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UNITED STATES


SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549





---




FORM 10-Q





(Mark One)





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





For the Quarterly Period Ended March 31, 2002 or





 ̈ 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 000-31109








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ValiCert, Inc.


(Exact name of registrant as specified
in this charter)





Delaware

94-3297861(State or other jurisdiction of incorporation or
organization)

(I.R.S. Employer Identification No.)





1215 Terra Bella Avenue


Mountain View, CA 94043


(Address of principal executive offices, including zip code)





(650) 567-5400


(Registrants Telephone Number, including Area Code)





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  þ    No  ̈





Indicate the number of shares outstanding of each issuers classes of common stock, as of the latest practicable date.





Class

Outstanding at April 30, 2002Common Stock, $0.001 par value

25,504,508 shares





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##### Table of Contents

VALICERT, INC.





TABLE OF CONTENTS





PagePART I.    FINANCIAL INFORMATIONItem 1.

Financial Statements

3Condensed Consolidated Balance Sheets as of March 31, 2002 and December 31, 2001

3Condensed Consolidated Statements of Operations and Comprehensive Loss for the three months ended March 31, 2002 and 2001

4Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 2002 and 2001

5Notes to Condensed Consolidated Financial Statements

6Item 2.

Managements Discussion and Analysis of Financial Condition and Results of Operations

10Item 3.

Quantitative and Qualitative Disclosures About Market Risk

26PART II.    OTHER INFORMATIONItem 1.

Legal Proceedings

27Item 2.

Changes in Securities and Use of Proceeds

27Item 3.

Defaults upon Senior Securities

27Item 4.

Submission of Matters to Vote of Security Holders

27Item 5.

Other Information

27Item 6.

Exhibits and Reports on Form 8-K

27




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##### Table of Contents

PART I





ITEM 1.    FINANCIAL STATEMENTS





VALICERT, INC. AND SUBSIDIARIES





CONDENSED CONSOLIDATED BALANCE SHEETS


(Unaudited)


(In thousands)





March 31, 2002


December 31, 2001ASSETSCurrent assets:Cash, cash equivalents and short-term investments

$
16,949


$
23,717Accounts receivable, net


3,604



3,441Prepaid expenses and other current assets


1,087



1,214Total current assets


21,640



28,372Property and equipment, net


2,599



4,508Goodwill, net


7,352



7,352Intangible assets, net


602



755Other assets


818



945Total assets

$
33,011


$
41,932LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Accounts payable and accrued liabilities

$
8,231


$
6,623Deferred revenue


3,731



3,782Current portion of long-term debt


1,608



1,546Total current liabilities


13,570



11,951Long-term debt


1,142



1,547Total liabilities


14,712



13,498Commitments and contingencies (Note 7)Stockholders equity:Common stock and additional paid-in capital


108,032



108,193Deferred stock compensation


(2,970
)


(3,732
)Notes receivable from stockholders


(1,512
)


(1,523
)Accumulated other comprehensive income


21



73Accumulated deficit


(85,272
)


(74,577
)Total stockholders equity


18,299



28,434Total liabilities and stockholders equity

$
33,011


$
41,932





See accompanying notes to these condensed consolidated financial statements.




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VALICERT, INC. AND SUBSIDIARIES





CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS


(In thousands, except per share amounts)


(Unaudited)





Three Months Ended March 31,2002


2001Revenue:Software license

$
1,140


$
3,375Subscription fees and other services


2,193



1,694Total revenues


3,333



5,069Cost of revenues:Software license


253



265Subscription fees and other services


1,275



2,288Total cost of revenues


1,528



2,553Gross profit


1,805



2,516Operating expenses:Research and development


2,338



3,563Sales and marketing


3,415



5,637General and administrative


1,256



1,296Amortization of goodwill and intangible assets


153



786Amortization of stock compensation*


429



571Restructuring and impairment charges


4,736



Total operating expenses


12,327



11,853Operating loss


(10,522
)


(9,337
)Interest and other income (expense), net


(174
)


142Net loss


(10,696
)


(9,195
)Other comprehensive income:Unrealized loss on short-term investments


(53
)


Comprehensive loss

$
(10,749
)

$
(9,195
)Basic and diluted net loss per share

$
(0.43
)

$
(0.42
)Shares used in computation of basic and diluted net loss per share


25,098



21,770*  Amortization of stock compensation:Cost of subscription fees and other services

$
38


$
59Research and development


91



141Sales and marketing


92



160General and administrative


208



211Total

$
429


$
571





See accompanying notes to these condensed consolidated financial statements.




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VALICERT, INC. AND SUBSIDIARIES





CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS


(In thousands)


(Unaudited)





Three Months Ended March 31,2002


2001Cash flows from operating activities:Net loss

$
(10,696
)

$
(9,195
)Adjustments to reconcile net loss to net cash used in operating activities:Depreciation and amortization


375



621Amortization of deferred stock compensation


429



571Amortization of goodwill and intangible assets


153



786Issuance of common stock options for services






14Interest on stockholder notes


(16
)


(27
)Amortization of warrants issued in connection with debt financing


25



Non-cash restructuring and impairment charges


1,258



Impairment of software


147



Changes in assets and liabilities:Accounts receivable


(163
)


(1,143
)Prepaid expenses and other current assets


102



(43
)Other assets


(74
)


(64
)Accounts payable and accrued liabilities


2,197



37Deferred revenue


(51
)


688Other liabilities


17



Net cash used in operating activities


(6,297
)


(7,755
)Cash flows from investing activities:Purchase of property and equipment


(105
)


(970
)Net cash used in investing activities


(105
)


(970
)Cash flows from financing activities:Net proceeds from issuance and repurchase of common stock, net


19



427Collection of notes receivable from stockholders


27



16Repayment of borrowings


(360
)


(336
)Net cash provided by (used in) financing activities


(314
)


107Net decrease in cash and equivalents


(6,716
)


(8,618
)Cash and cash equivalentsbeginning of period


14,747



37,523Cash and cash equivalentsend of period

$
8,031


$
28,905Supplemental disclosure of cash flow informationcash paid during the period for interest

$
105


$
125





See accompanying notes to these condensed consolidated financial statements.




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##### Table of Contents

VALICERT, INC. AND SUBSIDIARIES





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


(Unaudited)





Note 1.    Basis of Presentation





The accompanying unaudited interim
condensed consolidated financial statements of ValiCert, Inc. and its subsidiaries (the Company) reflect all adjustments which, in the opinion of management, are necessary for a fair presentation of the results of the interim periods
presented in conformity with accounting principals generally accepted in the United States of America (GAAP) for the interim financial information. Such adjustments are of a normal recurring nature. Intercompany balances and transactions
have been eliminated in consolidation.





The statements have been prepared in accordance with the regulations of the Securities
and Exchange Commission. Accordingly, they do not include all information and footnotes required by GAAP. The results of operations for the three month period ended March 31, 2002 are not necessarily indicative of the operating results to be
expected for the full fiscal year or future operating periods. The information included in this report should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Companys Annual Report on
Form 10-K for the year ended December 31, 2001 filed with the Securities and Exchange Commission on April 1, 2002.





Note
2.    Equity Line of Credit





In June of 2001, the Company entered into a common stock purchase agreement
(equity line) with an investor for up to $50.0 million in equity financing over a 36-month period. Use of the equity line is subject to a number of terms and conditions. Related to the equity line, the Company granted the investor and a
third party warrants to buy 200,000 shares of common stock at an exercise price of $2.92 per share. The warrants expire three years from the issuance date and had a fair market value of $282,000, which will be offset against the proceeds of any
future drawdowns under this agreement. The fair value of the warrants was determined by using the Black-Scholes model with the following assumptions: expected life of 10 years; risk-free interest of 6.06%; volatility of 100%; and no dividends during
the expected term.





Note 3.    Segment Information





The Company operates in one operating and reportable segment: the development and marketing of internet cryptographic software products. The Companys chief operating decision maker
is its Chief Executive Officer.





Note 4.    Common Stock and Net Loss Per Share





Basic net income per share is computed by dividing income available to common stockholders by the weighted-average common shares outstanding for the
period. Diluted net income per share reflects the weighted-average common shares outstanding plus the potential effect of dilutive securities or contracts which are convertible to common shares such as options, warrants, convertible debt and
preferred stock (using the treasury stock method) and shares issuable in future periods, except in cases where the effect would be anti-dilutive.




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##### Table of Contents



VALICERT, INC. AND SUBSIDIARIES





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS(Continued)


(Unaudited)







The following is a reconciliation of the numerators and denominators used in
computing basic and diluted net loss per share (in thousands):








Three Months Ended March 31,2002


2001Net loss (numerator), basic and diluted

$
(10,696
)

$
(9,195
)Shares (denominator):Weighted average common shares outstanding


25,419



22,790Weighted average common shares subject to repurchase and held in escrow


(321
)


(1,020
)Weighted average common shares subject to repurchase and held in escrow


25,098



21,770Net loss per share, basic and diluted

$
(0.43
)

$
(0.42
)





At March 31, 2002 and 2001, options to purchase 3,713,924 and 4,278,127 shares of
common stock, respectively, and warrants to purchase 1,244,396 and 653,387 shares of common stock, respectively, were excluded from the calculation of dilutive net loss per share, as their inclusion would be antidilutive.





