 for the three months
ended March 31, 2002 and 2001, respectively, of non-cash charges related to
equity issuances.       
| 
| 
| 
| 
|4 |  | General and administrative expenses include $642 and $2,299 for the three
months ended March 31, 2002 and 2001, respectively, of non-cash charges related
to equity issuances.
| 
| 
| 
| 
|5 |  | Interest expense includes $35 and $42 for the three months ended March 31,
2002 and 2001, respectively, of non-cash charges related to equity issuances.                      

See accompanying notes.

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COSINE COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)

|                                                                             |                                                     |                                           |         |        |                    |   |         |        |        |   | 
|---------------------------------------------------------------------------- | --------------------------------------------------- | ----------------------------------------- | ------- | ------ | ------------------ | - | ------- | ------ | ------ | - | 
|                                                                             |                                                     |                                           |         |        | Three Months Ended
|                                                                             |                                                     |                                           |         |        | March 31,         
|                                                                             |                                                     |                                           |         |        |                   
|                                                                             |                                                     |                                           |         |        | 2002               |   | 2001   
|                                                                             |                                                     |                                           |         |        |                    |   |        
|Operating activities:                                                        |                                                     |                                           |         |        |                    |   |         |       
|Net loss                                                                     |                                                     | $                                         | (22,955 | )      |                    | $ | (41,846 | )     
|Adjustments to reconcile net loss to net cash used in operating
activities:  |                                                     |                                           |         |        |                    |   |         |       
|                                                                             | Depreciation                                        |                                           |         | 4,443  |                    |   |         | 3,332  |       
|                                                                             | Non-cash charges related to inventory write down    |                                           |         |       |                    |   |         | 5,257  |       
|                                                                             | Amortization of warrants issued for services        |                                           |         | 52     |                    |   |         | 1,013  |       
|                                                                             | Amortization of deferred stock compensation         |                                           |         | 2,999  |                    |   |         | 12,163 |       
|                                                                             | Other, net                                          |                                           |         | 31     |                    |   |         | (22    | )     
|                                                                             | Change in operating assets and liabilities:         |                                           |         |        |                    |   |         |        |       
|                                                                             |                                                     | Accounts receivable, trade                |         |        | 8,241              |   |         |        | (4,988 | )
|                                                                             |                                                     | Other receivables                         |         |        | 324                |   |         |        | 108    |  
|                                                                             |                                                     | Inventory                                 |         |        | (1,515             | ) |         |        | (9,752 | )
|                                                                             |                                                     | Prepaid expenses and other current assets |         |        | (576               | ) |         |        | (682   | )
|                                                                             |                                                     | Long-term deposits                        |         |        | 118                |   |         |        | 63     |  
|                                                                             |                                                     | Other assets                              |         |        | 93                 |   |         |        | (82    | )
|                                                                             |                                                     | Accounts payable                          |         |        | (443               | ) |         |        | (2,476 | )
|                                                                             |                                                     | Provision for warranty claims             |         |        | (530               | ) |         |        | (475   | )
|                                                                             |                                                     | Accrued other liabilities                 |         |        | (3,330             | ) |         |        | 2,393  |  
|                                                                             |                                                     | Accrued compensation                      |         |        | 1,326              |   |         |        | 2,320  |  
|                                                                             |                                                     | Note payable                              |         |        |                   |   |         |        | (223   | )
|                                                                             |                                                     | Deferred revenue                          |         |        | (350               | ) |         |        | 2,679  |  
|                                                                             |                                                     | Accrued rent                              |         |        | 80                 |   |         |        | 110    |  
|                                                                             |                                                     | Other liabilities                         |         |        | 1                  |   |         |        | (83    | )
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|Net cash used in operating activities                                        |                                                     |                                           | (11,991 | )      |                    |   | (31,191 | )     
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|Investing activities:                                                        |                                                     |                                           |         |        |                    |   |         |       
|Capital expenditures                                                         |                                                     |                                           | (956    | )      |                    |   | (3,485  | )     
|Purchase of short-term investments                                           |                                                     |                                           | (36,643 | )      |                    |   | (41,684 | )     
|Proceeds from sales and maturities of short-term investments                 |                                                     |                                           | 28,147  |        |                    |   | 64,928  |       
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|                                                                             | Net cash (used in) provided by investing activities |                                           |         | (9,452 | )                  |   |         | 19,759 |       
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|Financing activities:                                                        |                                                     |                                           |         |        |                    |   |         |       
|Principal payments of equipment and working capital loans and
capital leases |                                                     |                                           | (1,506  | )      |                    |   | (1,451  | )     
|Proceeds from issuance of common stock, net                                  |                                                     |                                           | 218     |        |                    |   | 24      |       
|Proceeds from notes receivable from stockholders                             |                                                     |                                           | 234     |        |                    |   | 97      |       
|Repurchase of common stock                                                   |                                                     |                                           | (13     | )      |                    |   | (21     | )     
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|                                                                             | Net cash used in financing activities               |                                           |         | (1,067 | )                  |   |         | (1,351 | )     
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|Net (decrease) in cash and cash equivalents                                  |                                                     |                                           | (22,510 | )      |                    |   | (12,783 | )     
|Cash and cash equivalents at the beginning of the period                     |                                                     |                                           | 73,868  |        |                    |   | 126,139 |       
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|Cash and cash equivalents at the end of the period                           |                                                     | $                                         | 51,358  |        |                    | $ | 113,356 |       
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|Supplemental information:                                                    |                                                     |                                           |         |        |                    |   |         |       
|Cash paid for interest                                                       |                                                     | $                                         | 268     |        |                    | $ | 446     |       
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|Income taxes paid                                                            |                                                     | $                                         | 161     |        |                    | $ | 313     |       
|                                                                             |                                                     |                                           |         |        |                    |   |         |       
|Cancellation of notes receivable due to repurchase of unvested stock         |                                                     | $                                         | 4,274   |        |                    | $ | 1,560   |       
|                                                                             |                                                     |                                           |         |        |                    |   |         |       

See accompanying notes.

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COSINE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. BASIS OF PRESENTATION

The unaudited consolidated financial statements have been prepared by
CoSine Communications, Inc. pursuant to the rules and regulations of the
Securities and Exchange Commission and include the accounts of CoSine
Communications, Inc. and its wholly owned subsidiaries (CoSine or
collectively, the Company). Certain information and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to such
rules and regulations. In the opinion of management, all adjustments
(consisting of normal recurring items) necessary for a fair presentation have
been included. The results of operations for the three months ended March 31,
2002 are not necessarily indicative of the results to be expected for the
entire year. These unaudited consolidated financial statements should be read
in conjunction with the audited consolidated financial statements and the notes
included in CoSines Annual Report filed on Form 10-K for the year ended
December 31, 2001.

