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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549



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FORM 10-Q



QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934



For
the quarterly period ended June 30, 2003



Commission
File Number: 000-26223



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TUMBLEWEED COMMUNICATIONS CORP.

(Exact name of registrant as specified in its charter)



|DELAWARE                                                       |  | 94-3336053                          
|-------------------------------------------------------------- |  | ------------------------------------
|(State of other jurisdiction of incorporation or organization) |  | (I.R.S. Employer Identification No.)



700 SAGINAW DRIVE

REDWOOD CITY, CA 94063

(Address of principal executive offices, including zip code)



(650) 216-2000

(Registrants telephone number, including area code)



---



Indicate by check mark whether the registrant (1) has filed all reports required 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 whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the
Act).    Yes ̈No  x



The number of shares of common stock outstanding as of July 31, 2003 was
40,326,262.



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SPECIAL NOTE ON FORWARD-LOOKING STATEMENTS



This Quarterly Report on Form 10-Q contains forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, which are subject to the safe harbor created by those sections. The forward-looking statements are based on our current
expectations and projections about future events. Discussions containing such forward-looking statements may be found in Managements Discussion and Analysis of Financial Condition and Results of Operations. In some cases, you can
identify forward-looking statements by terminology such as may, will, should, could, predicts, projects, potential, continue, expects,
anticipates, future, intends, plans, believes, estimates, or the negative of these terms and other comparable terminology; including, but not limited to, the following:



| |  |  | implementing our business strategy;
| | - |  | -----------------------------------



| |  |  | attracting and retaining customers;
| | - |  | -----------------------------------



| |  |  | obtaining and expanding market acceptance of the products and services we offer;
| | - |  | --------------------------------------------------------------------------------



| |  |  | forecasts of Internet usage and the size and growth of relevant markets;
| | - |  | ------------------------------------------------------------------------



| |  |  | rapid technological changes in our industry and relevant markets;
| | - |  | -----------------------------------------------------------------



| |  |  | our stock repurchase program;
| | - |  | -----------------------------



| |  |  | unanticipated benefits of the merger with Valicert;
| | - |  | ---------------------------------------------------



| |  |  | the future business, financial condition and results of operations of the combined company;
| | - |  | -------------------------------------------------------------------------------------------



| |  |  | competition in our market;
| | - |  | --------------------------



| |  |  | any projections of revenues, earnings, synergies or other financial items;
| | - |  | --------------------------------------------------------------------------



| |  |  | any statements of the plans, strategies and objectives of management for future operations;
| | - |  | -------------------------------------------------------------------------------------------



| |  |  | any statements regarding future economic conditions or performance;
| | - |  | -------------------------------------------------------------------



| |  |  | any statements relating to integration or restructuring plans;
| | - |  | --------------------------------------------------------------



| |  |  | any statements of belief; and
| | - |  | -----------------------------



| |  |  | any statements of assumptions underlying any of the foregoing.
| | - |  | --------------------------------------------------------------



These forward-looking statements are only predictions, not historical facts. These forward-looking statements involve certain risks and uncertainties, as
well as assumptions, that could cause actual results, levels of activity, performance, achievements and events to differ materially from those stated, anticipated or implied by such forward-looking statements. The factors that could contribute to
such differences include those discussed under the caption Risks And Uncertainties That You Should Consider Before Investing In Tumbleweed in section entitled Managements Discussion and Analysis of Financial Condition and
Results of Operations contained herein, as well as those discussed in our Form 10-K and other filings with the Securities and Exchange Commission. You should consider the risks factors and uncertainties under the caption Risks and
Uncertainties That You Should Consider Before Investing in Tumbleweed, among other things, in evaluating Tumbleweeds prospects and future financial performance. Before making a decision to invest in Tumbleweed, you should be aware that
the occurrence of the events described in the risk factors could harm the business, results of operations and financial condition of Tumbleweed. These forward-looking statements are made as of the date of this Quarterly Report on Form 10-Q.
Tumbleweed disclaims any obligation to update or alter these forward-looking statements, whether as a result of new information, future events or otherwise, or any obligation to explain the reasons why actual results may differ.



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TUMBLEWEED COMMUNICATIONS CORP.



INDEX



|               |  |                                                                                                                    |  | Page
|-------------- |  | ------------------------------------------------------------------------------------------------------------------ |  | ----
|               |  | Part I                                                                                                             |  |     
|               |  |                                                                                                                   
|Item 1         |  | Financial Statements (unaudited)                                                                                   |  | 3   
|               |  | Condensed Consolidated Balance Sheets as of June 30, 2003 and December 31, 2002                                    |  | 3   
|               |  | Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2003 and June 30, 2002 |  | 4   
|               |  | Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2003 and June 30, 2002           |  | 5   
|               |  | Notes to Condensed Consolidated Financial Statements                                                               |  | 6   
|Item 2         |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                              |  | 12  
|Item 3         |  | Quantitative and Qualitative Disclosures About Market Risk                                                         |  | 31  
|Item 4         |  | Controls and Procedures                                                                                            |  | 31  
|               |  |                                                                                                                   
|               |  | Part II                                                                                                            |  |     
|               |  |                                                                                                                   
|Item 1         |  | Legal Proceedings                                                                                                  |  | 31  
|Item 6         |  | Exhibits and Reports on Form 8-K                                                                                   |  | 33  
|Signatures     |  | 34                                                                                                                
|Certifications |  |                                                                                                                   



TRADEMARKS



Our registered trademarks include Tumbleweed®, Tumbleweed Communications®, Secure Envelope®, Secure Inbox®, Tumbleweed IME Integrated
Messaging Exchange®, WorldSecure®and Worldtalk®. Additional trademarks belonging to us include Tumbleweed Secure Guardian, Tumbleweed Secure Policy Gateway,
Tumbleweed Secure Staging Server, Tumbleweed Staging Server, Tumbleweed Secure Mail, Tumbleweed Secure Redirect, Tumbleweed Secure Public Network, Tumbleweed SPN, Tumbleweed Secure Archive, Tumbleweed
Secure Web, Tumbleweed Secure CRM, Tumbleweed Secure Messenger, Tumbleweed Secure Statements, Tumbleweed My Copy, Tumbleweed L2i, Tumbleweed IME
Developer, Tumbleweed IME Personalize, WorldSecure/Mailand Tumbleweed IME Alert.



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##### Table of Contents

PART IFINANCIAL INFORMATION



ITEM 1FINANCIAL STATEMENTS (unaudited)



TUMBLEWEED COMMUNICATIONS CORP. AND SUBSIDIARIES



Condensed Consolidated Balance Sheets

(in thousands)



|                                            |  | June 30, 2003 |          |   | December 31, 2002 |  
|------------------------------------------- |  | ------------- | -------- | - | ----------------- | -
|                                            |  | (unaudited)   |          |   |                   |  
|Assets                                      |  |               |          |   |                   |  
|Current Assets:                             |  |               |          |   |                   |  
|Cash and cash equivalents                   |  | $             | 25,929   |   |                   | $
|Accounts receivable, net                    |  |               | 5,796    |   |                   |  
|Other current assets                        |  |               | 1,102    |   |                   |  
|                                            |  |               |          |   |                   |  
|Total current assets                        |  |               | 32,827   |   |                   |  
|Goodwill                                    |  |               | 13,358   |   |                   |  
|Intangible assets, net                      |  |               | 4,863    |   |                   |  
|Property and equipment, net                 |  |               | 1,604    |   |                   |  
|Other assets                                |  |               | 861      |   |                   |  
|                                            |  |               |          |   |                   |  
|Total assets                                |  | $             | 53,513   |   |                   | $
|                                            |  |               |          |   |                   |  
|Liabilities and Stockholders Equity        |  |               |          |   |                   |  
|Current liabilities:                        |  |               |          |   |                   |  
|Accounts payable                            |  | $             | 1,955    |   |                   | $
|Current installments of long-term debt      |  |               | 770      |   |                   |  
|Accrued liabilities                         |  |               | 9,116    |   |                   |  
|Accrued merger-related and other expenses   |  |               | 541      |   |                   |  
|Deferred revenue                            |  |               | 8,453    |   |                   |  
|                                            |  |               |          |   |                   |  
|Total current liabilities                   |  |               | 20,835   |   |                   |  
|Deferred revenue, excluding current portion |  |               | 1,815    |   |                   |  
|Other long-term liabilities                 |  |               | 812      |   |                   |  
|                                            |  |               |          |   |                   |  
|Total liabilities                           |  |               | 23,462   |   |                   |  
|Stockholders equity:                       |  |               |          |   |                   |  
|Common stock                                |  |               | 41       |   |                   |  
|Additional paid-in capital                  |  |               | 308,763  |   |                   |  
|Treasury stock                              |  |               | (796     | ) |                   |  
|Deferred compensation expense               |  |               | (545     | ) |                   |  
|Accumulated other comprehensive loss        |  |               | (615     | ) |                   |  
|Accumulated deficit                         |  |               | (276,797 | ) |                   |  
|                                            |  |               |          |   |                   |  
|Total stockholders equity                  |  |               | 30,051   |   |                   |  
|Total liabilities and stockholders equity  |  | $             | 53,513   |   |                   | $
|                                            |  |               |          |   |                   |  



See accompanying Notes
to Condensed Consolidated Financial Statements



3



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##### Table of Contents

TUMBLEWEED COMMUNICATIONS CORP. AND SUBSIDIARIES



Condensed Consolidated Statements of Operations

(in thousands, except per share data)

(unaudited)



|                                                                                                |  | Three Months Ended June 30, |        |   | Six Months Ended June 30, |  
|----------------------------------------------------------------------------------------------- |  | --------------------------- | ------ | - | ------------------------- | -
|                                                                                                |  | 2003                        |        |   | 2002                      |  
|Revenue:                                                                                        |  |                             |        |   |                           |  
|Product revenue                                                                                 |  | $                           | 3,277  |   |                           | $
|Service revenue                                                                                 |  |                             | 2,615  |   |                           |  
|Intellectual property and other revenue                                                         |  |                             | 250    |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Total revenue                                                                                   |  |                             | 6,142  |   |                           |  
|Cost of product revenue                                                                         |  |                             | 261    |   |                           |  
|Cost of service revenue(1)                                                                      |  |                             | 968    |   |                           |  
|Amortization of intangible assets                                                               |  |                             | 317    |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Total cost of revenue                                                                           |  |                             | 1,546  |   |                           |  
|Gross profit                                                                                    |  |                             | 4,596  |   |                           |  
|Operating expenses:                                                                             |  |                             |        |   |                           |  
|Research and development(2)                                                                     |  |                             | 2,050  |   |                           |  
|Sales and marketing(3)                                                                          |  |                             | 3,261  |   |                           |  
|General and administrative(4)                                                                   |  |                             | 1,516  |   |                           |  
|Stock-based compensation                                                                        |  |                             | 15     |   |                           |  
|Impairment of goodwill                                                                          |  |                             |       |   |                           |  
|Amortization of intangible assets                                                               |  |                             | 20     |   |                           |  
|Write-off of in-process research and development                                                |  |                             | 100    |   |                           |  
|Merger-related and other expenses                                                               |  |                             | 1,887  |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Total operating expenses                                                                        |  |                             | 8,849  |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Operating loss                                                                                  |  |                             | (4,253 | ) |                           |  
|Other income, net                                                                               |  |                             | 51     |   |                           |  
|Impairment of investments                                                                       |  |                             |       |   |                           |  
|Net loss before provision for income taxes                                                      |  |                             | (4,202 | ) |                           |  
|Provision for income taxes                                                                      |  |                             | 3      |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Net loss before cumulative effect of change in accounting principle                             |  |                             | (4,205 | ) |                           |  
|                                                                                                |  |                             |        |  
|Cumulative effect of change in accounting principle                                             |  |                             |       |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Net loss                                                                                        |  | $                           | (4,205 | ) |                           | $
|                                                                                                |  |                             |        |   |                           |  
|Net loss per share before cumulative effect of change in accounting principlebasic and diluted |  | $                           | (0.13  | ) |                           | $
|Cumulative effect of change in accounting principle per sharebasic and diluted                 |  |                             |       |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Net loss per sharebasic and diluted                                                            |  | $                           | (0.13  | ) |                           | $
|                                                                                                |  |                             |        |   |                           |  
|Weighted average sharesbasic and diluted                                                       |  |                             | 31,279 |   |                           |  

---

|(1) |  | Exclusive of non-cash stock-based compensation expense of $5 and $10 for the three months ended June 30, 2003, and 2002, respectively, and $13 and $87 for the six months ended June
30, 2003, and 2002, respectively.
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) |  | Exclusive of non-cash stock-based compensation expense of $1 and $6 for the three months ended June 30, 2003, and 2002, respectively, and $6 and $29 for the six months ended June
30, 2003, and 2002, respectively.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) |  | Exclusive of non-cash stock-based compensation expense (credit) of $4 and $(395) for the three months ended June 30, 2003, and 2002, respectively, and $15 and $(264) for the six
months ended June 30, 2003, and 2002, respectively.
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(4) |  | Exclusive of non-cash stock-based compensation expense of $5 and $12 for the three months ended June 30, 2003, and 2002, respectively, and $15 and $43 for the six months ended June
30, 2003, and 2002, respectively.
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



See
accompanying Notes to Condensed Consolidated Financial Statements



4



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TUMBLEWEED COMMUNICATIONS CORP. AND SUBSIDIARIES



Condensed Consolidated Statements of Cash Flows

(in thousands)

(unaudited)



|                                                                                      |  | Six months ended June 30, |       
|------------------------------------------------------------------------------------- |  | ------------------------- | ------
|                                                                                      |  | 2003                      |       
|Cash flows from operating activities:                                                 |  |                           |       
|Net loss                                                                              |  | $                         | (6,687
|Adjustments to reconcile net loss to net cash used in operating activities:           |  |                           |       
|Stock-based compensation                                                              |  |                           | 49    
|Compensation for stock options granted below fair market value                        |  |                           | 29    
|Depreciation and amortization                                                         |  |                           | 1,044 
|Write-off of in-process research and development                                      |  |                           | 100   
|Bad debt expense                                                                      |  |                           | (64   
|Minority interest                                                                     |  |                           |      
|Impairment of goodwill                                                                |  |                           |      
|Impairment of investments                                                             |  |                           |      
|Cumulative effect of change in accounting principle                                   |  |                           |      
|Loss on disposal of property and equipment                                            |  |                           | 59    
|Other non-cash items                                                                  |  |                           |      
|Changes in operating assets and liabilities, net of effect of acquisition of Valicert |  |                           |       
|Accounts receivable                                                                   |  |                           | 59    
|Other current assets and other assets                                                 |  |                           | 933   
|Accounts payable, accrued liabilities, and other long-term liabilities                |  |                           | 263   
|Accrued restructuring                                                                 |  |                           |      
|Accrued merger-related expenses                                                       |  |                           | 541   
|Deferred revenue                                                                      |  |                           | (78   
|                                                                                      |  |                           |       
|Net cash used in operating activities                                                 |  |                           | (3,752
|Cash flows from investing activities:                                                 |  |                           |       
|Purchase of property and equipment                                                    |  |                           | (361  
|Acquisition of Valicert, net of cash acquired                                         |  |                           | 786   
|                                                                                      |  |                           |       
|Net cash provided by (used in) investing activities                                   |  |                           | 425   
|Cash flows from financing activities:                                                 |  |                           |       
|Repayments of borrowings and other long-term liabilities                              |  |                           | (79   
|Proceeds from issuance of common stock                                                |  |                           | 64    
|                                                                                      |  |                           |       
|Net cash provided by financing activities                                             |  |                           | (15   
|Effect of exchange rate fluctuation                                                   |  |                           | 61    
|                                                                                      |  |                           |       
|Net decrease in cash and cash equivalents                                             |  |                           | (3,281
|Cash and cash equivalents, beginning of period                                        |  |                           | 29,210
|                                                                                      |  |                           |       
|Cash and cash equivalents, end of period                                              |  | $                         | 25,929
|                                                                                      |  |                           |       
|                                                                                      |  |                          
|Supplemental disclosures of cash flow information:                                    |  |                           |       
|Cash paid during the period for interest                                              |  |                           |      
|                                                                                      |  |                           |       



See accompanying Notes
to Condensed Consolidated Financial Statements



5



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##### Table of Contents

TUMBLEWEED COMMUNICATIONS CORP. AND SUBSIDIARIES



Notes to Condensed Consolidated Financial Statements



(1) Organization



The
condensed consolidated financial statements included herein have been prepared by Tumbleweed Communications Corp. (Tumbleweed or we) without audit, pursuant to the rules and regulations of the Securities and Exchange
Commission (SEC). Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and
regulations. These condensed consolidated financial statements should be read in conjunction with our audited financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2002, filed with
the SEC on March 20, 2003, including any amendments to our Annual Report filed with the SEC.



The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include normal, recurring adjustments) which are, in the opinion of management, necessary to state fairly the
financial position of Tumbleweed and its subsidiaries as of June 30, 2003, and the results of operations and cash flows for the three and six months ended June 30, 2003 and 2002. The results for the three and six months ended June 30, 2003 and 2002
are not necessarily indicative of the results expected for the full fiscal year.



The accompanying consolidated condensed financial statements include the accounts of Tumbleweed and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. The
results of operations of our wholly-owned subsidiary, Valicert, Inc. (Valicert), have been included commencing June 23, 2003, the effective date of the acquisition.



(2) Stock-Based Compensation



We account for our stock-based compensation arrangements for employees using the intrinsic value method pursuant to Accounting Principles Board Opinion
(APB) 25, Accounting for Stock-Based Compensation. As such, compensation expense is recorded for fixed plan stock options when the fair value of the underlying common stock on the date of grant exceeds the stock option exercise price or the
purchase price for issuance or sales of common stock. Expense associated with stock-based compensation is being amortized on an accelerated basis over the vesting period of the individual award consistent with the method described in Financial
Accounting Standards Board (FASB) Interpretation 28. In the three and six months ended June 30, 2003, we recorded deferred stock compensation expense of $528,000 for the difference at the effective date of acquisition of Valicert between
the exercise price and the fair value of the common stock underlying the unvested options assumed upon the acquisition. We recognized amortization of deferred stock compensation expense of approximately $15,000 and $(367,000), in the three months
ended June 30, 2003 and 2002, respectively, and approximately $49,000 and $(105,000), in the six months ended June 30, 2003 and 2002, respectively. The credit to stock-based compensation expense in the three and six months ended June 30, 2002 was
the result of the termination of certain employees whose options had not yet vested, in excess of continued amortization.



