<PAGE>
                 U.S. 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 December 31, 2001


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

                 For the Transition Period From _____ to _____


                       COMMISSION FILE NUMBER 0-24765


                               hi/fn, inc.
           (Exact Name of Registrant as specified in its Charter)

                   DELAWARE                              33-0732700
       (State or other jurisdiction of                  (IRS Employer
        Incorporation or Organization)             Identification Number)

             750 UNIVERSITY AVENUE, LOS GATOS, CALIFORNIA 95032
           (Address of principal executive offices and Zip Code)

      Registrant's telephone number, including area code: (408) 399-3500


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 [  ]


The number of shares outstanding of the Registrant's Common Stock, par value
$.001 per share, was 10,415,933 at February 7, 2002.
<PAGE>


                                 HIFN, INC.

                             INDEX TO FORM 10-Q



PART I.   FINANCIAL INFORMATION


<TABLE>
<CAPTION>
<S>                                                                       <C>
Item 1.   Financial Statements
          Condensed Consolidated Balance Sheets
             as of December 31, 2001 and September 30, 2001                 3

          Condensed Consolidated Statements of Operations                   4
            for the three months ended December 31, 2001 and 2000

          Condensed Consolidated Statements of Cash Flows                   5
            for the three months ended December 31, 2001 and 2000

          Notes to Condensed Consolidated Financial Statements             6-8

Item 2.   Management's Discussion and Analysis of Financial Condition     9-21
          and Results of Operations

PART II.  OTHER INFORMATION

Item 1.   Legal Proceedings                                                22

Item 2.   Changes in Securities                                            22

Item 6.   Exhibits and Reports on Form 8-K                                 22

Signatures                                                                 23
</TABLE>

                                       2
<PAGE>
  PART 1 - FINANCIAL INFORMATION

  ITEM 1. FINANCIAL STATEMENTS



                                   HIFN, INC.
                      CONDENSED CONSOLIDATED BALANCE SHEETS
                                 (in thousands)

<TABLE>
<CAPTION>

                                                              December      September
                                                              31, 2001      30, 2001
                                                             ---------      ---------
                                                             (unaudited)
<S>                                                          <C>            <C>
                                     ASSETS

  CURRENT ASSETS:
 Cash and cash equivalents                                   $  52,287      $  54,600
 Short-term investments                                          9,727         10,151
 Accounts receivable, net                                        4,950          3,814
 Inventories                                                     1,327          1,685
 Deferred income taxes                                           3,424          3,424
 Prepaid expenses and other current assets                       5,652          3,598
                                                             ---------      ---------
   Total current assets                                         77,367         77,272

Property and equipment, net                                      3,641          4,111
Deferred income taxes                                            3,836          3,836
Intangibles and other assets, net                               43,674         41,591
                                                             ---------      ---------
                                                             $ 128,518      $ 126,810
                                                             =========      =========
                    LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES:
 Accounts payable                                            $   4,469      $   2,404
 Accrued expenses and other current liabilities                  4,212          4,571
                                                             ---------      ---------
   Total current liabilities                                     8,681          6,975
                                                             ---------      ---------

STOCKHOLDERS' EQUITY:
 Common stock                                                       10             10
 Additional paid-in capital                                    123,267        118,252
 Retained earnings                                              (3,440)         1,573
                                                             ---------      ---------
     Total stockholders' equity                                119,837        119,835
                                                             ---------      ---------
                                                             $ 128,518      $ 126,810
                                                             =========      =========
</TABLE>

   See accompanying notes to condensed consolidated financial statements.


                                       3
<PAGE>
                                  HIFN, INC.
                CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
                     (in thousands, except per share data)

<TABLE>
<CAPTION>
                                                           Three Months
                                                              Ended
                                                           December 31,
                                                 ----------------------------
                                                       2001             2000
                                                 ----------------------------
                                                         (unaudited)
<S>                                              <C>              <C>
Net revenues                                     $     6,404      $    16,109
                                                 -----------      -----------
Costs and operating expenses:
   Cost of revenues                                    1,657            3,648
   Research and development                            5,111            4,363
   Sales and marketing                                 2,190            2,791
   General and administrative                          1,576            2,087
   Amortization of intangibles and goodwill            2,778            2,799
                                                 -----------      -----------
     Total costs and operating expenses               13,312           15,688
                                                 -----------      -----------
Income (loss) from operations                         (6,908)             421
Interest and other income, net                           364              797
                                                 -----------      -----------
Income (loss) before income taxes                     (6,544)           1,218
Provision for (benefit from) income taxes             (1,531)           1,574
                                                 -----------      -----------
Net loss                                         $    (5,013)     $      (356)
                                                 ===========      ===========

Net loss per share, basic                        $     (0.49)     $     (0.04)
                                                 ===========      ===========
Net loss per share, diluted                      $     (0.49)     $     (0.04)
                                                 ===========      ===========

Weighted average shares outstanding, basic            10,262           10,096
                                                 ===========      ===========
Weighted average shares outstanding, diluted          10,262           10,096
                                                 ===========      ===========
</TABLE>
   See accompanying notes to condensed consolidated financial statements.

                                       4
<PAGE>

                                 HIFN, INC.
               CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                               (in thousands)
<TABLE>
<CAPTION>
                                                                             Three Months Ended
                                                                                December 31,
                                                                         2001                2000
                                                                      -----------      -----------
                                                                               (unaudited)

<S>                                                                   <C>              <C>
Cash flows from operating activities:
     Net loss                                                         $    (5,013)     $      (356)
     Adjustments to reconcile net loss to net cash
     provided by (used in) operating activities:
       Depreciation and amortization                                          488              355
       Amortization of intangibles and goodwill                             2,778            2,799
       Amortization of deferred stock compensation                            410            1,610
       Reversal of deferred stock compensation for canceled stock
       options                                                              1,691               --
       Tax benefit from employee stock plans                                  281            3,681
     Changes in assets and liabilities:
       Accounts receivable                                                 (1,136)             976
       Inventories                                                            358           (2,558)
       Prepaid expenses and other current assets                           (2,054)          (5,098)
       Intangibles and other assets                                        (2,659)            (212)
       Accounts payable                                                     2,065            1,277
       Income taxes payable                                                    --            1,192
       Accrued expenses and other current liabilities                        (333)             187
                                                                      -----------      -----------
         Net cash provided by (used in) operating activities               (3,124)           3,853
                                                                      -----------      -----------
Cash flows from investing activities:
     Purchase of short-term investments                                       424           (6,234)
     Purchases of property and equipment                                      (18)            (185)
                                                                      -----------      -----------
         Net cash provided by (used in) investing activities                  406           (6,419)
                                                                      -----------      -----------
Cash flows from financing activities:
     Proceeds from issuance of common stock, net                              431              578
     Payment on capital lease obligations                                     (26)             (18)
                                                                      -----------      -----------

         Net cash provided by financing activities                            405              560
                                                                      -----------      -----------
Net decrease in cash and cash equivalents                                  (2,313)          (2,006)
Cash and cash equivalents at beginning of period                           54,600           59,688
                                                                      -----------      -----------
Cash and cash equivalents at end of period                            $    52,287      $    57,682
                                                                      ===========      ===========
</TABLE>



   See accompanying notes to condensed consolidated financial statements.