During 2000, CoSine issued warrants to its initial customers, which
significantly affected revenue through December 31, 2001. These warrants were
issued upon receipt of substantial purchase orders, which were preceded by a
period of cooperation with marketing, development and refinement of the
Companys products. Customer revenue consists of receipts from sales,
including equity issued in connection with sales, less receipts for equity
issued in connection with sales. As of December 31, 2001, the value of the
warrants granted to our first three customers was fully amortized and excluded
from the determination of revenue. As a result, our revenue in 2002 is no
longer affected by the value of warrants granted to customers.

Below is a reconciliation of revenue for the three months ended March 31,
2002 and 2001 as presented in our statement of operations to show the separate
components as indicated (in thousands):

|                                                                      |  |                    |       |      |  |   |       | 
|--------------------------------------------------------------------- |  | ------------------ | ----- | ---- |  | - | ----- | 
|                                                                      |  | Three Months Ended
|                                                                      |  | March 31,         
|                                                                      |  |                   
|                                                                      |  | 2002               |       | 2001
|                                                                      |  |                    |       |     
|                                                                      |  | (unaudited)       
|Receipts from sales, including equity issued in
connection with sales |  | $                  | 7,093 |      |  | $ | 7,011 | 
|Less: Receipts for equity issued in connection with
sales             |  |                    |      |      |  |   | 956   | 
|                                                                      |  |                    |       |      |  |   |       | 
|Revenue                                                               |  | $                  | 7,093 |      |  | $ | 6,055 | 
|                                                                      |  |                    |       |      |  |   |       | 

2. USE OF ESTIMATES

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

3. COMMITMENTS AND CONTINGENCIES

On September 25, 2000, a technology company initiated correspondence with
CoSine asserting that CoSine had used that companys patented technology
without a licensing arrangement. During the first quarter of 2002, the parties
resolved this matter by agreeing to a 5-year license agreement under which CoSine agreed to make certain
royalty payments. The terms of the
license agreement are subject to a confidentiality provision.
However, the Company does
not believe that these payments will have a material effect on
CoSines results of operations.

4. INVENTORIES

Net inventories, stated at the lower of cost (first-in, first-out) or
market, consisted of the following, in thousands:

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|                    |  |             |       |              |  |   |       | 
|------------------- |  | ----------- | ----- | ------------ |  | - | ----- | 
|                    |  | March 31,   |       | December 31,
|                    |  | 2002        |       | 2001        
|                    |  |             |       |             
|                    |  | (unaudited) |       |              |  |  
|Raw materials       |  | $           | 559   |              |  | $ | 1,170 | 
|Semi-finished goods |  |             | 4,867 |              |  |   | 2,952 | 
|Finished goods      |  |             | 1,318 |              |  |   | 1,107 | 
|                    |  |             |       |              |  |   |       | 
|                    |  | $           | 6,744 |              |  | $ | 5,229 | 
|                    |  |             |       |              |  |   |       | 

Included in net finished goods at March 31, 2002 and December 31, 2001
were $1,231,000 and $516,000, respectively, of goods awaiting customer
acceptance and $86,000 and $591,000, respectively, of goods used for customer
evaluation purposes. During the three months ended March 31, 2002, $409,000 of
fully reserved inventory was sold. During the three months ended March 31,
2001, inventory was written down by $5,257,000.

5. NET LOSS PER COMMON SHARE

Basic net loss per common share is calculated based on the
weighted-average number of common shares outstanding during the periods
presented, less weighted-average shares outstanding that are subject to
CoSines right of repurchase. Common stock equivalents consisting of
convertible preferred stock, stock options and warrants (calculated using the
treasury stock method), have been excluded from the diluted net loss per common
share computations, as their inclusion would be antidilutive. These securities
amounted to 22,044,000 shares and 18,314,000 shares for the three months ended
March 31, 2002 and 2001, respectively.

The calculations of basic and diluted net loss per share are shown below,
in thousands, except per share data:

|                                            |                                                                             |   |                    |         |      |   |         |         |  
|------------------------------------------- | --------------------------------------------------------------------------- | - | ------------------ | ------- | ---- | - | ------- | ------- | -
|                                            |                                                                             |   | Three Months Ended
|                                            |                                                                             |   | March 31,         
|                                            |                                                                             |   |                   
|                                            |                                                                             |   | 2002               |         | 2001
|                                            |                                                                             |   |                    |         |     
|                                            |                                                                             |   | (unaudited)       
|Net loss                                    |                                                                             | $ | (22,955            | )       |      | $ | (41,846 | )      
|                                            |                                                                             |   |                    |         |      |   |         |        
|Basic and diluted:                          |                                                                             |   |                    |         |      |   |         |        
|                                            | Weighted-average shares of common stock outstanding                         |   |                    | 101,765 |      |   |         | 103,566 |  
|                                            | Weighted-average shares subject to repurchase                               |   |                    | (2,565  | )    |   |         | (8,587  | )
|                                            |                                                                             |   |                    |         |      |   |         |        
|                                            | Weighted-average shares used in basic and diluted net
loss per common share |   |                    | 99,200  |      |   |         | 94,979  |  
|                                            |                                                                             |   |                    |         |      |   |         |        
|Basic and diluted net loss per common share |                                                                             | $ | (0.23              | )       |      | $ | (0.44   | )      
|                                            |                                                                             |   |                    |         |      |   |         |        

6. COMPREHENSIVE LOSS

The components of comprehensive loss are shown below, in thousands:

|                          |                                  |                                |         |                    |      |      |         |        |        |  
|------------------------- | -------------------------------- | ------------------------------ | ------- | ------------------ | ---- | ---- | ------- | ------ | ------ | -
|                          |                                  |                                |         | Three Months Ended
|                          |                                  |                                |         | March 31,         
|                          |                                  |                                |         |                   
|                          |                                  |                                |         | 2002               |      | 2001
|                          |                                  |                                |         |                    |      |     
|                          |                                  |                                |         | (unaudited)       
|Net loss                  |                                  | $                              | (22,955 | )                  |      | $    | (41,846 | )     
|Other comprehensive loss: |                                  |                                |         |                    |      |      |         |       
|                          | Unrealized losses on investments |                                |         | (300               | )    |      |         | (1,416 | )     
|                          | Translation adjustment           |                                |         | (17                | )    |      |         | (88    | )     
|                          |                                  |                                |         |                    |      |      |         |       
|                          |                                  | Total other comprehensive loss |         |                    | (317 | )    |         |        | (1,504 | )
|                          |                                  |                                |         |                    |      |      |         |       
|Comprehensive loss        |                                  | $                              | (23,272 | )                  |      | $    | (43,350 | )     
|                          |                                  |                                |         |                    |      |      |         |       

7. SEGMENT REPORTING

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CoSine operates in only one operating segment, and substantially all of
CoSines assets are located in the United States.