Had compensation expense for our stock-based compensation plan been determined consistent with the fair value approach set forth in SFAS 123,
Accounting for Stock-Based Compensation, our net losses for the three and six months ended June 30, 2003 and 2002, respectively, would have been as follows (in thousands, except per share amounts):



|                                                                                                              |  | Three Months Ended June 30, |        |   | Six Months Ended June 30, |  
|------------------------------------------------------------------------------------------------------------- |  | --------------------------- | ------ | - | ------------------------- | -
|                                                                                                              |  | 2003                        |        |   | 2002                      |  
|Net loss as reported                                                                                          |  | $                           | (4,205 | ) |                           | $
|Add: Stock-based compensation expense (credit) included in net loss                                           |  |                             | 15     |   |                           |  
|Less: Total stock-based compensation expense (credit) determined under fair value based method for all awards |  | $                           | (535   | ) |                           | $
|                                                                                                              |  |                             |        |   |                           |  
|Net loss pro forma                                                                                            |  | $                           | (4,725 | ) |                           | $
|Basic and diluted net loss per share as reported                                                              |  | $                           | (0.13  | ) |                           | $
|Basic and diluted net loss per share pro forma                                                                |  | $                           | (0.15  | ) |                           | $
|                                                                                                              |  |                             |        |   |                           |  



6



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##### Table of Contents

For purposes of computing pro forma net loss, the fair value of each option grant and stock purchases
under our employee stock purchase plan is estimated on the date of grant using a Black-Scholes option pricing model. Our employee stock purchase plan was discontinued in 2002. The assumptions used to value the option grants and purchase rights are
stated as follows:



|                        |  | Three Months Ended June 30, |   |  | Six Months Ended June 30, |  
|----------------------- |  | --------------------------- | - |  | ------------------------- | -
|                        |  | 2003                        |   |  | 2002                      |  
|Stock options:          |  |                             |   |  |                           |  
|Expected life           |  | 4.0 years                   |   |  | 4.0 years                 |  
|Volatility              |  | 141                         | % |  | 151                       | %
|Risk-free interest rate |  | 2.17                        | % |  | 4.11                      | %
|Dividend yield          |  | 0                           | % |  | 0                         | %
|                        |  |                             |   | 
|Purchase plan options:  |  |                             |   |  |                           |  
|Expected life           |  |                            |   |  | 0.5 year                  |  
|Volatility              |  |                            |   |  | 86                        | %
|Risk-free interest rate |  |                            |   |  | 1.91                      | %
|Dividend yield          |  |                            |   |  | 0                         | %
|                        |  |                             |   |  |                           |  



(3) Net Loss Per Share



Basic and diluted net loss per common share are presented
in conformity with SFAS 128, Earnings Per Share, for all periods presented. In accordance with SFAS 128, basic net loss per common share has been computed using the weighted average number of shares of common stock outstanding during the
period, less shares subject to repurchase.



The following table
presents the calculation of basic and diluted net loss per share (in thousands, except per share amounts):



|                                                                                                |  | Three Months Ended June 30, |        |   | Six Months Ended June 30, |  
|----------------------------------------------------------------------------------------------- |  | --------------------------- | ------ | - | ------------------------- | -
|                                                                                                |  | 2003                        |        |   | 2002                      |  
|Net loss before cumulative effect of change in accounting principle                             |  | $                           | (4,205 | ) |                           | $
|Cumulative effect of change in accounting principle                                             |  |                             |       |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Net loss                                                                                        |  | $                           | (4,205 | ) |                           | $
|Basic and diluted:                                                                              |  |                             |        |   |                           |  
|Weighted average shares of common stock outstanding                                             |  |                             | 31,279 |   |                           |  
|Shares of restricted stock subject to repurchase                                                |  |                             |       |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|                                                                                                |  |                             |        |  
|Weighted average shares used in computing basic and diluted net loss per common share           |  |                             | 31,279 |   |                           |  
|Net loss per share before cumulative effect of change in accounting principlebasic and diluted |  | $                           | (0.13  | ) |                           | $
|Cumulative effect of change in accounting principle per sharebasic and diluted                 |  |                             |       |   |                           |  
|                                                                                                |  |                             |        |   |                           |  
|Net loss per sharebasic and diluted                                                            |  | $                           | (0.13  | ) |                           | $
|                                                                                                |  |                             |        |   |                           |  



7



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We exclude potentially dilutive securities from our diluted net loss per share computation when their
effect would be antidilutive to net loss per share amounts. The following potential common shares were excluded from our net loss per share computation (in thousands):



|                                                                                                                                                                                                         |  | Three Months EndedJune 30, |  | Six Months Ended June 30,
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------------- |  | -------------------------
|                                                                                                                                                                                                         |  | 2003                       |  | 2002                     
|Warrants and options for which the exercise price was less than the average fair market value of our common stock during the
period but were excluded as inclusion would decrease our net loss per share |  | 2,099                      |  | 772                      
|Warrants and options excluded due to the exercise price exceeding the average fair market value of our common stock during the
period                                                                    |  | 6,620                      |  | 8,974                    
|Common shares excluded as the common stock is subject to repurchase at the original purchase price                                                                                                       |  |                           |  |                         
|                                                                                                                                                                                                         |  |                            |  |                          
|Total potential shares of common stock excluded from diluted net loss per share                                                                                                                          |  | 8,719                      |  | 9,746                    



(4) Business Combination



On June 23, 2003, Tumbleweed acquired Valicert, which
develops and licenses secure Internet communications and identity validation software for file transfer, financial messaging, and business process integration. The merger was entered into to combine the two companies into a single, more competitive
industry participant with increased revenue opportunities and a reduced cost structure. Since June 23, 2003, Valicerts results of operations have been included in our condensed consolidated financial statements. The acquisition was accounted
for using the purchase method of accounting and accordingly, the purchase price was allocated to the assets acquired and liabilities assumed based on their estimated fair values on the acquisition date. The purchase price of $17.0 million consisted
of an exchange of 9,713,634 shares of our common stock with a fair value of $13.0 million based on the average fair value of Tumbleweeds stock two days before and two days after the announcement date of February 18, 2003, assumed stock options
with a fair value of $1.7 million, severances for former Valicert employees of $299,000, and other acquisition-related costs of $2.0 million, consisting primarily of payments for investment banking fees, legal fees, financial printing fees,
accounting fees, and proxy mailing fees.



The following is a
summary of the allocation of the purchase price in the acquisition of Valicert (in thousands):



|Net tangible liabilities              |  | $ | (1,647 | )
|------------------------------------- |  | - | ------ | -
|Core/developed technology             |  |   | 2,600  |  
|Maintenance agreements                |  |   | 700    |  
|Customer base and reseller agreements |  |   | 1,400  |  
|Trademarks and tradenames             |  |   | 200    |  
|In-process research and development   |  |   | 100    |  
|Purchases orders (license)            |  |   | 300    |  
|Goodwill                              |  |   | 13,358 |  
|Total                                 |  | $ | 17,011 |  
|                                      |  |   |        |  



The purchase price
allocation has not been finalized with regards to acquisition-related costs and may be reallocated in the future.



Intangible assets relating to core/developed technology, maintenance agreements, customer base and reseller agreements, trademarks and tradenames,
in-process research and development, and purchases orders (license) relating to the acquisition of Valicert were recorded based on a valuation. An intangible asset relating to purchases orders (license) were amortized in full during the three months
ended June 30, 2003. An intangible asset relating to in-process research and development was written off in full during the three months ended June 30, 2003. The remaining intangible assets will be amortized over their estimated useful lives of
three to five years.



Goodwill represents the excess of the
purchase price over the fair value of tangible and identified intangible assets. In accordance with the provisions of SFAS 142, Goodwill and Other Intangible Assets, we will not amortize the goodwill acquired in the Valicert acquisition, but
instead, will review our goodwill balance in the future to determine if our goodwill asset has been impaired. Any future impairment loss related to the goodwill recorded in connection with the acquisition of Valicert will not be deductible by
Tumbleweed for federal income tax purposes.



Pro Forma
Results (Unaudited)



The following unaudited pro forma
summary presents Tumbleweeds consolidated results of operations for the six months ended June 30, 2003 and 2002 as if the acquisition of Valicert had been consummated at the beginning of the earliest period. The pro forma consolidated results
of operations include certain pro forma adjustments, including amortization of intangible assets, amortization of deferred compensation and the elimination of charges for merger-related and other expenses in the six months ended June 30, 2003. The
pro forma results do not give effect to the deferred revenue adjustment on revenue as the adjustment is directly related to the merger and the effect is non-recurring. Under the purchase method of accounting, Valicerts deferred revenue related
to



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support and maintenance for perpetual license agreements in which payment had been received or was legally due and payable was reduced by $1.0 million to the
fair value of the related support and maintenance obligation as of June 30, 2003. Such adjustment will be reflected in the post-merger statements of operations of the combined company and will have the effect of reducing the amount of revenue the
combined company will recognize in periods subsequent to the merger compared to the amount of revenue Valicert would have recognized in the same period absent the merger.



Pro forma results for the three and six months ended June 30, 2003 and 2002 are as follows (in thousands, except per share
amounts):



|                                                                                                                                             |  | Three Months Ended June 30, |        |   | Six Months Ended June 30, |  
|-------------------------------------------------------------------------------------------------------------------------------------------- |  | --------------------------- | ------ | - | ------------------------- | -
|                                                                                                                                             |  | 2003                        |        |   | 2002                      |  
|Revenues                                                                                                                                     |  | $                           | 9,609  |   |                           | $
|Net loss before gain (loss) from discontinued operations and cumulative effect of change in accounting principle                             |  | $                           | (5,364 | ) |                           | $
|Gain (loss) from discontinued operations                                                                                                     |  |                             |       |   |                           |  
|Cumulative effect of change in accounting principle                                                                                          |  |                             |       |   |                           |  
|                                                                                                                                             |  |                             |        |   |                           |  
|Net loss                                                                                                                                     |  | $                           | (5,364 | ) |                           | $
|Net loss per share before gain (loss) from discontinued operations and cumulative effect of change in accounting
principlebasic and diluted |  | $                           | (0.13  | ) |                           | $
|Gain (loss) from discontinued operations per sharebasic and diluted                                                                         |  |                             |       |   |                           |  
|Cumulative effect of change in accounting principle per sharebasic and diluted                                                              |  |                             |       |   |                           |  
|Net loss per sharebasic and diluted                                                                                                         |  | $                           | (0.13  | ) |                           | $
|                                                                                                                                             |  |                             |        |   |                           |  



The pro forma results
are not necessarily indicative of those that would have actually occurred had the acquisition taken place at the beginning of the periods presented. Pro forma results for the three and six months ended June 30, 2003, include merger-related and other
expenses of $1.9 million.



Merger-related and other
expenses



Merger-related and other expenses of $1.9
million for the three and six months ended June 30, 2003, consist of $891,000 of severances for Tumbleweed employees terminated in connection with the Valicert acquisition and a $996,000 charge related to anticipated losses on an operating lease.
The operating lease was assumed during the acquisition of Interface, Inc. in 2000 and covers approximately 13,000 square feet of office space in Slough, United Kingdom. The lease is for a term ending in 2020 with quarterly rent payments of
approximately $65,000. This office space had been subleased to a tenant who was providing us with quarterly rent payments of approximately $65,000 until the sublease was terminated effective July 2003. Anticipated future sublease rental income is
not expected to cover the rent expense due to a weak office rental market in and around Slough.



Severances of $350,000 were paid in the three months ended June 30, 2003 to Tumbleweed employees terminated in connection with the Valicert acquisition,
leaving accrued merger-related expenses of $541,000 at June 30, 2003. These severances will be paid over the next 12 months. Anticipated losses on the operating lease of $996,000 are expected to be paid over the life of the lease, which ends in
2020. The accrual for the anticipated losses on the operating lease are included in our accrued liabilities and in our other long-term liabilities balances on our balance sheet at June 30, 2003.



We expect to continue to incur merger-related and other expenses in the
second half of 2003 as we incur costs related to the integration of Tumbleweed and Valicert.



(5) Goodwill Impairment



We adopted the provisions of SFAS 142 on January 1, 2002. In connection with SFAS 142s transitional goodwill impairment evaluation, we assessed whether there was an indication that goodwill recorded in connection with our acquisition
of Tumbleweed Communications KK (TKK), our majority-owned subsidiary in Japan, was impaired as of the date of adoption. To accomplish this, we determined the carrying value of our reporting unit by assigning our assets and liabilities,
including the existing goodwill and intangible assets, to our reporting unit as of the date of adoption. As our TKK reporting units carrying amount exceeded its fair value, indicating that TKKs goodwill might be impaired, we performed
the second step of the transitional impairment test. In the second step, we compared the implied fair value of TKKs goodwill, determined by allocating TKKs fair value to all of its assets (recognized and unrecognized) and liabilities to
its carrying amount, both of which were



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measured as of the date of adoption. A transitional impairment loss of $974,000 was recognized as the cumulative effect of a change in accounting principle
in our consolidated statement of operations.



During the six
months ended June 30, 2002, TKK experienced a sustained decline in operations. As a result, we reevaluated our future prospects in Japan and decided to transition to an indirect sales distribution model in Japan. As of June 30, 2002, we determined
that our goodwill was impaired and wrote-off the $5.7 million remainder of the goodwill balance. During the three months ended September 30, 2002, we began the liquidation of TKK. As a result of the liquidation of TKK, during the three months ended
September 30, 2002, we recorded an operating expense of $377,000 related to the write-off of the remaining net assets of TKK and our eighty percent equity position in TKK. TKK ceased operations in August 2002 and formally declared bankruptcy in
December 2002.



(6) Comprehensive Loss



Comprehensive loss includes our net loss as well as foreign currency
translation adjustments, recorded net of tax. Comprehensive loss for the three months and six months ending June 30, 2003 and 2002, respectively, is as follows (in thousands):



|                                                          |  | Three Months Ended June 30, |        |   | Six Months Ended June 30, |  
|--------------------------------------------------------- |  | --------------------------- | ------ | - | ------------------------- | -
|                                                          |  | 2003                        |        |   | 2002                      |  
|Net loss                                                  |  | $                           | (4,205 | ) |                           | $
|Other comprehensive income (loss)translation adjustments |  |                             | (96    | ) |                           |  
|                                                          |  |                             |        |   |                           |  
|Comprehensive loss                                        |  | $                           | (4,301 | ) |                           | $
|                                                          |  |                             |        |   |                           |  



(7) Segment Information



As defined by SFAS 131, Disclosure About Segments of
an Enterprise and Related Information, our chief operating decision-makers are our Chief Executive Officer and our Chief Operating Officer. These officers review financial information presented on a consolidated basis accompanied by
disaggregated information about revenue by geographic region for purposes of making operating decisions and assessing financial performance. The consolidated financial information reviewed is the information presented in the accompanying condensed
consolidated statement of operations. We operate in a single reporting segment as our three operating segments, based on geographic regions, have similar economic characteristics.



Revenue information regarding operations in the different geographic regions is as follows (in thousands):



|              |  | Three Months Ended June 30, |       | Six Months Ended June 30,
|------------- |  | --------------------------- | ----- | -------------------------
|              |  | 2003                        |       | 2002                     
|North America |  | $                           | 5,893 |                          
|Europe        |  |                             | 225   |                          
|Asia          |  |                             | 24    |                          
|              |  |                             |       |                          
|Total         |  | $                           | 6,142 |                          
|              |  |                             |       |                          



Substantially all of
our long-lived assets are located in the United States.



(8) Contingencies



In July, 2000, three
complaints were filed by David H. Zimmer, Congressional Securities, Inc. and others against Interface Systems, Inc. (a company Tumbleweed acquired in 2000) and various additional defendants, including Interfaces prior president and chief
executive officer, Robert A. Nero. Plaintiffs complaint currently seeks compensatory damages for losses resulting from not selling their Interface stock from March 14, 2000 to the end of March 2000 and for losses from purchases of Interface
stock from March 14, 2000 through April 12, 2000. In March 2003, the court dismissed all claims against Interface and dismissed all claims against Mr. Nero, except a breach of fiduciary duty claim to the extent that claim arises from Michigan common
law. In April 2003, Mr. Nero filed an answer and a counterclaim against Mr. Zimmer and Congressional Securities, Inc. seeking contribution and indemnity. In June 2003, Mr. Nero filed a motion asking the Court to grant summary judgment in his favor.
Because Mr. Nero and Interface are parties to an indemnification agreement, Interface may incur vicarious liability if and to the extent that the court awards damages against Mr. Nero in this lawsuit. The accompanying financial statements do not
include a reserve for any costs for damages, if any, that might result from this uncertainty as a loss is not probable or estimable. An adverse outcome could significantly harm Tumbleweeds business and operating results.



