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

FORM 10-K

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


|                                            |  |                               
|------------------------------------------- |  | ------------------------------
|For the fiscal year ended December 31, 2002 |  | Commission file number 0-15135

TEKELEC

(Exact name of registrant as specified in its charter)


|                                                                          |  |                                                
|------------------------------------------------------------------------- |  | -----------------------------------------------
|California
(State or other jurisdiction of
incorporation or organization) |  | 95-2746131
(I.R.S. Employer
Identification No.)

26580 West Agoura Road, Calabasas, California 91302
(Address of principal executive offices) (Zip Code)

Registrants telephone number, including area code: (818) 880-5656
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:

Common Stock, without par value

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 [   ]

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

Indicate by check mark whether the registrant is an accelerated filer.
Yes [X] No [   ]

The aggregate market value of the voting stock held by non-affiliates of
the registrant, based upon the last reported sale price of the Common Stock on
June 28, 2002 as reported on The Nasdaq Stock Market, was approximately $366,996,000.

The number of shares outstanding of the registrants Common Stock on March
21, 2003 was 60,953,463

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrants definitive Proxy Statement to be delivered to
shareholders in connection with their Annual Meeting of Shareholders to be held
on May 8, 2003 are incorporated by reference into Part III of this Annual
Report.





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TABLE OF CONTENTS



|           |                                                                                                          |  |  |  |  |  |  | 
|---------- | -------------------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I    
|           | Item 1. BUSINESS.                                                                                       
|           | Item 2. PROPERTIES.                                                                                     
|           | Item 3. LEGAL PROCEEDINGS.                                                                              
|           | Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.                                            
|PART II   
|           | Item 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.                          
|           | Item 6. SELECTED FINANCIAL DATA.                                                                        
|           | Item 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.          
|           | Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.                                    
|           | Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.                                                    
|           | Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.           
|PART III  
|           | Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.                                            
|           | Item 11. EXECUTIVE COMPENSATION.                                                                        
|           | Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
|           | Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.                                                
|           | Item 14. CONTROLS AND PROCEDURES.                                                                       
|PART IV   
|           | Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.                              
|SIGNATURES
|EX-10.4   
|EX-10.10  
|EX-21.1   
|EX-23.1   
|EX-99.1   
|EX-99.2   



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TEKELEC
INDEX TO ANNUAL REPORT ON FORM 10-K
For the fiscal year ended December 31, 2002

|         |  |                                                                                                |  |     
|-------- |  | ---------------------------------------------------------------------------------------------- |  | ----
|         |  |                                                                                                |  | Page
|         |  |                                                                                                |  |     
|PART I  
|Item 1.  |  | Business                                                                                       |  | 3   
|Item 2.  |  | Properties                                                                                     |  | 30  
|Item 3.  |  | Legal Proceedings                                                                              |  | 30  
|Item 4.  |  | Submission of Matters to a Vote of Security Holders                                            |  | 32  
|PART II 
|Item 5.  |  | Market for Registrants Common Equity and Related
Stockholder Matters                          |  | 33  
|Item 6.  |  | Selected Financial Data                                                                        |  | 34  
|Item 7.  |  | Managements Discussion and Analysis of Financial Condition
and Results of Operations          |  | 35  
|Item 7A  |  | Quantitative and Qualitative Disclosures about Market Risk                                     |  | 45  
|Item 8.  |  | Financial Statements and Supplementary Data                                                    |  | 45  
|Item 9.  |  | Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure           |  | 45  
|PART III
|Item 10. |  | Directors and Executive Officers of the Registrant                                             |  | 45  
|Item 11. |  | Executive Compensation                                                                         |  | 45  
|Item 12. |  | Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters |  | 46  
|Item 13. |  | Certain Relationships and Related Transactions                                                 |  | 46  
|Item 14. |  | Controls and Procedures                                                                        |  | 46  
|PART IV 
|Item 15. |  | Exhibits, Financial Statement Schedules, and Reports on Form 8-K                               |  | 47  

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PART I




Item 1. BUSINESS.

Overview

Tekelec designs, manufactures, markets and supports network systems
products and selected service applications for telecommunications networks and
contact centers. Our customers include telecommunications carriers, network
service providers, and contact center operators.

Our network systems products help direct and control voice and data
communications. They enable carriers to control, establish and terminate calls.
They also enable carriers to offer intelligent services, which include any
services other than the call or data transmission itself. Examples include
familiar products such as call waiting, caller ID, voice messaging, toll free
calls (e.g.,800 calls), prepaid calling cards, text messaging and local
number portability. Some of our network systems products also allow the
monitoring and surveillance of network elements while the network is in
operation and deliver revenue assurance features such as fraud protection.

We believe that voice and data networks will increasingly interoperate, or
converge. Network convergence should provide opportunities to expand sales of
our network systems products and service applications, several of which are
designed specifically for converged networks.

Our contact center products provide workforce management and intelligent
call routing systems for single and multiple site contact centers. We sell our
contact center products primarily to customers in industries with significant
contact center operations such as financial services, telecommunications and
retail.

In August 2002, we sold our network diagnostics business and related
operations. Accordingly, our network diagnostics business is reflected as a
discontinued operation in our consolidated financial statements.

Our Internet address
is www.tekelec.com. We are not including the information contained on
our website as a part of, or incorporating it by reference into,
this Annual Report on Form 10-K. We make available free of
charge through our website our Annual Reports on Form 10-K,
Quarterly Reports on Form 10-Q and Current Reports on Form 8-K,
and amendments to these reports, as soon as reasonably practicable
after we electronically file such material with, or furnish such
material to, the Securities and Exchange Commission.

Industry Background

Usage of communications networks has expanded rapidly in recent years.
Driving this trend has been the growth in demand for data communications and
wireless connectivity, deregulation and the emergence of new competitors,
services and technologies.

Growth in data traffic has been most visibly driven by the increase in the
number of businesses and consumers that use the Internet. According to
International Data Corp., an independent market research firm, the number of
people accessing the Internet was approximately 498 million in 2001 and is
expected to grow to 942 million by 2005. The number of wireless subscribers has
also grown rapidly in recent years, reaching 625 million subscribers worldwide
in 2000 and is expected to double to 1.3 billion subscribers by 2006, according
to the Yankee Group, a research consulting firm.

The increase in data traffic, combined with the inherent efficiency of
packet switched networks, have led many carriers to build new packet networks
and to seek ways to enable

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existing circuit switched networks to interface reliably and efficiently with
these new packet switched networks.

Deregulation has played a key role in the emergence of new competitive
service providers in recent years. In addition, technological developments such
as DSL, cable modems and broadband wireless have enabled alternative access
technologies and fostered new types of service providers.

As competition has grown in recent years, per-minute revenue from basic
telephony service has declined significantly. As a result, intelligent services
have become core competitive features of a network, providing incremental
revenues to service providers and offering more service choices to subscribers.
As these services have become less expensive and more widely accessible,
customer demand for them has grown.

Deregulation has also spurred the offering of intelligent services. The
Telecommunications Act of 1996 mandates that subscribers of U.S. telephone
service be given the option of changing their local service provider while
retaining their local phone number. Several European and Asian countries have
also recently adopted or are considering adopting similar number portability
requirements to allow subscribers to retain their telephone numbers while
changing service providers. Current Federal Communications Commission (FCC)
regulations require that wireless customers in the U.S. be offered this same
option in November 2003.

Recent Changes in Telecommunications Operating Environment

Throughout the late 1990s, capital investment in telecommunications
equipment grew rapidly before experiencing moderate growth in the second half
of 2000. In 2001, telecom capital investment declined for the first time in
several years as telecommunications industry fundamentals deteriorated. In
2002, telecom capital investment continued to decline, as telecom service
provider revenues remained under pressure, resulting in significantly lower
overall capital expenditures. The industrys growth prior to the second half of
2000 was driven principally by significant capital investment by new types of
service providers, such as competitive local exchange carriers (CLECs) formed
after industry deregulation, and by substantial growth in capital spending from
wireless operators to support the expansion of mobile networks. In addition,
capital investment from incumbent carriers, such as Regional Bell Operating
Companies (RBOCs), increased in response to the new threat of competition from
CLECs and other new entrants. Adding to the favorable environment for telecom
capital investment prior to mid-2000, capital markets were extremely active and
institutional investors were willing to fund many new and established
telecommunications service providers alike. The healthy capital markets and
favorable valuations for telecommunications service providers led carriers to
re-invest higher than normal percentages of their revenue into capital
equipment purchases because new capital was perceived to be readily available.

Beginning in 2000 and increasingly in 2001 and 2002, capital available
from equity markets declined significantly and the emerging competitive
carriers began to experience difficulty attracting new funding. In many cases,
the emerging carriers had accumulated considerable debt loads that required new
capital to service their interest payments. In addition, economic weakness,
particularly in the U.S., also impacted the market for telecommunications
services, and particularly impacted the competitive carriers, many of which had
been targeting businesses. As a result of these trends, competitive carriers
sharply reduced their capital

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spending, and several filed for bankruptcy protection as a means to restructure
their debt obligations. In addition, while the capital spending by wireless
service providers continued to increase in 2001 given the continuing rapid
growth of their businesses, capital investment by incumbent wireline carriers
declined in 2001 in part due to the reduced threat from competitive carriers.

In 2002, continued economic weakness and investor concerns over the
reliability and credibility of published financial statements made financing
through the capital markets even more difficult. High profile bankruptcies and
questionable accounting practices by some telecom operators made investors
reluctant to provide financing to telecom operators in general. Across all
carrier types, the limited availability in the capital markets and reduced
valuations in the equity markets, has heightened the focus on operating
measures such as cash flows, which has led service providers to conserve cash
and reduce capital investment whenever possible.

While future capital spending trends are difficult to predict, industry
analysts expect capital spending on telecommunications equipment to decline in
2003 from 2002 levels across all service provider segments. Capital spending on
wireless equipment is expected to decline significantly due to the completion
of the 2G to 2.5G network upgrades that all of the national wireless operators
completed in 2002.

Challenges Service Providers Face

To compete in todays competitive environment, service providers are
seeking to differentiate their products and services while lowering their
costs. This has increased demand for technologies that enable the rapid
creation and delivery of innovative services on existing and converged
networks. Some of the key challenges that service providers face in expanding
their network systems include:



| |  |  | expanding and/or upgrading their signaling network systems to
support new and enhanced services, and growing volumes of signaling
traffic, particularly on signaling-intensive wireless networks which
generate several times the amount of signaling traffic as wireline
networks;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | building and managing networks that can cost-effectively support
circuit and packet network convergence; and                                                                                                                                                                       
|
| |  |  | monitoring increasingly complex networks.                                                                                                                                                                                                                                          

Signaling and Intelligent Services

Traditional voice telephone networks consist of two basic elements 
switching and signaling. The switching portion of a network carries and routes
the actual voice or data comprising a call. The signaling portion of a
network instructs the switching portion how to do its job. Signaling messages
are carried on a different logical transmission path than the actual call
itself. Signaling is responsible for establishing and terminating a call. The
signaling portion of the network also enables service providers to offer
intelligent services such as call waiting, caller ID and voice messaging.

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The signaling portions of existing voice telephone networks in most of the
world are based upon a set of complex standards known as Signaling System #7,
or SS7. The primary network elements within a traditional circuit network
architecture based on SS7 are as follows:

Signal Transfer Point (STP) A signal transfer point is a packet switch
for the signaling portion of the network. It controls and directs the signaling
messages used to establish and terminate telephone calls and to coordinate the
provision of intelligent services.

Service Switching Point (SSP) A service switching point (often called a
Class 4 or Class 5 switch, depending on its location in the network) is a
carriers switch that connects to the SS7 network and serves as the origination
and termination points for the SS7 messages in a network. In this capacity, the
service switching point, via signaling transfer points, sends and processes the
signaling messages used to establish and terminate telephone calls. When a
service switching point identifies a call requiring instructions for
intelligent services, it sends a signaling message to a signal transfer point
and awaits further routing or call processing instructions.

Service Control Point (SCP) A service control point is a specialized
database containing network and customer information. It is queried by service
switching points via signaling transfer points for information required for the
delivery of intelligent services. Different service control points contain the
information used by the SS7 network to perform different types of functions.

Signaling Links A signaling link is a physical or logical connection or
channel between any two different parts of the signaling portion of the
network, or a connection or channel between the signaling part of the network
and the switching part of the network. To create additional network capacity to
accommodate increases in signaling traffic, additional links must be added to
signal transfer points, or new signal transfer points must be added.
Traditionally, signaling links have operated on dedicated circuit facilities.
New network architectures support signaling over packet transmission
technologies such as IP or ATM.

The market for SS7 equipment is driven by growth in network traffic and by
demand for intelligent services. Carriers and service providers must increase
the performance and capacity of their signaling networks in order to increase
call processing capacity or to offer intelligent services. Because of its role
in providing reliability and features to a voice network, STPs must deliver
high performance and reliability. Typically, STPs need to deliver 99.999%
reliability, or less than three minutes of unscheduled downtime per year.
Service providers also require an SS7 solution that is scalable  that is, a
solution that can initially be matched to support a carriers current capacity
but with the capability to have its capacity increased to support the carriers
growth without requiring the replacement of certain network elements.

Unique Signaling Requirements of Wireless Networks

Wireless networks generate substantially more signaling traffic than fixed
line networks due to additional SS7 features inherent in wireless telephony
such as mobile registrations, roaming, and handoffs between cellular equipment.
As a result, wireless operators generally invest in SS7 related equipment, such
as signal transfer points, more frequently than fixed line carriers to
accommodate the unique signaling demands of mobile telephony. In addition,
rapid growth in wireless minutes of use and increased popularity of wireless
services enabled by signaling networks such as voice mail and text messaging
have led to a significant increase in SS7 traffic on mobile networks in recent
years, which has created a need for high capacity

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signaling infrastructure. Driving the higher usage in wireless networks,
particularly in the United States, are flat rate pricing plans that feature no
additional charges for long distance calls. Wireless usage is expected to
continue to increase in the coming years, which will create further demand for
signaling infrastructure. According to a report issued by The Yankee Group,
wireless telephony is expected to account for more than 50% of total
non-business minutes in the United States by 2005, up from 30% in 2002, as
additional subscribers are added and existing subscribers continue to increase
their usage of wireless phones.

Supporting Voice and Data Convergence

Currently, virtually all networks which carry both voice and data
communications rely on a technology called circuit switching. Another
technology, packet switching, has been used almost exclusively for data-only
networks. Circuit switching and packet switching are fundamentally different
technologies. While circuit switching has offered reliable and high quality
voice communications, packet switching is inherently more efficient and cost
effective. Industry sources estimate that the cost of a transmission minute is
as much as 25% to 50% less for a packet network than for a circuit network.

The cost and performance superiority of packet switching has led many
incumbent and new carriers to build packet networks to handle data traffic. It
has also led carriers to explore the transmission of voice communications over
packet networks. This requires circuit networks and packet networks to
seamlessly interconnect.

To support voice and data communications, packet networks need signaling
to provide the same reliability and quality of transmissions as circuit
networks and to provide the intelligent services consumers have come to expect
and demand. Because SS7 is the global industry standard for voice networks, we
believe that signaling for the converged circuit and packet networks will be
based upon SS7 or its derivatives as well. This allows new carriers with packet
networks to more easily interconnect with existing circuit networks and would
allow incumbent carriers to leverage their investment in their existing
networks even as they build out their data networks.

We believe that the primary network elements of converged circuit and
packet networks, including signaling, call control and switching technologies,
are as follows:

Signal Transfer Point As in the present circuit networks, a signal
transfer point relays messages needed to establish and terminate telephone
calls and to coordinate the provision of intelligent services. It can relay
messages within the circuit network, between circuit and packet networks, and
possibly within some forms of packet networks.

Service Control Point As in the present circuit networks, a service
control point is a specialized database containing information used to deliver
intelligent services. Service control points in converged networks may support
packet-based signaling interfaces.

Signaling Gateway A signaling gateway receives signaling messages from
signal transfer points, reformats these messages and presents them to one or
more media gateway controllers.

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Media Gateway Controller A media gateway controller, frequently called a
softswitch or call agent, is a specialized computer that provides the
intelligence, or call control to direct switching. It controls one or more
voice/data switches called media gateways.

Media Gateway A media gateway is a voice/data switch that receives the
message part of a call and redirects it as specified by the media gateway
controller to a single destination or to multiple destinations. If necessary, a
media gateway can translate the actual call from a packet switching format to a
circuit switching format and vice versa.

Application Server Similar to a service control point, an application
server is a specialized database that contains information to deliver certain
intelligent services in packet networks, interacting with the Media Gateway
Controller via IP-based protocols such as Session Initiation Protocol (SIP).

SIP Server# A SIP server is a session control platform for
voice-over-packet networks. Interoperating with media gateway controllers, the
SIP server provides the foundation for initiating and terminating sessions as
well as service delivery within a pure-packet, signaling network.

The primary difference between the converged architecture and the circuit
architecture described above is the use of the signaling gateway, media gateway
controller and media gateway to perform the same switch functions that are
currently performed by certain service switching points in circuit networks.
However, industry experts believe it will take decades to replace all of the
existing service switching points with packet switching technologies. In our
view of the converged architecture, these three switch components do not all
have to be made and sold in one integrated product by a single equipment
manufacturer. Instead, any of these switch components can be bundled and sold
with switch components made by different manufacturers generally with one
vendor serving as the primary supplier responsible for delivering, integrating
and servicing the comprehensive packet telephony solution. We have partnered
with several vendors of media gateways and feature servers to enable us to
offer a complete solution for packet telephony deployments.

We believe carriers are seeking fully featured packet telephony solutions
that can facilitate the convergence of circuit and packet networks, without
compromising functionality, reliability, scalability, support and flexibility.
We also believe that other equipment manufacturers may be looking for signaling
and/or call control products that they can easily bundle and sell with their
own switch components.

The Tekelec Solution

We are a leading designer and developer of telecommunications signaling
infrastructure, packet telephony solutions, and service applications. Our
network systems products are widely deployed in traditional and
next-generation, or converged wireline and wireless networks and contact
centers worldwide. Our systems assist our customers in meeting their primary
challenges in the competitive telecommunications environment; differentiating
their offerings and lowering network costs. We offer signaling and packet
telephony systems and services to enable the delivery of intelligent services
and facilitate convergence of voice and data networks. We believe that our
open, standards-based solutions are highly reliable and enable operators to
more cost-effectively manage their networks and offer intelligent services.

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Our Eagle 5 SAS (the latest release of our STP product) and previous
versions of the Eagle STP, have been widely deployed and, according to market
research firms, has achieved leading market share in North America. We are
expanding our international operations to increase our market share in
international markets within Europe, Latin America, Asia Pacific and in other
parts of the world the Eagle 5 SAS offers high capacity and throughput,
reliability and efficiency that support the growth of traffic and demand for
intelligent services in service provider networks. The reliability of our
products enable us to offer service providers solutions that reduce their total
cost of ownership of network systems products. Our Eagle and IP7 products meet
industry standards for 99.999% reliability and less than three minutes of
unscheduled downtime per year. We also offer a feature of Eagle that allows
Eagle 5 the ability to support SS7 signaling into Internet Protocol (IP)
networks to realize substantial efficiencies inherent in IP networks.

During the past few years, we have developed and introduced a suite of
products created specifically for converged circuit and packet networks. These
products include the IP7 Secure Gateway and the VXi Media Gateway Controller,
two of the three components comprising a switch in converged circuit and packet
networks. Our products are designed so that they may be purchased in
combination with switch components made by other manufacturers, or purchased
separately, depending on the customers preference. In our effort to offer our
customers a complete switching solution, we have become an established reseller
of media gateways manufactured by Alcatel and Telica and applications servers
manufactured by BroadSoft, with which our solutions are interoperable.

Use of our SS7-over-IP solutions results in a substantial increase in
signaling efficiency by enabling SS7 signaling over IP at faster rates than
traditional SS7 signaling. Customers may choose to deploy the IP7 Secure
Gateway or the Eagle 5 with SS7-over-IP capability to gain signaling
efficiencies, among other benefits, as a precursor to deploying a complete
packet telephony switch as a circuit switch replacement. In addition, customers
of our SS7 products may upgrade their existing solutions to enable SS7
signaling over IP. The upgrade enables them to preserve the value of their
existing SS7 infrastructure and makes them fully capable of facilitating
interoperability between circuit and next-generation packet networks.

Our approach to packet telephony solutions offers carriers more
flexibility and lower costs than a fully integrated switch. Carriers can choose
to purchase from among multiple vendors each of the switch components that
offers the optimal performance for their needs. They can also potentially
upgrade or expand a packet telephony switch by selectively replacing
components, instead of having to replace the entire switch. The ability to
upgrade media gateways without changing the signaling and call control elements
of a converged switch is especially relevant due to continuous gains in packet
switching efficiency, which by some estimates, doubles in performance every 18
months. We also believe that our approach is more scalable than a fully
integrated packet telephony switch.

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Business Strategy

Our objective is to be the premier supplier of network infrastructure
products for existing and converged networks. We intend to focus on the market
opportunities arising from the convergence of voice and data networks and to
apply our technology to develop products and services for such networks. In
order to achieve this goal we intend to leverage our established customer
relationships and our expertise in SS7 technology. Our strategy is to maintain
technology leadership, target the convergence of voice and data networks,
expand internationally, seek continued operating improvements, and pursue new
market segments and additional strategic relationships. Key elements of our
strategy to achieve this objective include:

Maintaining Technology Leadership.We believe that one of our core
competitive strengths is the breadth of our knowledge and expertise in
communications technologies, particularly in SS7 and related signaling
technologies. We have developed this expertise over more than two decades. We
intend to enhance our existing products and to develop new products by
continuing to make significant investments in research and development. As part
of our commitment to technology leadership, we have developed the Transport
Adapter Layer Interface (TALI), an Internet Protocol signaling interface that
enables the transport of signaling messages using the Internet Protocol. We
have made available the TALI source code free of charge to the industry, and
have entered into TALI licensing agreements with more than 200 companies,
several of which are using the interface in live networks. We also support
other IP signaling protocols, including the Internet Engineering Task Force
SIGTRAN suite of signaling protocols for next-generation network connectivity.
We have also assumed a leadership role within the Softswitch Consortium, an
industry organization created for global cooperation and coordination in the
development of open standards and interoperability for packet networks.

Targeting the Convergence of Voice and Data Networks.We are continuing to
invest significantly to develop signaling and call control products and
features that enable the convergence of circuit and packet networks. We
introduced the IP7 product line, the VXi Media Gateway Controller and the SXi
700 SIP Server to target this convergence market. In addition, we have
established reseller partnerships with vendors of media gateways and
application servers, complementary products for converged voice and data
networks. We believe our pursuit of this new market opportunity leverages our
expertise in signaling and call control and will enhance the market potential
for our traditional solutions by ensuring that customers who invest in Tekelec
equipment can be upgraded to perform in converged networks.

Expanding Internationally.We are increasingly pursuing international
opportunities, primarily through our European sales and support office in the
United Kingdom and by opening additional international sales offices. We
recently established additional sales offices in Latin America, Singapore, and
China. Our European sales efforts have resulted in significant expansion in our
customer base, including Orange Personal Communications Systems, Bouygues
Telecom, the Cegetel Group mobile subsidiary SFR, Cable & Wireless, British
Telecom, and Vodafone. Mandates in certain European countries, including Spain,
the Netherlands and France, and a similar mandate in Australia, require that
telecommunications service providers offer number portability. The increasing
implementation of number portability in Europe and other regions is expected to
result in increasing demand for SS7 network elements such as signal transfer
points to accommodate the increase in signaling traffic, and number portability
solutions, such as those offered by Tekelec, to facilitate the deployment of
number portability.

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Focus on Continued Operating Improvements. We will continue to identify
and implement new ways to improve our operating efficiency and business
processes to enhance our profitability. The use of contract manufacturing and
improved supplier relationships have helped to lower our material costs and
allowed us to improve our gross margins. We will pursue additional such savings
in the future. We will continue to review all job openings to determine whether
job functions or business processes can be assumed by other Tekelec personnel
or reengineered, resulting in lower personnel costs. We will continue to
regularly review and evaluate all employee performance to ensure that under
performing employees are provided the opportunity to improve their performance
or are separated from us.

Pursuing Additional Strategic Relationships, Original Equipment
Manufacturers (OEM) Partners and Acquisitions.We intend to seek additional
strategic relationships, including original equipment manufacturer partners,
referral arrangements, distribution agreements and acquisition candidates. Our
existing strategic relationships include technology development and OEM
relationships with Alcatel, BroadSoft and Telica; technology development and
marketing relationships with Harris, Telcordia and Nortel, a collaboration
agreement with Alcatel and distribution relationships with Mercury (formerly
Daewoo) and numerous other product distributors.

Pursuing New Market Segments.We intend to continue our strategy of
internally developing and acquiring products in order to enter new market
segments. A number of products currently under development will enable us to
serve new and emerging next generation networking markets.

Seeking Additional Opportunities to Provide Upgrades, Extensions and
Service Agreements.We intend to leverage our strong customer relationships to
seek opportunities to better serve our customers needs in the future. In
particular, we will continue to develop and market software upgrades, link
extensions, extended service agreements and other enhancements as a means to
pursue repeat business opportunities. Such products and services accounted for
approximately 50 % of revenues in its Network Systems Division in 2002.

Products

We currently offer products in two broad categories: network systems
products and contact center products.

Network Systems Products

Our principal network systems products are described below:

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|                                     |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|------------------------------------ |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Product                              |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|                                     |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|Eagle 5 Signaling Application System |  | Our Eagle 5 Signaling Application
System (SAS) is a highly reliable
and scalable product that provides
solutions in five functional areas:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                                     |  | Signal Transfer, Signaling Gateway,
Number Portability, Data Acquisition,
and Integrated Applications. The
Signal Transfer Function is tailored
to the global CCS7 switching needs of
wireline carriers, network service
providers and wireless operators,
among others. It offers high capacity
and throughput, features a fully
distributed, standards-based, open
architecture and is scalable from 2
to 2,000 links with growth up to 7000
links. The Signaling Gateway Function
provides the capability for next
generational IP signaling, and
bridges the gap between legacy
networks and next-generation Packet
Telephony capabilities. The Number
Portability Functions introduce
solutions for wireline and wireless
networks worldwide with a combination
of capacity and performance. Data
Acquisition Function provides a base
for Revenue Gateway and Fraud
Protection capabilities within a
signaling network. The Integrated
Applications Function delivers
mediation, mobility, find-me
services and Intelligent Network
applications.
|                                     |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|ASi 4000 Service Control Point       |  | Our ASi 4000 Service Control Point is
a specialized database that contains
network and customer information
needed to process calls requiring
special treatment, such as calling
name or other intelligent services.
This product supports interfaces to
the products of most major switch
vendors. Its service creation
environment has a graphical user
interface which enables the
development, testing and deployment
of intelligent services.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|                                     |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|IP7 Secure Gateway                   |  | Our IP7 Secure Gateway is a highly
scalable signaling gateway that can
provide signaling information to
media gateway controllers and
IP-signaling enabled SCPs in multiple
locations. It can deliver these
services in multi-protocol,
multi-vendor converged networks or in
circuit switched networks that deploy
signaling over IP primarily to
realize economic benefits.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|                                     |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|VXi Media Gateway Controller         |  | Our VXi Media Gateway Controller is
highly scalable and can control media
gateways in multiple locations. It
interfaces to both asynchronous
transfer mode and Internet protocol
networks via proprietary and
standards-based interfaces.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                

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|                   |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|------------------ |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Product            |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|                   |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|SXi 700 SIP Server |  | Our SXi 700 product establishes and
terminates sessions, and enables
services in a packet switching
network environment. Interworking
with Media Gateway Controllers, the
SXi 700 is an IP signaling foundation
for service delivery in packet
networks.                                                                                                                                                                                                                                                                                              
|                   |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|Sentinel           |  | Sentinel is a data acquisition
product capturing data from signaling
networks. Associated value added
applications provide network
maintenance, surveillance and revenue
assurance solutions that enables
service providers to ensure the
reliability of telecommunication
products and services implemented
across their SS7/IP networks.
Sentinel also enables revenue
assurance features such as fraud
prevention, billing and billing
verification. Sentinel can be
deployed on a standalone basis or as
an integrated feature of the Eagle 5
SAS.

Contact Center Products

Our contact center products provide planning, management and call routing
and control tools for single contact centers and for complex, multiple site
contact center environments. These tools help contact center managers maximize
contact center productivity, achieve service level targets and reduce costs.
Our principal contact center products are described below:

|          |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|--------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Product   |  | Description                                                                                                                                                                                                                                                                                                                                                                                                                                           
|          |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|TotalView |  | Our TotalView Workforce Management Solution for single and multiple
site contact centers generates staff schedules based on contact
center workload and the availability and skills of contact center
staff. It performs real-time monitoring and analysis of contact
center operations. TotalView also provides detailed, customized
reports to assist in optimizing contact center performance and
forecasting contact center staffing requirements.
|          |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|TotalNet  |  | Our TotalNet Call Routing Solution for multiple site contact
centers routes calls to multiple locations as if they were a single
contact center and balances workload across contact center sites
based on staffing levels, call volume and caller requirements.
TotalNet also maintains contact center statistics and analyzes
contact center operations.                                                                                            

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Product Development

The communications market is characterized by rapidly changing technology,
evolving industry standards and frequent new product introductions. Standards
for new technologies and services such as 3G wireless, softswitching, signaling
for packet networks, internet protocol and asynchronous transfer mode are still
evolving. As these standards evolve and the demand for services and
applications increases, we intend to adapt and enhance our products and develop
and support new products. We solicit product development input through
discussions with our customers and participation in various industry
organizations and standards committees, such as the Telecommunications Industry
Association, the Internet Engineering Task Force, the Softswitch Consortium and
the Asynchronous Transfer Mode Forum, and by closely monitoring the activities
of the International Telecommunications Union, the European Telecommunications
Standards Institute, the International Organization for Standardization and
Telcordia.

Our network systems product development group is principally focused on
addressing the requirements of the converged voice and data networks and on the
release of new software versions to incorporate enhancements or new features or
functionality desired by customers. This group also focuses on compliance with
standards to enable the Eagle solutions to address additional domestic and
international markets. In addition, we plan continued improvement of hardware
components to improve their performance and capabilities.