Revenues from customers by geographic region for the three months ended
March 31, 2002 and 2001, respectively, were as follows, in thousands:

|                                              |       |            |                      |            |                      |         |     |     |  |   |       |       | 
|--------------------------------------------- | ----- | ---------- | -------------------- | ---------- | -------------------- | ------- | --- | --- |  | - | ----- | ----- | 
|                                              |       |            | Receipts from sales, |            |                      |         |     |     |  |   |      
|                                              |       |            | including equity     |            | Receipts for equity  |         |     |     | 
|                                              |       |            | issued in connection |            | issued in connection |         |     |     | 
|Region                                        |       | with sales |                      | with sales |                      | Revenue
|                                              |       |            |                      |            |                      |        
|Three Months Ended March 31, 2002
(unaudited) |       |            |                      |            |                      |         |     |     |  |   |       |      
|United States                                 |       | $          | 3,440                |            |                      | $       |    |     |  | $ | 3,440 |      
|Asia/Pacific                                  |       |            | 1,874                |            |                      |         |    |     |  |   | 1,874 |      
|Europe                                        |       |            | 1,779                |            |                      |         |    |     |  |   | 1,779 |      
|                                              |       |            |                      |            |                      |         |     |     |  |   |       |      
|                                              | Total |            | $                    | 7,093      |                      |         | $   |    |  |   | $     | 7,093 | 
|                                              |       |            |                      |            |                      |         |     |     |  |   |       |      
|Three Months Ended March 31, 2001
(unaudited) |       |            |                      |            |                      |         |     |     |  |   |       |      
|United States                                 |       | $          | 2,816                |            |                      | $       | 798 |     |  | $ | 2,018 |      
|Asia/Pacific                                  |       |            | 3,148                |            |                      |         |    |     |  |   | 3,148 |      
|Europe                                        |       |            | 1,047                |            |                      |         | 158 |     |  |   | 889   |      
|                                              |       |            |                      |            |                      |         |     |     |  |   |       |      
|                                              | Total |            | $                    | 7,011      |                      |         | $   | 956 |  |   | $     | 6,055 | 
|                                              |       |            |                      |            |                      |         |     |     |  |   |       |      

8. RESTRUCTURING CHARGES

In September 2001 CoSines senior management approved a restructuring plan
to reduce its worldwide workforce, close certain sales offices, exit certain
facilities and idle certain property and equipment. Notification was given to
employees on September 28, 2001 that certain job functions would be eliminated
and that particular termination benefits would be paid to affected employees.
The restructuring program was implemented to reduce operating expenses and
conserve cash.

As a result of the workforce reduction, approximately 50 employees were
designated for termination in the restructuring plan and were then terminated
in the fourth quarter of 2001. The employees in the workforce reduction were
from all functional groups and were primarily located in CoSines Redwood City,
California offices. In the fourth quarter of 2001, the Company also wrote down
certain property and equipment to its expected realizable value.

Amounts related to the worldwide workforce reduction will be paid out
through mid-2002, and lease commitments will also be paid out over the
respective lease terms through mid-2002.

During the three months ended March 31, 2002, the Company paid $320,000 in
severance costs and $332,000 for lease commitments.

Details of the restructuring charges are as follows (in thousands):

|                                       |  |           |     |             |  |       |     |  |  |   |       | 
|-------------------------------------- |  | --------- | --- | ----------- |  | ----- | --- |  |  | - | ----- | 
|                                       |  | Worldwide |     | Lease       |  |       |     | 
|                                       |  | workforce |     | commitments |  |       |     | 
|                                       |  | reduction |     | and other   |  | Total
|                                       |  |           |     |             |  |      
|Provision balance at December 31, 2001 |  | $         | 341 |             |  | $     | 767 |  |  | $ | 1,108 | 
|Cash payments                          |  |           | 320 |             |  |       | 332 |  |  |   | 652   | 
|                                       |  |           |     |             |  |       |     |  |  |   |       | 
|Provision balance at March 31, 2002    |  | $         | 21  |             |  | $     | 435 |  |  | $ | 456   | 
|                                       |  |           |     |             |  |       |     |  |  |   |       | 

9. RECENT ACCOUNTING PRONOUNCEMENTS

In June 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 141, Business Combinations, (SFAS 141)
which requires that the purchase method of accounting be used for all business
combinations initiated after June 30, 2001 and addresses the initial
recognition and measurement of goodwill

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and other intangible assets acquired in a business combination completed after
June 30, 2001. As of July 1, 2001, the Company adopted this accounting
standard.

In June 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets,
(SFAS 142) which addresses the financial accounting and reporting standards for
goodwill and other intangible assets subsequent to their acquisition. SFAS 142
was effective January 1, 2002. This accounting standard requires that goodwill
no longer be amortized, and instead, be tested for impairment at least
annually. In addition, within six months of adopting the new accounting
standard, a transitional impairment test must be completed and any impairments
identified must be reported as a cumulative effect of a change in accounting
principle. The adoption of SFAS 142 had no impact on the Companys financial
statements.

In August 2001, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, (SFAS 144) which addresses financial accounting
and reporting for impairment or disposal of long-lived assets. SFAS 144 was
effective January 1, 2002. SFAS 144 supersedes Statement of Financial
Accounting Standards No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed of, and the accounting and
reporting provisions relating to the disposal of segments of a business under
Accounting Principles Board Opinion No. 30. The adoption of SFAS 144 did not
have a significant impact on the Companys financial statements.

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

This Managements Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements. These
forward-looking statements are subject to certain risks and uncertainties that
could cause actual results to differ materially from those reflected in these
forward-looking statements. We use words such as anticipate, believe, plan,
expect, future, intend and similar expressions to identify forward-looking
statements. Factors that might cause such a difference include, but are not
limited to, product development, commercialization and technology difficulties,
manufacturing costs, the impact of competitive products, pricing pressures,
changing customer requirements, timely availability and acceptance of new
products, changes in economic conditions in the various markets we serve and
those factors discussed in the section entitled Managements Discussion and
Analysis of Financial Condition and Results of Operations  Risk Factors.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which reflect managements opinions only as of the date hereof. We
undertake no obligation to revise or publicly release the results of any
revision to these forward-looking statements.

