---

SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549





---




FORM 10-Q





|x |  | Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended June 30, 2002
|- |  | ------------------------------------------------------------------------------------------------------------------------------------




| ̈ |  | Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
|- |  | ----------------------------------------------------------------------------------------




For the Transition Period From
 To





COMPUTER ACCESS TECHNOLOGY CORPORATION


(exact name of registrant as specified in its charter)





Delaware

77-0302527


(State or other jurisdiction of

(I.R.S. Employerincorporation or organization)

Identification No.)2403 Walsh Avenue, Santa ClaraCalifornia

95051(Address of principal executive offices)

(Zip Code)





(408) 727-6600


(Registrants telephone number, including area code)





Common Stock, $0.001 par value


(Title of Class)





Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.





Yes  x         No  ̈





As of August 1, 2002, there
were 19,408,815 shares of the registrants Common Stock outstanding.





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1




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Part IFINANCIAL INFORMATION





Item 1.    Financial Statements





COMPUTER ACCESS TECHNOLOGY CORPORATION





CONDENSED CONSOLIDATED BALANCE SHEETS


(unaudited, in thousands)





December 31, 2001


June 30, 2002ASSETSCurrent assets:Cash and cash equivalents

$
42,941


$
32,577Short-term investments


4,620



12,512Trade accounts receivable, net


1,370



1,732Related party receivable


747



671Inventories


805



1,209Deferred tax assets


512



1,664Other current assets


1,435



1,347Total current assets


52,430



51,712Property and equipment, net


1,357



1,327Purchased intangibles, including goodwill






2,260Other assets


101



284$
53,888


$
55,583LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Accounts payable

$
602


$
662Accrued expenses


1,046



1,835Accrued restructuring






262Deferred revenue


220



498Total current liabilities


1,868



3,257Deferred tax liabilities






354Deferred rent


4



Total liabilities


1,872



3,611Stockholders equity:Common stock


19



19Additional paid-in capital


53,093



53,478Deferred stock-based compensation


(2,492
)


(1,105
)Retained earnings (accumulated deficit)


1,396



(420
)Total stockholders equity


52,016



51,972$
53,888


$
55,583





See accompanying notes.







2




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COMPUTER ACCESS TECHNOLOGY CORPORATION





CONDENSED CONSOLIDATED STATEMENTS OF INCOME


(unaudited, in thousands, except per share amounts)





Three Month Period Ended June 30,


Six Month Period Ended June 30,2001


2002


2001


2002Revenue

$
4,147


$
3,493


$
9,822


$
6,915Cost of revenue (inclusive of amortization of deferred stock-based compensation of $170 and $31 in the three month
period ended June 30, 2001 and 2002, respectively, and of $346 and $80 in the six month period ended June 30, 2001 and 2002, respectively)


1,213



652



2,478



1,336Amortization of acquired developed technology






17







17Gross profit


2,934



2,824



7,344



5,562Operating expenses:Research and development (exclusive of amortization of deferred stock-based compensation of $750 and $(229) in the three
month period ended June 30, 2001 and 2002, respectively, and of $1,476 and $70 in the six month period ended June 30, 2001 and 2002, respectively)


1,793



1,982



3,709



3,895Sales and marketing (exclusive of amortization of deferred stock-based compensation of $145 and $(32) in the three month
period ended June 30, 2001 and 2002, respectively, and of $360 and $(155) in the six month period ended June 30, 2001 and 2002, respectively)


774



1,215



1,377



2,480General and administrative (exclusive of amortization of deferred stock-based compensation of $371 and $59 in the three
month period ended June 30, 2001 and 2002, respectively, and of $782 and $191 in the six month period ended June 30, 2001 and 2002, respectively)


757



1,051



1,564



2,173Acquired in-process research and development






410







410Amortization of purchased intangibles






12







12Restructuring expenses






443







443Amortization of deferred stock-based compensation


1,266



(202
)


2,618



106Total operating expenses


4,590



4,911



9,268



9,519Loss from operations


(1,656
)


(2,087
)


(1,924
)


(3,957
)Other income, net


532



197



1,174



370Loss before provision for (benefit from) income taxes


(1,124
)


(1,890
)


(750
)


(3,587
)Provision for (benefit from) income taxes


(37
)


(1,081
)


707



(1,771
)Net loss

$
(1,087
)

$
(809
)

$
(1,457
)

$
(1,816
)Net loss per share:Basic

$
(0.06
)

$
(0.04
)

$
(0.08
)

$
(0.10
)Diluted

$
(0.06
)

$
(0.04
)

$
(0.08
)

$
(0.10
)Weighted average shares outstanding:Basic


18,712



19,083



18,657



18,998Diluted


18,712



19,083



18,657



18,998





See accompanying notes.







3




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COMPUTER ACCESS TECHNOLOGY CORPORATION





CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS


(unaudited, in thousands)





Six Month Period Ended June
30,2001


2002Cash flows from operating activities:Net loss

$
(1,457
)

$
(1,816
)Adjustments to reconcile net loss to net cash provided by (used in) operating activities:Depreciation and amortization


195



304Provision for doubtful accounts


4



(9
)Write-down of property and equipment in connection with restructuring






134Fair value of stock options in exchange for services


16



Acquired in-process research and development






410Amortization of acquired developed technology






17Amortization of purchased intangibles






12Amortization of deferred stock-based compensation


2,964



186Changes in assets and liabilities:Accounts receivable


943



(122
)Inventories


(265
)


(177
)Deferred tax assets


162



(1,034
)Other assets


(607
)


110Accounts payable


322



(79
)Accrued expenses


(2,087
)


200Accrued restructuring






262Deferred revenue






278Deferred rent


(10
)


(4
)Net cash provided by (used in) operating activities


180



(1,328
)Cash flows from investing activities:Acquisition of property and equipment


(536
)


(340
)Purchase of other long-term assets






(188
)Purchase of short-term investments






(10,863
)Sale of short-term investments


285



2,971Acquisition of subsidiary, net of cash assumed






(931
)Net cash used in investing activities


(251
)


(9,351
)Cash flows from financing activities:Proceeds from exercise of stock options


106



199Proceeds from employee stock purchase plan






116Net cash provided by financing activities


106



315Net increase (decrease) in cash and cash equivalents


35



(10,364
)Cash and cash equivalents at beginning of period


47,411



42,941Cash and cash equivalents at end of period

$
47,446


$
32,577





See accompanying notes.




4




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COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





NOTE 1BUSINESS





Business





Computer Access Technology Corporation is a provider of advanced verification systems and connectivity products for existing and emerging digital communications standards. Our products are used by
semiconductor, device, system and software companies at each phase of their products lifecycles from development through production and market deployment.





We have expertise in the USB, USB 2.0, IEEE 1394, Bluetooth, InfiniBand, Serial ATA, SCSI and Ethernet standards and are actively engaged with our customers throughout their development and production
processes. Utilizing our easy to use, color-coded software, the CATC Trace, our development products generate, capture, filter and analyze high speed communications traffic, allowing our customers to quickly discover and correct persistent and
intermittent errors and flaws in their product design. Our production products are used in manufacturing to ensure that products comply with standards and operate with other devices as well as to assist system manufacturers in downloading software
onto new computers. Our connectivity products are devices that translate communications traffic between USB and Ethernet and enable reliable, uninterrupted service for broadband Internet access. These connectivity products also allow for simple
installation and incorporate an application specific integrated circuit, or ASIC, and our proprietary embedded software and software drivers.





Interim Financial Information and Basis of Presentation





The accompanying unaudited condensed consolidated financial statements as of June 30, 2002, and for the three and six month periods ended June 30, 2002 and 2001, have been prepared in accordance with accounting principles generally
accepted in the United States of America for interim financial statements and pursuant to the rules and regulations of the Securities and Exchange Commission (SEC) and include the accounts of Computer Access Technology Corporation and
its wholly-owned subsidiaries (collectively, Computer Access Technology Corporation or the Company). Intercompany accounts and transactions have been eliminated in consolidation. Certain information and footnote disclosures
normally included in annual consolidated financial statements prepared in accordance with generally accepted accounting principles in the United States of America have been condensed or omitted pursuant to SEC rules and regulations. In the opinion
of management, the unaudited condensed consolidated financial statements reflect all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the consolidated financial position at June 30, 2002, the
consolidated operating results for the three and six month periods ended June 30, 2002 and 2001, and consolidated cash flows for the six month periods ended June 30, 2002 and 2001. These unaudited condensed consolidated financial statements should
be read in conjunction with the Companys audited consolidated financial statements and notes for the year ended December 31, 2001.





The unaudited condensed consolidated balance sheet at December 31, 2001 has been derived from the audited consolidated financial statements at that date but does not include all of the information and footnotes required by
generally accepted accounting principles in the United States of America for complete financial statements.





Concentrations of credit risk





Revenue and accounts receivable of customers comprising more
than 10% of revenue or receivables are summarized as follows:




5




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COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS







Six Month Period Ended June 30,2001


2002Revenue:Company A

26
%

20
%December 31, 2001


June 30, 2002Accounts receivable:Company A

32
%

20
%Company B

13
%


%





NOTE 2COMPREHENSIVE INCOME(LOSS)





Comprehensive income (loss) is defined as changes in equity of a company from transactions, other events and circumstances, excluding
transactions resulting from investments by owners and distributions to owners. There is no difference between net income (loss) and comprehensive income (loss) for the Company in any of the periods presented.





NOTE 3STOCK-BASED COMPENSATION





In connection with certain stock option grants in 2000, 1999 and 1998, the Company recorded deferred stock-based compensation totaling $14,393,000 which represents the difference between the exercise price and the deemed
fair value at the date of grant, which is being recognized over the vesting period of the related options. Amortization of deferred stock-based compensation was $(171,000) and $186,000 in the quarter ended June 30, 2002 and the six month period
ended June 30, 2002, respectively, of which $31,000 and $80,000 was included in cost of revenue in the quarter ended June 30, 2002 and the six month period ended June 30, 2002, respectively. Amortization of deferred stock-based compensation was $1.4
million and $3.0 million in the quarter ended June 30, 2001 and the six month period ended June 30, 2001, respectively, of which $170,000 and $346,000 was included in cost of revenue in the quarter ended June 30, 2001 and the six month period ended
June 30, 2001, respectively. Amortization of deferred stock-based compensation on grants prior to December 31, 2000 is estimated to be approximately $523,000 for the remainder of the year ending December 31, 2002 and $518,000 and $64,000 in the
years ending December 31, 2003 and 2004, respectively, and may change due to the granting of additional options or the cancellation of existing grants in future periods.





