<PAGE>

================================================================================

                                 UNITED STATES
                      SECURITIES AND EXCHANGE COMMISSION
                             Washington, DC 20549

                               -----------------

                                   FORM 10-Q

                               -----------------

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

    For the quarterly period ended March 31, 2002

                       Commission file number: 000-25271

                               -----------------

                       COVAD COMMUNICATIONS GROUP, INC.
            (Exact name of registrant as specified in its charter)

                               -----------------

                      Delaware                 77-0461529
                   (State or other          (I.R.S. Employer
                    jurisdiction         Identification Number)
                 of incorporation or
                    organization)

               3420 Central Expressway
               Santa Clara, California
                (Address of principal             95051
                 executive offices)            (Zip Code)

                                (408) 616-6500
             (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 [X]  No [_]

APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE
PRECEDING FIVE YEARS:

   Indicate by check mark whether the registrant has filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court. Yes [X]  No [_]

   As of April 24, 2002 there were 217,845,673 shares outstanding of the
Registrant's Common Stock, including Class B Common Stock.

================================================================================

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

                                   FORM 10-Q

                               TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                                          Page
                                                                          ----
  <C>     <S>                                                             <C>
  PART I.  FINANCIAL INFORMATION
  Item 1. Condensed Consolidated Financial Statements (Unaudited)........  3
          Condensed Consolidated Balance Sheets as of March 31, 2002
            and December 31, 2001........................................  3
          Condensed Consolidated Statements of Operations for the Three
            Months Ended March 31, 2002 and 2001.........................  4
          Condensed Consolidated Statements of Cash Flows for the Three
          Months Ended March 31, 2002 and 2001...........................  5
          Notes to Condensed Consolidated Financial Statements...........  6
  Item 2. Management's Discussion and Analysis of Financial Condition and
            Results of Operations........................................  17
  Item 3. Market Risk....................................................  31

  PART II.  OTHER INFORMATION
  Item 1. Legal Proceedings..............................................  32
  Item 2. Changes in Securities and Use of Proceeds......................  34
  Item 3. Defaults Upon Senior Securities................................  34
  Item 4. Submission of Matters to a Vote of Security Holders............  34
  Item 5. Other Information..............................................  34
  Item 6. Exhibits and Reports on Form 8-K...............................  34

  SIGNATURE..............................................................  35
</TABLE>

<PAGE>

                        PART I.  FINANCIAL INFORMATION

Item 1.  Condensed Consolidated Financial Statements (Unaudited)

                       COVAD COMMUNICATIONS GROUP, INC.

                     CONDENSED CONSOLIDATED BALANCE SHEETS
          (Amounts in thousands, except share and per share amounts)

<TABLE>
<CAPTION>
                                                                                                        March 31,   December 31,
                                                                                                          2002          2001
                                                                                                       -----------  ------------
                                                                                                       (Unaudited)    (Note 1)
                                               ASSETS
                                               ------
<S>                                                                                                    <C>          <C>
Current assets:
  Cash and cash equivalents........................................................................... $   166,652  $   207,810
  Short-term investments..............................................................................      81,020       76,053
  Restricted cash and investments.....................................................................       7,943        9,203
  Accounts receivable, net of allowances of $4,460 at March 31, 2002 ($8,483 at December 31, 2001)....      33,894       23,245
  Unbilled revenue....................................................................................       4,571        4,964
  Other receivables...................................................................................       2,297        3,885
  Inventories.........................................................................................       5,935        7,249
  Prepaid expenses and other current assets...........................................................       7,809        6,689
                                                                                                       -----------  -----------
   Total current assets...............................................................................     310,121      339,098
Property and equipment, net...........................................................................     187,348      215,804
Collocation fees, net.................................................................................      51,465       53,464
Investments in unconsolidated affiliates..............................................................       4,483        4,874
Deferred costs of service activation..................................................................      54,262       57,962
Other long-term assets................................................................................       3,576        3,966
                                                                                                       -----------  -----------
   Total assets....................................................................................... $   611,255  $   675,168
                                                                                                       ===========  ===========
                                LIABILITIES AND STOCKHOLDERS' EQUITY
                                ------------------------------------
Current liabilities:
  Accounts payable.................................................................................... $    15,910  $    15,842
  Accrued compensation................................................................................      13,936       16,268
  Current portion of capital lease obligations........................................................          --           11
  Accrued collocation and network service fees........................................................      37,966       40,839
  Accrued transaction-based taxes.....................................................................      32,590       31,263
  Accrued interest....................................................................................       1,558          183
  Accrued market development funds and customer incentives............................................       1,064          636
  Unresolved claims related to bankruptcy proceedings.................................................      18,277       22,200
  Other accrued liabilities...........................................................................      12,322        9,200
                                                                                                       -----------  -----------
   Total current liabilities..........................................................................     133,623      136,442
Long-term debt........................................................................................      50,000       50,000
Collateralized customer deposit.......................................................................      73,445       75,000
Deferred gain resulting from deconsolidation of subsidiary............................................      55,200       55,200
Unearned revenues.....................................................................................      94,037       98,697
                                                                                                       -----------  -----------
   Total liabilities..................................................................................     406,305      415,339

Commitments and contingencies

Stockholders' equity:
  Preferred stock, $0.001 par value; 5,000,000 shares authorized; no shares issued and outstanding at
   March 31, 2002 and December 31, 2001...............................................................          --           --
  Common Stock, $0.001 par value; 590,000,000 shares authorized; 217,723,788 shares issued and
   outstanding at March 31, 2002 (216,542,210 shares issued and outstanding at December 31, 2001).....         218          216
  Additional paid-in capital..........................................................................   1,608,676    1,606,737
  Deferred stock-based compensation...................................................................        (156)        (257)
  Accumulated other comprehensive loss................................................................      (2,441)      (2,359)
  Accumulated deficit.................................................................................  (1,401,347)  (1,344,508)
                                                                                                       -----------  -----------
   Total stockholders' equity.........................................................................     204,950      259,829
                                                                                                       -----------  -----------
   Total liabilities and stockholders' equity......................................................... $   611,255  $   675,168
                                                                                                       ===========  ===========
</TABLE>
                            See accompanying notes.