OVERVIEW

We develop, market and sell a communications platform that we refer to as
our IP Service Delivery Platform. Our product is designed to enable network
service providers to rapidly deliver computer applications and communications
services from within their networks. We market our IP Service Delivery
Platform through our direct sales force and through resellers to network
service providers in Asia, Europe and North America. We provide customer
service and support for our products.

The market for our IP Service Delivery Platform is new and evolving, and
the volume and timing of orders are difficult to predict. A customers
decision to purchase our platform typically involves a significant commitment
of its resources and a lengthy evaluation, testing and product qualification
process. Long sales and implementation cycles for our platform may cause our
revenue and operating results to vary significantly and unexpectedly from
quarter to quarter.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

General

Our discussion and analysis of our financial condition and results of
operations are based upon our consolidated financial statements, which have
been prepared in accordance with accounting principles generally accepted in
the United States. The preparation of these financial statements requires us
to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosure of contingent assets
and liabilities. On an ongoing basis, we evaluate our estimates, including
those related to revenue recognition, inventory valuation, warranties and
allowances for doubtful accounts. We base our estimates on historical
experience and on various other assumptions that we believe to be reasonable
under the circumstances. These estimates form the basis for certain judgments
about the carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from these estimates
under different assumptions or conditions.

The following accounting policies are significantly affected by our
judgments and estimates in the preparation of our consolidated financial
statements.

Revenue Recognition

Most of our sales are generated from complex arrangements. Recognizing
revenue in these arrangements requires our making significant judgments,
particularly in the areas of collectibility and customer acceptance.

Assessing the collectibility of amounts invoiced to customers is
particularly critical. To recognize revenue before we receive payment, we are
required to assess that collection from the customer is probable. If we cannot
satisfy ourselves that collection is probable, we defer recognizing revenue
until we have collected payment.

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Certain of our sales arrangements require formal acceptance by the
customer. In such cases, we do not recognize revenue until we have received
formal notification of acceptance. Although we work closely with our customers
to help them achieve satisfaction with our products prior to and after
acceptance, the timing of customer acceptance can affect the timing of our
revenue.

Inventory Valuation

In assessing the value of our inventory, we are required to make judgments
as to future demand and then compare that demand with current inventory
quantities and firm purchase commitments. If our inventories and firm purchase
commitments are in excess of forecasted demand, we write down the value of our
inventory. Inventory write-downs are charged to cost of sales. During the
first quarter of 2001, we charged significant inventory write-downs to cost of
sales as the result of reduced forecasted demand for our first-generation
product. In future periods, if actual demand for our products is less than our
forecasts, additional inventory write-downs may be required.

Warranties

When we recognize revenue from each sale, we include estimated warranty
costs in cost of sales. Our warranty obligation is affected by product failure
rates, materials usage and service delivery costs incurred in correcting
product failures. In future periods, if actual product failure rates,
materials usage or service delivery costs differ from our estimates,
adjustments to cost of sales may result.

Allowance for Doubtful Accounts

We maintain allowances for doubtful accounts for estimated losses
resulting from the inability of our customers to pay our invoices. In order to
estimate the appropriate level of this allowance, we analyze historical bad
debts, customer concentrations, current customer credit-worthiness, current
economic trends and changes in our customer payment patterns. In future
periods, if the financial condition of our customers were to deteriorate and
affect their ability to make payments, additional allowances could be required.

Impact of Equity Issuances on Operating Results

Equity issuances have a material impact on our operating results. The
equity issuances that have affected operating results to date include warrants
granted to customers and suppliers, stock options granted to employees and
consultants and stock issued in lieu of cash compensation to suppliers.

Our revenue in 2001 was affected significantly by warrants issued to our
first three customers: Qwest Communications International, Inc., AduroNet
Limited and Broadband Office, Inc. These warrants were issued upon receipt of
substantial purchase orders that were preceded by a period of cooperation with
us in the marketing, development and refinement of our products. Our revenue
from these customers consisted of receipts from sales, including equity issued
in connection with sales, less receipts for equity issued in connection with
sales. As of December 31, 2001, the value of the warrants granted to these
customers was fully amortized and excluded from the determination of revenue.
As a result, our revenue in 2002 is no longer affected by the value of warrants
granted to customers.

Our costs of goods sold and operating expenses are also affected
significantly by charges related to warrants and options issued for services.
Furthermore, some of our employee stock option transactions have resulted in
deferred compensation, which is presented as a reduction to stockholders
equity on our balance sheet and is amortized over the vesting period of the
applicable options using the graded vesting method.

The compensation associated with shares and options relating to the
following transactions is required to be remeasured at the end of each
accounting period. Each remeasurement will result in unpredictable charges or
credits, to be recorded as non-cash charges related to equity issuances in
future periods, depending on future fluctuations in the market price of our
common stock:

| |                                                                                                                                                                                                                                                                                                                                 
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Non-recourse promissory notes receivable: During the fourth quarter of
2000, we converted full-recourse promissory notes received from employees
upon the early exercise of unvested employee stock options to non-recourse
obligations. Accordingly, we are required to remeasure the compensation
associated with these shares

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| |                                                                                                                                                                                                                                                                   
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | each quarter until the earlier of the vesting of the shares or the
repayment of the amounts owed under the note. Deferred compensation
expense, which is recorded at each remeasurement, is amortized over the
remaining vesting period of the underlying options.

| |                                                                                                                                                                                                                                                                                                                                                            
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Repriced stock options: During the third quarter of 2001, we repriced
7,220,710 unexercised employee stock options to $1.55 per share. These
options had previously been granted at prices ranging from $4.00 to $40.00
per share. The repricing requires that compensation be remeasured for
these options until they expire or are exercised or canceled.

RESULTS OF OPERATIONS

For the three months ended March 31, 2002 and 2001, we reported basic and
diluted net losses per common share of $0.23 and $0.44, respectively. The
effect of equity issuances to customers, suppliers, employees and consultants
increased net loss per common share by $0.03 and $0.14 per share for the three
months ended March 31, 2002 and 2001, respectively.