                                       5
<PAGE>
                                   HIFN, INC.
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

NOTE 1 - BASIS OF PRESENTATION

    The condensed consolidated financial statements of hi/fn, inc. ("Hifn" or
the "Company") include the accounts of the Company and its subsidiary, Apptitude
Acquisition Corp. All significant intercompany accounts and transactions have
been eliminated. The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statements and reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.

    The accompanying condensed consolidated financial statements have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission regarding interim financial reporting. Accordingly, they do not
include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements and should be read in
conjunction with the Financial Statements and notes thereto included in the
Company's Form 10-K for period ending September 30, 2001. In the opinion of
management, the accompanying condensed consolidated financial statements contain
all adjustments, consisting only of normal recurring items, which the Company
believes is necessary for a fair statement of the Company's financial position
as of December 31, 2001 and its results of operations for the three months ended
December 31, 2001 and 2000, respectively. These condensed consolidated financial
statements are not necessarily indicative of the results to be expected for the
entire year.

NOTE 2 - NET LOSS PER SHARE

    Basic earnings per share is computed using the weighted average number of
common shares outstanding for the period, without consideration for the dilutive
impact of potential common shares that were outstanding during the period.
Diluted earnings per share is computed using the weighted average number of
common and common equivalent shares outstanding for the period. Common
equivalent shares consist of incremental common shares issuable upon the
exercise of stock options, using the treasury method, and are excluded from the
calculation of diluted net loss per share if anti-dilutive. Outstanding options
to purchase 3,658,088 shares of common stock, or 367,126 weighted average
shares, for the period ended December 31, 2001 were not included in the
computation of diluted earnings per share because their impact would be
anti-dilutive. Outstanding options with exercise prices below average market
value aggregating 2,628,668 shares of common stock, or 698,348 weighted average
shares, for the period ended December 31, 2000 were not included in the
computation of diluted earnings per share because their impact would be
anti-dilutive.

NOTE 3 - DETAILED BALANCE SHEET:

<TABLE>
<CAPTION>

                                                December    September
    (in thousands)                              31, 2001     30, 2001
                                                --------     --------
<S>                                            <C>          <C>
                                              (unaudited)
Accounts receivable:
   Trade receivables                           $ 5,057      $ 3,985
   Less: allowance for doubtful accounts          (107)        (171)
                                               -------      -------
                                               $ 4,950      $ 3,814
                                               =======      =======

Prepaid expenses and other current assets:
   Prepaid taxes                               $ 4,090      $ 2,420
   Insurance                                       991           --
   Other                                           571        1,178
                                               -------      -------
                                               $ 5,652      $ 3,598
                                               =======      =======
</TABLE>

                                       6
<PAGE>


NOTE 3 - DETAILED BALANCE SHEET (CONTINUED):

<TABLE>
<CAPTION>


                                                    December 31,    September 30,
    (in thousands)                                     2001             2001
                                                    -----------      -----------
                                                    (unaudited)
<S>                                                 <C>              <C>
Property and equipment:
   Computer equipment                               $     4,843      $     4,833
   Furniture and fixtures                                 1,158            1,158
   Leasehold improvements                                 1,196            1,188
   Office equipment                                         580              580
                                                    -----------      -----------
                                                          7,777            7,759
   Less: accumulated depreciation                        (4,136)          (3,648)
                                                    -----------      -----------
                                                    $     3,641      $     4,111
                                                    ===========      ===========

Intangibles and other assets:
   Developed and core technology                    $     3,263      $     3,263
   Workforce                                                599              599
   Patents                                                  600              600
   Goodwill                                              47,121           47,121
   Purchased intellectual property                        6,016            1,049
   Other                                                  1,436            1,542
                                                    -----------      -----------
                                                         59,035           54,174
   Less: accumulated amortization                       (15,361)         (12,583)
                                                    -----------      -----------
                                                    $    43,674      $    41,591
                                                    ===========      ===========
Accrued expenses and other current liabilities:
   Deferred revenue                                 $     2,232      $     2,433
   Compensation and employee benefits                       809            1,005
   Other                                                  1,171            1,133
                                                    -----------      -----------
                                                    $     4,212      $     4,571
                                                    ===========      ===========
</TABLE>
NOTE 4 - VOLUNTARY STOCK OPTION EXCHANGE

    On November 15, 2001, the Company extended a voluntary stock option exchange
offer (the "Exchange Program") to its eligible employees whereby employees had
the opportunity to cancel options granted from January 29, 1999 through January
8, 2001 in exchange for new options. The number of shares to be granted in
exchange for the old options is subject to the applicable exchange ratio: (i)
for every old option to buy three shares of common stock that was granted
between January 29, 1999 and January 14, 2000, a new option will be granted to
buy two shares of common stock and (ii) for every old option to buy four shares
of common stock that was granted between January 15, 2000 and January 8, 2001, a
new option will be granted to buy three shares of common stock. Additionally,
participating employees were required to cancel all stock options granted during
the six month period prior to the Exchange Program offer and will be entitled to
receive an equal number of shares subject to the new options. The new options
will have the same vesting schedule as if the old options continued to vest
through the new grant date. The exercise price of the new options will be set at
the fair market value of the Company's common stock on the new grant date.

    On December 17, 2001, a total of 1,278,406 shares were tendered for
exchange. The Company anticipates granting new options to purchase 940,877
shares of the Company's common stock on June 18, 2002 in exchange for the
options surrendered in the Exchange Program. The Company recorded a compensation
charge of $1.7 million during the three months ended December 31, 2001 related
to the remaining portion of unamortized compensation for options tendered in the
exchange.

                                       7
<PAGE>

NOTE 5 - LEGAL MATTERS

    In October and November 1999, six purported class action complaints were
filed in the United States District Court for the Northern District of
California against Hifn and certain of its officers and directors. These
complaints were consolidated into In re Hi/fn Sec. Litig., No. 99-04531 SI. The
consolidated complaint was filed on behalf of a class of purchasers of Hifn's
stock during the period July 26, 1999 through October 7, 1999 (the "class
period"). The complaint seeks unspecified money damages and alleges that Hifn
and certain of its officers and directors violated federal securities laws in
connection with various public statements made by Hifn and certain of its
officers and directors during the class period. In August 2000, the Court
dismissed the complaint as to all defendants, other than Raymond J. Farnham and
Hifn. Mr. Farnham and Hifn answered the complaint in September 2000. Discovery
has commenced. A trial date has been tentatively scheduled for January 2003. We
believe that the allegations contained in the complaint are without merit and
intend to defend the action vigorously. Due to the nature of the allegations,
management cannot estimate the possible loss, if any, or range of loss that may
ultimately be incurred in connection with the allegations. However, based on the
facts currently known, management does not believe that these matters will have
a material adverse effect on our financial position.