                                      3

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

                CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
    (Amounts in thousands, except share and per share amounts) (Unaudited)

<TABLE>
<CAPTION>
                                                                             Three months ended March 31,
                                                                             ---------------------------
                                                                                 2002           2001
                                                                             ------------   ------------
<S>                                                                          <C>            <C>
Revenues, net...............................................................  $   101,666    $    71,245
Operating expenses:
 Network and product costs..................................................       88,761        135,162
 Sales, marketing, general and administrative...............................       38,637         62,827
 Bad debt recoveries, net...................................................          (73)        (4,247)
 Depreciation and amortization of property and equipment....................       30,853         33,809
 Amortization of collocation fees...........................................        3,629          3,601
 Provision for restructuring expenses.......................................           --         14,805
 Litigation-related expenses................................................       (3,767)            --
                                                                             ------------   ------------
   Total operating expenses.................................................      158,040        245,957
                                                                             ------------   ------------
Loss from operations........................................................      (56,374)      (174,712)
Other income (expense):
 Interest income............................................................        1,469         11,147
 Realized gain (loss) on short-term investments.............................          (17)         6,297
 Other than temporary losses on short-term investments......................           --         (1,311)
 Equity in losses of unconsolidated affiliates..............................         (391)        (3,168)
 Gain on disposal of investment in unconsolidated affiliates................          360             --
 Interest expense...........................................................       (1,375)       (36,759)
 Miscellaneous expense, net.................................................         (511)           (29)
                                                                             ------------   ------------
 Other income (expense), net................................................         (465)       (23,823)
                                                                             ------------   ------------
Net loss.................................................................... $    (56,839)  $   (198,535)
                                                                             ============   ============
Basic and diluted net loss per share........................................ $      (0.26)   $     (1.15)
                                                                             ============   ============
Weighted average number of common shares used in computing basic and diluted
  net loss per share........................................................  216,857,650    172,612,338
                                                                             ============   ============
</TABLE>



                            See accompanying notes.

                                      4

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

                CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                      (Amounts in thousands) (Unaudited)

<TABLE>
<CAPTION>
                                                                                  Three months ended
                                                                                      March 31,
                                                                                 -------------------
                                                                                   2002      2001
                                                                                 --------  ---------
<S>                                                                              <C>       <C>
Operating Activities:
  Net loss...................................................................... $(56,839) $(198,535)
  Adjustments to reconcile net loss to net cash used in operating activities:
   Bad debt recoveries, net.....................................................      (73)    (4,247)
   Depreciation and amortization................................................   34,482     37,410
   Loss on disposition of equipment.............................................      574        227
   Provision for restructuring expenses.........................................       --     14,805
   Non-cash litigation-related expenses.........................................   (3,767)        --
   Amortization of deferred stock-based compensation............................       66        471
   Other stock-based compensation...............................................      248          -
   Amortization (accretion) of interest on investments..........................       36     (2,884)
   Realized loss (gain) on short-term investments...............................       17     (6,297)
   Other than temporary losses on short-term investments........................       --      1,311
   Equity in losses of unconsolidated affiliates................................      391      3,168
   Gain on disposal of investment in unconsolidated affiliates..................     (360)        --
   Accretion of debt discount and amortization of deferred debt issuance costs..       --      8,098
   Net changes in operating assets and liabilities:
    Restricted cash.............................................................    1,260         29
    Accounts receivable.........................................................  (10,576)    (1,727)
    Unbilled revenue............................................................      393       (264)
    Inventories.................................................................    1,314      1,981
    Prepaid expenses and other current assets...................................      728    (15,420)
    Deferred costs of service activation........................................    3,700     (5,601)
    Accounts payable............................................................       68    (33,101)
    Unresolved claims related to bankruptcy proceedings.........................     (126)        --
    Collateralized customer deposit.............................................   (1,555)        --
    Other current liabilities...................................................    2,645    (51,778)
    Unearned revenues...........................................................   (4,529)    12,725
                                                                                 --------  ---------
      Net cash used in operating activities.....................................  (31,903)  (239,629)
                                                                                 --------  ---------
Investing Activities:
  Purchases of short-term investments...........................................  (45,104)  (252,447)
  Maturities of short-term investments..........................................       --    233,408
  Sales of short-term investments...............................................   40,000    117,266
  Redemption of restricted investments..........................................       --     13,437
  Purchases of property and equipment...........................................   (3,805)    (9,233)
  Proceeds from sale of property and equipment..................................      123        559
  Payment of collocation fees...................................................     (919)    (1,517)
  Proceeds from sale of investment in unconsolidated affiliates.................      360         --
                                                                                 --------  ---------
      Net cash provided by (used in) investing activities.......................   (9,345)   101,473
                                                                                 --------  ---------
Financing Activities:
  Principal payments on long-term debt..........................................       --     (3,583)
  Principal payments under capital lease obligations............................      (11)      (377)
  Proceeds from common stock issuance...........................................      101      1,804
  Repurchase of restricted stock................................................       --       (172)
                                                                                 --------  ---------
      Net cash provided by (used in) financing activities.......................       90     (2,328)
                                                                                 --------  ---------
  Net decrease in cash and cash equivalents.....................................  (41,158)  (140,484)
  Cash and cash equivalents at beginning of period..............................  207,810    558,440
                                                                                 --------  ---------
  Cash and cash equivalents at end of period.................................... $166,652  $ 417,956
                                                                                 ========  =========
Supplemental Disclosures of Cash Flow Information:
  Cash paid during the period for interest...................................... $     --  $  68,051
                                                                                 ========  =========
</TABLE>

                            See accompanying notes.

                                      5

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

             NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
   (All dollar amounts are presented in thousands, except per share amounts)
                                  (Unaudited)

1.   Basis of Presentation and Summary of Significant Accounting Policies

   The condensed consolidated financial statements include the accounts of
Covad Communications Group, Inc. and its wholly-owned subsidiaries
(collectively, the "Company"). All significant intercompany accounts and
transactions have been eliminated in consolidation.

   The condensed consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States
for interim financial information, the instructions to Form 10-Q and Article 10
of Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States for complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for
a fair presentation of the condensed consolidated financial statements have
been included. Operating results for the three months ended March 31, 2002 are
not necessarily indicative of the results that may be expected for the year
ending December 31, 2002.

   The Company's business plan includes certain discretionary spending in 2002
that is predicated on certain revenue growth assumptions. If necessary,
management will curtail this discretionary spending so that the Company can
continue as a going concern at least through January 1, 2003 using only the
Company's unrestricted cash, cash equivalent and short-term investment balances
in existence as of December 31, 2001. Additionally, based on the advice of the
Company's legal counsel, management believes it is more likely than not that
certain securities litigation described in Note 6 will ultimately be settled in
accordance with the terms of the memorandum of understanding ("MOU") executed
by the Company and the plaintiffs in such securities litigation dated August
10, 2001. Therefore, management does not believe that the ultimate settlement
of this securities litigation will have a material adverse effect on the
Company's ability to continue as a going concern at least through January 1,
2003. However, in the event (i) the MOU is not ultimately approved by the
United States District Court and (ii) the settlement of the aforementioned
securities litigation ultimately requires the Company to disburse additional
cash to the plaintiffs in such litigation, management will reduce other
discretionary spending so that the Company can continue as a going concern at
least through January 1, 2003 using only the Company's unrestricted cash, cash
equivalent and short-term investment balances in existence as of December 31,
2001. Management does not believe the curtailment of the Company's
discretionary spending, if necessary, will have a material adverse effect on
the overall execution of the Company's business plan.