Revenue

During 2000, CoSine issued warrants to its first three customers, which
significantly affected revenue through December 31, 2001. These warrants were
issued upon receipt of substantial purchase orders, which were preceded by a
period of cooperation with marketing, development and refinement of the
Companys products. Customer revenue consists of receipts from sales,
including equity issued in connection with sales, less receipts for equity
issued in connection with sales. As of December 31, 2001, the value of the
warrants granted to our first three customers was fully amortized and excluded
from the determination of revenue. As a result, our revenue in 2002 is no
longer affected by the value of warrants granted to customers.

For the three months ended March 31, 2002, revenue was $7.1 million of
which 77% was from hardware sales, 14% was from software sales and 9% was from
sales of services. For the three months ended March 31, 2001, revenue was $6.1
million of which 42% was from hardware sales, 11% was from software sales and
47% was from sales of services. Revenue in the first three months of 2002
reflected sales to a higher number of customers; however, order amounts by each
customer where lower. The higher percentage of revenue from sales of services
in 2001 was due to sales agreements to our initial customers that contained
larger service elements.

Below is a reconciliation of revenue for the three months ended March 31,
2002 and 2001 as presented in our statement of operations to show the separate
components as indicated (in thousands):

|                                                                      |  |                    |       |      |  |   |       | 
|--------------------------------------------------------------------- |  | ------------------ | ----- | ---- |  | - | ----- | 
|                                                                      |  | Three Months Ended
|                                                                      |  | March 31,         
|                                                                      |  |                   
|                                                                      |  | 2002               |       | 2001
|                                                                      |  |                    |       |     
|                                                                      |  | (unaudited)       
|Receipts from sales, including equity issued in
connection with sales |  | $                  | 7,093 |      |  | $ | 7,011 | 
|Less: Receipts for equity issued in connection with
sales             |  |                    |      |      |  |   | 956   | 
|                                                                      |  |                    |       |      |  |   |       | 
|Revenue                                                               |  | $                  | 7,093 |      |  | $ | 6,055 | 
|                                                                      |  |                    |       |      |  |   |       | 

During the year ended December 31, 2000 we issued the following warrants
to customers:

A warrant exercisable for 1,233,499 shares of our series C preferred stock
at an exercise price of $0.81 per share issued to Qwest Communications upon
receipt of a purchase order from Qwest for $18.3 million of our products and
services;

A warrant exercisable for 200,000 shares of our common stock at an
exercise price of $4.00 per share issued to AduroNet Ltd. upon receipt of a
purchase order from AduroNet for $20.7 million of our products and services;
and

A warrant exercisable for 468,849 shares of our common stock at an
exercise price of $3.73 per share issued to BroadBand Office upon receipt of a
purchase order from BroadBand Office for $20.0 million of our products and

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services. BroadBand filed for bankruptcy in the second quarter of 2001
and subsequently CoSine wrote off the remaining unamortized portion of this
warrant.

We calculated the fair value of these customer-related warrants to be
$16.3 million ($10.3 million in the case of Qwest, $1.9 million in the case of
AduroNet and $4.1 million in the case of BroadBand Office). These values were
calculated using the Black-Scholes option pricing model, using volatility of
0.6, a risk-free interest rate of 5% and an expected life of four years. Of
this amount, $1.0 million was excluded from revenue for the three months ended
March 31, 2001.

Non-Cash Charges Related to Equity Issuances

During the three months ended March 31, 2002 and 2001, we amortized $3.1
million and $12.2 million, respectively, of non-cash charges related to equity
issuances to cost of goods sold and operating expenses.

Cost of Goods Sold

For the three months ended March 31, 2002, cost of goods sold was $3.4
million, of which $3.4 million or 100% represented materials, labor, production
overhead, warranty and the costs of providing services, $0.4 million or 12%
represented amortization of deferred compensation related to stock options
granted to employees in manufacturing operations and a benefit of $0.4
million or 12% represented inventory sold that had previously been written
down.

For the three months ended March 31, 2001, cost of goods sold was $8.8
million, of which $2.7 million or 31% represented materials, labor, production
overhead, warranty and the costs of providing services, $5.3 million or 59%
represented inventory reserve provisions and $0.8 million or 10% represented
amortization of deferred compensation.

Gross Profit (Loss)

For the three months ended March 31, 2002, gross profit was $3.7 million
and for the three months ended March 31, 2001, gross loss was $2.8 million. In
the first three months of 2002, there were no inventory write-downs, and there
was a benefit of $0.4 million for inventory sold that had previously been
written down. In the first three months of 2001, there was an inventory
write-down of $5.3 million.

Research and Development Expenses

Research and development expenses were $12.8 million and $18.7 million for
the three months ended March 31, 2002 and 2001, respectively. This represents
a decrease of $5.9 million or 31%. This primarily resulted from decreased
non-cash charges related to equity issuances due to our use of an accelerated
amortization method for employee stock compensation, which results in lower
charges in each subsequent period. Additionally, salary and employee-related
expenses were reduced reflecting lower headcount in the current period.
Non-cash charges related to equity issuances were $1.1 million and $5.2 million
for the three months ended March 31, 2002 and 2001, respectively.

Sales and Marketing Expenses

Sales and marketing expenses were $10.9 million and $16.4 million for the
three months ended March 31, 2002 and 2001, respectively. This represents a
decrease of $5.5 million or 34%. This primarily resulted from decreased
non-cash charges related to equity issuances due to our use of an accelerated
amortization method for employee stock compensation, which results in lower
charges in each subsequent period. Additionally, salary and employee-related
expenses were reduced reflecting lower headcount in the current period and
lower travel expenses due to the implementation of cost saving policies.
Non-cash charges related to equity issuances were $0.9 million and $3.7 million
for the three months ended March 31, 2002 and 2001, respectively.

General and Administrative Expenses

General and administrative expenses were $3.9 million and $7.0 million for
the three months ended March 31, 2002 and 2001, respectively. This represents
a decrease of $3.1 million or 45%. This primarily resulted from decreased
non-cash charges related to equity issuances due to our use of an accelerated
amortization method for employee stock compensation, which results in lower
charges in each subsequent period. Additionally, salary and recruiting
expenses

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were reduced reflecting lower headcount in the current period. There were
also decreased expenses for outside professional services as in-house legal
personnel were utilized, and reduced need for outside systems personnel as
requirements for internal systems development declined. Non-cash charges
related to equity issuances were $0.6 million and $2.3 million for the three
months ended March 31, 2002 and 2001, respectively.

Interest and Other Income

For the three months ended March 31, 2002, interest and other income was
$1.3 million, a decrease of $2.5 million from the comparable period in 2001.
This reflects decreased interest income due to lower levels of cash and
short-term investments and lower interest rates on invested amounts.