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In December 2001, certain plaintiffs filed a class action lawsuit in the United States District Court for
the Southern District of New York on behalf of purchasers of the common stock of Valicert, Inc. (a company Tumbleweed acquired in June 2003), alleging violations of federal securities laws. In re Valicert, Inc. Initial Public Offering Securities
Litigation, No. 01-CV-10889 (SAS) (S.D.N.Y.), related to In re Initial Public Offering Securities Litigation, No. 21 MC 92 (SAS). The operative amended complaint is brought on purported behalf of all persons who purchased Valicert common stock from
the date of its July 27, 2000 initial public offering through December 6, 2000. It names as defendants Valicert, its former chief executive officer, its chief financial officer (the Valicert Defendants), as well as an investment banking
firm that served as an underwriter for the IPO. The complaint alleges liability under Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, on the grounds that the registration
statement for the IPO did not disclose that: (1) the underwriter agreed to allow certain customers to purchase shares in the IPO in exchange for excess commissions to the paid to the underwriter; and (2) the underwriter arranged for certain
customers to purchase additional shares in the aftermarket at predetermined prices. The complaint also appears to allege that false or misleading analyst reports were issued. The complaint does not claim any specific amount of damages. Similar
allegations have been made in lawsuits relating to more than 300 other initial public offerings conducted in 1999 and 2000, all of which have been consolidated for pretrial purposes. In February 2003, the Court issued a ruling on all
defendants motions to dismiss, denying Valicerts motion to dismiss the claims under the Securities Act of 1933, but granting Valicerts motion to dismiss the claims under the Securities Exchange Act of 1934.



In June 2003, Valicert accepted a settlement proposal presented to all issuer
defendants in this case. Under the proposed settlement, the plaintiffs will dismiss and release all claims against the Valicert Defendants in exchange for a contingent payment guaranty by the insurance companies collectively responsible for insuring
the issuers in all the consolidated cases, and the assignment or surrender of control to the plaintiffs of certain claims the issuer defendants may have against the underwriters. Under the guaranty, the insurers will be required to pay the amount,
if any, by which $1 billion exceeds the aggregate amount ultimately collected by the plaintiffs from the underwriter defendants in all of the cases. If the plaintiffs fail to recover $1 billion and payment is required under the guaranty, Valicert
would be responsible to pay its pro rata portion of the shortfall, up to the amount of the deductible retention under its insurance policy, which is $500,000. The timing and amount of payments that Valicert could be required to make under the
proposed settlement will depend on several factors, principally the timing and amount of any payment required by the insurers pursuant to the $1 billion guaranty. The proposed settlement is subject to approval of the Court, which cannot be assured.
The accompanying consolidated condensed financial statements do not include a reserve for any potential loss, as we do not consider a loss to be probable at this time.



In September 2002, we received a letter from Entrust, Inc. indicating that we may be interested in licensing the technology
covered by U.S. Patent No. 6,393,568, Encryption and Decryption System and Method with Content Analysis Provision, issued to Entrust. In October 2002, we sent a letter to Entrust indicating that Entrust may be interested in licensing the technology
covered by four patents issued to Tumbleweed, namely, U.S. Patent Nos. 6,061,448, Method & System For Dynamic Server Document Encryption, 6,119,137, Distributed Dynamic Document Conversion Server, 6,151,675, Method & Apparatus For Effecting
Secure Document Format Conversion, and 6,470,086 Method & Apparatus For Effecting Secure Document Format Conversion. In February 2003, we received a letter from Entrust indicating that we may have an interest in three additional patents issued
to Entrust: U.S. Patent Nos. 6,229,894, Method and Apparatus for Access to User-Specific Encryption Information, 6,256,733, Access and Storage of Secure Group Communication Cryptographic Keys, and 6,266,420, Method and Apparatus for Secure Group
Communications.



We believe we do not infringe any valid
Entrust patent. If we were to conclude based on additional information that some element of our processes are or might be covered by a valid Entrust patent, we might seek to negotiate and obtain a license from Entrust. If we were unwilling or unable
to obtain a license from Entrust, we would remain subject to potential liability for patent infringement. Although we will contest any lawsuit by Entrust vigorously, we cannot make assurances that we will prevail if Entrust were to sue us for
infringement of any of the Entrust patents. If any portions of our products were found to be infringing a valid Entrust patent, then we would likely be unable to continue to offer those portions of our products found to be infringing. We could also
then be required to pay damages for past infringing use, possibly attorneys fees, and possibly treble damages. This could have a material adverse effect on our business prospects, financial condition, results of operations, and cash flows. An
estimate cannot be made of the amount of any potential loss related to the Entrust patent, and therefore the accompanying consolidated condensed financial statements do not include a reserve for any potential loss.



In June 2003, Tumbleweed was served with a summons and complaint with respect
to a lawsuit filed in the United States District Court for the Southern District of Florida, alleging the violation of federal and state securities laws, purportedly on behalf of persons who acquired the common stock of Tumbleweed (other than
purchasers of Tumbleweeds initial public offering) from August 6, 1999 to October 18, 2000. An adverse outcome could harm Tumbleweeds business and operating results. Moreover, the costs in defending this lawsuit could harm future
operating results. The accompanying consolidated condensed financial statements do not include a reserve for any potential loss, as we do not consider a loss to be probable at this time.



All costs incurred as a result of these legal proceedings and claims are charged to expense as incurred.



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Tumbleweed indemnifies its customers from third party claims of intellectual property infringement
relating to the use of its products. Historically, costs related to these guarantees have not been significant and Tumbleweed is unable to estimate the potential impact of these guarantees on its future results of operations.



(9) Recent Accounting Pronouncements



In June 2001, the FASB issued SFAS 143, Accounting for Asset Retirement
Obligations, which addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. The standard applies to legal obligations associated with the
retirement of long-lived assets that result from the acquisition, construction, development, or normal use of the asset. SFAS 143 requires that the fair value of a liability for an asset retirement obligation be recognized in the period in which it
is incurred if a reasonable estimate of fair value can be made. We adopted the provisions of SFAS 143 as of January 1, 2003. The adoption of SFAS 143 did not have a material impact on our financial position or results of operations.



In June 2002, the FASB issued SFAS 146, Accounting for Costs Associated
with Exit or Disposal Activities, which addresses financial accounting and reporting for costs associated with an exit or disposal activity. SFAS 146 nullifies Emerging Issues Task Force (EITF) Issue 94-3, Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring). SFAS 146 requires that a liability be recognized for those costs only when the liability is incurred, that is, when it meets
the definition of a liability in the FASBs conceptual framework. In contrast, under EITF Issue 94-3, a company recognized a liability for an exit cost when it committed to an exit plan. SFAS 146 also established fair value as the objective for
initial measurement of liabilities related to exit or disposal activities. SFAS 146 is effective for exit or disposal activities initiated after December 31, 2002. The adoption of SFAS 146 did not have a material impact on our financial position or
results of operations.



In November 2002, the EITF reached a
consensus on Issue 00-21 (EITF 00-21), Revenue Arrangements with Multiple Deliverables. EITF 00-21 addresses certain aspects of the accounting by a vendor for arrangements under which the vendor will perform multiple revenue-generating
activities. We are required to adopt the provisions of EITF 00-21 as of January 1, 2004. We do not expect the adoption of EITF 00-21 to have a material impact on our financial position or results of operations.



In November 2002, the FASB issued FASB Interpretation (FIN) 45,
Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, which clarifies disclosure and recognition/measurement requirements related to certain guarantees. The disclosure
requirements are effective for financial statements issued after December 15, 2002 and the recognition/measurement requirements are effective on a prospective basis for guarantees issued or modified after December 31, 2002. We adopted the disclosure
provisions of FIN 45 effective December 31, 2002, and the recognition/measurement requirements of FIN 45 did not have an impact on our financial position or results of operations for the three months and six months ended June 30, 2003.



In December 2002, the FASB issued SFAS 148, Accounting for Stock-Based
CompensationTransition and Disclosure. SFAS 148 amends SFAS 123, Accounting for Stock-Based Compensation, to provide alternative methods of transition to SFAS 123s fair value method of accounting for stock-based employee
compensation. SFAS 148 also amends the disclosure provisions of SFAS 123 and APB Opinion 28, Interim Financial Reporting, to require disclosure of the effects of an entitys accounting policy with respect to stock-based employee
compensation on reported net income and earnings per share in annual and interim financial statements. While SFAS 148 does not amend SFAS 123 to require companies to account for employee stock options using the fair value method, the disclosure
provisions of SFAS 148 are applicable to all companies with stock-based employee compensation, regardless of whether they account for that compensation using the fair value method of SFAS 123 or the intrinsic value method of APB Opinion 25. As
allowed by SFAS 123, we have elected to continue to utilize the accounting method prescribed by APB Opinion 25 and have adopted the disclosure requirements of SFAS 123 and SFAS 148 as of December 31, 2002.



In May 2003, the FASB issued SFAS 150, Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity. This statement establishes standards for how an entity that issued a financial instrument, classifies and measures in its statement of financial position certain financial
instruments with characteristics of both liabilities and equity. We will adopt SFAS 150 on July 1, 2003. We do not expect that the adoption of SFAS 150 will have an impact on our financial position or results of operations.



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



The following discussion should be read in conjunction with the consolidated condensed financial statements and the accompanying notes to this
Quarterly Report on Form 10-Q and Tumbleweeds Annual Report on Form 10-K for 2002 filed with the SEC, including any amendments to our Annual Report filed with the SEC, as well as Managements Discussion and Analysis of Financial Condition
and Results of Operations included therein. The following discussion contains forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in the forward-looking
statements. Factors that could cause or contribute to these differences include, but are not limited to, those discussed below and those listed under Risks and Uncertainties That You Should Consider Before Investing In Tumbleweed.



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Overview



Tumbleweed is a leading provider of mission-critical Internet communications software products for enterprises and government. Tumbleweeds solutions
are used by companies when e-mail, file transfer or Web communications are mission-critical. By making Internet communications secure, reliable and automated, Tumbleweeds products help customers significantly reduce their cost of doing
business.



Tumbleweed has 600 enterprise customers who use our
products to connect with over ten thousand corporations and millions of end-users. Tumbleweeds market focus is in the financial services, healthcare and insurance, government and enterprise markets. Tumbleweed customers include ABN Amro Bank,
Catholic Healthcare West, Bank of America Securities, JP Morgan Chase & Co., The Regence Group (Blue Cross/Blue Shield), Society for Worldwide Interbank Financial Telecommunication (SWIFT), St. Lukes Episcopal Healthcare System, the US
Food and Drug Administration, and the US Navy and Marine Corps.



Tumbleweeds software solutions are:



| |  |  | e-mail firewall to protect companies from spam junk e-mail and to implement content filtering for regulatory compliance
| | - |  | -------------------------------------------------------------------------------------------------------------------------



| |  |  | secure file transfer for automating the transfer of payments files, EDI files, check images and other business-critical information between corporations, banks and processors
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | secure e-mail and document delivery for protecting confidential information such as patient records and financial statements
| | - |  | ----------------------------------------------------------------------------------------------------------------------------



| |  |  | identity validation to authorize users to access secure computing systems and to digitally sign files and transactions
| | - |  | ----------------------------------------------------------------------------------------------------------------------



On June 23, 2003, we completed the acquisition of Valicert, Inc.
(Valicert). The acquisition was accounted for using the purchase method of accounting and accordingly, the purchase price was allocated to the assets acquired and liabilities assumed based on their estimated fair values on the
acquisition date. Since June 23, 2003, Valicerts results of operations have been included in our consolidated condensed financial statements. The acquisition was accounted for using the purchase method of accounting and accordingly, the
purchase price was allocated to the assets acquired and liabilities assumed based on their estimated fair values on the acquisition date. The purchase price of $17.0 million consisted of an exchange of 9,713,634 shares of our common stock with a
fair value of $13.0 million, assumed stock options with a fair value of $1.7 million, severances for former Valicert employees of $299,000, and other acquisition-related costs of $2.0 million consisting primarily of payments for investment banking
fees, legal fees, financial printing fees, accounting fees, and proxy mailing fees.



In August 2002, Tumbleweeds Board of Directors approved a program to repurchase up to $10.0 million of our common stock. Although we are not required to purchase any stock under the program, we may purchase
shares either in the open market or in negotiated transactions as market and business conditions warrant. The timing and amount of any shares repurchased is determined by our management based on an evaluation of market conditions and other factors.
The purchases are made at current market prices or in negotiated transactions off the market and are funded using our working capital. The repurchase program extends over a twelve month period and may be suspended or discontinued at any time. In
October 2002, we adopted a 10b5-1 plan, which we renewed in April 2003. This plan allows us to repurchase our stock under our repurchase program during a period in which we are in possession of material non-public information, provided we previously
communicated repurchase instructions to our broker at a time when we were not in possession of such material non-public information. The 10b5-1 plan does not increase the aggregate $10.0 million amount authorized for repurchase purposes. During the
year ended December 31, 2002, we repurchased 717,500 shares of our common stock for $796,000. We did not repurchase any shares of our common stock during the three and six months ended June 30, 2003.



During 2002, Tumbleweed transitioned from direct sales operations to indirect
sales operations in Europe due to sustained declines in the operating results. We are winding down our direct sales operations in Europe and have signed a reseller agreement with a distributor to sell our products and provide technical support to
our customers in Europe.



On May 15, 2000, Tumbleweed
repurchased from Hikari Tsushin 5% of the outstanding stock of Tumbleweed Communications KK (TKK), for a price of approximately $645,000. As a result of this transaction, we owned a controlling interest of TKK and began accounting for
TKK under the consolidation method effective April 1, 2000. On August 29, 2000, we repurchased an additional 25% of the outstanding shares of TKK, increasing our ownership position to 80%. During the six months ended June 30, 2002, TKK experienced a
sustained decline in operations. As a result, we reevaluated our future prospects in Japan and decided to transition to an indirect sales distribution model in Japan. During the three months ended September 30, 2002, we began the liquidation of TKK.
TKK ceased operations in August 2002 and formally declared bankruptcy in December 2002.



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Tumbleweeds future net income and cash flow may be adversely affected by limitations on our ability
to apply net operating losses for federal income tax reporting purposes against taxable income in future periods, including limitations due to ownership changes, as defined in Section 382 of the Internal Revenue Code, arising from issuance of stock.



CRITICAL ACCOUNTING POLICIES AND ESTIMATES



Tumbleweeds discussion and analysis of its financial condition and
results of operations are based upon Tumbleweeds consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements
requires us to make estimates and judgments in determining the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We regularly evaluate our estimates, including those related
to revenue recognition, customer arrangements, collectibility of accounts receivable, valuation of assets, and contingencies and litigation. When making estimates, we consider our historical experience, our knowledge of economic and market factors
and various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.



Tumbleweed believes that the following critical accounting policies represent areas where significant judgments and
estimates have been used in the preparation of our consolidated financial statements.



Revenue Recognition



Tumbleweed derives its
revenue from three sources (i) product revenue, which includes license and transaction fees and hosting arrangements (ii) service revenue, which includes support and maintenance, consulting, and training fees; and (iii) intellectual property and
other revenue which includes patent license agreement fees and the sale of distribution rights. As described below, 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 our management made different judgments or utilized different estimates.



Tumbleweed typically offers its software products under a perpetual license model. In addition, we offer or have offered our
products under a transaction-based model, under which fees were based on the volume of transactions or contractual minimum volumes; patent license agreements, whereby licensees gain access to one or more of our patents for the duration of the
patent(s) in exchange for a licensing and/or transaction fee; distribution rights; and hosting arrangements which require customers to pay a one-time fee for the right to use our software and services over a limited time.



Tumbleweed applies the provisions of Statement of Position (SOP) 97-2,
Software Revenue Recognition, and SOP 98-9, Modification of SOP 97-2, Software Revenue Recognition with Respect to Certain Arrangements, which generally requires revenue recognized from software arrangements to be allocated to each
element of the arrangement based on the relative fair values of the elements, such as software products, consulting, training, installation, or post-contract customer support. Fair values are based upon vendor specific objective evidence. If such
evidence does not exist for delivered elements, we record revenue using the residual method. If such evidence does not exist for undelivered elements, all revenue from the arrangement is deferred until such time that evidence of fair value does
exist, or until all elements of the arrangement are delivered, or revenue is recorded ratably if the only undelivered element is support and maintenance.



Tumbleweed recognizes revenue from perpetual licenses upon shipment when the following criteria are met: persuasive evidence of an arrangement exists,
based on an executed contract and non-binding purchase order; the product has been delivered, generally to a common carrier or by electronic distribution; the fee is fixed and determinable; and collection of the resulting receivable is probable.



Transaction revenue is recognized based on payment schedules
or transaction reports from Tumbleweeds customers. A number of our contracts include minimum transaction volume requirements. In these cases, the minimum guaranteed revenue is recognized when fees are due and payable during those months where
transaction volume does not exceed the designated minimums.



Tumbleweed recognizes revenue from patent license agreements and from the sale of distribution rights when (i) the patent license or distribution agreement is executed, (ii) the amounts due are fixed, determinable, and billable, and (iii)
collection of the resulting receivable is probable.



Hosting
arrangements require customers to pay a one-time fee for the right to use Tumbleweed software and services. Tumbleweed recognizes revenue from hosting arrangements ratably over the service period because the customer does not have the right to take
the software. The Company discontinued its hosting effort during the three months ended September 30, 2002.



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Customers generally purchase at least one-year of support and maintenance together with each perpetual
license. Support and maintenance is sold as a percentage of the list price of the software product. Renewals of support and maintenance in future years are also sold as a percentage of the software products list price. Under a support and
maintenance agreement, customers receive on-going support and, in some instances, the right to receive future updates and upgrades of our products during the term of the agreement. Revenue from support and maintenance is recognized ratably over the
period the support is provided.



Tumbleweed recognizes revenue
from subscriptions to our dynamic anti-spam service ratably over the period of the subscription.



Installation by Tumbleweed of our products is not considered essential to the functionality of our products, as these services do not alter the
products capabilities, do not require any specialized skills, and may be performed by the customer or any third parties. Services revenue is related to installation and is generally recognized on a time and materials basis, except for when
specific acceptance criteria exists. When customer specific acceptance criteria exist, we recognize revenue upon customer acceptance.



When licenses are sold together with consulting services, license fees are recognized upon delivery, provided that the revenue recognition criteria set
forth above for perpetual licenses have been met; payment of the license fees is not dependent upon the performance of the consulting and implementation services; and the services are not essential to the functionality of the software. For
arrangements that do not meet the above criteria, both the product license revenues and services revenues are recognized under the percentage of completion contract method in accordance with the provisions of SOP 81-1, Accounting for Performance
of Construction Type and Certain Production Type Contracts. Losses on fixed-dollar contracts are recognized during the period in which the loss first becomes evident. Contract losses are determined to be the amount by which the estimated total
costs of the contract exceeds the total fixed dollar value of the contract.