NOTE 6 - RECENT ACCOUNTING PRONOUNCEMENTS

    In June 2001, the FASB issued SFAS No. 141, "Business Combinations" ("SFAS
141") and SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142").
SFAS 141 will apply to all business combinations that the Company enters into
after June 30, 2001, and eliminates the pooling-of-interests method of
accounting. SFAS 142 is effective for fiscal years beginning after December 15,
2001. Under the new Statements, goodwill and intangible assets deemed to have
indefinite lives will no longer be amortized but will be subject to annual
impairment tests in accordance with the Statements. Other intangible assets will
continue to be amortized over their useful lives. In addition, the Statements
include provisions upon adoption for the reclassification of certain existing
recognized intangibles as goodwill, reassessment of the useful lives of existing
recognized intangibles, reclassification of certain intangibles out of
previously reported goodwill and the testing for impairment of existing goodwill
and other intangibles. The Company is required to adopt these Statements for
accounting for goodwill and other intangible assets beginning October 1, 2002 at
which time the Company will cease amortization of goodwill. Goodwill
amortization expense aggregated $2.4 million and $9.4 million during the three
months ended December 31, 2001 and in fiscal 2001, respectively. Upon adoption
on October 1, 2002, the Company will perform the required impairment tests of
goodwill and has not yet determined the effect of these tests on the earnings
and financial position of the Company.

    In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets" ("SFAS 144"). SFAS 144 supersedes SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of," and provides further guidance regarding the
accounting and disclosure of long-lived assets. The Company is required to adopt
SFAS 144 effective October 1, 2002, and has not yet determined the impact, if
any, of adoption.

                                       8
<PAGE>

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

CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

    The section entitled "Management's Discussion and Analysis of Financial
Condition and Results of Operations" set forth below contains forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"). Words such as "believes," "anticipates," "estimates,"
"expects," and words of similar expressions are intended to identify
forward-looking statements that involve risks and uncertainties. Such statements
are expectations based on information currently available and are subject to
risk, uncertainties and changes in condition, significance, value and effect,
including those discussed under the heading Trends and Uncertainties below and
reports filed by Hifn with the Securities and Exchange Commission, specifically
Forms 10-K, 8-K, 10-Q and S-8. Such risks, uncertainties and changes in
condition, significance, value and effect could cause our actual results to
differ materially from those anticipated events. Although we believe that the
assumptions underlying the forward-looking statements are reasonable, any of the
assumptions could prove inaccurate, including, but not limited to, statements as
to our future operating results and business plans. We disclaim any intention or
obligation to update or revise any forward-looking statements, whether as a
result of new information, future events or otherwise.

OVERVIEW

    hi/fn, inc., together with its subsidiary, (referred to as "Hifn," "we,"
"us" or "our") is a flow classification and network security specialist company
supplying most major network equipment vendors with patented technology to
improve network packet processing. Hifn designs, develops and markets
high-performance, multi-protocol packet processors - semiconductor devices and
software - designed to enable secure, high-bandwidth network connectivity,
comprehensive differentiation of business-critical application network traffic
from other general purpose network traffic and efficient compression,
encryption/compression and public key cryptography, providing our customers with
high-performance, interoperable implementations of a wide variety of
industry-standard networking and storage protocols. Our products are used in
networking and storage equipment such as routers, remote access concentrators,
switches, broadband access equipment, network interface cards, firewalls and
back-up storage devices.

    Hifn's encryption/compression and public key processors allow network
equipment vendors to add bandwidth enhancement and security capabilities to
their products. Our encryption/compression and public key processors provide key
algorithms used in virtual private networks ("VPNs"), which enable businesses to
reduce wide area networking costs by replacing dedicated leased-lines with
lower-cost IP-based networks such as the Internet. Using VPNs, businesses can
also provide trading partners and others with secure, authenticated access to
the corporate network, increasing productivity through improved communications.
Storage equipment vendors use our compression processor products to improve the
performance and capacity of mid- to high-end tape back-up systems.

    Hifn's flow classification technology enables network equipment vendors to
add unique traffic differentiation capabilities to their products. Our flow
classification solutions provide precise details about packets and data
traversing a network and are used in deploying quality of service ("QoS") and
classes of service ("CoS"), which enables businesses to enhance the
effectiveness of using the public Internet network. Using QoS- or CoS-enabled
network equipment, businesses can maintain more consistent and reliable
interactions with their customers and business partners.


                                       9
<PAGE>

RESULTS OF OPERATIONS

    The following table sets forth the percentage relationship of certain items
to the Company's revenue during the periods shown:

<TABLE>
<CAPTION>
                                                        Three Months
                                                    Ended December 31,
                                               -----------------------------
                                                   2001              2000
                                               -----------       -----------
<S>                                            <C>               <C>
Net revenues .............................             100%             100%
                                               -----------       -----------
Costs and operating expenses:
 Cost of revenues ........................              26                23
  Research and development ...............              80                27
  Sales and marketing ....................              34                17
  General and administrative .............              25                13
  Amortization of intangibles and goodwill              43                17
                                               -----------       -----------
    Total costs and operating expenses ...             208                97
                                               -----------       -----------
Income (loss) from operations ............            (108)                3
Interest and other income, net ...........               6                 5
                                               -----------       -----------
Income (loss) before income taxes ........            (102)                8
Provision for (benefit from) income taxes               24                10
                                               -----------       -----------
Net loss .................................             (78)%              (2)%
                                               ===========       ===========
</TABLE>

    Net Revenues. Net revenues decreased 60.2% to $6.4 million for the quarter
ended December 31, 2001 from $16.1 million for the quarter ended December 31,
2000. The decrease in revenues was primarily due to decreased sales of Hifn's
data compression and encryption processors to network equipment manufacturers
offset by an increase in revenues and royalties related to classification and
other software. Semiconductor sales to Quantum Corporation, an original
equipment manufacturer of high-performance tape storage devices, through its
manufacturing subcontractor, comprised 45% of revenues for the quarter ended
December 31, 2001 and 34% of revenues for the quarter ended December 31, 2000.

    Cost of Revenues. Cost of revenues consists primarily of semiconductors
which were manufactured to our specifications by third parties for resale by us.
Cost of revenues as a percentage of net revenues increased to 26% for the three
months ended December 31, 2001 from 23% for the same period in fiscal 2000. The
increase in cost of revenues as a percentage of net revenues in fiscal 2001 is
primarily a result of a shift in the processor revenue mix and lower overall
revenue on the level of overhead expenses similar to the prior quarter.

    Research and Development. The cost of product development consists primarily
of salaries, employee benefits, overhead, outside contractors and non-recurring
engineering fees. Such research and development expenses were approximately $5.1
million and $4.4 million for the quarters ended December 31, 2001 and 2000,
respectively. The increase reflects the net effect of an increase of $1.0
million in deferred stock compensation related to the acquisition of Apptitude
offset by a decrease in outside engineering consulting costs.

    Sales and Marketing. Sales and marketing expenses consist primarily of
salaries, commissions and benefits of sales, marketing and support personnel as
well as consulting, advertising, promotion and overhead expenses. Such expenses
were approximately $2.2 million and $2.8 million for the three months ended
December 31, 2001 and 2000, respectively. The decrease reflects decreased
incentives and commission costs as a result of decreased revenues.