Interest Expense

For the three months ended March 31, 2002, interest expense was $0.3
million compared with $0.5 million of interest expense in the comparable period
of 2001. The reduction reflects a decline in our debt.

Income Tax Provision

The provisions for income taxes were $0.2 million and $0.3 million for the
three months ended March 31, 2002 and 2001, respectively, and were comprised
entirely of foreign corporate income taxes, which are a function of our
operation of subsidiaries in various countries.

LIQUIDITY AND CAPITAL RESOURCES

Prior to our initial public offering in September 2000, we financed our
operations primarily through sales of convertible preferred stock for net
proceeds of $166.6 million, plus equipment and working capital loans and
capital leases. Upon the closing of our initial public offering on September
29, 2000, we received cash proceeds, net of underwriters discounts and
offering expenses, totaling $242.5 million, and all of our convertible
preferred stock was converted into 69.6 million shares of common stock.

We believe that we possess sufficient liquidity and capital resources to
fund our operating and working capital requirements for at least the next 12
months. We may require additional funds to support other purposes and may seek
to raise these additional funds through debt or equity financing or from other
sources. There can be no assurances that additional funding will be available
at all, or that if available, such financing will be obtainable on terms
favorable to us.

Cash, Cash Equivalents and Short-Term Investments

At March 31, 2002, cash, cash equivalents and short-term investments were
$150.5 million. This compares with $164.9 million at December 31, 2001.

Operating Activities

We used $12.0 million and $31.2 million of cash in operations for the
three months ended March 31, 2002 and 2001, respectively. The decrease in net
cash used in operating activities was the result of a lower net loss and an
improvement in working capital. The working capital improvement was due to
cash provided by accounts receivable and inventory; the improvement
was partially offset by cash used in accrued other liabilities.

Investing Activities

For the three months ended March 31, 2002 and 2001, we used $9.5 million
and provided $19.8 million, respectively, in cash from investing activities.
This reflects a decrease of $31.7 million for net proceeds from the sale of
short-term investments offset by a decrease in capital expenditures of $2.5
million.

Financing Activities

For the three months ended March 31, 2002 and 2001, $1.1 million and $1.4
million in cash was used in financing activities, respectively. This primarily
reflects principal payments on working capital loans and capital leases.

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OUTLOOK

We believe that capital spending in the telecommunications industry will
recover in the long-term (two to five years). However, due to reductions in
capital spending plans by our customers and uncertainty within the
telecommunications industry, the current and short-term outlook (up to two
years) for growth is not favorable. The lack of capital availability for many
emerging service providers combined with the emphasis of larger service
providers on reducing operating expenses, has caused a significant reduction in
capital spending in the industry as a whole. While we believe this is a
short-term (up to two years) phenomenon, it has had a direct impact on our
operations. We anticipate that this capital spending trend will continue to
have a substantial, adverse effect on our revenue growth substantially for at
least the remainder of the current fiscal year. Because capital continues to
be scarce, we believe that pricing will continue to be under pressure as each
potential customer attempts to improve returns on invested capital.

RISK FACTORS

The following discussion describes certain risk factors related to our
business as well as to our industry in general.

We have a history of losses that we expect will continue, and if we never
achieve profitability we may cease operations.

We have incurred net losses since our incorporation. We cannot be certain
that our revenue will grow or that we will generate sufficient revenue to
become profitable. If we do not achieve profitability, we may cease
operations.

Due to our loss making activity we could lose major opportunities with large
service providers who are concerned with our long-term financial viability.

Many large telecommunications service providers purchase capital equipment
from vendors with a history of successful operations including positive cash
flow. Our history of losses and use of cash in operations may cause certain
service providers to decide not to purchase our equipment because of concerns
regarding our long-term financial viability and our ability to support their
businesses. Unless we can generate positive cash flows by either increasing
revenues and/or decreasing costs, concerns regarding our long-term financial
viability may cause some potential customers to purchase product from other
larger, more established suppliers including Cisco Systems, Lucent Technologies
and Nortel Networks.

The outlook for capital spending in the telecommunications industry directly
impacts our business.

Due to reductions in capital spending plans by our customers and
uncertainty within the telecommunications industry, the current and short-term
outlook (up to two years) for growth is not favorable. Capital spending in the
industry as a whole has slowed as a result of a lack of available capital for
many emerging service providers and a generally cautious approach to capital
spending within the industry.

While we believe this is a current and short-term (up to two years)
phenomenon, we anticipate that this trend will continue to have a substantial,
adverse effect on our revenue growth for at least the remainder of the current
fiscal year.

We participate in a competitive marketplace, and our failure to compete
successfully would limit our ability to increase our market share and harm our
business.

Competition in the network infrastructure market is intense, and we expect
that competition in the market for IP networking services will also be intense.
If we are unable to compete effectively, our revenue and market share will be
negatively affected.

We face competition from companies in the network infrastructure market,
including Cisco Systems, Lucent Technologies, Nortel Networks, Alcatel,
Ericsson and Siemens.

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We believe that there is likely to be consolidation in our industry. We
expect to face increased competition from larger companies with significantly
greater resources than we have.

Some of these larger competitors have pre-existing relationships involving
a range of product lines with the network service providers who are the
principal potential customers for our IP Service Delivery Platform. These
competitors may offer vendor financing, which we generally do not offer,
undercut our prices or use their pre-existing relationships with our customers
to induce them not to use our IP Service Delivery Platform.

The limited sales history of our IP Service Delivery Platform makes forecasting
our revenue difficult, which may impair our ability to manage our business.

We were founded in April 1997, shipped our first test IP Service Delivery
Platform product in March 1999 and sold our first IP Service Delivery Platform
product in March 2000. We have limited meaningful historical financial data
upon which to forecast our revenue.

If our customers are unable to generate sales of services using our products
and to manage delivery of these services to their customers, we may be unable
to sell our products.

Our future success depends on network service providers, who are our
customers, generating revenue from the sale of services delivered using our
products. Sales of our products may decline or be delayed if our customers do
not successfully introduce commercial services derived from our IP Service
Delivery Platform or if our customers do not generate revenue from these
services sufficient to realize an attractive return on their investment in our
IP Service Delivery Platform.

Our ability to generate future revenue also depends on whether network
service providers successfully forecast market trends and identify the services
and features that our products should offer their customers.

If our IP Service Delivery Platform does not rapidly achieve market acceptance,
we may be unable to achieve profitability.