Note 5.    Recent Accounting Pronouncements





In June 2001, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 141, Business Combinations, and SFAS No. 142, Goodwill and
Intangible Assets. SFAS No. 141 requires that all business combinations initiated after June 30, 2001 must be accounted for under the purchase method and addresses the initial recognition and measurement of goodwill and other intangible assets
acquired in a business combination. SFAS No. 142 addresses the initial recognition and measurement of intangible assets acquired outside of a business combination and the accounting for goodwill and other intangible assets subsequent to their
acquisition.








SFAS No. 142 provides that intangible assets with indefinite useful lives
will not be amortized, but will be tested at least annually for impairment. The Company adopted SFAS No. 141 and 142 on January 1, 2002. Since adopting SFAS No. 142, the Company no longer amortizes goodwill and acquired workforce with a net carrying
value of $7.5 million at January 1, 2002, resulting in a reduction in annual amortization expense of $2.5 million that resulted from business combinations completed prior to the adoption of SFAS No. 141. We will perform and report the results of the
required transitional impairment tests in our second quarter.








Three Months Ended March 31,2002


2001Net loss:As reported

$
(10,696
)

$
(9,195
)add: goodwill amortization, net of taxes






597add: acquired workforce amortization, net of taxes






36As adjusted

$
(10,696
)

$
(8,562
)Basic and diluted net loss per share:As reported

$
(0.43
)

$
(0.42
)As adjusted

$
(0.43
)

$
(0.39
)







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VALICERT, INC. AND SUBSIDIARIES





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS(Continued)


(Unaudited)




In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, which
addresses financial accounting and reporting for the impairment or disposal of long-lived assets. While SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, it
retains many of the fundamental provisions of SFAS No. 121. SFAS No. 144 also supersedes the accounting and reporting provisions of APB No. 30, Reporting the Results of OperationsReporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for the disposal of a segment of a business. However, it retains the requirement in APB No. 30 to report separately discontinued operations and extends that reporting
to a component of an entity that either has been disposed of (by sale, abandonment, or in a distribution to owners) or is classified as held for sale. The Company adopted SFAS 144 on January 1, 2002. The adoption of this statement did not have a
material impact on the Companys financial position or results of operations.





Note 6.    Restructuring Charges





In January 2002, the Company completed a reduction in workforce, which resulted in the termination of 47 employees, or
approximately 24% of the Companys workforce. The affected employees included full-time regular employees across all departments. Employee separation expenses were primarily comprised of severance pay. All of the affected employees were
terminated as of March 31, 2002, and the Company paid approximately $250,000 in separation benefits. The employee separation expenses were classified as salaries and other personnel-related costs and allocated to the appropriate functional
department. There are no remaining cash payments related to these actions.





During the three months ended March 31, 2002, the Company recorded restructuring and impairment charges of approximately $4.7 million in accordance with EITF 94-3, Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring) , SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, and SAB 100, Restructuring and Impairment
Charges. The Companys recent restructuring initiatives involved strategic decisions to cease providing certain services and consolidate its corporate facilities. Approximately $1.0 million related to equipment charges resulting from
managements decision to exit its application service provider business. The remaining $3.7 million related to consolidation of the Companys corporate facilities and termination of the long-term facility lease contract for the unutilized
Bernardo facility located in Mountain View, California. The facility charge is comprised of $3.2 million for settlement costs and forfeiture expenses associated with the building and abandonment of leasehold improvements, furniture and fixtures,
partially offset by previously recorded deferred rent of approximately $434,000. During the three months ended March 31, 2002, the security deposit of approximately $201,000 was forfeited and $50,000 was paid for consulting fees. At March 31, 2002,
the following remained unpaid: $3.0 million in contract termination costs, $197,000 in legal, consulting and administrative fees and approximately $230,000 for building maintenance and abandonment of fixed assets. We anticipate that the remaining
unpaid charges will be disbursed during the second quarter ending June 30, 2002.





Note 7.    Contingencies





A class action lawsuit was filed on December 3, 2001 in the United States District Court for the Southern District of New
York on behalf of purchasers of ValiCert common stock alleging violations of federal securities laws. Lachance v. ValiCert, Inc. et al., No. 01-CV-10889 (SAS) (S.D.N.Y.), related to In re Initial Public Offerings Securities Litigation, No. 21 MC 92
(SAS). The case is brought purportedly on behalf of all persons who purchased the Companys common stock from July 27, 2000 through December 6, 2000. The complaint names as defendants the Company, its Chief Executive Officer and Chief Financial
Officer, members of the Board of Directors, and an investment banking firm that served as an underwriter for the Companys initial public offering in July 2000.





The complaint alleges that the prospectus incorporated in the registration statement for the offering failed to disclose, among other things, that (i) the underwriter had solicited and
received excessive and undisclosed commissions from certain investors in exchange for which the underwriter allocated to those investors material portions of the shares of the Companys stock sold in the initial public offering, and (ii) the
underwriter had entered into agreements with customers whereby the underwriter agreed to allocate shares of the Companys stock sold in the initial public offering to those customers in exchange for which the customers agreed to purchase
additional shares of the Companys stock in the aftermarket at pre-determined prices. No specific damages are claimed. The Company believes that the allegations are without merit and intends to contest them vigorously. Because




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VALICERT, INC. AND SUBSIDIARIES





NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS(Continued)


(Unaudited)




management believes that it is not possible at the current time to estimate the amount of the probable loss, if any, that might result from this
matter, no provision for this matter has been made in the Companys consolidated financial statements.





In addition, the
Company is occasionally involved in other legal proceedings arising in the normal course of its business. Failure to prevail could have a material adverse effect on our financial position, results of operation and cash flows in the future.





Note 8.    Subsequent Events





In April 2002, the Company completed an additional reduction in force, resulting in the termination of 34 employees. These actions will result in additional restructuring charges during the second quarter ending June
30, 2002.




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





This report contains forward-looking statements within the meaning of the U.S. federal securities laws that involve risks and uncertainties. The statements contained in this report that are not purely historical,
including, without limitation, statements regarding our expectations, beliefs, intentions or strategies regarding the future, are forward-looking statements. In this report, the words anticipates, believe, expect,
intend, may, will, should, plan, estimate, predict, potential, future, continue, or similar expressions also identify
forward-looking statements. These statements are only predictions. We make these forward-looking statements based upon information available on the date hereof, and we have no obligation (and expressly disclaim any such obligation) to update or
alter any such forward-looking statements, whether as a result of new information, future events, or otherwise. Our actual results could differ materially from those anticipated in this report as a result of certain factors including, but not
limited to, those set forth in this section entitled Managements Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in this report, including Factors that may Impact Future Results.





Business





We are a
leading provider of solutions for conducting secure and paperless business transactions over the Internet. Our customers use our products and services to help transfer costly, or inefficient business processes to the Internet, while maintaining
trust and security in the process. From 1996 through 1998, we primarily focused our activities on conducting research and development, raising capital, recruiting personnel, and establishing distribution channels for our software products.





We started commercial shipments of our validation authority software products during the first quarter of 1999. We also offer
secure data transfer products and digital receipt products and services, which we obtained from our acquisition of Receipt.com in December 1999. We completed an initial public offering of common stock in July 2000.





We sell our products and services to enterprise end users who use them to conduct business within their organization and with their trading partners.
Our contracts with enterprise end users for our validation authority and digital receipt products include a renewable subscription fee that entitles them to validate or notarize a stated number of transactions during a specified period and receive
maintenance and support services. These customers are required to renew their subscription to continue using our products and services after expiration of the initial period. Enterprise end users who purchase our secure data transfer products enter
into perpetual license arrangements for an up front fee and contract for annual maintenance and support. We also sell our products and services to service provider customers who use them to implement their branded validation and digital receipt
products and services. Our contracts with these customers specify a combination of an initial software license fee, a renewable subscription fee providing rights similar to those received by corporate end users, and optional maintenance and support
fees.





We expect that a smaller portion of our revenues will be derived from renewable subscription fees in the future due to a
greater focus on perpetual software licenses and consulting services.





Revenue Recognition Policy





We derive our revenues from software license fees, subscription fees, consulting services, and maintenance and support. Software license revenues are
comprised of upfront fees for the use of our software products. We recognize revenue from license fees when:





| |  |  | an agreement has been signed,
| | - |  | -----------------------------




| |  |  | the product has been delivered,
| | - |  | -------------------------------




| |  |  | vendor-specific objective evidence of fair value exists to allocate a portion of the total fee to any undelivered elements of the arrangement,
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | the fee is fixed or determinable, and
| | - |  | -------------------------------------




| |  |  | collectability is probable.
| | - |  | ---------------------------




When we
deliver our software products electronically, we consider the sale complete when we provide the customer with the access codes for immediate possession of the software. When contracts contain multiple product and service elements, we account for the
revenue related to these elements using the residual method as current accounting standards require. We recognize




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revenues when the fees are fixed and determinable. On occasion, we have in the past, and may in the future, offer extended payment terms beyond our normal
business practice. Because we do not have sufficient experience collecting under these extended payment term arrangements, fees under such arrangements are not considered fixed or determinable. For those arrangements that include fees that are not
be fixed or determinable at the time of shipment, we recognize revenue when the fee becomes due. If we do not consider collectability probable, we recognize revenue when the fee is collected.