Other consulting engagements are generally on a time and materials basis, for which revenue is recognized as the services are performed. For fixed dollar consulting contracts with milestones or acceptance provisions,
revenue is recognized upon completion of a milestone or acceptance, if applicable.



Training revenue is recognized as the training is provided.



Tumbleweed assesses collectibility based on a number of factors, including past transaction history with the customer and the creditworthiness of the customer. We do not request collateral from our customers. If we
determine that collection of a fee is not probable, we defer the fee and recognize revenue upon receipt of cash. For contracts with extended payment terms, we recognize revenue as payments become due from the customer.



Revenue from the reseller channel is recognized upon software shipment, the
execution of a distribution agreement with the reseller, and the receipt of substantive identification of the end-user customer.



Tumbleweed typically grants its customers a warranty that guarantees its products will substantially conform to its current specifications for 60 days
from the delivery date. Services to be provided under a warranty are consistent with the services performed under support and maintenance purchased by almost all of Tumbleweeds customers. Tumbleweed provides for the estimated cost of product
and service warranties based on specific warranty claims received, provided that it is probable that a liability exists, and provided the cost to repair or otherwise satisfy the claim can be reasonably estimated. The amount of the reserve recorded
is equal to the costs to repair or otherwise satisfy the claim. Historically, costs related to warranty claims not covered by a support and maintenance agreement have not been significant.



Valuation of Allowance for Doubtful Accounts



Tumbleweed maintains allowances for doubtful accounts for estimated losses
resulting from the inability of our customers to make required payments. A considerable amount of judgment is required when we assess the realization of receivables, including assessing the probability of collection and the current credit-worthiness
of each customer. We must make estimates of the collectibility of our accounts receivables. We specifically analyze accounts receivable, including review of historical bad debts, customer concentrations, customer credit-worthiness, current economic
trends, aging of the balance and estimated collectibility percentages for different aging ranges, geographic and industry mix, and changes in our customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. 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 which would result in an additional general and administrative expense in the period such
determination is made. Our allowance for doubtful accounts was 22% and 30% of our gross receivables as of June 30, 2003 and December 31, 2002, respectively.



Valuation of Privately-Held Investments



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Tumbleweeds determination of impairment related to certain equity investments in privately held
companies is based on the latest available valuation of such investment, or, if unavailable, our assumptions related to projected operating results of the privately held company and potential effects of declines in market trends. Future events that
adversely change the assumptions we use to determine valuation of investments may require us to record charges for impairment of the carrying value of our investments.



During 2000, Tumbleweed made investments in two non-publicly traded companies of $977,000 and $3.0 million. The investments
were carried at cost on our balance sheet as we hold less than 20% of the voting equity and do not have the ability to exercise significant influence. We monitored these investments for impairment and made appropriate reductions in carrying values
when necessary. We recorded expenses of $88,000 in the three months ended June 30, 2002 to recognize an other-than-temporary impairment in the value of these investments. As of December 31, 2002 we had no remaining assets on our balance sheet
relating to these investments.



Valuation of Long-Lived Assets and Goodwill



Tumbleweed assesses the impairment of identifiable
intangibles, long-lived assets and goodwill whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors we consider important, which could trigger an impairment review, include the following:



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



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



| |  |  | significant negative industry or economic trends;
| | - |  | -------------------------------------------------



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



| |  |  | our market capitalization relative to net book value.
| | - |  | -----------------------------------------------------



When Tumbleweed determines that the carrying value of long-lived assets, and goodwill prior to the adoption of SFAS 142, may not be recoverable upon the
existence of one or more of the above indicators of impairment, and such carrying value is less than projected undiscounted cash flows attributed to the asset, we measure any impairment based on the amount by which the carrying amount of the assets
exceeds the fair value of the assets.



SFAS 142 became
effective on January 1, 2002 and as a result, Tumbleweed ceased amortizing approximately $6.7 million of goodwill. In connection with SFAS 142s transitional goodwill impairment evaluation, Tumbleweed assessed whether there was an indication
that goodwill recorded in connection with our acquisition of TKK was impaired as of the date of adoption. To accomplish this, we determined the carrying value of our reporting unit by assigning our assets and liabilities, including the existing
goodwill and intangible assets, to our reporting unit as of the date of adoption. As our TKK reporting units carrying amount exceeded its fair value, indicating that TKKs goodwill might be impaired, we performed the second step of the
transitional impairment test. In the second step, we compared the implied fair value of TKKs goodwill, determined by allocating TKKs fair value to all of its assets (recognized and unrecognized) and liabilities to its carrying amount,
both of which were measured as of the date of adoption. A transitional impairment loss of $974,000 was recognized as the cumulative effect of a change in accounting principle in our consolidated statement of operations.



During the six months ended June 30, 2002, TKK experienced a sustained
decline in operations. As a result, we revaluated our future prospects in Japan and decided to transition to an indirect sales distribution model in Japan. As of June 30, 2002, we determined that our goodwill was impaired and wrote-off the $5.7
million remainder of the goodwill balance. During the three months ended September 30, 2002, we began the liquidation of TKK. As a result of the liquidation of TKK, during the three months ended September 30, 2002, we recorded an operating expense
of $377,000 related to the write-off of the remaining net assets of Tumbleweed Communications KK and our eighty percent equity position in TKK. TKK ceased operations in August 2002 and formally declared bankruptcy in December 2002.



RESULTS OF OPERATIONS



Three and Six Month Periods Ended June 30, 2003 and 2002



Revenue. Revenue, which consists of product revenue, services revenue and intellectual property and other revenue, results from new
contracts and backlog. We define backlog as deferred revenue, contractual commitments that are not due and payable as of the balance sheet date, or collectibility is in doubt, and/or for which the product or service has not yet been delivered.
Product



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revenue consists of license and transaction fees. Service revenue includes support and maintenance, consulting, and training fees. Intellectual property and
other revenue consists of patent license agreement fees and the sale of distribution rights. Total revenue for the three months ended June 30, 2003 increased to $6.1 million from $6.0 million for the same three months in 2002. The increase in total
revenue was primarily due to a $656,000 increase in license revenue and a $175,000 increase in intellectual property and other revenue, offset by a $672,000 decrease in transaction-based license revenue. Notwithstanding the favorable impact of
revenue related to the acquisition of Valicert, total revenue for the six months ended June 30, 2003 decreased to $11.9 million from $14.1 million for the same six months in 2002. The decrease in total revenue was primarily due to a $1.4 million
decrease in transaction-based license revenue and a $456,000 decrease in intellectual property and other revenue. For the three months ended June 30, 2003 and 2002, respectively, no single customer comprised 10% or more of our revenue. For the six
months ended June 30, 2003, no single customer comprised 10% or more of our revenue. For the six months ended June 30, 2002, one customer comprised approximately 11% of our revenue. For the three months ended June 30, 2003 and 2002, five customers
comprised approximately 22% and 24% of our revenue, respectively. For the six months ended June 30, 2003 and 2002, five customers comprised approximately 19% and 30% of our revenue, respectively.



Product revenue for the three months ended June 30, 2003 at $3.3 million was
approximately the same as for the same three months in 2002. Product revenue for the six months ended June 30, 2003 decreased to $5.9 million from $7.9 million for the same six months in 2002. The decrease of $2.0 million in product revenue was
primarily due to a decrease in transaction and subscription revenue. Transaction-based license revenue decreased by $1.4 million in the six months ended June 30, 2003, reflecting a shift from a transaction-based model, in which fees are based on the
volume of transactions or contractual minimum volumes and revenue is recognized when fees are due and payable during those months where transaction volume does not exceed the designated minimums, to a perpetual license model. Transaction-based
license revenue decreased to $345,000 from $1.8 million and we expect transaction-based license revenue to continue to decrease in the future. As part of this transition, many of our former transaction-based customers have purchased software
licenses with associated support and maintenance contracts. Subscription revenue decreased by $264,000 in the six months ended June 30, 2003 due to a reduction in new subscription contracts and some subscription customers converting to perpetual
licenses.



Services revenue for the three months ended June 30,
2003 at $2.6 million was approximately the same as for the same three months in 2002. Service revenue for the six months ended June 30, 2003 increased to $5.5 million from $5.1 million for the same six months in 2002. The increase in services
revenue was due to a $767,000 increase in maintenance revenue from our installed customer base. This was partially offset by a $405,000 decrease in consulting revenue. During 2002, Tumbleweed transitioned its consulting services from a business in
which Tumbleweed provided secure messaging consulting services to enterprises that used Tumbleweed and non-Tumbleweed products to a business in which Tumbleweed provided consulting services, focused on installation, implementation and data
migration, to customers who purchased Tumbleweed products. Thus, Tumbleweed reduced the number of consulting projects for which we bid. Tumbleweed decided to make this transition to improve consumer satisfaction through shortened deployment cycles
and to reduce consulting costs. As a result, Tumbleweed reduced the number of revenue-generating projects and revenue generating consultants throughout 2002 and 2003. Tumbleweed expects consulting revenue to continue to decline in 2003 as Tumbleweed
continues this transition.



Intellectual property and other
revenue increased to $250,000 in the three months ended June 30, 2003 from $75,000 for the same three months in 2002. The increase in intellectual property and other revenue was due to no new patent license agreements signed in the three months
ended June 30, 2002. Intellectual property and other revenue decreased to $531,000 in the six months ended June 30, 2003 from $987,000 for the same three months in 2002. The decrease was due to two large patent license agreements signed in the three
months ended March 31, 2002, with no comparable deals in the same three months in 2003.



Cost of Revenue. Cost of revenue is comprised of product license costs and service costs and the amortization of intangible assets relating to the Valicert acquisition. Product license cost is primarily comprised of royalties paid to
third parties for software licensed by us for inclusion in our products. Service costs are comprised primarily of employee and employee-related costs related to customer support and consulting and contract development projects with third parties.
Amortization of intangible assets is comprised of the amortization of intangible assets related to the acquisition of Valicert and attributable to license purchase orders and core/developed technology.



Total cost of revenue for the three months ended June 30, 2003 decreased to
$1.5 million from $1.9 million for the same three months in 2002 primarily due to a decrease in employees and related employee costs, including salary reductions, partially offset by $317,000 of amortization of intangible assets in the three months
ended June 30, 2003, due to the acquisition of Valicert. The decrease in employees was driven by our increased focus regarding the direct implementation and development of our core products, and the transition from direct sales operations to
indirect sales operations in Europe and Japan that eliminated our professional services headcount in those regions. Overall, employee-related costs decreased by $400,000. The remainder of the decrease in total cost of revenue was due to reductions
in allocated overhead charges, depreciation expense, and third-party consulting expenses. Allocated overhead charges decreased by $149,000 due to a reduction in our allocable cost base caused by our reduction in information technology spending and
our reduction in facility costs. Depreciation expense decreased by $96,000 due to some of our assets becoming fully depreciated in 2002 and 2003, and lower capital expenditures in 2002 and 2003 as



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compared to 2001 and 2000. Consulting expenses decreased by $67,000 due to our decision to terminate our data center service in the second half of 2002. This
decision reduced consulting expenses used to support this service. Total cost of revenue for the six months ended June 30, 2003 decreased to $3.0 million from $4.0 million for the same six months in 2002, primarily due to a reduction in payroll
costs driven by decreased headcount. Total cost of revenue is expected to increase in the second half of 2003, primarily due to the acquisition of Valicert.



Research and Development Expenses. Research and development expenses are comprised of employee and employee-related costs and other
costs required for the development of our applications, quality assurance, and testing. Research and development expenses for the three months ended March 31, 2003 decreased to $2.1 million from $2.4 million for the same three months in 2002. The
decrease in research and development expenses was primarily due to our increased outsourced development of non-core products as we have focused our internal engineering resources on our solutions that have the most compelling customer demand. The
increase in our outsourced research and development led to a decrease in the number of engineering employees, prior to the acquisition of Valicert, which, along with salary reductions, reduced related employee-related costs by $356,000. Research and
development expenses also decreased due to a reduction in allocated overhead charges of $383,000. These decreases were partially offset by an increase in third-party consulting expenses due to our increased outsourced development of non-core
products. We believe that our investment in research and development is required to remain competitive and therefore expect to increase resource levels in the second half of 2003, attributable, in part, to the acquisition of Valicert. Research and
development expenses for the six months ended June 30, 2003 decreased to $4.0 million from $5.6 million for the same six months in 2002, primarily due to a reduction in payroll costs, driven by decreased headcount, and reduced allocated overhead
charges.



Sales and Marketing Expenses. Sales and marketing expenses are
comprised of salaries, commissions, travel expenses, other related employee costs, and costs associated with marketing programs. Sales and marketing expenses for the three months ended June 30, 2003 decreased to $3.3 million from $5.2 million for
the same three months in 2002. The decrease in sales and marketing expenses was primarily due to a decrease in the number of employees, prior to the acquisition of Valicert, and related employee costs, including salary reductions, as well as a
$337,000 reduction in allocated overhead charges, a decrease in marketing programs, and reductions in office expense and depreciation expense. The decrease in headcount was primarily due to the transition from direct sales operations to indirect
sales operations in Europe and Japan, which eliminated our sales and marketing employees in those regions, prior to the acquisition of Valicert, as well as a shift in our sales focus towards our target e-mail firewall and secure file transfer
solutions in target industries which allowed us to reduce the number of direct sales representatives and sales support employees in North America. This decline in employees decreased employee-related costs by $841,000. Marketing programs decreased
by $243,000 due to more focused marketing efforts in North America and a lesser number of products, prior to the acquisition of Valicert. Office expense decreased by $228,000 and depreciation expense decreased by $116,000, both primarily due to the
transition from direct sales operations to indirect sales operations in Europe and Japan. Sales and marketing expenses for the six months ended June 30, 2003 decreased to $6.7 million from $10.9 million for the same six months in 2002, primarily due
to a reduction in payroll costs, driven by decreased headcount and the transition from direct sales operations to indirect sales operations in Europe and Japan, and reduced allocated overhead charges. Total sales and marketing expenses are expected
to increase in the second half of 2003, primarily due to the acquisition of Valicert.



General and Administrative Expenses. General and administrative expenses consist primarily of employee and employee-related and support costs for our administrative, finance, legal, and human resources
departments as well as public reporting costs, bad debt expense, and professional fees including intellectual property enforcement and protection costs. General and administrative expenses for the three months ended June 30, 2003 increased to $1.5
million from $798,000 for the same three months in 2002. The increase in general and administrative expenses was primarily due to increases in legal fees, directors and officers insurance, and bad debt expense. Legal fees increased by $370,000 due
to increased intellectual property enforcement efforts. Directors and officers insurance expense increased by $52,000 due to an increase in our premiums. Bad debt expense increased by $49,000 due to an increase in the size of our receivables
portfolio. We believe that the enforcement and protection of our intellectual property is important to our business and we expect to continue to incur costs related to the enforcement and protection of our intellectual property in the second half of
2003. General and administrative expenses for the six months ended June 30, 2003 increased to $2.9 million from $2.4 million for the same three months in 2002, primarily due to an increase in legal expenses.



Stock-based Compensation Expense. Stock-based compensation expense was recorded in
connection with the amortization of deferred stock compensation recorded as a result of grants of stock options to non-employees and employees at exercise prices less than the fair value on the grant date and the vesting acceleration of stock
options approved for certain employees, net of credits related to stock options granted to employees who were later terminated. Stock-based compensation expense for the three months ended June 30, 2003 increased to $15,000 from $(367,000) for the
same three months in 2002. Stock-based compensation expense for the six months ended June 30, 2003 increased to $49,000 from $(105,000) for the same six months in 2002. The credit to stock-based compensation expense in the three and six months ended
June 20, 2002 was the result of the termination of certain employees whose options had not yet vested in the three and six months ending June 30, 2002.



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Impairment of Goodwill.In connection with SFAS 142s transitional goodwill impairment evaluation, Tumbleweed
assessed whether there was an indication that goodwill recorded in connection with its acquisition of TKK was impaired as of the date of adoption. To accomplish this, Tumbleweed determined the carrying value of its reporting unit by assigning its
assets and liabilities, including the existing goodwill and intangible assets, to Tumbleweeds reporting unit as of the date of adoption. As our TKK reporting units carrying amount exceeded its fair value, we compared the implied fair
value of TKK goodwill, determined by allocating TKK fair value to all of its assets (recognized and unrecognized) and liabilities to its carrying amount, both of which were measured as of the date of adoption. A transitional impairment loss of
$974,000 was recognized as the cumulative effect of a change in accounting principle in our consolidated statement of operations. During the six months ended June 30, 2002, Tumbleweed Communications KK experienced a sustained decline in operations.
As of June 30, 2002, Tumbleweed determined that its goodwill was impaired and wrote-off the $5.7 million remainder of the goodwill balance.



Amortization of intangible assets and write-off of in-process research and development. Amortization of intangible assets was $20,000 for the three months ended
June 30, 2003. Write-off of in-process research and development was $100,000 for the three months ended June 30, 2003. Amortization of intangible assets and write-off of in-process research and development resulted from the acquisition of Valicert.
In-process research and development was fully written off during the three months ended June 30, 2003. The remaining intangible assets will be amortized over their estimated useful lives of three to five years.



Merger-related and other expenses. Merger-related and other expenses of $1.9 million
for the three and six months ended June 30, 2003, consist of $891,000 of severances for Tumbleweed employees terminated in connection with the Valicert acquisition and a $996,000 charge related to the fair value of anticipated losses on an operating
lease. The operating lease was assumed by Tumbleweed during the acquisition of Interface, Inc. in 2000 and covers approximately 13,000 square feet of office space in Slough, United Kingdom. The lease is for a term ending in 2020 with quarterly rent
payments of approximately $60,000. This office space had been subleased to a tenant who was providing us with quarterly rent payments of approximately $60,000 until the sublease was terminated effective July 2003. Anticipated future sublease rental
income is not expected to cover the rent expense due to a weak office rental market in and around Slough. We expect to continue to incur merger-related and other expenses in the second half of 2003 as we incur costs related to the integration of
Tumbleweed and Valicert. There were no merger-related and other expenses for the three and six months ended June 30, 2002.