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

   All information included in this report should be read in conjunction with
the Company's 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.

  Use of Estimates

   The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results may differ
materially from these estimates. The Company's critical

                                      6

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

accounting estimates include (i) revenue recognition and the establishment of
accounts receivable allowances, (ii) inventory valuation, (iii) reorganization
and restructuring liabilities, (iv) useful life assignments and impairment
evaluations associated with property and equipment and collocation fees, (v)
anticipated outcomes of legal proceedings and other disputes, (vi)
transaction-based tax liabilities and (vii) valuation allowances associated
with deferred tax assets.

  Long-Lived Assets

   As of December 31, 2001, the Company's estimated annual amortization
expenses associated with collocation fees for the next five years were as
follows:

<TABLE>
                                  <S>  <C>
                                  2002 $13,177
                                  2003 $13,177
                                  2004 $13,177
                                  2005 $13,177
                                  2006 $   756
</TABLE>

   Effective January 1, 2001, the Company reduced the remaining estimated
useful lives of all long-lived assets, excluding building and leasehold
improvements, that previously had estimated useful lives in excess of five
years such that the residual balances and any subsequent additions are now
depreciated or amortized over five years using the straight-line method. This
change in accounting estimate increased the Company's net loss by $3,248 ($0.02
per share) for the three months ended March 31, 2001.

  Basic and Diluted Net Loss Per Share

   Basic net loss per share is computed using the weighted average number of
shares of the Company's common stock, less the weighted average number of
common shares subject to repurchase, outstanding during the period.

   Diluted per share amounts are determined in the same manner as basic per
share amounts, except that the number of weighted average common shares used in
the computations includes dilutive common shares subject to repurchase and is
increased assuming the (i) exercise of dilutive stock options and warrants
using the treasury stock method and (ii) conversion of dilutive convertible
debt instruments. However, diluted net loss per share is the same as basic net
loss per share in the periods presented in the accompanying condensed
consolidated statements of operations because the impact of (i) common shares
subject to repurchase, (ii) the assumed exercise of outstanding stock options
and warrants and (iii) the assumed conversion of convertible debt instruments
is not dilutive.

   The following table presents the calculation of weighted average common
shares used in the computations of basic and diluted net loss per share
presented in the accompanying condensed consolidated statements of operations:

<TABLE>
<CAPTION>
                                                               Three months ended March 31,
                                                               ----------------------------
                                                                    2002          2001
                                                                -----------    -----------
<S>                                                            <C>            <C>
Weighted-average number of shares of common stock outstanding. 216,903,234    173,947,338
Less weighted average number of shares of common stock subject
  to repurchase...............................................      45,584      1,335,000
                                                                -----------    -----------
Weighted average number of common shares used in computing
  basic and diluted net loss per share........................ 216,857,650    172,612,338
                                                                ===========    ===========
</TABLE>

                                      7

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)


  Comprehensive Loss

   Significant components of the Company's comprehensive loss are as follows:

<TABLE>
<CAPTION>
                                                                 Three months ended
                                                                     March 31,
                                                   Cumulative   -------------------
                                                    Amounts       2002      2001
                                                   -----------  --------  ---------
<S>                                                <C>          <C>       <C>
Net loss.......................................... $(1,401,347) $(56,839) $(198,535)
Unrealized losses on available-for-sale securities        (137)      (82)    (2,230)
Foreign currency translation adjustment...........      (2,304)       --       (705)
                                                   -----------  --------  ---------
Comprehensive loss................................ $(1,403,788) $(56,921) $(201,470)
                                                   ===========  ========  =========
</TABLE>

  Recent Accounting Pronouncements

   On January 1, 2001, the Company adopted Statement of Financial Accounting
Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended. SFAS No. 133 standardizes the accounting for
derivatives and hedging activities and requires that all derivatives be
recognized in the statement of financial position as either assets or
liabilities at fair value. Changes in the fair value of derivatives that do not
meet the hedge accounting criteria are required to be reported in operations.
The adoption of SFAS No. 133 had no effect on the Company's condensed
consolidated financial statements.

   On January 1, 2002, the Company adopted SFAS No. 141, "Business
Combinations," and SFAS No. 142, "Goodwill and Other Intangibles Assets." SFAS
No. 141 eliminates the pooling-of-interests method of accounting for business
combinations, except for qualifying business combinations that were initiated
prior to July 1, 2001. Under SFAS No. 142, goodwill and indefinite-lived
intangible assets are no longer amortized, but are reviewed annually, or more
frequently if impairment indicators arise, for impairment. The adoption of SFAS
Nos. 141 and 142 had no effect on the Company condensed consolidated financial
statements.

   In August 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143
requires that the fair value of a liability for an asset retirement obligation
be recognized in the period in which it is incurred if a reasonable estimate of
fair value can be made. The associated asset retirement costs are capitalized
as part of the carrying amount of the long-lived assets. The Company is
required to adopt SFAS No. 143 on January 1, 2003, and it does not believe the
adoption of SFAS No. 143 will have a material effect on its consolidated
financial statements.

   On January 1, 2002, the Company adopted SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," which supersedes SFAS No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to Be Disposed Of," and provides a single accounting model for long-lived
assets to be disposed of. The adoption of SFAS No. 144 had no effect on the
Company's condensed consolidated financial statements.

   On January 1, 2002, the Company adopted the FASB's Emerging Issues Task
Force ("EITF") guidance regarding the provision in EITF Issue 00-25, "Vendor
Income Statement Characterization of Consideration from a Vendor to a
Retailer," dealing with consideration from a vendor to a reseller under
cooperative advertising and other arrangements. This provision of EITF Issue
00-25 states that consideration from a vendor to a reseller of the vendor's
products or services is presumed to be a reduction of the selling price of the
vendor's products or services, unless the vendor (i) receives an identifiable
benefit in return for the consideration and (ii) can reasonably estimate the
fair value of the benefit received. If the amount of consideration paid by the
vendor

                                      8

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

exceeds the estimated fair value of the benefit received, the excess amount is
to be recorded by the vendor as a reduction of revenues. The adoption of this
new guidance did not have a material effect on the Company's condensed
consolidated financial statements.

  Reclassifications

   Certain balances in the Company's 2001 condensed consolidated financial
statements have been reclassified to conform to the presentation in 2002.