If maintenance and support or consulting services are included in a license agreement, amounts related to these services are allocated based on vendor-specific objective evidence.
We recognize future subscription fees ratably over the related service period. Customer contracts that require delivery of unspecified additional software products in the future are accounted for as subscriptions, and we recognize this revenue
ratably over the term of the arrangement beginning with the delivery of the first product. We recognize consulting revenue as these services are provided to the customer. We recognize revenue from maintenance and support arrangements on a
straight-line basis over the life of the agreement, which is typically one year.








Critical Accounting Policies





We have identified the policies below as critical to our business operations and the understanding of our results of
operations. The impact and any associated risks related to these policies on our business operations is discussed throughout Managements Discussion and Analysis of Financial Condition and Results of Operations where such policies affect our
reported and expected financial results. Note that our preparation of the Condensed Consolidated Financial Statements required us to make estimates and assumptions that affect the reported amount of assets and liabilities, disclosure of contingent
assets and liabilities at the date of our financial statements, and the reported amount of revenue and expenses during the reported period. There can be no assurance that actual results will not differ from these estimates.





Valuation of long-lived assets.    Our long-lived assets include goodwill and other intangible assets. At March 31, 2002, we
had $8.0 million of goodwill and other intangible assets, accounting for 24.1% of our total assets. In assessing the recoverability of our goodwill and other intangibles, we must make assumptions regarding estimated future cash flows and other
factors to determine the fair value of the respective assets. If these estimates or their related assumptions change in the future, we may be required to record impairment charges for these assets not previously recorded. On January 1, 2002, we
adopted Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets, and will be required to analyze our goodwill for impairment issues during the first six months of fiscal 2002, and then on a periodic basis
thereafter.No impairment charges related to goodwill have been taken as of March 31, 2002.





Revenue
recognition.    Our consulting business derives a significant portion of its revenue from fixed-price, fixed-time contracts, which require the accurate estimation of the cost, scope and duration of each engagement. If we do
not accurately estimate the resources required or the scope of work to be performed, or do not manage our projects properly within the planned periods of time or satisfy our obligations under the contracts, then future consulting margins may be
significantly and negatively affected or we may need to recognize losses on existing contracts. Any such resulting reductions in margins or the recognition of contract losses could materially adversely affect our consolidated results of operations.





Although the terms of our software licenses provide for a free warranty period, we do not record a provision for estimated
warranty costs, as such costs have historically been immaterial. If the historical data we use to calculate these estimates does not properly reflect future returns, or, if we experience significant, unexpected warranty costs with respect to a new
product or a new version of an existing product, our future margins could be negatively affected.




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Results of Operations





The
following table sets forth, as a percentage of revenues, certain consolidated statement of operations data for the periods indicated.





Three MonthsEnded March 31,2002


2001Revenue:Software licenses

34.2
%

66.6
%Subscription fees and other services

65.8
%

33.4
%Total revenues

100.0
%

100.0
%Cost of revenue:Software licenses

7.6
%

5.2
%Subscription fees and other services

38.3
%

45.1
%Total cost of revenues

45.8
%

50.4
%Gross profit

54.2
%

49.6
%Operating expenses:Research and development

70.1
%

70.3
%Sales and marketing

102.5
%

111.2
%General and administrative

37.7
%

25.6
%Amortization of goodwill and intangible assets

4.6
%

15.5
%Amortization of stock compensation

12.9
%

11.3
%Restructuring and impairment charges

142.1
%

Total operating expenses

369.8
%

233.8
%Operating loss

(315.7
)%

(184.2
)%Other income (expense)

(5.2
)%

2.8
%Net loss

(320.9
)%

(181.4
)%





Three Months Ended March 31, 2002 and 2001





Net Loss





Our net loss increased to $10.7 million for the three months ended March 31, 2002 from $9.2 million for the three months ended March 31, 2001. The increase was due to a decrease in revenues and an increase in
operating expenses, primarily due to restructuring and impairment charges of $4.7 million incurred during the three months ended March 31, 2002. We have incurred cumulative losses of $85.3 million as of March 31, 2002.





Revenues





Total
revenues decreased to $3.3 million for the three months ended March 31, 2002 from $5.1 million for the three months ended March 31, 2001. We believe the decrease in revenues was primarily due to delayed Information Technology spending and a slowdown
in Public Key Infrastructure spending. Delayed spending by our international customers impacted us, and we also experienced a slowdown in license revenue from new affiliates, which remain cautious about making the significant up-front investment
needed to enter this business. We believe that many orders were delayed, rather than cancelled, and are optimistic that revenues will increase as the economy improves and historical spending priorities return.





Software license revenues accounted for 34.2% of our total revenues for the three months ended March 31, 2002 compared to 66.6% for the three months
ended March 31, 2001. Subscription fees and other service revenues accounted for 65.8% of our total revenues for quarter ended March 31, 2002 compared to 33.4% for the quarter ended March 31, 2001. The increase in subscription fees and other service
revenues as a percentage of total revenues was primarily due to a decrease in software license revenues and a slight increase in maintenance and support renewals.





The fragility of the current economic environment both in the United States and globally provides us with limited insight into visibility regarding future revenues. As a result, we
estimate that revenues for the second quarter ending June 30, 2002 will be at a level comparable with revenue for the first quarter ended March 31, 2002. In addition, we estimate revenues for the fiscal year ending December 31, 2002 to be
approximately $15 million  $16 million. If economic conditions worsen, wide acceptance of electronic commerce may be adversely affected. As a consequence, the market for our products and services may fail to develop and grow and we
may be unable to achieve our financial targets.




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##### Table of Contents

Cost of Revenues





Cost of software license revenues.    Cost of software license revenues was $253,000 for the three months ended March 31, 2002 compared to $265,000 for the three months ended March 31, 2001.
These costs, as a percentage of total revenue, were 7.6% for the quarter ended March 31, 2002 and 5.2% for the quarter ended March 31, 2001. The slight increase in cost of software revenues as a percentage of total revenues from the first quarter of
2002 compared to 2001was primarily due to the fact that we took a charge of approximately $147,000 during the quarter for licensed software deemed obsolete, partially offset by our reduced utilization of royalty-bearing technology we licensed from
third parties.





Cost of subscription fees and other service revenues.    Cost of subscription fees
and other services relate to operating our secure data center and providing consulting and support services. These costs include salaries and other personnel-related costs, depreciation, telecommunications and other costs of operating and
maintaining our secure data center. Our cost of subscription fees and other services revenues decreased to $1.3 million for the three months ended March 31, 2002 from $2.3 million for the three months ended March 31, 2001. The decrease of $1.0
million from the quarter ended March 31, 2001 as compared to 2002 was primarily due the fact that in January of 2002, we completed a reduction in workforce, which resulted in the termination of approximately 75% of the secure data center workforce,
and the actions taken to close the customer data center.





As a percentage of total revenue, cost of subscription fees and other
services revenues was 38.3% for the three months ended March 31, 2002 as compared to 45.1% for the three months ended March 31, 2001. This decrease can be attributed to growth in maintenance and support and subscriptions fee revenues that exceeded
the respective cost from the three months ended March 31, 2001 to 2002.





We expect that the cost of subscription fees and other
service revenue will continue to decrease throughout 2002, primarily due to the closure of our secure data center in the first quarter of 2002 and additional reduction of the workforce during the second quarter ending June 30, 2002.





Operating Expenses





Research and development.    Research and development expenses consist of salaries and other personnel-related costs, third-party consulting services, and the cost of facilities and computer
equipment. Research and development expenses decreased to $2.3 million for the three months ended March 31, 2002 from $3.6 million for the three months ended March 31, 2001, a decrease of 34.4%. Of this decrease, $209,000 related to the decrease in
use of third-party consultants and contractors, $151,000 related to facilities costs and $802,000 related to salaries and other personnel-related costs due to a decrease in average headcount in the quarter ended March 31, 2002, as compared to 2001.
Research and development expenses as a percentage of total revenues was consistent at 70.1% for the quarter ended March 31, 2002 and 70.3% for the quarter ended March 31, 2001. We expect that research and development expenses will decline in fiscal
2002 due to workforce reductions in the first and second quarters. However, we do not expect this reduction in expenses to substantially inhibit the development of new products or the enhancement of existing products.





Sales and marketing.    Sales and marketing expenses consist of salaries and other personnel-related costs, sales
commissions, tradeshows, marketing programs, travel, facilities and computer equipment. Sales and marketing expenses decreased to $3.4 million for the three months ended March 31, 2002 from $5.6 million for the three months ended March 31, 2001, a
decrease of 39.4%. Of this decrease, caused primarily by an decrease in the sales and marketing headcount in the first and third quarter of 2001 and the first quarter of 2002, $1.2 million related to salaries and other personnel related costs,
$515,000 related to tradeshows and marketing programs and $323,000 related to a decrease in use of third-party consultants and contractors. We experienced a 34.2% decrease in revenues from 2001 to 2002, which resulted in a significant decrease in
commission expense for the quarter ended March 31, 2002, reflected in the salaries and other personnel related costs. Sales and marketing costs as a percentage of total revenues were 102.5% for the three months ended March 31, 2002, compared to
111.2% for the three months ended March 31, 2001. During the first quarter of 2002, we closed international sales offices in Canada, Argentina and Singapore. We expect that sales and marketing expenses will decline in absolute dollars in fiscal 2002
primarily due to reductions in workforce in the second quarters, but will fluctuate as a percentage of total revenue for the foreseeable future.