Other income, net. Other income, net, is primarily comprised of interest income earned on investment securities. Other income, net, for the three months ended June
30, 2003 decreased to $51,000 from $327,000 for the same three months in 2002. The decrease in other income, net, is primarily due to the decline in interest rates and a reduction in our cash balances relative to the year-earlier period and a
minority interest credit during the three months ended June 30, 2002. During the three months ended June 30, 2002, we recorded a $54,000 minority interest credit related to the loss recognized by TKK in that quarter. TK ceased operations in August
2002 and formally declared bankruptcy in December 2002. As a result, there was no minority interest impact to our financial statements in the three months ended June 30, 2003. Other income, net, for the six months ended June 30, 2003 decreased to
$65,000 from $734,000 for the same six months in 2002, primarily due to the decline in interest rates and a reduction in our cash balances relative to the year-earlier period and a minority interest credit of $203,000 during the six months ended
June 30, 2002.



LIQUIDITY AND CAPITAL RESOURCES



Since inception, we have financed our operations primarily through the
issuance of equity securities. As of June 30, 2003, we had approximately $25.9 million in cash and cash equivalents.



Net cash used in operating activities for the six months ended June 30, 2003 decreased to $3.8 million from $7.8 million for the same six months in 2002.
Cash used in operating activities was primarily the result of our net operating loss of $6.7 million and adjustments to reconcile net loss to net cash used in operating activities including depreciation and amortization of $1.0 million, write-off of
in-process research and development of $100,000, a decrease in current and other assets of $933,000, and an increase in accrued merger-related expenses of $541,000. The decrease in net cash used in operating activities from the same six months in
2002 is primarily due to the $8.1 million reduction in our net loss for the six months ended June 30, 2003, offset by a $5.7 million non-cash charge for impairment of goodwill recorded in the six months ended June 30, 2002, and a reduction in
depreciation and amortization of $464,000 during the six months ended June 30, 2003.



Net cash provided by investing activities for the six months ended June 30, 2003 was $425,000. Net cash used in investing activities was $155,000 for the same six months in 2002. Net cash provided by investing
activities for the six months ended June 30, 2003 was comprised of the acquisition of Valicert, net of cash acquired, and offset by purchases of property and equipment. Net cash used in investing activities for the six months ended June 30, 2002 was
comprised of purchases of property and equipment.



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Net cash used in financing activities for the six months ended June 30, 2003 was $15,000. Net cash
provided by financing activities for the six months ended June 30, 2002 was $99,000 for the same six months in 2002. Net cash used in financing activities was for the six months ended June 30, 2003 was primarily the result of payments of borrowings
and other long-term liabilities, offset by proceeds from the issuance of equity securities under our stock option plans. Net cash provided by financing activities for the six months ended June 30, 2002 was primarily the result of proceeds from the
issuance of equity securities under our stock option and employee stock purchase plans, reduced by payments of borrowings. Our employee stock purchase plan was discontinued in 2002.



As of June 30, 2003, Tumbleweeds principal commitments consisted of obligations related to outstanding operating
leases, unconditional purchase obligations consisting of contractually committed third-party royalty and consulting payments, and debt obligations assumed during the acquisition of Valicert. We do not anticipate a substantial increase in capital
expenditures in the immediate future. We also do not anticipate an increase in operating lease obligations.



In June 1999, Tumbleweed entered into an operating lease covering approximately 40,000 square feet of office space in Redwood City, California. The lease
is for a term of approximately five years, with current monthly rent payments of approximately $124,000. This lease expires in November 2004. Tumbleweed is currently planning to lease a new headquarters office or renew its existing lease prior to
the expiration. In September 2000, Tumbleweed leased an additional 42,000 square feet in an adjacent building with a term of five years and subleased this space. We terminated this second lease as of December 31, 2001 and made a lease settlement
payment of $2.3 million, using lease deposits, in the first quarter of 2002 as a part of the lease termination agreement.



As a result of the Interface acquisition, Tumbleweed assumed an operating lease covering approximately 13,000 square feet of office space in Slough,
United Kingdom. The lease is for a term ending in 2020 with current quarterly rent payments of approximately $60,000. This office space had been subleased to a tenant who was providing us with quarterly rent payments of approximately $60,000 until
the sublease was terminated effective July 2003. Anticipated future sublease rental income is not expected to cover the rent expense due to a weak office rental market in and around Slough. In the three months ended June 30, 2003, Tumbleweed
recognized a charge of $996,000 related to potential losses on this lease. We are currently attempting to find a new sublessee.



In July 1998, Tumbleweed entered into a debt agreement with a bank, which included a $750,000 equipment loan facility. In June 1999, we obtained a second
equipment loan facility in the amount of $1.0 million with the same bank. The first equipment loan in the amount of $750,000 expired in December 2001 and the second equipment loan in the amount of $1.0 million expired in December 2002. Borrowings
under both equipment loan facilities maintained interest at prime rate plus 0.75%, were due and payable in 36 equal monthly installments and were secured by certain of our assets. The weighted average interest rate for the equipment loans was 5.50%,
for the three months ended March 31, 2002. At December 31, 2002 the equipment loan had aggregate maturities of $27,000 that were paid in full in January 2003.



Our capital requirements depend on numerous factors, including revenue generated from operations and market acceptance of our products and services,
the resources devoted to the development of our products and services and the resources devoted to sales and marketing. We have decreased our spending on capital expenditures in recent quarters and do not anticipate increases in capital expenditures
in the immediate future. We believe that our existing capital resources should enable us to maintain our current and planned operations for at least the next 12 months. Although Tumbleweed believes it has sufficient cash and cash equivalents to fund
its operations for at least the twelve months, Tumbleweed may have insufficient cash reserves to fund its operations thereafter. As of June 30, 2003, Tumbleweed had cash and cash equivalents of $25.9 million and had incurred cumulative net losses
since inception of $276.8 million. Tumbleweeds current cash reserves, especially in light of Tumbleweeds $10.0 million stock repurchase program authorized in August of 2002 to the extent repurchases are effected, may be insufficient if
Tumbleweed experiences either lower than expected revenues or extraordinary or unexpected cash expenses. Tumbleweeds capital reserves will also be affected by the costs of the merger with Valicert and the ongoing capital requirements of that
business. While Tumbleweed expects to reduce the cash requirements of the combined companies following the merger through employee and related expense savings, Tumbleweed may be unable to do so. Funding, if needed, however may not be available on
acceptable terms or at all. If adequate funds are not available, Tumbleweed may be required to curtail significantly or defer one or more of Tumbleweeds operating goals or programs, or take other steps that could harm Tumbleweeds
business or future operating results.



Tumbleweed will continue
to consider future financing alternatives, which may include the incurrence of indebtedness, additional public or private equity offerings or an equity investment by a strategic partner; however, we have no present commitments or arrangements
assuring us of any future equity or debt financing. Additionally, equity or debt financing may not be available to us on favorable terms, if at all.



In August 2002, Tumbleweeds Board of Directors approved a program to repurchase up to $10.0 million of our common stock. Although we are not
required to purchase any stock under the program, we may purchase shares either in the open market or in negotiated transactions as market and business conditions warrant. The timing and amount of any shares repurchased is



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determined by our management based on an evaluation of market conditions and other factors. The purchases are made at current market prices or in negotiated
transactions off the market and are funded using our working capital. The repurchase program extends over a twelve month period and may be suspended or discontinued at any time. In October 2002, we adopted a 10b5-1 plan, which we renewed in April
2003. This plan allows us to repurchase our stock under our repurchase program during a period in which we are in possession of material non-public information, provided we previously communicated repurchase instructions to our broker at a time when
we were not in possession of such material non-public information. The 10b5-1 plan does not increase the aggregate $10.0 million amount authorized for repurchase purposes. During the year ended December 31, 2002 we repurchased 717,500 shares of our
common stock for $796,000. We did not repurchase any shares of our common stock during the six months ended June 30, 2003.



Contractual Obligations and Commercial Commitments



Future cash payments for contractual obligations and commercial commitments as of June 30, 2003, are as follows (in thousands):



|                                   |  | 2003 |       | 2004 |   | 2005  |  | 2006 |     | 2007 |   | After 2007 |  | Total
|---------------------------------- |  | ---- | ----- | ---- | - | ----- |  | ---- | --- | ---- | - | ---------- |  | -----
|Debt obligations                   |  | $    | 566   |      | $ | 366   |  |      |     |      |   |            |  |      
|Operating leases                   |  |      | 1,257 |      |   | 2,124 |  |      | 371 |      |   | 260        |  |      
|Unconditional purchase obligations |  |      | 1,054 |      |   |      |  |      |    |      |   |           |  |      
|                                   |  |      |       |      |   |       |  |      |     |      |   |            |  |      
|Total                              |  | $    | 2,877 |      | $ | 2,490 |  | $    | 371 |      | $ | 260        |  | $    
|                                   |  |      |       |      |   |       |  |      |     |      |   |            |  |      



The amounts above will
be offset by sublease payments of $51,000 in 2003 and $104,000 in 2004.



RISKS AND UNCERTAINTIES THAT YOU SHOULD CONSIDER BEFORE INVESTING IN TUMBLEWEED.



Tumbleweed has a history of losses and may experience continued losses.



Tumbleweeds prospects must be considered in light of the risks, expenses, delays and difficulties frequently encountered by companies engaged in new
and rapidly evolving technology markets like Tumbleweeds. Tumbleweed incurred net losses of $20.9 million, $114.2 million, and $69.8 million in 2002, 2001, and 2000, respectively. As of June 30, 2003, Tumbleweed had incurred cumulative net
losses of $276.8 million.



Tumbleweeds success may depend
in large part upon the adoption and utilization of Tumbleweeds products and technology, as well as Tumbleweeds ability to effectively maintain existing relationships and develop new relationships with customers and strategic partners. If
Tumbleweed does not succeed in doing so it may not achieve or maintain profitability on a timely basis or at all. In particular, Tumbleweed intends to expend significant financial and management resources on product development, sales and marketing,
strategic relationships, technology and operating infrastructure. As a result, Tumbleweed may incur additional losses and continued negative cash flow from operations for the foreseeable future.



Fluctuations in Tumbleweeds quarterly operating results may not be predictable and
may result in significant volatility in Tumbleweeds stock price.



Tumbleweeds product revenue has fluctuated and Tumbleweeds quarterly operating results will continue to fluctuate based on, among other things, the timing of the execution and termination of customer
agreements in a given quarter. Tumbleweeds services revenue is subject to the risk that Tumbleweed may not be able to meet increasing customer demand because of a lack of adequately trained personnel, and the risk that customers may not timely
accept the services provided and delay payment for such services. In addition, Tumbleweed has experienced, and expect to continue to experience, fluctuations in revenue and operating results from quarter to quarter for other reasons, including, but
not limited to:



| |  |  | target customers electing to adopt and implement the Tumbleweed technology;
| | - |  | ---------------------------------------------------------------------------



| |  |  | the substantial decrease in information technology spending in general, and among Tumbleweeds target customers in particular;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------



| |  |  | customers choosing to delay their purchase commitments or purchase in smaller amounts than expected due to a general downturn in the economy;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Tumbleweeds ability to continue to license its patents, the timing of such licenses, and the costs necessary to defend its patents;
| | - |  | ------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the amount and timing of operating costs and capital expenditures relating to Tumbleweeds business, operations and infrastructure, including its international operations;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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| |  |  | Tumbleweeds ability to accurately estimate and control costs;
| | - |  | --------------------------------------------------------------



| |  |  | Tumbleweeds ability to timely collect fees owed by customers;
| | - |  | --------------------------------------------------------------



| |  |  | the announcement or introduction of new or enhanced products and services in the secure content management, content security, secure online communications, or document delivery
markets; and
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | acquisitions that Tumbleweed completes or proposes.
| | - |  | ---------------------------------------------------



As a result of these factors, Tumbleweed believes that quarter-to-quarter comparisons of its revenue and operating results are not necessarily meaningful,
and that these comparisons may not be accurate indicators of future performance. Tumbleweed may not be able to accurately forecast its revenue or expenses. Because Tumbleweeds staffing and operating expenses are based on anticipated revenue
levels, and because a high percentage of Tumbleweeds costs are fixed, small variations in the timing of the recognition of specific revenue could cause significant variations in operating results from quarter to quarter. In addition, many of
Tumbleweeds customers delay purchases of Tumbleweeds products until the end of each quarter. If Tumbleweed is unable to adjust spending in a timely manner to compensate for any unexpected revenue shortfall, any significant revenue
shortfall would likely have an immediate negative effect on Tumbleweeds operating results. Moreover, Tumbleweed believes the difficulties outlined above with respect to financial forecasts also apply to securities analysts that may publish
estimates of Tumbleweeds financial results. Tumbleweeds operating results in one or more future quarters may fail to meet the expectations of securities analysts or investors due to any of a wide variety of factors, including
fluctuations in financial ratios or other metrics used to measure Tumbleweeds performance. If this occurs, Tumbleweed would expect to experience an immediate and significant decline in the trading price of Tumbleweeds stock.



Economic conditions could adversely affect Tumbleweeds ability to maintain and
increase revenue.



The revenue and profitability or loss
of Tumbleweeds business depends on the overall demand for Tumbleweeds products, Tumbleweeds intellectual property, and Tumbleweeds services, particularly within the industries in which Tumbleweed offers specific versions of
Tumbleweeds products. Because Tumbleweeds sales are primarily to customers in the financial services, health care, and government industries, Tumbleweeds business depends on the overall economic conditions and the economic and
business conditions within these industries. The progressive weakening of the global economy, the information technology industry in particular, and the weakening of the business conditions within the above industries has caused a decrease in
Tumbleweeds license revenues. A softening of demand for information technology spending caused by a continued weakening of the economy, domestically or internationally, may result in a continued decrease in revenues and continued losses.



In addition, the financial, political, economic and other
uncertainties following the terrorist attacks upon the United States have led to a further weakening of the global economy, and have created an uncertain economic environment. Tumbleweed cannot predict the impact of these events, any subsequent
terrorist acts or of any related military action, on Tumbleweeds customers or business. Subsequent terrorist acts and/or the threat of future outbreak or continued escalation of hostilities involving the United States or other countries could
adversely affect spending on information technology and on Tumbleweeds software license revenue, as well as have an adverse effect on Tumbleweeds business, financial condition or results of operations.



Tumbleweed may have insufficient cash reserves to see it through to profitability.



Although Tumbleweed believes it has sufficient cash and
cash equivalents to fund its operations of Tumbleweed for at least the next twelve months, Tumbleweed may have insufficient cash reserves to fund the combined operations thereafter. As of June 30, 2003, Tumbleweed had cash and cash equivalents of
$25.9 million and had incurred cumulative net losses since inception of $276.8 million. Tumbleweeds current cash reserves, especially in light of Tumbleweeds $10.0 million stock repurchase program authorized in August of 2002 to the
extent repurchases are effected, may be insufficient if Tumbleweed experiences either lower than expected revenues or extraordinary or unexpected cash expenses. Tumbleweeds capital reserves will also be affected by the merger with Valicert and
the ongoing capital requirements of that business. Although Tumbleweed expects to reduce the cash requirements of the combined companies following the merger through employee and related expense reductions, Tumbleweed may be unable to do so.
Funding, if needed, may not be available on acceptable terms or at all. If adequate funds are not available, Tumbleweed may be required to curtail significantly or defer one or more of Tumbleweeds operating goals or programs, or take other
steps that could harm Tumbleweeds business or future operating results.



Failure to obtain needed financing could affect Tumbleweeds ability to maintain current operations and pursue potential growth, and the terms of any financing Tumbleweed obtains may impair the rights of Tumbleweeds existing
stockholders.



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In the future, Tumbleweed may be required to seek additional financing to fund its operations. Factors
such as the commercial success of Tumbleweeds existing products and services, the timing and success of any new products and services, the progress of Tumbleweeds research and development efforts, Tumbleweeds results of operations,
the status of competitive products and services, and the timing and success of potential strategic alliances or potential opportunities to acquire or sell technologies or assets may require us to seek additional funding sooner than Tumbleweed
expects. In the event that Tumbleweed requires additional cash, Tumbleweed may not be able to secure additional financing on terms that are acceptable to us, especially in light of the uncertainty in the current market environment, and Tumbleweed
may not be successful in implementing or negotiating such other arrangements to improve its cash position. If Tumbleweed raises additional funds through the issuance of equity or convertible debt securities, the percentage ownership of
Tumbleweeds stockholders would be reduced and the securities Tumbleweed issues might have rights, preferences and privileges senior to those of Tumbleweeds current stockholders. If adequate funds were not available on acceptable terms or
at all, Tumbleweeds ability to achieve or sustain positive cash flows, maintain current operations, fund any potential expansion, take advantage of new opportunities, develop or enhance products or services, or otherwise respond to competitive
pressures could be significantly limited.



A limited number of customers
account for a high percentage of Tumbleweeds revenue, and the failure to maintain or expand these relationships could adversely affect Tumbleweeds future revenue.



The loss of one or more of Tumbleweeds major customers, the failure to attract new customers on a timely basis or a reduction in usage
and revenue associated with the existing or proposed customers would harm Tumbleweeds future revenue and prospects. For the three months ended June 30, 2003 and 2002, respectively, no single customer comprised 10% or more of our revenue. For
the six months ended June 30, 2003, no single customer comprised 10% or more of our revenue. For the six months ended June 30, 2002, one customer comprised approximately 11% of our revenue. For the three months ended June 30, 2003 and 2002, five
customers comprised approximately 22% and 24% of our revenue, respectively. For the six months ended June 30, 2003 and 2002, five customers comprised approximately 19% and 30% of our revenue, respectively.



Tumbleweed expects to continue making strategic investments and acquisitions, which may
involve substantial costs, may substantially dilute existing Tumbleweed investors, and may fail to yield anticipated benefits.