2.   Revenue Recognition and Change in Accounting Principle

   Revenues from recurring service are recognized when (i) persuasive evidence
of an arrangement between the Company and the customer exists, (ii) service has
been provided to the customer, (iii) the price to the customer is fixed and
determinable and (iv) collectibility of the sales prices is reasonably assured.
Revenues earned for which the customer has not been billed are recorded as
"Unbilled revenues" in the condensed consolidated balance sheets. Amounts
billed in advance of providing service are deferred and recorded as an element
of the condensed consolidated balance sheet caption "Unearned revenues."
Included in revenues are Federal Universal Service Fund charges billed to
customers aggregating $2,988 and $4,176 for the three months ended March 31,
2002 and 2001, respectively.

   The Company has over 150 wholesale customers. However, for the three months
ended March 31, 2002, the Company's thirty largest wholesale customers
collectively comprised 94.5% of the Company's total wholesale revenues and
82.2% of the Company's total revenues. As of March 31, 2002, receivables from
these customers collectively comprised 73.5% of the Company's gross accounts
receivable balance.

   For the three months ended March 31, 2002, two wholesale customers
(Earthlink, Inc. and XO Communications) individually accounted for 20.6% and
10.7%, respectively, of the Company's total revenues. As of March 31, 2002,
receivables from Earthlink, Inc. comprised 21.3% of the Company's gross
accounts receivable balance. The Company began recognizing revenues from XO
Communications on a cash basis (as described below) during the fourth quarter
of 2001. Therefore, the Company's contractual receivable from XO Communications
of $2,791 as of March 31, 2002 has not been recognized in the accompanying
condensed consolidated balance sheet as of such date.

   For the three months ended March 31, 2001, two customers (Earthlink, Inc.
and XO Communications) individually accounted for 15.6% and 12.0%,
respectively, of the Company's total revenues. As of March 31, 2001,
receivables from these customers comprised 6.0% and 5.3%, respectively, of the
Company's gross accounts receivable balance.

   A number of the Company's Internet service provider ("ISP") and
telecommunications carrier customers are experiencing financial difficulties.
During the three months ended March 31, 2002 and 2001, certain of these
financially distressed customers either (i) were not current in their payments
for the Company's services or (ii) were essentially current in their payments
but, subsequent to the end of the reporting period, the financial condition of
such customers deteriorated significantly and certain of them have filed for
bankruptcy protection. Based on this information, the Company determined that
(i) the collectibility of revenues from these customers was not reasonably
assured or (ii) its ability to retain certain of the payments received from the
customers who have filed for bankruptcy protection was not reasonably assured.
Revenue related to customers that do not demonstrate the ability to pay for
services in a timely manner, but who have not filed for bankruptcy protection,
is recognized when cash for those services is received, after the collection of
all previous outstanding accounts

                                      9

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

receivable balances. Payments received from financially distressed customers
during a defined period prior to their filing of petitions for bankruptcy
protection are recorded in the consolidated balance sheet caption "Unearned
revenues" if the Company's ability to retain these payments is not reasonably
assured. During the three months ended March 31, 2002, as a result of
developments in the bankruptcy proceedings of certain of the Company's
customers, the Company determined that its ability to retain certain payments
received from these bankrupt customers prior to January 1, 2002 was now
reasonably assured. Accordingly, during the three months ended March 31, 2002,
the Company recognized revenues that were deferred as of December 31, 2001
aggregating $3,568.

   A number of the Company's financially distressed customers have filed for
bankruptcy protection. Revenues from these customers accounted for
approximately 7.5% and 4.0% of the Company's total revenues for the three
months ended March 31, 2002 and 2001, respectively. The Company continues to
attempt to migrate end users from certain of these financially distressed
customers to the extent feasible.

   During the three months ended March 31, 2002, the Company issued billings to
its financially distressed customers, including those that have filed for
bankruptcy protection, aggregating $18,774 that were not recognized as revenues
or accounts receivable in the condensed consolidated financial statements, as
compared to the corresponding amounts of $22,328 and $19,476 for the three
months ended December 31, 2001 and March 31, 2001, respectively. However, the
Company ultimately recognized revenues from certain of these financially
distressed customers on a cash basis (as described above) aggregating $20,170
and $4,173 during the three months ended March 31, 2002 and 2001, respectively.
The Company had contractual receivables from its financially distressed
customers, including receivables from customers that have filed for bankruptcy
protection of $12,485, totaling $29,713 as of March 31, 2002 that are not
reflected in the accompanying condensed consolidated balance sheet as of such
date.

   The Company has obtained information indicating that some of its customers
who (i) were essentially current in their payments for the Company's services
prior to March 31, 2002, and (ii) have subsequently paid all or significant
portions of the respective amounts recorded as accounts receivable by the
Company as of March 31, 2002, may become financially distressed. Revenues from
these customers accounted for approximately 17.9% and 8.1% of the Company's
total revenues for the three months ended March 31, 2002, and 2001,
respectively. As of March 31, 2002, receivables from these customers comprised
11.3% of our gross accounts receivable balance. If these customers are unable
to demonstrate their ability to pay for the Company's services in a timely
manner, in periods ending subsequent to March 31, 2002, revenue from these
customers will be recognized on a cash basis (as described above).

   The Company has billing disputes with certain of its customers. These
disputes arise in the ordinary course of business in the telecommunications
industry and their impact on the Company's accounts receivable and revenues can
be reasonably estimated based on historical experience. Accordingly, the
Company maintains an allowance, through charges to revenues (which amounted to
$1,260 and $1,550 during the three months ended March 31, 2002 and 2001,
respectively), based on its estimate of the ultimate resolution of these
disputes.

   During the fourth quarter of 2000, retroactive to January 1, 2000, the
Company changed its method of accounting for up-front fees associated with
service activation and the related incremental direct costs in accordance with
SEC Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in
Financial Statements." Previously, the Company had recognized up-front fees as
revenues upon activation of service. Under the new accounting method, which was
adopted retroactive to January 1, 2000, the Company now recognizes up-front
fees associated with service activation over the expected term of the customer
relationship, which is presently estimated to be 24 months, using the
straight-line method. Also as a result of the adoption of SAB No. 101,
retroactive to January 1, 2000, the Company now treats the incremental direct
costs of service

                                      10

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

activation (which consist principally of customer premise equipment, service
activation fees paid to other telecommunications companies and sales
commissions) as deferred charges in amounts that are no greater than the
up-front fees that are deferred, and such deferred incremental direct costs are
amortized to expense using the straight-line method over 24 months. The
cumulative effect of the change in accounting principle resulted in a charge to
operations of $9,249, which was included in net loss for the year ended
December 31, 2000. For the three months ended March 31, 2001, the Company
recognized $4,264 in revenue that was included it he cumulative effect
adjustment as of January 1, 2000 (none during the three months ended March 31,
2002). The effect of that revenue during the three months ended March 31, 2001
was to decrease net loss by $1,140.