General and administrative.    General and administrative expenses consist of salaries and other personnel-related costs for our administrative, finance, and human resources employees; legal
and accounting services; and facilities costs. General and administrative expenses was consistent at $1.3 million for the three months ended March 31, 2002 and 2001. General and administrative costs as a percentage of total revenues were 37.7% for
the three months ended March 31, 2002, compared to 25.6% for the three months ended March 31, 2001 because our revenues decreased and the expenses were consistent. We expect that general and administrative expenses will not increase significantly in
absolute dollars, but will fluctuate as a percentage of total revenue for the foreseeable future.




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Amortization of goodwill and intangibles.    Amortization of intangibles, related to the acquisition of
Receipt.com, was $153,000 for the three months ended March 31, 2002 as compared to amortization of goodwill and intangibles of $786,000 for the three months ended March 31, 2001. The decrease in this expense is due to our adoption of Statement of
Financial Accounting Standards (SFAS) No. 142, Goodwill and Intangible Assets on January 1, 2002, we no longer amortize goodwill or certain intangibles. We will be required to analyze our goodwill for impairment issues during the
first six months of fiscal 2002, and then on a periodic basis thereafter.No impairment charges related to goodwill have been taken as of March 31, 2002.





Amortization of stock compensation.    Deferred stock compensation represents the difference between the exercise price of stock options granted and the
estimated fair market value of the underlying common stock on the date of the grant. As of July 2000, we had recorded deferred stock compensation of $3.7 million for stock options we assumed as part of our acquisition of Receipt.com and an
additional $6.0 million related to the grant of other employee stock options (net of $2.0 million reversed due to the cancellation of options of terminated employees). Deferred stock compensation is being amortized over the vesting period of the
underlying options (generally four years) through September 30, 2004, which resulted in an expense of $429,000 for the quarter ended March 31, 2002 and $571,000 for the quarter ended March 31, 2001. We expect amortization of deferred stock
compensation to decrease in 2002 due to the cancellation of additional options as a result of our recent reductions in workforce.





Restructuring and impairment charges.In January 2002, we completed a reduction in workforce, which resulted in the termination of 47 employees, or approximately 24% of our workforce. The affected employees
included full-time regular employees across all departments. Employee separation expenses were primarily comprised of severance pay. All of the affected employees were terminated as of March 31, 2002, and we paid approximately $250,000 in separation
benefits. The employee separation expenses were classified as salaries and other personnel-related costs and allocated to the appropriate functional department. There are no remaining cash payments related to these
actions.





During the three months ended March 31, 2002,
we recorded restructuring and impairment charges of approximately $4.7 million in accordance with EITF 94-3, Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in
a Restructuring) , SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, and SAB 100, Restructuring and Impairment Charges. Our recent restructuring initiatives involved strategic decisions to cease
providing certain services and consolidate its corporate facilities. Approximately $1.0 million related to equipment charges resulting from our decision to exit our application service provider business. The remaining $3.7 million related to
consolidation of our corporate facilities and termination of the long-term facility lease contract for the unutilized Bernardo facility located in Mountain View, California. The facility charge is comprised of $3.2 million for settlement costs and
forfeiture expenses associated with the building and abandonment of leasehold improvements, furniture and fixtures, partially offset by previously recorded deferred rent of approximately $434,000. During the three months ended March 31, 2002, the
security deposit of approximately $201,000 was forfeited and $50,000 was paid in cash for consulting fees. At March 31, 2002, the following remained unpaid: $3.0 million in contract termination costs, $197,000 in legal, consulting and administrative
fees and approximately $230,000 for building maintenance and abandonment of fixed assets. We anticipate that the remaining unpaid charges will be disbursed during the second quarter ending June 30, 2002.





There can be no assurance that our restructuring activities will be sufficient to allow us to generate improved operating results in future periods. It
is possible that additional changes in our business or in our industry may necessitate additional restructuring expenses in the future. The necessity for additional restructuring activities may result in expenses that adversely affect reported
results of operations in the period the restructuring plan is adopted, and require incremental cash payments.





Interest and
other income (expense).    During the quarter ended March 31, 2002, we recorded a net expense, for interest and other income, of $174,000 compared to net income of $142,000 for the quarter ended March 31, 2001, primarily due
to a decrease in our cash and investment balances and lower interest rates earned on our investments coupled with losses on foreign exchange, partially offset by a decrease in interest costs on our equipment loans and leases.





Liquidity and Capital Resources





Funding to date





At March 31, 2002, we had cash and cash equivalents and short-term investments of $16.9 million
compared to $23.7 million at December 31, 2001.





In June 2001, we entered into a $50.0 million common stock equity line with
Rellian Investments Limited, pursuant to which, in the event we draw down on the equity line, we may be required to issue up to 4,520,449 shares of our common stock. In the same transaction, we issued a warrant to Rellian Investments Limited for
100,000 shares of our common stock and a warrant to Pacific Crest Securities, Inc. for 100,000 shares of our common stock. We are able to draw down on the common stock equity line on a monthly basis, subject to certain conditions. The formula used
to calculate the amount available includes a specified percentage of the total trading volume and volume weighted average price of our stock over the sixty (60) calendar days prior to




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the draw, less a 7% discount. For the month ended March 31, 2002, we did not meet the minimum draw amount.





In November 2001, we sold 1,734,144 shares of our common stock and issued warrants exercisable for 361,279 shares of our common stock to certain investors pursuant to a common stock
purchase agreement. We used a portion of the net proceeds to provide working capital and otherwise fund our operations.





In
December 2001, we purchased certain assets of Tradenable, Inc. Pursuant to the terms of the agreement, we issued 728,000 shares of our common stock to Tradenable, Inc.





Uses and sources of cash





Net cash used in operating
activities was $6.3 million for the three months ended March 31, 2002 and $7.8 million for the three months ended March 31, 2001 was primarily used to fund our net losses. Net cash used for operating activities during the quarter ended March 31,
2002 related primarily to a net loss of $10.7 million partially offset by restructuring and impairment charges of $4.7 million and non-cash depreciation and amortization expenses of $957,000 and other changes in working capital. Net cash used for
operating activities during the quarter ended March 31, 2001 related primarily to a net loss of $9.2 million partially offset by non-cash depreciation and amortization expenses of $2.0 million and other changes in working capital





Net cash used in investing activities was $105,000 for the three months ended March 31, 2002 and $970,000 for the three months ended March
31, 2001. Net cash used in investing activities during the quarters ended March 31, 2002 and March 31, 2001 solely related to the purchase of capital equipment expenditures. Capital equipment expenditures primarily related to the purchase of
computer hardware and software, office furniture and equipment, and leasehold improvements. We do not expect to substantially increase our capital expenditures in the foreseeable future, nor do we anticipate incurring any significant new lease
commitments.





Net cash used on financing activities was $314,000 for the three months ended March 31, 2002 and net cash provided
by financing activities was $107,000 for the three months ended March 31, 2001. Net cash used in financing activities for the quarter ended March 31, 2002 related primarily to repayment of borrowings of $360,000 partially offset by issuance of
common stock and collection of notes receivable from stockholders of $48,000. Net cash provided by financing activities for the quarter ended March 31, 2001 related primarily to issuance of common stock of $427,000 partially offset by repayment of
borrowings of $336,000.





We anticipate using available cash to provide working capital and otherwise fund our operations and to
purchase capital equipment and make leasehold improvements.





Future funding requirements





During the first quarter of 2002, we consolidated our corporate facilities and discontinued our secure data center operations. As a result, we reduced
our workforce from 194 to 147 as of March 31, 2002. Accordingly, we do not expect operating expenses to increase significantly over the next several quarters. If we need additional funding, we may be able to draw upon our equity line facility, which
we entered into in June 2001. Under this facility we may be able to issue up to $50.0 million of our common stock. However, our ability to draw on this facility is subject to various conditions, including a maximum percentage of total shares of our
common stock that we may issue, a minimum draw amount, a maximum percentage of our total shares that the underwriter may purchase, a maximum share price, and continued registration of the shares. At any given time, we may not be able meet one or
more of these conditions. We anticipate that our operating expenses and planned capital expenditures will constitute the most significant use of our cash resources. We may also utilize cash resources to fund acquisitions of, or investments in,
complementary businesses, technologies and product lines.





We believe that our existing cash, cash equivalents and short-term
investments will be sufficient to meet our working capital needs for at least the next 12 months. After that, we may require additional funds. We may not be able to obtain adequate or favorable financing at that time. Any additional financing may
dilute your ownership interest in ValiCert. New equity securities could have rights senior to those of our common stockholders.