NOTE 4NET INCOME (LOSS) PER SHARE





The Company
computes net income (loss) per share in accordance with SFAS No. 128, Earnings per Share, and SEC Staff Accounting Bulletin (SAB) No. 98. Under the provisions of SFAS No. 128 and SAB No. 98, basic net income (loss) per share is computed
by dividing net income (loss) for the period by the weighted average number of shares of common stock outstanding during the period. The calculation of diluted net (loss) income per share excludes potential common stock if its effect is
antidilutive. Potential common stock consists of incremental common shares issuable upon the exercise of stock options.





The following table sets forth the computation of basic and diluted net loss per share for the periods indicated (in thousands except per share data):




6




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COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS







Three Month Period Ended June 30,


Six Month Period Ended June 30,2001


2002


2001


2002Numerator:Net loss

$
(1,087
)

$
(809
)

$
(1,457
)

$
(1,816
)Denominator:Weighted average shares outstanding


18,712



19,083



18,657



18,998Denominator for basic calculation


18,712



19,083



18,657



18,998Dilutive effect of stock options














Denominator for diluted calculation


18,712



19,083



18,657



18,998Net income (loss) per share:Basic

$
(0.06
)

$
(0.04
)

$
(0.08
)

$
(0.10
)Diluted

$
(0.06
)

$
(0.04
)

$
(0.08
)

$
(0.10
)Total common stock equivalents, related to options outstanding, excluded from the computation of earnings per share as
their effect is antidilutive


722



4,052



1,098



3,825





NOTE 5INVENTORIES





Inventories consist of the following (in thousands):





December 31, 2001

June 30, 2002Raw materials

$
451

$
714Work in progress


141


195Finished goods


213


300$
805

$
1,209





NOTE 6GOODWILL AND OTHER INTANGIBLE ASSETS





Goodwill represents the excess of the purchase price over the fair value of net assets acquired in business acquisitions accounted for
under the purchase accounting method. Other purchased intangibles include identifiable intangible assets purchased by the Company in connection with business acquisitions. Other purchased intangibles are presented net of related accumulated
amortization and charges and are being amortized over lives ranging from three to five years.





The Company records
impairment losses on goodwill and other intangible assets when events and circumstances indicate that such assets might be impaired and the estimated fair value of the asset is less than its recorded amount. Conditions that would necessitate an
impairment assessment include material adverse changes in operations, significant adverse differences in actual results in comparison with initial valuation forecasts prepared at the time of acquisition, a decision to abandon acquired products,
services or technologies, or other significant adverse changes that would indicate the carrying amount of the recorded asset might not be recoverable.




7




---



COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS




As of June 30, 2002, the Company had goodwill of $1.4 million and other intangible assets totaling $832,000.
Amortization of other intangible assets was $29,000 in the quarter ended June 30, 2002. In addition, the Company had a one-time write-off of in-process research and development of $410,000.





NOTE 7RESTRUCTURING





During the quarter
ended June 30, 2002, the Company implemented a restructuring plan designed to consolidate operations and reduce costs. The restructuring plan includes the closure of our facilities in San Diego, California and Netanya, Israel and a reduction in
staff by a total of 18 positions, primarily from the research and development group. The Company expects that the majority of the remaining restructuring actions such as office closures and office subleasing will be completed by the end of 2002.
Obligations related to subleasing may continue until 2004 as estimated and accrued for as of June 30, 2002. The Company had restructuring expenses of $443,000 for the quarter ended June 30, 2002.





The following table summarizes the components of the accrued restructuring, by geographic region (in thousands):





Employee Severance

Office Closure

Asset Disposal Losses

Other Costs

TotalNorth America

$
95

$
86

$
44

$
19

$
244Europe





67


90


42


199Restructuring expenses, three months ended June 30, 2002


95


153


134


61


443Asset disposals made during the three months ended June 30, 2002








134





134Cash payments made during the three months ended June 30, 2002


19








28


47Accrued restructuring balance, June 30, 2002

$
76

$
153

$


$
33

$
262





NOTE 8INCOME TAXES





The reconciliation between the effective tax rates and statutory federal income tax rate is shown in the following table:




8




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COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS







Three Month Period EndedJune 30,


Six Month Period EndedJune 30,2001


2002


2001


2002Statutory federal income tax rate

34.0
%

34.0
%

34.0
%

34.0
%State taxes, net of federal income tax benefit

1.3


8.3


(10.8
)

7.1Amortization of deferred stock-based compensation

(42.1
)

3.1


(134.4
)

(1.8
)Research and development credit

5.0


8.1


11.2


6.3Other

5.1


3.7


5.7


3.8Effective tax rate

3.3
%

57.2
%

(94.3
)%

49.4
%





NOTE 9REPORTABLE SEGMENTS AND GEOGRAPHIC INFORMATION





The Company has three reportable segments categorized by product type: development products, production products and connectivity
products. The development products are advanced verification systems that assist hardware and software manufacturers in the efficient design of reliable and interoperable systems and devices. Production products are production verification systems
and connectivity solutions designed to assist hardware and software manufacturers in volume production of reliable devices and systems. Connectivity products are designed to assist broadband Internet service providers in delivering convenient and
dependable service and device manufacturers in producing reliable products. The Company has no inter-segment revenue.





The Company analyzes segment revenue and cost of revenue, but does not allocate operating expenses, including stock-based compensation, or assets to segments. Accordingly, the Company has presented only revenue and gross profit by
segment.





Segment information (in thousands):





Development Products

Production Products

Connectivity Products

Unallocated Stock-based Compensation Expense


TotalThree Month Period Ended June 30, 2001Segment revenue from external customers

$
3,014

$
481

$
652

$



$
4,147Segment gross profit

$
2,568

$
368

$
168

$
(170
)

$
2,934Three Month Period Ended June 30, 2002Segment revenue from external customers

$
2,960

$
436

$
97

$



$
3,493Segment gross profit

$
2,507

$
295

$
53

$
(31
)

$
2,824Six Month Period Ended June 30, 2001Segment revenue from external customers

$
7,339

$
984

$
1,499

$



$
9,822Segment gross profit

$
6,412

$
782

$
496

$
(346
)

$
7,344Six Month Period Ended June 30, 2002Segment revenue from external customers

$
5,837

$
897

$
181

$



$
6,915Segment gross profit

$
4,954

$
595

$
93

$
(80
)

$
5,562







9




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COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS







Geographic information (in thousands):





Revenue

Long-Lived AssetsThree Month Period Ended June 30, 2001North America

$
2,130Europe


663Asia


1,337Rest of world


17Total

$
4,147Three Month Period Ended June 30, 2002North America

$
1,481

$
1,225Europe


607


102Asia


1,403


Rest of world


2


Total

$
3,493

$
1,327Six Month Period Ended June 30, 2001North America

$
4,452Europe


1,508Asia


3,799Rest of world


63Total

$
9,822Six Month Period Ended June 30, 2002North America

$
2,881

$
1,225Europe


1,106


102Asia


2,898


Rest of world


30


Total

$
6,915

$
1,327





Revenues are attributed to countries based on delivery locations.
Sales to foreign customers accounted for 48.6% and 57.6% of revenue during the quarters ended June 30, 2001 and 2002, respectively, and 54.7% and 58.3% for the six months ended June 30, 2001 and 2002, respectively.





NOTE 10ACQUISITIONS





On May 9, 2002, the Company entered into an Agreement and Plan of Merger with Verisys and its shareholders (Merger Agreement) pursuant to which the Company acquired Verisys. The transaction closed on June 4, 2002, and was
accounted for under the purchase method of accounting. The accompanying consolidated condensed financial statements include the results of operations of Verisys subsequent to June 4, 2002, the date the Company designated as the acquisition date for
accounting purposes. Verisys has operations in Aptos, California. Verisys was founded in 1992 and develops, manufactures and sells bus analysis tools for the SCSI market.





Pursuant to the Merger Agreement, the Company paid $825,000 and issued 360,000 shares of its common stock, of which 61,200 have been retained to secure certain Verisys
obligations under the Merger Agreement for a




10




---



COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS




period of eighteen months, in exchange for all of the outstanding shares of Verisys common stock. The Companys initial cost to acquire Verisys is calculated to be $2.3 million using the
Company common stock price of $3.53, which was the closing market price of the Companys common stock on May 9, 2002. Verisys currently operates as a wholly-owned subsidiary of the Company.





The estimated total initial purchase cost of Verisys is as follows (in thousands):


Cash Paid

$
825Value of securities issued


1,271Estimated transaction costs and expenses


191$
2,287





The cost to acquire Verisys has been allocated to the assets
acquired and liabilities assumed according to their respective fair values, with the excess purchase price being allocated to goodwill. The purchase price allocation is as follows (in thousands):


Net tangible liabilities

$
(440
)Intangible assets acquired:Goodwill


1,427In-process research and development


410Acquired developed technology


380Non-compete agreements


280Core technology


230Total purchase price allocation

$
2,287





The purchase price was allocated to Verisys tangible assets
and specific intangible assets such as in-process research and development, developed technology, non-compete agreements and core technology, based upon an independent valuation performed by an outside valuation specialist.





Goodwill represents the excess of the purchase price for Verisys over the fair value of the underlying net identifiable assets.





In-process research and development represents that portion of the purchase price of an acquisition related to
the research and development activities which (i) have not demonstrated their technological feasibility, and (ii) have no alternative future uses. Accordingly, the Company recognized an in-process research and development expense of $410,000 during
the three months ended June 30, 2002 in conjunction with the acquisition.





The acquired developed technology,
which is comprised of products that are already technologically feasible, mainly includes the SV-8320, SV-8160, and SV-4080 SCSI analyzers. The Company is amortizing the acquired developed technology of approximately $380,000 on a per unit basis for
future shipments of such products over approximately 30 months.