    General and Administrative. General and administrative expenses are
comprised primarily of salaries for administrative and corporate services
personnel, legal and other professional fees. Such expenses were $1.6 million
and $2.1 million for the three months ended December 31, 2001 and 2000,
respectively. The decrease was the net effect of a reduction of $755,000 in
amortization of deferred stock compensation resulting from options vesting
during the period offset by increased legal costs.


                                       10
<PAGE>

    Amortization of Intangibles and Goodwill. Amortization of intangibles and
goodwill of $2.8 million for each of the three months ended December 31, 2001
and 2000 was a result of the acquisition of Apptitude and other intellectual
property in August 2000 as well as other acquired technology in April 1998.

    Interest and Other Income, net. Net interest and other income was $364,000
for the three months ended December 31, 2001 and $797,000 for the three months
ended December 31, 2000. The decrease in interest and other income for the three
months ended December 31, 2001 compared to the same period in 2000 was mainly
due to slightly lower average cash balance during the first quarter of 2001, a
shift in the investment mix and lower overall interest rates.

    Income Taxes. The effective income tax rate for the three months ended
December 31, 2001 was 23% as compared to 129% for the same period in 2000. The
resulting effective tax rates are primarily the result of the non-deductibility
of certain acquisition-related costs consisting primarily of the amortization of
intangibles and goodwill.

LIQUIDITY AND CAPITAL RESOURCES

    Net cash used in operating activities of $3.1 million for the three months
ended December 31, 2001 was the result of net loss offset as adjusted for
non-cash items including amortization of intangibles of $2.8 million, a
reduction in deferred stock compensation of $2.1 million, depreciation and
amortization costs of $488,000 and tax benefit from employee stock plans of
$281,000 as well as a decrease in inventory of $358,000 and an increase in
accounts payable of $2.1 million. These adjustments were offset by increases in
accounts receivable of $1.1 million and in prepaid expenses and other current
assets as well as intangibles and other assets of $4.7 million and a decrease in
accrued expenses and other current liabilities of $333,000.

    Net cash provided by operating activities of $3.9 million for the three
months ended December 31, 2000 resulted from net loss as adjusted for non-cash
items including amortization of intangibles and deferred stock compensation of
$4.4 million, depreciation and amortization costs of $355,000 and tax benefit
from employee stock plans of $3.7 million as well as a decrease in accounts
receivable of $1.0 million and increases in accounts payable, accrued expenses
and other current liabilities of $1.5 million and income taxes payable of $1.2
million. These adjustments were offset by increases in inventory and prepaid
expenses and other assets of $2.6 million and $5.3 million, respectively.

    Net cash provided by investing activities of $406,000 for the three months
ended December 31, 2001 primarily reflects a decrease in short-term investments.
Net cash used in investing activities during the three months ended December 31,
2000 of $6.4 million related to the purchase of short-term investments of $6.2
million as well as the purchase of property and equipment.

    Net cash provided by financing activities was $406,000 and $560,000 for the
three months ended December 31, 2001 and 2000, respectively. The net cash
provided by financing activities for both periods was primarily attributable to
proceeds from issuance of common stock slightly offset by payments on capital
lease obligations.

    The Company uses a number of independent suppliers to manufacture
substantially all of its products. As a result, the Company relies on these
suppliers to allocate to the Company a sufficient portion of foundry capacity to
meet the Company's needs and deliver sufficient quantities of the Company's
products on a timely basis. These arrangements allow the Company to avoid
utilizing its capital resources for manufacturing facilities and work-in-process
inventory and to focus substantially all of its resources on the design,
development and marketing of its products.


    The Company requires substantial working capital to fund its business,
particularly to finance accounts receivable and inventory, and for investments
in property and equipment. The Company's need to raise capital in the future
will depend on many factors including the rate of sales growth, market
acceptance of the Company's existing and new products, the amount and timing of
research and development expenditures, the timing and size of acquisitions of
businesses or technologies, the timing of the introduction of new products and
the expansion of sales and marketing efforts.


                                       11
<PAGE>

RECENT ACCOUNTING PRONOUNCEMENTS

    In June 2001, the FASB issued SFAS No. 141, "Business Combinations" ("SFAS
141") and SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142").
SFAS 141 will apply to all business combinations that the Company enters into
after June 30, 2001, and eliminates the pooling-of-interests method of
accounting. SFAS 142 is effective for fiscal years beginning after December 15,
2001. Under the new Statements, goodwill and intangible assets deemed to have
indefinite lives will no longer be amortized but will be subject to annual
impairment tests in accordance with the Statements. Other intangible assets will
continue to be amortized over their useful lives. In addition, the Statements
include provisions upon adoption for the reclassification of certain existing
recognized intangibles as goodwill, reassessment of the useful lives of existing
recognized intangibles, reclassification of certain intangibles out of
previously reported goodwill and the testing for impairment of existing goodwill
and other intangibles. The Company is required to adopt these Statements for
accounting for goodwill and other intangible assets beginning October 1, 2002 at
which time the Company will cease amortization of goodwill. Goodwill
amortization expense aggregated $2.4 million and $9.4 million during the three
months ended December 31, 2001 and in fiscal 2001, respectively. Upon adoption
on October 1, 2002, the Company will perform the required impairment tests of
goodwill and has not yet determined the effect of these tests on the earnings
and financial position of the Company.

    In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets" ("SFAS 144"). SFAS 144 supersedes SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of," and provides further guidance regarding the
accounting and disclosure of long-lived assets. The Company is required to adopt
SFAS 144 effective October 1, 2002, and has not yet determined the impact, if
any, of adoption.

TRENDS AND UNCERTAINTIES

    In future periods, Hifn's business, financial condition and results of
operations may be affected by many factors, including but not limited to the
following:

OUR OPERATING RESULTS MAY FLUCTUATE SIGNIFICANTLY.

    Our operating results have fluctuated significantly in the past and we
expect that they will continue to fluctuate in the future. This fluctuation is a
result of a variety of factors including, but not limited to, the following:

-        General business conditions in our markets as well as global economic
         uncertainty;

-        Increases or reductions in demand for our customers' products;

-        The timing and volume of orders we receive from our customers;

-        Cancellations or delays of customer product orders;

-        Acquisitions or mergers involving us, our competitors or customers;

-        Any new product introductions by us or our competitors;

-        Our suppliers increasing costs or changing the delivery of products to
         us;

-        Increased competition or reductions in the prices that we are able to
         charge;

-        The variety of the products that we sell as well as seasonal demand for
         our products; and

-        The availability of manufacturing capacity necessary to make our
         products.

                                       12
<PAGE>

WE DEPEND UPON A SMALL NUMBER OF CUSTOMERS.

    Quantum Corporation ("Quantum"), through its manufacturing subcontractor,
accounted for approximately 45% and 36% of our revenues during the three months
ended December 31, 2001 and in fiscal year 2001, respectively. Lucent, through
its manufacturing subcontractors, accounted for approximately 17% and 35% of our
revenues during fiscal year 2001 and 2000, respectively. Neither Quantum nor
Lucent are under any binding obligation to order from us. If our sales to
Quantum or Lucent decline, our business, financial condition and results of
operations could suffer. We expect that our most significant customers in the
future could be different from our largest customers today for a number of
reasons, including customers' deployment schedules and budget considerations. As
a result, we believe we may experience significant fluctuations in our results
of operations on a quarterly and an annual basis.