Our contact center product development activities are principally focused
on expanding the capabilities of the contact center products, including the
skills and multimedia scheduling capabilities of the TotalView Workforce
Management product and the functionality of the TotalNet Call Routing product.

Sales and Marketing

Our sales and marketing strategies include selling through our direct
sales forces, selling indirectly through distributors and other resellers,
entering into strategic alliances and targeting certain markets and customers.
To promote awareness of Tekelec and our products, we also advertise in trade
journals, exhibit at trade shows, participate in industry forums and panels,
maintain a presence on the Internet, use direct mail and from time to time, our
employees author articles for trade journals.

Distribution.We sell our network systems and contact center products in
the U.S. principally through our direct sales forces and indirectly through
strategic relationships with various third parties. Our North America direct
sales forces operate out of our regional offices located in California,
Colorado, Georgia, Illinois, New Jersey, North Carolina, Virginia and Texas.
Internationally, we sell our network systems products through our direct sales
force, sales agents and distribution relationships. We also sell direct from
our wholly owned subsidiaries in the United Kingdom, Canada, Germany, France,
Italy, Singapore, Brazil and our sales office in China.

Strategic Relationships.We believe that our current and future strategic
relationships with leading communications equipment suppliers will improve
market penetration and acceptance for our network systems products. These
suppliers have long-standing relationships with public telecommunications
carriers and provide a broad range of services to these carriers through their
existing sales and support networks. We seek strategic relationships that:
14Table of Contents



| |  |  | enhance our presence and strengthen the our competitive position in
our target markets;                                                                                              
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | offer products that complement our network systems solutions to
provide value-added networking solutions; and                                                                        
|
| |  |  | leverage our core technologies to enable communications equipment
suppliers to develop enhanced products with market differentiation that
can be integrated with Tekelecs solutions.

Our strategic relationships include:



| |  |  | an agreement with Alcatel, whereby we will market and resell certain of Alcatels
media gateways with our VXi Media Gateway Controller and IP7 Secure Gateway;                                    
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | an agreement with Telica whereby we will market and resell certain of
Telicas media gateways with our VXi Media Gateway Controller and IP7
Secure Gateway;                                       
|
| |  |  | an agreement with BroadSoft, whereby we will market and resell BroadSofts
application server product with our VXi Media Gateway Controller and IP7 Secure
Gateway;                               
|
| |  |  | an agreement with Harris whereby we will market and resell its
operations, administration and maintenance network management system;                                                              
|
| |  |  | an exclusive distribution and OEM agreement with Mercury under which
Mercury distributes our Eagle STP in South Korea;                                                                            
|
| |  |  | an alliance with Nortel Networks in which we and Nortel Networks
cooperatively market Nortel Networks Symposium Call Center Server with
TotalNet Call Routing and TotalView Workforce Management.

We believe that our strategic third party relationships provide us with
additional opportunities to penetrate the network systems markets and
demonstrate our strategic partners recognition of the technical advantages of
our network products. Through our relationships with, among others, Alcatel,
BroadSoft, Telica, Harris and Mercury, we are enhancing our market presence and
the ability to access leading network service providers. In general, these
agreements can be terminated by either party on limited notice and, except for
our agreement with Mercury, do not require minimum purchases. Although our
current sales through these relationships are not significant, a termination of
our relationship with, or the sale of competing products by, any of these
strategic partners could adversely affect our business and operating results.

We believe that our ability to compete successfully in the network systems
market also depends in part on our distribution and marketing relationships
with leading communications equipment suppliers and resellers. If we cannot
successfully enter into these relationships on terms that are favorable to us
or if we cannot maintain these relationships, our business may suffer.

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Service, Support and Warranty

We believe that customer service, support and training are important to
building and maintaining strong customer relationships. We service, repair and
provide technical support for our products. Support services include 24-hour
technical support, remote access diagnostics and servicing capabilities,
extended maintenance and support programs, comprehensive technical customer
training, extensive customer documentation, field installation and emergency
replacement. We also offer to our customers and certain resellers of our
products training with respect to the proper use, support and maintenance of
our products.

We maintain an in-house repair facility and provide ongoing training and
telephone assistance to customers and international distributors and other
resellers from our headquarters in Calabasas, California and certain U.S.
regional offices. Our technical assistance centers in Morrisville, North
Carolina and Egham, United Kingdom, support the our network systems products on
a 24 hour-a-day, seven day-a-week basis. Our technical assistance center in
Richardson, Texas supports our contact center products and certain of our
network systems products.

We also offer network implementation services in connection with our
effort to supply a complete solution for packet telephony deployments,
including products from our vendor partners. In such instances, we will offer
specific service contracts to support the needs of our carrier customers that
choose to migrate their network to packet technologies.

We typically warrant our products against defects in materials and
workmanship for one year after the sale and thereafter offer extended service
warranties.

Customers

Our customers include end users and marketing intermediaries. End users
for our network systems products consist primarily of network service
providers, wireless network operators, interexchange carriers, competitive
access providers, local exchange carriers and Regional Bell Operating
Companies. Wireless service providers accounted for more than 50% of our
Network Systems revenue in 2002. Our contact center solutions have been sold
primarily to Fortune 500 companies, financial services companies and
telecommunications carriers. We anticipate that our operating results in any
given period will continue to depend to a significant extent upon revenues from
a small percentage of our customers.

Backlog

Backlog for our network systems products typically consists of contracts
or purchase orders for both product delivery scheduled within the next 12
months and extended service warranty to be provided over periods of up to three
years. Backlog for our contact center products typically consists of products
and services ordered for delivery within the next 12 months. Primarily because
of variations in the size and duration of orders we receive and customer
delivery requirements, which may be subject to cancellation or rescheduling by
the customer, our backlog at any particular date may not be a meaningful
indicator of future financial results.

At December 31, 2002, our backlog amounted to approximately $182.7
million, of which $108.2 million related to network systems service warranties.
This compared to a backlog of

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approximately $176.0 million at December 31, 2001, of which $86.3 million
related to network systems service warranties.

We regularly review our backlog to ensure that our customers continue to
honor their purchase commitments and have the financial means to purchase and
deploy our products and services in accordance with the terms of their purchase
contracts.

Competition

Network Systems Products.The market for our network systems products is
intensely competitive and has been highly concentrated among a limited number
of dominant suppliers. We presently compete in the network systems market with,
among others, Alcatel, Nortel, Cisco Systems, Telcordia, Sonus Networks,
Ericsson, Lucent Technologies, Inet and Siemens.We expect competition to
increase in the future from existing and new competitors.

We believe that the principal competitive factors in the network systems
products market are product performance, scalability and functionality, product
quality and reliability, customer service and support, price and the suppliers
financial resources and marketing and distribution capability. We anticipate
that responsiveness in adding new features and functionality will become an
increasingly important competitive factor. While some of our competitors have
greater financial resources, we believe that we compete favorably in other
respects. New entrants or established competitors may, however, offer products
that are superior to our products in performance, quality, service and support
and/or are priced lower than our products.

Some of our competitors, including Lucent, Nortel and Sonus Networks
manufacture and offer fully integrated network systems products for converged
networks. These products include an SS7 signaling gateway, a media gateway
controller and a media gateway. Our strategy, however, is to develop and
provide the SS7 signaling gateway and the media gateway controller elements of
network systems solutions for converged circuit and packet networks. This means
that it will be necessary for our products to be combined with the media
gateways of other vendors to constitute a complete network systems switch for a
converged network. To date, we have established relationships with Telica and
Alcatel to offer a complete switch. Some customers may prefer to purchase fully
integrated network systems switches from our competitors rather than purchase
our network systems products because they may conclude that the fully
integrated switch is superior. Our ability to compete in the market for network
systems switches will also be limited if media gateway manufacturers develop
fully integrated switches and cease selling media gateways on a non-integrated
basis or bundled with our convergence products.

We believe that our ability to compete successfully in the network systems
market also depends in part on our distribution and marketing relationships
with leading communications equipment suppliers and resellers. If we cannot
successfully enter into these relationships on terms that are favorable to us,
or if we cannot maintain these relationships, our business would suffer.

Contact Center Products.The market for contact center products is
extremely competitive. We compete principally with Aspect Communications and
Blue Pumpkin Software in the market for workforce management solutions and with
Cisco and Alcatel in the market for call routing solutions. We also compete to
a lesser extent in these markets with a number of other manufacturers, some of
which have greater financial, marketing, manufacturing and other resources than
Tekelec. We believe that the success of our TotalView product will depend in
part

17



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on our ability to offer competitive prices and to further develop our
workforce management scheduling and other technologies and our international
distribution channels. We believe that the success of the TotalNet product will
depend, to a significant degree, on our ability to develop market penetration
and to improve product functionality through strategic partnering with third
parties.

Intellectual Property

Our success depends, to a significant degree, on our proprietary
technology and other intellectual property. We rely on a combination of
patents, copyrights, trademarks, trade secrets, confidentiality agreements and
contractual restrictions to establish and protect our proprietary rights both
in the United States and abroad. We have been issued a number of patents and
have a number of patent applications pending. These measures, however, afford
only limited protection and may not prevent third parties from misappropriating
our technology or other intellectual property. In addition, the laws of certain
foreign countries do not protect our proprietary rights to the same extent as
do the laws of the United States and thus make the possibility of
misappropriation of our technology and other intellectual property more likely.
If we fail to successfully enforce or defend our intellectual property rights,
or if we fail to detect misappropriation of our proprietary rights, our ability
to effectively compete could be seriously impaired.

Our pending patent and trademark registration applications may not be
allowed and our competitors may challenge the validity or scope of our patent
or trademark registration applications. In addition, we may face challenges to
the validity or enforceability of our proprietary rights and litigation may be
necessary to enforce and protect our rights, to determine the validity and
scope of our proprietary rights and the rights of others, or to defend against
claims of infringement or invalidity. Any such litigation would be expensive
and time consuming, would divert the attention of our management and key
personnel from business operations and would likely harm our business and
operating results.

The communications industry is characterized by the existence of a large
number of patents and frequent litigation based on allegations of patent
infringement. From time to time, third parties may assert patent, copyright,
trademark and other intellectual property rights to technologies that are
important to us. From time to time, we receive notices from, or are sued by,
third parties regarding patent claims. Any claims made against us regarding
patents or other intellectual property rights could be expensive and time
consuming to resolve or defend, would divert the attention of our management
and key personnel from our business operations and may require us to modify or
cease marketing our products, develop new technologies or products, acquire
licenses to proprietary rights that are the subject of the infringement claim
or refund to our customers all or a portion of the amounts paid for infringing
products. If such claims are asserted, there can be no assurances that the
dispute could be resolved without litigation or that we would prevail or be
able to acquire any necessary licenses on acceptable terms, if at all. In
addition, we may be requested to defend and indemnify certain of our customers
and resellers against claims that our products infringe the proprietary rights
of others. We may also be subject to potentially significant damages or
injunctions against the sale of certain products or use of certain
technologies. See Legal Proceedings in Part I, Item 3, of our Annual Report
on Form 10-K.

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Employees

At March 16, 2003, we had 875 employees, comprising 345 in sales,
marketing and support, 74 in manufacturing, 331 in research, development and
engineering and 125 in management, administration and finance. Virtually all of
our employees hold stock options in our stock option plans. None of our
employees are represented by a labor union, and we have not experienced any
work stoppages. We believe that our employee relations are excellent.

Risk Factors

The statements that are not historical facts contained in this Annual
Report on Form 10-K are forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995. These statements reflect the
current belief, expectations, estimates, forecast or intent of our management
and are subject to and involve certain risks and uncertainties. Many of these
risks and uncertainties are outside of our control and are difficult for us to
forecast or mitigate. In addition to the risks described elsewhere in this
Annual Report on Form 10-K and in certain of our other Securities and Exchange
Act Commission filings, the following risks and uncertainties, among others,
could cause our actual results to differ materially from those contemplated by
any forward-looking statement contained herein.

Because our quarterly operating results are difficult to predict and may
fluctuate, the market price for our stock may be volatile.

Our quarterly operating results are difficult to predict and may fluctuate
significantly. We have failed to achieve our revenue and net income
expectations for certain prior periods, and it is possible that we will fail to
achieve such expectations in the future. Fluctuations in our quarterly
operating results may contribute to the volatility in our stock price. A number
of factors, many of which are outside our control, can cause these fluctuations
in our quarterly operating results, including among others:



| |  |  | overall telecommunications spending;                                                                                                                                                                                     
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | changes in general consumer conditions and specific market
conditions in the telecommunications industry;                                                                                                                
|
| |  |  | fluctuations in demand for our products and the size, timing,
terms and conditions of orders and shipments;                                                                                                              
|
| |  |  | the lengthy sales cycle of our Network Systems products,
especially with respect to our international customers, and the
reduced visibility into our customers spending plans for those
products and associated revenue;
|
| |  |  | the progress and timing of the convergence of voice and data
networks and other convergence-related risks described below;                                                                                               
|
| |  |  | the ability of carriers to utilize excess capacity of
signaling infrastructure and related products in their networks;                                                                                                   
|
| |  |  | the capital spending patterns of our customers, including
deferrals or cancellations of purchases by customers;                                                                                                          
|
| |  |  | the trend toward industry consolidation among our customers;                                                                                                                                                             
|
| |  |  | our ability to achieve targeted cost reductions;                                                                                                                                                                         
|
| |  |  | our dependence on wireless carriers for a significant
percentage of our revenue streams;                                                                                                                                 
|
| |  |  | the success or failure of our strategic alliances and acquisitions;                                                                                                                                                      
|
| |  |  | unanticipated delays or problems in releasing new products or services;                                                                                                                                                  

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| |  |  | the mix of products and services that we sell;                                                                          
| | - |  | ------------------------------------------------------------------------------------------------------------------------
|
| |  |  | the geographic mix of our revenues and the associated impact on gross margins;                                          
|
| |  |  | the introduction and market acceptance of our and our
competitors new products, services and technologies;             
|
| |  |  | the timing of the deployment by our customers of new technologies and services;                                         
|
| |  |  | the ability of our customers to obtain financing or to fund capital expenditures;                                       
|
| |  |  | the timing and level of our research and development
expenditures and other expenses;                                   
|
| |  |  | the expansion of our marketing and support operations, both
domestically and internationally;                           
|
| |  |  | changes in accounting rules, such as a change requiring the
recording of expenses for employee stock option grants;     
|
| |  |  | changes in pricing policies and those of our competitors;                                                               
|
| |  |  | worldwide economic or political instability; and                                                                        
|
| |  |  | failure of certain customers to successfully and timely
reorganize their operations, including emerging from bankruptcy.

Our product sales in any quarter depend largely on orders booked and
shipped in that quarter. A significant portion of our product shipments in
each quarter occurs at or near the end of the quarter. Since individual orders
can represent a meaningful percentage of our revenues and net income in any
quarter, the deferral or cancellation of or failure to close a single order in
a quarter can result in a revenue and net income shortfall that causes us to
fail to meet securities analysts expectations for that period. We base our
current and future expense levels on our internal operating plans and sales
forecasts, and our operating costs are to a large extent fixed. As a result,
we may not be able to sufficiently reduce our costs in any quarter to
adequately compensate for an unexpected near-term shortfall in revenues, and
even a small shortfall could disproportionately and adversely affect our
operating results for that quarter.

The factors described above are difficult to forecast and could have a
material adverse effect on our business, operating results and financial
condition. There can be no assurances that we will not experience a shortfall
in revenues in the future, which would adversely affect our operating results.
The results in any one quarter should not be relied upon as an indication of
our future performance.

We are exposed to general economic and market conditions, and our business
has been adversely affected by the economic downturn.

Our business is subject to the effects of general economic conditions in
the United States and globally and, in particular, market conditions in the
telecommunications industry. In recent quarters, our operating results have
been adversely affected as a result of the prolonged economic downturn that
began in 2000 and which we expect will continue for at least the next several
quarters. Our business is particularly affected by the current market
conditions in the telecommunications industry and by significantly reduced
capital spending in the United States, Europe, Latin America and Asia Pacific.
Capital expenditure budgets of telecommunications carriers have been reduced
drastically worldwide and many infrastructure customers are burdened by
prohibitive debt levels because they borrowed heavily to build, expand or
upgrade systems for which there is currently weak demand. The rate at which the
telecommunications industry recovers will have a material impact on the
financial performance of our Network Systems business. If the economic
conditions in the United States and globally do not improve, or if there is a
worsening in the global economic slowdown and market conditions in the

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telecommunications industry in particular, we may continue to experience
material adverse impacts on our business, operating results and financial
condition.

We have limited product offerings, and our revenues may suffer if demand
for any of our products declines or fails to develop as we expect and if we are
not able to develop and market additional and enhanced product offerings.

We derive a substantial portion of our revenues from sales of our Network
Systems products. During each of 2000, 2001 and 2002, our Eagle and IP7
signaling products and related services generated over 50% of our revenues, and
we expect that these products and services and our other Network Systems
products will continue to account for a substantial majority of our revenues
for the foreseeable future. As a result, factors adversely affecting the
pricing of or demand for these products, such as competition, technological
change or a slower than anticipated rate of deployment of new products and
technologies, could cause a significant decrease in our revenues and
profitability. Continued and widespread market acceptance of these products is
therefore critical to our future success. Moreover, our future financial
performance will depend in significant part on the successful and timely
development, introduction and customer acceptance of new and enhanced versions
of our Eagle, IP7 and packet telephony products and other Network Systems
products. Introducing new and enhanced products such as these requires a
significant commitment to research and development that may not result in
success. There are no assurances that we will continue to be successful in
developing and marketing our Network Systems products and related services.

In addition, as a result of our August 2002 sale of the assets of our
Network Diagnostics Division, our product offerings are more limited than they
were prior to that time. In both 2000 and 2001, we derived approximately 20%
of our revenues from sales of our Network Diagnostics products.

If wireless carriers do not continue to grow and to buy our Network
Systems products and services, our Network Systems business would be harmed.

The success of our Network Systems business will depend in large part on
the continued growth of the wireless network operators and their purchases of
our products and services. We derive a substantial portion of our revenues from
the sale of our Network Systems products and services to wireless networks
operators. In 2002, sales to the wireless market accounted for more than 50% of
our Network Systems revenues. We expect that our sales of Network Systems
products and services to wireless companies will continue to account for a
substantial percentage of our revenues for the foreseeable future. The
continued growth of the domestic and international wireless markets is subject
to a number of risks that could adversely affect our revenues and
profitability, including:



| |  |  | continuing or worsening weakness in
the domestic or global economy;                                                                                  
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | a further slowdown in capital
spending by the wireless network operators;                                                                            
|
| |  |  | continuing and further adverse changes in the debt and equity
markets and in the ability of wireless carriers to obtain financing
on favorable terms;
|
| |  |  | delays or scaling back of plans for the deployment by
wireless network operators of new wireless broadband technologies;
and                         
|
| |  |  | slowing wireless network subscriber growth or minutes of use.                                                                                        

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Consequently, there can be no assurances that the wireless network
carriers will continue to purchase our Network Systems products and services
for the build out or expansion of their networks.



| |  | Risks related to the potential convergence of voice and data networks
| |  | ---------------------------------------------------------------------

The market for our products is evolving. Currently, voice conversations
are carried primarily over circuit switched networks. Another type of network,
packet switched networks, carries primarily data. Circuit and packet networks
use fundamentally different technologies. Although we expect a substantial
portion of any increases in our future sales of Network Systems products to
result from the interconnection, or convergence, of circuit and packet
networks, we cannot accurately predict when such convergence will occur or
whether it will fully occur. Therefore, this convergence presents several
significant and related risks to our business.



| |  | If the convergence of circuit and packet networks does not fully occur or
takes longer than anticipated, sales of our network infrastructure
products, and our profitability, could be adversely affected.
| |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  | Any factor which might prevent or slow the convergence of circuit and
packet networks could materially and adversely affect growth
opportunities for our business. Such factors include:                  



| |  |  | the failure to solve or difficulty in solving certain
technical obstacles to the transmission of voice conversations over
a packet network;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | delays in the formulation of standards for the transmission
of voice conversations over a packet network; and                              
|
| |  |  | the imposition on packet network operators of access fees,
which they currently do not pay.                                                

It may be difficult or impossible to solve certain technical obstacles to
the transmission of voice conversations over a packet network with the same
quality and reliability of a circuit network. For example, delays or gaps in
the timing of a message are typically not as critical to data transmissions as
they are to voice conversations. The nature of packet switching makes it
difficult to prevent such delays or gaps as well as to repair such defects in a
way that does not degrade the quality of a voice conversation. If this problem
is not solved, the convergence of circuit and packet networks may never fully
occur or may occur at a much slower rate than we anticipate. It may also be
difficult or time-consuming for the industry to agree to standards
incorporating any one solution to such technical issues if such a solution does
exist. Without uniform standards, substantial convergence of circuit and packet
networks may not occur.

We cannot accurately predict when these technical problems will be solved,
when uniform standards will be agreed upon or when market acceptance of such
solutions will occur. Convergence may, however, take much longer or, as noted
above, not fully occur at all. Moreover, uncertainty regarding the technology
or standards to be employed in converged networks may cause carriers to delay
their purchasing plans.

Finally, the imposition of access fees on packet networks might slow the
convergence of circuit and packet networks. Today, federal regulation requires
an operator of a long distance circuit network to pay an access fee to the
local phone company serving the recipient of a long distance call. Packet
network operators do not currently pay such access fees. In the future, access
fees may be imposed on carriers using packet networks to transmit voice calls.
These

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access fees might also be imposed on the termination of pure data messages by
operators of packet networks. The imposition of these access fees would reduce
the economic advantages of using packet networks for voice and other
transmissions, which may slow the convergence of circuit and packet networks.



| |  | Customers may prefer the complete switching solutions offered by our
competitors.
| |  | ---------------------------------------------------------------------------------

Our product strategy is to develop and provide only certain parts of a
network switch which would be used in converged circuit and packet networks.
This means that our IP7 Secure Gateway and VXi Media Gateway Controller will
need to be deployed with the products of other manufacturers in order to
constitute a complete switching solution for a converged network. Some of our
competitors, including Lucent, Nortel and Sonus Networks, manufacture complete
switching solutions for converged networks that would not require any of our
products. Some or all of our customers or potential customers may prefer to
purchase such a complete switching solution rather than purchasing our
convergence switching products. They may prefer a complete switching solution,
rather than our convergence switching products offered with the switch
components made by others. Customers may choose this option because they
believe that the complete solution provided by a single vendor is superior. If
a significant number of our potential customers prefer a solution made entirely
by one manufacturer, our strategy could fail.



| |  | Our dependence on strategic relationships with manufacturers of other
products makes it potentially vulnerable to the actions and performance
of other manufacturers.
| |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------

Because our IP7 Secure Gateway and VXi Media Gateway Controller will need
to be bundled with the products of other manufacturers in order to constitute a
switch in converged circuit and packet networks, we may be adversely affected
by the actions of the manufacturers of the other necessary switch elements.
First, these manufacturers may not choose to make their product designs
compatible with our products. Second, those manufacturers who do choose to make
their products compatible with our products may not develop or deliver their
products on a timely basis, or may not develop products which perform as
expected or are priced competitively. Third, manufacturers of these products
may also subsequently change the design of their products in a manner that
makes it difficult or impossible to make our products compatible. Fourth,
manufacturers of these products may decide to develop a fully integrated
network switch for converged networks and may cease selling non-integrated
switching products. Finally, because we intend to market a product that
incorporates network switching products made by others, any other manufacturer
who markets our products together with its products may terminate or cease to
fully support its efforts to sell our products. All of these actions will be
outside of our control. Any of these actions could materially and adversely
affect our business and profitability.

If our products do not satisfy customer demand for performance or price,
our customers could purchase products from our competitors.

The telecommunications equipment industry in which we operate is highly
competitive, and we expect that the level of competition on pricing and product
offerings to continue to be intense. If we are not able to compete successfully
against our current and future competitors, our current and potential customers
may choose to purchase similar products offered by our competitors, which would
negatively affect our revenues. We face formidable competition from a number of
companies offering a variety of network systems, monitoring or contact center
products. The markets for our products are subject to rapid technological
changes, evolving industry standards and regulatory developments. Our
competitors include many large domestic

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and international companies as well as many smaller established and emerging
technology companies. We compete principally on the basis of:



| |  |  | product performance and functionality;
| | - |  | --------------------------------------
|
| |  |  | product quality and reliability;      
|
| |  |  | customer service and support; and     
|
| |  |  | price.                                

Many of our competitors have substantially greater financial and
technological resources, product development, marketing, distribution and
support capabilities, name recognition, established relationships with
telecommunications service providers and other resources than we have. In
addition, new competitors may enter as a result of shifts in technology, and
these competitors may included entrants from the telecommunications, computer
software, computer services, data networking and semiconductor industries.

We anticipate that competition will continue to intensify with the
anticipated convergence of voice and data networks. We may not be able to
compete effectively against existing or future competitors or to maintain or
capture meaningful market share, and our business could be harmed, if our
competitors solutions provide higher performance, offer additional features
and functionality or are more reliable or less expensive than our products.
Increased competition could force us to lower our prices or take other actions
to differentiate our products, which could adversely affect our operating
results.

We depend on a limited number of customers for a substantial portion of
our revenues, and the loss of one or more of these customers could adversely
affect our operating results.

Historically, a limited number of customers has accounted for a
significant percentage of our Network Systems revenues in each fiscal quarter.
Less than 10% of our customers accounted for approximately 50% of our revenues
in each of 2001 and 2002. We anticipate that our operating results in any given
period will continue to depend to a significant extent upon revenues from a
small number of customers. Reductions, delays or cancellations of orders from
one or more of our significant customers or the loss of one or more of our
significant customers in any period could have a material adverse effect on our
operating results. In addition, the telecommunications industry has recently
experienced a consolidation of both U.S. and non-U.S. companies. We also
anticipate that the mix of our customers in each fiscal period will continue to
vary. In order to increase our revenues, we will need to attract additional
significant customers on an ongoing basis. Our failure to attract a sufficient
number of such customers during a particular period could adversely affect our
revenues, profitability and cash flow.

If we fail to develop or introduce new products in a timely fashion, our
business will suffer.

If we fail to develop or introduce on a timely basis new products or
product enhancements or features that achieve market acceptance, our business
will suffer. The markets for our Network Systems products are characterized by
rapidly changing technology, frequent new product introductions and
enhancements, short product life cycles, changes in customer requirements and
evolving industry standards. Our success will depend to a significant extent
upon our ability to accurately anticipate the evolution of new products,
technologies and market trends and to enhance our existing products. It will
also depend on our ability to timely develop and introduce innovative new
products and enhancements that gain market acceptance. Finally,

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sales of our Network Systems products depend in part on the continuing
development and deployment of emerging standards and our ability to offer new
products and services that comply with these standards. There can be no
assurances that we will be successful in forecasting future customer
requirements or in selecting, developing, manufacturing and marketing new
products or enhancing our existing products on a timely or cost-effective
basis. Moreover, we may encounter technical problems in connection with our
product development that could result in the delayed introduction of new
products or product enhancements. We may also focus on technologies that do not
function as expected or are not widely adopted. In addition, products or
technologies developed by others may render our products noncompetitive or
obsolete and result in a significant reduction in orders from our customers.

Our products are complex and may have errors that are not detected until
deployment, and litigation related to product liability claims could be
expensive and could negatively affect our profitability.

Products as highly complex as ours may contain undetected defects or
errors when first introduced or as new versions are released, and those defects
or errors may not be detected until deployment. Such defects or errors,
particularly those that result in a failure of telecommunications networks or
our signaling or switching products, could harm our customer relationships,
business and reputation, and there can be no assurances that our products will
not have defects or errors. A product liability claim brought against us could
result in costly, protracted, highly disruptive and time consuming litigation,
which would harm our business. In addition, we may be subject to claims
arising from our failure to properly service or maintain our products or to
adequately remedy defects in our products once such defects have been detected.
Although our agreements with our customers typically contain provisions
designed to limit our exposure to potential product liability claims, it is
possible that these limitations may not be effective under the laws of some
jurisdictions, particularly since we have significant international sales.
Although we maintain product liability insurance, it may not be sufficient to
cover all claims to which we may be subject. The successful assertion against
us of one or a series of large uninsured claims would harm our business.
Although we have not experienced any significant product liability claims to
date, our sale and support of products may entail the risk of these types of
claims and subject us to such claims in the future.

We are dependent on relationships with strategic partners and distributors
and other resellers.

We believe that our ability to compete successfully against other network
systems product manufacturers depends in part on distribution and marketing
relationships with leading communications equipment suppliers. If we cannot
successfully enter these types of relationships on favorable terms to us or
maintain these relationships, our business may suffer.

In addition, we expect to increasingly rely on the deployment of our
products with those of other manufacturers, systems integrators and other
resellers, both domestically and internationally. To the extent our products
are so incorporated, we depend on the timely and successful development of
those other products.

We may have difficulty in identifying and executing any acquisitions,
strategic alliances and joint ventures.

Our growth is dependent on market growth, our ability to enhance existing
products, our ability to introduce new products on a timely basis and market
acceptance of our existing and

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new products. Our growth strategy includes acquiring new products and
technologies through acquisitions, strategic alliances or joint ventures.
Transactions such as these are inherently risky because of the difficulties of
integrating people, operations, technologies and products that may arise. We
may incur significant acquisition, administrative and other costs in connection
with these transactions, including costs related to integration of acquired
businesses. There can be no assurance that any of the businesses we may acquire
can be successfully integrated, that they will perform well once integrated or
that they will not materially adversely affect our business, operating results
or financial condition. Acquisitions may also lead to potential write-downs due
to unforeseen business developments that may adversely affect our earnings.

Our compliance with telecommunications regulations and standards may be
time consuming, difficult and costly, and if we fail to comply, our product
sales would decrease.

In order to maintain market acceptance, our products must continue to meet
a significant number of regulations and standards. In the United States, our
products must comply with various regulations defined by the Federal
Communications Commission and Underwriters Laboratories as well as standards
established by Telcordia (formerly Bell Telecommunications Research).
Internationally, our products must comply with standards established by
telecommunications authorities in various countries as well as with
recommendations of the International Telecommunications Union. As these
standards evolve and if new standards are implemented, we will be required to
modify our products or develop and support new versions of our products, and
this will increase our costs. The failure of our products to comply, or delays
in compliance, with the various existing and evolving industry standards could
prevent or delay introduction of our products, which could harm our business.