Recent Accounting
Pronouncements





In June 2001, the Financial Accounting Standards Board (FASB) issued Statement of Financial
Accounting Standards (SFAS) No. 141, Business Combinations, and SFAS No. 142, Goodwill and Intangible Assets. SFAS No. 141 requires that all business combinations initiated after June 30, 2001 must be accounted for under
the purchase method and addresses the initial recognition and measurement of goodwill and other intangible assets acquired in a business combination. SFAS No. 142




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addresses the initial recognition and measurement of intangible assets acquired outside of a business combination and the accounting for goodwill and other
intangible assets subsequent to their acquisition.





SFAS No. 142 provides that intangible assets with indefinite useful lives
will not be amortized, but will be tested at least annually for impairment. We adopted SFAS No. 141 and 142 on January 1, 2002. Since adopting SFAS No. 142, we no longer amortize goodwill and acquired workforce with a net carrying value of $7.5
million at January 1, 2002, resulting in a reduction in annual amortization expense of $2.6 million that resulted from business combinations completed prior to the adoption of SFAS No. 141. We have not yet performed the impairment tests required by
the standard.





In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived
Assets, which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. While SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be
Disposed Of, it retains many of the fundamental provisions of SFAS No. 121. SFAS No. 144 also supersedes the accounting and reporting provisions of APB No. 30, Reporting the Results of OperationsReporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions, for the disposal of a segment of a business. However, it retains the requirement in APB No. 30 to report separately discontinued operations and
extends that reporting to a component of an entity that either has been disposed of (by sale, abandonment, or in a distribution to owners) or is classified as held for sale. We adopted SFAS 144 on January 1, 2002. The adoption of this statement did
not have a material impact on our financial position or results of operations.





Factors That May Impact Future Results





Risks Related to Our Business





Because we have a limited
operating history, it is difficult for us to evaluate our prospects.





We introduced our first commercial product in the
first quarter of 1999 and have generated only limited revenues. Because we have a limited operating history with our products and services, and because our sources of potential revenue may continue to shift as our business develops, our future
operating results and our future stock prices are difficult to predict. Our success also depends in part on:





| |  |  | the rate and timing of the growth and use of the Internet for electronic commerce and communications;
| | - |  | -----------------------------------------------------------------------------------------------------




| |  |  | the acceptance of existing security measures as adequate for electronic commerce and communications over the Internet;
| | - |  | ----------------------------------------------------------------------------------------------------------------------




| |  |  | the rate and timing of the growth and use of specific technologies such as public key infrastructure and electronic payments and other Internet security technologies;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | our ability to maintain our current, and enter into additional, strategic relationships; and
| | - |  | --------------------------------------------------------------------------------------------




| |  |  | our ability to effectively manage our growth and to attract and retain skilled professionals.
| | - |  | ---------------------------------------------------------------------------------------------




If any of these risks develop, our business could be seriously harmed.





Our sales cycle
causes unpredictable variations in our operating results which could cause our stock price to decline.





The length of our
sales cycle is uncertain, which makes it difficult to accurately forecast the quarter in which our sales will occur. This may cause our revenues and operating results to vary from quarter-to-quarter. We spend considerable time and expense providing
information to prospective customers about the use and benefits of our products and services without generating corresponding revenue. Our expense levels are relatively fixed and we do not know when particular sales efforts will begin to generate
revenues.





Prospective customers of our products and services often require long testing and approval processes before making a
purchase decision. The process of entering into a licensing arrangement with a potential customer may involve lengthy negotiations. In the past, our sales cycle has ranged from one to nine or more months. Our sales cycle is also subject to delays
because we have little or no control over customer-specific factors, including customers budgetary constraints and internal acceptance procedures. Because our technology must often be integrated with the products and services of other vendors,
there may be a significant delay between the use of our software and services in a pilot system and its commercial deployment by our customers.




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Because the length of our sales cycle is uncertain, we believe that period-to-period comparisons of our results of operations are not
meaningful and should not be relied upon as indicators of future performance. Our failure to meet these expectations would likely cause the market price of our common stock to decline.





Our quarterly results depend on a number of factors, many of which are beyond our control.





Our quarterly results depend on a number of factors, many of which are beyond our control. Our quarterly results may fluctuate in the future as a result of many factors, including the following:





| |  |  | the size, timing, cancellation or delay of customer orders;
| | - |  | -----------------------------------------------------------




| |  |  | the timing of releases of our new software products;
| | - |  | ----------------------------------------------------




| |  |  | the number of transactions conducted using our products and services;
| | - |  | ---------------------------------------------------------------------




| |  |  | the long sales cycles for, and complexity of, our software products and services;
| | - |  | ---------------------------------------------------------------------------------




| |  |  | the timing and execution of large individual contracts;
| | - |  | -------------------------------------------------------




| |  |  | the impact of changes in the pricing models for our software products and services or our competitors products and services; and
| | - |  | ---------------------------------------------------------------------------------------------------------------------------------




| |  |  | the continued development of our direct and indirect distribution channels.
| | - |  | ---------------------------------------------------------------------------




Due to these and other factors, our operating results in some future quarter or quarters may fall below the expectations of securities analysts who might follow our stock.





We have not been profitable, and if we do not achieve profitability, our business may fail.





We have incurred significant net losses. We incurred net losses of $10.7 million during the three months ended March 31, 2002 and $9.2 million during the three months ended March 31,
2001. As of March 31, 2002, we had incurred cumulative losses of $85.3 million. You should not consider recent quarterly revenue growth as indicative of our future performance. We may not sustain similar levels of growth in future periods and our
revenues could decline, and we may not become profitable or significantly increase our revenues. Recovery of the current economic environment in the United States and globally provide us with little insight into the foreseeable future. If economic
conditions worsen, wide acceptance of electronic commerce may be adverse affected. As a consequence, the market for our products and services may fail to develop and grow and we may be unable to achieve our financial targets.





We will need to generate significantly higher revenues in order to achieve profitability. Even if we do achieve profitability, we may not be
able to sustain or increase profitability on a quarterly or annual basis in the future. If our revenues grow more slowly or decline, if our gross margins do not improve, or if our operating expenses exceed our expectations, our operating results
will suffer and our stock price may fall.





If we do not successfully develop new products and services to respond to rapid market changes due to
changing technology and evolving industry standards, our business will be harmed.





Our success will depend to a substantial
degree on our ability to offer products and services that incorporate leading technology and to respond to technological advances. If we fail to offer products and services that incorporate leading technology and respond to technological advances
and emerging standards, we may not generate sufficient revenues to offset our development costs and other expenses, which will hurt our business. The development of new or enhanced products and services is a complex and uncertain process that
requires the accurate anticipation of technological and market trends. We may experience development, marketing and other technological difficulties that may delay or limit our ability to respond to technological changes, evolving industry
standards, competitive developments or customer requirements. You should also be aware that:





| |  |  | our technology or systems may become obsolete upon the introduction of alternative technologies;
| | - |  | ------------------------------------------------------------------------------------------------




| |  |  | we may incur substantial costs if we need to modify our products and services to respond to these alternative technologies;
| | - |  | ---------------------------------------------------------------------------------------------------------------------------




| |  |  | we may not have sufficient resources to develop or acquire new technologies or to introduce new products or services capable of competing with future technologies;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------



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| |  |  | we may be unable to acquire the rights to use the intellectual property necessary to implement new technology; and
| | - |  | ------------------------------------------------------------------------------------------------------------------




| |  |  | when introducing new or enhanced products or services, we may be unable to manage effectively the transition from older products and services.
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------




We rely on, and expect to continue to rely on, a limited number of customers for a significant percentage of our revenues, and if any of these or other significant
customers stops licensing our software products and services, our revenues could decline.





A limited number of customers
have accounted for a significant portion of our revenues. For the three months ended March 31, 2002, no one customer accounted for greater than 10% of the total revenues. For the three months ended March 31, 2001, one customer accounted for 19.7% of
total revenues. We anticipate that our operating results in any given period will continue to depend to a significant extent upon revenues from a small number of customers. We do not have long-term contracts with our customers that obligate them to
license our software products or use our services. We cannot be certain that we will retain our customers or that we will be able to obtain new customers. If we were to lose one or more customers, our revenues could decline.





The length of our sales cycle is uncertain, which may cause our revenues and operating results to vary significantly from quarter to quarter.





Any failure of our sales efforts to generate revenues at the times and in the amounts we anticipate could cause significant variations in our operating
results. During our sales cycle, we spend considerable time and expense providing information to prospective customers about the use and benefits of our products and services without generating corresponding revenue. Our expense levels are
relatively fixed in the short term and there is substantial uncertainty as to when particular sales efforts will begin to generate revenues.





One of our significant business strategies has been to enter into strategic or other similar collaborative alliances to increase the adoption of our products and services. Prospective customers of our products and
services often require long testing and approval processes before making a purchase decision. In general, the process of entering into a licensing arrangement with a potential customer may involve lengthy negotiations. As a result, our sales cycle
has been and may continue to be unpredictable. In the past, our sales cycle has ranged from one to nine or more months. Our sales cycle is also subject to delays as a result of customer-specific factors over which we have little or no control,
including budgetary constraints and internal acceptance procedures. In addition, because our technology must often be integrated with the products and services of other vendors, there may be a significant delay between the use of our software and
services in a pilot system and its commercial deployment by our customers. The length of the sales cycle makes it difficult to accurately forecast the timing and amount of our sales. Thus this may cause our revenues and operating results to vary
significantly from quarter to quarter and could harm our business.