Non-compete agreements represent the value of
non-compete agreements the Company has with certain former Verisys executives and are being amortized on a straight-line basis over an estimated useful life of three years.





Core technology represents the value of the underlying proprietary technology of Verisys products and is being amortized on a straight-line basis over an estimated
useful life of five years.




11




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COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS







NOTE 11RECENT ACCOUNTING PRONOUNCEMENTS





In April 2002, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards No. 145
(SFAS 145), Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections, which is effective for fiscal years beginning after May 15, 2002. Under SFAS 145, gains and
losses from the extinguishment of debt should be classified as extraordinary items only if they meet the criteria of Accounting Principles Board Opinion No. 30. SFAS 145 also addresses financial accounting and reporting for capital leases that are
modified in such a way as to give rise to a new agreement classified as an operating lease. The Company believes that the adoption of SFAS 145 will not have a material impact on the consolidated financial position or results of the operations of the
Company.





In June 2002, the FASB issued Statement of Financial Accounting Standards No. 146 (SFAS
146), Accounting for Costs Associated with Exit or Disposal Activities, which is effective for exit or disposal activities initiated after December 31, 2002. SFAS 146 nullifies Emerging Issues Task Force Issue No. 94-3,
Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring). Under SFAS 146, a liability is required to be recognized for a cost
associated with an exit or disposal activity when the liability is incurred. SFAS 146 applies to costs associated with an exit activity that does not involve an entity newly acquired in a business combination or with a retirement or disposal
activity covered by FASB Statements No. 143, Accounting for Asset Retirement Obligations, and No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. The Company believes that the adoption of SFAS 146 will
not have a material impact on the consolidated financial position or results of the operations of the Company.







12




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Item 2.    Managements Discussion and Analysis of Financial Condition and
Results of Operations





The following information should be read in conjunction with the unaudited condensed
consolidated financial statements and notes thereto included in Item 1 of this report and Managements Discussion and Analysis of Financial Condition and Results of Operations contained in our Form 10-K as filed with the Securities
and Exchange Commission on March 28, 2002.





This report contains forward-looking statements within the
meaning of the federal securities laws. These statements may contain words such as expects, anticipates, intends, plans, believes, estimates, or other wording indicating future
results. Forward-looking statements are subject to risks and uncertainties. Actual results may differ materially from the results discussed in forward-looking statements. Factors that could cause actual results to differ materially include, but are
not limited to, those discussed under Risk Factors following Liquidity and Capital Resources below, and elsewhere in this report. We undertake no obligation to revise or update any forward-looking statements to reflect any
event or circumstance that may arise after the date of this report.





Critical Accounting Policies and Estimates





The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial
statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of our consolidated financial statements in conformity with generally accepted accounting principles
requires our management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and reported amounts of
revenues and expenses during the reporting period. Actual results could differ from those estimates. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. We believe the following critical accounting policies, among others, affect the more
significant judgments and estimates used in the preparation of our consolidated financial statements.





We report
our revenue and gross profit in three business segments: development, production and connectivity products. We have adopted Statement of Position, or SOP, 97-2, Software Revenue Recognition. Under SOP 97-2, we recognize revenue to
distributors, resellers and end users upon shipment provided that there is persuasive evidence of an arrangement, the product has been delivered and title has passed, the fee is fixed or determinable and collection of the resulting receivable is
reasonably assured. We do not provide distributors, resellers or customers price protection, return or exchange rights. Generally, our distributors do not maintain inventory, however, they do have the right to return inventory upon termination of
their distribution agreement. We review inventory levels held by distributors, if any, quarterly to ensure that any potential returns in the event of termination are not material. When we have shipped products but some elements essential to the
functionality of the products have not been completed, revenue and associated cost of revenue are deferred until all remaining elements have been delivered. Software maintenance support revenue is deferred and recognized ratably over the maintenance
support period. Provisions for warranty costs are recorded at the time products are shipped.





Our cash equivalents
and short-term investments are placed in portfolios managed by two professional money management firms under the investment guidelines we have established. These guidelines address the critical objectives of preservation of principal, avoiding
inappropriate concentrations, meeting liquidity requirements and delivering maximum after-tax returns. We classify all highly liquid investments purchased with an original maturity of 90 days or less to be cash equivalents and those with a maturity
greater than 91 days but less than one year to be short-term investments. Cash equivalents and short-term investments consist principally of investments in commercial paper, investment quality corporate and municipal bonds, collateralized mortgage
obligations, U.S. government agency securities and money market funds.





We account for income taxes under the
liability method, which requires, among other things, that deferred income taxes be provided for temporary differences between the tax bases of our assets and liabilities and their




13




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financial statement reported amounts. In addition, deferred tax assets are recorded for the future benefit of utilizing net operating losses and research and development credit carryforwards. The
preparation of our tax provision and deferred tax assets requires us to make estimates and assumptions including areas such as the calculation of research and development credits, and future taxable income. If these estimates change in the future,
we may be required to record additional valuation allowances against deferred tax assets, and our future tax provisions may result in different effective tax rates. A valuation allowance is provided against deferred tax assets unless it is more
likely than not that they will be realized.





Our purchased intangible assets, including goodwill, total $2.3
million as of June 30, 2002. We are required to make judgments about the recoverability of these assets whenever events or changes in circumstances indicate that the carrying value of these assets may not be recoverable. In order to make such
judgments, we are required to make assumptions about the value of these assets in the future including future prospects for earnings and cash flows of the businesses underlying these investments. Judgments and assumptions about the future are
complex, subjective and can be affected by a variety of factors including industry and economic trends, our market position and the competitive environment in which we operate. Although we believe the judgments and assumptions we have made are
reasonable and appropriate, different judgments and assumptions could materially impact our reported financial results.





Overview





We are a provider of advanced verification systems and connectivity products for
existing and emerging digital communications standards such as USB, USB 2.0, IEEE 1394, Bluetooth wireless technology, InfiniBand, Serial ATA, SCSI and Ethernet. Our products are used by semiconductor, device, system and software companies at each
phase of their products lifecycles from development through production and market deployment. Our verification systems consist of development and production products that accurately monitor communications traffic and diagnose operational
problems to ensure that products comply with standards and operate with other devices as well as to assist system manufacturers in downloading software onto new computers. Our connectivity products enable reliable, uninterrupted service for
broadband Internet access. We currently outsource most of the manufacturing of our verification systems and connectivity products so that we may concentrate our resources on the design, development and marketing of our existing and new products.





We report our revenue and gross profit in three business segments: development, production and connectivity
products. In the quarter ended June 30, 2002, revenue from our development products was $3.0 million, from production products was $436,000 and from connectivity products was $97,000. Historically, we have generated a majority of our revenue across
all segments from products for the USB standard. Revenue from USB products accounted for approximately 67.7% of our revenue in the quarter ended June 30, 2002, of which 49.0% was from USB 2.0 products.





We sell our products to technology, infrastructure and application companies through our direct sales force and indirectly primarily
through our distributors and manufacturers representatives. Historically, a substantial portion of our revenue has been derived from customers outside of the United States. In the quarter ended June 30, 2002, 57.6% of our revenue was derived
from international customers, of which 17.9% was derived from customers based in Japan, 22.3% was derived from customers based in other parts of Asia, and 17.4% was derived from customers based in Europe. International revenue increased as a
percentage of total revenue in the quarter ended June 30, 2002 as compared to the quarter ended June 30, 2001, primarily due to increased sales in Asia of approximately 4.9%, coupled with the general economic slowdown in the United States. All of
our revenue and accounts receivable are denominated in U.S. dollars. Although seasonality affects many of our target markets, to date our revenues and financial condition as a whole have not been materially impacted by seasonality.





The development of emerging communications standards and technological change have influenced and are likely to continue to
influence our quarterly and annual revenue and results of operations. Our product development and marketing strategies are focused on working closely with promoter companies and communications standards groups to gain early access to new
communications standards and technologies. We have invested significantly in the research, development and marketing of our products for emerging communications standards, often before




14




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COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS




these standards have gained widespread industry acceptance and in advance of generating substantial revenue related to these investments. Additionally, the rate and timing of customer orders may
vary significantly from month to month. Accordingly, if sales of our products do not occur when we expect and we are unable to predict or adjust our estimates on a timely basis, our expenses may increase as a percentage of revenue.





The overall economic environment continues to create uncertainties for us and our customers. We have experienced
continuing weakness in each of our business segments over the last year as a result of slowing growth in the global economy and delays in orders as a result of reduced spending by many of our customers, which has been exacerbated by the economic
uncertainty following the September 11, 2001 terrorist attack. Our near term financial results have been and may continue to be affected by our decision in 2001 to invest in our sales, marketing and research and development infrastructure. However,
during the second quarter of 2002, we implemented a restructuring plan designed to consolidate operations and reduce costs. The restructuring plan includes the closure of our facilities in San Diego, California and Netanya, Israel and a reduction in
staff by a total of 18 positions. We expect that the majority of the remaining restructuring actions such as office closures and office subleasing will be completed by the end of 2002. Obligations related to subleasing may continue until 2004. We
incurred restructuring expenses of $443,000 for the quarter ended June 30, 2002.





On May 9, 2002 we entered into
an Agreement and Plan of Merger with Verisys and its shareholders pursuant to which we acquired Verisys. The transaction closed on June 4, 2002 and we accounted for the acquisition under the purchase method of accounting. The accompanying
consolidated condensed financial statements include the results of operations of Verisys subsequent to June 4, 2002, the date that we designated as the acquisition date for accounting purposes. Verisys has operations in Aptos, California. Verisys
was founded in 1992 and develops, manufactures and sells bus analysis tools for the SCSI market. Verisys currently operates as a wholly-owned subsidiary of our company.