In order to penetrate our target markets, it is important that we ensure
the interoperability of our products with the operations, administration,
maintenance and provisioning systems used by our customers. To ensure this
interoperability, we periodically submit our products to technical audits. Our
failure or delay in obtaining favorable technical audit results could adversely
affect our ability to sell products to some segments of the communications
market.

Government regulatory policies are likely to continue to have a major
impact on the pricing of existing as well as new public network services and,
therefore, are expected to affect demand for such services and the
communications products, including our products, which support such services.
Tariff rates, whether determined autonomously by carriers or in response to
regulatory directives, may affect cost effectiveness of deploying public
network services. Tariff policies are under continuous review and are subject
to change. User uncertainty regarding future policies may also affect demand
for communications products, including our products. In addition, the
convergence of circuit and packet networks could be subject to governmental
regulation. Regulatory initiatives in this area could adversely affect our
business.

We have significant international sales, and international markets have
inherent risks.

International sales are subject to inherent risks, including unexpected
changes in regulatory requirements and tariffs, difficulties in staffing and
managing foreign operations and distributors, longer payment cycles, greater
difficulty in accounts receivable collection, political or social unrest,
economic instability and potentially adverse tax consequences. Doing business
overseas is generally more costly than doing business in the United States. We
sell our products worldwide through our direct sales forces, distributors and
other resellers, wholly owned

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subsidiaries in the United Kingdom, Canada, France, Italy, Germany, Brazil and
Singapore and a representative office in China. International sales of our
products (other than network diagnostics products) accounted for 21% in 2000,
17% in 2001 and 18% in 2002. Our international sales are to a limited extent
denominated in local currencies while other international sales are U.S.
dollar-denominated. We expect that international sales will continue to account
for a significant portion of our revenues in future periods.

Our international sales and other activities subject us to the risks
inherent in doing business in foreign countries, including tariffs and duties,
price controls, restrictions on foreign currencies and trade barriers imposed
by foreign countries, exchange rate fluctuations and exchange controls,
difficulties in staffing and managing international operations, political and
social unrest, nationalization of business and tax consequences. For example,
exchange rate fluctuations on foreign currency transactions and translations
arising from international operations may contribute to fluctuations in our
business and operating results. Fluctuations in exchange rates could also
affect demand for our products. If, for any reason, exchange or price controls
or other restrictions in foreign countries are imposed, our business and
operating results could suffer. In addition, any inability to obtain local
regulatory approvals in foreign markets on a timely basis could harm our
business.

In particular, if we are not able to manage our continuing expansion into
Europe, Asia Pacific and Latin America, our business may suffer. In addition,
we are relatively unknown in Asia Pacific and Latin America, and we may have
difficulty establishing relationships; building name recognition or penetrating
these markets, which could adversely affect our performance in these markets.
Moreover, telecommunications networks outside of the United States generally
have a different structure, and our products may not be completely compatible
with this different structure. As a result, our products may not be
competitive with those of our competitors.

Access to foreign markets is often difficult due to the established
relationships between a government-owned or controlled communications operating
company and our traditional indigenous suppliers of communications equipment.
These foreign communications networks are in many cases owned or strictly
regulated by government. There can be no assurances that we will be able to
successfully penetrate these markets, particularly for our switching products.

Our loss of services of key personnel or failure to attract and retain
additional key personnel could adversely affect our business.

We depend to a significant extent upon the continuing services and
contributions of our senior management team and other key personnel,
particularly Fred Lax, our Chief Executive Officer and President, Lori Craven,
our Vice President and General Manager, Network Systems Division; and Debra
May, our Vice President and General Manager, Contact Center Division. We do
not have long-term employment agreements or other arrangements with our
employees which would prevent them from leaving Tekelec. Our future success
also depends upon our ongoing ability to attract and retain highly skilled
technical, sales and marketing personnel. Even with the continuing economic
downturn, competition for these employees remains intense. Our business could
suffer and it would be more difficult for us to meet our business plans and key
objectives, such as timely product introductions, if we were to lose any key
personnel and not be able to find appropriate replacements in a timely manner
or if we were unable to recruit and retain additional highly skilled personnel.

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There can be no assurances that our measures to protect our proprietary
technology and other intellectual property rights are adequate and if we fail
to protect those rights, our business would be harmed.

Our success depends to a significant degree on our proprietary technology
and other intellectual property. Although we regard our technology as
proprietary, we have sought only limited patent protection. We rely on a
combination of patents, copyrights, trademarks, trade secrets, confidentiality
agreements and contractual restrictions to establish and protect our
proprietary rights. These measures, however, afford only limited protection and
may not provide us with any competitive advantage or prevent third parties from
misappropriating our technology or other intellectual property. In addition,
the laws of certain foreign countries do not protect our proprietary rights to
the same extent as do the laws of the United States, which makes
misappropriation of our technology and other intellectual property more likely.
It is possible that others will independently develop similar products or
design around our patents and other proprietary rights. If we fail to
successfully enforce or defend our intellectual property rights or if we fail
to detect misappropriation of our proprietary rights, our ability to
effectively compete could be seriously impaired which would limit our future
revenues and harm our prospects.

Our pending patent and trademark registration applications may not be
allowed, and our competitors may challenge the validity or scope of our patent
or trademark registration applications. If we do not receive the patents or
trademark registrations we seek, or if other problems arise with our
intellectual property, our competitiveness could be significantly impaired and
the Companys business and prospects may suffer. In addition, we from time to
time face challenges to the validity or enforceability of our proprietary
rights and litigation may be necessary to enforce and protect our rights, to
determine the validity and scope of our proprietary rights and the rights of
others, or to defend against claims of infringement or invalidity. Any such
litigation would be expensive and time consuming, would divert the attention of
our management and key personnel from business operations and would likely harm
our business and operating results.

Because we are subject to third parties claims that we are infringing
their intellectual property and may become subject to additional such claims in
the future, we may be prevented from selling certain products and we may incur
significant expenses in resolving these claims.

We receive from time to time claims of infringement from third parties or
we otherwise become aware of relevant patents or other intellectual property
rights of third parties that may lead to disputes and litigation. Any claims
made against us regarding patents or other intellectual property rights could
be expensive and time consuming to resolve or defend and could have a material
adverse effect on our business. In addition, any such claims would divert the
attention of our management and key personnel from our business operations. A
successful claim by a third party may require us to modify or cease marketing
our products, develop new technologies or products, enter into costly royalty
or license agreements with respect to the proprietary rights that are the
subject of the infringement claim or refund to our customers all or a portion
of the amounts they have paid for infringing products. If such claims are
asserted, there can be no assurances that we would prevail or be able to
acquire any necessary licenses on acceptable terms, if at all. In addition, we
may be requested to defend and indemnify certain of our customers and resellers
against claims that our products infringe the proprietary rights of others. We
may also be subject to potentially significant damages or injunctions against
the sale of certain products or use of certain technologies, and there can be
no assurances that any such

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litigation can be avoided or successfully concluded. There can be no assurances
that our technologies or products do not infringe on the proprietary rights of
third parties or that such parties will not initiate infringement actions
against us.

We rely on third parties to provide many of our subsystems and components.
If we are unable to obtain our subsystems and components from these parties at
reasonable prices or on a timely basis, we may not be able to obtain substitute
subsystems or components on terms that are as favorable.

Certain of our products contain subsystems or components acquired from
third parties. These products are often available only from a limited number
of manufacturers. In the event that a product becomes unavailable from a
current third party vendor, second sourcing would be required. This sourcing
may not be available on reasonable terms, if at all, and could delay customer
deliveries, which could adversely affect our business.

We are exposed to the credit risk of some of our customers and to credit
exposures in weakened markets.

We are vulnerable to downturns in the economy and the telecommunications
industry and to adverse changes in our customers businesses. Due to the
current slowdown in the economy in general and the continuing weakness in the
telecommunications market in particular, the credit risks relating to our
customers have increased. Although we have programs in place to monitor and
mitigate the associated risks, there can be no assurance that such programs
will be effective in reducing our credit risks. We also continue to monitor
credit exposure from weakened financial conditions in certain geographic
regions, and the impact that such conditions may have on the worldwide economy.
We have experienced losses due to customers failing to meet their
obligations. Although these losses have not been significant, future losses, if
incurred, could harm our business and have a material adverse effect on our
operating results and financial condition.

Substantial future sales of our Common Stock or sales by our directors and
officers in the public market may depress our stock price.

Sales of a substantial number of shares of our Common Stock in the future
could cause our stock price to fall. All of our directors and executive
officers own or have options to acquire shares of our Common Stock and sales by
these individuals could be perceived negatively by investors and could cause
the market price of our Common Stock to drop.

Our shareholder rights plan may make it more difficult for a third party
to acquire us, despite the possible benefits to our shareholders.

Our shareholder rights plan may have the effect of delaying, deferring or
preventing a change in control of the Company despite possible benefits to our
shareholders, may discourage bids at a premium over the market price of our
Common Stock and may harm the market price of our Common Stock.

Our stock price may be volatile.

The market price for our Common Stock has experienced price volatility and
may continue to be volatile and subject to fluctuations in response to factors
including those set forth in this offering memorandum. The stock markets in
general, and The Nasdaq Stock Market and

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technology and telecommunications companies in particular, have experienced
extreme price and volume fluctuations that have often been unrelated or
disproportionate to companies operating performances. These broad market and
industry factors, as well as general economic and political conditions, may
materially adversely impact the market price of our Common Stock in the future,
regardless of our actual operating performance.




Item 2. PROPERTIES.

Our executive offices and principal manufacturing operations are located
in Calabasas, California in facilities consisting of approximately 77,000
square feet. We lease the facility under a lease expiring in November 2004,
subject to a five-year renewal option.

We also occupy a 155,000 square-foot facility in Morrisville, North
Carolina under a lease expiring in November 2009. This facility is used
primarily for engineering, product development, customer support and regional
sales activities for our network systems products. In July 2000, we agreed to
lease an additional 161,000 square-foot facility in Morrisville, North
Carolina. As a result of the NDD divestiture, this building is not currently
fully occupied. We are evaluating several alternatives with respect to this
building.

Our IEX subsidiary leases a facility consisting of approximately 95,000
square feet in Richardson, Texas under a lease expiring in February 2013. The
IEX facility is used for engineering, product development, customer support,
and general administrative and sales activities for certain of our network
systems products and our contact center products.

We also have nine regional sales offices occupying an aggregate of
approximately 9,000 square feet under leases expiring between 2003 and 2005 in
San Diego, California; Englewood, Colorado; Lombard, Illinois; Irving, Texas;
Sunset Hills, Virginia; Amsterdam, the Netherlands; Beijing, China; Sao Paulo,
Brazil; and Singapore.

Our subsidiary in the United Kingdom occupies approximately 185,000 square
feet in Egham under a lease expiring in March 2016.

We believe that our existing facilities will be adequate to meet our needs
at least through 2004, and that we will be able to obtain additional space
when, where and as needed on acceptable terms.




Item 3. LEGAL PROCEEDINGS.

Alcatel USA, Inc. and Alcatel USA Sourcing, L.P. vs Tekelec

In August 2000, Alcatel USA, Inc. and Alcatel USA Sourcing, L.P.
(collectively, Alcatel) filed a complaint against Tekelec in the United
States District Court for the Eastern District of Texas, Sherman Division. The
complaint alleges that Tekelec makes and sells products that infringe two
patents owned by Alcatel Sourcing. The patents at issue relate to a system and
method for application location register routing in a telecommunications
network. Alcatels allegations relate to three particular software applications
offered by Tekelec as a feature on its EAGLE STP for routing query messages in
wireless networks. Alcatel seeks a permanent injunction enjoining Tekelec from
infringing the patents at issue, unspecified general and exemplary damages, and
an award of costs.

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In September 2000, Tekelec filed an answer and counterclaim to Alcatels
complaint denying Alcatels claims of infringement and raising several
affirmative defenses. Tekelec has also asserted several counterclaims against
Alcatel seeking declaratory relief that Tekelec has not infringed the Alcatel
patents and that such patents are invalid and unenforceable. Tekelec believes
that it has strong defenses to Alcatels claims on the grounds of invalidity,
noninfringement and inequitable conduct by Alcatel, and is defending the action
vigorously.

A trial date was originally scheduled for June 2002. In April 2002,
Tekelec filed a motion for summary judgment for non-infringement and Alcatel
filed a motion for summary judgment for infringement. The Court referred both
motions to the Magistrate Judge for consideration. After a hearing on both
motions before the Magistrate Judge in May 2002, the Magistrate Judge issued a
report and recommendation of non-infringement in favor of Tekelec. The Court
subsequently entered an order rescinding the June 2002 trial setting and all
remaining deadlines, indicating that after the Court has ruled on the
Magistrate Judges report and recommendation, the Court will enter such orders
as are deemed appropriate for the final disposition of the case. The Court has
not yet ruled on the Magistrate Judges report and recommendation.

IEX Corporation vs. Blue Pumpkin Software, Inc.

In January 2001, IEX Corporation, a wholly owned subsidiary of Tekelec
(IEX), filed suit against Blue Pumpkin Software, Inc., in the United States
District Court for the Eastern District of Texas, Sherman Division. In its
complaint, IEX asserts that certain of Blue Pumpkins products and services
infringe United States Patent No. 6,044,355 held by IEX. In the suit, IEX
seeks damages and an injunction prohibiting Blue Pumpkins further infringement
of the patent. In February 2001, Blue Pumpkin responded to IEXs suit denying
that Blue Pumpkin infringes IEXs patent and asserting that such patent is
invalid. Discovery in the case closed in December 2002, although a few
depositions have yet to be completed. The parties are scheduled to file motions
for summary judgment by the end of March 2003, and the case is set for trial in
June 2003. Tekelec currently believes that the ultimate outcome of the lawsuit
will not have a material adverse effect on its financial position, results of
operations or cash flows.

Lemelson Medical, Education and Research Foundation, Limited Partnership vs.
Tekelec

In March 2002, the Lemelson Medical, Education & Research Foundation,
Limited Partnership (Lemelson) filed a complaint against thirty defendants,
including Tekelec, in the United States District Court for the District of
Arizona. The complaint alleges that all defendants make, offer for sale, sell,
import, or have imported products that infringe eighteen patents assigned to
Lemelson, and the complaint also alleges that the defendants use processes that
infringe the same patents. The patents at issue relate to computer image
analysis technology and automatic identification technology. Lemelson has not
identified the specific Tekelec products or processes that allegedly infringe
the patents at issue, and Tekelec is currently investigating which products
and/or processes might be subject to the lawsuit. Several other Arizona
lawsuits involving the same patents have been stayed pending a non-appealable
resolution of a lawsuit involving the same patents in the United States
District Court for the District of Nevada. Tekelec believes that the same stay
may apply to this lawsuit as well. Tekelec currently believes that the ultimate
outcome of the lawsuit will not have a material adverse effect on its financial
position, results of operations or cash flows.

In January 2002, Syndia Corporation (Syndia) sent a letter to Tekelec
accusing Tekelec of infringing two patents and offering to license these and
other patents to Tekelec. The patents

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at issue relate to integrated circuit technology. Syndia has not identified
the specific Tekelec products or processes that allegedly infringe the patents
at issue, and Tekelec is currently investigating which products and/or
processes might be subject to Syndias claims.

From time to time, various claims and litigation are asserted or commenced
against us arising from or related to contractual matters, intellectual
property matters, product warranties and personnel and employment disputes. As
to such claims and litigation, including those matters discussed above, we can
give no assurance that we will prevail. While we currently do not believe that
the ultimate outcome of these matters, individually or in the aggregate, will
have a material adverse effect on our business or consolidated financial
position, litigation is subject to inherent uncertainties. An unfavorable
outcome in any of these matters could have a material adverse effect on our
business or our consolidated financial position, results of operations or cash
flows in the quarter or annual period in which one or more of these matters are
resolved.




Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

Inapplicable

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PART II




Item 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

Our Common Stock is traded on The Nasdaq Stock Market under the symbol
TKLC. The following table sets forth the range of high and low closing sales
prices for the Common Stock for the periods indicated. As of March 17, 2003,
there were 251 record shareholders of Tekelec Common Stock. This number does
not include shareholders for whom shares are held in nominee or street
name.

|     |                |  |      |       |     |  |   |       | 
|---- | -------------- |  | ---- | ----- | --- |  | - | ----- | 
|     |                |  | High |       | Low
|     |                |  |      |       |    
|2001 |                |  |      |       |     |  |   |      
|     | First Quarter  |  | $    | 30.50 |     |  | $ | 16.88 | 
|     | Second Quarter |  |      | 35.56 |     |  |   | 16.13 | 
|     | Third Quarter  |  |      | 26.35 |     |  |   | 11.79 | 
|     | Fourth Quarter |  |      | 21.56 |     |  |   | 12.06 | 
|2002 |                |  |      |       |     |  |   |      
|     | First Quarter  |  | $    | 20.20 |     |  | $ | 11.18 | 
|     | Second Quarter |  |      | 12.10 |     |  |   | 8.03  | 
|     | Third Quarter  |  |      | 12.00 |     |  |   | 6.27  | 
|     | Fourth Quarter |  |      | 10.58 |     |  |   | 7.92  | 

We have never paid a cash dividend on our Common Stock. It is our present
policy to retain earnings to finance the growth and development of our business
and, therefore, we do not anticipate paying cash dividends on our Common Stock
in the foreseeable future.

On November 2, 1999, we issued $135,000,000 principal amount at maturity
of our 3.25% Convertible Subordinated Discount Notes due 2004 in a private
placement and without registration in reliance on Section 4(2) of the
Securities Act of 1933, as amended (the Securities Act). The issuance price
of the notes was 85.35% of the principal amount at maturity, and the total
gross proceeds to us were $115,227,900 before discounts and expenses. The notes
are convertible into our Common Stock at any time on or after January 31, 2000,
unless previously redeemed or otherwise repurchased by us. The conversion rate
of the notes is 56.3393 shares of Common Stock per $1,000 principal amount at
maturity, subject to adjustment in certain events. We sold the notes to
Deutsche Bank Securities Inc. and Warburg Dillon Read LLC as the initial
purchasers, and the initial purchasers have advised us that they resold the
notes only to Qualified Institutional Buyers (as defined in Rule 144A under
the Securities Act) in compliance with Rule 144A and, outside of the United
States, to investors that were not United States persons as defined in Rule
902 of Regulation S under the Securities Act. In February 2000, we registered
for resale the notes and the shares of Common Stock issuable upon conversion
thereof under the Securities Act of 1933. The notes became callable in
November, 2002. In February 2003, we deregistered for resale the notes and the
shares of Common Stock issuable upon conversion thereof.

The equity compensation plan information required to be provided in the
Annual Report on Form 10-K is incorporated by reference to the section of our
definitive Proxy Statement for the Annual Meeting of Shareholders to be held on
May 8, 2003, entitled Executive Compensation and Other Information  - Equity
Compensation Plan Information, to be filed with the Commission.

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Item 6. SELECTED FINANCIAL DATA.

The statement of operations data included in the selected consolidated
financial data set forth below for the years ended December 31, 2002, 2001 and
2000 and the balance sheet data set forth below at December 31, 2002 and 2001
are derived from, and are qualified in their entirety by reference to, our
audited consolidated financial statements and notes thereto included in this
Annual Report on Form 10-K. The statement of operations data set forth below
for the years ended December 31, 1999 and 1998 and the balance sheet data set
forth below at December 31, 2000, 1999 and 1998 are derived from our audited
consolidated financial statements, which are not included herein. The statement
of operations data set forth below are adjusted to reflect the sale of our
Network Diagnostics Division (NDD) in August 2002 which was accounted for as
a discontinued operation. Accordingly, the historical statement of operations
data for periods prior to the sale have been revised to reflect NDD as a
discontinued operation.

Five-Year Selected Financial Data

|                                                                           |         |      |                                    |        |   |      |         |        |   |      |         |        |  |   |         |        |   |   |         |        | 
|-------------------------------------------------------------------------- | ------- | ---- | ---------------------------------- | ------ | - | ---- | ------- | ------ | - | ---- | ------- | ------ |  | - | ------- | ------ | - | - | ------- | ------ | 
|For the Years Ended December 31,                                           |         | 2002 |                                    | 2001   |   | 2000 |         | 1999   |   | 1998
|                                                                           |         |      |                                    |        |   |      |         |        |   |     
|                                                                           |         |      | (thousands, except per share data)
|Statement of Operations Data:                                              |         |      |                                    |        |   |      |         |        |   |      |         |        |  |   |         |        |   |   |         |       
|Revenues                                                                   |         | $    | 260,341                            |        |   | $    | 249,369 |        |   | $    | 252,327 |        |  | $ | 169,875 |        |   | $ | 121,897 |       
|Income (Loss) from continuing operations
before provision for income taxes |         |      | 24,054                             |        |   |      | (488    | )      |   |      | 21,754  |        |  |   | 2,702   |        |   |   | 44,886  |       
|Income (Loss) from continuing operations                                   |         |      | 15,914                             |        |   |      | (6,610  | )      |   |      | 6,228   |        |  |   | (4,482  | )      |   |   | 32,277  |       
|Income (Loss) from discontinued operation,
net of income taxes             |         |      | (3,308                             | )      |   |      | (289    | )      |   |      | 6,668   |        |  |   | 4,926   |        |   |   | 6,932   |       
|Gain on sale of discontinued operation, net
of income taxes                |         |      | 28,312                             |        |   |      |        |        |   |      |        |        |  |   |        |        |   |   |        |       
|Net income (loss)                                                          |         |      | 40,918                             |        |   |      | (6,899  | )      |   |      | 12,896  |        |  |   | 444     |        |   |   | 39,209  |       
|Earnings (Loss) per share from continuing
operations:                      |         |      |                                    |        |   |      |         |        |   |      |         |        |  |   |         |        |   |   |         |       
|                                                                           | Basic   |      | $                                  | 0.26   |   |      | $       | (0.11  | ) |      | $       | 0.11   |  |   | $       | (0.08  | ) |   | $       | 0.60   | 
|                                                                           | Diluted |      |                                    | 0.26   |   |      |         | (0.11  | ) |      |         | 0.10   |  |   |         | (0.08  | ) |   |         | 0.55   | 
|Earnings (Loss) per share from discontinued
operation:                     |         |      |                                    |        |   |      |         |        |   |      |         |        |  |   |         |        |   |   |         |       
|                                                                           | Basic   |      | $                                  | (0.05  | ) |      | $       | (0.01  | ) |      | $       | 0.11   |  |   | $       | 0.09   |   |   | $       | 0.13   | 
|                                                                           | Diluted |      |                                    | (0.05  | ) |      |         | (0.01  | ) |      |         | 0.10   |  |   |         | 0.09   |   |   |         | 0.12   | 
|Earnings per share from gain on sale of
discontinued operation:            |         |      |                                    |        |   |      |         |        |   |      |         |        |  |   |         |        |   |   |         |       
|                                                                           | Basic   |      | $                                  | 0.47   |   |      | $       |       |   |      | $       |       |  |   | $       |       |   |   | $       |       | 
|                                                                           | Diluted |      |                                    | 0.46   |   |      |         |       |   |      |         |       |  |   |         |       |   |   |         |       | 
|Earnings (Loss) per share:                                                 |         |      |                                    |        |   |      |         |        |   |      |         |        |  |   |         |        |   |   |         |       
|                                                                           | Basic   |      | $                                  | 0.68   |   |      | $       | (0.12  | ) |      | $       | 0.22   |  |   | $       | 0.01   |   |   | $       | 0.73   | 
|                                                                           | Diluted |      |                                    | 0.67   |   |      |         | (0.12  | ) |      |         | 0.20   |  |   |         | 0.01   |   |   |         | 0.67   | 
|Weighted average number of shares
outstanding:                             |         |      |                                    |        |   |      |         |        |   |      |         |        |  |   |         |        |   |   |         |       
|                                                                           | Basic   |      |                                    | 60,358 |   |      |         | 59,574 |   |      |         | 57,823 |  |   |         | 54,931 |   |   |         | 53,518 | 
|                                                                           | Diluted |      |                                    | 61,386 |   |      |         | 59,574 |   |      |         | 64,123 |  |   |         | 58,690 |   |   |         | 58,708 | 
|Balance Sheet Data (at December 31):                                       |         |      |                                    |        |   |      |         |        |   |      |         |        |  |   |         |        |   |   |         |       
|Cash and liquid investments                                                |         | $    | 309,830                            |        |   | $    | 225,956 |        |   | $    | 151,308 |        |  | $ | 92,977  |        |   | $ | 101,853 |       
|Working capital                                                            |         |      | 187,912                            |        |   |      | 185,168 |        |   |      | 218,935 |        |  |   | 127,702 |        |   |   | 108,762 |       
|Total assets                                                               |         |      | 525,683                            |        |   |      | 484,404 |        |   |      | 458,524 |        |  |   | 394,434 |        |   |   | 210,210 |       
|Long-term liabilities                                                      |         |      | 145,098                            |        |   |      | 137,929 |        |   |      | 136,050 |        |  |   | 137,552 |        |   |   | 2,252   |       
|Shareholders equity                                                       |         |      | 302,007                            |        |   |      | 248,822 |        |   |      | 237,597 |        |  |   | 176,595 |        |   |   | 165,777 |       

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Item 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion should be read in conjunction with, and is
qualified in its entirety by, the consolidated financial statements and the
notes thereto included in this Annual Report on Form 10-K. Historical results
and percentage relationships among any amounts in the financial statements are
not necessarily indicative of trends in operating results for any future
periods.

OVERVIEW

On August 30, 2002, we completed the sale of our Network Diagnostics
Division (NDD) to Catapult Communications Corporation (Catapult) for $59.8
million, consisting of $42.5 million in cash and convertible subordinated
promissory notes issued by Catapults wholly owned Irish subsidiary and
guaranteed by Catapult in the total amount of $17.3 million, subject to certain
adjustments. The sale of NDD resulted in a pre-tax gain of approximately $41.7
million ($28.3 million after income taxes) and was accounted for as a
discontinued operation in accordance with SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. Accordingly our historical
financial results have been revised to reflect NDD as a discontinued operation.

Our product offerings are currently organized into two distinct product
lines: network systems and contact center.

Network Systems. Our network systems product line consists principally of
the Eagle 5 SAS and products, features and applications based on the Eagle
platform, including TekWare and TekServer, the IP7 Secure Gateway and our local
number portability solution, Sentinel, ASi 4000 Service Control Point, VXi
Media Gateway Controller and other convergence products.

Contact Center. Our IEX contact center products provide planning,
management and call routing and control tools for single contact centers and
for complex, multiple site contact center environments. This product line
includes the TotalView Workforce Management and TotalNet Call Routing
solutions.

Critical Accounting Policies and Estimates

Managements Discussion and Analysis of 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
making estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosure of contingent assets
and liabilities. On an on-going basis, estimates are evaluated, including those
related to revenue recognition, allowance for doubtful accounts, inventories,
investments, deferred taxes, notes receivable, impairment of longlived assets,
product warranty, and contingencies and litigation. These estimates are based
on historical experience and on various other assumptions that are believed to
be reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results may differ from these
estimates.