Our international business exposes us to additional risks.





Products and services provided to our international customers accounted for 57.8% of our revenues during the three months ended March 31,
2002 and 74.5% of our revenues during the three months ended March 31, 2001. Conducting business outside of the United States subjects us to additional risks, including:





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




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




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




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




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




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




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




We
must maintain and enter into new strategic alliances, and any failure to do so could harm our business.





One of our
significant business strategies has been to enter into strategic or other similar collaborative alliances in order to reach a larger customer base than we could reach through our direct sales and marketing efforts. We will need to maintain or enter
into additional strategic alliances to execute our business plan. However, if we are unable to maintain our strategic alliances or enter into additional strategic alliances, our business could be materially harmed. We may not be able to enter into
additional




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strategic alliances or maintain our existing strategic alliances. If we do not, we would have to devote substantially more resources to the distribution, sales
and marketing of our security products and services than we would otherwise.





We have entered into technology, marketing and
distribution agreements with several companies. However, we may be unable to leverage the brand and distribution power of these strategic alliances to increase the adoption rate of our technology. We have been establishing strategic alliances to
ensure that third-party solutions are interoperable with our software products and services. To the extent that our products are not interoperable or our strategic allies choose not to integrate our technology into their offerings, this failure
would inhibit the adoption of our software products and outsourced services. Furthermore, as a result of our emphasis on these strategic alliances, our success will depend in part on the ultimate success of other parties to these alliances. Failure
of one or more of our strategic alliances to achieve any of these objectives could materially harm our business.





Our existing
strategic alliances do not, and any future strategic alliances may not, grant us exclusive marketing or distribution rights. In addition, the other parties may not view their alliances with us as significant for their own businesses. Therefore, they
could reduce their commitment to us at any time in the future. These parties could also pursue alternative technologies or develop alternative products and services, either on their own or in collaboration with others, including our competitors.
Should any of these developments occur, our business will be harmed.





Any future acquisitions of companies or technologies may not be successful and
as a result, could harm our business.





We may acquire businesses, technologies, product lines or service offerings which may
need to be integrated with our business in the future. Acquisitions involve a number of risks including, among others:





| |  |  | the difficulty of assimilating the operations and personnel of the acquired businesses;
| | - |  | ---------------------------------------------------------------------------------------




| |  |  | to the extent the acquisitions are financed with our common stock, dilution to our existing stockholders;
| | - |  | ---------------------------------------------------------------------------------------------------------




| |  |  | our inability to integrate, train, retain and motivate key personnel of the acquired business;
| | - |  | ----------------------------------------------------------------------------------------------




| |  |  | the diversion of our management from our day-to-day operations;
| | - |  | ---------------------------------------------------------------




| |  |  | our inability to incorporate acquired technologies successfully into our software products and services;
| | - |  | --------------------------------------------------------------------------------------------------------




| |  |  | the additional expense associated with completing an acquisition and amortizing any acquired intangible assets;
| | - |  | ---------------------------------------------------------------------------------------------------------------




| |  |  | the potential impairment of relationships with our employees, customers and strategic third-parties; and
| | - |  | --------------------------------------------------------------------------------------------------------




| |  |  | the inability to maintain uniform standards, controls, procedures and policies.
| | - |  | -------------------------------------------------------------------------------




If we are unable to successfully address any of these risks, our business could be materially harmed.





Our headquarters are located in Northern California where natural or other disasters may occur that could disrupt our operations and our business.





Our corporate headquarters are located in Silicon Valley in Northern California. Historically, this region has been vulnerable to natural disasters and other risks, such as earthquakes,
fires and floods, which at times have disrupted the local economy and posed physical risks to our and our manufacturers property.





In addition, terrorist acts or acts of war targeted at the United States, and specifically Silicon Valley, could cause damage or disruption to us, our employees, facilities, partners, suppliers, distributors and resellers, and customers
which could have a material adverse effect on our operations and financial results.





We rely on a continuous power supply to conduct our operations,
and a recurrence of Californias energy crisis could disrupt our operations and increase our operating costs.





Our
principal operating facilities are located in California. We rely on a continuous power supply to conduct our operations, and California experienced an energy crisis in 2001. The recurrence of an energy crisis could disrupt our operations and
increase our expenses. In the event of an acute power shortage, that is, when power reserves for California fall below 1.5%, electricity providers have on some occasions implemented, and may in the future continue to implement, rolling blackouts. If
such blackouts interrupt our power supply, we may be temporarily unable to continue operations at our facilities. Any such interruption in our ability to continue operations at our facilities could delay the development of our products and our
manufacturing processes. Continuing power interruption could delay production to the extent it could damage our reputation, harm our ability to retain existing customers and to obtain new customers, and could result in lost revenue, any of which
could substantially harm our




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business and results of operations. To date, we have not experienced any significant or repeated power disruptions that have had a material impact on our
business operations. However, in addition to possible power disruptions, the recurrence of an energy crisis may also cause natural gas and electricity prices to rise significantly, relative to the rest of the United States, and our operating
expenses may increase.





Our success depends on our ability to grow and develop our direct sales and indirect distribution channels.





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





We depend upon certificate status data made available by third parties; if our access to that data is limited or denied, our revenues could decline.





Our business depends upon our continuing access to data for the issuance and revocation of digital certificates by certificate authorities and other third parties, including businesses
and governmental entities. We depend upon our ability to negotiate arrangements with these certificate authorities, some of which are our competitors, and other third parties to make this data available to us. If our access to this data is limited
or denied by one or more certificate authorities or other third parties, our ability to verify and validate digital certificates would be impaired, perhaps severely, which could cause a decline in our revenues and in the value of your investment.





Since we sell through multiple channels and distribution channels, we may have to resolve potential conflicts between these channels.





Since we sell through multiple channels and distribution networks, we may have to resolve potential conflicts between these
channels. For example, these conflicts may result from the different discount levels offered by multiple channel partners to their customers or, potentially, from our direct sales force targeting the same accounts as our indirect channel partners.
Such conflicts may harm our business or reputation.





We are dependent on technologies provided by third parties, and any termination of our right to
use these technologies could increase our costs, delay product development and harm our reputation.





We have developed our
products and services partially based on technology we license on a non-exclusive basis from third parties. Our inability to continue to license these third-party technologies on commercially reasonable terms will harm our business. We expect that,
in the future, we will continue to have to license technologies from third parties. Our inability to continue to license on commercially reasonable terms, one or more of the technologies that we currently use or our failure to obtain the right to
use future technologies could increase our costs and delay or possibly prevent product development. Our existing licensing agreements may be terminated by the other parties to these contracts, or may not be renewed on favorable terms or at all. In
addition, we may not be able to license new technologies on favorable terms, if at all.





If we lose the services of our senior management or key
personnel, our ability to develop our business and secure customer relationships will suffer.





We are substantially
dependent on the continued services and performance of our senior management and other key personnel. We do not maintain key person insurance on any of our executive officers. The loss of the services of any of our executive officers or other key
employees, particularly Joseph (Yosi) Amram, our president and chief executive officer, and Srinivasan (Chini) Krishnan, our founder and chairman, could significantly delay or prevent the achievement of our development and strategic objectives.





We may be unable to retain qualified personnel, which could harm our business and product development.





We also must continue to train, retain, and motivate highly skilled technical, managerial, sales and marketing and professional services personnel. Due
to the workforce reductions that we completed in the second quarter of 2001 and the first quarter of 2002, the moral of our remaining employees may decrease, and we may be unable to retain them. In addition, if our stock price decreases
substantially, it may be more difficult to retain employees who consider stock options an important part of their compensation package. If we encounter difficulties retaining software engineering personnel at a critical stage of product development,
our relationship with existing and future customers could be harmed. The failure to retain necessary technical, managerial, sales, marketing and professional services personnel could harm our business and our ability to obtain new customers and
develop new products.




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Our business will suffer if we are unable to protect our intellectual property.





We rely upon copyrights, trade secrets, know-how, patents, continuing technological innovations and licensing opportunities to maintain and further
develop our market position. We rely on outside licensors for patent and software license rights in encryption technology that is incorporated into and is necessary for the operation of our products and services. Our success will depend in part on
our continued ability to have access to technologies that are or may become important to the functionality of our products and services. Any inability to continue to procure or use this technology could be materially adverse to our operations.





Our success will also depend in part on our ability to protect our intellectual property rights from infringement,
misappropriation, duplication and discovery by third parties. We cannot assure you that others will not independently develop substantially equivalent proprietary technology or gain access to our trade secrets or disclose our technology or that we
can meaningfully protect our trade secrets. Attempts by others to utilize our intellectual property rights could undermine our ability to retain or secure customers. In addition, the laws of some foreign countries do not protect proprietary rights
to the same extent as do the laws of the United States. Our attempts to enforce our intellectual property rights could be time consuming and costly.





We cannot assure you that our pending or future patent applications will be granted or that any patents that are issued will be enforceable or valid. Additionally, the coverage claimed in a patent application can be
significantly reduced before the patent is issued. We cannot be certain that we were the first inventor of inventions covered by our issued patent or pending patent applications or that we are the first to file patent applications for such
inventions. Moreover, we may have to participate in interference proceedings before the United States Patent and Trademark Office to determine priority of invention, which could result in substantial cost to us. An adverse outcome could subject us
to significant liabilities to third parties, require disputed rights to be licensed from or to third parties or require us to cease using the technology in dispute.