Results of Operations





The following table presents
selected consolidated financial data for the periods indicated as a percentage of revenue:





Three Month Period
Ended June 30,


Six Month Period
Ended June 30,2001


2002


2001


2002Consolidated Statement of Income Data:Revenue

100.0
%

100.0
%

100.0
%

100.0
%Cost of Revenue

29.3


18.7


25.2


19.3Amortization of acquired developed technology




0.5





0.3Gross profit

70.7


80.8


74.8


80.4Operating expenses:Research and development

43.2


56.8


37.8


56.3Sales and marketing

18.7


34.8


14.0


35.9General and administrative

18.3


30.1


15.9


31.4Acquired in-process research and development




11.7





5.9Amortization of purchased intangibles




0.3





0.2Restructuring expenses




12.7





6.4Amortization of deferred stock-based compensation

30.5


(5.8
)

26.7


1.5Total operating expenses

110.7


140.6


94.4


137.6Loss from operations

(40.0
)

(59.8
)

(19.6
)

(57.2
)Other income, net

12.8


5.7


12.0


5.4




15




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COMPUTER ACCESS TECHNOLOGY CORPORATION





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS







Three Month Period
Ended June 30,


Six Month Period
Ended June 30,2001


2002


2001


2002Loss before provision for (benefit from) income taxes

(27.2
)

(54.1
)

(7.6
)

(51.8
)Provision for (benefit from) income taxes

(0.9
)

(30.9
)

7.2


(25.6
)Net loss

(26.3
)%

(23.2
)%

(14.8
)%

(26.2
)%





Comparisons of Quarters Ended June 30, 2001 and 2002





Revenue.    Our revenue was $3.5 million in the quarter ended June 30, 2002 and $4.1 million in the quarter
ended June 30, 2001. This represents a decrease of 15.8% from the quarter ended June 30, 2001 to the quarter ended June 30, 2002. The decrease in revenue was due primarily to decreases in sales of certain development products, production products
and connectivity products of $468,000, $388,000 and $556,000, respectively, offset by increases in sales of new and other development products and production products, which represented $414,000 and $342,000, respectively. The decrease in sales of
existing development and production products was primarily the result of the slowdown in the Bluetooth and USB markets and the general economic slowdown, primarily in the United States. The decrease in sales of connectivity products was primarily
the result of softness in the broadband Internet access market and additional competitive pressure due to improved availability of next generation cable and DSL modems with integrated USB support. In January 2002, we converted our resellers to
manufacturers representatives. This conversion resulted in an estimated amount of additional revenue for the quarter ended June 30, 2002 of $127,000 as we sold directly to our end customers was partially without discount. However, this
estimated additional revenue was partially offset by an increase in sales and marketing expense relating to manufacturers representatives commissions. Revenue from international customers represented 57.6% of our revenue in the quarter
ended June 30, 2002 and 48.6 % of our revenue in the quarter ended June 30, 2001.





Cost of Revenue and Gross
Profit.    Our gross profit was $2.8 million in the quarter ended June 30, 2002 and $2.9 million in the quarter ended June 30, 2001. This represents a decrease of 3.7% from the quarter ended June 30, 2001 to the quarter ended
June 30, 2002. The dollar decrease in gross profit was primarily the result of a decrease in unit sales of development, production and connectivity products and amortization of acquired developed technology of $17,000, offset by a decrease in the
amortization of deferred stock-based compensation of $139,000. Our gross margin percentage was 80.8% in the quarter ended June 30, 2002 and 70.7% in the quarter ended June 30, 2001. The increase in gross margin percentage was primarily resulting
from increased development product sales as a percentage of total revenue offset by reduced margins for our production products, resulting from higher costs associated with components and lower volume manufacturing of new products. Our higher margin
business segment, development products, increased as a percentage of revenue by 12.1%, our lower margin business segment, production products, increased as a percentage of revenue by 0.9%, and our lowest margin business segment, connectivity
products, decreased as a percentage of revenue by 12.9%. In January 2002, we converted our resellers to manufacturers representatives. This conversion improved gross margins by 0.7%, as we sell directly to our end customers without discount.
Excluding amortization of deferred stock-based compensation, our gross margin would have been 81.7% for the quarter ended June 30, 2002 and 74.8% for the quarter ended June 30, 2001.





Research and Development.    Our research and development expenses were $2.0 million in the quarter ended June 30, 2002 and $1.8 million in the
quarter ended June 30, 2001. This represents an increase of 10.5% from the quarter ended June 30, 2001 to the quarter ended June 30, 2002. Research and development expenses represented 56.8% of revenue in the quarter ended June 30, 2002 and 43.2% of
revenue in the quarter ended June 30, 2001. The dollar increase was primarily due to increases in personnel and related costs of approximately $92,000 and increases in other research and development costs of approximately $58,000. The percentage of
revenue increase for the quarter ended June 30, 2002 was primarily due to the impact of the decrease in revenue from the quarter ended June 30, 2001 and the increase in costs noted in this paragraph.





Sales and Marketing.    Our sales and marketing expenses were $1.2 million in the quarter ended June 30, 2002
and $774,000 in the quarter ended June 30, 2001. This represents an increase of 57.0% from the quarter ended June 30, 2001 to the quarter ended June 30, 2002. Sales and marketing expenses represented 34.8% of revenue in




16




---

the quarter ended June 30, 2002 and 18.7% of revenue in the quarter ended June 30, 2001. The dollar increase was primarily due to increases in personnel and related costs of approximately
$191,000, commissions earned by our manufacturers representatives of $173,000 and marketing programs of $33,000. The percentage of revenue increase for the quarter ended June 30, 2002 was primarily due to the impact of the decrease in revenue
from the quarter ended June 30, 2001 and the increase in costs noted in this paragraph.





General and
Administrative.    Our general and administrative expenses were $1.1 million in the quarter ended June 30, 2002 and $757,000 in the quarter ended June 30, 2001. This represents an increase of 38.8% from the quarter ended June
30, 2001 to the quarter ended June 30, 2002. General and administrative expenses represented 30.1% of revenue in the quarter ended June 30, 2002 and 18.3% of revenue in the quarter ended June 30, 2001. The dollar increase was primarily due to the
addition of management and administrative personnel and related costs of $85,000, and an increase in professional services of $161,000, primarily legal fees associated with ongoing litigation. The percentage of revenue increase for the quarter ended
June 30, 2002 was primarily due to the impact of the decrease in revenue from the quarter ended June 30, 2001 and the increase in costs noted above.





Acquired In-Process Research and Development.    Our acquired in-process research and development expenses, resulting from our purchase of Verisys, were $410,000 in the
quarter ended June 30, 2002. There were no comparable charges in the quarter ended June 30, 2001. Acquired in-process research and development expenses represented 11.7% of revenue in the quarter ended June 30, 2002.





Amortization of Purchased Intangibles.    Our amortization of purchased intangibles, resulting from our
purchase of Verisys, were $12,000 in the quarter ended June 30, 2002. There were no comparable charges in the quarter ended June 30, 2001. Amortization of purchased intangibles represented 0.3% of revenue in the quarter ended June 30, 2002.





Restructuring Expenses.    Our restructuring expenses were $443,000 in the quarter
ended June 30, 2002. There were no comparable charges in the quarter ended June 30, 2001. Restructuring expenses represented 12.7% of revenue in the quarter ended June 30, 2002. Restructuring expenses consist of severance payments in connection with
headcount reductions, other expenses relating to office closures, write-down of fixed assets, and other one-time charges relating to our restructuring plan implemented in the quarter ended June 30, 2002.





Amortization of Deferred Stock-based Compensation.    Amortization of deferred stock-based compensation
represents the difference between the exercise price and the deemed fair value at the date of grant, in connection with certain stock option grants in 2000, 1999 and 1998, which is being recognized over the vesting period of the related options.
Amortization of deferred stock-based compensation was $(171,000) in the quarter ended June 30, 2002, of which $31,000 was included in cost of revenue. This amount reflects the impact of option cancellations of approximately $520,000 due to employee
terminations. Amortization of deferred stock-based compensation was $1.4 million in the quarter ended June 30, 2001, of which $170,000 was included in cost of revenue. Amortization of deferred stock-based compensation on grants prior to December 31,
2000 is estimated to be approximately $523,000 for the remainder of the year ending December 31, 2002 and $518,000 and $64,000 in the years ending December 31, 2003 and 2004, respectively, and may change due to the granting of additional options or
the cancellation of existing grants in future periods.





Other Income.    Other income
was $197,000 in the quarter ended June 30, 2002 and $532,000 in the quarter ended June 30, 2001. This represents a decrease of 63.0% from the quarter ended June 30, 2001 to the quarter ended June 30, 2002. This decrease resulted from declining
interest income earned on the investment of the additional excess cash balances and the proceeds from our initial public offering in November 2000.





Benefit for Income Taxes.    Benefit for income taxes was $1.1 million in the quarter ended June 30, 2002 and $37,000 in the quarter ended June 30, 2001. This represents an
increase of 2,821.6% from the quarter ended June 30, 2001 to the quarter ended June 30, 2002. Our effective tax rate increased from 3.3% in the quarter ended June 30, 2001 to 57.2% in the quarter ended June 30, 2002. This increase was due primarily
to a decrease in the amortization of deferred stock-based compensation. Our effective tax rate after excluding the effect of




17




---

amortization of deferred stock-based compensation was 52.5% in the quarter ended June 30, 2002 and (11.9)% in the quarter ended June 30, 2001.





Net loss.    Our net loss was $809,000 in the quarter ended June 30, 2002 and $1.1 million in the quarter ended
June 30, 2001. This represents a decrease of 25.6% from the quarter ended June 30, 2001 to the quarter ended June 30, 2002. Our net loss represented (23.2)% of revenue in the quarter ended June 30, 2002 and (26.3)% of revenue in the quarter ended
June 30, 2001. The dollar and percentage of revenue decreases in net loss were primarily the result of reduced revenue, increased operating costs and reduced interest income offset by the benefit for income taxes. Net loss before the effect of the
amortization of deferred stock-based compensation was $980,000 in the quarter ended June 30, 2002, and our net income before the effect of the amortization of deferred stock-based compensation was $349,000 in the quarter ended June 30, 2001.





The following table sets forth net income (loss) and net income (loss) per share, excluding the amortization of
deferred stock-based compensation (in thousands, except per share amounts).