3.  Asset Purchase

   On January 3, 2002, the Company purchased substantially all of the assets of
InternetConnect, a related party, in an auction supervised by the United States
Bankruptcy Court for the Central District of California. The purchase price for
the assets of InternetConnect was $5,470 in cash, $235 of which had been
deposited with InternetConnect's agent prior to December 31, 2001. (Under the
terms of the asset purchase agreement, the Company may be required to pay
additional cash of up to $1,880 for the assets of InternetConnect, depending
upon the outcome of a previous post-petition bankruptcy claim filed against
InternetConnect by the Company.) The Company did not assume any liabilities or
obligations of InternetConnect or hire any of InternetConnect's employees. In
addition, the Company does not believe the assets acquired from InternetConnect
constitute a self-sustaining business.

   The tangible assets of InternetConnect purchased by the Company consisted of
accounts receivable, refundable deposits and property and equipment. The
Company also purchased the right, but not the obligation, to assume
InternetConnect's customer contracts. However, the Company did not exercise
this right. Instead, the Company solicited the approximate 9,250 digital
subscriber line ("DSL"), T-1, virtual private network ("VPN") and dial-up
customers of InternetConnect, and approximately 6,200 of such customers
executed new contracts with the Company and its resellers subsequent to January
3, 2002.

   The Company has allocated the aforementioned purchase price based on the
estimated fair values of the elements of this transaction as of January 3,
2002, as follows:

<TABLE>
                 <S>                                     <C>
                 Accounts receivable.................... $1,386
                 Refundable deposits....................    349
                 Property and equipment.................     61
                 Customer acquisition costs.............  3,674
                                                         ------
                                                         $5,470
                                                         ======
</TABLE>

   The customer acquisition costs of $3,674 described above were charged to
network and product costs for the three months ended March 31, 2002 (i) because
the Company's relationship with InternetConnect's former customers did not
exist as of January 3, 2002 and (ii) based on the Company's accounting policy
for costs of this nature that are not accompanied by up-front fees (Note 2).

4.  Property Held for Sale

   During the fourth quarter of 2001, the Company tentatively decided to sell
property, consisting of land, a building and certain improvements with an
aggregate carrying value of $13,251 as of March 31, 2002, located in Manassas,
Virginia. This property is part of the Company's wholesale segment. In March
2002, the Company entered into a non-binding letter of intent with a third
party to sell such property for $14,000, which was subject

                                      11

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

to approval by the Company's board of directors. In April 2002, the Company
received the necessary approval from its board of directors to proceed with the
sale of this property (at which time the Company suspended depreciation of the
building and related improvements). The Company expects to complete the sale of
its Manassas, Virginia property in the second quarter of 2002.

5.  Restructuring

   During the fourth quarter of 2000, the Company announced a comprehensive
restructuring plan that involved the following steps:

  .  raising revenue by reducing rebates and other incentives that the Company
     provides to customers and reducing new line addition plans for 2001 to
     improve margins and reduce subscriber payback times;

  .  closing approximately 200 under-performing or not fully built-out central
     offices and holding the size of the Company's network at approximately
     1,700 central offices;

  .  reducing the Company's workforce by 638 employees, which represented
     approximately 21% of the Company's workforce;

  .  closing a facility in Alpharetta, Georgia and consolidating offices in
     Manassas, Virginia, Santa Clara, California and Denver, Colorado.

  .  continued downsizing of the Company's international operations and
     discontinuing plans to fund additional international expansion while
     continuing to manage existing investments;

  .  enhancing productivity in the Company's operations to increase customer
     satisfaction while reducing costs;

  .  restructuring the Company's direct sales and marketing channel; and

  .  evaluating and implementing other cost reduction strategies, including
     salary freezes and reductions in travel, facilities and advertising
     expenses.

   In connection with this restructuring plan, the Company recorded a charge to
operations of $4,988 in the fourth quarter of 2000 relating to employee
severance benefits that met the requirements for accrual as of December 31,
2000. During the three months ended March 31, 2001, the Company reduced its
workforce by 485 employees and paid severance benefits of $2,968, which were
charged against the restructuring liability recorded as of December 31, 2000.

   The Company recorded additional restructuring expenses aggregating $14,805
during the three months ended March 31, 2001. These expenses consisted
principally of collocation and building lease termination costs that met the
requirements for accrual during the three months ended March 31, 2001. During
the three months ended March 31, 2001, the Company paid collocation and
building lease termination costs of $2,421, which were charged against the
restructuring liability recorded during this period. The Company completed the
restructuring activities that were initiated in 2000 during the fourth quarter
of 2001. Therefore, the Company neither recognized nor paid any restructuring
expenses during the three months ended March 31, 2002. However, management
continues to consider whether additional restructuring is necessary, and
additional charges to operations related to any further restructuring
activities may be incurred in future periods.

                                      12

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)


6.  Contingencies

  Litigation

   On December 13, 2001, the United States Bankruptcy Court for the District of
Delaware (the "Bankruptcy Court") entered an order confirming the Company's
pre-negotiated First Amended Plan of Reorganization, as modified on November
26, 2001 (the "Plan"). On December 20, 2001 (the "Effective Date"), the Plan
was consummated and the Company emerged from bankruptcy. Under the Plan, the
Company settled several claims against it. These claims include:

  .  The class action lawsuits filed in the United States District Court for
     the Northern District of California, provided that this settlement will
     not be final unless it is approved by that court. This settlement is
     described in more detail below.

  .  The lawsuits filed in the Superior Court of the State of California for
     the County of Santa Clara by six purchasers of the convertible notes that
     the Company issued in September 2000.

  .  Disputed claims made by former shareholders of Laser Link.net.

  .  Disputed claims made by GE Capital and its subsidiary, Heller Financial
     Group.

   As of March 31, 2002, there were approximately $27,200 in unresolved claims
related to the Company's Chapter 11 bankruptcy proceedings. As of March 31,
2002, the Company had recorded $18,277 for these unresolved claims in its
condensed consolidated balance sheet. However, it is reasonably possible that
the Company's unresolved Chapter 11 bankruptcy claims could ultimately be
settled for amounts that differ from the amounts recorded in the Company's
condensed consolidated balance sheet.