Tumbleweed is continuously evaluating investments in complementary technologies and businesses. Acquisitions of companies, divisions of companies, or
products, including Tumbleweeds acquisition of Valicert, entail numerous risks, including:



| |  |  | potential inability to successfully integrate acquired operations and products or to realize cost savings or other anticipated benefits from integration;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | diversion of managements attention;
| | - |  | ------------------------------------



| |  |  | loss of key employees of acquired operations;
| | - |  | ---------------------------------------------



| |  |  | coordinating sales and pricing efforts to effectively communicate the value and capabilities of the combined company;
| | - |  | ---------------------------------------------------------------------------------------------------------------------



| |  |  | the difficulty of assimilating geographically dispersed operations and personnel of the acquired companies;
| | - |  | -----------------------------------------------------------------------------------------------------------



| |  |  | the potential disruption of Tumbleweeds ongoing business;
| | - |  | ----------------------------------------------------------



| |  |  | expenses related to such integration;
| | - |  | -------------------------------------



| |  |  | the correct assessment of the relative percentages of in-process research and development expense that can be immediately written off as compared to the amount which must be
amortized over the appropriate life of the asset;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | the impairment of relationships with employees and customers of either an acquired company or Tumbleweeds business;
| | - |  | --------------------------------------------------------------------------------------------------------------------



| |  |  | the potential unknown liabilities associated with acquired business; and
| | - |  | ------------------------------------------------------------------------



| |  |  | inability to recover strategic investments in development stage entities.
| | - |  | -------------------------------------------------------------------------



As a result of acquisitions, Tumbleweed may acquire significant assets that include goodwill and other purchased intangibles. The testing of these
intangibles under established accounting guidelines for impairment requires significant use of



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judgment and assumptions. Changes in business conditions could require adjustments to the valuation of these assets. In this regard, Tumbleweed wrote off
substantially all of its investment in Interface Systems subsequent to the completion of that acquisition.



If Tumbleweed does not secure key relationships with enterprise customers, Tumbleweeds access to broader markets will be limited, which would adversely affect revenue in future periods.



Tumbleweeds enterprise customers, which use or intend to use
Tumbleweeds products to intelligently manage the incoming and outgoing online communications of their enterprises, are a significant source of Tumbleweeds revenue. A key aspect of Tumbleweeds strategy is to access target markets
prior to adoption of alternative solutions by the larger participants in these markets. The failure to secure key relationships with new enterprise customers in targeted markets could limit or effectively preclude Tumbleweeds entry into these
target markets, which would harm Tumbleweeds business and prospects.



Customers in a preliminary phase of implementing Tumbleweeds product may not proceed on a timely basis or at all, and the failure to do so would adversely affect revenue in future periods.



Some of Tumbleweeds customers are currently in a pre-production or
pre-launch stage of implementing Tumbleweeds products and may encounter delays or other problems in introducing them. A customers decision not to do so or a delay in implementation could result in a delay or loss in related revenue or
otherwise harm Tumbleweeds businesses and prospects. Tumbleweed cannot predict when or if any customer that is currently in a pilot or preliminary phase will implement broader use of Tumbleweeds services.



The markets for secure messaging applications generally, and for Tumbleweeds
products specifically, are new and may not develop, and the failure to do so could limit Tumbleweeds business prospects.



The market for Tumbleweeds products and services is new and evolving rapidly. If the market for Tumbleweeds products and services fails to
develop and grow, or if Tumbleweeds products and services do not gain broad market acceptance, Tumbleweeds business and prospects will be harmed. In particular, Tumbleweeds success will depend upon the adoption and use by current
and potential customers and their end-users of secure messaging applications. Tumbleweeds success will also depend upon acceptance of Tumbleweeds technology as the standard for providing these services. The adoption and use of
Tumbleweeds products and services will involve changes in the manner in which businesses have traditionally exchanged information. In some cases, Tumbleweeds customers have little experience with products, services and technology like
those offered by us.



Tumbleweeds ability to influence
usage of its products and services by customers and end-users is limited. For example, the usage of Secure Messenger by the end-users of Tumbleweeds service provider customers has been limited to date. Tumbleweed has spent, and intend to
continue to spend, considerable resources educating potential customers and their end-users about the value of Tumbleweeds products and services. It is difficult to assess the present and future size of the potential market for
Tumbleweeds products and services, or Tumbleweeds growth rate, if any. Moreover, Tumbleweed cannot predict whether Tumbleweeds products and services will achieve any market acceptance. For example, as email has become increasingly
widespread and accepted, current and potential customers may be more willing to accept related security risks with email, as opposed to utilizing Tumbleweeds products. Tumbleweeds ability to achieve its goals also depends upon rapid
market acceptance of future enhancements of Tumbleweeds products and Tumbleweeds ability to identify new markets as they emerge. Any enhancement that is not favorably received by customers and end-users may not be profitable and,
furthermore, could damage Tumbleweeds reputation or brand name. Any failure to identify and address new market opportunities could harm Tumbleweeds business and prospects.



The markets Tumbleweed addresses are highly competitive and rapidly changing, and Tumbleweed may not be able to compete successfully.



Tumbleweed may not be able to compete successfully
against current and future competitors, and the multiple competitive pressures Tumbleweed faces could harm Tumbleweeds business and prospects. The markets in which Tumbleweed competes are intensely competitive and rapidly changing.



The principal competitive factors in Tumbleweeds industry include
price, product functionality, product integration, platform coverage and ability to scale, worldwide sales infrastructure and global technical support. Some of Tumbleweeds competitors have greater financial, technical, sales, marketing and
other resources than Tumbleweed does, as well as greater name recognition and a larger installed customer base. Additionally, some of these competitors have research and development capabilities that may allow them to develop new or improved
products that may compete with product lines Tumbleweed markets and distributes. Tumbleweed expects that the market for secure messaging applications will become more consolidated with



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larger companies being better positioned to compete in such an environment in the long term. As this market continues to develop, a number of companies with
greater resources than ours could attempt to increase their presence in this market by acquiring or forming strategic alliances with Tumbleweeds competitors or business partners. Tumbleweeds success will depend on its ability to adapt to
these competing forces, to develop more advanced products more rapidly and less expensively than Tumbleweeds competitors, and to educate potential customers as to the benefits of licensing Tumbleweeds products rather than developing
their own products. Competitors could introduce products with superior features, scalability and functionality at lower prices than Tumbleweeds products and could also bundle existing or new products with other more established products in
order to compete with us. In addition, because there are relatively low barriers to entry for the software market, Tumbleweed expects additional competition from other established and emerging companies. Increased competition is likely to result in
price reductions, reduced gross margins and loss of market share, any of which could harm Tumbleweeds business.



Changing Tumbleweeds sales distribution model from direct sales operations to indirect sales operations in Europe and Japan may reduce Tumbleweeds revenue
in future periods.



During 2002, Tumbleweed transitioned
from direct sales operations to indirect sales operations in Europe and Japan due to sustained declines in the operating results of those regions. In Europe, Tumbleweed is winding down its direct sales operations and has signed a reseller agreement
with a distributor to sell Tumbleweeds products and provide technical support to Tumbleweeds customers there. In Japan, Tumbleweed transitioned to an indirect sales distribution model and began the liquidation of its majority-owned
subsidiary in Japan, Tumbleweed Communications KK. Tumbleweed Communications KK ceased operations in August 2002 and formally declared bankruptcy in December 2002. Revenue from Tumbleweeds international regions in Europe and Asia may decrease
on a year-over-year basis in future years as a result of this transition.



Restructuring of operations and other cost reducing measures Tumbleweed has implemented may not achieve the results Tumbleweed intends and may adversely affect operation results in future periods.



In January 2001, Tumbleweed announced a restructuring of its business, which
included a reduction in force and the closure of three international locations. Since that time Tumbleweed has reduced its work force from more than 400 employees to approximately 210 employees and has engaged in other ongoing measures to reduce
expenses and establish an enterprise that is appropriate for Tumbleweeds expected revenue levels. The planning and implementation of these efforts have placed, and may continue to place, a significant strain on Tumbleweeds managerial,
operational, financial and other resources. Additionally, the actions undertaken to restructure the business may negatively affect Tumbleweeds revenue stream, customer satisfaction, employee turnover, recruiting and retention of important
employees. If Tumbleweed experiences difficulties in carrying out the restructuring, Tumbleweeds expenses could increase more quickly than Tumbleweed expects. If Tumbleweed finds that the actions taken to date did not sufficiently decrease
Tumbleweeds expenses, Tumbleweed may find it necessary to implement further streamlining of Tumbleweeds expenses, to perform additional reductions in Tumbleweeds headcount or to undertake additional restructurings of
Tumbleweeds business.



The restructuring of Tumbleweeds business
has placed a strain on resources, which may render it more difficult to realize the benefits from business opportunities.



The restructuring of Tumbleweeds business in 2001 has placed and continues to place, a significant strain on managerial, informational,
administrative and operational resources. Tumbleweeds current systems, procedures and controls may not be adequate to achieve the rapid execution necessary to effectively operate within the market for its products and services. Tumbleweed
needs to continue to enhance and improve its managerial capacity, and improve or replace its existing operational, customer service and financial systems, procedures and controls. Any failure to properly manage these systems and procedural
transitions could impair Tumbleweeds ability to attract and service customers, and could cause us to incur higher operating costs and delays in the execution of its business plan. Despite its restructuring, Tumbleweed expects that it may need
to expand elements of its employee base on a selective basis. Tumbleweeds management may not be able to hire, train, retain, motivate and manage required personnel. In addition, Tumbleweeds management may not be able to successfully
identify, manage and exploit existing and potential market opportunities. If Tumbleweed cannot manage its operations effectively, Tumbleweeds business and operating results could suffer. Finally, Tumbleweed may have operational, customer
service and financial systems that are not appropriate for Tumbleweeds current estimated size. Moving to more appropriate office systems may also place a strain on Tumbleweeds current systems and require financial expenditures to end the
commitments on other systems.



Tumbleweed has a lengthy sales and
implementation cycle, which increases the cost of completing sales and renders completion of sales less predictable.



If Tumbleweed is unable to license its services to new customers on a timely basis or if its existing and proposed customers and their end-users suffer
delays in the implementation and adoption of its services, Tumbleweeds revenue may be limited and business and prospects may be harmed. Tumbleweeds customers must evaluate its technology and integrate its products and



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services into the products and services they provide. In addition, Tumbleweeds customers may need to adopt a comprehensive sales, marketing and
training program in order to effectively implement some of its products. Finally, Tumbleweed must coordinate with its customers using its product for third-party communications in order to assist end-users in the adoption of Tumbleweeds
products. For these and other reasons, the cycle associated with establishing licenses and implementing Tumbleweeds products can be lengthy. This cycle is also subject to a number of significant delays over which Tumbleweed has little or no
control. Forecasts about license revenue may be inaccurate as a result of any or all of these factors, and inaccurate forecasts may cause Tumbleweeds business, or market valuation, to suffer.



Tumbleweed may be unable to adequately protect its intellectual property rights, and the
inability to do so could render its products less desirable and adversely affect its operating results.



Tumbleweed currently relies on a combination of patents, trade secrets, copyrights, trademarks and licenses, together with non-disclosure and
confidentiality agreements to establish and protect its proprietary rights in its products. Tumbleweed holds certain patent rights with respect to some of its products. Tumbleweeds existing patents or trademarks, as well as any future patents
or trademarks obtained by Tumbleweed, may be challenged, invalidated or circumvented, or Tumbleweeds competitors may independently develop or patent technologies that are substantially equivalent or superior to its technology. Tumbleweed also
relies on unpatented trade secrets and other unpatented proprietary information. Although Tumbleweed takes precautionary measures to maintain its unpatented proprietary information, others may acquire equivalent information or otherwise gain access
to or disclose Tumbleweeds proprietary information, and Tumbleweed may be unable to meaningfully protect its rights to its proprietary information as a result operating results will suffer.



Tumbleweed may be subject to claims of patent infringement, which could result in
substantial costs to Tumbleweed and, if adversely determined, render Tumbleweeds products less desirable or competitive or require Tumbleweed to obtain a license.



Third parties could assert patent or other intellectual property infringement claims against Tumbleweed, and the cost of
responding to such assertions, regardless of their validity, could be significant. Tumbleweed may increasingly be subject to claims of intellectual property infringement as the number of its competitors grows and the functionality of their products
and services increasingly overlap with Tumbleweeds. In this regard, in September 2002 and February 2003, Tumbleweed received letters from Entrust, Inc. indicating that Tumbleweed may be interested in licensing the technology covered by various
patents issued to Entrust. In October 2002, Tumbleweed sent a letter to Entrust indicating that Entrust may be interested in licensing the technology covered by various patents issued to Tumbleweed. Some element of Tumbleweeds processes are or
might be covered by any of these Entrust patents, Tumbleweed might seek to negotiate and obtain a license from Entrust. If Tumbleweed were unwilling or unable to obtain a license from Entrust, Tumbleweed would remain subject to potential liability
for patent infringement, which could have a material adverse effect on Tumbleweeds business and operating results.



In addition, on April 23, 2003, Tumbleweed received a letter from CoreStreet, Ltd. in which CoreStreet, Ltd. indicated it had filed a patent infringement
action against Valicert, Inc., which was later acquired by Tumbleweed. Notwithstanding the letter, CoreStreet has not served a summons or complaint upon Tumbleweed or Valicert. In addition, future patents may issue to third parties which Tumbleweed
may infringe. It may be time consuming and costly to defend Tumbleweed against any of these claims and Tumbleweed may not prevail. Furthermore, parties making such claims may be able to obtain injunctive or other equitable relief that could block
Tumbleweeds ability to further develop or commercialize some or all of Tumbleweeds products in the United States and abroad. In the event of a claim of infringement, Tumbleweed may be required to obtain one or more licenses from or pay
royalties to third parties. Tumbleweed may be unable to obtain any such licenses at a reasonable cost, if at all. Defense of any lawsuit or failure to obtain such license could harm Tumbleweeds business.



Tumbleweed is currently suing several third parties for patent infringement, which will
result in substantial litigation costs and ultimately may not result in additional revenue to Tumbleweed or a favorable judicial determination.



Since 1999 Tumbleweed has aggressively pursued cases of potential infringement by third parties of the Tumbleweed patents and other intellectual property
rights. In this regard, Tumbleweed is currently suing eBay Inc. and Ticketmaster. The enforcement process is costly and requires significant management attention. These costs generally are expensed during the period incurred, and the costs of
pursuing the litigation may not be directly matched with the related licensing or settlement revenue, if any. In addition, Tumbleweeds enforcement of its rights may increase the risk of adverse claims, with or without merit, which could be
time consuming to defend, result in costly litigation, divert managements attention and resources, limit the use of Tumbleweeds services, or require Tumbleweed to enter into royalty or license agreements. In addition, such counter-claims
asserted by these third parties may be found to be valid and could result in an injunction or damages against Tumbleweed. Tumbleweeds ability to prevail in this litigation is inherently uncertain, and if Tumbleweed were subject to an adverse
judicial determination, Tumbleweeds ability to protect its products and to secure related licensing or settlement revenue could be lost.



If Tumbleweed does not provide adequate support services to its customers to implement its products, Tumbleweed may lose all or a portion of the revenue from these
customers.



Tumbleweeds professional services organization assists its customers in implementing its products through software installation, integration with existing customer systems, contract
engineering, consulting and training. If the professional services organization does not adequately assess customer requirements or address technical problems, customers may seek to discontinue their relationships with us due to dissatisfaction with
the product or Tumbleweeds customer support. Furthermore, these customers may realize lower usage than they could have otherwise achieved because they did not fully capitalize on the product in ways that could have been addressed by
Tumbleweeds professional services organization. Tumbleweeds products must be



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integrated with existing hardware and complex software products of its customers or other third parties, and its customers may not have significant
experience with the implementation of products similar to Tumbleweeds own. In addition, profitably providing contract engineering and integration services is an increasingly important aspect of Tumbleweeds strategy to strengthen customer
loyalty to its product and company. Therefore, Tumbleweeds business and future prospects significantly depend on the strength of its professional services organization and its ability to leverage this organization by augmenting its reach
through trained and qualified systems integrators. If Tumbleweeds professional services organization does not adequately meet these multiple challenges, its business and prospects could suffer.



Product performance problems, system failures, and Internet problems could severely
interrupt service and harm Tumbleweeds reputation, which could adversely affect future revenue.



The ability of Tumbleweeds customers to use its services depends on stable product performance, and the efficient and uninterrupted operation of the
computer and communications hardware as well as the software and Internet network systems that they maintain. Although Tumbleweeds ability to manage the effects of system failures which occur in computer hardware, software and network systems
is limited, the occurrences of these failures could harm Tumbleweeds reputation, business and prospects. The Internet has experienced a variety of outages and other delays as a result of damage to portions of Tumbleweeds infrastructure,
and the Internet could face similar outages and delays in the future. In addition, an increasing number of Tumbleweeds customers require us to provide computer and communications hardware, software and Internet networking systems to them as an
outsourced data center service. All data centers, whether hosted by Tumbleweed, its customers or by an independent third party to which it outsources this function, are vulnerable to damage or interruption from fire, flood, earthquake, power loss,
telecommunications failure or other similar events.



If Tumbleweeds
software contains errors, Tumbleweed may lose customers or experience reduced market acceptance of its products.



Tumbleweeds software products are inherently complex and may contain defects and errors that are detected only when the products are in use. In
addition, some of Tumbleweeds customers require or may require enhanced customization of Tumbleweeds software for their specific needs, and these modifications may increase the likelihood of undetected defects or errors. Further,
Tumbleweed often provides implementation, consulting and other technical services, the performance of which typically involves working with sophisticated software, computing and networking systems, and Tumbleweed could fail to meet customer
expectations as a result of any defects or errors. As a result, Tumbleweed may lose customers, customers may fail to implement Tumbleweeds products more broadly within their organization and Tumbleweed may experience reduced market acceptance
of Tumbleweeds products. Some of Tumbleweeds products are designed to facilitate the secure transmission of sensitive business information to specified parties outside the business over the Internet. As a result, the reputation of
Tumbleweeds software products for providing good security is vital to their acceptance by customers. Tumbleweeds products may be vulnerable to break-ins, theft or other improper activity that could jeopardize the security of information
for which Tumbleweed is responsible. Problems caused by product defects, failure to meet project milestones for services or security breaches could result in loss of or delay in revenue, loss of market share, failure to achieve market acceptance,
diversion of research and development resources, harm to Tumbleweeds reputation, or increased insurance, service and warranty costs. To address these problems, Tumbleweed may need to expend significant capital resources that may not have been
budgeted.