    Limited numbers of network and storage equipment vendors account for a
majority of packet processor purchases in their respective markets. In
particular, the market for network equipment that would include packet
processors, such as routers, remote access concentrators and firewalls, is
dominated by a few large vendors, including Cisco Systems, Inc., Lucent
Technologies Inc., Nortel Networks, Inc. and 3Com Corporation. As a result, our
future success will depend upon our ability to establish and maintain
relationships with these companies. If these network equipment vendors do not
incorporate our packet processors into their products, our business, financial
condition and results of operations could suffer.

OUR BUSINESS DEPENDS UPON THE DEVELOPMENT OF THE PACKET PROCESSOR MARKET.

    Our prospects are dependent upon the acceptance of packet processors as an
alternative to other technology traditionally utilized by network and storage
equipment vendors. Many of our current and potential customers have substantial
technological capabilities and financial resources and currently develop
internally the application specific integrated circuit components and program
the general purpose microprocessors utilized in their products as an alternative
to our packet processors. These customers may in the future continue to rely on
these solutions or may determine to develop or acquire components, technologies
or packet processors that are similar to, or that may be substituted for, our
products. In order to be successful, we must anticipate market trends and the
price, performance and functionality requirements of such network and storage
equipment vendors and must successfully develop and manufacture products that
meet their requirements. In addition, we must make products available to these
large customers on a timely basis and at competitive prices. If orders from
customers are cancelled, decreased or delayed, or if we fail to obtain
significant orders from new customers, or any significant customer delays or
fails to pay, our business, financial condition and results of operations could
suffer.

OUR BUSINESS DEPENDS UPON THE CONTINUED GROWTH AND OUR PENETRATION OF THE
VIRTUAL PRIVATE NETWORK MARKET.

    We want to be a leading supplier of packet processors that implement the
network security protocols necessary to support the deployment of virtual
private networks. This emerging market, which is still evolving, may not grow
and if it does continue to grow, our products may not successfully serve this
market. Our ability to generate significant revenue in the virtual private
network market will depend upon, among other things, the following:

    -   Our ability to demonstrate the benefits of our technology to
        distributors, original equipment manufacturers and end users; and

    -   The increased use of the Internet by businesses as replacements for, or
        enhancements to, their private networks.

    If we are unable to penetrate the virtual private network market, or if that
market fails to develop, our business, financial condition and results of
operations could suffer.

                                       13
<PAGE>

WE FACE RISKS ASSOCIATED WITH EVOLVING INDUSTRY STANDARDS AND RAPID
TECHNOLOGICAL CHANGE.

    The markets in which we compete are characterized by rapidly changing
technology, frequent product introductions and evolving industry standards. Our
performance depends on a number of factors, including our ability to do the
following:

    -   Properly identify emerging target markets and related technological
        trends;

    -   Develop and maintain competitive products;

    -   Enhance our products by adding innovative features that differentiate
        our products from those of competitors;

    -   Bring products to market on a timely basis at competitive prices; and

    -   Respond effectively to new technological changes or new product
        announcements by others.

    Our past success has been dependent in part upon our ability to develop
products that have been selected for design into new products of leading
equipment manufacturers. However, the development of our packet processors is
complex and, from time to time, we have experienced delays in completing the
development and introduction of new products. We may not be able to adhere to
our new product design and introduction schedules and our products may not be
accepted in the market at favorable prices, if at all.

    In evaluating new product decisions, we must anticipate future demand for
product features and performance characteristics, as well as available
supporting technologies, manufacturing capacity, competitive product offerings
and industry standards. We must also continue to make significant investments in
research and development in order to continue to enhance the performance and
functionality of our products to keep pace with competitive products and
customer demands for improved performance, features and functionality. The
technical innovations required for us to remain competitive are complicated and
require a significant amount of time and money. We may experience substantial
difficulty in introducing new products and we may be unable to offer
enhancements to existing products on a timely or cost-effective basis, if at
all. For instance, the performance of our encryption/compression and public key
processors depends upon the integrity of our security technology. If any
significant advances in overcoming cryptographic systems are made, then the
security of our encryption/compression and public key processors will be reduced
or eliminated unless we are able to develop further technical innovations that
adequately enhance the security of these products. Our inability to develop and
introduce new products or enhancements directed at new industry standards could
harm our business, financial condition and results of operations.

OUR MARKETS ARE HIGHLY COMPETITIVE.

    We compete in markets that are intensely competitive and are expected to
become more competitive as current competitors expand their product offerings
and new competitors enter the market. The markets that we compete in are subject
to frequent product introductions with improved price-performance
characteristics, rapid technological change, and the continued emergence of new
industry standards. Our products compete with offerings from companies such as
Analog Devices, Inc., Safenet, Inc., IBM, Broadcom Corporation, Motorola, Inc.
and Philips Corporation. We operated as a division of Stac, Inc., our previous
parent company, and was spun-off from Stac on December 16, 1998. In connection
with the spin-off, we assumed certain license agreements entered into by Stac
including two license agreements with IBM in 1994 in which Stac granted IBM the
right to use, but not sublicense, our patented compression technology in IBM
hardware and software products. Stac also entered into a license agreement with
Microsoft Corporation ("Microsoft") in 1994 whereby Stac granted Microsoft the
right to use, but not sublicense, our compression technology in their software
products. We expect significant future competition from major domestic and
international semiconductor suppliers. Several established electronics and
semiconductor suppliers have recently entered, or expressed an interest to
enter, the network equipment market. We also may face competition from suppliers
of products based on new or emerging technologies. Furthermore, many of our
existing and potential customers internally develop solutions which attempt to
perform all or a portion of the functions performed by our products.

                                       14
<PAGE>

    A key element of our packet processor architecture is our encryption
technology. Until recently, in order to export our encryption-related products,
the U.S. Department of Commerce required us to obtain a license. Foreign
competitors that were not subject to similar requirements have had an advantage
over us in their ability to establish existing markets for their products and
rapidly respond to the requests of customers in the global market. Although the
export restriction has been liberalized, we may not be successful in entering or
competing in the foreign encryption markets. See "Our Products Are Subject To
Export Restrictions."

    Many of our current and prospective competitors offer broader product lines
and have significantly greater financial, technical, manufacturing and marketing
resources than us. As a result, they may be able to adapt more quickly to new or
emerging technologies and changes in customer requirements or to devote greater
resources to promote the sale of their products. In particular, companies such
as Intel Corporation, Lucent Technologies Inc., Motorola, Inc., National
Semiconductor Corporation, and Texas Instruments Incorporated have a significant
advantage over us given their relationships with many of our customers, their
extensive marketing power and name recognition and their much greater financial
resources. In addition, current and potential competitors may decide to
consolidate, lower the prices of their products or to bundle their products with
other products. Any of the above would significantly and negatively impact our
ability to compete and obtain or maintain market share. If we are unable to
successfully compete against our competitors, our business, results of
operations and financial condition will suffer.