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We apply the following critical accounting policies in the preparation of
our consolidated financial statements:



| |  |  | Revenue Recognition Policy. Revenues are derived from sales of network
systems products and contact center products. Revenues are recognized
upon the transfer of title, generally at the time of shipment to the
customers final site and satisfaction of related Company obligations, if
any, provided that persuasive evidence of an arrangement exists, the fee
is fixed and determinable and collectability is deemed probable. For
certain products, our sales arrangements include acceptance provisions
which are based on our published specifications and are accounted for as
warranty, provided that we have previously demonstrated that the product
meets the specified criteria and has established a history with
substantially similar transactions. Revenue is deferred for sales
arrangements that include customer-specific acceptance provisions where
we are unable to reliably demonstrate that the delivered product meets
all of the specified criteria until customer acceptance is obtained.
Revenues associated with multiple-element arrangements are allocated to
each element based on vendor specific objective evidence of fair value.
Revenues associated with installation services, if provided, are deferred
based on the fair value of such services and are recognized upon
completion. Revenue is recognized for maintenance agreements ratably over
the contract term. Significant management judgments and estimates must be
made and used in connection with the revenue recognized in any accounting
period. Material differences may result in the amount and timing of our
revenue for any period if management made different judgments or utilized
different estimates.
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Allowance for Doubtful Accounts. An allowance for doubtful accounts is
maintained for estimated losses resulting from the inability of our
customers to make required payments. If the financial condition of our
customers were to deteriorate, resulting in an impairment of their
ability to make payments, additional allowances may be required.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|
| |  |  | Inventories. Inventory levels are based on projections of future demand
and market conditions. Any sudden decline in demand and/or rapid product
improvements and technological changes can result in excess and/or
obsolete inventories. On an ongoing basis inventories are reviewed and
written down for estimated obsolescence or unmarketable inventories equal
to the difference between the costs of inventories and the estimated net
realizable value based upon forecasts for future demand and market
conditions. If actual market conditions are less favorable than our
forecasts, additional inventory reserves may be required. Estimates could
be influenced by sudden decline in demand due to economic downturn, rapid
product improvements and technological changes.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|
| |  |  | Investments. An impairment charge is recorded when an asset has
experienced a decline in value that is other than temporary. Future
adverse changes in market conditions or poor operating results of
underlying investments could result in losses or an inability to recover
the carrying value of the investments that may not be reflected in an
investments current carrying value, thereby possibly requiring an
impairment charge in the future.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|
| |  |  | Deferred Taxes. A valuation allowance is recorded to reduce deferred
tax assets to the amount that is more likely than not to be realized. We
have evaluated our deferred tax assets and liabilities and we have
determined that no valuation allowance is necessary. Should it be
determined that we would not be able to realize all or part of the net
deferred tax asset in the future, an adjustment to the deferred tax asset
would reduce income in the period such determination was made.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      

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| |  |  | Notes Receivable. The Notes are reflected in the balance sheet at
their estimated fair value determined by a third party appraisal which
computed the fair value by discounting the face value amount to present
value using a fair value rate of interest and then determining the fair
value of the conversion option using the Black-Scholes valuation model.
The fair value of the notes is being adjusted for the amortization to the
redemption amount at maturity. See Note B  Disposition of Network
Diagnostics Business.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Goodwill, Intangible Assets and Other Long-Lived Assets. Effective
January 1, 2002, we adopted the provisions of Statement of Financial
Accounting Standards (SFAS) No. 142, Goodwill
and Other Intangible Assets. SFAS No. 142 eliminated the amortization of goodwill. Instead,
goodwill is reviewed for impairment upon adoption and at least annually
thereafter. In connection with the initial impairment tests, we obtained
valuations of our individual reporting units from an independent
third-party valuation firm. The valuation methodologies included, but
were not limited to, estimated net present value of the projected cash
flows of these reporting units. As a result of these initial impairment
tests, we determined that there was no goodwill impairment. If actual
results are substantially lower than our projections underlying these
valuations, or if market discount rates increase, this could adversely
affect our future valuations and result in additional future impairment
charges.
|
| |   |  | We assess potential impairment of our goodwill, intangible assets and other
long-lived assets when there is evidence that recent events or changes in
circumstances have made recovery of an assets carrying value
unlikely and at least annually for goodwill.
The amount of an impairment loss would be recognized as the excess of the
assets carrying value over its fair value. Factors we consider important,
which may cause an impairment include: significant changes in the manner of
use of the acquired asset, negative industry or economic trends, and
significant underperformance relative to historical or projected future
operating results.                                                                                                                                                                                                                                                                                                                                                               
|
| |  |  | Product Warranty. Our warranty obligation is affected by product
failure rates, material usage and service delivery costs incurred in
correcting product failures. Should actual product failure rates,
material usage or service delivery costs differ from our estimates,
revisions to the estimated warranty liability would be required. We
generally warrant our products against defects in materials and
workmanship for one year after sale and provide for estimated future
warranty costs at the time revenue is recognized.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|
| |  |  | Commitments and Contingencies.We evaluate contingent liabilities
including threatened or pending litigation in accordance with SFAS No. 5,
Accounting for Contingencies and record accruals when the outcome of
these matters is deemed probable and the liability is reasonably
estimable. We make these assessments based on the facts and circumstances
and in some instances based in part on the advice of outside legal
counsel.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        

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RESULTS OF OPERATIONS

The following table sets forth, for the periods indicated, the percentages
that statement of operations items bear to total revenues:

|                                                                           |                   |                                                |       |                                  |      |      |       |      |      |   |       |     |      |  
|-------------------------------------------------------------------------- | ----------------- | ---------------------------------------------- | ----- | -------------------------------- | ---- | ---- | ----- | ---- | ---- | - | ----- | --- | ---- | -
|                                                                           |                   |                                                |       | Percentage of Revenues          
|                                                                           |                   |                                                |       | For the Years Ended December 31,
|                                                                           |                   |                                                |       |                                 
|                                                                           |                   |                                                |       | 2002                             |      | 2001 |       | 2000
|                                                                           |                   |                                                |       |                                  |      |      |       |     
|Revenues                                                                   |                   |                                                | 100.0 | %                                |      |      | 100.0 | %    |      |   | 100.0 | %  
|                                                                           |                   | Cost of goods sold                             |       |                                  | 25.6 |      |       |      | 30.7 |   |       |     | 32.9 |  
|                                                                           |                   | Amortization of purchased technology           |       |                                  | 3.9  |      |       |      | 4.1  |   |       |     | 4.0  |  
|                                                                           |                   |                                                |       |                                  |      |      |       |      |      |   |       |    
|Gross Profit                                                               |                   |                                                | 70.5  |                                  |      |      | 65.2  |      |      |   | 63.1  |    
|                                                                           |                   | Research and development                       |       |                                  | 22.9 |      |       |      | 21.9 |   |       |     | 16.7 |  
|                                                                           |                   | Selling, general and administrative            |       |                                  | 36.9 |      |       |      | 34.7 |   |       |     | 28.6 |  
|                                                                           |                   | Amortization of goodwill and other intangibles |       |                                  | 0.6  |      |       |      | 8.7  |   |       |     | 8.7  |  
|                                                                           |                   |                                                |       |                                  |      |      |       |      |      |   |       |    
|Income (Loss) from operations                                              |                   |                                                | 10.1  |                                  |      |      | (0.1  | )    |      |   | 9.1   |    
|                                                                           |                   | Interest and other expense, net                |       |                                  | (0.9 | )    |       |      | (0.1 | ) |       |     | (0.4 | )
|                                                                           |                   |                                                |       |                                  |      |      |       |      |      |   |       |    
|Income (Loss) from continuing operations before
provision for income taxes |                   |                                                | 9.2   |                                  |      |      | (0.2  | )    |      |   | 8.7   |    
|                                                                           |                   | Provision for income taxes                     |       |                                  | 3.1  |      |       |      | 2.5  |   |       |     | 6.2  |  
|                                                                           |                   |                                                |       |                                  |      |      |       |      |      |   |       |    
|Income (Loss) from continuing operations                                   |                   |                                                | 6.1   |                                  |      |      | (2.7  | )    |      |   | 2.5   |    
|Income (Loss) from discontinued operation, net of
income taxes             |                   |                                                | (1.3  | )                                |      |      | (0.1  | )    |      |   | 2.6   |    
|Gain on sale from discontinued operation, net of
income taxes              |                   |                                                | 10.9  |                                  |      |      |      |      |      |   |      |    
|                                                                           |                   |                                                |       |                                  |      |      |       |      |      |   |       |    
|                                                                           | Net income (loss) |                                                |       | 15.7                             | %    |      |       | (2.8 | )%   |   |       | 5.1 | %   
|                                                                           |                   |                                                |       |                                  |      |      |       |      |      |   |       |    

The following table sets forth, for the periods indicated, the revenues by
principal product line as a percentage of total revenues:

|                |       |  |                                  |     |      |  |      |     |   |  |    |     |  
|--------------- | ----- |  | -------------------------------- | --- | ---- |  | ---- | --- | - |  | -- | --- | -
|                |       |  | Percentage of Revenues          
|                |       |  | For the Years Ended December 31,
|                |       |  |                                 
|                |       |  | 2002                             |     | 2001 |  | 2000
|                |       |  |                                  |     |      |  |     
|Network Systems |       |  | 85                               | %   |      |  | 85   | %   |   |  | 87 | %  
|Contact Center  |       |  | 15                               |     |      |  | 15   |     |   |  | 13 |    
|                |       |  |                                  |     |      |  |      |     |   |  |   
|                | Total |  |                                  | 100 | %    |  |      | 100 | % |  |    | 100 | %
|                |       |  |                                  |     |      |  |      |     |   |  |    |    

The following table sets forth, for the periods indicated, the revenues by
geographic territory as a percentage of total revenues:

|              |       |  |                                  |     |      |  |      |     |   |  |    |     |  
|------------- | ----- |  | -------------------------------- | --- | ---- |  | ---- | --- | - |  | -- | --- | -
|              |       |  | Percentage of Revenues          
|              |       |  | For the Years Ended December 31,
|              |       |  |                                 
|              |       |  | 2002                             |     | 2001 |  | 2000
|              |       |  |                                  |     |      |  |     
|North America |       |  | 82                               | %   |      |  | 83   | %   |   |  | 79 | %  
|Europe        |       |  | 10                               |     |      |  | 4    |     |   |  | 10 |    
|Rest of World |       |  | 8                                |     |      |  | 13   |     |   |  | 11 |    
|              |       |  |                                  |     |      |  |      |     |   |  |   
|              | Total |  |                                  | 100 | %    |  |      | 100 | % |  |    | 100 | %
|              |       |  |                                  |     |      |  |      |     |   |  |    |    

2002 Compared with 2001

Revenues.Our revenues increased by $11 million, or 4%, during 2002 due
primarily to higher sales of network systems products and services.

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Revenues from network systems products increased by $10.4 million, or 5%,
due primarily to higher sales of Eagle STP products and secondarily to higher
sales of Sentinel products.

Revenues from contact center products increased by $618,000, or 2%,
primarily as a result of increased sales of the TotalView product.

Revenues in North America increased by $6.9 million, or 3%, due primarily
to increased sales of Sentinel and Eagle services. Revenues in Europe increased
by $16.3 million, or 164%, due primarily to stronger sales of Eagle STP
products. Rest of world revenues decreased by $12.2 million or 39% due
primarily to lower sales of Eagle STP products.

We believe that our future revenue growth depends in large part upon a
number of factors, including the continued market acceptance, both domestically
and internationally, of our products, particularly the Eagle products and
related applications as well as our suite of products for converged circuit and
packet networks, including the IP7 Secure Gateway and VXi Media Gateway
Controller network systems products.

Gross Profit. Gross profit as a percentage of revenues increased to 70.5%
in 2002 compared with 65.2% in 2001. The increase in gross margins was due
primarily to a higher proportion of sales of Eagle STP upgrades and extensions
and service agreements, which typically carry higher margins. Changes in the
following factors, among others, may affect gross profit: product and
distribution channel mix; competition; customer discounts; supply and demand
conditions in the electronic components industry; internal manufacturing
capabilities and efficiencies; foreign currency fluctuations; and general
economic conditions.

Research and Development. Research and development expenses increased
overall by $5.3 million, or 9.7%, and increased slightly as a percentage of
revenues to 22.9% in 2002 from 21.9% in 2001. The dollar increase was due
primarily to an increase in variable compensation expense.

We intend to continue to make substantial investments in product and
technology development and we believe that our future success depends in a
large part upon our ability to continue to enhance existing products and to
develop or acquire new products that maintain our technological
competitiveness.

Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased by $9.4 million, or 11%, and increased as a
percentage of revenues to 36.9% in 2002 from 34.7% in 2001. The dollar increase
was due primarily to an increase in compensation costs, including a $5.9
million charge for the accrual of retirement benefits for our former Chief
Executive Officer who retired in February 2003, comprised of a $5.3 million
non- cash stock-based compensation charge for the modification of certain stock
option awards to allow for the extension of the exercise period upon qualified
retirement from 90 days to the remaining contracted term of the options, a
$300,000 one-time cash severance payment and $304,000 for post-retirement
health benefits.

Amortization of Goodwill and Other Intangible Assets. Amortization of
goodwill and intangible assets in 2002 decreased by $20.0 million to $1.6
million. This decrease was due to the adoption of SFAS No. 142 on January 1, 2002,
which no longer permits the amortization of acquisition-related goodwill.

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Interest and Other Income (Expense), net. Interest expense increased by
$246,000, or 2.7%, in 2002 compared to 2001. Interest income decreased $2.2
million, or 24.7%, due to lower interest rates in 2002 compared to 2001.

Provision for Income Taxes. Provisions for income taxes for 2002 and 2001
were $8.1 million and $6.1 million, respectively, and reflected the effect of
non-deductible acquisition-related costs and amortization, partially offset by
a benefit of $4.2 million and $4.6 million, respectively, from the utilization
of deferred tax liabilities related to certain of these acquisition-related
costs. Excluding the effect of acquisition-related items, our effective tax
rate was 35% in 2002 and 2001 and represented federal, state and foreign taxes
on our income, reduced primarily by research and development credits, foreign
tax credits and other benefits from foreign sourced income. We expect that our
effective tax rate, excluding the effect of acquisition-related items, will
remain relatively consistent with and within the range of the effective tax
rates in prior years. Changes in the tax rate can be affected by changes in the
mix of international sales and changes in the amount of the research and
development credits.

Loss from Discontinued Operation. Loss from our discontinued operation
increased to $3.3 million for 2002 compared to a loss from discontinued
operation of $289,000 for 2001. The increased loss was a result of reduced
sales and operating results for our Network Diagnostics Division sold in August
of 2002.

Gain on Disposal of Discontinued Operation. Gain on disposal of our
discontinued operation represents the gain recognized, net of income taxes, on
the sale of the Network Diagnostics Division sold in August 2002 as discussed
above in the Overview section. This gain is subject to future adjustment
depending on the final resolution of certain contingencies under the asset
purchase agreement.

2001 Compared with 2000

Revenues. Our revenues decreased by $3.0 million, or 1%, during 2001 due
primarily to lower sales of network systems products and services partially
offset by higher sales of contact center products.

Revenues from network systems products decreased by $8.8 million, or 4%,
due primarily to lower sales of our IP7 and Sentinel products partially offset
by higher sales of Eagle STP and local number portability products.

Revenues from contact center products increased by $5.9 million, or 18%,
due primarily to increased sales of the TotalView product and secondarily to
higher sales of TotalNet product.

Revenues in North America increased by $8.3 million, or 4%, due primarily
to higher sales of Eagle STP products. Revenues in Europe decreased by $14.6
million, or 59%, due to lower sales of our IP7 product. Rest of world revenues
increased by $3.3 million, or 12%, due to higher contact center sales.

Gross Profit. Gross profit as a percentage of revenues increased to 65.2%
in 2001 compared with 63.1% in 2000. The increase in gross margin was primarily
due to our recording a non-recurring charge of $2.9 million to write-down
inventory related to the IEX network switch

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product line in 2000. Excluding the write-down of inventory in 2000, gross
profit as a percentage of sales increased slightly to 65.2% in 2001 compared to
64.2% in 2000.

Research and Development. Research and development expenses increased
overall by $12.3 million, or 29%, and increased as a percentage of revenues to
21.9% in 2001 from 16.7% in 2000. The increase was attributable principally to
increased expenses incurred in connection with the hiring of additional
personnel for product development and enhancements for network systems,
primarily related to the development of products to address the Internet
Protocol (IP)/Signaling System #7 (SS7) and media gateway controller, or
softswitch markets.

Selling, General and Administrative. Selling, general and administrative
expenses increased by $14.4 million, or 20%, and increased as a percentage of
revenues to 34.7% in 2001 from 28.6% in 2000. The dollar increase was primarily
due to increased personnel and infrastructure-related expenses incurred to
support our installed base and an increase in the allowance for doubtful
accounts. Charges to the allowance for doubtful accounts amounted to $4.4
million in 2001 compared to $2.2 million in 2000. Selling, general and
administrative expenses also included a charge of $750,000 in connection with
the settlement of a legal dispute in 2000.

Amortization of Goodwill and Other Intangibles. Amortization of goodwill
and other intangible assets decreased by $256,000, and remained the same as a
percentage of revenue at 8.7%.

Interest and Other Income (Expense), net. Interest expense was $9.0
million in 2001, compared to $8.7 million in 2000. Interest income increased by
$828,000 in 2001, or 10%, due to higher invested cash balances in 2001 compared
to 2000, partially offset by lower interest rates.

Income Taxes. The income tax provision for 2001 was $6.1 million and
reflected the effect of non-deductible acquisition-related costs, partially
offset by a benefit of $4.6 million from the utilization of deferred tax
liabilities related to certain of these acquisition-related costs. Excluding
the effect of these acquisition-related items, our effective tax rate was 35%
and represented federal, state and foreign taxes on our income, reduced
primarily by research and development and foreign tax credits, compared to an
effective tax rate of 35% for 2000.

Income (Loss) from Discontinued Operation. Loss from discontinued
operation was $289,000 for the year ended December 31, 2001, compared to income
of $6.7 million for the corresponding period in 2000. The reduction in net
income was a result of reduced sales and operating results for the Network
Diagnostics Division sold in August 2002.

Liquidity and Capital Resources

During 2002, cash and cash equivalents increased by $80.1 to $167.3
million, including net proceeds of $37.9 million from the sale of NDD.
Operating activities, net of the effects of exchange rate changes on cash,
provided $46.5 million. Financing activities, which represented proceeds from
the issuance of common stock upon the exercise of options provided $3.9
million. Investing activities provided $27.7 million and was comprised
primarily of the proceeds from the sale of NDD, partially offset by $3.7
million of net purchases of short-term and long-term investments and $5.5
million for capital expenditures.

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Cash flows from operating activities were comprised mainly of net income
adjusted for the gain on the sale of our Network Diagnostics Division,
depreciation and amortization, and a decrease in deferred revenue. Deferred
revenue decreased by 30% during 2002 due primarily to an increase in revenue
recognized for transactions that completed acceptance or delivery requirements.

Net capital expenditures of $5.5 million during 2002 represented the
planned addition of equipment principally for research and development and
manufacturing operations.

We have a $20.0 million line of credit with a U.S. bank. Our $20.0 million
credit facility is collateralized by substantially all of our assets, bears
interest at or, in some cases, below the lenders prime rate (4.25% at December
31, 2002), and expires on August 31, 2004, if not renewed. Under the terms of
this facility, we are required to maintain certain financial ratios and meet
certain net worth and indebtedness covenants. We believe we are in compliance
with these requirements. There have been no borrowings under this credit
facility.

In November 1999, we completed the private placement of $135.0 million
principal amount at maturity of 3.25% convertible subordinated discount notes
due in 2004, issued at 85.35% of their face amount (equivalent to gross
proceeds of approximately $115.2 million at issuance before discounts and
expenses). These notes became callable in November, 2002.

We believe that existing working capital, funds generated through
operations, and its current bank credit facility will be sufficient to satisfy
operating requirements for at least the next twelve months. Nonetheless, we may
seek additional sources of capital as necessary or appropriate to fund
acquisitions or to otherwise finance our growth or operations; however, there
can be no assurance that such funds, if needed, will be available on favorable
terms, if at all.

Future payments due under debt and lease obligations as of December 31, 2002
(in thousands):

|                    |  |              |         |            |  |       |        |  |  |   |         | 
|------------------- |  | ------------ | ------- | ---------- |  | ----- | ------ |  |  | - | ------- | 
|                    |  | 3.25%        |         |            |  |       |        |  |  |  
|                    |  | Convertible  |         | Non        |  |       |        | 
|                    |  | Subordinated |         | Cancelable |  |       |        | 
|                    |  | Notes due    |         | Operating  |  |       |        | 
|                    |  | 2004 (1)     |         | Leases     |  | Total
|                    |  |              |         |            |  |      
|2003                |  | $            |        |            |  | $     | 7,620  |  |  | $ | 7,620   | 
|2004                |  |              | 135,000 |            |  |       | 7,190  |  |  |   | 142,190 | 
|2005                |  |              |        |            |  |       | 6,051  |  |  |   | 6,051   | 
|2006                |  |              |        |            |  |       | 6,173  |  |  |   | 6,173   | 
|2007                |  |              |        |            |  |       | 6,325  |  |  |   | 6,325   | 
|2008 and thereafter |  |              |        |            |  |       | 22,932 |  |  |   | 22,932  | 
|                    |  |              |         |            |  |       |        |  |  |   |         | 
|                    |  | $            | 135,000 |            |  | $     | 56,291 |  |  | $ | 191,291 | 
|                    |  |              |         |            |  |       |        |  |  |   |         | 



|(1) |  | We will make interest payments of $4.4 million in both 2003 and
2004.
|--- |  | ---------------------------------------------------------------------

Financial Risk

Our international sales are predominantly denominated in U.S. dollars, and
therefore exposure to foreign currency exchange fluctuations on international
sales is limited. In certain instances where we have entered into contracts
that are denominated in foreign currencies, we have obtained foreign currency
forward and option contracts, principally denominated in Euros

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or British Pounds, to offset the impact of currency rates on accounts receivable. We had
no forward or option contracts outstanding as of December 31, 2002 and December
31, 2001. We do not enter into derivative instrument transactions for trading
or speculative purposes. We do not hedge foreign currencies in a manner that
would entirely eliminate the effects of the changes in foreign currency rates
on our consolidated net income.

Fixed income securities are subject to interest rate risk. The fair value
of our investment portfolio would not be significantly impacted by either a 100
basis point increase or decrease in interest rates due mainly to the short-term
nature of the major portion of our investment portfolio. The portfolio is
diversified and consists primarily of investment grade securities to minimize
credit risk.

There have been no borrowings under our variable rate credit facilities.
All of our outstanding long-term debt is fixed rate and not subject to interest
rate fluctuation.

With respect to trade receivables, we design, manufacture, market and
support network systems products and selected service applications for
telecommunications networks and contact centers. Our customers include
telecommunications carriers, network providers, and contact center operators.
Credit is extended based on an evaluation of each customers financial
condition, and generally collateral is not required. Generally, payment terms
stipulate payment within 90 days of shipment and currently, we doe not engage
in leasing or other customer financing arrangements. Many of our international
sales are secured with import insurance or letters of credit to mitigate credit
risk. Although we have processes in place to monitor and mitigate credit risk,
there can be no assurance that such programs will be effective in eliminating
such risk. Historically, credit losses have been within managements
expectations and relatively insignificant. Our exposure to credit risk has
increased as a result of weakened financial conditions in certain market
segments such as the competitive local exchange carrier segment. Credit losses
for such customers have been provided for in the financial statements. Future
losses, if incurred, could harm our business and have a material adverse effect
on our financial position, results of operations or cash flows.

Recent Accounting Pronouncements

In June 2001, the FASB issued SFAS No. 141, ''Business Combinations and
SFAS No. 142, ''Goodwill and Other Intangible Assets. SFAS No. 141
establishes new standards for accounting and reporting requirements for
business combinations initiated after June 30, 2001 and prohibits the use of
the pooling-of-interests method for combinations initiated after June 30, 2001.
SFAS No. 142 changes the accounting for goodwill from an amortization method to
an impairment-only approach. SFAS No. 142 was adopted on January 1, 2002, and
goodwill will now be tested at the reporting unit at least annually and whenever events or
circumstances occur indicating that goodwill might be impaired. On January 1,
2002, the assembled workforce intangible amount was reclassified to goodwill.
Amortization of goodwill, including goodwill recorded in past business
combinations, has ceased and we determined that there was no goodwill
impairment using work performed by an independent,
third-party valuation firm.

In August 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, which addresses financial
accounting and reporting for the impairment of long-lived assets and for
long-lived assets to be disposed of. This Statement supersedes SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to Be Disposed Of. This Statement also supersedes the accounting and
reporting

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provisions of APB Opinion No. 30, Reporting the Results of
Operations  Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for
segments of a business to be disposed of. This Statement also amends ARB No.
51, Consolidated Financial Statements, to eliminate the exception to
consolidation for a temporarily controlled subsidiary. We adopted SFAS No. 144
effective January 1, 2002 with no material impact on our financial position,
results of operations or cash flows.

In June 2002, the FASB issued SFAS No. 146, Accounting for Exit or
Disposal Activities. SFAS No. 146 addresses significant issues regarding the
recognition, measurement, and reporting of costs that are associated with exit
and disposal activities, including restructuring activities that are currently
accounted for pursuant to the guidance that the Emerging Issues Task Force
(EITF) has set forth in EITF Issue No. 94-3, Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring). The scope of SFAS No. 146 also
includes (1) costs related to terminating a contract that is not a capital
lease and (2) termination benefits that employees who are involuntarily
terminated receive under the terms of a one-time benefit arrangement that is
not an ongoing benefit arrangement or an individual deferred-compensation
contract. SFAS No. 146 is effective for exit or disposal activities that are
initiated after December 31, 2002. Earlier adoption of SFAS No. 146 is
encouraged. We are currently evaluating the provisions of SFAS No. 146 and its
potential impact on our financial position, results of operations or
cash flows.

In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based Compensation  Transition Disclosure  an amendment of FAS 123
(SFAS No. 148). This statement amends SFAS No. 123, Accounting for Stock-Based
Compensation, to provide alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. In addition, this Statement amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. The
provisions of SFAS No. 148 are effective for financial statements for fiscal years
ending after December 15, 2002, and disclosure requirements shall be effective
for interim periods beginning after December 15, 2002. We intend to continue to
account for stock-based compensation to our employees and directors using the
intrinsic value method prescribed by APB Opinion No. 25, and related
interpretations. We have made certain disclosures required by SFAS No. 148 in
the consolidated financial statements for the year ended December 31, 2002 and
will begin making the additional disclosures required by SFAS No. 148 in the
first quarter of 2003. Accordingly, adoption of SFAS No. 148 will not impact
our financial position, results of operations or cash flows.

In November 2002, the FASB issued interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, including Indirect
Guarantees of Indebtedness of Others. This interpretation elaborates on the
disclosures required in financial statements concerning obligations under
certain guarantees. It also clarifies the requirements related to the
recognition of liabilities by a guarantor at the inception of certain
guarantees. The disclosure requirements of this interpretation were effective
for us on December 31, 2002 but did not require any additional disclosures. The
recognition provisions of the interpretation are effective for us in 2003 are
applicable only to guarantees issued or modified after December 31, 2002. We do
not expect adoption of these obligations to have a material impact on our
financial position, results of operations or cash flows.

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Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

Our international sales are predominantly denominated in U.S. dollars, and
therefore exposure to foreign currency exchange fluctuations on international
sales is limited. In certain instances where we have entered into contracts
which are denominated in foreign currencies, we have obtained foreign currency
forward and option contracts, principally denominated in Euros or British
pounds, to offset the impact of currency rates on accounts receivable. We had
no forward or option contracts outstanding as of December 31, 2002 and December
31, 2001. We do not enter into derivative instrument transactions for trading
or speculative purposes. We do not hedge foreign currencies in a manner that
would entirely eliminate the effects of the changes in foreign currency rates
on our consolidated net income.

Fixed income securities are subject to interest rate risk. The fair value
of our investment portfolio would not be significantly impacted by either a 100
basis point increase or decrease in interest rates due mainly to the short-term
nature of the major portion of our investment portfolio. The portfolio is
diversified and consists primarily of investment grade securities to minimize
credit risk.

There have been no borrowings under our variable rate credit facilities.
All of our outstanding long-term debt is fixed rate and not subject to interest
rate fluctuation.




Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

See the consolidated financial statements of Tekelec and our subsidiaries
included herein and listed in Item 15(a) of this Annual Report on Form 10-K.




Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.

None.




PART III




Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.

The information required by this Item is incorporated by reference to the
sections of our definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 8, 2003, entitled Election of Directors,
Executive Officers and Section 16(a) Beneficial Ownership Reporting
Compliance to be filed with the Commission.




Item 11. EXECUTIVE COMPENSATION.

The information required by this Item is incorporated by reference to the
sections of our definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 8, 2003, entitled Election of Directors -
Compensation of Directors, Executive Compensation and Other Information,
Board of Directors and Compensation Committee Reports on Executive
Compensation and Performance Graph, to be filed with the Commission.

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Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.

The information required by this Item is incorporated by reference to the
section of our definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 8, 2003, entitled Common Stock Ownership of
Principal Shareholders and Management, to be filed with the Commission.




Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

The information required by this Item is incorporated by reference to the
section of our definitive Proxy Statement for the Annual Meeting of
Shareholders to be held on May 8, 2003, entitled Certain Relationships and
Related Transactions, to be filed with the Commission.




Item 14. CONTROLS AND PROCEDURES.

(a)  Evaluation of Disclosure Controls and Procedures

As of a date within 90 days prior to the filing date of this Annual
Report, we carried out an evaluation, under the supervision and with the
participation of our management, including our President and Chief Executive
Officer and our Chief Financial Officer, of the effectiveness of the design and
operation of our disclosure controls and procedures as defined in Exchange
Act Rules 13a-14(c) and 15d-14(c). Based upon that evaluation, our President and
Chief Executive Officer and our Chief Financial Officer have concluded that our
disclosure controls and procedures are adequate and effective in timely
alerting them to material information relating to us and our consolidated subsidiaries
required to be included in our periodic SEC filings and are designed to ensure that information
required to be disclosed by us in reports that we file or submit under
the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported within the time periods specified in SEC rules and forms.

(b)  Changes in Internal Controls

There have not been any significant changes in our internal controls or in
other factors that could significantly affect these controls subsequent to the
date of the evaluation of our disclosure controls and procedures referred to above. There were no significant
deficiencies or material weaknesses in our internal controls, and therefore no corrective actions were
taken.

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PART IV




Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.

(a)  The following documents are filed as part of this Report:

|                                              |                                                                                                                                 |  |      |     | 
|--------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------- |  | ---- | --- | 
|                                              |                                                                                                                                 |  | Page
|                                              |                                                                                                                                 |  |     
|1.  Consolidated Financial Statements         |                                                                                                                                 |  |      |    
|                                              | ·  Report of Independent Accountants                                                                                            |  |      | F-1 | 
|                                              | ·  Consolidated Statements of Operations for each of the
three years in the period ended December 31, 2002                      |  |      | F-2 | 
|                                              | ·  Consolidated Balance Sheets as of December 31, 2002 and 2001                                                                 |  |      | F-3 | 
|                                              | ·  Consolidated Statements of Cash Flows for each of the
three years in the period ended December 31, 2002                      |  |      | F-4 | 
|                                              | ·  Consolidated Statements of Shareholders Equity for each of
the three years in the period ended December 31, 2002            |  |      | F-6 | 
|                                              | ·  Consolidated Statements of Comprehensive Income for each
of the three years in the period ended December 31, 2002            |  |      | F-7 | 
|                                              | ·  Notes to Consolidated Financial Statements                                                                                   |  |      | F-8 | 
|2.  Consolidated Financial Statement Schedule |                                                                                                                                 |  |      |    
|                                              | ·  Report of Independent Accountants on Financial Statement Schedule                                                            |  |      | S-1 | 
|                                              | ·  Schedule II Valuation and Qualifying Accounts and Reserves for each
of the three years in the period ended December 31, 2002 |  |      | S-2 | 

Schedules that are not listed above have been omitted because they are not
applicable or the information required to be set forth therein is included in
the consolidated financial statements or notes thereto.