Any claim of infringement by third parties could be costly to defend, and if we are found to be infringing upon the intellectual property rights of third parties, we may be required to pay substantial licensing
fees.





We may increasingly become subject to claims of intellectual property infringement by third parties as the number of
our competitors grows and the functionality of their products and services increasingly overlaps with ours. Because we are in a new and evolving field, customers may demand features which will subject us to a greater likelihood of claims of
infringement.





We are aware of pending and issued United States and foreign patent rights owned by third parties that relate to
cryptography technology. Third parties may assert that we infringe their intellectual property rights based upon issued patents, trade secrets or know-how that they believe cover our technology. In addition, future patents may issue to third parties
which we may infringe. It may be time consuming and costly to defend ourselves against any of these claims and we cannot assure you that we would prevail.





Furthermore, parties making such claims may be able to obtain injunctive or other equitable relief that could block our ability to further develop or commercialize some or all of our products in the United States and
abroad. In the event of a claim of infringement, we may be required to obtain one or more licenses from or pay royalties to third parties. We cannot assure you that we will be able to obtain any such licenses at a reasonable cost, if at all. Defense
of any lawsuit or failure to obtain such license could hurt our business.





Defects in our software products and services could diminish demand for our
products and services, which may harm our business.





Because our products and services are complex and may contain errors or
defects that are not found until after they are used by our customers, any undiscovered errors or defects could seriously harm our reputation and our ability to generate sales to new or existing customers.





Our software products and services are complex and are generally used in systems with other vendors products. They can be adequately tested only
when they are successfully integrated with these systems. Errors may be found in new products or releases after shipment and our products and services may not operate as expected. Errors or defects in our products and services could result in:





| |  |  | loss of revenues and increased service and warranty costs;
| | - |  | ----------------------------------------------------------




| |  |  | delay in market acceptance;
| | - |  | ---------------------------




| |  |  | loss of salaries; and
| | - |  | ---------------------




| |  |  | injury to our reputation.
| | - |  | -------------------------



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If we are unable to raise additional capital when needed, we may be unable to develop or enhance our products and
services.





We may need to seek additional funding in the future. If we cannot raise funds on acceptable terms, we may be
unable to develop or enhance our products and services, take advantage of future opportunities or respond to competitive pressures or unanticipated requirements. We may also be required to reduce operating costs through lay-offs or reduce our sales
and marketing or research and development efforts. If we issue equity securities, stockholders may experience additional dilution or the new equity securities may have rights, preferences or privileges senior to those of our common stock.





Failure to increase our brand awareness could limit our ability to compete effectively.





If the marketplace does not associate us with high-quality, end-to-end secure infrastructure software products and services, it may be difficult for us to keep our existing
customers, attract new customers or successfully introduce new products and services. Competitive and other pressures may require us to increase our expenses to promote our brand name, and the benefits associated with brand creation may not outweigh
the risks and costs associated with establishing our brand name. Our failure to develop a strong brand name or the incurrence of excessive costs associated with establishing our brand name may harm our business.





We rely on public key cryptography and other security techniques that could be breached, resulting in reduced demand for our products and services.





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





If we are not able to continue to include our public root keys within software
applications, our customers may not use our services.





If we are not able to continue to include our public root keys within
software applications, including Microsoft Windows 2000, the Microsoft Internet Explorer browser and the Netscape browser, customers might perceive our software products as too cumbersome to use and our business may be harmed. Our public root keys
are used by applications to insure that digitally signed objects which are generated by our Enterprise VA and Digital Receipt Solutions are trustworthy and have not been tampered with or corrupted. The term of our root key agreement with Netscape
ends in November 2002 and we cannot assure you that this agreement will be renewed. In addition, our root key agreement with Microsoft may not be extended to cover subsequent releases of Microsoft Windows 2000 or the Microsoft Internet Explorer
browser.





The covenants and restrictions in our existing and future debt facilities could have a negative effect on our business.





The covenants and restrictions in our existing and future debt instruments could have a negative effect on our business, including impairing
our ability to obtain additional financing and reducing our operational flexibility and ability to respond to changing business and economic conditions.





In addition, any failure to comply with the restrictions and covenants in our $2.5 million line of credit agreement or any other credit facility would generally result in a default under the facility, permitting the
lenders to declare all debt outstanding under that facility to be immediately due and payable. Further, a default under any debt facility could, under cross-default provisions, result in defaults under other debt instruments, entitling other lenders
to declare all debt outstanding under those other facilities to be immediately due and payable. If any declaration of acceleration were to occur, we might be unable to make those required payments or to raise sufficient funds from other sources to
make those payments. In addition, we have pledged substantially all of our assets to secure our credit facilities. If a default occurs with respect to secured indebtedness, the holders of that indebtedness would be entitled to foreclose on their
collateral, which would harm our business.





We could incur substantial costs resulting from product liability claims relating to our customers
use of our products and services.





Any disruption to a customers website or application caused by our products or
services could result in a claim for substantial damages against us, regardless of our responsibility for the failure. Our existing insurance coverage may not continue to be available on reasonable terms or in amounts sufficient to cover one or more
large claims. Our insurer may also disclaim coverage as to any claims, which could result in substantial costs to us.




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We have been named as a defendant in a stockholder class action lawsuit that is now pending and which arose out of our public offering of securities in 2000.
If we do not prevail in this lawsuit, our business may suffer.





A class action lawsuit was filed on December 3, 2001 in the
United States District Court for the Southern District of New York on behalf of purchasers of ValiCert common stock alleging violations of federal securities laws. Lachance v. ValiCert, Inc. et al., No. 01-CV-10889 (SAS) (S.D.N.Y.), related to In re
Initial Public Offerings Securities Litigation, No. 21 MC 92 (SAS). The case is brought purportedly on behalf of all persons who purchased our common stock from July 27, 2000 through December 6, 2000. The complaint names as defendants the Company;
Joseph (Yosi) Amram, President, Chief Executive Officer, and member of the Board of Directors; Timothy Conley, Vice President, Finance and Chief Financial Officer; and an investment banking firm that served as an underwriter for the our initial
public offering in July 2000.





The complaint alleges violations of Section 11 and 15 of the Securities Act of 1933 against all
defendants, and Section 10(b) of the Securities Exchange Act of 1934 against the underwriter, on the grounds that the prospectus incorporated in the registration statement for the offering failed to disclose, among other things, that (i) the
underwriter had solicited and received excessive and undisclosed commissions from certain investors in exchange for which the underwriter allocated to those investors material portions of the shares of our stock sold in the initial public offering,
and (ii) the underwriter had entered into agreements with customers whereby the underwriter agreed to allocate shares of our stock sold in the initial public offering to those customers in exchange for which the customers agreed to purchase
additional shares of our stock in the aftermarket at pre-determined prices. No specific damages are claimed. We believe that the allegations are without merit and we intend to contest them vigorously. We cannot assure you, however, that we will
prevail in this lawsuit. Failure to prevail could have a material adverse effect on our financial position, results of operations and cash flows in the future.





In addition, we may become subject to other types of litigation in the future. Litigation is often expensive and diverts managements attention and resources, which could materially and adversely affect our
business.





Additional government regulation relating to the Internet may increase our costs of doing business.





We are subject to regulations applicable to businesses generally and laws or regulations directly applicable to companies utilizing the Internet.
Although there are currently few laws and regulations directly applicable to the Internet, it is possible that a number of laws and regulations may be adopted with respect to the Internet. These laws could cover issues like user privacy, pricing,
content, intellectual property, distribution, antitrust, legal liability and characteristics and quality of products and services. The adoption of any additional laws or regulations could decrease the demand for our products and services and
increase our cost of doing business, or otherwise could harm our business or prospects.





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





Our reported results may be adversely affected by changes in accounting principles generally accepted in the United States of America.





We prepare our financial statements in conformity with accounting principles generally accepted in the United States of America (GAAP). GAAP
is subject to interpretation by the American Institute of Certified Public Accountants, the Securities and Exchange Commission and various bodies formed to interpret and create appropriate accounting policies. A change in these policies or
interpretations could have a significant effect on our reported results, and may even affect the reporting of transactions completed prior to the announcement of a change.





Risks Related to Our Industry





The markets for secure online transaction products and
services generally, and our products and services specifically, are new and may not develop, which would harm our business.





The market for our products and services is new and evolving rapidly. If the market for our products and services fails to develop and grow, or if our products and services do not gain broad market acceptance, our business and prospects
will be harmed. In particular, our success will depend upon the adoption and use by current and potential customers and their end-users of secure online transaction products and services. Our success will also depend upon acceptance of our
technology as the standard for providing these products and services. The adoption and use of our products and services will involve changes in the manner in which businesses have traditionally completed transactions. We cannot predict whether our
products and services will achieve any market acceptance. Our ability to achieve our goals also depends upon rapid market acceptance of future




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enhancements of our products. Any enhancement that is not favorably received by customers and end-users may not be
profitable and, furthermore, could damage our reputation or brand name.