Three Month Period Ended June 30,2001

2002Net income (loss), excluding amortization of deferred compensation

$ 349

$ (980
)Net income (loss) per share, excluding amortization of deferred compensation:Basic

$0.02

$(0.05
)Diluted

$0.02

$(0.05
)Weighted average shares outstanding:Basic

18,712

19,083Diluted

19,434

19,083





Comparison of Six Months Ended June 30, 2001 and 2002





Revenue.    Our revenue was $6.9 million in the six months ended June 30, 2002 and $9.8 million in the six
months ended June 30, 2001. This represents a decrease of 29.6% from the six months ended June 30, 2001 to the six months ended June 30, 2002. The decrease in revenue was due primarily to decreases in sales of certain development products,
production products and connectivity products of $2.1 million, $630,000 and $1.3 million, respectively, offset by increases in sales of new and other development products and production products, which represented $582,000 and $542,000,
respectively. The decrease in sales of existing development and production products was primarily the result of the slowdown in the Bluetooth and USB markets and the general economic slowdown, primarily in the United States, and the decrease in
sales of connectivity products was primarily the result of softness in the broadband Internet access market and additional competitive pressure due to improved availability of next generation cable and DSL modems with integrated USB support. In
January 2002, we converted our resellers to manufacturers representatives. This conversion resulted in an estimated amount of additional revenue for the six months ended June 30, 2002 of $250,000 as we sold directly to our end customers
without discount. However, this estimated additional revenue was partially offset by an increase in sales and marketing expense relating to manufacturers representatives commissions. Revenue from international customers represented 58.3%
of our revenue in the six months ended June 30, 2002 and 54.7% for the six months ended June 30, 2001.





Cost of
Revenue and Gross Profit.    Our gross profit was $5.6 million in the six months ended June 30, 2002 and $7.3 million in the six months ended June 30, 2001. This represents a decrease of 24.3% from the six months ended June
30, 2001 to the six months ended June 30, 2002. The dollar decrease in gross profit was primarily the result of a decrease in unit sales of development, production and connectivity products and amortization of acquired




18




---

developed technology of $17,000, offset by a decrease in amortization of deferred stock-based compensation of $266,000. Our gross margin percentage was 80.4% in the six months ended June 30, 2002
and 74.8% in the six months ended June 30, 2001. The increase in gross margin percentage was primarily resulting from increased development product sales as a percentage of revenue offset by reduced margins for our production products resulting from
higher costs associated with components and lower volume manufacturing of new products. Our higher margin business segment, development products, increased as a percentage of revenue by 9.7%, our lower margin business segment, production products,
increased as a percentage of revenue by 3.0% and our lowest margin business segment, connectivity products, decreased as a percentage of revenue by 12.6%. In January 2002, we converted our resellers to manufacturers representatives. This
change improved gross margins by 0.7%, as we sell directly to our end customers without discount. Excluding amortization of deferred stock-based compensation, our gross margin would have been 78.3% for the six months ended June 30, 2002 and 81.6%
for the six months ended June 30, 2001.





Research and Development.    Our research and
development expenses were $3.9 million in the six months ended June 30, 2002 and $3.7 million in the six months ended June 30, 2001. This represents an increase of 5.0% from the six months ended June 30, 2001 to the six months ended June 30, 2002.
Research and development expenses represented 56.3% of revenue in the six months ended June 30, 2002 and 37.8% of revenue in the six months ended June 30, 2001. The dollar increase was primarily due to increases in direct personnel and related costs
of approximately $62,000 and increases in other research and development costs of approximately $91,000 for the six months ended June 30, 2002. The percentage of revenue increase for the six months ended June 30, 2002 was primarily due to the impact
of the decrease in revenue from the six months ended June 30, 2001 and the increase in costs noted in this paragraph.





Sales and Marketing.    Our sales and marketing expenses were $2.5 million in the six months ended June 30, 2002 and $1.4 million in the six months ended June 30, 2001. This represents an increase of 80.1%
from the six months ended June 30, 2001 to the six months ended June 30, 2002. Sales and marketing expenses represented 35.9% of revenue in the six months ended June 30, 2002 and 14.0% of revenue in the six months ended June 30, 2001. The dollar
increase was primarily due to increases in personnel and related costs of approximately $472,000, commissions earned by our manufacturers representatives of $337,000 and marketing programs of $105,000. The percentage of revenue increase for
the six months ended June 30, 2002 was primarily due to the impact of the decrease in revenue from the six months ended June 30, 2001 and the increase in costs noted in this paragraph.





General and Administrative.    Our general and administrative expenses were $2.2 million in the six months ended June 30, 2002 and $1.6 million
in the six months ended June 30, 2001. This represents an increase of 38.9% from the six months ended June 30, 2001 to the six months ended June 30, 2002. General and administrative expenses represented 31.4% of revenue in the six months ended June
30, 2002 and 15.9% of revenue in the six months ended June 30, 2001. The dollar increase was primarily due to an increase in professional services of $377,000, primarily legal fees associated with ongoing litigation, and the addition of management
and administrative personnel and related costs of $160,000. The percentage of revenue increase for the six months ended June 30, 2002 was due to a dollar increase in expenses and a decrease in revenue for the period.





Acquired In-Process Research and Development.    Our acquired in-process research and development expenses,
resulting from our purchase of Verisys, were $410,000 in the six months ended June 30, 2002, There were no comparable charges in the six months ended June 30, 2001. Acquired in-process research and development expenses represented 5.9% of revenue in
the six months ended June 30, 2002.





Amortization of Purchased Intangibles.    Our
amortization of purchased intangibles, resulting from our purchase of Verisys, were $12,000 in the six months ended June 30, 2002. There were no comparable charges in the six months ended June 30, 2001. Amortization of purchased intangibles
represented 0.2% of revenue in the six months ended June 30, 2002.





Restructuring
Expenses.    Restructuring expenses were $443,000 in the six months ended June 30, 2002. There were no comparable charges in the six months ended June 30, 2001. Restructuring expenses represented 6.4% of revenue in the six
months ended June 30, 2002. Restructuring expenses consist of severance payments in




19




---

connection with our headcount reduction, other expenses relating to office closures, write-down of fixed assets, and other one-time charges relating to our restructuring plan implemented in the
quarter ended June 30, 2002.





Amortization of Deferred Stock-based
Compensation.    Amortization of deferred stock-based compensation represents the difference between the exercise price and the deemed fair value at the date of grant, in connection with certain stock option grants in 2000,
1999 and 1998, which is being recognized over the vesting period of the related options. Amortization of deferred stock-based compensation was $186,000 in the six months ended June 30, 2002, of which $80,000 was included in cost of revenue. This
amount reflects the impact of option cancellations of approximately $761,000 due to employee terminations. Amortization of deferred stock-based compensation was $3.0 million in the six months ended June 30, 2001, of which $346,000 was included in
cost of revenue. Amortization of deferred stock-based compensation on grants prior to December 31, 2000 is estimated to be approximately $523,000 for the remainder of the year ending December 31, 2002 and $518,000 and $64,000 in the years ending
December 31, 2003 and 2004, respectively, and may change due to the granting of additional options or the cancellation of existing grants in future periods.





Other Income.    Other income was $370,000 in the six months ended June 30, 2002 and $1.2 million in the six months ended June 30, 2001. This represents a decrease of 68.5%
from the six months ended June 30, 2001 to the six months ended June 30, 2002. This decrease resulted from declining interest income earned on the investment of the additional excess cash balances and the proceeds from our initial public offering in
November 2000.





Provision (benefit) for Income Taxes.    Benefit for income taxes was
$1.8 million in the six months ended June 30, 2002 and provision for income taxes was $707,000 in the six months ended June 30, 2001. This represents a decrease of 350.5% from the six months ended June 30, 2001 to the six months ended June 30, 2002.
Our effective tax rate decreased from (94.3)% in the six months ended June 30, 2001 to 49.4% in the six months ended June 30, 2002, due primarily to a decrease in the amortization of deferred stock-based compensation. Our effective tax rate after
excluding the effect of amortization of deferred stock-based compensation was 52.1% in the six months ended June 30, 2002, and 31.9% in the six months ended June 30, 2001.





Net loss.    Our net loss was $1.8 million in the six months ended June 30, 2002 and $1.5 million in the six months ended June 30, 2001. This
represents an increase of 24.6% from the six months ended June 30, 2001 to the six months ended June 30, 2002. Our net loss represented (26.2)% of revenue in the six months ended June 30, 2002 and (14.8)% of revenue in the six months ended June 30,
2001. The dollar and percentage of revenue increases in net loss were primarily the result of reduced revenue, increased operating costs and reduced interest income, offset by the benefit for income taxes. Net loss before the effect of the
amortization of deferred stock-based compensation was $1.6 million in the six months ended June 30, 2002, and our net income before the effect of the amortization of deferred stock-based compensation was $1.5 million in the six months ended June 30,
2001.





The following table sets forth net income (loss) and net income (loss) per share, both after excluding the
amortization of deferred stock-based compensation (in thousands, except per share amounts).





Six Month Period Ended June 30,2001

2002Net income (loss), excluding amortization of deferred compensation

$
1,507

$
(1,630
)Net income (loss) per share, excluding amortization of deferred compensationBasic

$
0.08

$
(0.09
)Diluted

$
0.08

$
(0.09
)Weighted average shares outstandingBasic


18,657


18,998Diluted


19,755


18,998




20




---




Liquidity and Capital Resources





Our operating cash flow requirements have generally increased reflecting the expanding scope and level of our activities. Since our inception, we have financed our
operations primarily through cash flows from operating activities. In November 2000, we received net proceeds of $38.3 million from the initial public offering of our common stock.





In the six months ended June 30, 2002, cash used in operating activities of $1.3 million was primarily a result of net loss of $1.8 million and a decrease in related assets
and liabilities for working capital purposes of $566,000, offset by acquired in-process research and development of $410,000, depreciation expenses of $304,000, amortization of deferred stock-based compensation of $186,000, write-down of property
and equipment in connection with restructuring of $134,000, and amortization of other purchased intangibles of $29,000. Cash used in investing activities was $9.4 million, related to the purchase of short-term investments of $10.9 million,
acquisition of subsidiary of $931,000, capital expenditures of $340,000, purchase of other long-term assets of $188,000, offset by the proceeds from the sale of short-term investments of $3.0 million. Cash provided by financing activities was
$315,000, consisting of the proceeds from the exercise of stock options of $199,000 and to the sale of stock pursuant to our employee stock purchase plan of $116,000.