    We believe that the important competitive factors in our markets are the
following:

    -   Performance;

    -   Price;

    -   The time that is required to develop a new product or enhancements to
        existing products;

    -   The ability to achieve product acceptance with major network and storage
        equipment vendors;

    -   The support that exists for new network and storage standards;

    -   Features and functionality;

    -   Adaptability of products to specific applications;

    -   Reliability; and

    -   Technical service and support as well as effective intellectual property
        protection.

    If we are unable to successfully develop and market products that compete
with those of other suppliers, our business, financial condition and results of
operations could be harmed. In addition, we must compete for the services of
qualified distributors and sales representatives. To the extent that our
competitors offer distributors or sales representatives more favorable terms,
these distributors and sales representatives may decline to carry, or
discontinue carrying, our products. Our business, financial condition and
results of operations could be harmed by any failure to maintain and expand our
distribution network.

OUR BUSINESS DEPENDS UPON THE GROWTH OF THE NETWORK EQUIPMENT AND STORAGE
EQUIPMENT MARKETS.

    Our success is largely dependent upon continued growth in the market for
network security equipment, such as routers, remote access concentrators,
switches, broadband access equipment, security gateways, firewalls and network
interface cards. In addition, our success depends upon storage equipment vendors
incorporating our packet processors into their systems. The network security
equipment market has in the past, and may in the future, fluctuate significantly
based upon numerous factors, including the lack of industry standards, adoption
of alternative

                                       15
<PAGE>
technologies, capital spending levels and general economic conditions. We are
unable to determine the rate or extent to which these markets will grow, if at
all. Any decrease in the growth of the network or storage equipment market or a
decline in demand for our products could harm our business, financial condition
and results of operations.

OUR SUCCESS DEPENDS UPON PROTECTING OUR INTELLECTUAL PROPERTY.

    Our proprietary technology is critical to our future success. We rely in
part on patent, trade, trademark, maskwork and copyright law to protect our
intellectual property. We own 12 United States patents and four foreign patents.
We also have 2 pending patent applications in Japan. Our issued patents and
patent applications primarily cover various aspects of our compression
technology and have expiration dates ranging from 2006 to 2013. In addition to
compression, we have six pending patent applications in the United States, four
in Europe and Asia (Japan) covering our flow classification technology. There
are 2 pending patent applications in the United States covering our bandwidth
management and rate shaping technology. Patents may not be issued under our
current or future patent applications, and the patents issued under such patent
applications could be invalidated, circumvented or challenged. In addition,
third parties could make infringement claims against us in the future. Such
infringement claims could result in costly litigation. We may not prevail in any
such litigation or be able to license any valid and infringed patents from third
parties on commercially reasonable terms, if at all. Regardless of the outcome,
an infringement claim would likely result in substantial cost and diversion of
our resources. Any infringement claim or other litigation against us or by us
could harm our business, financial condition and results of operations. The
patents issued to us may not be adequate to protect our proprietary rights, to
deter misappropriation or to prevent an unauthorized third party from copying
our technology, designing around the patents we own or otherwise obtaining and
using our products, designs or other information. In addition, others could
develop technologies that are similar or superior to our technology.

    We also claim copyright protection for certain proprietary software and
documentation. We attempt to protect our trade secrets and other proprietary
information through agreements with our customers, employees and consultants,
and through other security measures. However, our efforts may not be successful.
Furthermore, the laws of certain countries in which our products are or may be
manufactured or sold may not protect our products and intellectual property.

THE LENGTH OF TIME IT TAKES TO DEVELOP OUR PRODUCTS AND MAKE A SALE TO OUR
CUSTOMERS MAY IMPAIR OUR OPERATING RESULTS.

    Our customers typically take a long time to evaluate our products. In fact,
it usually takes our customers 3 to 6 months or more to test our products with
an additional 9 to 18 months or more before they commence significant production
of equipment incorporating our products. As a result of this lengthy sales
cycle, we may experience a delay between increasing expenses for research and
development and sales and marketing efforts on the one hand, and the generation
of higher revenues, if any, on the other hand. In addition, the delays inherent
in such a lengthy sales cycle raise additional risks of customer decisions to
cancel or change product plans, which could result in the loss of anticipated
sales. Our business, financial condition and results of operations could suffer
if customers reduce or delay orders or choose not to release products using our
technology.

WE DEPEND UPON INDEPENDENT MANUFACTURERS AND LIMITED SOURCES OF SUPPLY.

    We rely on subcontractors to manufacture, assemble and test our packet
processors. We currently subcontract our semiconductor manufacturing to Atmel
Corporation, Toshiba Corporation and Motorola, Inc. Since we depend upon
independent manufacturers, we do not directly control product delivery schedules
or product quality. None of our products are manufactured by more than one
supplier. Since the semiconductor industry is highly cyclical, foundry capacity
has been very limited at times in the past and may become limited in the future.

    We depend on our suppliers to deliver sufficient quantities of finished
product to us in a timely manner. Since we place orders on a purchase order
basis and do not have long-term volume purchase agreements with any of our
suppliers, our suppliers may allocate production capacity to other products
while reducing deliveries to us on short notice. For example, in June 1995, one
of our suppliers delayed the delivery of one of our products. As a result, we
switched production of the product to a new manufacturer. This caused a 3-month
delay in shipments to customers.

                                       16
<PAGE>
We also experienced yield and test anomalies on a different product manufactured
by another subcontractor that could have interrupted our customer shipments. In
this case, the manufacturer was able to correct the problem in a timely manner
and customer shipments were not affected. The delay and expense associated with
qualifying a new supplier or foundry and commencing volume production can result
in lost revenue, reduced operating margins and possible harm to customer
relationships. The steps required for a new manufacturer to begin production of
a semiconductor product include:

    -   Adapting our product design, if necessary, to the new manufacturer's
        process;

    -   Creating a new mask set to manufacture the product;

    -   Having the new manufacturer prepare sample products so we can verify the
        product specification; and

    -   Providing sample products to customers for qualification.

    In general, it takes from 3 to 6 months for a new manufacturer to begin
full-scale production of one of our products. We could have similar or more
protracted problems in the future with existing or new suppliers.

    Both Toshiba Corporation and Motorola, Inc. manufacture products for us in
plants located in Asia. To date, the financial and stock market dislocations
that have occurred in the Asian financial markets in the past have not harmed
our business. However, present or future dislocations or other international
business risks, such as currency exchange fluctuations or recessions, could
force us to seek new suppliers. We must place orders approximately 20 to 23
weeks in advance of expected delivery. This limits our ability to react to
fluctuations in demand for our products, and could cause us to have an excess or
a shortage of inventory of a particular product. In addition, if global
semiconductor manufacturing capacity fails to increase in line with demand,
foundries could allocate available capacity to larger customers or customers
with long-term supply contracts. If we cannot obtain adequate foundry capacity
at acceptable prices, or our supply is interrupted or delayed, our product
revenues could decrease or our cost of revenues could increase. This could harm
our business, financial condition and results of operations.