The intense competition in our industry could reduce our market share or
eliminate the demand for our software products and services, which could harm our business.





Competition in the security
infrastructure market is intense. If we are unable to compete effectively, our ability to increase our market share and revenue will be harmed. We compete with companies that provide individual products and services that are similar to certain
aspects of our software products and services. Certificate authority software vendors and vendors of other security products and services could enter the market and provide end-to-end solutions which might be more comprehensive than our solutions.
Many of our competitors have longer operating histories, greater name recognition, larger installed customer bases and significantly greater financial, technical and marketing resources. 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 the promotion and sale of their products. We anticipate that the market for security products and services that enable valid, secure and provable
electronic commerce and communications over the Internet will remain intensely competitive. We expect that competition will increase in the near term and increased competition could result in pricing pressures, reduced margins or the failure of our
Internet-based security products and services to achieve or maintain market acceptance, any of which could materially harm our business.





In addition, current and potential competitors have established or may in the future establish collaborative relationships among themselves or with
third parties, including third parties with whom we have strategic alliances, to increase the ability of their products to address the security needs of our prospective customers. Accordingly, it is possible that new competitors or alliances may
emerge and rapidly acquire significant market share. If this were to occur, our business could be materially affected.





Our business depends on the
wide adoption of the Internet for conducting electronic commerce.





In order for us to be successful, the Internet must be
widely adopted as a medium for conducting electronic commerce. Because electronic commerce over the Internet is new and evolving, it is difficult to predict the size of this market and its sustainable growth rate. To date, many businesses and
consumers have been deterred from utilizing the Internet for a number of reasons, including but not limited to:





| |  |  | potentially inadequate development of network infrastructure;
| | - |  | -------------------------------------------------------------




| |  |  | security concerns including the potential for merchant or user impersonation and fraud or theft of stored data and information communicated over the Internet;
| | - |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------




| |  |  | inconsistent quality of service;
| | - |  | --------------------------------




| |  |  | lack of availability of cost-effective, high-speed service;
| | - |  | -----------------------------------------------------------




| |  |  | limited numbers of local access points for corporate users;
| | - |  | -----------------------------------------------------------




| |  |  | inability to integrate business applications on the Internet;
| | - |  | -------------------------------------------------------------




| |  |  | the need to operate with multiple and frequently incompatible products; and
| | - |  | ---------------------------------------------------------------------------




| |  |  | a lack of tools to simplify access to and use of the Internet.
| | - |  | --------------------------------------------------------------




The adoption of the Internet will require a broad acceptance of new methods of conducting business and exchanging information. Companies and government agencies that already have invested substantial resources in
other methods of conducting business may be reluctant to adopt new methods. Also, individuals with established patterns of purchasing goods and services and effecting payments may be reluctant to change.





The use of the Internet may not increase or may increase more slowly than we expect because the infrastructure required to support widespread use may
not develop. The Internet may continue to experience significant growth both in the number of users and the level of use. However, the Internet infrastructure may not be able to continue to support the demands placed on it by continued growth.
Continued growth may also affect the Internets performance and reliability. In addition, the growth and reliability of the Internet could be harmed by delays in development or adoption of new standards and protocols to handle increased levels
of activity or by increased governmental regulation. Changes in, or insufficient availability of, communications services to support the Internet could result in poor performance and adversely affect its usage. Any of these factors could materially
harm our business.




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Public key cryptography security, on which our products and services are based, may become obsolete, which would harm
our business.





The technology used to keep private keys confidential depends in part on the application of mathematical
principles and relies on the difficulty of factoring large numbers into their prime number components. Should a simpler factoring method be developed, then the security of encryption products utilizing public key cryptography technology could be
reduced or eliminated. Even if no breakthroughs in factoring or other methods of attacking cryptographic systems are made, factoring problems can theoretically be solved by computer systems significantly faster and more powerful than those presently
available. Any significant advance in techniques for attacking cryptographic systems could render some or all of our existing products and services obsolete or unmarketable.





Security systems based on public key cryptography assign users a public key and a private key, each of which is required to encrypt and decrypt data. The security afforded by this
technology depends on the users key remaining confidential. It is therefore critical that the private key be kept secure.





Our products are
subject to export controls. If we are unable to obtain necessary approvals, our ability to make international sales could be limited.





Exports of software products utilizing encryption technology are generally restricted by the United States and various foreign governments. Cryptographic products typically require export licenses from United States
government agencies. We are currently exporting software products and services with requisite export approval under United States law. However, the list of products and countries for which export approval is required, and the related regulatory
policies, could be revised beyond their current scope, and we may not be able to obtain necessary approval for the export of our products. Our inability to obtain required approvals under these regulations could limit our ability to make
international sales. Furthermore, our competitors may also seek to obtain approvals to export products that could increase the amount of competition we face.





Risks Related to the Stock Market in General





Our stock price may decline due to market and economic factors.





In recent years the stock market in general, and the market for shares of small capitalization and technology stocks in
particular, have experienced extreme price fluctuations, which have often been unrelated to the operating performance of affected companies. There can be no assurance that the market price of our common stock will not experience significant
fluctuations in the future, including fluctuations unrelated to our performance. Such fluctuations could materially adversely affect the market price of our common stock.





Securities we issue to fund our operations could dilute your ownership.





We may decide to
raise additional funds through public or private debt or equity financing to fund our operations. If we raise funds by issuing equity securities, the percentage ownership of current stockholders will be reduced and the new equity securities may have
right prior to those of our common stock. We may not obtain sufficient financing on terms that are favorable to you or us.





Previous in our charter
documents and Delaware law could prevent or delay a change in control, which could reduce the market price of our common stock.





We are controlled by our executive officers, directors and major stockholders, whose interests may conflict with yours. Provisions in our charter documents and Delaware law could prevent or delay a change in control, which could reduce the
market price of our common stock.





In addition, provisions of Delaware law may discourage, delay or prevent someone from
acquiring or merging with us. These provisions could limit the price that investors might be willing to pay in the future for shares of our common stock.




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ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.





We develop
products in the United States and market our products in North America, Europe and Asia/Pacific regions. As a result, our financial results could be affected by changes in foreign currency exchange rates or weak economic conditions in foreign
markets. Because substantially all of our revenues are currently denominated in U.S. dollars, a strengthening of the dollar could make our products less competitive in foreign markets. Our interest income is sensitive to changes in the general level
of U.S. interest rates, particularly since the majority of our investments are in short-term instruments, including money market funds and commercial paper, and long-term investments mature between one and two years. Our interest expense is also
sensitive to changes in the general level of U.S. interest rates because the interest rate charged on a portion of our long-term debt varies with the prime rate. Due to the nature of our investments and borrowings, we believe that we are not subject
to any material exposure to interest rate fluctuations. A hypothetical change in interest rates of 100 basis points would have an immaterial effect on our operating results and cash flows.





As of March 31, 2002, we have not entered into any derivative contracts, either for hedging or trading purposes.




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PART II.    OTHER INFORMATION





ITEM 1.    LEGAL PROCEEDINGS





A class action lawsuit was filed on December 3, 2001
in the United States District Court for the Southern District of New York on behalf of purchasers of our common stock alleging violations of federal securities laws. Lachance v. ValiCert, Inc. et al., No. 01-CV-10889 (SAS) (S.D.N.Y.), related to In
re Initial Public Offering Securities Litigation, No. 21 MC 92 (SAS). The case is brought purportedly on behalf of all persons who purchased our common stock from July 27, 2000 through December 6, 2000. The complaint names as defendants the Company
and two of its officers, and an investment banking firm that served as an underwriter for our initial public offering in July 2000.





The complaint alleges violations of Section 11 and 15 of the Securities Act of 1933 against all defendants and Section 10(b) of the Securities Exchange Act of 1934 against the underwriter on the grounds that the prospectus incorporated in
the registration statement for the offering failed to disclose, among other things, that (i) the underwriter had solicited and received excessive and undisclosed commissions from certain investors in exchange for which the underwriter allocated to
those investors material portions of the shares of our stock sold in the initial public offering, and (ii) the underwriter had entered into agreements with customers whereby the underwriter agreed to allocate shares of our stock sold in the initial
public offering to those customers in exchange for which the customers agreed to purchase additional shares of our stock in the aftermarket at pre-determined prices. No specific damages are claimed.





We are aware that similar allegations have been made in lawsuits relating to more than 300 other initial public offerings conducted in 1999 and 2000.
Management believes that the allegations against us and our officers are without merit and intends to contest them vigorously. However, the litigation is in the preliminary stage, and its outcome cannot be predicted. The litigation process is
inherently uncertain. If the outcome of the litigation is adverse to the Company and if, in addition, we were required to pay significant monetary damages in excess of available insurance, our business would be significantly harmed.





I
TEM 2.    CHANGES IN SECURITIES AND USE OF PROCEEDS





(c)


None.





ITEM 3.    DEFAULTS UPON SENIOR SECURITIES





None.





ITEM 4.    SUBMISSION OF MATTERS TO 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.





Current report on Form 8-K filed with the Securities and Exchange Commission on January 15, 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, thereto duly authorized.





VALICERT, INC.By:

/s/    TIMOTHY CONLEYTimothy Conley Chief Financial Officer





Dated: May 15, 2002




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