Failure to license necessary third party software incorporated in
Tumbleweeds products could cause delays or reductions in Tumbleweeds sales.



Tumbleweed licenses third party software that Tumbleweed incorporates into its products. These licenses may not continue to be available on commercially reasonable terms, or at all. Some of this technology would be
difficult to replace. The loss of any such license could result in delays or reductions of Tumbleweeds applications until Tumbleweed identifies, license and integrate or develop equivalent software. If Tumbleweed is required to enter into
license agreements with third parties for replacement technology, Tumbleweed could face higher royalty payments and Tumbleweeds products may lose certain attributes or features. In the future, Tumbleweed might need to license other software to
enhance its products and meet evolving customer needs. If Tumbleweed is unable to do this, Tumbleweed could experience reduced demand for its products.



Tumbleweed may be unable to recruit, retain and motivate qualified personnel, which could adversely affect product development and thereby limit future business
opportunities.



Tumbleweed must continue to identify,
recruit, hire, train, retain and motivate highly skilled technical, managerial, sales, marketing and customer service personnel. Competition for these personnel is intense, and Tumbleweed may not be able to successfully recruit, assimilate or retain
sufficiently qualified personnel. In particular, Tumbleweed may encounter difficulties in recruiting a sufficient number of qualified software developers and sales personnel, and Tumbleweed may not be able to retain these employees. The failure to
recruit and retain necessary technical, managerial, sales, merchandising, marketing and customer



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service personnel could harm Tumbleweeds business and its ability to obtain new customers and develop new products. Although Tumbleweed has used and
continue to use stock options as a retention tool, many of Tumbleweeds employees hold stock options that are underwater (i.e., the market price of Tumbleweeds stock is below their option exercise price), and these options may
be ineffective as a retention tool. Tumbleweeds employee turnover may increase if outstanding stock options continue to remain underwater and Tumbleweed does not adjust the option exercise prices. Any adjustment of stock option exercise prices
may result in additional stock compensation expense, dilution to Tumbleweeds stockholders and depress Tumbleweeds stock price.



If Tumbleweed loses the services of executive officers or other key employees, Tumbleweeds ability to develop its business and secure customer relationships will
suffer.



Tumbleweed is substantially dependent on the
continued services and performance of its executive officers and other key personnel. The loss of the services of any of Tumbleweeds executive officers or other key employees could significantly delay or prevent the achievement of
Tumbleweeds development and strategic objectives. Tumbleweed does not have long-term employment agreements with any of Tumbleweeds key personnel. The loss of services of any of Tumbleweeds executive officers or other key personnel
could significantly harm Tumbleweeds business and prospects.



Tumbleweeds efforts to establish, maintain and strengthen its brands will require significant expenditures and may not be successful.



If the marketplace does not associate Tumbleweeds brands with high quality Internet communication services, it may be more difficult for us to
attract new customers or introduce future products and services. The market for Tumbleweeds services is new. Therefore, Tumbleweeds failure to establish brand recognition at this stage could harm its ability to compete in the future with
other companies that successfully establish a brand name for their services. Tumbleweed must succeed in its marketing efforts, provide high quality services and increase Tumbleweeds user base in order to build its brand awareness and
differentiate Tumbleweeds products from those of its competitors. These efforts have required significant expenditures to date. Moreover, Tumbleweed believes that these efforts will require substantial commitments of resources in the future as
Tumbleweeds brands become increasingly important to its overall strategy and as the market for Tumbleweeds services grows.



Tumbleweeds allowance for doubtful accounts may be insufficient to cover receivables Tumbleweed is unable to collect, which could adversely affect future
operating results.



Tumbleweed assumes a certain level of
credit risk with its customers in order to do business. Conditions affecting any of Tumbleweeds customers could cause them to become unable or unwilling to pay us in a timely manner, or at all, for products or services Tumbleweed has already
provided them. For example, if the current economic conditions continue to decline or if new or unanticipated government regulations are enacted which affect Tumbleweeds customers, they may be unable to pay their bills. In the past, Tumbleweed
has experienced significant collection delays from certain customers, and Tumbleweed cannot predict whether it will continue to experience similar or more severe delays in the future. In particular, some of Tumbleweeds customers are suffering
from the general weakness in the economy and among technology companies in particular. Although Tumbleweed has established an allowance for doubtful accounts that it believes is sufficient to cover losses due to delays in or inability to pay and
while it takes a consistently conservative position on the collectibility of receivables with respect to particular customers, Tumbleweeds allowance for doubtful accounts may not be sufficient to cover its losses. If losses due to delays or
inability to pay are greater than Tumbleweeds allowance for doubtful accounts, Tumbleweed would be required to recognize an additional expense for the write-off and to increase Tumbleweeds allowance for doubtful accounts, which could
adversely affect its operating results.



Because Tumbleweeds products
utilize the Internet, if use of the Internet does not increase, or the architecture of the Internet is altered, the level of use of Tumbleweeds products may not decline or not increase.



If the Internet and other products and services necessary for the
utilization of Tumbleweeds products are not sufficiently developed, fewer customers and end-users will use Tumbleweeds products and its business will be harmed. In particular, the success of Tumbleweeds products and services will
depend on the development and maintenance of adequate Internet infrastructure, such as a reliable network backbone with the necessary speed, data capacity and other features demanded by users. Moreover, Tumbleweeds success will also depend on
the timely development of complementary products or services such as high-speed Internet connections for providing reliable access and services and this may not occur. Moreover, changes in the architecture of the Internet may limit the success of
Tumbleweeds products. Because the online exchange of information is new and evolving, the Internet may not prove to be a viable platform for secure messaging applications in the long term. The Internet has experienced, and is expected to
continue to experience, significant growth in the numbers of users and amount of traffic. As the Internet continues to experience increased numbers of users and frequency of use, or if its users require increasingly more resources, the Internet
infrastructure may not be able to support the demands placed on it. As a result, the performance or



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reliability of the Internet may be harmed. This in turn could decrease the level of Internet usage and also the level of utilization of Tumbleweeds
products and services.



Government regulation relating to the Internet may
increase costs of doing business or require changes in Tumbleweeds business model, which could increase Tumbleweeds cost of doing business or decrease the demand for its products.



Tumbleweed is subject to regulations applicable to businesses generally and
laws or regulations directly applicable to companies utilizing the Internet. Although at present there are relatively few specific laws and regulations directly applicable to the Internet, it is possible that a number of laws and regulations may be
adopted with respect to the Internet. These laws could cover issues like user privacy, pricing, content, intellectual property, distribution, taxation, antitrust, legal liability and characteristics and quality of products and services. The adoption
of any additional laws or regulations could decrease the demand for Tumbleweeds products and services and increase Tumbleweeds cost of doing business or otherwise harm Tumbleweeds business or prospects. Delays in the enactment of
expected regulations may result in delayed software purchasing by Tumbleweeds customers who are subject to such regulations, which in turn may harm Tumbleweeds business.



Moreover, the applicability to the Internet of existing laws in various jurisdictions governing issues like property
ownership, sales and other taxes, libel and personal privacy is uncertain and may take years to resolve. For example, tax authorities in a number of states are currently reviewing the appropriate tax treatment of companies engaged in online
commerce. New state tax regulations may subject us to additional state sales and income taxes. Any new legislation or regulation, the application of laws and regulations from jurisdictions whose laws do not currently apply to Tumbleweeds
business, or the application of existing laws and regulations to the Internet and commercial online services could harm Tumbleweeds ability to conduct business and harm operating results.



If Tumbleweed may be unable to obtain necessary export approvals the market opportunity
for Tumbleweed products would decline.



Exports of
software products utilizing encryption technology are generally restricted by the U.S. and various foreign governments. All cryptographic products require export licenses from certain U.S. government agencies. We have obtained approval to export
products using up to 128-bit symmetric encryption and 1024-bit public key encryption, including the products formerly named IME Server, IME Desktop, IME Receive Applet, IME Remote API using OmniORB with SSL, MMS WorldWide/56 and MMS Strong
WorldWide/128. We are not exporting other products and services that are subject to export control under U.S. law. However, the list of products and countries for which export approval is required, and the related regulatory policies, could be
revised, and Tumbleweed may not be able to obtain necessary approval for the export of future products. The inability to obtain required approvals under these regulations could limit Tumbleweeds ability to make international sales.
Furthermore, competitors may also seek to obtain approvals to export products that could increase the amount of competition Tumbleweed faces. Additionally, countries outside of the U.S. could impose regulatory restrictions impairing
Tumbleweeds ability to import its products into those countries.



Costs of communicating via the Internet could increase if access fees are imposed, which could adversely affect demand for Tumbleweeds products or render them less competitive.



Certain local telephone carriers have asserted that the increasing
popularity and use of the Internet has burdened the existing telecommunications infrastructure, and that many areas with high Internet use have begun to experience interruptions in telephone service. These carriers have petitioned the Federal
Communications Commission to impose access fees on Internet service providers and online service providers. If these access fees are imposed, the costs of communicating on the Internet could increase substantially, potentially slowing the increasing
use of the Internet. This could in turn decrease demand for Tumbleweeds services or increase the costs of doing business.



Tumbleweed may have liability for Internet content, which could increase Tumbleweeds costs of compliance or subject Tumbleweed to potential damages claims.



As a provider of Internet communication products and
services, Tumbleweed faces potential liability for defamation, negligence, copyright, patent or trademark infringement and other claims based on the nature and content of the materials transmitted online. Any imposition of liability, particularly
liability that is not covered by insurance or is in excess of insurance coverage, could be costly and could require us to implement measures to reduce exposure to this liability. This may require us to expend substantial resources or to discontinue
selected service or product offerings.



We do not and cannot
screen all of the content generated by users of Tumbleweeds product but may be exposed to liability with respect to this content. Furthermore, certain foreign governments, such as Germany, have enforced laws and regulations related to content
distributed over the Internet that are more strict than those currently in place in the U.S. Other countries, such as



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China, regulate or prohibit the transport of telephonic data in their territories. Failure to comply with regulations in a particular jurisdiction could
result in fines or criminal penalties or the termination of service in one or more jurisdictions. Moreover, the increased attention focused on liability issues as a result of lawsuits and legislative proposals could impact the growth of Internet
use. Liability insurance may not cover claims of these types, or may not be adequate to indemnify against all liability that may be imposed.



A Tumbleweed subsidiary may have liability arising from indemnification obligations it may owe to a former officer who is being sued for breach of fiduciary duty.



On July 7, 2000, three complaints were filed by David H.
Zimmer, Congressional Securities, Inc, and others against Interface Systems, Inc. (a company Tumbleweed acquired in 2000) and various additional defendants including Interfaces prior president and chief executive officer, Robert A. Nero.
Plaintiffs currently seek compensatory damages for losses resulting from not selling their Interface stock from March 14, 2000 to the end of March 2000 and for losses from purchases of Interface stock from March 14, 2000 through April 12, 2000. In
March 2003, the court dismissed all claims against Interface and dismissed all claims against Mr. Nero, except a breach of fiduciary duty claim to the extent that claim arises from Michigan common law. In April 2003, Mr. Nero filed an answer and a
counterclaim against Mr. Zimmer and Congressional Securities, Inc. seeking contribution and indemnity. Because Mr. Nero and Interface are parties to an indemnification agreement, Interface may incur vicarious liability if and to the extent that the
court awards damages against Mr. Nero in this lawsuit. The accompanying financial statements do not include a reserve for any costs for damages, if any, that might result from this uncertainty. An adverse outcome could significantly harm
Tumbleweeds business and operating results.



Tumbleweed may be a
defendant in a purported securities class action lawsuit which could divert management attention and resources or eventually expose Tumbleweed to liability.



In June 2003, Tumbleweed was served with a summons and complaint with respect to a lawsuit filed in the United States District Court for the Southern
District of Florida, alleging the violation of federal and state securities laws, purportedly on behalf of persons who acquired the common stock of Tumbleweed (other than purchasers of Tumbleweeds initial public offering) from August 6, 1999
to October 18, 2000. An adverse outcome could harm Tumbleweeds business and operating results. Moreover, the costs in defending this lawsuit could harm future operating results. The accompanying consolidated condensed financial statements do
not include a reserve for any potential loss, as we do not consider a loss to be probable at this time. An adverse outcome could harm Tumbleweeds business and operating results. Moreover, the costs in defending this lawsuit could harm future
operating results.



Internet and technology related stock prices are
especially volatile and this volatility may depress Tumbleweeds stock price.



The stock market has experienced significant price and volume fluctuations and the market prices of securities of technology companies, particularly Internet-related companies, have been highly volatile. In the past,
following periods of volatility in the market price of a companys securities, securities class action litigation has often been instituted against companies. The institution of this type of litigation against Tumbleweed could result in
substantial costs and a diversion of Tumbleweeds managements attention and resources, which could harm Tumbleweeds business and prospects.



Tumbleweeds certificate of incorporation and bylaws contain provisions that could discourage or prevent an acquisition of Tumbleweed, which could depress
Tumbleweeds stock price.



Tumbleweeds
certificate of incorporation and bylaws may inhibit changes of control that are not approved by its Board of Directors. These provisions could limit the price that investors might be willing to pay in the future for shares of Tumbleweeds
common stock. In particular, Tumbleweeds certificate of incorporation provides for a classified Board of Directors and prohibits stockholder action by written consent. These provisions require advance notice for nomination of directors and
stockholders proposals. In addition, as a Delaware corporation, we are subject to Section 203 of the Delaware General Corporation Law. In general, this law prevents a person who becomes the owner of 15% or more of the corporations
outstanding voting stock from engaging in specified business combinations for three years unless specified conditions are satisfied. In addition, Tumbleweeds certificate of incorporation allows its Board of Directors to issue preferred stock
without further stockholder approval. This could have the effect of delaying, deferring or preventing a change in control. The issuance of preferred stock also could effectively limit the voting power of the holders of Tumbleweed common stock. The
provisions of Tumbleweeds certificate of incorporation and bylaws, as well as provisions of Delaware law, may discourage or prevent an acquisition or disposition of Tumbleweeds business.



Tumbleweed may not be able to maintain its listing on The Nasdaq National Market, and if
Tumbleweed fails to do so, the price and liquidity of Tumbleweeds common stock may decline.



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The Nasdaq Stock Market has quantitative maintenance criteria for the continued listing of common stock
on the Nasdaq National Market. The requirements include maintaining a minimum bid price per share of $1. As of August 12, 2003, Tumbleweed was in compliance with all Nasdaq National Market listing requirements. However, there have been recent
periods when the closing bid price per share for Tumbleweeds common stock has dropped below $1. Although Tumbleweeds bid price has generally been above $1 per share, if the bid price of Tumbleweeds common stock price slips below $1
per share for more than 30 trading days, Tumbleweed may be required to effect a reverse stock split or become subject to a delisting action of Tumbleweeds common stock on The Nasdaq National Market. Tumbleweed may nonetheless be unable to
comply with the quantitative maintenance criteria or any of The Nasdaq National Markets listing requirements and other rules in the future. If Tumbleweed fails to maintain continued listing on The Nasdaq National Market and must move to a
market with less liquidity, Tumbleweeds financial condition could be harmed and its stock price may decline. If Tumbleweed were to be delisted, it could have a material adverse effect on the market price of, and the liquidity of the trading
market for, Tumbleweeds common stock.



The combined company must
succeed in the Internet business communications system market if it is to realize the expected benefits of the Tumbleweed-Valicert merger.



The combined companys strategic plan depends upon the successful development and introduction of products and solutions that address the needs of
the Internet business communication systems market. In order for the combined company to succeed in this developing market, it must align strategies and objectives and focus a significant portion of its resources towards serving this market. The
challenges involved in this integration include the following:



| |  |  | coordinating software development operations in a rapid and efficient manner to ensure timely release of products to market;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------



| |  |  | combining product offerings and product lines quickly and effectively;
| | - |  | ----------------------------------------------------------------------



| |  |  | successfully managing difficulties associated with transitioning current customers to new product lines;
| | - |  | --------------------------------------------------------------------------------------------------------



| |  |  | demonstrating to our customers that the merger will not result in adverse changes in customer service standards or business focus;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------



| |  |  | retaining key alliances;
| | - |  | ------------------------



| |  |  | motivating and retaining the employees of the combined company, particularly key management, technical, sales and customer support personnel; and
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | persuading our employees that Tumbleweeds and Valicerts business cultures are compatible.
| | - |  | -------------------------------------------------------------------------------------------



In addition, the combined companys success in this new market will depend on several factors, many of which are
outside the combined companys control, including:



| |  |  | growth, if any, of the Internet business communication systems market;
| | - |  | ----------------------------------------------------------------------



| |  |  | deployment of the combined companys products by enterprises;
| | - |  | -------------------------------------------------------------



| |  |  | promotion of the combined companys products by partners and resellers; and
| | - |  | ---------------------------------------------------------------------------



| |  |  | the emergence of substitute technologies and products.
| | - |  | ------------------------------------------------------



The failure of the combined company to succeed in this market would significantly harm its business and prevent it from realizing the anticipated benefits
of the merger.



If the combined company is not able to rapidly and
successfully combine the two previously separate businesses, anticipated benefits of the merger may not be realized, and future operating results may be adversely affected.