Our products offer a new approach for delivering services by network
service providers, who may perceive our products as being more expensive than
the other technologies and products they purchase. If network service
providers do not accept our IP Service Delivery Platform as a method for
delivering services to their customers, our ability to increase our revenue,
achieve profitability and continue operations would be harmed. Our success
also depends on third-party software providers recognizing the advantages of
our service delivery method and on our ability to effectively support their
software development efforts.

Our IP Service Delivery Platform is our only product line, and our future
revenue depends on its commercial success.

Our IP Service Delivery Platform, which is comprised of hardware and
software, is the only product that we currently offer to our customers. Our
future revenue depends on the commercial success of our IP Service Delivery
Platform. If customers do not adopt, purchase and successfully implement our
IP Service Delivery Platform in large numbers, our revenue will not grow.

Our products are technically complex and may contain errors or defects that are
not found until our customers put our products to full use. Errors or defects
in our products could seriously harm our reputation and our ability to sell our
products.

Our products are more complicated than most networking products. They can
be adequately tested only when put to full use in large and diverse networks
with high amounts of traffic. Errors or defects in our products could result
in:



| |  |  | loss of current customers and failure to attract new customers or
achieve market acceptance; and
| | - |  | ------------------------------------------------------------------------------------------------
|
| |  |  | increased service and warranty costs.                                                           

The long sales cycle for our platform may cause our revenue and operating
results to vary significantly from quarter to quarter, and the price of our
stock to decline.

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A customers decision to purchase our IP Service Delivery Platform
involves a significant commitment of its resources and a lengthy evaluation,
testing and product qualification process. Network service providers and other
customers with complex networks usually expand their networks in increments on
a periodic basis. We may receive purchase orders for significant dollar
amounts on an irregular and unpredictable basis. These events may cause our
revenue and operating results to vary significantly and unexpectedly from
quarter to quarter, which could cause our stock price to decline.

If we fail to develop new products or features, we will have difficulty
attracting customers.

Based on our prior experience, we expect that our customers will require
product features that our current IP Service Delivery Platform does not have.
Our products are technically complex, and the development of new products or
features is an uncertain, time-consuming and labor-intensive process. We may
experience design, manufacturing or marketing problems with new products. If
we fail to develop new or enhanced products that meet customer requirements,
our ability to attract and retain customers will be hindered.

If we fail to execute new product introductions in a timely manner we may
experience erratic revenue growth, which could negatively affect profitability
and in turn have a negative impact on our stock price. In addition, such a
failure could result in additional costs such as excess inventory, customer
conversion costs, higher than expected product costs and higher than expected
operating expenses in research and development and in sales and marketing.

We rely upon a limited number of customers, and any decrease in revenue from
these customers or failure to increase our customer base could harm our
operating results.

The loss of one or more of our customers, a reduction in purchases of our
products by our customers or the decline of our customers business may limit
our revenue growth and harm our operating results. Our customers may reduce or
discontinue purchases of our products at any time.

Our future success will depend on attracting additional customers.
Failure to increase our customer base would hinder our growth and harm our
operating results.

If we fail to retain key personnel our operations could suffer and our stock
price could be negatively impacted.

Maintaining key personnel may be difficult for a number of reasons,
including but not limited to market demand, stock price, growth opportunities,
management philosophy, company performance and competitive activity. If we
lose key personnel we may find it difficult and costly to recruit new
management and other personnel and this may have a negative affect on our
company performance and in turn on our stock price.

A failure of our contract manufacturers or our sole source and limited source
suppliers to meet our needs would seriously harm our ability to timely fill
customer orders.

If any of our manufacturers terminates its relationship with us or is
unable to produce sufficient quantities of our products in a timely manner and
at satisfactory quality levels, our ability to fill customer orders on time,
our reputation and our operating results will suffer. Our contract
manufacturers do not have a long-term obligation to supply products to us.
Qualifying new contract manufacturers and starting volume production is
expensive and time consuming and would disrupt our business.

We purchase several key components, including field programmable gate
arrays, some integrated circuits and memory devices, and power supplies from a
single source or a limited number of sources. We do not have long-term supply
contracts for these components. If our supply of these components is
interrupted, we may be unable to locate an alternate source in a timely manner
or at favorable prices. Interruption or delay in the supply of these
components could cause us to lose sales to existing and potential customers.

If any of our significant suppliers were to terminate their relationships with
us or compete against us, our revenue and market share would likely be reduced.

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Many of our suppliers also have significant development and marketing
relationships with our competitors and have significantly greater financial and
marketing resources than we do. If they develop and market products in the
future in competition with us, or form or strengthen arrangements with our
competitors, our revenue and market share will likely be reduced.

If we fail to predict our manufacturing requirements accurately, we could incur
additional costs or manufacturing delays.

We provide forecasts of our demand to our contract manufacturers up to
twelve months before scheduled delivery of products to our customers. If we
overestimate our manufacturing requirements, we or our contract manufacturers
may have excess or obsolete inventory, which could harm our operating results.
If we underestimate our requirements, our contract manufacturers may have an
insufficient inventory, which could interrupt manufacturing of our products and
result in delays in shipments and revenue. If we do not accurately anticipate
lead times for components, we may experience component shortages.

If necessary licenses of third-party technology are terminated or become
unavailable or too expensive, our competitive position and our product offering
will suffer.

We license from third-party suppliers several key software applications
incorporated in our IP Service Delivery Platform. Also, we may need to license
technology from other third-party suppliers to enable us to develop new
products or features. Our inability to renew or obtain any third-party license
that we need could require us to obtain substitute technology of lower quality
or at greater cost. Either of these outcomes could seriously impair our
ability to sell our products and could harm our operating results.

Insiders continue to have substantial control over us and they could delay or
prevent a change in our corporate control even if our other stockholders wanted
it to occur.

Our executive officers, directors and principal stockholders who hold 5%
or more of the outstanding common stock and their affiliates beneficially own a
significant portion of our outstanding common stock. These stockholders will
be able to exercise significant control over all matters requiring stockholder
approval, including the election of directors and approval of significant
corporate transactions. This could delay or prevent an outside party from
acquiring or merging with us even if our other stockholders wanted it to occur.

If we become subject to unfair hiring claims, we could be prevented from hiring
needed personnel, or from pursuing or implementing our research, and could
incur substantial liabilities or costs.

Companies in our industry whose employees accept positions with
competitors frequently claim that these competitors have engaged in unfair
hiring practices or that the employment of these persons would involve the
disclosure or use of trade secrets. We have been threatened with claims like
these in the past and may receive claims of this kind in the future. These
claims could prevent us from hiring personnel or from using the intellectual
property brought to us by the personnel whom we hire. We could also incur
substantial costs and damages in defending ourselves or our employees against
these claims, regardless of their merits. Defending ourselves against such
claims could divert the attention of our management away from our operations.