3. List of Exhibits

|        |  |                                                                                                                                                                                                                                                                                                                                                           
|------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                                           
|Number  |  | Exhibit                                                                                                                                                                                                                                                                                                                                                   
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|2.1     |  | Asset Purchase Agreement dated July 15, 2002 between the
Registrant and Catapult Communications Corporation (schedules are
omitted from this agreement and the other agreements filed herewith
as Exhibits 2.2, 2.3, 2.4, 2.5, and 2.6, and the Registrant
agrees to furnish supplementally a copy of any such schedule to the
Commission upon request)(1)
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|2.2     |  | Transitional Services Agreement dated July 15, 2002 between the
Registrant and Catapult Communications Corporation(1)                                                                                                                                                                                                                                     
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|2.3     |  | License Agreement dated July 15, 2002 between the
Registrant, Catapult Communications Corporation and Catapult
Communications International Limited(1)                                                                                                                                                                                                    
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|2.4     |  | International Rights License Agreement dated July 15, 2002 between the
Registrant, Catapult Communications Corporation and Catapult
Communications International Limited(1)                                                                                                                                                                               
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|2.5     |  | Registration Rights Agreement dated July 15, 2002 between the
Registrant and Catapult Communications Corporation(1)                                                                                                                                                                                                                                       
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|2.6     |  | Subordinated Guaranty dated July 15, 2002 executed by Catapult
Communications Corporation in favor of the Registrant(1)                                                                                                                                                                                                                                   
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|2.7     |  | Convertible Subordinated Promissory Note due 2004, dated
August 30, 2002, in the principal amount of $10,000,000, issued
by Catapult Communications International Limited to the Registrant(2)                                                                                                                                                            
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|2.8     |  | Convertible Subordinated Promissory Note due 2004, dated
August 30, 2002, in the principal amount of $7,300,000, issued
by Catapult Communications International Limited to the Registrant(2)                                                                                                                                                             
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|3.1     |  | Amended and Restated Articles of Incorporation(3)                                                                                                                                                                                                                                                                                                         
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|3.2     |  | Bylaws, as amended(4)                                                                                                                                                                                                                                                                                                                                     
|        |  |                                                                                                                                                                                                                                                                                                                                                           
|4.1     |  | Rights Agreement dated as of August 25, 1997 between the
Registrant and U.S. Stock Transfer Corporation as Rights Agent(5)                                                                                                                                                                                                                                

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|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|Number  |  | Exhibit                                                                                                                                                                                                                                                                                                                                                                                                      
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|4.2     |  | Indenture dated as of November 2, 1999 between the Registrant and
Bankers Trust Company as Trustee, including form of the
Registrants 3.25% Convertible Subordinated Discount Notes due
2004(6)                                                                                                                                                                                                             
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|4.3     |  | Registration Rights Agreement dated as of November 2, 1999 among
the Registrant, Deutsche Bank Securities Inc. and Warburg Dillon
Read LLC(6)                                                                                                                                                                                                                                                                
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.1    |  | Amended and Restated 1984 Stock Option Plan, including forms of
stock option agreements(7) (8)                                                                                                                                                                                                                                                                                                               
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.2    |  | Amended and Restated Non-Employee Director Equity Incentive Plan,
including form of nonstatutory stock option agreement(5), as
amended February 21, 1996(8) (9)                                                                                                                                                                                                                                              
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.3    |  | Form of Indemnification Agreement between the Registrant and all
directors of the Registrant(8) (10)                                                                                                                                                                                                                                                                                                         
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.4    |  | Amended and Restated 1994 Stock Option Plan, including form of
stock option agreement                                                                                                                                                                                                                                                                                                                        
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.5    |  | Lease Agreement dated as of February 8, 1988 between the
Registrant and State Street Bank and Trust Company of California,
N.A., not individually, but solely as an Ancillary Trustee for
State Street Bank and Trust Company, a Massachusetts banking
corporation, not individually, but solely as Trustee for the AT&T
Master Pension Trust, covering our principal facilities in
Calabasas, California(11)
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.6    |  | Officer Severance Plan, including form of Employment Separation
Agreement(12), as amended March 8, 1999( 13 ) and February 4,
2000(6) (14)                                                                                                                                                                                                                                                                   
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.7    |  | Employee Stock Purchase Plan, including form of subscription
agreement (9), as amended May 18, 2001 (8) (15)                                                                                                                                                                                                                                                                                                 
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.8    |  | Warrants to purchase shares of the Registrants Common Stock and
Schedule of Warrantholders(8) (16)                                                                                                                                                                                                                                                                                                          
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.9    |  | Lease Agreement dated as of November 6, 1998 between the
Registrant and Weeks Realty, L.P., covering certain of the
Registrants facilities in Morrisville, North Carolina(13) as
amended by First Amendment thereto dated May 27, 1999, Second
Amendment thereto dated October 1, 1999, Third Amendment thereto
dated November 30, 1999, and Fourth Amendment thereto dated July
19, 2000(17)               
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.10   |  | Loan Agreement dated October 31, 2001 between the Registrant and
Union Bank of California (18), as amended by First Amendment
thereto dated December 18, 2002                                                                                                                                                                                                                                                
|        |  |                                                                                                                                                                                                                                                                                                                                                                                                              
|10.11   |  | Lease Agreement as of July 19, 2000 between the Registrant and
Duke Construction Limited Partnership covering certain of our
facilities in                                                                                                                                                                                                                                                                   

48



---



##### Table of Contents



|        |  |                                                                                                                                                           
|------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |  |                                                                                                                                                           
|Number  |  | Exhibit                                                                                                                                                   
|        |  |                                                                                                                                                           
|        |  | Morrisville, North Carolina (17)                                                                                                                          
|        |  |                                                                                                                                                           
|10.12   |  | Nonstatutory Stock Option Agreement dated February 1, 2001
between the Registrant and Frederick M. Lax (8) (19)                                           
|        |  |                                                                                                                                                           
|10.13   |  | Stock Award Agreement dated February 1, 2001 between the
Registrant and Frederick M. Lax (8) (19)                                                         
|        |  |                                                                                                                                                           
|10.14   |  | Non-Employee Director Stock Option Plan, including form of stock
option agreement (20)                                                                    
|        |  |                                                                                                                                                           
|10.15   |  | Nonstatutory Stock Option Agreement dated January 18, 2002
between the Registrant and Lori A. Craven (8) (21)                                             
|        |  |                                                                                                                                                           
|21.1    |  | Subsidiaries of the Registrant                                                                                                                            
|        |  |                                                                                                                                                           
|23.1    |  | Consent of PricewaterhouseCoopers LLP                                                                                                                     
|        |  |                                                                                                                                                           
|99.1    |  | Certificate of Chief Executive Officer of Tekelec pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
|        |  |                                                                                                                                                           
|99.2    |  | Certificate of Chief Financial Officer of Tekelec pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002



---

|(1)  |  | Incorporated by reference to the Registrants Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended June 30, 2002.                      
|---- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(2)  |  | Incorporated by reference to
the Registrants Current Report on Form 8-K
(File No. 0-15135) filed with the Commission on September 16, 2002.             
|    
|    
|    
|    
|(3)  |  | Incorporated by reference to the Registrants Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended June 30, 1998.                      
|    
|    
|    
|    
|(4)  |  | Incorporated by reference to the Registrants Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1996.                        
|    
|    
|    
|    
|(5)  |  | Incorporated by reference to the Registrants Quarterly Report on Form
10-Q
(File No. 0-15135) for the quarter ended September 30, 1997.                 
|    
|    
|    
|    
|(6)  |  | Incorporated by reference to Registrants Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended September 30, 1999.                     
|    
|    
|    
|    
|(7)  |  | Incorporated by reference to the Registrants Registration Statement on
Form S-8 (Registration No. 33-48079) filed with the Commission on May 22,
1992.  
|    
|    
|    
|    
|(8)  |  | Constitutes a management contract or compensatory plan or arrangement
required to be filed as an exhibit to this Annual Report on Form 10-K.             
|    
|    
|    
|    
|(9)  |  | Incorporated by reference to the Registrants Registration Statement on
Form S-8 (Registration No. 333-05933) filed with the Commission on June
13, 1996.
|    
|    
|    
|    
|(10) |  | Incorporated by reference to the Registrants Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1987.                        

49



---



##### Table of Contents



|(11) |  | Incorporated by reference to the Registrants Quarterly Report on Form
10-Q
(File No. 0-15135) for the quarter ended June 30, 1988.                         
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------
|    
|    
|    
|    
|(12) |  | Incorporated by reference to the Registrants Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1993.                           
|    
|    
|    
|    
|(13) |  | Incorporated by reference to the Registrants Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 1998.                           
|    
|    
|    
|    
|(14) |  | Incorporated by reference to the Registrants Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31,
1999.                           
|    
|    
|    
|    
|(15) |  | Incorporate by reference to the Registrants Quarterly Report on Form 10-Q
(File No. 0-15135) for the quarter ended June 30, 2001.                          
|    
|    
|    
|    
|(16) |  | Incorporated by reference to the Registrants Registration Statement on
Form S-8 (Registration No. 333-37843) filed with the Commission on October
14, 1997.
|    
|    
|    
|    
|(17) |  | Incorporated by reference to the Registrants Annual Report on Form 10-K
(File No. 0-15135) for the year ended December 31, 2000.                           
|    
|    
|    
|    
|(18) |  | Incorporated by reference to the Registrants Annual Report on Form 10-K
(File No.
0-15135) for the year ended December 31, 2001                            
|    
|    
|    
|    
|(19) |  | Incorporated by reference to the Registrants Quarterly Report on 10-Q
(File No. 0-15135) for the quarter ended March 31, 2001.                             
|    
|    
|    
|    
|(20) |  | Incorporated by reference to the Registrants Registration Statement on Form S-8
(Registrants No. 333-97793) filed with the Commission on August 7, 2002   
|    
|    
|    
|    
|(21) |  | Incorporated by reference to the Registrants Quarterly Report on 10-Q
(File No. 0-15135) for the quarter ended March 31, 2002.                             

(b)  Reports on Form 8-K



| |  |  | No reports on Form 8-K were filed by the Registrant during the quarter
ended December 31, 2002.
| |  |  | -----------------------------------------------------------------------------------------------

(c)  Exhibits



| |  |  | See the list of Exhibits under Item 15(a) 3 of this Annual Report on Form
10-K.
| |  |  | -------------------------------------------------------------------------------

(d) Financial Statement Schedules



| |  |  | See the Schedule under Item 15(a) 2 of this Annual Report on Form 10-K.
| |  |  | -----------------------------------------------------------------------

50



---



##### Table of Contents






SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.

| |  |         |  |                                                        
| |  | ------- |  | -------------------------------------------------------
| |  | TEKELEC
|
| |  | By:     |  | /s/Frederick M. Lax                                    
| |  |         |  |                                                        
| |  |         |  | Frederick M. Lax, President and
Chief Executive Officer

Dated: March 31, 2003

Pursuant to the requirements of the Securities Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.

|                                                 |  |                                                                                               |  |               
|------------------------------------------------ |  | --------------------------------------------------------------------------------------------- |  | --------------
|Signature                                        |  | Title                                                                                         |  | Date          
|                                                 |  |                                                                                               |  |               
|/s/Jean-Claude Asscher

     Jean-Claude Asscher |  | Chairman of the Board                                                                         |  | March 31, 2003
|                                                 |  |                                                                                               |  |               
|/s/Frederick M. Lax

     Frederick M. Lax       |  | President, Chief Executive
Officer and Director                                               |  | March 31, 2003
|                                                 |  |                                                                                               |  |               
|/s/Robert V. Adams

     Robert V. Adams         |  | Director                                                                                      |  | March 31, 2003
|                                                 |  |                                                                                               |  |               
|/s/Daniel L. Brenner

     Daniel L. Brenner     |  | Director                                                                                      |  | March 31, 2003
|                                                 |  |                                                                                               |  |               
|/s/Howard Oringer

     Howard Oringer           |  | Director                                                                                      |  | March 31, 2003
|                                                 |  |                                                                                               |  |               
|/s/Jon F. Rager

     Jon F. Rager               |  | Director                                                                                      |  | March 31, 2003
|                                                 |  |                                                                                               |  |               
|/s/Paul J. Pucino

     Paul J. Pucino           |  | Vice President and Chief
Financial Officer
(Principal Financial and
Chief Accounting Officer) |  | March 31, 2003

51



---



##### Table of Contents



CERTIFICATION

March 31, 2003

I, Frederick M. Lax, certify that:



|1. |  | I have reviewed this annual report on Form 10-K of Tekelec;                                                                                                                                                                                                                                                             
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|2. |  | Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
|  
|3. |  | Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual
report;                   
|  
|4. |  | The registrants other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we
have:                                                                                                



| |  |  | a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this annual
report is being prepared;
| |  |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | b) evaluated the effectiveness of the registrants disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this annual report (the Evaluation Date); and                                                                                                  
|
| |  |  | c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;                                                                                                                        



|5. |  | The registrants other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrants auditors and the audit
committee of registrants board of directors (or persons performing the
equivalent function):
|-- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrants
ability to record, process, summarize and report financial data and
have identified for the registrants auditors any material
weaknesses in internal controls; and
| |  |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrants
internal controls; and                                                                                                                                        



|6. |  | The registrants other certifying officer and I have indicated in
this annual report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

/s/ Frederick M. Lax

President and Chief Executive Officer

52



---



##### Table of Contents



CERTIFICATION

March 31, 2003

I, Paul J. Pucino, certify that:



|1. |  | I have reviewed this annual report on Form 10-K of Tekelec;                                                                                                                                                                                                                                                             
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|2. |  | Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
|  
|3. |  | Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual
report;                   
|  
|4. |  | The registrants other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we
have:                                                                                                



| |  |  | a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this annual
report is being prepared;
| |  |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | b) evaluated the effectiveness of the registrants disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this annual report (the Evaluation Date); and                                                                                                  
|
| |  |  | c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;                                                                                                                        



|5. |  | The registrants other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrants auditors and the audit
committee of registrants board of directors (or persons performing the
equivalent function):
|-- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrants
ability to record, process, summarize and report financial data and
have identified for the registrants auditors any material
weaknesses in internal controls; and
| |  |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrants
internal controls; and                                                                                                                                        



|6. |  | The registrants other certifying officer and I have indicated in this
annual report whether there were significant changes in internal controls
or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

/s/ Paul J. Pucino

Vice President and Chief Financial Officer

53



---



##### Table of Contents



REPORT OF INDEPENDENT ACCOUNTANTS

TO THE SHAREHOLDERS AND BOARD OF DIRECTORS OF TEKELEC

In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, cash flows, shareholders
equity, and comprehensive income (loss) present fairly, in all material
respects, the financial position of Tekelec and its subsidiaries (the
Company) at December 31, 2002 and 2001, and the results of their operations
and their cash flows for each of the three years in the period ended December 31, 2002, in conformity with accounting principles generally accepted in the
United States of America. These financial statements are the responsibility of
the Companys management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with auditing standards generally accepted in the
United States of America which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.

As discussed in Note A to the consolidated financial statements, effective
January 1, 2002, the Company adopted Statement of Financial Accounting
Standards No. 142, Goodwill and other Intangible Assets.

/s/   PricewaterhouseCoopers LLP

Los Angeles, California
January 29, 2003

F-1



---



##### Table of Contents



Tekelec
Consolidated Statements of Operations

|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |        |        |         |        |  
|-------------------------------------------------------------------------- | ---------------------------------------------- | ------- | ----------------------------- | ------------------- | ------ | ---------------------------------- | ------- | ------ | ------ | ------- | ------- | ------ | ------ | ------- | ------ | -
|                                                                           |                                                |         |                               |                     |        | For the Years Ended December 31,  
|                                                                           |                                                |         |                               |                     |        |                                   
|                                                                           |                                                |         |                               |                     |        | 2002                               |         | 2001   |        | 2000   
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |        
|                                                                           |                                                |         |                               |                     |        | (thousands, except per share data)
|Revenues                                                                   |                                                | $       | 260,341                       |                     |        | $                                  | 249,369 |        |        | $       | 252,327 |       
|Cost of Sales:                                                             |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           | Cost of goods sold                             |         |                               | 66,536              |        |                                    |         | 76,466 |        |         |         | 83,084 |       
|                                                                           | Amortization of purchased technology           |         |                               | 10,169              |        |                                    |         | 10,324 |        |         |         | 10,135 |       
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         | Total cost of sales           |                     |        | 76,705                             |         |        |        | 86,790  |         |        |        | 93,219  |       
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         | Gross profit                  |                     |        | 183,636                            |         |        |        | 162,579 |         |        |        | 159,108 |       
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|Operating expenses:                                                        |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           | Research and development                       |         |                               | 59,746              |        |                                    |         | 54,479 |        |         |         | 42,225 |       
|                                                                           | Selling, general and administrative            |         |                               | 95,973              |        |                                    |         | 86,592 |        |         |         | 72,150 |       
|                                                                           | Amortization of goodwill and other intangibles |         |                               | 1,600               |        |                                    |         | 21,664 |        |         |         | 21,920 |       
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         | Total operating expenses      |                     |        | 157,319                            |         |        |        | 162,735 |         |        |        | 136,295 |       
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         | Income (Loss) from operations |                     |        | 26,317                             |         |        |        | (156    | )       |        |        | 22,813  |       
|Interest and other income (expense):                                       |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           | Interest income                                |         |                               | 6,685               |        |                                    |         | 8,883  |        |         |         | 8,055  |       
|                                                                           | Interest expense                               |         |                               | (9,201              | )      |                                    |         | (8,955 | )      |         |         | (8,739 | )     
|                                                                           | Other, net                                     |         |                               | 253                 |        |                                    |         | (260   | )      |         |         | (375   | )     
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         |                               | Total other expense |        |                                    | (2,263  | )      |        |         | (332    | )      |        |         | (1,059 | )
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|Income (Loss) from continuing operations before
provision for income taxes |                                                |         | 24,054                        |                     |        |                                    | (488    | )      |        |         | 21,754  |       
|                                                                           | Provision for income taxes                     |         |                               | 8,140               |        |                                    |         | 6,122  |        |         |         | 15,526 |       
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|Income (Loss) from continuing operations                                   |                                                |         | 15,914                        |                     |        |                                    | (6,610  | )      |        |         | 6,228   |       
|Income (Loss) from discontinued operation,
net of income taxes             |                                                |         | (3,308                        | )                   |        |                                    | (289    | )      |        |         | 6,668   |       
|Gain on sale of discontinued operation,
net of income taxes                |                                                |         | 28,312                        |                     |        |                                    |        |        |        |         |        |       
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         |                               | Net income (loss)   |        | $                                  | 40,918  |        |        | $       | (6,899  | )      |        | $       | 12,896 |  
|                                                                           |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|Earnings (Loss) per share from continuing
operations:                      |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         | Basic                         |                     | $      | 0.26                               |         |        | $      | (0.11   | )       |        | $      | 0.11    |       
|                                                                           |                                                |         | Diluted                       |                     |        | 0.26                               |         |        |        | (0.11   | )       |        |        | 0.10    |       
|Earnings (Loss) per share from discontinued
operation:                     |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         | Basic                         |                     | $      | (0.05                              | )       |        | $      | (0.01   | )       |        | $      | 0.11    |       
|                                                                           |                                                |         | Diluted                       |                     |        | (0.05                              | )       |        |        | (0.01   | )       |        |        | 0.10    |       
|Earnings per share from gain on sale of
discontinued operation:            |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         | Basic                         |                     | $      | 0.47                               |         |        | $      |        |         |        | $      |        |       
|                                                                           |                                                |         | Diluted                       |                     |        | 0.46                               |         |        |        |        |         |        |        |        |       
|Earnings (Loss) per share:                                                 |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                |         | Basic                         |                     | $      | 0.68                               |         |        | $      | (0.12   | )       |        | $      | 0.22    |       
|                                                                           |                                                |         | Diluted                       |                     |        | 0.67                               |         |        |        | (0.12   | )       |        |        | 0.20    |       
|Weighted average number of shares outstanding:                             |                                                |         |                               |                     |        |                                    |         |        |        |         |         |       
|                                                                           |                                                | Basic   |                               |                     | 60,358 |                                    |         |        | 59,574 |         |         |        | 57,823 |        
|                                                                           |                                                | Diluted |                               |                     | 61,386 |                                    |         |        | 59,574 |         |         |        | 64,123 |        

See notes to consolidated financial statements

F-2



---



##### Table of Contents



Tekelec
Consolidated Balance Sheets

|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |         |        |         |         | 
|----------------------------------------------------------------- | ---------------------------------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------- | ------------------------------------------------- | --------------------------------------------- | ------- | ------------------------------ | ------- | ------- | ------ | ------- | ------- | 
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         | December 31,                  
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                               
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         | 2002                           |         | 2001   
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         | (thousands, except share data)
|Assets                                                           
|Current assets:                                                   |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  |                                                                                                                        | Cash and cash equivalents                                                  |                                                   | $                                             | 167,283 |                                |         | $       | 87,148 |        
|                                                                  |                                                                                                                        | Short-term investments, at fair value                                      |                                                   |                                               | 14,289  |                                |         |         | 68,608 |        
|                                                                  |                                                                                                                        | Accounts and notes receivable, less allowances
2002 - $4,860;2001 - $4,567 |                                                   |                                               | 44,061  |                                |         |         | 53,717 |        
|                                                                  |                                                                                                                        | Inventories                                                                |                                                   |                                               | 10,560  |                                |         |         | 14,782 |        
|                                                                  |                                                                                                                        | Deferred income taxes, net                                                 |                                                   |                                               | 13,806  |                                |         |         | 13,648 |        
|                                                                  |                                                                                                                        | Prepaid expenses and other current assets                                  |                                                   |                                               | 16,491  |                                |         |         | 14,543 |        
|                                                                  |                                                                                                                        | Current assets of discontinued operation                                   |                                                   |                                               |        |                                |         |         | 30,375 |        
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  |                                                                                                                        |                                                                            |                                                   | Total current assets                          |         |                                | 266,490 |         |        |         | 282,821 | 
|Long-term investments, at fair value                              |                                                                                                                        |                                                                            | 128,258                                           |                                               |         |                                | 70,200  |        
|Property and equipment, net                                       |                                                                                                                        |                                                                            | 21,387                                            |                                               |         |                                | 31,479  |        
|Investments in privately-held companies                           |                                                                                                                        |                                                                            | 16,525                                            |                                               |         |                                | 16,500  |        
|Deferred income taxes                                             |                                                                                                                        |                                                                            | 11,502                                            |                                               |         |                                | 3,242   |        
|Other assets                                                      |                                                                                                                        |                                                                            | 2,263                                             |                                               |         |                                | 3,094   |        
|Long-term convertible notes receivable ($17,300 principal amount) |                                                                                                                        |                                                                            | 17,987                                            |                                               |         |                                |        |        
|Goodwill                                                          |                                                                                                                        |                                                                            | 44,942                                            |                                               |         |                                | 44,725  |        
|Intangible assets, net                                            |                                                                                                                        |                                                                            | 16,329                                            |                                               |         |                                | 27,120  |        
|Non-current assets of discontinued operation                      |                                                                                                                        |                                                                            |                                                  |                                               |         |                                | 5,223   |        
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  |                                                                                                                        |                                                                            | Total assets                                      |                                               | $       | 525,683                        |         |         | $      | 484,404 |        
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|Liabilities and Shareholders Equity                             
|                                                                  |                                                                                                                        | Current liabilities:                                                       |                                                   |                                               |         |                                |         |         |        |        
|                                                                  |                                                                                                                        |                                                                            |                                                   | Trade accounts payable                        |         | $                              | 6,674   |         |        | $       | 12,902  | 
|                                                                  |                                                                                                                        |                                                                            |                                                   | Accrued expenses                              |         |                                | 31,011  |         |        |         | 20,887  | 
|                                                                  |                                                                                                                        |                                                                            |                                                   | Accrued payroll and related expenses          |         |                                | 11,360  |         |        |         | 8,045   | 
|                                                                  |                                                                                                                        |                                                                            |                                                   | Current portion of deferred revenues          |         |                                | 28,355  |         |        |         | 41,469  | 
|                                                                  |                                                                                                                        |                                                                            |                                                   | Income taxes payable                          |         |                                | 1,178   |         |        |         | 629     | 
|                                                                  |                                                                                                                        |                                                                            |                                                   | Current liabilities of discontinued operation |         |                                |        |         |        |         | 13,721  | 
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  |                                                                                                                        |                                                                            |                                                   | Total current liabilities                     |         |                                | 78,578  |         |        |         | 97,653  | 
|Long-term convertible debt                                        |                                                                                                                        |                                                                            | 126,973                                           |                                               |         |                                | 122,992 |        
|                                                                  |                                                                                                                        |                                                                            | Deferred income taxes                             |                                               |         | 14,493                         |         |         |        | 9,983   |        
|                                                                  |                                                                                                                        |                                                                            | Long-term portion of deferred revenues            |                                               |         | 3,632                          |         |         |        | 4,378   |        
|                                                                  |                                                                                                                        |                                                                            | Non-current liabilities of discontinued operation |                                               |         |                               |         |         |        | 576     |        
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  |                                                                                                                        |                                                                            | Total liabilities                                 |                                               |         | 223,676                        |         |         |        | 235,582 |        
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|Commitments and contingencies (Note O)                            |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|Shareholders equity:                                             |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  | Common stock, without par value, 200,000,000 shares authorized;
issued and outstanding 2002-60,892,730;2001-60,107,087 |                                                                            |                                                   | 182,277                                       |         |                                |         | 171,846 |       
|                                                                  | Retained earnings                                                                                                      |                                                                            |                                                   | 119,443                                       |         |                                |         | 78,525  |       
|                                                                  | Accumulated other comprehensive income (loss)                                                                          |                                                                            |                                                   | 287                                           |         |                                |         | (1,549  | )     
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  |                                                                                                                        |                                                                            | Total shareholders equity                        |                                               |         | 302,007                        |         |         |        | 248,822 |        
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        
|                                                                  |                                                                                                                        |                                                                            | Total liabilities and shareholders equity        |                                               | $       | 525,683                        |         |         | $      | 484,404 |        
|                                                                  |                                                                                                                        |                                                                            |                                                   |                                               |         |                                |         |        

See notes to consolidated financial statements

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##### Table of Contents



Tekelec
Consolidated Statements of Cash Flows

|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |        |          |   |         |  
|-------------------------------------------------- | -------------------------------------- | ---------------------------------------------------------------------------------------- | ------- | --------------------------------------------------- | -------- | -------------------------------- | ------- | ------ | -------- | ---- | ------- | ------ | -------- | - | ------- | -
|                                                   |                                        |                                                                                          |         |                                                     |          | For the Years Ended December 31,
|                                                   |                                        |                                                                                          |         |                                                     |          |                                 
|                                                   |                                        |                                                                                          |         |                                                     |          | 2002                             |         | 2001   |          | 2000
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |     
|                                                   |                                        |                                                                                          |         |                                                     |          | (thousands)                     
|Cash flows from operating activities:              |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|                                                   |                                        | Net income (loss)                                                                        |         | $                                                   | 40,918   |                                  |         | $      | (6,899   | )    |         | $      | 12,896   |  
|                                                   |                                        | Adjustments to reconcile net income (loss) to net cash
provided by operating activities: |         |                                                     |          |                                  |         |        |          |      |         |        |          |  
|                                                   |                                        | Net gain on disposal of discontinued operation                                           |         |                                                     | (28,312  | )                                |         |        |         |      |         |        |         |  
|                                                   |                                        | Net (income) loss from discontinued operation                                            |         |                                                     | 3,308    |                                  |         |        | 289      |      |         |        | (6,668   | )
|                                                   |                                        | Allowance for doubtful accounts                                                          |         |                                                     | 950      |                                  |         |        | 4,412    |      |         |        | 2,968    |  
|                                                   |                                        | Inventory provision                                                                      |         |                                                     | 6,177    |                                  |         |        | 3,448    |      |         |        | 4,393    |  
|                                                   |                                        | Depreciation                                                                             |         |                                                     | 15,618   |                                  |         |        | 15,959   |      |         |        | 10,818   |  
|                                                   |                                        | Amortization                                                                             |         |                                                     | 11,661   |                                  |         |        | 31,528   |      |         |        | 31,678   |  
|                                                   |                                        | Amortization of deferred financing costs                                                 |         |                                                     | 819      |                                  |         |        | 819      |      |         |        | 812      |  
|                                                   |                                        | Convertible debt accretion                                                               |         |                                                     | 3,981    |                                  |         |        | 3,723    |      |         |        | 3,483    |  
|                                                   |                                        | Deferred income taxes                                                                    |         |                                                     | (3,908   | )                                |         |        | (6,916   | )    |         |        | (10,401  | )
|                                                   |                                        | Stock-based compensation                                                                 |         |                                                     | 5,612    |                                  |         |        | 310      |      |         |        | 121      |  
|                                                   |                                        | Tax benefits related to stock options exercised                                          |         |                                                     | 929      |                                  |         |        | 6,943    |      |         |        | 22,457   |  
|                                                   |                                        | Changes in assets and liabilities (net of business
disposal):                            |         |                                                     |          |                                  |         |        |          |      |         |        |          |  
|                                                   |                                        |                                                                                          |         | Accounts and notes receivable                       |          |                                  | 10,188  |        |          |      | 30,393  |        |          |   | (22,411 | )
|                                                   |                                        |                                                                                          |         | Inventories                                         |          |                                  | (1,955  | )      |          |      | (4,594  | )      |          |   | 605     |  
|                                                   |                                        |                                                                                          |         | Prepaid expenses and other current assets           |          |                                  | 3,315   |        |          |      | (5,687  | )      |          |   | (4,359  | )
|                                                   |                                        |                                                                                          |         | Trade accounts payable                              |          |                                  | (7,890  | )      |          |      | 1,941   |        |          |   | 1,771   |  
|                                                   |                                        |                                                                                          |         | Accrued expenses                                    |          |                                  | 8,311   |        |          |      | 622     |        |          |   | 3,965   |  
|                                                   |                                        |                                                                                          |         | Accrued payroll and related expenses                |          |                                  | 3,311   |        |          |      | (2,143  | )      |          |   | 2,721   |  
|                                                   |                                        |                                                                                          |         | Deferred revenues                                   |          |                                  | (13,861 | )      |          |      | 15,919  |        |          |   | (5,951  | )
|                                                   |                                        |                                                                                          |         | Income taxes payable                                |          |                                  | (12,791 | )      |          |      | (814    | )      |          |   | 1,071   |  
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|                                                   |                                        |                                                                                          |         | Total adjustments                                   |          |                                  | 5,463   |        |          |      | 96,152  |        |          |   | 37,073  |  
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|                                                   |                                        |                                                                                          |         | Net cash provided by operating activities           |          |                                  | 46,381  |        |          |      | 89,253  |        |          |   | 49,969  |  
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|Cash flows from investing activities:              |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|                                                   |                                        | Purchase of available-for-sale securities                                                |         |                                                     | (440,806 | )                                |         |        | (257,472 | )    |         |        | (115,964 | )
|                                                   |                                        | Proceeds from maturity of available-for-sale
securities                                  |         |                                                     | 437,067  |                                  |         |        | 212,387  |      |         |        | 82,234   |  
|                                                   |                                        | Purchase of investments in privately-held companies                                      |         |                                                     |         |                                  |         |        | (16,500  | )    |         |        |         |  
|                                                   |                                        | Net purchase of property and equipment                                                   |         |                                                     | (5,500   | )                                |         |        | (18,906  | )    |         |        | (20,307  | )
|                                                   |                                        | Net purchase of technology                                                               |         |                                                     | (1,089   | )                                |         |        |         |      |         |        | (464     | )
|                                                   |                                        | Proceeds from disposal of discontinued operation                                         |         |                                                     | 37,883   |                                  |         |        |         |      |         |        |         |  
|                                                   |                                        | Decrease (Increase) in other assets                                                      |         |                                                     | 177      |                                  |         |        | (507     | )    |         |        | (430     | )
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|                                                   |                                        |                                                                                          |         | Net cash provided by (used in) investing
activities |          |                                  | 27,732  |        |          |      | (80,998 | )      |          |   | (54,931 | )
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|Cash flows from financing activities:              |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|                                                   | Proceeds from issuance of common stock |                                                                                          |         | 3,890                                               |          |                                  |         | 12,763 |          |      |         | 27,867 |         
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|                                                   |                                        |                                                                                          |         | Net cash provided by financing activities           |          |                                  | 3,890   |        |          |      | 12,763  |        |          |   | 27,867  |  
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|Effect of exchange rate changes on cash            |                                        |                                                                                          | 125     |                                                     |          |                                  | (91     | )      |          |      | (609    | )     
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|Net cash flows from discontinued operation         |                                        |                                                                                          | 2,007   |                                                     |          |                                  | 8,636   |        |          |      | 2,305   |       
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|                                                   |                                        |                                                                                          |         | Net increase in cash and cash equivalents           |          |                                  | 80,135  |        |          |      | 29,563  |        |          |   | 24,601  |  
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|Cash and cash equivalents at beginning of the year |                                        |                                                                                          | 87,148  |                                                     |          |                                  | 57,585  |        |          |      | 32,984  |       
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       
|Cash and cash equivalents at end of the year       |                                        | $                                                                                        | 167,283 |                                                     |          | $                                | 87,148  |        |          | $    | 57,585  |       
|                                                   |                                        |                                                                                          |         |                                                     |          |                                  |         |        |          |      |         |       