    We regularly consider using smaller semiconductor dimensions for each of our
products in order to reduce costs. We have begun to decrease the dimensions in
our new product designs, and believe that we must do so to remain competitive.
We may have difficulty decreasing the dimensions of our products. In the future,
we may change our supply arrangements to assume more product manufacturing
responsibilities. We may subcontract for wafer manufacturing, assembly and test
rather than purchase finished products. However, there are additional risks
associated with manufacturing, including variances in production yields, the
ability to obtain adequate test and assembly capacity at reasonable cost and
other general risks associated with the manufacture of semiconductors. We may
also enter into volume purchase agreements that would require us to commit to
minimum levels of purchases and which may require up-front investments. If we
fail to effectively assume greater manufacturing responsibilities or manage
volume purchase arrangements, our business, financial condition and results of
operations will suffer.

NETWORK AND STORAGE EQUIPMENT PRICES TYPICALLY DECREASE.

    Average selling prices in the networking, storage and semiconductor
industries have rapidly declined due to many factors, including:

    -   Rapidly changing technologies;

    -   Price-performance enhancements; and

    -   Product obsolescence.

    The decline in the average selling prices of our products may cause
substantial fluctuations in our operating results. We anticipate that the
average selling prices of our products will decrease in the future due to
product introductions by our competitors, price pressures from significant
customers and other factors. Therefore, we must continue to develop and
introduce new products that incorporate features which we can sell at higher
prices. If we

                                       17
<PAGE>
fail to do so, our revenues and gross margins could decline, which would harm
our business, financial condition and results of operations.

WE FACE PRODUCT RETURN, PRODUCT LIABILITY AND PRODUCT DEFECT RISKS.

    Complex products such as ours frequently contain errors, defects and bugs
when first introduced or as new versions are released. We have discovered such
errors, defects and bugs in the past. Delivery of products with production
defects or reliability, quality or compatibility problems could hinder market
acceptance of our products. This could damage our reputation and harm our
ability to attract and retain customers. Errors, defects or bugs could also
cause interruptions, delays or a cessation of sales to our customers. We would
have to expend significant capital and resources to remedy these problems.
Errors, defects or bugs could be discovered in our new products after we begin
commercial production of them, despite testing by us and our suppliers and
customers. This could result in additional development costs, loss of, or delays
in, market acceptance, diversion of technical and other resources from our other
development efforts, claims by our customers or others against us or the loss of
credibility with our current and prospective customers. Any such event would
harm our business, financial condition and results of operations.

WE FACE ORDER AND SHIPMENT UNCERTAINTIES.

    We generally make our sales under individual purchase orders that may be
canceled or deferred by customers on short notice without significant penalty,
if any. Cancellation or deferral of product orders could cause us to hold excess
inventory, which could harm our profit margins and restrict our ability to fund
our operations. We recognize revenue upon shipment of products to our customers,
net of an allowance for estimated returns. An unanticipated level of returns
could harm our business, financial condition and results of operations.

BUSINESS INTERRUPTIONS COULD ADVERSELY AFFECT OUR BUSINESS.

    Our operations are vulnerable to interruption by fire, earthquake, power
loss, telecommunications failure, acts of terrorism and other events beyond our
control. Our facilities and the facilities of our subcontractors in the State of
California have in the past and may again in the future be subject to electrical
black outs as a consequence of a shortage of available electrical power. In the
event these blackouts resume or increase in severity, they could disrupt the
operation of our facilities and the affected facilities of our subcontractors
and such disruptions could have an adverse effect on our results of operations.

WE DEPEND UPON KEY PERSONNEL.

    Our success greatly depends on the continued contributions of our key
management and other personnel, many of whom would be difficult to replace. We
do not have employment contracts with any of our key personnel, nor do we
maintain any key man life insurance on any of our personnel. Several members of
our management team have joined us in the last 12 months. It may be difficult
for us to integrate new members of our management team. We must also attract and
retain experienced and highly skilled engineering, sales and marketing and
managerial personnel. Competition for such personnel is intense in the
geographic areas and market segments in which we compete, and we may not be
successful in hiring and retaining such people. If we lose the services of any
key personnel, or cannot attract or retain qualified personnel, particularly
engineers, our business, financial condition and results of operations could
suffer. In addition, companies in technology industries whose employees accept
positions with competitors have in the past claimed that their competitors have
engaged in unfair competition or hiring practices. We could receive such claims
in the future as we seek to hire qualified personnel. These claims could result
in material litigation. We could incur substantial costs in defending against
any such claims, regardless of their merits.

OUR RAPID GROWTH MAY STRAIN OUR OPERATIONS.

    We have experienced a period of rapid growth and expansion which has placed,
and continues to place, a significant strain on our resources. To accommodate
this growth, in fiscal 2000, we implemented a variety of new and upgraded
operational and financial systems, procedures and controls, including the
improvement of the retained

                                       18
<PAGE>
accounting and other internal management systems which were provided by Stac.
This required and may continue to require substantial management effort, and our
efforts to do so may not continue to be successful. In addition, we have had to
hire additional employees to accommodate this growth and our product development
activities. This has resulted in increased responsibilities for our management.
Our systems, procedures and controls may not be adequate to support our
operations. If we fail to improve our operational, financial and management
information systems, or to hire, train, motivate or manage our employees, our
business, financial condition and results of operations could suffer.

OUR PRODUCTS ARE SUBJECT TO EXPORT RESTRICTIONS.

    The encryption algorithms embedded in our products are a key element of our
packet processor architecture. These products are subject to U.S. Department of
Commerce export control restrictions. Our network equipment customers may only
export products incorporating encryption technology if they obtain a one-time
technical review. These U.S. export laws also prohibit the export of encryption
products to a number of countries deemed by the U.S. to be hostile. Many foreign
countries also restrict exports to many of these countries deemed to be
"terrorist-supporting" states by the U.S. government. Because the restrictions
on exports of encryption products have been liberalized, we, along with our
network equipment customers have an opportunity to effectively compete with our
foreign competitors. The existence of these restrictions until recently may have
enabled foreign competitors facing less stringent controls on their products to
become more established and, therefore, more competitive in the global market
than our network equipment customers. In addition, the list of products and
countries for which export approval is required, and the regulatory policies
with respect thereto, could be revised, and laws limiting the domestic use of
encryption could be enacted. While the U.S. government now allows U.S. companies
to assume that exports to non-government end-users will be approved within 30
days of official registration with the Department of Commerce, the sale of our
packet processors could be harmed by the failure of our network equipment
customers to obtain the required approvals or by the costs of compliance.

WE FACE RISKS ASSOCIATED WITH OUR INTERNATIONAL BUSINESS ACTIVITIES.

    We sell most of our products to customers in the United States. If our
international sales increase, particularly in light of decreased export
restrictions, we may encounter risks inherent in international operations. All
of our international sales to date are denominated in U.S. dollars. As a result,
if the value of the U.S. dollar increases relative to foreign currencies, our
products could become less competitive in international markets. We also obtain
some of our manufacturing, assembly and test services from suppliers located
outside the United States. International business activities could be limited or
disrupted by any of the following:

    -   The imposition of governmental controls;

    -   Export license/technical review requirements;

    -   Restrictions on the export of technology;

    -   Currency exchange fluctuations;

    -   Political instability;

    -   Financial and stock market dislocations;

    -   Military and related activities;

    -   Trade restrictions; and

    -   Changes in tariffs.