If our products do not work the way our customers expect, orders for our
products may be cancelled and the market perception of our products could be
harmed.

If our products do not work with our customers or their end-users
networks, the market perception of our products could be harmed and orders for
our products could be cancelled. In particular, if an actual or perceived
breach of network security occurs in a customers or its end-users network
that uses our products, we may be subject to lawsuits for losses suffered by
customers or their end-users.

If we have to redesign or modify our products to make them compatible with
a customers or end-users network, our sales cycle could be extended, our
research and development costs may increase and profit margins on our products
may decline.

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Because the markets in which we compete are prone to rapid technological change
and the adoption of standards different from those that we use, our products
could become obsolete, and we could be required to incur substantial costs to
modify our products to remain competitive.

The market for our IP Service Delivery Platform is prone to rapid
technological change, the adoption of new standards, frequent new product
introductions and changes in customer and end-user requirements. We may be
unable to respond quickly or effectively to these developments. We may
experience difficulties that could prevent our development of new products and
features. The introduction of new products or technologies by competitors, or
the emergence of new industry standards, could render our products obsolete or
could require us to incur costs to redesign our products.

We rely on our intellectual property rights to be competitive, and if we are
unable to protect these rights, we may never become profitable.

We rely on a combination of copyright, trademark, patent and trade secret
laws and restrictions on disclosure to protect our intellectual property
rights. Monitoring unauthorized use of our products is difficult, and we
cannot be certain that the steps we have taken will prevent unauthorized use of
our technology. If we are unable to protect our intellectual property rights,
our ability to supply our products as they have been designed could suffer, and
our ability to become profitable could be harmed.

If we become involved in an intellectual property dispute, we could be subject
to significant liability, the time and attention of our management could be
diverted and we could be prevented from selling our products.

We may become a party to litigation in the future to protect our
intellectual property or because others may allege infringement of their
intellectual property. These claims and any resulting lawsuit could subject us
to significant liability for damages or invalidate our proprietary rights.
These lawsuits, regardless of their merits, likely would be time-consuming and
expensive to resolve and would divert management time and attention. Any
potential intellectual property litigation alleging our infringement of a
third-partys intellectual property also could force us to:



| |  |  | stop selling products or services that use the challenged
intellectual property;                                                                                                    
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | obtain from the owner of the infringed intellectual property
right a license to sell the relevant technology, which license may
not be available on reasonable terms, or at all; and
|
| |  |  | redesign those products or services that use the infringed
technology.                                                                                                              

If our stock price falls below $1.00, we could be delisted from the Nasdaq.

Our stock price was below $1.00 during a portion of the first quarter of
2002 and as of the date on which we filed this Report on Form 10-Q with the
Securities and Exchange Commission. If the stock price does not remain over
$1.00 within the time frame specified by Nasdaq listing rules, our stock may be
delisted. We believe that delisting our stock would have negative effects on
liquidity and on the value of the stock.

Acts of war, terrorist activity, and bio-terrorism can have a negative effect
on the demand for our products.

The terrorist activity on September 11, 2001 and the ensuing declaration
of war on terrorism may result in reduced demand for networking products.
Capital spending in the telecommunications industry was already depressed prior
to the tragedy, and additional news regarding war and terrorism may negatively
impact the demand for our products. These circumstances may result in delayed
purchases, cancelled orders and new technology requirements, which could lead
to reduced revenues or increased costs, which in turn could negatively affect
our stock price.

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ITEM 3. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Sensitivity

We do not currently use derivative financial instruments for speculative
trading or hedging purposes. In addition, we maintain our cash equivalents in
government and agency securities, debt instruments of financial institutions
and corporations and money market funds. Our exposure to market risks from
changes in interest rates relates primarily to corporate debt securities. We
place our investments with high credit quality issuers and, by policy, limit
the amount of the credit exposure to any one issuer.

Our general policy is to limit the risk of principal loss and ensure the
safety of invested funds by limiting market and credit risk. All highly liquid
investments with a maturity of less than three months at the date of purchase
are considered to be cash equivalents, and all investments with maturities of
three months or greater are classified as available-for-sale and considered to
be short-term investments.

Exchange Rate Sensitivity

Currently, most of our sales and expenses are denominated in United States
dollars. As a consequence, we have not engaged in any foreign exchange hedging
activities to date. However, we expect to conduct transactions in foreign
currencies in increasing volumes in the future, and as a result we may engage
in foreign exchange hedging activities.




PART II. OTHER INFORMATION




ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS



| | (a) |  | On September 25, 2001, in connection with our initial public
offering, a Registration Statement on Form S-1 (File No. 333-35938)
was declared effective by the Securities and Exchange Commission,
pursuant to which 11,500,000 shares of our common stock were offered
and sold for our account at a price of $23 per share, generating
gross offering proceeds of $264.5 million. The managing underwriters
were Goldman, Sachs & Co., Chase Securities Inc., Robertson Stephens,
Inc. and JP Morgan Securities Inc. Our initial public offering closed
on September 29, 2001. The net proceeds of the initial public
offering were approximately $242.5 million after deducting
approximately $18.5 million of underwriting discounts and
approximately $3.5 million of other offering expenses.
| | --- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |     |  | We did not pay directly or indirectly any of the underwriting discounts
or other related expenses of the initial public offering to any of our
directors or officers, any person owning 10% or more of any class of
our equity securities, or any of our affiliates.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|
| |     |  | We have used approximately $92 million of the funds from the initial
public offering to fund our operations. We expect to use the remaining
net proceeds for general corporate purposes, to fund our operations,
working capital and capital expenditures. Pending further use of the
net proceeds, we have invested them in short-term, interest-bearing,
investment-grade securities.                                                                                                                                                                                                                                                                                                                                                                                                            




ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K



| | (a) |  | Exhibits.           
| | --- |  | --------------------
|
| |     |  | None.               
|
| | (b) |  | Reports on Form 8-K.
|
| |     |  | None.               

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.

| |                                                                                                                |                 
| | -------------------------------------------------------------------------------------------------------------- | ----------------
| | COSINE COMMUNICATIONS, INC.                                                                                   
|
| | By:                                                                                                            | /s/ Terry Gibson
| |                                                                                                               
| | Terry Gibson
Executive Vice President and Chief
Financial Officer
(Principal Financial and
Accounting Officer)

Dated: May 8, 2002

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