The Tumbleweed-Valicert merger will not achieve the anticipated benefits unless Tumbleweed
successfully combines its operations with those of Valicert and integrates the two companies product solutions in a timely manner. Integrating Tumbleweed and Valicert will be a complex, time consuming and expensive process and may result in
revenue disruption and operational difficulties. The combined company may have difficulty retaining the customers of the combined businesses and assimilating and retaining personnel. In addition, the integration of the operations and systems of the
two companies and the realization of potential increased efficiencies may prove difficult and may cause managements attention to be diverted from other business concerns. These and other difficulties associated with the merger may lead to
potential adverse effects on the business and operating results of the combined company.



The product integration efforts with Tumbleweed and Valicert products may be hindered by a variety of technical factors that could adversely affect future operating results.



The combination of products from each
company may result in unanticipated architectural incompatibilities that would require additional time and engineering resources to resolve. The identification and resolution of any previously divergent technical standards used by each
companys personnel, as well as the implementation of common product development practices and standards, may result in unanticipated product development delays. In addition, the installation of integrated or complementary software products at
each companys customer sites may result in difficulties associated with customer-specific installation processes. The occurrence of any of these events could adversely affect future operating results of the combined company.



If the combined company fails to efficiently combine Valicerts and Tumbleweeds
sales and marketing forces, its sales could suffer.



The combined company may experience delay or other disruption in sales and marketing in connection with its efforts to integrate the two companies. In particular, because the two companies had
two previously separate sales forces, including the sales channels used by Valicert, the combined company may be unable to efficiently or effectively correct such disruption or achieve its sales and marketing objectives after integration. Any such
disruptions could cause the combined company to fail to achieve the anticipated benefits of the merger and could adversely affect future operating results of the combined company.



The significant costs associated with the merger may not prove to be justified in light of the benefits ultimately realized and could
adversely affect future liquidity and operating results.



The significant costs associated with the merger may not prove to be justified in light of the benefits ultimately realized and could adversely affect future liquidity and operating results.



Tumbleweeds international business exposes Tumbleweed to additional
risks that may result in future additional costs or limit the market for product sales.



Products and services provided to Tumbleweeds international customers accounted for a substantial portion of revenues during the prior quarters. Conducting
business outside of the United States subjects Tumbleweed to additional risks, including:



| |  |  | changes in regulatory requirements;
| | - |  | -----------------------------------



| |  |  | reduced protection of intellectual property rights;
| | - |  | ---------------------------------------------------



| |  |  | evolving privacy laws;
| | - |  | ----------------------



| |  |  | tariffs and other trade barriers;
| | - |  | ---------------------------------



| |  |  | difficulties in staffing and managing foreign operations;
| | - |  | ---------------------------------------------------------



| |  |  | problems in collecting accounts receivable; and
| | - |  | -----------------------------------------------



| |  |  | difficulties in authenticating customer information.
| | - |  | ----------------------------------------------------



Managing these risks may subject Tumbleweed to additional costs that may not be justified in light of the market
opportunity, and the inability to comply with or manage foreign laws and related risks may preclude or limit sales in foreign jurisdictions. In addition, the recent outbreak of severe acute respiratory syndrome, or SARS, that began in China, Hong
Kong, Singapore and Vietnam may have a negative impact on Tumbleweeds operations by factors such as reduced sales in international channels.



Tumbleweed must maintain and enter into new collaborative agreements in order to implement its business plan, and the inability to do so could adversely affect future
operating results.



One of
Tumbleweeds objectives is to enter into strategic or other similar collaborative alliances in order to reach a larger customer base than Tumbleweed could reach through Tumbleweeds direct sales and marketing efforts. Tumbleweed will need
to maintain or enter into additional strategic alliances to execute Tumbleweeds business plan. If Tumbleweed is unable to maintain Tumbleweeds strategic alliances or enter into additional strategic alliances, Tumbleweeds business
would be materially harmed. Tumbleweed has entered into technology, marketing and distribution agreements with several companies. Tumbleweed may be unable to leverage the brand and distribution power of these agreements to increase the adoption rate
of Tumbleweeds technology. Tumbleweed has been establishing agreements to ensure that third-party solutions are interoperable with Tumbleweeds software products and services. To the extent that Tumbleweeds products are not
interoperable or Tumbleweeds agreements choose not to integrate Tumbleweeds technology into their offerings, the adoption of Tumbleweeds software products and outsourced services would be inhibited. Furthermore, agreements
Tumbleweeds success will depend in part on the ultimate success of other parties to these agreements. Tumbleweeds existing agreements do not, and any future agreements may not, grant Tumbleweed exclusive marketing or distribution rights.
In addition, the other parties may not view their agreements with Tumbleweed as significant for their own businesses. Therefore, these parties could reduce their commitment to Tumbleweed at any time in the future. These parties could also pursue
alternative technologies or develop alternative products and services, either on their own or in collaboration with others, including Tumbleweeds competitors. Should any of these developments occur, Tumbleweeds business will be harmed.



Tumbleweeds success depends on its ability to grow and develop its
direct sales and indirect distribution channels and the inability to do so could adversely affect future operating results.



Tumbleweeds failure to grow and develop Tumbleweeds direct sales channel and increase the number of
Tumbleweeds indirect distribution channels could have a material adverse effect on Tumbleweeds business, operating results and financial condition. Tumbleweed must increase the number of strategic and other third-party relationships with
vendors of Internet-related systems and application software, resellers and systems integrators. Tumbleweeds existing or future channel partners may choose to devote greater resources to marketing and supporting the products of other
companies.



Tumbleweed relies on public key cryptography and other security
techniques that could be breached, resulting in reduced demand for Tumbleweeds products and services.



A requirement for the continued growth of electronic commerce is the secure transmission of confidential information over
public networks. Tumbleweed relies on public key cryptography, an encryption method that utilizes two keys, a public and private key, for encoding and decoding data, and on digital certificate technology, to provide the security and authentication
necessary for secure transmission of confidential information. Regulatory and export restrictions may prohibit Tumbleweed from using the strongest and most secure cryptographic protection available, and thereby may expose Tumbleweed or
Tumbleweeds customers to a risk of data interception. A party who is able to circumvent Tumbleweeds security measures could misappropriate proprietary information or interrupt Tumbleweeds or Tumbleweeds customers
operations. Any compromise or elimination of Tumbleweeds security could result in risk of loss or litigation and possible liability and reduce demand for Tumbleweeds products and services.



ITEM 3QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK



Tumbleweed currently does not use financial instruments to hedge operating expenses in Hong Kong, India, Japan, the Netherlands, Switzerland, or the
United Kingdom which are denominated in the respective local currency. We assess the need to utilize financial instruments to hedge currency exposures on an ongoing basis.



Tumbleweed does not use derivative financial instruments for speculative trading purposes, nor do we hedge our foreign
currency exposure in a manner that entirely offsets the effects of changes in foreign exchange rates. We regularly review our hedging program and may as part of this review determine at any time to change our hedging program.



Interest Rate Sensitivity



The primary objective of Tumbleweeds investment activities is to
preserve principal while at the same time maximizing the income we receive from our investments without significantly increasing risk. Some of the securities that we have invested in may be subject to market risk. This means that a change in
prevailing interest rates may cause the fair value of the investment to fluctuate. For example, if we hold a security that was issued with a fixed rate equal to the then-prevailing interest rate and the prevailing interest rate later rises, the fair
value of our investment will decline. To minimize this risk, we maintain our portfolio of cash equivalents in commercial paper and money market funds. In general, our investments are not subject to market risk because the interest paid on these
funds fluctuates with the prevailing interest rate. As of June 30, 2003, none of our cash equivalents were subject to market risk.



ITEM 4CONTROLS AND PROCEDURES



(a)  Disclosure Controls and Procedures.    The Companys management, with the participation of the Companys Chief Executive Officer and Chief Financial Officer, has evaluated
the effectiveness of the Companys disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act)) as of the end of the period
covered by this report. Based on such evaluation, the Companys Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Companys disclosure controls and procedures are effective in
recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act.



(b)  Internal Controls Over Financial Reporting.    There have not been any changes in the
Companys internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely
to materially affect, the Companys internal control over financial reporting.



PART IIOTHER INFORMATION



ITEM 1LEGAL PROCEEDINGS



On July 7, 2000, three complaints were filed by David H. Zimmer, Congressional Securities, Inc. and others against Interface Systems, Inc. (a company Tumbleweed acquired in 2000) and various additional defendants,
including Interfaces prior president and chief executive officer, Robert A. Nero. Plaintiffs complaint currently seeks compensatory damages for losses resulting from not selling their Interface stock from March 14, 2000 to the end of
March 2000 and for losses from purchases of Interface stock from March 14, 2000 through April 12, 2000. In March 2003, the court dismissed all claims against Interface and dismissed all claims against Mr. Nero, except a breach of fiduciary duty
claim to the extent that claim arises from Michigan common law. In April 2003, Mr. Nero filed an answer and a counterclaim against Mr. Zimmer and Congressional Securities, Inc. seeking contribution and indemnity. In June 2003, Mr. Nero filed a
motion asking the Court to grant summary judgment in his favor. Because Mr. Nero and Interface are parties to an indemnification agreement, Interface may incur vicarious liability if and



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to the extent that the court awards damages against Mr. Nero in this lawsuit. The accompanying financial statements do not include a reserve for any costs
for damages, if any, that might result from this uncertainty as a loss is not probable or estimable. An adverse outcome could significantly harm Tumbleweeds business and operating results.



In June 2003, Tumbleweed was served with a summons and complaint with respect
to a lawsuit filed in the United States District Court for the Southern District of Florida, alleging the violation of federal and state securities laws, purportedly on behalf of persons who acquired the common stock of Tumbleweed (other than
purchasers of Tumbleweeds initial public offering) from August 6, 1999 to October 18, 2000. An adverse outcome could harm Tumbleweeds business and operating results. Moreover, the costs in defending this lawsuit could harm future
operating results. The accompanying consolidated condensed financial statements do not include a reserve for any potential loss, as we do not consider a loss to be probable at this time.



Although Tumbleweed believes these lawsuits are without merit, no assurance can be given about their outcome, and an adverse
outcome could significantly harm our business and operating results. Moreover, the costs in defending the lawsuits could harm future operating results.



In December 2001, certain plaintiffs filed a class action lawsuit in the United States District Court for the Southern District of New York on behalf of
purchasers of the common stock of Valicert, Inc. (a company Tumbleweed acquired in June 2003), alleging violations of federal securities laws. In re Valicert, Inc. Initial Public Offering Securities Litigation, No. 01-CV-10889 (SAS) (S.D.N.Y.),
related to In re Initial Public Offering Securities Litigation, No. 21 MC 92 (SAS). The operative amended complaint is brought on purported behalf of all persons who purchased Valicert common stock from the date of its July 27, 2000 initial public
offering through December 6, 2000. It names as defendants Valicert, its former chief executive officer, its chief financial officer (the Valicert Defendants), as well as an investment banking firm that served as an underwriter for the
IPO. The complaint alleges liability under Sections 11 and 15 of the Securities Act of 1933 and Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, on the grounds that the registration statement for the IPO did not disclose that: (1)
the underwriter agreed to allow certain customers to purchase shares in the IPO in exchange for excess commissions to the paid to the underwriter; and (2) the underwriter arranged for certain customers to purchase additional shares in the
aftermarket at predetermined prices. The complaint also appears to allege that false or misleading analyst reports were issued. The complaint does not claim any specific amount of damages. Similar allegations have been made in lawsuits relating to
more than 300 other initial public offerings conducted in 1999 and 2000, all of which have been consolidated for pretrial purposes. In February 2003, the Court issued a ruling on all defendants motions to dismiss, denying Valicerts
motion to dismiss the claims under the Securities Act of 1933, but granting Valicerts motion to dismiss the claims under the Securities Exchange Act of 1934.



In June 2003, Valicert accept a settlement proposal presented to all issuer defendants in this case. Under the proposed
settlement, the plaintiffs will dismiss and release all claims against the Valicert Defendants in exchange for a contingent payment guaranty by the insurance companies collectively responsible for insuring the issuers in all the consolidated cases,
and the assignment or surrender of control to the plaintiffs of certain claims the issuer defendants may have against the underwriters. Under the guaranty, the insurers will be required to pay the amount, if any, by which $1 billion exceeds the
aggregate amount ultimately collected by the plaintiffs from the underwriter defendants in all of the cases. If the plaintiffs fail to recover $1 billion and payment is required under the guaranty, Valicert would be responsible to pay its pro rata
portion of the shortfall, up to the amount of the deductible retention under its insurance policy, which is $500,000. The timing and amount of payments that Valicert could be required to make under the proposed settlement will depend on several
factors, principally the timing and amount of any payment required by the insurers pursuant to the $1 billion guaranty. The proposed settlement is subject to approval of the Court, which cannot be assured. The accompanying consolidated condensed
financial statements do not include a reserve for any potential loss, as we do not consider a loss to be probable at this time.



In May 2002, Tumbleweed sued PayPal, Inc. alleging infringement of our U.S. Patent No. 5,790,790 and our U.S. Patent No. 6,192,407. In May 2002 PayPal
filed an answer and counterclaims denying our allegations and seeking declarations from the court that our patents are not infringed and are invalid. In September 2002, we filed a First Amended Complaint that added eBay, Inc. as a defendant. Both
PayPal and eBay filed an answer and counterclaims to the First Amended Complaint denying our allegations and seeking declarations from the court that our patents are not infringed and are invalid. In January 2003, we filed a Second Amended Complaint
that added a cause of action against each of PayPal and eBay for infringement of our U.S. Patent No. 6,487,599, which the U.S. Patent and Trademark Office granted to us after we had filed the First Amended Complaint. Both PayPal and eBay filed an
answer and counterclaims to the Second Amended Complaint denying our allegations and seeking declarations from the court that our patents are not infringed and are invalid. The Court held a claim construction hearing on July 18, 2003. This
litigation is scheduled for trial in September 2004.



In
September 2002, Tumbleweed received a letter from Entrust, Inc. indicating that we may be interested in licensing the technology covered by U.S. Patent No. 6,393,568, Encryption and Decryption System and Method with Content Analysis Provision,
issued to Entrust. In October 2002, we sent a letter to Entrust indicating that Entrust may be interested in licensing the technology covered by four patents issued to Tumbleweed. In February 2003, we received a letter from Entrust indicating that
we may have an interest in three additional patents issued to Entrust.



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Tumbleweed believes it does not infringe any valid Entrust patent. Moreover, in April 2003, Tumbleweed
filed with the U.S. Patent and Trademark Office a request for interference with Entrust Patent No. 6,393,568. If we were to conclude based on additional information that some element of our processes are or might be covered by a valid Entrust
patent, we might seek to negotiate and obtain a license from Entrust. If we were unwilling or unable to obtain a license from Entrust, we would remain subject to potential liability for patent infringement. Although we will contest any lawsuit by
Entrust vigorously, we cannot make assurances that we will prevail if Entrust were to sue us for infringement of any of the Entrust patents. If any portions of our products were found to be infringing a valid Entrust patent, then we would likely be
unable to continue to offer those portions of our products found to be infringing. We could also then be required to pay damages for past infringing use, possibly attorneys fees, and possibly treble damages. This could have a material adverse
effect on our business prospects, financial condition, results of operations, and cash flows.



In February 2003, Tumbleweed sued Ticketmaster alleging infringement of three of our U.S. Patents, Nos. 5,790,790, 6,192,407, and 6,487,599. In March 2003 Ticketmaster filed an answer to our Complaint denying our
allegations and seeking declarations from the court that our patents are not infringed and are invalid. This litigation is scheduled for trial in August 2004.



In June 2003, Tumbleweed executed a settlement agreement with respect to the lawsuit it had filed against Yahoo!, Inc. and HSBC Bank USA, alleging
infringement of our U.S. Patent Nos. 5,790,790, 6,192,407, and 6,487,599. The parties dismissed the lawsuit in July 2003.



In June 2003, Tumbleweed executed a settlement agreement with respect to the lawsuit it had filed against Ameritrade, Inc., alleging infringement of two
of our U.S. Patents, Nos. 6,192,407, and 6,529,956. The parties dismissed the lawsuit in July 2003.



ITEM 6EXHIBITS AND REPORTS ON FORM 8-K



a. Exhibits are incorporated herein by reference or are filed with this report as indicated below (numbered in accordance with Item 601 of Regulation S-K):



|                | 
|--------------- | 
|Exhibit 2.1(1)  | 
|                | 
|Exhibit 10.1(2) | 
|                | 
|Exhibit 10.2(2) | 
|                | 
|Exhibit 10.3(2) | 
|                | 
|Exhibit 10.4(2) | 
|                | 
|Exhibit 10.5(2) | 
|                | 
|Exhibit 10.6(2) | 
|                | 
|Exhibit 10.7(2) | 
|                | 
|Exhibit 10.8(2) | 
|                | 
|Exhibit 31.1    | 
|                | 
|Exhibit 31.2    | 
|                | 
|Exhibit 32.1    | 
|                | 
|Exhibit 32.2    | 

---

|(1) |  | Previously filed in Tumbleweeds Current Report on Form 8-K, filed on March 6, 2003, and incorporated herein by reference.
|--- |  | --------------------------------------------------------------------------------------------------------------------------

|(2) |  | Previously filed in Tumbleweeds Registration Statement on Form S-4, filed on March 17, 2003 (File No. 333-103876), and incorporated herein by reference.
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------



b. Reports on Form 8-K:



On February 20, 2003, Tumbleweed filed a report on Form 8-K, which announced
the signing of a definitive merger agreement with Valicert, Inc. A copy of Tumbleweeds press release announcing the merger was attached thereto.



On March 6, 2003, Tumbleweed filed a report on Form 8-K, which disclosed the terms and conditions of the merger agreement with Valicert, Inc. A copy of
the merger agreement was attached and incorporated thereto.



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SIGNATURES



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



|                      |  | TUMBLEWEED COMMUNICATIONS CORP.
|--------------------- |  | -------------------------------
|                      |  |                                
|Date: August 14, 2003 |  | By:                            
|                      |  |                                
|                      |  |                                
|                      |  |                                
|Date: August 14, 2003 |  | By:                            
|                      |  |                                
|                      |  |                                



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