   Purchasers of the Company's common stock and purchasers of the convertible
senior notes the Company issued in September 2000 filed complaints on behalf of
themselves and alleged classes of stockholders and holders of convertible notes
against the Company and certain present and former officers of the Company in
the United States District Court for the Northern District of California (the
"District Court"). The complaints have been consolidated and the lead plaintiff
filed its amended consolidated complaint. The amended consolidated complaint
alleges violations of federal securities laws on behalf of persons who
purchased or otherwise acquired the Company's securities, including common
stock and notes, during the period from April 19, 2000 to May 24, 2001. The
relief sought includes monetary damages and equitable relief. On August 10,
2001, the Company signed a Memorandum of Understanding ("MOU") with counsel for
the lead plaintiffs in this litigation that tentatively resolves the
litigation. Under this agreement, the Company is to contribute 6,495,844 common
shares. The Company's insurance carriers would fund the cash portion of the
settlement. This settlement was approved by the Bankruptcy Court on December
20, 2001. Final settlement is contingent on the additional approval by the
United States District Court. Additionally, management, based on the advice of
legal counsel, believes it is more likely than not that this settlement will
ultimately be approved by the District Court. Consequently, the Company
recorded a liability of approximately $18,590 in its consolidated balance sheet
as of December 31, 2001 through a charge to litigation-related expenses for the
year then ended in connection with this anticipated settlement. As a result of
changes in the fair market value of the Company's common stock, the Company
decreased this liability to $14,823 as of March 31, 2002 through a credit to
litigation-related expenses in the amount of $3,767 for the three months ended
March 31, 2002. The Company will continue to remeasure this liability in future
periods, through the date of final settlement of this litigation, based on
changes in the underlying value of the Company's common stock.

   Several stockholders have filed complaints, on behalf of themselves and
purported classes of stockholders, against the Company and several former and
current officers and directors in addition to some of the Company's
underwriters in the United States District Court for the Southern District of
New York. These lawsuits are so-

                                      13

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

called IPO allocation cases, challenging practices allegedly used by certain
underwriters of public equity offerings during the late 1990s and 2000. The
plaintiffs claim that the Company and others failed to disclose the
arrangements that some of the Company's underwriters purportedly made with
certain investors. The Company believes it has strong defenses to these
lawsuits and intends to contest them vigorously. However, because these
lawsuits are at an early stage, the Company is unable to provide an evaluation
of the ultimate outcome of the litigation.

   A manufacturer of telecommunications hardware has filed a complaint against
the Company in the United States District Court for the District of Arizona,
alleging claims for false designation of origin, infringement and unfair
competition. The plaintiff is seeking an injunction to stop the Company from
using the COVAD trademark, as well as an award of monetary damages. This action
was stayed pursuant to the automatic stay provisions of the Bankruptcy Code
when the Company filed its petition under Chapter 11. The Company does not
believe that these claims have any merit, but the outcome of this litigation
cannot presently be determined.

   In April 1999, the Company filed a lawsuit against Bell Atlantic (now
Verizon) and its affiliates in the United States District Court for the
District of Columbia. The Company is pursuing antitrust and other claims in
this lawsuit. The Company also filed a lawsuit against BellSouth
Telecommunications and its subsidiaries in the United States District Court for
the Northern District of Georgia. The Company is pursing antitrust and other
claims in this lawsuit arising out of BellSouth's conduct as a supplier of
network facilities, including central office space, transmission facilities and
telephone lines. Both BellSouth and Verizon have asked the courts to dismiss
the Company's cases on the basis of the ruling of the Seventh Circuit in
Goldwasser v. Ameritech, which dismissed a consumer antitrust class action
against Ameritech. The Georgia court granted in part BellSouth's motion and
dismissed some of the Company's antitrust claims and breach of contract claims.
The Company has appealed the Bell South ruling in the Eleventh Circuit Court of
Appeals. To date, the District of Columbia court has not ruled on Verizon's
motion. The Company cannot predict the outcome of this motion.

   On June 11, 2001, Verizon Communications filed a lawsuit against the Company
in the United States District Court for the Northern District of California.
Verizon is a supplier of telephone lines that the Company resells to its
customers. The Complaint claims that the Company falsified trouble ticket
reports with respect to the phone lines that Covad ordered and seeks
unspecified monetary damages and injunctive relief. The Complaint asserts
causes of action for negligent and intentional misrepresentation and violations
of the Lanham Act. This lawsuit is at an early stage, so the Company is unable
to provide an evaluation of the ultimate outcome.

   In connection with his departure from the Company in April 2002, Terry Moya,
the Company's former Executive Vice President, Corporate Development and
External Affairs, had threatened litigation against the Company for wrongful
termination, breach of contract and misrepresentation. In April 2002, the
Company executed a settlement agreement with Mr. Moya, which did not have a
material impact on the Company's consolidated financial position or results of
operations. The Company has recorded an accrual as of March 31, 2002, through a
charge to administrative expenses for the three months then ended, relating to
this settlement agreement.

   An unfavorable outcome in any of the pending legal proceedings described
above could have a material adverse effect on the Company's consolidated
financial position and results of operations.

   The Company is also a party to a variety of other legal proceedings, as
either plaintiff or defendant, and is engaged in other disputes that arise in
the ordinary course of its business. The Company's management believes these
other matters will be resolved without a material adverse effect on the
Company's consolidated financial position and results of operations.

                                      14

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)


  Other Contingencies

   As of March 31, 2002, the Company had disputes with a number of
telecommunications companies concerning the balances owed to such
telecommunications carriers for collocation fees and certain network services.
In the opinion of management, such disputes will be resolved without a material
adverse effect on the Company's consolidated financial position and results of
operations. However, it is reasonably possible that management's estimates of
the Company's collocation fee and network service obligations, as reflected in
the accompanying condensed consolidated balance sheets, could change in the
near term. In addition, the Company is engaged in a variety of negotiations,
arbitrations and regulatory proceedings with multiple telephone companies.
These negotiations, arbitrations and regulatory proceedings concern the
traditional telephone companies' denial of physical central office space to the
Company in certain central offices, the cost and delivery of central office
space, the delivery of transmission facilities and telephone lines and other
operational issues. An unfavorable outcome in any of these negotiations,
arbitrations and regulatory proceedings could have a material adverse effect on
the Company's consolidated financial position and results of operations.

   As of March 31, 2002, management was analyzing the applicability of certain
transaction-based taxes to sales of the Company's products and services. This
analysis includes discussions with authorities of significant jurisdictions in
which the Company does business to determine the extent of the Company's
respective transaction-based tax liabilities. In the opinion of management,
such analysis will be concluded without a material adverse effect on the
Company's consolidated financial position and results of operations. However,
it is reasonably possible that management's estimates of the Company's
transaction-based tax liabilities, as reflected in the accompanying condensed
consolidated balance sheets, could change in the near term.