In the six months ended June 30, 2001, cash provided by operating activities of $180,000 was primarily a result of net loss of $1.5 million, offset by amortization of
deferred stock-based compensation of $3.0 million, depreciation expenses of $195,000 and a decrease in related assets and liabilities for working capital purposes of $1.5 million. Cash used in investing activities was $251,000, related to the
capital expenditures of $536,000, offset by proceeds from the sale of short-term investments of $285,000. Cash provided by financing activities of $106,000 consisting of the proceeds from the exercise of stock options.





As of June 30, 2002, we had cash, cash equivalents and short-term investments of $45.1 million, working capital of $48.5 million and no
debt.





We believe that the net proceeds from our initial public offering in November 2000, together with funds
generated from operations, will be sufficient to meet our working capital and capital expenditure requirements for at least the next 12 months. Thereafter, we may find it necessary to obtain additional equity or debt financing. If we are required to
raise additional funds, we may not be able to do so on acceptable terms or at all. In addition, if we issue new securities, stockholders might experience dilution or the holders of the new securities might have rights, preferences or privileges
senior to those of existing stockholders.





RISK FACTORS





We continue to face uncertainty relating to economic conditions affecting our customers.





We face uncertainty in the degree to which the current economic slowdown will continue to negatively affect growth and capital spending by our existing and potential customers. We continue to
experience instances of customers delaying or deferring orders for our products, and longer lead times needed to close our customer sales. If global economic conditions do not improve, or if there is a worsening in the global economic slowdown, we
may continue to experience adverse impacts on our business, operating results and financial condition. Any adverse developments relating to the economic slowdown may make the occurrence of one or more of the factors discussed under Risk
Factors in this report more likely to occur.





The recent terrorist attacks are unprecedented events that have created many
economic and political uncertainties, some of which may harm our business and prospects and our ability in general to conduct business in the ordinary course.





Terrorist attacks in New York and Washington, D.C. in September 2001 disrupted commerce throughout




21




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the world. The continued threat of terrorism and the resulting military, economic and political response and heightened security measures may cause significant disruption to commerce throughout
the world. To the extent that this disruption results in a general decrease in our customers spending, our business and results of operations could be materially and adversely affected. We are unable to predict whether the threat of terrorism
or the responses thereto will result in any long-term commercial disruptions or if such activities or responses will have a long-term adverse effect on our business, results of operations or financial condition. These and other developments arising
out of the attacks may make the occurrence of one or more of the factors discussed under Risk Factors in this report more likely to occur.





Our future operating results are unpredictable and are likely to fluctuate from quarter to quarter and, if we fail to meet the expectations of securities analysts or investors, our stock price would likely decline
significantly.





Our quarterly and annual operating results have fluctuated in the past and are likely to
fluctuate significantly in the future due to a number of factors, some of which are wholly or partially outside of our control. Many of these risks are described in the following risk factors. Accordingly, we believe that period-to-period
comparisons of our results of operations are not meaningful and should not be relied upon as indications of future performance. Some of the factors that could cause our quarterly or annual operating results to fluctuate include:





| |  |  | the amount and timing of our operating expenses and capital expenditures;
| | - |  | -------------------------------------------------------------------------




| |  |  | changes in the volume of our product sales and pricing concessions on volume sales;
| | - |  | -----------------------------------------------------------------------------------




| |  |  | the timing, reduction, deferral or cancellation of customer orders or purchases;
| | - |  | --------------------------------------------------------------------------------




| |  |  | seasonality in some of our target markets;
| | - |  | ------------------------------------------




| |  |  | the effectiveness of our product cost reduction efforts;
| | - |  | --------------------------------------------------------




| |  |  | variability of our customers product lifecycles;
| | - |  | -------------------------------------------------




| |  |  | changes in the average selling prices of our products; and
| | - |  | ----------------------------------------------------------




| |  |  | cancellations, changes or delays of deliveries to us by our manufacturers and suppliers.
| | - |  | ----------------------------------------------------------------------------------------




If our operating results fall below the expectations of securities analysts or investors, the trading price of our common stock would
likely decline significantly.





If we fail to keep up with rapid technological change and evolving industry standards, our products
could become less competitive or obsolete.





The markets for our products are characterized by rapid
technological change, frequent new product introductions, changes in customer requirements and evolving industry standards. Our products may cease to be competitive if we fail to introduce new products or product enhancements that address these
changes, meet new customer requirements and support new standards. To continue to introduce new products or product enhancements on a timely basis, we must:





| |  |  | identify emerging technological trends in our target markets, including new communications standards;
| | - |  | -----------------------------------------------------------------------------------------------------




| |  |  | accurately define and design new products or product enhancements to meet market needs;
| | - |  | ---------------------------------------------------------------------------------------



22




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| |  |  | develop or license the underlying core technologies necessary to create new products and product enhancements; and
| | - |  | ------------------------------------------------------------------------------------------------------------------




| |  |  | respond effectively to technological changes and product introductions by others.
| | - |  | ---------------------------------------------------------------------------------




If we are unable to identify, develop, manufacture, market or support new or enhanced products successfully or on a timely basis, our competitors could gain market share or
our new products or product enhancements might not gain market acceptance. Further, we might not be able to respond effectively to product announcements by competitors, technological changes or emerging industry standards.





We depend upon widespread market acceptance of our USB products, and our revenue will decline if the market does not continue to accept these products.





We currently derive a substantial majority of our revenue from sales of our USB products. Revenue from sales
of our USB products accounted for approximately 67.7% of our revenue in the quarter ended June 30, 2002. We expect that revenue from these products will continue to account for a substantial portion of our revenue for the foreseeable future. If the
market does not continue to accept our USB products, our revenue will decline significantly. Factors that may affect the market acceptance of our current USB products include the continued growth of the markets for USB compliant devices as well as
the performance and pricing of our USB products and the availability, functionality and price of competing products. Companies must also modify their products to support new versions of USB as they are developed, such as USB 2.0. Many of these
factors are beyond our control. In addition, in order to maintain widespread market acceptance, we must continue to differentiate ourselves from the competition through our technical expertise, product offerings and brand name recognition. Failure
of our USB products to maintain market acceptance would adversely impact our revenue.





If we devote resources to developing products
for communications standards that ultimately are not widely accepted, our business could be harmed.





We may
incur significant expenses and dedicate significant time and resources in developing products for emerging communications standards that may not gain broad acceptance. For example, we spent four years from 1992 to 1995 developing products for the
ACCESS.bus technology, a standard designed to connect peripheral devices to computers, which did not gain market acceptance. The failure of a standard for which we devote resources to gain widespread acceptance, or our failure to be first to market
with products that address a particular standard, would likely harm our business.





If we fail to maintain and expand our relationships
with the core or promoter companies in our target markets, we may have difficulty developing and marketing our products.





It is important to our success to maintain and expand our relationships with companies that are leaders in developing new communications standards in our target markets. We believe that we need to work closely with these core or
promoter companies to gain valuable insights into the market demands for new products, to obtain early access to new communications standards as they are developed and to help us design new products. We will need to maintain our relationships with
leading technology and infrastructure companies, as well as expand our relationships with leaders in markets that are new for us. Generally, we do not enter into formal contracts that obligate these companies to work or share their technology with
us. Industry leaders could choose to work with other companies as they develop new communications standards in the future. If we fail to maintain and expand our industry relationships, we could lose the opportunity for first-mover advantage with
respect to emerging standards and it would be more difficult for us to develop and market products that address these standards.





If
our target markets do not accept our products for emerging communications standards, our revenue growth could suffer.





Our future growth depends upon our ability to sell advanced verification systems for emerging




23




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communications standards such as Bluetooth wireless technology, InfiniBand and Series ATA. However, our products may not gain widespread acceptance by customers. The success of our products
depends upon volume production of computer, communications and consumer electronic products that use a particular standard and the acceptance of these products by consumers. The markets for emerging standards products have only recently begun to
develop and are rapidly evolving. As a result, it is difficult to predict their potential size or future growth rate. There is significant uncertainty as to whether these markets ultimately will develop at all or, if they do develop, whether they
will develop rapidly. If the markets for a particular emerging communications standard fail to develop or develop more slowly than expected, or if our products do not achieve widespread market acceptance by customers in these markets, our business
would be significantly harmed.





Delays in the development of new products or product enhancements could harm our operating results and
our competitive position.





The development of new, technologically advanced products is a complex and
uncertain process requiring high levels of innovation and highly skilled engineering and development personnel, as well as accurate anticipation of technological and market trends. Although we have not experienced any material product development
delays in the past, these types of delays could occur in the future. To the extent that we do not introduce the first product for an emerging standard or customers defer or cancel orders with the expectation of a new product or product enhancement
release, our operating results could suffer. Product development delays may result from numerous factors, including:





| |  |  | changing product specifications and customer requirements;
| | - |  | ----------------------------------------------------------




| |  |  | difficulties in hiring and retaining necessary technical personnel;
| | - |  | -------------------------------------------------------------------




| |  |  | difficulties in allocating engineering resources and overcoming resource limitations;
| | - |  | -------------------------------------------------------------------------------------




| |  |  | difficulties with contract manufacturers or suppliers of key components;
| | - |  | ------------------------------------------------------------------------




| |  |  | changing market or competitive product requirements; and
| | - |  | --------------------------------------------------------




| |  |  | unanticipated engineering complexities.
| | - |  | ---------------------------------------




If we are unable to meet the design and market introduction schedules for our new products or product enhancements, our operating results and competitive position may suffer.





Variations in our revenue may cause fluctuations in our operating results.





We may experience a delay in generating or recognizing revenue for a number of reasons. Historically, we have had little backlog and our revenue in any quarter has depended
upon orders booked and shipped in that quarter. Furthermore, our customers may delay scheduled delivery dates and cancel orders without significant penalty. In addition, even if we ship orders, generally accepted accounting principles may require us
to defer recognition of revenue from those orders until a later date. Because we budget our operating expenses on anticipated revenue trends and a high percentage of our expenses is fixed in the short term, any delay in generating forecasted revenue
could have a significant negative impact on our operating results.





Shifts in our product mix may result in declines in gross margins.





Our gross margins vary among our products, with our gross margins generally being higher on our advanced
verification systems than on our connectivity products. Our overall gross margins might fluctuate from period to period as a result of shifts in product mix, the channels through which we sell our products, the introduction of new products and
product costs.