See notes to consolidated financial statements

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##### Table of Contents



Tekelec
Consolidated Statements of Cash Flows (Continued)

|                                                  |              |  |                                  |        |      |  |      |       |  |  |   |       | 
|------------------------------------------------- | ------------ |  | -------------------------------- | ------ | ---- |  | ---- | ----- |  |  | - | ----- | 
|                                                  |              |  | For the Years Ended December 31,
|                                                  |              |  |                                 
|                                                  |              |  | 2002                             |        | 2001 |  | 2000
|                                                  |              |  |                                  |        |      |  |     
|                                                  |              |  | (thousands)                     
|Supplemental disclosure of cash flow information: |              |  |                                  |        |      |  |      |       |  |  |   |      
|Cash paid during the year for:                    |              |  |                                  |        |      |  |      |       |  |  |   |      
|                                                  | Interest     |  | $                                | 4,396  |      |  | $    | 4,398 |  |  | $ | 4,420 | 
|                                                  | Income taxes |  |                                  | 15,093 |      |  |      | 6,210 |  |  |   | 7,140 | 

See notes to consolidated financial statements

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##### Table of Contents



Tekelec
Consolidated Statements of Shareholders Equity

|                           |                                                                                                  |  |        |              |  |        |         |          |  |               |         |               |   |               |        |        |   |   |         |        |   | 
|-------------------------- | ------------------------------------------------------------------------------------------------ |  | ------ | ------------ |  | ------ | ------- | -------- |  | ------------- | ------- | ------------- | - | ------------- | ------ | ------ | - | - | ------- | ------ | - | 
|                           |                                                                                                  |  |        | Common Stock |  |        |         |          |  | Accumulated   |         |               |   |              
|                           |                                                                                                  |  |        |              |  |        |         |          |  | Other         |         | Total        
|                           |                                                                                                  |  |        | Number       |  |        |         |          |  | Retained      |         | Comprehensive |   | Shareholders'
|                           |                                                                                                  |  |        | of Shares    |  | Amount |         | Earnings |  | Income (Loss) |         | Equity       
|                           |                                                                                                  |  |        |              |  |        |         |          |  |               |         |              
|                           |                                                                                                  |  |        | (thousands) 
|Balance, December 31, 1999 |                                                                                                  |  | 55,713 |              |  | $      | 101,385 |          |  | $             | 72,528  |               |   | $             | 2,682  |        |   | $ | 176,595 |       
|                           | Exercise of stock options
and warrants and issuance
of shares under employee
stock purchase plan |  |        | 3,184        |  |        |         | 27,867   |  |               |         |              |   |               |        |       |   |   |         | 27,867 |  
|                           | Compensation related to vesting
of restricted stock                                              |  |        |             |  |        |         | 121      |  |               |         |              |   |               |        |       |   |   |         | 121    |  
|                           | Stock option tax benefits                                                                        |  |        |             |  |        |         | 22,457   |  |               |         |              |   |               |        |       |   |   |         | 22,457 |  
|                           | Translation adjustment                                                                           |  |        |             |  |        |         |         |  |               |         |              |   |               |        | (2,339 | ) |   |         | (2,339 | )
|                           | Net income                                                                                       |  |        |             |  |        |         |         |  |               |         | 12,896        |   |               |        |       |   |   |         | 12,896 |  
|                           |                                                                                                  |  |        |              |  |        |         |          |  |               |         |               |   |               |        |        |   |   |         |       
|Balance, December 31, 2000 |                                                                                                  |  | 58,897 |              |  | $      | 151,830 |          |  | $             | 85,424  |               |   | $             | 343    |        |   | $ | 237,597 |       
|                           | Exercise of stock options
and warrants and issuance
of shares under employee
stock purchase plan |  |        | 1,180        |  |        |         | 12,763   |  |               |         |              |   |               |        |       |   |   |         | 12,763 |  
|                           | Compensation related to vesting
of restricted stock                                              |  |        | 30           |  |        |         | 310      |  |               |         |              |   |               |        |       |   |   |         | 310    |  
|                           | Stock option tax benefits                                                                        |  |        |             |  |        |         | 6,943    |  |               |         |              |   |               |        |       |   |   |         | 6,943  |  
|                           | Translation adjustment                                                                           |  |        |             |  |        |         |         |  |               |         |              |   |               |        | (1,892 | ) |   |         | (1,892 | )
|                           | Net loss                                                                                         |  |        |             |  |        |         |         |  |               |         | (6,899        | ) |               |        |       |   |   |         | (6,899 | )
|                           |                                                                                                  |  |        |              |  |        |         |          |  |               |         |               |   |               |        |        |   |   |         |       
|Balance, December 31, 2001 |                                                                                                  |  | 60,107 |              |  | $      | 171,846 |          |  | $             | 78,525  |               |   | $             | (1,549 | )      |   | $ | 248,822 |       
|                           | Exercise of stock options
and warrants and issuance
of shares under employee
stock purchase plan |  |        | 786          |  |        |         | 3,890    |  |               |         |              |   |               |        |       |   |   |         | 3,890  |  
|                           | Compensation related to vesting
of restricted stock                                              |  |        |             |  |        |         | 328      |  |               |         |              |   |               |        |       |   |   |         | 328    |  
|                           | Stock-based compensation charge
for stock modification                                           |  |        |             |  |        |         | 5,284    |  |               |         |              |   |               |        |       |   |   |         | 5,284  |  
|                           | Stock option tax benefits                                                                        |  |        |             |  |        |         | 929      |  |               |         |              |   |               |        |       |   |   |         | 929    |  
|                           | Translation adjustment                                                                           |  |        |             |  |        |         |         |  |               |         |              |   |               |        | 1,836  |   |   |         | 1,836  |  
|                           | Net income                                                                                       |  |        |             |  |        |         |         |  |               |         | 40,918        |   |               |        |       |   |   |         | 40,918 |  
|                           |                                                                                                  |  |        |              |  |        |         |          |  |               |         |               |   |               |        |        |   |   |         |       
|Balance, December 31, 2002 |                                                                                                  |  | 60,893 |              |  | $      | 182,277 |          |  | $             | 119,443 |               |   | $             | 287    |        |   | $ | 302,007 |       
|                           |                                                                                                  |  |        |              |  |        |         |          |  |               |         |               |   |               |        |        |   |   |         |       

See notes to consolidated financial statements

F-6



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##### Table of Contents



Tekelec
Consolidated Statements of Comprehensive Income (Loss)

|                                   |                                          |   |                                  |       |      |   |        |        |   |   |        |        |  
|---------------------------------- | ---------------------------------------- | - | -------------------------------- | ----- | ---- | - | ------ | ------ | - | - | ------ | ------ | -
|                                   |                                          |   | For the Years Ended December 31,
|                                   |                                          |   |                                 
|                                   |                                          |   | 2002                             |       | 2001 |   | 2000  
|                                   |                                          |   |                                  |       |      |   |       
|                                   |                                          |   | (thousands)                     
|Net income (loss)                  |                                          | $ | 40,918                           |       |      | $ | (6,899 | )      |   | $ | 12,896 |       
|Other comprehensive income (loss): |                                          |   |                                  |       |      |   |        |        |   |   |        |       
|                                   | Foreign currency translation adjustments |   |                                  | 1,836 |      |   |        | (1,892 | ) |   |        | (2,339 | )
|                                   |                                          |   |                                  |       |      |   |        |        |   |   |        |       
|Comprehensive income (loss)        |                                          | $ | 42,754                           |       |      | $ | (8,791 | )      |   | $ | 10,557 |       
|                                   |                                          |   |                                  |       |      |   |        |        |   |   |        |       

See notes to consolidated financial statements

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##### Table of Contents



NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE A  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Business

We design, manufacture and market network systems products for
telecommunications networks. Our customers include telecommunications carriers
and network service providers. We also develop and sell management software to
operators of contact centers.

Principles of Consolidation and Presentation

The consolidated financial statements include the accounts of Tekelec and
our subsidiaries. All significant intercompany accounts and transactions have
been eliminated. Certain items shown in the December 31, 2001 and 2000
financial statements have been reclassified to conform to the current period
presentation. As more fully discussed in Note B, we sold our Network
Diagnostics Division (NDD) effective August 30, 2002. Accordingly,
comparative historical financial results and notes have been revised to reflect
the Network Diagnostics Division as a discontinued operation.

Estimates

The preparation of financial statements requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the dates of
the financial statements and revenues and expenses during the reporting
periods. Actual results could differ from those estimates.

Cash and Cash Equivalents

We consider all highly liquid investments purchased with an original
maturity of three months or less to be cash equivalents.

Investments

Our marketable securities are classified as available-for-sale securities
and are accounted for at their fair value, and unrealized gains and losses on
these securities are reported as a separate component of shareholders equity.
At December 31, 2002 and 2001, net unrealized gains or losses on
available-for-sale securities were not significant. We utilize specific
identification in computing realized gains and losses on the sale of
investments. Realized gains and losses are reported in other income and
expense, and were not significant for 2002, 2001 and 2000.

We also invest in equity instruments of privately-held companies for
business and strategic purposes. These investments are classified as long-term
assets and are accounted for under the cost method since we do not have the
ability to exercise significant influence over their operations. We monitor our
investments for impairment and record reductions in carrying values when
necessary. To date there have been no such impairments.

Inventories

Inventories are stated at the lower of cost (first in, first out) or
market.

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Property and Equipment

Property and equipment are stated at cost, less accumulated depreciation
and amortization. Depreciation and amortization are provided using the
straight-line method. The estimated useful lives are:

|                                        |  |                                          |  | 
|--------------------------------------- |  | ---------------------------------------- |  | 
|Manufacturing and development equipment |  | 3-5 years                               
|Furniture and office equipment          |  | 5 years                                 
|Demonstration equipment                 |  | 3 years                                 
|Leasehold improvements                  |  | The shorter of useful life or lease term

Software Developed for Internal Use

We capitalize costs of software, consulting services, hardware and
payroll-related costs incurred to purchase or develop internal-use software. We
expense costs incurred during preliminary project assessment, research and
development, re-engineering, training and application maintenance.

Software Development Costs

We provide for capitalization of certain software development costs once
technological feasibility is established. The costs capitalized are amortized
on a straight-line basis over the estimated product life (generally eighteen
months to three years), or on the ratio of current revenue to total projected
product revenues, whichever is greater. To date, the establishment of
technological feasibility of our products and general release have
substantially coincided. As a result, we have not capitalized any internal
software development costs as costs qualifying for such capitalization have not
been significant.

Goodwill

Goodwill represents the excess of the purchase price over the fair value
of the identifiable net assets acquired in an acquisition accounted for using
the purchase method. Effective the first quarter of 2002, the Company adopted
the provisions of Statement of Financial Accounting Standards No. 142,
Goodwill and Other Intangible Assets (FAS 142). FAS 142 eliminates the
amortization of goodwill. Instead, goodwill is reviewed for impairment upon
adoption and at least annually thereafter. In connection with the initial
impairment tests, we obtained valuations of our individual reporting units from
an independent third-party valuation firm. The valuation methodologies
included, but were not limited to, estimated net present value of the projected
future cash flows of these reporting units. With the use of these impairment
tests, we determined that there was no goodwill impairment.

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Intangible Assets

Intangible assets consist of purchased technology and other intangible
assets, all of which are generally amortized over periods ranging from three to
five years. Intangible assets are stated at cost, less accumulated
amortization.

Long-Term Assets

We identify and
record impairment of long-lived assets when events and
circumstances indicate that such assets have been impaired. Events and
circumstances that may indicate that an asset is impaired include: significant
decreases in the fair market value of an asset, a change in the extent or
manner in which an asset is used, shifts in technology, loss of key management
or personnel, changes in the operating model or strategy and competitive
forces.

If events and circumstances indicate that the carrying amount of an
asset may not be recoverable and the expected undiscounted future cash flows
attributable to the asset is less than the carrying amount of the asset, an
impairment loss equal to the excess of the assets carrying value over its fair
value is recorded. Fair value is determined based on the present value of
estimated expected future cash flows using a discount rate commensurate with
the risks involved, quoted market prices or appraised values, depending on the
nature of the assets. To date, no such impairment has been recorded.

Product Warranty Costs

We generally warrant our products against defects in materials and
workmanship for one year after sale and provide for estimated future warranty
costs at the time revenue is recognized. At December 31, 2002 and 2001, accrued
product warranty costs amounted to $5.3 million and $5.5 million, respectively,
and are included in accrued expenses.

Revenue Recognition

Revenues from sales of network systems products and contact center
products are recognized upon the transfer of title, generally at the time of
shipment to the customers final site and satisfaction of related obligations,
if any, provided that persuasive evidence of an arrangement exists, the fee is
fixed and determinable and collectability is deemed probable. For certain
products, our sales arrangements include acceptance provisions which are based
on our published specifications and are accounted for as warranty, provided
that we have previously demonstrated that the product meets the specified
criteria and has established a history with substantially similar transactions.
Revenue is deferred for sales arrangements that include customer-specific
acceptance provisions where we are unable to reliably demonstrate that the
delivered product meets all of the specified criteria until customer acceptance
is obtained. Revenues associated with multiple-element arrangements are
allocated to each element based on vendor specific objective evidence of fair
value. Revenues associated with installation services, if provided, are
deferred based on the fair value of such services and are recognized upon
completion. Installation services are accounted for as a separate element based
on the customers obligation to pay the contract price upon shipment of the
related equipment and the fact that such services are not essential to the
functionality of the related equipment, are available from other vendors and
can be purchased unaccompanied by other elements. Extended warranty service
revenues are recognized ratably over the warranty period. Engineering service
revenues are recognized on delivery or as the services are performed.
Development contract revenues are recognized using the percentage-of-completion
method based on the costs incurred relative to total estimated costs.
Provisions for anticipated losses, if any, on development contracts are
recognized in income currently.

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Income Taxes

Income tax expense is the tax payable for the period and the change during
the period in non-capital-related deferred tax assets and liabilities. Deferred
income taxes are determined based on the difference between the financial
reporting and tax bases of assets and liabilities using enacted rates in effect
during the year in which the differences are expected to reverse. Valuation
allowances are established when necessary to reduce deferred tax assets to the
amount expected to be realized.

Advertising

Advertising costs are expensed as incurred and amounted to approximately
$421,000, $980,000 and $1.4 million for 2002, 2001 and 2000, respectively.

Stock-Based Compensation

At December 31, 2002, we have five stock-based employee compensation plans
which are described more fully in Note P. We account for employee stock option
plans in accordance with the provisions of Accounting Principals Board (APB)
Opinion No. 25, Accounting for Stock Issued to Employees and the related
interpretations of FASB Interpretation (FIN) No. 44, Accounting for Certain
Transactions Involving Stock Compensation. Accordingly, compensation expense
related to employee stock options is recorded, if on the date of the grant, the
fair value of the underlying stock exceeds the exercise price.

To date, options have been granted at exercise prices that equal or exceed
market value of the underlying common stock on the grant date. However, we have
modified certain option grants that did require remeasurement on the
modification date and accordingly have resulted in stock-based compensation as
the exercise prices were below the fair market value on the date of the
modification. The following table illustrates the effect on stock-based
compensation, net income and earnings (loss) per share if we had applied the
fair value recognition provisions of FASB Statement No. 123, Accounting for
Stock-Based Compensation, to stock-based employee compensation.

|                                      |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |        |  
|------------------------------------- | ------------------------------------------------------------------------------------------------------------------------ |  | -------------------------------- | ------ | ---- |  | ---- | ------- | - |  | - | ------ | -
|                                      |                                                                                                                          |  | For the Years Ended December 31,
|                                      |                                                                                                                          |  |                                 
|                                      |                                                                                                                          |  | 2002                             |        | 2001 |  | 2000
|                                      |                                                                                                                          |  |                                  |        |      |  |     
|Stock-based compensation, net of tax: |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       
|                                      | As reported                                                                                                              |  | $                                | 3,648  |      |  | $    | 202     |   |  | $ | 79     |  
|                                      | Additional stock-based compensation expense
determined under the fair value method                                       |  |                                  | 14,891 |      |  |      | 22,278  |   |  |   | 13,333 |  
|                                      |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       
|                                      | Pro forma                                                                                                                |  | $                                | 18,539 |      |  | $    | 22,480  |   |  | $ | 13,412 |  
|                                      |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       
|Net income (loss):                    |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       
|                                      | As reported                                                                                                              |  | $                                | 40,918 |      |  | $    | (6,899  | ) |  | $ | 12,896 |  
|                                      | Less:
additional stock-based compensation expense
determined under the fair value method,
net of tax                     |  |                                  | 14,891 |      |  |      | 22,278  |   |  |   | 13,333 |  
|                                      |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       
|                                      | Pro forma                                                                                                                |  | $                                | 26,027 |      |  | $    | (29,177 | ) |  | $ | (437   | )
|                                      |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       
|Net income (loss) per share-basic:    |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       
|                                      | As reported                                                                                                              |  | $                                | 0.68   |      |  | $    | (0.12   | ) |  | $ | 0.22   |  
|                                      | Less:
per share effect of additional stock-based
compensation expense determined under the
fair value method, net of tax |  |                                  | 0.25   |      |  |      | 0.37    |   |  |   | 0.23   |  
|                                      |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       
|                                      | Pro forma                                                                                                                |  | $                                | 0.43   |      |  | $    | (0.49   | ) |  | $ | (0.01  | )
|                                      |                                                                                                                          |  |                                  |        |      |  |      |         |   |  |   |       

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|                                     |                                                                                                                          |  |                                  |      |      |  |      |       |   |  |   |       |  
|------------------------------------ | ------------------------------------------------------------------------------------------------------------------------ |  | -------------------------------- | ---- | ---- |  | ---- | ----- | - |  | - | ----- | -
|                                     |                                                                                                                          |  | For the Years Ended December 31,
|                                     |                                                                                                                          |  |                                 
|                                     |                                                                                                                          |  | 2002                             |      | 2001 |  | 2000
|                                     |                                                                                                                          |  |                                  |      |      |  |     
|Net income (loss) per share-diluted: |                                                                                                                          |  |                                  |      |      |  |      |       |   |  |   |      
|                                     | As reported                                                                                                              |  | $                                | 0.67 |      |  | $    | (0.12 | ) |  | $ | 0.20  |  
|                                     | Less:
per share effect of additional stock-based
compensation expense determined under the
fair value method, net of tax |  |                                  | 0.25 |      |  |      | 0.37  |   |  |   | 0.21  |  
|                                     |                                                                                                                          |  |                                  |      |      |  |      |       |   |  |   |      
|                                     | Pro forma                                                                                                                |  | $                                | 0.42 |      |  | $    | (0.49 | ) |  | $ | (0.01 | )
|                                     |                                                                                                                          |  |                                  |      |      |  |      |       |   |  |   |      

The key assumptions used for the determination of the fair value are further
described in Note P.

We account for stock issued to non-employees in accordance with the
provisions of SFAS No. 123 and Emerging Issues Task Force (EITF) 96-18,
Accounting for Equity Instruments That Are Issued to Other Than Employees for
Acquiring, or in Conjunction with Selling, Goods and Services.

Foreign Currency

Translation of foreign currencies is accounted for using the local
currency as the functional currency of our foreign subsidiaries. All assets and
liabilities are translated at exchange rates in effect on the balance sheet
dates while revenues and expenses are translated at average rates in effect for
the period. The resulting gains and losses are included in a separate component
of shareholders equity. Realized gains (losses) on foreign currency
transactions are reflected in net income (loss) and amounted to $282,000,
($462,000), and ($374,000) for 2002, 2001 and 2000, respectively.

Earnings Per Share

Earnings per share are computed using the weighted average number of
shares outstanding and dilutive Common Stock equivalents (options and
warrants), in accordance with SFAS No. 128, Earnings per Share.

Comprehensive Income

Comprehensive income generally represents all changes in shareholders
equity during the period except those resulting from investments by, or
distributions to, shareholders.

Segment Information

We use the management approach in determining reportable business
segments. The management approach designates the internal organization that is
used by management for making operating decisions and assessing performance as
the source of our reportable segments.

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Recent Accounting Pronouncements

In August 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, which addresses financial
accounting and reporting for the impairment of long-lived assets and for
long-lived assets to be disposed of. This Statement supersedes SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to Be Disposed Of. This Statement also supersedes the accounting and
reporting provisions of APB Opinion No. 30, Reporting the Results of
Operations  Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for
segments of a business to be disposed of. This Statement also amends ARB No.
51, Consolidated Financial Statements, to eliminate the exception to
consolidation for a temporarily controlled subsidiary. We adopted SFAS No. 144
effective January 1, 2002.

In June 2002, the FASB issued SFAS No. 146, Accounting for Exit or
Disposal Activities. SFAS No. 146 addresses significant issues regarding the
recognition, measurement, and reporting of costs that are associated with exit
and disposal activities, including restructuring activities that are currently
accounted for pursuant to the guidance that the Emerging Issues Task Force
(EITF) has set forth in EITF Issue No. 94-3, Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring). The scope of SFAS No. 146 also
includes (1) costs related to terminating a contract that is not a capital
lease and (2) termination benefits that employees who are involuntarily
terminated receive under the terms of a one-time benefit arrangement that is
not an ongoing benefit arrangement or an individual deferred-compensation
contract. SFAS No. 146 is effective for exit or disposal activities that are
initiated after December 31, 2002. Earlier adoption of SFAS No. 146 is
encouraged. We are currently evaluating the provisions of SFAS No. 146 and its
potential impact on our financial position, results of operations or
cash flows.

In December 2002, the FASB issued SFAS No. 148, Accounting for
Stock-Based Compensation  Transition Disclosure  an amendment of FAS 123
(SFAS No. 148). This statement amends SFAS No. 123, Accounting for Stock-Based
Compensation, to provide alternative methods of transition for a voluntary
change to the fair value based method of accounting for stock-based employee
compensation. In addition, this Statement amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. The
provisions of SFAS No. 148 are effective for financial statements for fiscal years
ending after December 15, 2002, and disclosure requirements shall be effective
for interim periods beginning after December 15, 2002. We intend to continue to
account for stock-based compensation to our employees and directors using the
intrinsic value method prescribed by APB Opinion No. 25, and related
interpretations. We have made certain disclosures required by SFAS No. 148 in
the consolidated financial statements for the year ended December 31, 2002 and
will begin making the additional disclosures required by SFAS No. 148 in the
first quarter of 2003. Accordingly, adoption of SFAS No. 148 will not impact
our financial position, results of operations or cash flows.

In November 2002, the FASB issued interpretation No. 45, Guarantors
Accounting and Disclosure Requirements for Guarantees, including Indirect
Guarantees of Indebtedness of Others. This interpretation elaborates on the
disclosures required in financial statements concerning obligations under
certain guarantees. It also clarifies the requirements related to the

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recognition of liabilities by a guarantor at the inception of certain
guarantees. The disclosure requirements of this interpretation were effective
for us on December 31, 2002 but did not require any additional disclosures. The
recognition provisions of the interpretation are effective for us in 2003 are
applicable only to guarantees issued or modified after December 31, 2002. We do
not expect adoption of these obligations to have a material impact on our
financial position, results of operations or cash flows.

NOTE B  DISPOSITION OF NETWORK DIAGNOSTICS BUSINESS

On August 30, 2002, we completed the sale of the Network Diagnostics
Division (NDD) to Catapult Communications Corporation (Catapult) for $59.8
million, consisting of $42.5 million in cash and convertible subordinated
promissory notes (the Notes) issued by Catapults wholly owned Irish
subsidiary and guaranteed by Catapult in the total amount of $17.3 million,
subject to certain adjustments. The sale resulted in a pre-tax gain of
approximately $41.7 million ($28.3 million after taxes). This gain is subject
to future adjustment depending on the final resolution of certain contingencies
under the asset purchase agreement. Any differences between these estimates and
their actual settlement will change the gain accordingly. In accordance with
SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets,
the sale of the NDD business segment has been presented as a discontinued
business and our historical financial results for periods prior to disposition
have been revised to reflect NDD as a discontinued operation. Accordingly, the
revenues, costs and expenses, assets and liabilities, and cash flows of NDD
have been condensed in the accompanying consolidated statements of operations,
balance sheets and cash flows.

Assets and liabilities of NDD as of December 31, 2001 were the following:

|                                          |                          |                           |        |              |        | 
|----------------------------------------- | ------------------------ | ------------------------- | ------ | ------------ | ------ | 
|                                          |                          |                           |        | December 31,
|                                          |                          |                           |        | 2001        
|                                          |                          |                           |        |             
|                                          |                          |                           |        | (thousands) 
|Assets                                   
|Current assets:                           |                          |                           |        |             
|Cash and cash equivalents                 |                          | $                         | 5,024  |             
|Accounts receivable, net                  |                          |                           | 14,750 |             
|Inventories                               |                          |                           | 6,535  |             
|Deferred income taxes, net                |                          |                           | 2,192  |             
|Prepaid expenses and other current assets |                          |                           | 1,874  |             
|                                          |                          |                           |        |             
|                                          | Total current assets     |                           |        | 30,375       |       
|                                          |                          |                           |        |             
|Non-current assets:                       |                          |                           |        |             
|Property and equipment, net               |                          |                           | 3,280  |             
|Deferred incomes taxes, net               |                          |                           | 1,108  |             
|Other assets                              |                          |                           | 388    |             
|Intangible assets, net                    |                          |                           | 447    |             
|                                          |                          |                           |        |             
|                                          | Total non-current assets |                           |        | 5,223        |       
|                                          |                          |                           |        |             
|                                          | Total assets             |                           | $      | 35,598       |       
|                                          |                          |                           |        |             
|Liabilities                              
|Current liabilities:                      |                          |                           |        |             
|Trade accounts payable                    |                          | $                         | 4,001  |             
|Accrued expenses                          |                          |                           | 1,696  |             
|Accrued payroll and related expenses      |                          |                           | 1,941  |             
|Current portion of deferred revenues      |                          |                           | 5,118  |             
|Income taxes payable                      |                          |                           | 965    |             
|                                          |                          |                           |        |             
|                                          |                          | Total current liabilities |        |              | 13,721 | 
|                                          |                          |                           |        |             
|Non-current liabilities:                  |                          |                           |        |             
|Long-term portion of deferred revenue     |                          |                           | 576    |             
|                                          |                          |                           |        |             
|                                          |                          | Total liabilities         |        | $            | 14,297 | 
|                                          |                          |                           |        |             

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Revenues and income from discontinued operation are as follows:

|                                                  |  |              |        |      |  |      |        |   |  |   |        | 
|------------------------------------------------- |  | ------------ | ------ | ---- |  | ---- | ------ | - |  | - | ------ | 
|                                                  |  | December 31,
|                                                  |  |             
|                                                  |  | 2002         |        | 2001 |  | 2000
|                                                  |  |              |        |      |  |     
|                                                  |  | (thousands) 
|Revenues                                          |  | $            | 26,556 |      |  | $    | 63,082 |   |  | $ | 62,007 | 
|Pre-tax income (loss) from discontinued operation |  |              | (6,015 | )    |  |      | (328   | ) |  |   | 7,868  | 
|Provision (Benefit) from income taxes             |  |              | (2,707 | )    |  |      | (39    | ) |  |   | 1,200  | 
|Income (Loss) from discontinued operation         |  | $            | (3,308 | )    |  | $    | (289   | ) |  | $ | 6,668  | 

The Notes have a principal amount of $17.3 million bearing interest at 2%
annum and are due on August 30, 2004. We have the option of converting the
Notes into Catapult common stock after August 30, 2003 through maturity at a
conversion rate (subject to certain adjustments) of 62.50 share of Catapult
common stock per $1,000 in principal (approximately 1.1 million shares).
Catapult also has the option of repaying one of the Notes at maturity in the
principal amount of $10.0 million by delivery of shares of Catapult common
stock valued at a 17.5% discount from trading prices at the time of repayment.