7.  Business Segments

   The Company disaggregates its business operations based upon differences in
services and marketing channels, even though the cash flows from these
operations are not largely independent of each other. The Company's wholesale
division ("Wholesale") is a provider of high-speed connectivity services,
including DSL, T-1 and VPN services, to ISP, enterprise and telecommunications
carrier customers. The Company's direct division ("Direct") is a provider of
high-speed connectivity, Internet access and other services to individuals,
small and medium-sized businesses, corporations and other organizations.
Corporate operations represent general corporate expenses, headquarters
facilities and equipment, investments, and other non-recurring and unusual
items not allocated to the segments.

   The Company evaluates performance of the segments based on segment operating
results, excluding nonrecurring and unusual items.

                                      15

<PAGE>

                       COVAD COMMUNICATIONS GROUP, INC.

       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)


   Information about the Company's business segments was as follows as of and
for the three months ended March 31, 2002 and 2001 (the Company's 2001 segment
information has been restated to conform to the Company's organizational
structure in 2002):

<TABLE>
<CAPTION>
As of and for the three months ended                         Total     Corporate  Intercompany Consolidated
      March 31, 2002:                Wholesale    Direct    Segments   Operations Eliminations    Total
------------------------------------ ----------  --------  ----------  ---------- ------------ ------------
<S>                                  <C>         <C>       <C>         <C>        <C>          <C>
     Domestic revenues from
       unaffiliated customers,
       net.......................... $   88,413  $ 13,253  $  101,666   $     --      $ --      $  101,666
     Net loss....................... $  (33,558) $ (4,524) $  (38,082)  $(18,757)     $ --      $  (56,839)
     Assets......................... $  594,552  $    806  $  595,358   $ 15,897      $ --      $  611,255

As of and for the three months ended                         Total     Corporate  Intercompany Consolidated
      March 31, 2001:                Wholesale    Direct    Segments   Operations Eliminations    Total
------------------------------------ ----------  --------  ----------  ---------- ------------ ------------
     Domestic revenues from
       unaffiliated customers,
       net.......................... $   58,693  $ 12,552  $   71,245   $     --      $ --      $   71,245
     Net loss....................... $ (117,233) $(32,241) $ (149,474)  $(49,061)     $ --      $ (198,535)
     Assets......................... $1,193,745  $ 10,192  $1,203,937   $ 51,995      $ --      $1,255,932
</TABLE>

                                      16

<PAGE>

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

   The following discussion of our financial condition and results of
operations should be read in conjunction with the unaudited condensed
consolidated financial statements and the related notes thereto included
elsewhere in this Report on Form 10-Q and the audited consolidated financial
statements and notes thereto and management's discussion and analysis of
financial condition and results of operations for the year ended December 31,
2001, included in our Annual Report on Form 10-K filed with the SEC on March
29, 2002. This discussion contains forward-looking statements, the accuracy of
which involves risks and uncertainties. Our actual results could differ
materially from those anticipated in the forward-looking statements for many
reasons including, but not limited to, those discussed herein and in the "Risk
Factors" section of our Annual Report on Form 10-K, which is contained in Part
I, Item 1, Business-Risk Factors, of that report. We disclaim any obligation to
update information contained in any forward-looking statement. See "--Forward
Looking Statements."

   (All dollar amounts are presented in thousands, except per share amounts)

Overview

   We are a leading provider of high-speed Internet connectivity ("broadband")
and related communications services, which we sell to businesses and consumers
indirectly through Internet service providers ("ISP"), telecommunications
carriers and other resellers. These wholesale partners generally resell our
services to their business and consumer end-users. We also sell our services
directly to business and consumer end-users through our field sales force,
telephone sales and our website. Our other customers are large companies with
established brand names or other organizations that resell our Internet access
services. Our services include a range of high-speed, high-capacity Internet
access connectivity and related services using digital subscriber line ("DSL"),
T-1, Virtual Private Network ("VPN") and firewall technologies.

   Incorporated in October 1996, we have a relatively short operating history
introducing our services commercially in the San Francisco Bay Area in December
1997. As of March 31, 2002, we believe we have one of the largest nationally
deployed DSL networks based on approximately 1,700 operational central offices
that pass more than 40 million homes and businesses in the U.S. As of March 31,
2002, we had approximately 359,000 high-speed Internet access lines in service
using DSL technology (approximately 13% of which are associated with
financially distressed customers). We have received orders for our services
from more than 150 ISP and telecommunications carrier customers, including AT&T
Corporation, XO Communications, EarthLink, Inc., UUNET Technologies (a WorldCom
company), and Megapath Networks and Speakeasy.net, both privately owned
companies. We also provide dial-up Internet access service to over 99,000
customers through Covad.net, our direct sales channel. We are also developing a
variety of services that are enhanced or enabled by our high-speed network and
we are entering into business arrangements in order to bring a variety of
additional service offerings to our customers and their end-users.

   Since our inception, we have generated significant net losses and we
continue to experience negative operating cash flow. As of March 31, 2002, we
had an accumulated deficit of $1,401,347. We expect losses and negative cash
flow to continue at least into the second half of 2003. Although we currently
have a plan in place that we believe will get us to cash flow positive without
raising additional capital, our cash reserves are limited and our plan is based
on assumptions, some of which are out of our immediate control. If our
assumptions are not met, we may need to raise additional capital on terms that
are less satisfactory than we desire, which may have a material adverse effect
on our financial condition and could cause significant dilution to our
shareholders.

   In the course of preparing the financial statements for the year ended
December 31, 2000, internal control weaknesses were discovered, which continued
into 2001. During 2001 we implemented new control procedures that we believe
improved our internal controls, including the hiring of key personnel, the use
of outside consultants, and documenting key policies and procedures and we are
continuing our efforts to improve such controls. However, these procedures are
relatively new and are still being improved. Our growth continues to stress
these internal controls and we cannot assure you that there will not be
additional control weaknesses in the future.