24




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Decreases in average selling prices of our products may reduce gross margins and revenue.





The average selling prices of our products may decrease in the future in response to product introductions or
enhancements by us or our competitors, or as a result of other factors, including discounts given on volume purchase orders or pricing pressures. For example, we recently reduced the prices of certain of our development products in response to
competitive pricing pressure. We anticipate that we will need to continue to develop and introduce on a timely basis new products that incorporate features that can be sold at higher average selling prices. Failure to do so would likely cause our
revenue and gross margins to decline.





Continued competition in our markets may lead to a reduction in our prices, revenue and market
share.





The markets for advanced verification and connectivity products for emerging communications standards
are highly competitive. We compete with multiple companies in various markets, including Yokagawa in the markets for products for the 1394 standard, Tektronix in the markets for products for the Bluetooth wireless technology and Finisar in the
markets for products for the InfiniBand standard. Any of our competitors may develop technologies that address our targeted markets more effectively and at a lower cost. In addition, these competitors may enter into strategic alliances or business
combinations that increase their ability to innovate and address our markets.





We may also face competition
from other equipment manufacturers, such as Agilent, National Instruments and Rhode & Schwartz. Many of these companies have substantially greater financial, technical, marketing and distribution resources and brand name recognition. We expect
that more companies, including some of our customers, will enter our markets. If these companies develop products that compete with our products or form alliances with or acquire companies offering competing products, even if those products do not
have capabilities comparable to our products, they would be significant competitors and their activities could cause us to reduce our prices. Increased competition could result in significant price erosion, reduced revenue, lower margins and loss of
market share, any of which would significantly harm our business.





We depend on contract manufacturers for substantially all of our
manufacturing requirements and if these manufacturers fail to provide us with adequate supplies of high-quality products, our competitive position, reputation and business could be harmed.





We currently rely on four contract manufacturers for all of our manufacturing requirements except for the final assembly, testing and quality assurance on our lower
volume, higher margin products. We do not have long-term contracts with any of these manufacturers. As a result, our manufacturers could refuse to continue to manufacture all or some of our products that we require or change the terms under which
they manufacture our products. We have experienced delays in product shipments from some of our contract manufacturers in the past, which in turn forced us to delay product shipments to our customers. We may in the future experience similar delays
or other problems, such as inferior quality and insufficient quantity of products, any of which could significantly harm our business. Our contract manufacturers may not be able to meet our future requirements for timely delivery of products of
sufficient quality and quantity. We intend to introduce new products and product enhancements regularly, which will require that we rapidly achieve volume production by coordinating our efforts with those of our suppliers and contract manufacturers.
The inability of our contract manufacturers to provide us with adequate supplies of high quality products or the loss of any of our contract manufacturers would cause a delay in our ability to fulfill orders while we obtain a replacement
manufacturer.





If we are unable to forecast our supply needs accurately, our costs may increase or we may not be able to ship products
in a timely manner.





We purchase components used in the manufacture of our products from several key sources.
We depend on these sources to deliver necessary components in a timely manner based on twelve-month rolling forecasts that we provide. Lead times for materials and components that we order vary significantly and depend on factors such as specific
supplier requirements, contract terms and current market demand for particular components. If we overestimate our component requirements, we may develop excess inventory, which would increase our costs. If we




25




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underestimate our component requirements, we may not be able to fulfill customer orders.





We depend on sole source suppliers for several key components of our products, and we may lose sales if they fail to meet our needs.





We obtain some parts, components and packaging used in our products from sole sources of supply. For example, we obtain field programmable gate array integrated circuits from Altera and Xilinx, ASICs
from LSI Logic through Wyle Electronics, certain Bluetooth components from Ericsson, semiconductor devices from Agilent, and micro-controllers from Intel, SMSC and Cypress Semiconductor. If suppliers are unable to meet our demand for sole source
components at reasonable costs and if we are unable to obtain an alternative source or the price for an alternative source is prohibitive, our ability to maintain timely and cost-effective production of our products would be harmed. In addition,
because we rely on purchase orders rather than long-term contracts with our suppliers, including our sole source suppliers, we cannot predict with certainty our ability to obtain components in the longer term. If we are unable to obtain components
or receive a smaller allocation of components than is necessary to manufacture products in quantities sufficient to meet demand, customers could choose to purchase competing products.





If our distributors and manufacturers representatives do not actively sell our products, our product sales may decline.





We sell a substantial portion of our products through distributors and manufacturers representatives, including Toyo, our primary distributor in Japan, which
accounted for approximately 17.4% of our revenue in the quarter ended June 30, 2002. Our distributors and manufacturers representatives generally offer products from multiple manufacturers. Accordingly, there is a risk that these distributors
and manufacturers representatives may give higher priority to selling products from other suppliers and reduce their efforts to sell our products. Our distributors and manufacturers representatives may not market our products effectively
or continue to devote the resources necessary to provide us with effective sales, marketing and technical support. Our distributors may on occasion build inventories in anticipation of substantial growth in sales and, if growth does not occur as
rapidly as anticipated, may decrease the quantity of products ordered from us in subsequent quarters. A slowdown in orders from our distributors could reduce our revenue in any given quarter and give rise to fluctuations in our operating results.





In addition, our sales to Toyo and our other distributors are made on the basis of purchase orders rather than a
long-term commitment. The loss of any one of our major distributors, or the delay of significant orders from these distributors, could result in decreased revenue.





If we are unable to retain and motivate our sales, marketing, engineering, operations and finance personnel, our growth will be impaired.





To grow our business successfully and maintain a high level of quality, we will need to retain and motivate highly skilled sales, marketing, engineering, operations
and finance personnel. If we are not able to retain a sufficient number of qualified employees, our growth will be impaired. We may have even greater difficulty retaining employees if employees perceive the equity component of our compensation
package to be less valuable as a result of market fluctuations in the price of our common stock.





The loss of key management
personnel, on whose knowledge, leadership and technical expertise we rely, would harm our ability to execute our business plan.





Our success depends heavily upon the continued contributions of our key management personnel, whose knowledge, leadership and technical expertise would be difficult to replace. All of our executive officers and key




26




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personnel are employees at will. We maintain no key person insurance on any of our personnel. If we were to lose the services of any of our key personnel and were unable to hire qualified
replacements, our ability to execute our business plan would be harmed. In addition, employees who leave our company may subsequently compete against us.





If we fail to manage our growth effectively, our business could suffer.





Our
ability to offer products and implement our business plan successfully in a rapidly evolving market requires an effective planning and management process. For example, we have recently migrated our operations to a new enterprise resource planning
system that affects almost every facet of our business operations. Typically, these conversions negatively affect a companys near-term ability to conduct business due to problems such as historical data conversion errors, personnel training
time associated with the new system, delays in implementation or unforeseen technical problems in connection with conversion. If problems arise in connection with this transition, we could experience delays in or lack of shipping, an inability to
support our existing customer base, delays in paying vendors, delays in collecting from customers, an inability to place or receive product orders or other operational problems. If this were to occur, our profitability or financial position could be
negatively impacted and our operating results could suffer.





Our products may contain defects that cause us to incur significant
costs, divert our attention from product development efforts and result in a loss of customers.





Highly
complex products such as our verification systems and connectivity products frequently contain defects when they are first introduced or as new versions are released. Although none of our products has contained any material defects in the
past, our products may contain defects of this nature in the future. If any of our products contains defects or have reliability, quality or compatibility problems, our reputation may be damaged and customers may be reluctant to buy our products. As
a result, our ability to retain existing customers or attract new customers could be harmed. In addition, these defects could interrupt or delay sales to our customers. We may have to invest significant capital and other resources to alleviate these
problems. If any of these problems remains undiscovered until after we have commenced commercial production of a new product, we may be required to incur additional development costs and product recall, repair or replacement costs. These problems
may also result in claims against us by our customers or others. In addition, these problems may divert our technical and other resources from other development efforts.





If we are unable to expand our direct sales operations and our distributor and manufacturers representatives channels or successfully manage our expanded sales organization, our ability to
increase our revenue will be harmed.





Historically, we have relied on a limited direct sales organization,
supported by third-party manufacturers representatives, to sell our products domestically and on third-party distributors to sell our products internationally. We intend to develop and expand our direct sales organization in North America and
our indirect distribution channels internationally. We may not be able to expand our direct sales organization successfully, and the cost of any expansion may exceed the revenue generated from expansion. In addition, if we fail to develop
relationships with significant distributors or manufacturers representatives, or if our current distributors or manufacturers representatives are not successful in their sales or marketing efforts, sales of our products may decrease.





Any acquisitions that we undertake could be difficult to integrate, disrupt our business, dilute stockholder value and harm our
operating results.





We expect to continue to review opportunities to buy other businesses or technologies that
would complement our current products, expand the breadth of our markets or enhance our technical capabilities or that




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might otherwise offer growth opportunities. If we make any future acquisitions, we could issue stock that would dilute the percentage ownership of our existing stockholders, incur substantial
debt or assume contingent liabilities. For example, we issued 360,000 shares of our company common stock in connection with our acquisition of Verisys in June 2002. In addition, the Verisys acquisition and other potential acquisitions involve
numerous risks, including:





| |  |  | problems in assimilating the purchased operations, technologies or products;
| | - |  | ----------------------------------------------------------------------------




| |  |  | costs or accounting charges associated with the acquisition;
| | - |  | ------------------------------------------------------------




| |  |  | diversion of managements attention from our existing business;
| | - |  | ---------------------------------------------------------------




| |  |  | adverse effects on existing business relationships with suppliers and customers;
| | - |  | --------------------------------------------------------------------------------




| |  |  | risks associated with entering markets in which we have little or no prior experience; and
| | - |  | ------------------------------------------------------------------------------------------




| |  |  | potential loss of key employees of purchased businesses.
| | - |  | --------------------------------------------------------




Economic, political and other risks associated with international sales and operations could adversely affect our sales.