The Notes are reflected in the balance sheet at their estimated fair value
using a third party appraisal which computed the fair value by
discounting the face value amount to present value using a fair value rate of
interest and then determining the fair value of the conversion option using the
Black-Scholes valuation model. The fair value of the notes is being adjusted
for the amortization to the redemption amount at maturity. The fair value of
the Notes and the conversion option are as follows (in millions):

|                                                           |                                              |   |      |      | 
|---------------------------------------------------------- | -------------------------------------------- | - | ---- | ---- | 
|$17.3 million face value notes discounted to present value |                                              | $ | 14.9 |     
|Fair value of conversion option feature                    |                                              |   | 3.2  |     
|                                                           |                                              |   |      |     
|                                                           | Fair value of notes                          |   |      | 18.1 | 
|Less, accumulated amortization                             |                                              |   | (0.1 | )   
|                                                           |                                              |   |      |     
|                                                           | Carrying value of notes at December 31, 2002 |   | $    | 18.0 | 
|                                                           |                                              |   |      |     

NOTE C  ACQUISITION OF IEX CORPORATION

On May 7, 1999, we acquired all of the outstanding stock of IEX
Corporation (IEX) for $163 million, consisting of $63 million in cash and
$100 million in short-term notes that were refinanced with convertible notes in
November 1999 (See Note N). IEX develops, markets and sells solutions for
intelligent networks, contact centers and other telecommunications markets.

The transaction has been accounted for using the purchase method of
accounting, and resulted in net goodwill and other intangibles of approximately
$133.4 million, with an average amortization period of five years. The total
purchase price, including acquisition expenses of $2.0 million, was allocated
among the assets acquired and liabilities assumed based on their estimated fair
values as follows:

|                                                                          |  |             |         |  
|------------------------------------------------------------------------- |  | ----------- | ------- | -
|                                                                          |  | (thousands)
|In-process research and development                                       |  | $           | 6,000   |  
|Developed and existing technology                                         |  |             | 48,000  |  
|Other intangibles                                                         |  |             | 13,000  |  
|Goodwill                                                                  |  |             | 95,274  |  
|Tangible assets acquired                                                  |  |             | 50,045  |  
|Deferred income tax liabilities associated with certain intangible assets |  |             | (22,875 | )
|Liabilities assumed                                                       |  |             | (24,444 | )
|                                                                          |  |             |         |  
|                                                                          |  | $           | 165,000 |  
|                                                                          |  |             |         |  

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Based on a third party appraisal, management determined that $6.0 million
of the purchase price represented acquired in-process research and development
that had not yet reached technological feasibility and had no alternative
future use. This amount was recorded as a non-recurring expense in the second
quarter of 1999. Amortization expense of purchased technology, goodwill in 2001
only and other intangible assets resulting from the acquisition amounted to
$7.0 million and $26.7 million, net of amortization of associated deferred
income tax liabilities of $4.2 million and $4.6 million, for 2002 and 2001,
respectively.

NOTE D  FAIR VALUE OF INVESTMENTS

We had short-term investments in corporate debt securities and money
market funds with original maturities of less than 90 days whose carrying
amounts approximate their fair values because of their short maturities. These
investments are included in cash and cash equivalents and amounted to
$121.2 million and $39.9 million at December 31, 2002 and 2001, respectively.

We also had investments classified as available-for-sale securities
included in short-term and long-term investments, categorized as follows:

|                                                                          |                              |   |              |         |      |   |         |        | 
|------------------------------------------------------------------------- | ---------------------------- | - | ------------ | ------- | ---- | - | ------- | ------ | 
|                                                                          |                              |   | December 31,
|                                                                          |                              |   |             
|                                                                          |                              |   | 2002         |         | 2001
|                                                                          |                              |   |              |         |     
|                                                                          |                              |   | (thousands) 
|Type of Security:                                                         |                              |   |              |         |      |   |         |       
|Corporate debt securities with maturities of less than one year           |                              | $ | 12,989       |         |      | $ | 68,608  |       
|State security with maturity of less than one year                        |                              |   | 1,300        |         |      |   |        |       
|                                                                          |                              |   |              |         |      |   |         |       
|                                                                          | Total short-term investments |   |              | 14,289  |      |   |         | 68,608 | 
|Corporate debt securities with maturities of between one and three years  |                              |   | 40,091       |         |      |   |        |       
|State security with maturity between one and three years                  |                              |   | 1,415        |         |      |   |        |       
|U.S. government securities with maturities of between one and three years |                              |   | 86,752       |         |      |   | 70,200  |       
|                                                                          |                              |   |              |         |      |   |         |       
|                                                                          | Total long-term investments  |   |              | 128,258 |      |   |         | 70,200 | 
|                                                                          |                              |   |              |         |      |   |         |       
|                                                                          |                              | $ | 142,547      |         |      | $ | 138,808 |       
|                                                                          |                              |   |              |         |      |   |         |       

These available-for-sale securities are accounted for at their fair value,
and unrealized gains and losses on these securities are reported as a separate
component of shareholders equity. At December 31, 2002 and 2001, unrealized gains or losses on available-for-sale securities were not
significant. We utilized specific identification in computing realized gains
and losses on the sale of investments. Realized gains and losses are reported
in other income and expense, and were not significant for 2002 and 2001.

NOTE E  BUSINESS AND CREDIT RISK

Financial instruments, which potentially subject us to concentration of
credit risk, consist principally of cash, investments and trade receivables. We
invest our excess cash in interest-bearing deposits with major banks, United
States government securities, high-quality commercial paper and money market
funds. At times our cash balances may be in excess of the FDIC insurance
limits.

With respect to trade receivables, we sell network systems and contact
center systems worldwide primarily to telephone operating companies, equipment
manufacturers and corporations that use its systems to design, install,
maintain, test and operate communications equipment and networks. Credit is
extended based on an evaluation of each customers financial condition, and
generally collateral is not required. Generally, payment terms stipulate
payment

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within 90 days of shipment and currently, we do not engage in leasing or
other customer financing arrangements. Many of our international sales are
secured with import insurance or letters of credit to mitigate credit risk.
Although we have processes in place to monitor and mitigate credit risk, there
can be no assurance that such programs will be effective in eliminating such
risk. Historically, credit losses have been within managements expectations
and relatively insignificant. Our exposure to credit risk has increased as a
result of weakened financial conditions in certain market segments such as the
Competitive Local Exchange Carrier segment. Credit losses for such customers
have been provided for in the financial statements. Future losses, if incurred,
could harm our business and have a material adverse effect on our financial
position, results of operations or cash flows.

Our international sales are predominantly denominated in U.S. dollars, and
therefore exposure to foreign currency exchange fluctuations on international
sales is limited. In certain instances where we have entered into contracts
which are denominated in foreign currencies, we have obtained foreign currency
forward and option contracts, principally denominated in Euros or British
Pounds, to offset the impact of currency rates on accounts receivable. We had
no forward or option contracts outstanding as of December 31, 2002 and 2001. We
do not enter into derivative instrument transactions for trading or speculative
purposes. We do not hedge foreign currencies in a manner that would entirely
eliminate the effects of the changes in foreign currency rates on our
consolidated net income.

Fixed income securities are subject to interest rate risk. The fair value
of our investment portfolio would not be significantly impacted by either a 100
basis point increase or decrease in interest rates due mainly to the short-term
nature of the major portion of our investment portfolio. The portfolio is
diversified and consists primarily of investment grade securities to minimize
credit risk.

There have been no borrowings under our variable rate credit facilities.
All of our outstanding long-term debt is fixed rate and not subject to interest
rate fluctuation.

NOTE F  RELATED PARTY TRANSACTIONS

As of December 31, 2002, our principal shareholder and our Chairman of the
Board of Directors (the Chairman) and his family owned an aggregate of
approximately 23% of our outstanding stock. We paid directors fees and
expenses of $55,000, $51,000 and $55,000 in 2002, 2001 and 2000, respectively.

Our Japanese subsidiary purchased, for resale, products under a
distribution arrangement from an affiliate in which three of our directors are
directors and shareholders. In August 2002, the Japanese subsidiary was sold as
part of the disposition of NDD (see Note B). The following is a summary of transactions and balances with the formerly
affiliated company controlled by a director:

|                             |  |             |       |      |  |      |       |  |  |   |       | 
|---------------------------- |  | ----------- | ----- | ---- |  | ---- | ----- |  |  | - | ----- | 
|                             |  | 2002        |       | 2001 |  | 2000
|                             |  |             |       |      |  |     
|                             |  | (thousands)
|Purchases from related party |  | $           | 1,485 |      |  | $    | 2,165 |  |  | $ | 1,581 | 
|Due to related party         |  |             |      |      |  |      | 168   |  |  |   | 11    | 

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NOTE H  INCOME TAXES

The provision for income taxes consists of the following:

|                                    |           |                       |                                          |   |                                  |        |      |   |        |       |   |   |         |        | 
|----------------------------------- | --------- | --------------------- | ---------------------------------------- | - | -------------------------------- | ------ | ---- | - | ------ | ----- | - | - | ------- | ------ | 
|                                    |           |                       |                                          |   | For the Years Ended December 31,
|                                    |           |                       |                                          |   |                                 
|                                    |           |                       |                                          |   | 2002                             |        | 2001 |   | 2000  
|                                    |           |                       |                                          |   |                                  |        |      |   |       
|                                    |           |                       |                                          |   | (thousands)                     
|Continuing Operations:              |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|Current:                            |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|                                    |           | Federal               |                                          | $ | 8,124                            |        |      | $ | 10,607 |       |   | $ | 20,429  |       
|                                    |           | State                 |                                          |   | 3,100                            |        |      |   | 1,962  |       |   |   | 4,933   |       
|                                    |           | Foreign               |                                          |   | 824                              |        |      |   | 469    |       |   |   | 565     |       
|                                    | Deferred: |                       |                                          |   |                                  |        |      |   |        |       |   |   |        
|                                    |           | Federal               |                                          |   | (4,410                           | )      |      |   | (6,171 | )     |   |   | (10,620 | )     
|                                    |           | State                 |                                          |   | 502                              |        |      |   | (726   | )     |   |   | 246     |       
|                                    |           | Foreign               |                                          |   |                                 |        |      |   | (19    | )     |   |   | (27     | )     
|                                    |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|                                    |           |                       | Total Continuing Operations              |   |                                  | 8,140  |      |   |        | 6,122 |   |   |         | 15,526 | 
|                                    |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|Discontinued Operation:             |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|                                    |           | Current income taxes  |                                          |   | (2,920                           | )      |      |   | 417    |       |   |   | 1,719   |       
|                                    |           | Deferred income taxes |                                          |   | 213                              |        |      |   | (456   | )     |   |   | (519    | )     
|                                    |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|                                    |           |                       | Total Discontinued Operation             |   |                                  | (2,707 | )    |   |        | (39   | ) |   |         | 1,200  | 
|                                    |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|Disposal of Discontinued Operation: |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|                                    |           | Current income taxes  |                                          |   | 11,043                           |        |      |   |       |       |   |   |        |       
|                                    |           | Deferred income taxes |                                          |   | 2,302                            |        |      |   |       |       |   |   |        |       
|                                    |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|                                    |           |                       | Total Disposal of Discontinued Operation |   |                                  | 13,345 |      |   |        |      |   |   |         |       | 
|                                    |           |                       |                                          |   |                                  |        |      |   |        |       |   |  
|                                    |           |                       | Total                                    |   | $                                | 18,778 |      |   | $      | 6,083 |   |   | $       | 16,726 | 
|                                    |           |                       |                                          |   |                                  |        |      |   |        |       |   |  

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The components of temporary differences that gave rise to deferred taxes
at December 31, 2002 and 2001 are as follows:

|                                               |                                              |                                                     |   |              |        |      |   |        |        | 
|---------------------------------------------- | -------------------------------------------- | --------------------------------------------------- | - | ------------ | ------ | ---- | - | ------ | ------ | 
|                                               |                                              |                                                     |   | December 31,
|                                               |                                              |                                                     |   |             
|                                               |                                              |                                                     |   | 2002         |        | 2001
|                                               |                                              |                                                     |   |              |        |     
|                                               |                                              |                                                     |   | (thousands) 
|Deferred tax assets:                           |                                              |                                                     |   |              |        |      |   |       
|                                               | Allowance for doubtful accounts              |                                                     | $ | 1,892        |        |      | $ | 2,069  |       
|                                               | Inventory adjustments                        |                                                     |   | 2,156        |        |      |   | 1,315  |       
|                                               | Depreciation and amortization                |                                                     |   | 739          |        |      |   | 503    |       
|                                               | Research and development credit carryforward |                                                     |   | 1,231        |        |      |   | 4,428  |       
|                                               | Foreign tax credit carryforward              |                                                     |   | 8,450        |        |      |   |       |       
|                                               | Accrued liabilities                          |                                                     |   | 8,528        |        |      |   | 8,856  |       
|                                               | Warranty accrual                             |                                                     |   | 2,053        |        |      |   | 2,317  |       
|                                               | Other                                        |                                                     |   | 259          |        |      |   | 702    |       
|                                               |                                              |                                                     |   |              |        |      |   |       
|                                               |                                              | Total deferred tax assets                           |   | $            | 25,308 |      |   | $      | 20,190 | 
|                                               |                                              |                                                     |   |              |        |      |   |       
|Deferred tax assets of continuing operations:  |                                              |                                                     |   |              |        |      |   |       
|                                               | Current portion                              |                                                     | $ | 13,806       |        |      | $ | 13,648 |       
|                                               | Long-term portion                            |                                                     |   | 11,502       |        |      |   | 3,242  |       
|                                               |                                              |                                                     |   |              |        |      |   |       
|                                               |                                              | Total deferred tax assets of continuing operations  |   |              | 25,308 |      |   |        | 16,890 | 
|Deferred tax assets of discontinued operation: |                                              |                                                     |   |              |        |      |   |       
|                                               | Current portion                              |                                                     |   |             |        |      |   | 2,192  |       
|                                               | Long-term portion                            |                                                     |   |             |        |      |   | 1,108  |       
|                                               |                                              |                                                     |   |              |        |      |   |       
|                                               |                                              | Total deferred tax assets of discontinued operation |   |              |       |      |   |        | 3,300  | 
|                                               |                                              |                                                     |   |              |        |      |   |       
|                                               |                                              | Total deferred tax assets                           |   | $            | 25,308 |      |   | $      | 20,190 | 
|                                               |                                              |                                                     |   |              |        |      |   |       
|Deferred tax liability:                        |                                              |                                                     |   |              |        |      |   |       
|                                               | Acquisition-related intangible assets        |                                                     | $ | 5,653        |        |      | $ | 9,983  |       
|                                               | Installment sale                             |                                                     |   | 8,840        |        |      |   | --     |       
|                                               |                                              |                                                     |   |              |        |      |   |       
|                                               |                                              | Total deferred tax liability                        |   | $            | 14,493 |      |   | $      | 9,983  | 
|                                               |                                              |                                                     |   |              |        |      |   |       
|                                               | Current portion                              |                                                     | $ |             |        |      | $ |       |       
|                                               | Long term portion                            |                                                     |   | 14,493       |        |      |   | 9,983  |       
|                                               |                                              |                                                     |   |              |        |      |   |       
|                                               |                                              | Total deferred tax liability                        |   | $            | 14,493 |      |   | $      | 9,983  | 
|                                               |                                              |                                                     |   |              |        |      |   |       

We have not provided a valuation allowance for our deferred tax assets,
based on managements assessment of our ability to utilize these deferred tax
assets. Realization of the deferred tax assets of $25.3 million is dependent on
the extent of our income in carryback years and on our generating sufficient
taxable income in the future. Although realization is not assured, we believe
it is more likely than not that the deferred tax assets will be realized. The
amount of the deferred tax assets considered realizable, however, could be
reduced in the future if estimates of future taxable income are reduced. In
connection with the acquisition of IEX in 1999, we recorded deferred income tax
liabilities of $22.9 million associated with certain intangible assets. These
deferred income tax liabilities are amortized on a straight-line basis and
amounted to $5.7 million at December 31, 2002.

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The provision for income taxes differs from the amount obtained by
applying the federal statutory income tax rate to income before provision for
income taxes as follows:

|                                                                                    |                                                      |                            |        |                                  |        |  |  |      |      |      |        |       |       |  |  |        |        |    |        |        |        |  |  |      |      |  
|----------------------------------------------------------------------------------- | ---------------------------------------------------- | -------------------------- | ------ | -------------------------------- | ------ |  |  | ---- | ---- | ---- | ------ | ----- | ----- |  |  | ------ | ------ | -- | ------ | ------ | ------ |  |  | ---- | ---- | -
|                                                                                    |                                                      |                            |        | For the Years Ended December 31,
|                                                                                    |                                                      |                            |        |                                 
|                                                                                    |                                                      |                            |        | 2002                             |        |  |  |      |      | 2001 |        |       |       |  |  | 2000   |        |    |        |       
|                                                                                    |                                                      |                            |        |                                  |        |  |  |      |      |      |        |       |       |  |  |        |        |    |        |       
|                                                                                    |                                                      |                            |        | (thousands)                     
|Federal statutory provision                                                         |                                                      | $                          | 8,418  |                                  |        |  |  |      |      | $    | (171   | )     |       |  |  |        |        | $  | 7,614  |        |        |  |  |     
|State taxes, net of federal benefit                                                 |                                                      |                            | 1,259  |                                  |        |  |  |      |      |      | 1,186  |       |       |  |  |        |        |    | 2,593  |        |        |  |  |     
|Research and development credits                                                    |                                                      |                            | (999   | )                                |        |  |  |      |      |      | (1,200 | )     |       |  |  |        |        |    | (1,082 | )      |        |  |  |     
|Nontaxable foreign source income                                                    |                                                      |                            | (231   | )                                |        |  |  |      |      |      | (231   | )     |       |  |  |        |        |    | (924   | )      |        |  |  |     
|Acquisition-related intangible assets, net of
related deferred income tax liability |                                                      |                            | (280   | )                                |        |  |  |      |      |      | 6,367  |       |       |  |  |        |        |    | 6,360  |        |        |  |  |     
|Foreign taxes and other                                                             |                                                      |                            | (27    | )                                |        |  |  |      |      |      | 171    |       |       |  |  |        |        |    | 965    |        |        |  |  |     
|                                                                                    |                                                      |                            |        |                                  |        |  |  |      |      |      |        |       |       |  |  |        |        |    |        |        |        |  |  |     
|                                                                                    | Total income tax provision for
continuing operations |                            |        | 8,140                            |        |  |  | 33.8 | %    |      |        | 6,122 |       |  |  | (125.5 | %)     |    |        | 15,526 |        |  |  | 71.4 | %   
|Income tax benefit (expense) for
discontinued operation                             |                                                      |                            | (2,707 | )                                |        |  |  |      |      |      | (39    | )     |       |  |  |        |        |    | 1,200  |        |        |  |  |     
|Income tax provision for disposal of
discontinued operation                         |                                                      |                            | 13,345 |                                  |        |  |  |      |      |      |       |       |       |  |  |        |        |    |       |        |        |  |  |     
|                                                                                    |                                                      |                            |        |                                  |        |  |  |      |      |      |        |       |       |  |  |        |        |    |        |        |        |  |  |     
|                                                                                    |                                                      | Total income tax provision |        | $                                | 18,778 |  |  |      | 31.5 | %    |        | $     | 6,083 |  |  |        | (748.2 | %) |        | $      | 16,726 |  |  |      | 56.5 | %
|                                                                                    |                                                      |                            |        |                                  |        |  |  |      |      |      |        |       |       |  |  |        |        |    |        |        |        |  |  |     

At December 31, 2002, we had available $999,000 of state research and
development credit carryforwards which will begin to expire, if unused, in the
year 2003.

We have not provided for federal income taxes on $600,000 of undistributed
earnings of our foreign subsidiaries that have been reinvested in their
operations.

NOTE I  INVENTORIES

The components of inventories are:

|                |  |              |        |      |  |   |        | 
|--------------- |  | ------------ | ------ | ---- |  | - | ------ | 
|                |  | December 31,
|                |  |             
|                |  | 2002         |        | 2001
|                |  |              |        |     
|                |  | (thousands) 
|Raw materials   |  | $            | 4,777  |      |  | $ | 5,876  | 
|Work in process |  |              | 179    |      |  |   | 1,746  | 
|Finished goods  |  |              | 5,604  |      |  |   | 7,160  | 
|                |  |              |        |      |  |   |        | 
|                |  | $            | 10,560 |      |  | $ | 14,782 | 
|                |  |              |        |      |  |   |        | 

NOTE J  PROPERTY AND EQUIPMENT

Property and equipment consist of the following:

|                                        |                                                 |   |              |         |      |   |        |         |  
|--------------------------------------- | ----------------------------------------------- | - | ------------ | ------- | ---- | - | ------ | ------- | -
|                                        |                                                 |   | December 31,
|                                        |                                                 |   |             
|                                        |                                                 |   | 2002         |         | 2001
|                                        |                                                 |   |              |         |     
|                                        |                                                 |   | (thousands) 
|Manufacturing and development equipment |                                                 | $ | 47,074       |         |      | $ | 44,271 |        
|Furniture and office equipment          |                                                 |   | 26,819       |         |      |   | 25,776 |        
|Demonstration equipment                 |                                                 |   | 3,711        |         |      |   | 3,898  |        
|Leasehold improvements                  |                                                 |   | 8,382        |         |      |   | 8,324  |        
|                                        |                                                 |   |              |         |      |   |        |        
|                                        |                                                 |   | 85,986       |         |      |   | 82,269 |        
|                                        | Less, accumulated depreciation and amortization |   |              | (64,599 | )    |   |        | (50,790 | )
|                                        |                                                 |   |              |         |      |   |        |        
|                                        |                                                 | $ | 21,387       |         |      | $ | 31,479 |        
|                                        |                                                 |   |              |         |      |   |        |        

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NOTE K  GOODWILL

The changes in the carrying amount of goodwill for the year ended December 31, 2002 are as follows:

|                             |                                                                      |   |         |     |         |   |       |    |  |   |        |     | 
|---------------------------- | -------------------------------------------------------------------- | - | ------- | --- | ------- | - | ----- | -- |  | - | ------ | --- | 
|                             |                                                                      |   | Network |     | Contact |   |       |    | 
|                             |                                                                      |   | Systems |     | Center  |   | Total
|                             |                                                                      |   |         |     |         |   |      
|Balance at December 31, 2001 |                                                                      | $ | 34,935  |     |         | $ | 9,790 |    |  | $ | 44,725 |    
|                             | Reclassification of
assembled workforce from
intangibles to goodwill |   |         | 169 |         |   |       | 48 |  |   |        | 217 | 
|                             |                                                                      |   |         |     |         |   |       |    |  |   |        |    
|Balance at December 31, 2002 |                                                                      | $ | 35,104  |     |         | $ | 9,838 |    |  | $ | 44,942 |    
|                             |                                                                      |   |         |     |         |   |       |    |  |   |        |    

The net income for
2001 and 2000 includes amortization of goodwill and assembled
workforce of approximately $20.1 million and $20.3 million,
respectively. The adjusted net income and earnings
per share information for 2001 and 2000 as if SFAS No. 142 was adopted on January 1,
2000 would have been:

|                                  |  |          |        |          |  |          |        |          |  |   |        |  |  |   |        | 
|--------------------------------- |  | -------- | ------ | -------- |  | -------- | ------ | -------- |  | - | ------ |  |  | - | ------ | 
|                                  |  | 2001     |        | 2000    
|                                  |  |          |        |         
|                                  |  | As       |        | As       |  | As       |        | As      
|                                  |  | reported |        | adjusted |  | reported |        | adjusted
|                                  |  |          |        |          |  |          |        |         
|Net income (loss) (thousands)     |  | $        | (6,899 | )        |  | $        | 12,790 |          |  | $ | 12,896 |  |  | $ | 32,745 | 
|Basic earnings (loss) per share   |  |          | (0.12  | )        |  |          | 0.21   |          |  |   | 0.22   |  |  |   | 0.57   | 
|Diluted earnings (loss) per share |  |          | (0.12  | )        |  |          | 0.20   |          |  |   | 0.20   |  |  |   | 0.51   | 

NOTE L  INTANGIBLE ASSETS

Intangible assets consist of the following:

|                     |                                |   |              |         |      |   |        |         |  
|-------------------- | ------------------------------ | - | ------------ | ------- | ---- | - | ------ | ------- | -
|                     |                                |   | December 31,
|                     |                                |   |             
|                     |                                |   | 2002         |         | 2001
|                     |                                |   |              |         |     
|                     |                                |   | (thousands) 
|Purchased technology |                                |   | 49,995       |         |      |   | 48,908 |        
|Other                |                                |   | 10,000       |         |      |   | 13,000 |        
|                     |                                |   |              |         |      |   |        |        
|                     |                                |   | 59,995       |         |      |   | 61,908 |        
|                     | Less, accumulated amortization |   |              | (43,666 | )    |   |        | (34,788 | )
|                     |                                |   |              |         |      |   |        |        
|                     |                                | $ | 16,329       |         |      | $ | 27,120 |        
|                     |                                |   |              |         |      |   |        |        

The identifiable intangible assets will continue to be amortized over
their estimated useful lives. The estimated aggregate amortization expense for
intangibles for the subsequent years is:

|                                  |  |   |             | 
|--------------------------------- |  | - | ----------- | 
|For the Years Ending December 31, |  |   |             | 
|                                  |  |   |             | 
|                                  |  |   | (thousands) | 
|2003                              |  | $ | 11,718      | 
|2004                              |  |   | 4,279       | 
|2005                              |  |   | 332         | 
|                                  |  |   |             | 
|                                  |  | $ | 16,329      | 
|                                  |  |   |             | 

NOTE M  LINES OF CREDIT AND BORROWINGS

We have a $20.0 million line of credit with a U.S. bank. Our $20.0 million
credit facility is collateralized by substantially all of our assets, bears
interest at or, in some cases, below the lenders prime rate (4.25% at December 31,
2002), and expires on August 31, 2004, if not renewed. Under the terms of
this facility, we are required to maintain certain financial ratios and meet
certain net worth and indebtedness covenants. We believe we are in compliance
with these requirements. There have been no borrowings under this credit
facility.

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NOTE N  CONVERTIBLE DEBT

On November 2, 1999 we completed a private placement of $135.0 million
aggregate principal amount at maturity of 3.25% convertible subordinated
discount notes due 2004. The notes were issued at 85.35% of their face amount
(equivalent to gross proceeds at issuance of approximately $115.2 million
before discounts and expenses). The gross proceeds at issuance before discounts
and expenses included approximately $15.2 million from the sale of notes issued
upon the initial purchasers exercise in full of their over-allotment option.

The notes are convertible at any time after January 31, 2000 into Tekelec
Common Stock, unless the notes have been previously redeemed or otherwise
purchased, at a conversion rate of 56.3393 shares per $1,000 principal amount
at maturity (approximately 7.6 million shares in total) which represents a
redemption price of $15.15 per share of Common Stock. The notes can be redeemed
by us at any time after November 2, 2002 at the redemption price together with
accrued but unpaid interest.

The notes were issued with a 14.65% discount and carry a cash interest
(coupon) rate of 3.25%, payable on May 2 and November 2 of each year,
commencing on May 2, 2000. The payment of the principal amount of the notes at
maturity together with cash interest paid over the term of the notes represents
a yield to maturity of 6.75% per year, computed on a semi-annual bond
equivalent basis. Interest expense is computed based on the accretion of the
discount, the accrual of the cash interest payment and the amortization of
expenses related to the offering of these notes on a straight-line basis, and
amounted to $9.2 million, $8.9 million and $8.7 million for 2002, 2001 and 2000, respectively.

NOTE O  COMMITMENTS AND CONTINGENCIES

We lease our office and manufacturing facilities together with certain
office equipment under operating lease agreements. Lease terms generally range
from one to ten years; certain building leases contain options for renewal for
additional periods and are subject to increases up to 10% every 24 months.

Total rent expense was $7.1 million, $6.4 million and $5.7 million for
2002, 2001 and 2000, respectively.

Minimum annual non-cancelable lease commitments at December 31, 2002 are:

|                                  |  |             |        | 
|--------------------------------- |  | ----------- | ------ | 
|For the Years Ending December 31, |  |             |        | 
|                                  |  |             |        | 
|                                  |  | (thousands)
|2003                              |  | $           | 7,620  | 
|2004                              |  |             | 7,190  | 
|2005                              |  |             | 6,051  | 
|2006                              |  |             | 6,173  | 
|2007                              |  |             | 6,325  | 
|Thereafter                        |  |             | 22,932 | 
|                                  |  |             |        | 
|                                  |  | $           | 56,291 | 
|                                  |  |             |        | 

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NOTE P  STOCK OPTIONS AND EMPLOYEE BENEFIT PLANS

We have four stock option plans with maximum terms of ten years under
which 44.0 million shares of our Common Stock have been authorized and reserved
for issuance. The terms of options granted under these option plans are
determined at the time of grant, generally vest ratably over a one- to
five-year period, and in any case the option price may not be less than the
fair market value per share on the date of grant. Both incentive stock options
and nonstatutory stock options can be issued under the option plans.

We also have an Employee Stock Purchase Plan (ESPP), with a maximum term
of ten years, the latest of which expires in the year 2006, and under which one
million shares of the Companys Common Stock have been authorized and reserved
for issuance. Eligible employees may authorize payroll deductions of up to 10%
of their compensation to purchase shares of Common Stock at 85% of the lower of
the market price per share at the beginning or end of each six-month offering
period.