                                       19
<PAGE>

    Demand for our products also could be harmed by seasonality of international
sales and economic conditions in our primary overseas markets. These
international factors could harm future sales of our products to international
customers and our business, financial condition and results of operations in
general.

WE FACE RISKS ASSOCIATED WITH ACQUISITIONS.

    We continually evaluate strategic acquisitions of businesses and
technologies that would complement our product offerings or enhance our market
coverage or technological capabilities. While we are not currently negotiating
any acquisitions, we may make additional acquisitions in the future. Future
acquisitions could be effected without stockholder approval, and could cause us
to dilute shareholder equity, incur debt and contingent liabilities and amortize
acquisition expenses related to goodwill and other intangible assets, any of
which could harm our operating results and/or the price of our Common Stock.
Acquisitions entail numerous risks, including:

    -   Difficulties in assimilating acquired operations, technologies and
        products, in particular, if we fail to successfully integrate the
        acquisition of Apptitude, the anticipated benefits of this transaction
        will not occur;

    -   Diversion of management's attention from other business concerns;

    -   Risks of entering markets in which we have little or no prior
        experience; and

    -   Loss of key employees of acquired organizations.

    We may not be able to successfully integrate businesses, products,
technologies or personnel that we acquire. If we fail to do so, our business,
financial condition and results of operations could suffer.

THE CYCLICALITY OF THE SEMICONDUCTOR INDUSTRY MAY HARM OUR BUSINESS.

    The semiconductor industry has experienced significant downturns and wide
fluctuations in supply and demand. The industry has also experienced significant
fluctuations in anticipation of changes in general economic conditions. This has
caused significant variances in product demand, production capacity and rapid
erosion of average selling prices. Industry-wide fluctuations in the future
could harm our business, financial condition and results of operations.

OUR STOCK PRICE MAY BE VOLATILE.

    The market price of our Common Stock has fluctuated in the past and is
likely to fluctuate in the future. In addition, the securities markets have
experienced significant price and volume fluctuations and the market prices of
the securities of technology-related companies including networking, storage and
semiconductor companies have been especially volatile. Such fluctuations can
result from:

    -   Quarterly variations in operating results;

    -   Announcements of new products by us or our competitors;

    -   The gain or loss of significant customers;

    -   Changes in analysts' estimates;

    -   Short-selling of our Common Stock; and

    -   Events affecting other companies that investors deem to be comparable to
        us.

                                       20
<PAGE>

WE ARE CURRENTLY ENGAGED IN SEVERAL SECURITIES CLASS-ACTION LAWSUITS.

    In October and November 1999, six purported class action complaints were
filed in the United States District Court for the Northern District of
California against Hifn and certain of its officers and directors. These
complaints were consolidated into In re Hi/fn Sec. Litig., No. 99-04531 SI. The
consolidated complaint was filed on behalf of a class of purchasers of Hifn's
stock during the period July 26, 1999 through October 7, 1999 (the "class
period"). The complaint seeks unspecified money damages and alleges that Hifn
and certain of its officers and directors violated federal securities laws in
connection with various public statements made by Hifn and certain of its
officers and directors during the class period. In August 2000, the Court
dismissed the complaint as to all defendants, other than Raymond J. Farnham and
Hifn. Mr. Farnham and Hifn answered the complaint in September 2000. Discovery
has commenced. A trial date has been tentatively scheduled for January 2003. We
believe that the allegations contained in the complaint are without merit and
intend to defend the action vigorously. Due to the nature of the allegations,
management cannot estimate the possible loss, if any, or range of loss that may
ultimately be incurred in connection with the allegations. However, based on the
facts currently known, management does not believe that these matters will have
a material adverse effect on our financial position.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

    Interest Rate Risk - The Company does not use derivative financial
instruments in its investment portfolio. The Company's investment portfolio is
generally comprised of commercial paper. The Company places investments in
instruments that meet high credit quality standards. These securities are
subject to interest rate risk, and could decline in value if interest rates
fluctuate. Due to the short duration and conservative nature of the Company's
investment portfolio, the Company does not expect any material loss with respect
to its investment portfolio. A 10% move in interest rates at December 31, 2001
would not have a material effect on the Company's pre-tax earnings and the
carrying value of its investments over the next fiscal year.

    Foreign Currency Exchange Rate Risk - All of the Company's sales, cost of
manufacturing and marketing are transacted in US dollars. Accordingly, the
Company's results of operations are not subject to foreign exchange rate
fluctuations. Gains and losses from such fluctuations have not been incurred by
the Company to date.


                                       21
<PAGE>
PART II - OTHER INFORMATION


ITEM 1.     LEGAL PROCEEDINGS

               In October and November 1999, six purported class action
            complaints were filed in the United States District Court for the
            Northern District of California against Hifn and certain of its
            officers and directors. These complaints were consolidated into In
            re Hi/fn Sec. Litig., No. 99-04531 SI. The consolidated complaint
            was filed on behalf of a class of purchasers of Hifn's stock during
            the period July 26, 1999 through October 7, 1999 (the "class
            period"). The complaint seeks unspecified money damages and alleges
            that Hifn and certain of its officers and directors violated federal
            securities laws in connection with various public statements made by
            Hifn and certain of its officers and directors during the class
            period. In August 2000, the Court dismissed the complaint as to all
            defendants, other than Raymond J. Farnham and Hifn. Mr. Farnham and
            Hifn answered the complaint in September 2000. Discovery has
            commenced. A trial date has been tentatively scheduled for January
            2003. We believe that the allegations contained in the complaint are
            without merit and intend to defend the action vigorously. Due to the
            nature of the allegations, management cannot estimate the possible
            loss, if any, or range of loss that may ultimately be incurred in
            connection with the allegations. However, based on the facts
            currently known, management does not believe that these matters will
            have a material adverse effect on our financial position.

ITEM 2.     CHANGES IN SECURITIES

               On December 28, 2001, Hifn issued 150,000 shares of unregistered
            common stock in partial consideration of a license granted to Hifn
            by a technology licensor. Hifn relied upon Section 4(2) of the
            Securities Act of 1933, as amended, for the basis of exemption from
            registration under securities laws.

ITEM 3.     DEFAULTS UPON SENIOR SECURITIES

            None.

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

            None.

ITEM 5.     OTHER INFORMATION

            None.

ITEM 6.     EXHIBITS AND REPORTS ON FORM 8-K

            (a)  Exhibits

                 None.

            (b)  Reports on Form 8-K

                 None.

                                       22
<PAGE>

                                 SIGNATURES

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

                                             hi/fn, inc.
                                             (Registrant)

Date: February 11, 2002                      By: /s/  WILLIAM R. WALKER
                                                 ----------------------------
                                             William R. Walker
                                             Vice President, Finance, Chief
                                             Financial Officer and Secretary
                                             (principal financial and
                                             accounting officer)



                                       23