Because we sell our products worldwide, our business is subject to risks associated with doing business internationally. We recognized 57.6% of our revenue from sales to
international customers in the quarter ended June 30, 2002. We anticipate that revenue from international operations will continue to represent a substantial portion of our revenue. In addition, several of our manufacturers facilities and
suppliers are located outside the United States. Accordingly, our future results could be harmed by a variety of factors, including:





| |  |  | changes in foreign currency exchange rates;
| | - |  | -------------------------------------------




| |  |  | changes in a specific countrys or regions political or economic conditions, particularly in emerging markets;
| | - |  | ---------------------------------------------------------------------------------------------------------------




| |  |  | trade protection measures and import or export licensing requirements;
| | - |  | ----------------------------------------------------------------------




| |  |  | potentially negative consequences from changes in tax laws;
| | - |  | -----------------------------------------------------------




| |  |  | difficulty in staffing and managing widespread operations;
| | - |  | ----------------------------------------------------------




| |  |  | differing labor regulations;
| | - |  | ----------------------------




| |  |  | differing protection of intellectual property; and
| | - |  | --------------------------------------------------




| |  |  | unexpected changes in regulatory requirements.
| | - |  | ----------------------------------------------




Our headquarters and our contract manufacturers are located in Northern California, Asia and other areas where natural disasters may occur.





Currently, our corporate headquarters and some of our contract manufacturers are located in Northern California and our other contract manufacturers are located in Asia.
Northern California and Asia historically have been vulnerable to natural disasters and other risks, such as earthquakes, fires, floods, power loss and telecommunication failure, which at times have disrupted the local economy and posed physical
risks to our and our manufacturers properties. We do not have redundant, multiple site capacity in the event of a natural disaster.




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Any failure to protect our intellectual property adequately may significantly harm our business.





To date, we protect our proprietary processes, software, know-how and other intellectual property and related
rights through copyrights, trademarks and maintenance of trade secrets, including entering into confidentiality agreements. Our success and ability to compete depend in part on our proprietary technology. We currently do not have any patents.
Although we have six patents pending, patents may not issue as a result of these or other patent applications. Any patents that ultimately issue may be successfully challenged by others or invalidated, or may not provide us with a significant
competitive advantage. Third parties may breach confidentiality agreements or other protective contracts into which we have entered, and we may not be able to enforce our rights in the event of these breaches. We may be required to spend significant
resources to monitor and police our intellectual property rights, including pursuing remedies in court. We may become involved in legal proceedings against other parties, which may also cause other parties to assert claims against us. We report
material pending legal proceedings, if any, under the separate caption Part II, Item 1. Legal Proceedings elsewhere in this report. However, in the future, we may not be able to detect infringement and may lose competitive position in
our markets before we do so. In addition, competitors may design around our technologies or develop competing technologies. The laws of other countries in which we market our products might offer little or no effective protection of our proprietary
technology. Reverse engineering, unauthorized copying or other misappropriation of our proprietary technology could enable third parties to benefit from our technology without paying us for it, which could significantly harm our business.





Claims that we infringe third-party intellectual property rights could result in significant expenses or restrictions on our ability
to sell our products.





Our industry is characterized by uncertain and conflicting intellectual property claims
and frequent intellectual property litigation, especially regarding patent rights. We cannot be certain that our products do not and will not infringe issued patents or other intellectual property rights of others. Historically, patent applications
in the United States have not been publicly disclosed until the patent is issued, and we may not be aware of filed patent applications that relate to our products or technology. If patents are later issued in connection with these applications, we
may be liable for infringement. From time to time, other parties may assert patent, copyright and other intellectual property rights to technologies and in various jurisdictions that are important to our business. Any claims asserting that our
products infringe or may infringe proprietary rights of third parties, including claims arising through our contractual indemnification of our customers, regardless of their merit or resolution, would likely be costly and time-consuming, result in
costly litigation, divert the efforts of our technical and management personnel, cause product shipment delays or require us to enter into royalty or licensing agreements. Royalty or licensing agreements, if required, may not be available on terms
acceptable to us, or at all.





Changes in current laws or regulations or the imposition of new laws or regulations could impede the
sale of our products.





In the United States, substantial portions of the telecommunications industry, we and
many of our customers and their products are subject to regulations and standards set by the Federal Communications Commission, or FCC. Internationally, many of our customers and their products may also be required to comply with regulations
established by authorities in various countries. We are required to determine to what extent our products may be subject to FCC standards and regulations and to what extent we are required to obtain authorizations from the FCC directly or from a
third-party authorized by the FCC to issue such authorizations. We are also required to maintain in good standing any equipment authorization we receive from the FCC or an FCC-approved party. In addition, the regulations in force both in the United
States and in foreign jurisdictions may change. Failure to comply with regulations established by regulatory authorities or to obtain timely domestic or foreign regulatory approvals or certificates could significantly harm our business.





An energy crisis in California may cause our operating results to suffer.





California has encountered, and may again encounter, an energy crisis that could disrupt our operations and increase our expenses. Suppliers of electric power have on
some occasions implemented, and may in the future




29




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continue to implement, rolling blackouts throughout California. We currently do not have backup generators or alternate sources of power in the event of a blackout, and our current insurance does
not provide coverage for any damages our customers or we may suffer as a result of any interruption in the power supply. If blackouts interrupt our power supply, we would be temporarily unable to continue operations at our facilities in California.
Any such interruption in our ability to continue operations at our facilities could damage our reputation, harm our ability to retain existing customers and to obtain new customers, and result in lost revenue, any of which could substantially harm
our business and results of operations.





Item 3.    Quantitative and Qualitative Disclosures About Market Risk





The primary objective of our 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 in which we invest may be subject to market risk. This means that a change in prevailing interest rates may cause the principal amount of the
investment to fluctuate. For example, if we hold a security that was issued with an interest rate fixed at the then-prevailing rate and the prevailing interest rate later rises, the principal amount of our investment will probably decline. As of
June 30, 2002, cash equivalents and short-term investments consist principally of investments in commercial paper, investment quality corporate and municipal bonds, collateralized mortgage obligations, U.S. government agency securities and money
market funds.





Part IIOTHER INFORMATION





Item 1.    Legal Proceedings





On
December 29, 2000, we filed in the United States District Court for the Northern District of California a complaint against Catalyst Enterprises, Inc., alleging trademark and trade dress infringement, copyright infringement and unfair competition
and seeking damages and attorneys fees. The case is referred to as Computer Access Technology Corporation v. Catalyst Enterprises, Inc., Case No. C 00 4852 DLJ. Catalyst responded to the complaint on April 6, 2001 by denying each of the
substantive claims and asserting federal and state unfair competition counterclaims, and requesting an award of attorneys fees. We answered the counterclaims on September 27, 2001, and denied all the substantive claims of Catalysts
counterclaims.





On March 28, 2001, we filed a motion for preliminary injunction against Catalyst. The Court denied
this motion by order entered June 13, 2001. We filed a notice of appeal to the 9th Circuit Court of Appeals on July 12, 2001, and we filed a motion to voluntarily withdraw the appeal on November 28, 2001. The appeal was dismissed by order dated
December 4, 2001.





On December 11, 2001, Catalyst filed a motion for partial summary judgment on the issue of
trade dress functionality. On January 25, 2002, we filed a motion for judgment on the pleadings or, in the alternative, a special motion to strike Catalysts counterclaims. The Court denied Catalysts motion and granted our motion for
judgment on the pleadings by order entered March 29, 2002, and dismissed each of Catalysts counterclaims with prejudice.





On July 24, 2002, Catalyst filed a motion for leave to file a motion for reconsideration of its motion for partial summary judgment, and CATC opposed this motion on July 26, 2002. The court has not yet ruled on the motion.





Expert reports were exchanged on July 1, 2002, and rebuttal expert reports were exchanged on July 29, 2002. Fact
discovery closed on July 29, 2002. The parties continue to confer regarding various fact discovery disputes; CATCs appeal from a magistrates order to produce certain source code is pending with the district court; and August 12, 2002, is
the last day for filing motions pertaining to fact discovery. Expert discovery is set to close on September 30, 2002, and the pretrial conference is set for September 30, 2002. The case is set for trial on October 23, 2002.




30




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We cannot predict the outcome of this matter at this time.





Item 4.    Submission of Matters to a Vote of Security Holders





Our 2002 annual meeting of stockholders was held on May 20, 2002. At the meeting, our stockholders approved the following proposals presented to them pursuant to the vote
totals indicated next to each item:





Vote (No. of Shares)Proposal

For

Against/Withheld

Abstain

BrokerNon-VotesElection of Jean-Louis Gassée as Class II Director

13,332,102

463,914



Election of Roger W. Johnson as Class II Director

13,375,341

420,675



Approval of an amendment to the Companys 2000 Stock Incentive Plan

9,863,664

1,814,335

49,145

2,068,872Ratification of PricewaterhouseCoopers LLP as independent public accountants for fiscal year ended December 31,
2002

13,792,646

3,370









Item 5.    Other Information





On May 7, 2002, we announced the hiring of Tim Carey as our new vice president, marketing, and of Kevin Fitzgerald as our new vice
president, sales and customer service.





Item 6.    Exhibits and Reports on Form 8-K





a.  Exhibits.





Exhibit No.

Document Name3.1*

Amended and Restated Certificate of Incorporation of the Company.3.2*

Bylaws of the Company.4.1*

Specimen Certificate of the Companys common stock.10.20

Employment agreement dated February 25, 2002, by and between Thomas Carey and the Registrant.10.21

Employment agreement dated April 15, 2002, by and between Kevin Fitzgerald and the Registrant.99.1

Certification Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Okley Act of 2002


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|* |  | Previously filed as an exhibit to the Companys Registration Statement on Form S-1 (Registration No. 333-43866) as filed with the SEC on August 16, 2000,
as subsequently amended, and incorporated in this quarterly report by reference.
|- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------




b.  Reports on Form 8-K





On May 14, 2002, the Company filed a Form 8-K
to announce that it had entered into a definitive agreement to purchase Verisys on May 9, 2002. On June 4, 2002, the Company filed a Form 8-K to announce the completion of the purchase of Verisys on June 4, 2002.




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SIGNATURES





Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.





Date: August 14, 2002


Computer Access Technology CorporationBy:

/s/    Dennis W. EvansDennis W. Evans Executive Vice President, Chief Financial Officer and
Secretary (Principal Financial Officer and Principal Accounting Officer)




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