A summary of the status of our stock options, as of December 31, 2002,
2001 and 2000, and the changes during the year ended on those dates are
presented below (shares in thousands):

|                                                                |                                                      |   |        |       |             |   |            |  |             |   |        |   |             |   |       |  |  |   |            |   |  |   |       |  | 
|--------------------------------------------------------------- | ---------------------------------------------------- | - | ------ | ----- | ----------- | - | ---------- |  | ----------- | - | ------ | - | ----------- | - | ----- |  |  | - | ---------- | - |  | - | ----- |  | 
|                                                                |                                                      |   | 2002   |       | 2001        |   | 2000      
|                                                                |                                                      |   |        |       |             |   |           
|                                                                |                                                      |   |        |       |             |   | Wgtd. Avg. |  |             |   |        |   | Wgtd. Avg.  |   |       |  |  |   | Wgtd. Avg.
|                                                                |                                                      |   | Shares |       | Exer. Price |   | Shares     |  | Exer. Price |   | Shares |   | Exer. Price
|                                                                |                                                      |   |        |       |             |   |            |  |             |   |        |   |            
|Outstanding at beginning of year                                |                                                      |   | 14,355 |       |             | $ | 21.17      |  |             |   | 11,600 |   |             | $ | 18.88 |  |  |   | 10,949     |   |  | $ | 10.79 | 
|Granted  price equals fair value                               |                                                      |   | 4,046  |       |             |   | 17.15      |  |             |   | 4,546  |   |             |   | 24.86 |  |  |   | 4,769      |   |  |   | 30.70 | 
|Granted  price greater than fair value                         |                                                      |   | 120    |       |             |   | 19.21      |  |             |   |       |   |             |   |       |  |  |   |           |   |  |   |       | 
|Exercised                                                       |                                                      |   | 635    |       |             |   | 4.51       |  |             |   | 1,013  |   |             |   | 9.33  |  |  |   | 2,950      |   |  |   | 8.00  | 
|Cancelled                                                       |                                                      |   | 3,335  |       |             |   | 23.61      |  |             |   | 778    |   |             |   | 24.21 |  |  |   | 1,168      |   |  |   | 18.81 | 
|                                                                |                                                      |   |        |       |             |   |            |  |             |   |        |   |             |   |       |  |  |   |            |   |  |   |       | 
|Outstanding at year-end                                         |                                                      |   | 14,551 |       |             |   | 20.18      |  |             |   | 14,355 |   |             |   | 21.17 |  |  |   | 11,600     |   |  |   | 18.88 | 
|                                                                |                                                      |   |        |       |             |   |            |  |             |   |        |   |             |   |       |  |  |   |            |   |  |   |       | 
|Options exercisable at year-end                                 |                                                      |   | 7,830  |       |             |   |            |  |             |   | 6,169  |   |             |   |       |  |  |   | 3,813      |   |  |   |       | 
|Options available for future grant                              |                                                      |   | 6,539  |       |             |   |            |  |             |   | 3,869  |   |             |   |       |  |  |   | 4,022      |   |  |   |       | 
|Weighted average fair value of options granted
during the year: |                                                      |   |        |       |             |   |            |  |             |   |        |   |             |   |       |  |  |   |            |   |  |   |       | 
|Exercise price equals fair value at grant date                  |                                                      | $ | 12.16  |       |             |   |            |  |             | $ | 17.42  |   |             |   |       |  |  | $ | 21.42      |   |  |   |       | 
|                                                                | Exercise price greater than fair value at
grant date |   |        | 10.07 |             |   |            |  |             |   |        |  |             |   |       |  |  |   |            |  |  |   |       |  | 

The following table summarizes information about stock options outstanding
at December 31, 2002 (shares in thousands):

|                |  |  |                     |        |                     |  |            |      |             |  |            |       |  |  |  |       |  |  |   |       | 
|--------------- |  |  | ------------------- | ------ | ------------------- |  | ---------- | ---- | ----------- |  | ---------- | ----- |  |  |  | ----- |  |  | - | ----- | 
|                |  |  | Options Outstanding |        | Options Exercisable
|                |  |  |                     |        |                    
|                |  |  |                     |        |                     |  | Wgtd. Avg. |      |             |  |            |       |  |  |  |       |  |  |  
|                |  |  | Number              |        | Remaining           |  | Wgtd. Avg. |      | Number      |  | Wgtd. Avg.
|Range of        |  |  | Outstanding         |        | Contractual         |  | Exercise   |      | Outstanding |  | Exercise  
|Exercise Price  |  |  | at 12/31/02         |        | Life                |  | Price      |      | at 12/31/02 |  | Price     
|                |  |  |                     |        |                     |  |            |      |             |  |           
|$ 0.75 to $3.41 |  |  |                     | 341    |                     |  |            | 2.83 |             |  | $          | 2.75  |  |  |  | 341   |  |  | $ | 2.75  | 
|3.47 to   7.09  |  |  |                     | 856    |                     |  |            | 4.43 |             |  |            | 5.22  |  |  |  | 801   |  |  |   | 5.10  | 
|8.19 to 14.08   |  |  |                     | 2,319  |                     |  |            | 6.86 |             |  |            | 10.45 |  |  |  | 1,199 |  |  |   | 10.71 | 
|14.94 to 22.00  |  |  |                     | 4,979  |                     |  |            | 7.65 |             |  |            | 18.60 |  |  |  | 2,146 |  |  |   | 18.31 | 
|22.25 to 33.24  |  |  |                     | 4,975  |                     |  |            | 7.69 |             |  |            | 25.61 |  |  |  | 2,671 |  |  |   | 25.41 | 
|34.44 to 52.19  |  |  |                     | 1,081  |                     |  |            | 7.43 |             |  |            | 40.76 |  |  |  | 672   |  |  |   | 40.97 | 
|                |  |  |                     |        |                     |  |            |      |             |  |            |       |  |  |  |       |  |  |   |      
|0.75 to 52.19   |  |  |                     | 14,551 |                     |  |            | 7.21 |             |  |            | 20.18 |  |  |  | 7,830 |  |  |   | 19.48 | 
|                |  |  |                     |        |                     |  |            |      |             |  |            |       |  |  |  |       |  |  |   |      

Statement of Financial Accounting Standards No. 123, Accounting for
Stock-Based Compensation (SFAS 123), encourages but does not require companies
to record compensation cost for stock-based employee compensation plans at fair
value for awards granted subsequent to

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December 31, 1995. We have chosen to continue to account for stock-based
compensation using the intrinsic value method prescribed in related
interpretations. However, in accordance with the disclosure only requirements
of SFAS 123, we have computed the fair value of our stock option grants using
the Black-Scholes option-pricing model with the following assumptions: (i)
dividend yield of 0%, (ii) expected volatility of 90%, 92% and 89%,
respectively, for 2002, 2001 and 2000, (iii) weighted average risk-free
interest rates of 3.7%, 4.8% and 6.5% for 2002, 2001 and 2000, respectively,
(iv) weighted average expected option lives of 4.9, 4.5 and 4.4 years for 2002,
2001 and 2000, respectively, and (v) assumed forfeiture rate of 50%, 34% and
35% for 2002, 2001 and 2000, respectively. See Note A  Stock-Based
Compensation for the proforma impacts of applying SFAS 123.

In May 2001, we amended the original terms of the stock option grants of
the Chief Executive Officer to provide that in the event of his Qualifying
Retirement (as defined in the 1994 Stock Option Plan) the exercise period of
his stock options following his termination of employment would be extended
from 90 days (as provided in the original stock option grant), to the remaining
contractual term of the stock options. In November 2002, the Chief Executive
Officer announced his plans to retire in February 2003 which would meet the
requirement for a Qualifying Retirement. In accordance with FIN 44, we recorded
a $5.3 million non-cash stock-based compensation charge to general and
administrative expense for the year ended December 31, 2002 to reflect the
difference between the stock option exercise price (average of $21.43) and the
fair market value of our common stock of $32.46 on the date of the May 2001
modification. In addition to the stock option amendment, we have agreed to pay
to the Chief Executive Officer a one-time cash severance payment of $300,000
upon his retirement and post-retirement health benefits for life with an
estimated present value of $304,000. These amounts have been fully accrued for
and reflected in general and administrative expense for the year ended December
31, 2002.

During 2002, 2001 and 2000, approximately 150,000, 165,000 and 110,000
shares, respectively, were purchased under our ESPP at weighted average
exercise prices of $6.83, $18.95 and $23.30, respectively. At December 31,
2002, 2001 and 2000, there were approximately 200, 154,000 and 119,000 shares,
respectively, available for future grants. The weighted average fair values of
ESPP shares granted in 2002, 2001 and 2000 were $3.30, $9.23 and $14.27 per
share, respectively.

We have a 401(k) tax-deferred savings plan under which eligible employees
may authorize from 2% to 50% of their compensation to be invested in
employee-elected investment funds managed by an independent trustee and under
which we may contribute matching funds of up to 50% of the employees first 12%
of payroll deductions. During 2002, 2001 and 2000, our contributions amounted
to $3.1 million, $2.7 million and $2.4 million respectively.

NOTE Q -EARNINGS PER SHARE

The following table provides a reconciliation of the numerators and
denominators of the basic and diluted per-share computations for the years
ended December 31, 2002, 2001 and 2000:

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|                                                           |  |                                      |        |               |  |           |        |  |  |   |       |  
|---------------------------------------------------------- |  | ------------------------------------ | ------ | ------------- |  | --------- | ------ |  |  | - | ----- | -
|                                                           |  | Net Income                           |        | Shares        |  | Per-Share
|                                                           |  | (Numerator)                          |        | (Denominator) |  | Amount   
|                                                           |  |                                      |        |               |  |          
|                                                           |  | (thousands except per-share amounts)
|For the Year Ended December 31, 2002:                      |  |                                      |        |               |  |           |        |  |  |   |       |  
|Basic earnings per share                                   |  | $                                    | 40,918 |               |  |           | 60,358 |  |  | $ | 0.68  |  
|Effect of Dilutive Securities  Stock
Options and Warrants |  |                                      |       |               |  |           | 1,028  |  |  |   |      |  
|                                                           |  |                                      |        |               |  |           |        |  |  |   |       |  
|Diluted earnings per share                                 |  | $                                    | 40,918 |               |  |           | 61,386 |  |  | $ | 0.67  |  
|                                                           |  |                                      |        |               |  |           |        |  |  |   |       |  
|For the Year Ended December 31, 2001:                      |  |                                      |        |               |  |           |        |  |  |   |       |  
|Basic loss per share                                       |  | $                                    | (6,899 | )             |  |           | 59,574 |  |  | $ | (0.12 | )
|Effect of Dilutive Securities  Stock
Options and Warrants |  |                                      |       |               |  |           |       |  |  |   |      |  
|                                                           |  |                                      |        |               |  |           |        |  |  |   |       |  
|Diluted loss per share                                     |  | $                                    | (6,899 | )             |  |           | 59,574 |  |  | $ | (0.12 | )
|                                                           |  |                                      |        |               |  |           |        |  |  |   |       |  
|For the Year Ended December 31, 2000:                      |  |                                      |        |               |  |           |        |  |  |   |       |  
|Basic earnings per share                                   |  | $                                    | 12,896 |               |  |           | 57,823 |  |  | $ | 0.22  |  
|Effect of Dilutive Securities  Stock
Options and Warrants |  |                                      |       |               |  |           | 6,300  |  |  |   |      |  
|                                                           |  |                                      |        |               |  |           |        |  |  |   |       |  
|Diluted earnings per share                                 |  | $                                    | 12,896 |               |  |           | 64,123 |  |  | $ | 0.20  |  
|                                                           |  |                                      |        |               |  |           |        |  |  |   |       |  

The computation of diluted number of shares excludes unexercised stock
options and warrants and potential shares issuable upon conversion of our
convertible subordinated discount notes that are anti-dilutive. The numbers of
such shares excluded were 22.3 million, 14.6 million and 8.2 million for the
years ended December 31, 2002, 2001 and 2000, respectively.

There were no transactions subsequent to December 31, 2002, which, had
they occurred prior to January 1, 2003, would have changed materially the
number of shares in the basic or diluted earnings per share computations.

NOTE R  OPERATING SEGMENT INFORMATION

The Network Systems operating segment develops, markets and sells our
Eagle signaling products based on our high capacity Eagle 5 Signaling
Application System (SAS) platform that has recently been expanded to include
TekWare and TekServer architecture, a high-density, high-speed processing
platform that is backward compatible with existing technology; the IP7 Secure
Gateway, an SS7/IP gateway for signaling in converged networks, and other IP7
convergence products; Sentinel, a complete network monitoring and revenue
assurance system; and network systems products resulting our acquisition of
IEX, including ASi 4000 Service Control Point, an advanced database server used
for the provisioning of telephony applications, and VXi Media Gateway
Controller, a controller for converged networks.

The Contact Center operating segment develops, markets and sells
software-based solutions for call centers, including TotalView Workforce
Management and TotalNet Call Routing.

As discussed in Note B  Disposition of Business, we sold NDD which was
comprised of the Network Diagnostics and the Japan Diagnostics operating
segments. NDD is reflected as a discontinued operation and accordingly the
historical operating segment data has been restated to exclude the discontinued
operation.

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Transfers between operating segments are made at prices reflecting market
conditions. The allocation of revenues from external customers by geographical
area is determined by the destination of the sale.

Our operating segments and geographical information are as follows (in
thousands):

Operating Segments

|                |                    |   |              |         |      |   |         |         |  |   |         |         | 
|--------------- | ------------------ | - | ------------ | ------- | ---- | - | ------- | ------- |  | - | ------- | ------- | 
|                |                    |   | Net Revenues
|                |                    |   |             
|                |                    |   | 2002         |         | 2001 |   | 2000   
|                |                    |   |              |         |      |   |        
|Network Systems |                    | $ | 221,492      |         |      | $ | 211,138 |         |  | $ | 219,983 |        
|Contact Center  |                    |   | 38,849       |         |      |   | 38,231  |         |  |   | 32,344  |        
|                |                    |   |              |         |      |   |         |         |  |   |         |        
|                | Total net revenues |   | $            | 260,341 |      |   | $       | 249,369 |  |   | $       | 252,327 | 
|                |                    |   |              |         |      |   |         |         |  |   |         |        

|                    |                                     |   |                               |        |      |   |         |      |   |   |         |        | 
|------------------- | ----------------------------------- | - | ----------------------------- | ------ | ---- | - | ------- | ---- | - | - | ------- | ------ | 
|                    |                                     |   | Income (Loss) From Operations
|                    |                                     |   |                              
|                    |                                     |   | 2002                          |        | 2001 |   | 2000   
|                    |                                     |   |                               |        |      |   |        
|Network Systems 1   |                                     | $ | 59,103                        |        |      | $ | 46,956  |      |   | $ | 64,364  |       
|Contact Center      |                                     |   | 15,213                        |        |      |   | 16,986  |      |   |   | 12,088  |       
|General Corporate 2 |                                     |   | (47,999                       | )      |      |   | (64,098 | )    |   |   | (53,639 | )     
|                    |                                     |   |                               |        |      |   |         |      |   |   |         |       
|                    | Total income (loss) from operations |   | $                             | 26,317 |      |   | $       | (156 | ) |   | $       | 22,813 | 
|                    |                                     |   |                               |        |      |   |         |      |   |   |         |       



---

|1 |  | Network Systems operating segment includes charges recorded in 2000 of
$2,880 for the write-down of inventory related to the IEX network switch
product line, and $2,332 to record an allowance for doubtful accounts related
to a bankruptcy filing by a one customer.
|- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| 
| 
| 
| 
|2 |  | General Corporate includes a non-recurring charge of $750 in connection with
the settlement of a legal dispute in 2000 and acquisition-related charges and
amortization of $11,200, $31,264 and $31,520 for 2002, 2001 and 2000
respectively.                          

Enterprise Wide Disclosures

The following table sets forth, for the periods indicated, revenues from
external customers by principal product line (in thousands):

|                |                                        |   |         |         |      |   |         |         |  |   |         |         | 
|--------------- | -------------------------------------- | - | ------- | ------- | ---- | - | ------- | ------- |  | - | ------- | ------- | 
|                |                                        |   | 2002    |         | 2001 |   | 2000   
|                |                                        |   |         |         |      |   |        
|Network Systems |                                        | $ | 221,492 |         |      | $ | 211,138 |         |  | $ | 219,983 |        
|Contact Center  |                                        |   | 38,849  |         |      |   | 38,231  |         |  |   | 32,344  |        
|                |                                        |   |         |         |      |   |         |         |  |   |         |        
|                | Total revenues from external customers |   | $       | 260,341 |      |   | $       | 249,369 |  |   | $       | 252,327 | 
|                |                                        |   |         |         |      |   |         |         |  |   |         |        

The following table sets forth, for the periods indicated, revenues from
external customers by geographic territory (in thousands):

|              |                                        |   |         |         |      |   |         |         |  |   |         |         | 
|------------- | -------------------------------------- | - | ------- | ------- | ---- | - | ------- | ------- |  | - | ------- | ------- | 
|              |                                        |   | 2002    |         | 2001 |   | 2000   
|              |                                        |   |         |         |      |   |        
|North America |                                        | $ | 214,493 |         |      | $ | 207,616 |         |  | $ | 199,311 |        
|Europe        |                                        |   | 26,309  |         |      |   | 9,967   |         |  |   | 24,531  |        
|Rest of World |                                        |   | 19,539  |         |      |   | 31,786  |         |  |   | 28,485  |        
|              |                                        |   |         |         |      |   |         |         |  |   |         |        
|              | Total revenues from external customers |   | $       | 260,341 |      |   | $       | 249,369 |  |   | $       | 252,327 | 
|              |                                        |   |         |         |      |   |         |         |  |   |         |        

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The following table sets forth, for the periods indicated, long-lived
assets by geographic area in which we hold assets (in thousands):

|              |                         |   |         |         |      |   |         |         | 
|------------- | ----------------------- | - | ------- | ------- | ---- | - | ------- | ------- | 
|              |                         |   | 2002    |         | 2001
|              |                         |   |         |         |     
|United States |                         | $ | 118,576 |         |      | $ | 121,967 |        
|Other         |                         |   | 857     |         |      |   | 951     |        
|              |                         |   |         |         |      |   |         |        
|              | Total long-lived assets |   | $       | 119,433 |      |   | $       | 122,918 | 
|              |                         |   |         |         |      |   |         |        

There were no customers accounting for 10% or more of the revenues in 2002
or 2000. Sales to two customers accounted for 16% and 10% of the revenues for
the year ended December 31, 2001 and included sales from both operating
segments.

NOTE S  COMMON STOCK

Warrants:At December 31, 2002 and 2001, we had warrants outstanding to
purchase an aggregate of 195,000 shares of its Common Stock, as more fully
discussed below.

In July 1997, we issued warrants to purchase a total of 360,000 shares of
our Common Stock to five directors and one corporate officer at $14.08 per
share. These warrants vest and become exercisable in 12 equal quarterly
installments beginning on September 30, 1997. During 2002 and 2001, none of
these warrants were exercised and warrants to purchase 195,000 were outstanding
at December 31, 2002 and December 31, 2001.

Restricted Stock:In February 1998, we granted a restricted stock award of
30,000 shares of our Common Stock to a director and corporate officer in
connection with the commencement of his employment. The restricted shares vest
in five equal annual installments beginning in February 1999. This award was
valued at $607,000, which is being recognized as stock-based compensation
expense over the term of the award.

In February 2001, we granted a restricted stock award of 30,000 shares of
our Common Stock to a corporate officer in connection with the commencement of
his employment. The restricted shares vest in four equal annual installments
beginning in February 2002. This award was valued at $827,000, which is being
recognized as stock-based compensation expense over the term of the award.

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NOTE T  QUARTERLY FINANCIAL SUMMARY (UNAUDITED)

|                                                                           |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |   |        |  
|-------------------------------------------------------------------------- |  | ------- | ------ | ---------------------------------- | ------ | ------ | ------ | ----- | ------ | ------ | ------ | - | ------ | - | ------ | - | ------ | -
|                                                                           |  |         |        | Quarters                          
|                                                                           |  |         |        |                                   
|                                                                           |  |         |        | First                              |        | Second |        | Third |        | Fourth
|                                                                           |  |         |        |                                    |        |        |        |       |        |       
|                                                                           |  |         |        | (thousands, except per-share data)
|For the Years Ended December 31,                                           |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|2002                                                                       |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|Revenues                                                                   |  | $       | 60,364 |                                    |        | $      | 68,010 |       |        | $      | 73,544 |   |        | $ | 58,423 |  
|Gross profit                                                               |  |         | 39,035 |                                    |        |        | 48,333 |       |        |        | 54,589 |   |        |   | 41,679 |  
|Income (Loss) from continuing
operations before
provision for income taxes |  |         | 3,698  |                                    |        |        | 7,238  |       |        |        | 14,084 |   |        |   | (966   | )
|Income (Loss) from continuing operations                                   |  |         | 2,513  |                                    |        |        | 4,735  |       |        |        | 9,324  |   |        |   | (658   | )
|Income (Loss) from discontinued
operation,
net of income taxes             |  |         | (1,192 | )                                  |        |        | (218   | )     |        |        | (1,898 | ) |        |   |       |  
|Gain on sale of discontinued operation,
net of income taxes                |  |         |       |                                    |        |        |       |       |        |        | 28,312 |   |        |   |       |  
|Net income (loss)                                                          |  |         | 1,321  |                                    |        |        | 4,517  |       |        |        | 35,738 |   |        |   | (658   | )
|Earnings (Loss) per share from
continuing
operations:                      |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        | $                                  | 0.04   |        |        | $     | 0.08   |        |        | $ | 0.15   |   |        | $ | (0.01  | )
|                                                                           |  | Diluted |        |                                    | 0.04   |        |        |       | 0.08   |        |        |   | 0.16   |   |        |   | (0.01  | )
|Earnings (Loss) per share from
discontinued
operation:                     |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        | $                                  | (0.02  | )      |        | $     |       |        |        | $ | (0.03  | ) |        | $ |       |  
|                                                                           |  | Diluted |        |                                    | (0.02  | )      |        |       | (0.01  | )      |        |   | (0.03  | ) |        |   |       |  
|Earnings per share from gain on sale of
discontinued operation:            |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        | $                                  |       |        |        | $     |       |        |        | $ | 0.47   |   |        | $ |       |  
|                                                                           |  | Diluted |        |                                    |       |        |        |       |       |        |        |   | 0.41   |   |        |   |       |  
|Earnings (Loss) per share:                                                 |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        | $                                  | 0.02   |        |        | $     | 0.08   |        |        | $ | 0.59   |   |        | $ | (0.01  | )
|                                                                           |  | Diluted |        |                                    | 0.02   |        |        |       | 0.07   |        |        |   | 0.54   |   |        |   | (0.01  | )
|Weighted average number of shares
outstanding:                             |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        |                                    | 60,143 |        |        |       | 60,197 |        |        |   | 60,407 |   |        |   | 60,687 |  
|                                                                           |  | Diluted |        |                                    | 61,776 |        |        |       | 61,180 |        |        |   | 68,793 |   |        |   | 60,687 |  
|2001                                                                       |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|Revenues                                                                   |  | $       | 67,176 |                                    |        | $      | 58,240 |       |        | $      | 58,587 |   |        | $ | 65,366 |  
|Gross profit                                                               |  |         | 44,732 |                                    |        |        | 39,636 |       |        |        | 35,595 |   |        |   | 42,616 |  
|Income (Loss) from continuing
operations before
provision for income taxes |  |         | 3,747  |                                    |        |        | (3,297 | )     |        |        | (3,772 | ) |        |   | 2,834  |  
|Income (Loss) from continuing operations                                   |  |         | 658    |                                    |        |        | (3,446 | )     |        |        | (4,583 | ) |        |   | 761    |  
|Income (Loss) from discontinued
operation,
net of income taxes             |  |         | 711    |                                    |        |        | (1,105 | )     |        |        | 2,053  |   |        |   | (1,948 | )
|Net income (loss)                                                          |  |         | 1,369  |                                    |        |        | (4,551 | )     |        |        | (2,530 | ) |        |   | (1,187 | )
|Earnings (Loss) per share from
continuing
operations:                      |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        | $                                  | 0.01   |        |        | $     | (0.06  | )      |        | $ | (0.07  | ) |        | $ | 0.01   |  
|                                                                           |  | Diluted |        |                                    | 0.01   |        |        |       | (0.06  | )      |        |   | (0.07  | ) |        |   | 0.01   |  
|Earnings (Loss) per share from
discontinued
operation:                     |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        | $                                  | 0.01   |        |        | $     | (0.02  | )      |        | $ | 0.03   |   |        | $ | (0.03  | )
|                                                                           |  | Diluted |        |                                    | 0.01   |        |        |       | (0.02  | )      |        |   | 0.03   |   |        |   | (0.03  | )
|Earnings (Loss) per share:                                                 |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        | $                                  | 0.02   |        |        | $     | (0.08  | )      |        | $ | (0.04  | ) |        | $ | (0.02  | )
|                                                                           |  | Diluted |        |                                    | 0.02   |        |        |       | (0.08  | )      |        |   | (0.04  | ) |        |   | (0.02  | )
|Weighted average number of shares
outstanding:                             |  |         |        |                                    |        |        |        |       |        |        |        |   |        |   |        |  
|                                                                           |  | Basic   |        |                                    | 59,037 |        |        |       | 59,468 |        |        |   | 59,828 |   |        |   | 59,962 |  
|                                                                           |  | Diluted |        |                                    | 62,426 |        |        |       | 59,468 |        |        |   | 59,828 |   |        |   | 59,962 |  

F-28



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For the three months ended September 30, 2002, the calculation of earnings
per share includes, for the purposes of the calculation, the add-back to net
income of $1,498 for assumed after-tax interest cost related to the convertible
debt using the if-converted method of accounting for diluted earnings per
share. The weighted average number of shares outstanding for the three months
ended September 30, 2002 includes 7,606 shares related to the convertible debt
using the if-converted method.

Typically a substantial portion of our revenues in each quarter result
from orders received in that quarter. Further, we typically generate a
significant portion of our revenues for each quarter in the last month of the
quarter. We establish our expenditure levels based on our expectations as to
future revenues, and if revenue levels were to fall below expectations this
would cause expenses to be disproportionately high. Therefore, a drop in
near-term demand would significantly affect revenues, causing a
disproportionate reduction in profits or even losses in a quarter. Our
quarterly operating results may fluctuate as a result of a number of factors,
including general economic and political conditions (such as recessions in the
U.S. or Europe), capital spending patterns of our customers, increased
competition, variations in the mix of sales, fluctuation in proportion of
foreign sales, and announcements of new products by us or our competitors.

F-29



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##### Table of Contents



REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULE

TO THE SHAREHOLDERS AND BOARD OF DIRECTORS OF TEKELEC

Our audits of the consolidated financial statements referred to in our
report dated January 29, 2003 appearing in the Annual Report to Shareholders of
Tekelec (which report and consolidated financial statements are included in
this Annual Report on Form 10-K) also included an audit of the financial
statement schedule appearing on page S-2 of this Form 10-K. In our opinion,
this financial statement schedule presents fairly, in all material respects,
the information set forth therein when read in conjunction with the related
consolidated financial statements.

/s/   PricewaterhouseCoopers LLP
Los Angeles, California
January 29, 2003

S-1



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##### Table of Contents



TEKELEC
VALUATION AND QUALIFYING ACCOUNTS AND RESERVES

|                                |  |             |       |            |  |             |       |            |  |   |       |   |  |   |       | 
|------------------------------- |  | ----------- | ----- | ---------- |  | ----------- | ----- | ---------- |  | - | ----- | - |  | - | ----- | 
|Column A                        |  | Column B    |       | Column C   |  | Column D    |       | Column E  
|                                |  |             |       |            |  |             |       |           
|                                |  |             |       |            |  | Additions   |       |            |  |   |       |   |  |  
|                                |  | Balance at  |       | Charged to |  | Deductions  |       | Balance at
|                                |  | Beginning   |       | Costs and  |  | and other   |       | End of    
|Description                     |  | of Period   |       | Expenses   |  | Adjustments |       | Period    
|                                |  |             |       |            |  |             |       |           
|                                |  | (thousands)
|Year ended December 31, 2000:   |  |             |       |            |  |             |       |            |  |   |       |   |  |   |       | 
|Allowance for doubtful accounts |  | $           | 1,478 |            |  | $           | 2,968 |            |  | $ | 159   |   |  | $ | 4,287 | 
|Product warranty                |  |             | 2,753 |            |  |             | 1,986 |            |  |   | 1,305 |   |  |   | 3,434 | 
|Inventory provision             |  |             | 2,172 |            |  |             | 4,393 |            |  |   | 3,590 |   |  |   | 2,975 | 
|                               
|Year ended December 31, 2001:   |  |             |       |            |  |             |       |            |  |   |       |   |  |   |       | 
|Allowance for doubtful accounts |  | $           | 4,287 |            |  | $           | 4,412 |            |  | $ | 3,350 |   |  | $ | 5,349 | 
|Product warranty                |  |             | 3,434 |            |  |             | 3,965 |            |  |   | 1,937 |   |  |   | 5,462 | 
|Inventory provision             |  |             | 2,975 |            |  |             | 3,448 |            |  |   | 2,096 |   |  |   | 4,327 | 
|                               
|Year ended December 31, 2002:   |  |             |       |            |  |             |       |            |  |   |       |   |  |   |       | 
|Allowance for doubtful accounts |  | $           | 5,349 |            |  | $           | 950   |            |  | $ | 1,439 | 1 |  | $ | 4,860 | 
|Product warranty                |  |             | 5,462 |            |  |             | 3,617 |            |  |   | 3,808 | 2 |  |   | 5,271 | 
|Inventory provision             |  |             | 4,327 |            |  |             | 6,177 |            |  |   | 4,780 | 3 |  |   | 5,724 | 

1  Includes $782
as a result of the disposition of NDD

2  Includes $442
as a result of the disposition of NDD

3  Includes $1,944
as a result of the disposition of NDD

S-2



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EXHIBIT INDEX

|        |       |             |  |                                                                                                                                                              |  |              |  | 
|------- | ----- | ----------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | ------------ |  | 
|        |       |             |  |                                                                                                                                                              |  | Sequentially
|Exhibit |       |             |  | Numbered                                                                                                                                                    
|Number  |       | Description |  | Page                                                                                                                                                        
|        |       |             |  |                                                                                                                                                             
|        | 10.4  |             |  | Amended and Restated 1994 Stock Option Plan, including
form of stock option agreement                                                                       
|       
|        | 10.10 |             |  | First Amendment dated December 18, 2002 to Loan
Agreement and Promissory Note between the Registrant
and Union Bank of California                           
|       
|        | 21.1  |             |  | Subsidiaries of the Registrant                                                                                                                              
|       
|        | 23.1  |             |  | Consent of PricewaterhouseCoopers LLP                                                                                                                       
|       
|        | 99.1  |             |  | Certification of Chief Executive Officer of Tekelec
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
|       
|        | 99.2  |             |  | Certification of Chief Financial Officer of Tekelec
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002