                                      17

<PAGE>

   On June 25, 2001, our former subsidiary, BlueStar, made an irrevocable
assignment for the benefit of its creditors ("ABC") of all its assets to an
independent trustee (the "Assignee") in the state of Tennessee. Immediately
thereafter, the Assignee began an orderly liquidation of BlueStar that is
expected to occur over a period of approximately one year. On July 25, 2001,
certain creditors of BlueStar filed an involuntary petition for relief under
Chapter 7 of the Bankruptcy Code, which was dismissed on October 11, 2001. An
ABC under Tennessee law is a non-judicial alternative to a plan of liquidation
under Chapter 7 of the Bankruptcy Code. As a result of the ABC, BlueStar's
former assets are no longer controlled by us or BlueStar and cannot be used by
either BlueStar's or our board of directors to satisfy the liabilities of
BlueStar. Consequently, the liquidation of BlueStar's assets and the
discharging of its liabilities are currently under the sole control of the
Assignee. Therefore, we deconsolidated BlueStar effective June 25, 2001, which
resulted in the recording of a deferred gain in the amount of approximately
$55,200 in our condensed consolidated balance sheet as of March 31, 2002. Such
deferred gain represents the difference between the carrying values of
BlueStar's assets (aggregating approximately $7,900) and liabilities
(aggregating approximately $63,100) as of June 25, 2001. We will recognize such
deferred gain as an extraordinary item when the liquidation of BlueStar is
complete and its liabilities have been discharged. We currently do not have an
estimate as to when we will be able to recognize this gain.

   On August 15, 2001 (the "Petition Date"), we filed a voluntary petition (the
"Petition") under Chapter 11 of the United States Bankruptcy Code (the
"Bankruptcy Code") for the purpose of confirming our pre-negotiated First
Amended Plan of Reorganization, as modified on November 26, 2001, (the "Plan")
with the majority holders (the "Noteholders") of our senior notes. The Petition
was filed with the United States Bankruptcy Court for the District of Delaware
(the "Bankruptcy Court") and was assigned Case No. 01-10167 (JJF). Our
operating subsidiaries did not commence bankruptcy proceedings and continued to
operate in the ordinary course of business. On December 13, 2001, the
Bankruptcy Court entered an order confirming the Plan and, on December 20, 2001
(the "Effective Date"), the Plan was consummated and we emerged from
bankruptcy. However, the Bankruptcy Court still maintains jurisdiction over
certain administrative matters related to the implementation of the Plan,
including certain unresolved claims. Under our Plan, we were able to extinguish
approximately $1,394,020 in aggregate face amount of outstanding Notes,
including accrued interest, in exchange for a combination of approximately
$271,708 in cash and 35,292,800 common shares, or 15% of the reorganized
company. We also recorded an extraordinary gain on the extinguishment of debt
in the amount of $1,033,727 in the fourth quarter of 2001.

   On November 13, 2001, we announced the signing of a loan agreement and the
restructuring of our resale and marketing agreement with SBC Communications
Inc. ("SBC"). We expect that the cash generated from these agreements will
enable us to fully fund our operations to cash flow positive. The new
agreements include four elements: a one-time $75,000 prepayment, collateralized
by substantially all of our domestic assets, that SBC can use toward the
purchase of our services during the next 10 years; a $50,000 four-year loan
collateralized by substantially all of our domestic assets; a payment to us of
a $10,000 restructuring fee in exchange for eliminating SBC's revenue
commitments under the original resale and marketing agreement and the
elimination of a $15,000 co-op-marketing fee, which was required in the
previous resale and marketing agreement, owed by us to SBC. We received these
funds on December 20, 2001. These agreements with SBC contain customary change
of control provisions that would require us to repay (1) any outstanding
principal and interest on the loan; and (2) any unused portion of the
prepayment, if a change of control occurred. They also contain default
provisions that would allow SBC to accelerate any unpaid portion of the
prepayment and the loan in the event that we default.

   During the year ended December 31, 2000, we implemented a business plan, in
response to changes in the economy and the capital markets, that helped to
lower our cost structure in an effort to reach profitability earlier than
previously planned. Specific steps we have taken in this regard include:
assigning for the benefit of creditors our BlueStar subsidiary; eliminating our
high yield bond debt through a successful voluntary reorganization; reducing
our workforce by as many as 2,600 employees from a peak of approximately 4,000
employees in 2000 to approximately 1,400 employees as of March 31, 2002;
reducing the size of our network to approximately

                                      18

<PAGE>

1,700 central offices; reducing the amount and quantity of rebates and other
incentives that we provide to our customers; consolidating and/or closing
offices throughout the United States; enhancing productivity in our operations
to increase customer satisfaction while reducing costs; streamlining our direct
sales and marketing channel and supplementing it with telephone sales and sales
through our website; and evaluating and implementing other cost reduction
strategies including salary freezes and reductions in travel, facilities and
advertising expenses.

   We disaggregate our business operations based upon differences in services
and marketing channels even though the cash flows from these operations are not
largely independent of each other. Our wholesale division ("Wholesale") is a
provider of high-speed connectivity services, which include DSL technology, to
ISP, enterprise and telecommunications carrier customers. Our direct division
("Direct"), is a provider of Internet access services to individuals,
corporations and other organizations. Corporate operations represent general
corporate expenses, headquarters facilities and equipment, investments, and
other items not allocated to the segments.

   We evaluate performance of the segments based on segment operating results.

  Revenue Recognition and Change in Accounting Principle

   During the fourth quarter of 2000, retroactive to January 1, 2000, we
changed our method of accounting for up-front fees associated with service
activation and the related incremental direct costs in accordance with SEC
Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial
Statements." Previously, we had recognized up-front fees as revenues upon
activation of service. Under the new accounting method, which was adopted
retroactive to January 1, 2000, we now recognize up-front fees associated with
service activation over the expected term of the customer relationship, which
is presently estimated to be 24 months, using the straight-line method. Also as
a result of the adoption of SAB No. 101, retroactive to January 1, 2000, we now
treat the incremental direct costs of service activation (which consist
principally of customer premises equipment, service activation fees paid to
other telecommunications companies, service delivery and sales commissions) as
deferred charges in amounts that are no greater than the up-front fees that are
deferred, and such deferred incremental direct costs are amortized to expense
using the straight-line method over 24 months.

   The cumulative effect of the change in accounting principle resulted in a
charge to operations of $9,249, which is included in net loss for the year
ended December 31, 2000. For the three months ended March 2001, we recognized
approximately $4,264 in revenue that was included in the cumulative effect
adjustment as of January 1, 2000 (none during the three months ended March 31,
2002). The effect of that revenue during the three months ended March 31, 2001
was to decrease net loss by $1,140. Although SAB 101 substantially alters the
timing of recognition of certain revenues and treatment of certain costs in our
consolidated financial statements, it does not affect our consolidated cash
flows.

  Internet Service Provider Resale Channel Difficulties

   In order to limit our exposure to the potential financial difficulties of
some of our wholesale partners, we have implemented certain policies and taken
a series of actions. We may stop taking new orders from them, but continue to
install and maintain previously accepted orders. We may terminate our contracts
with those partners who are unresponsive to our efforts to maintain an on-going
business relationship. While our goal is to maintain consistent high quality
service to end-users, we may also decide to disconnect some end-users that are
purchasing our services from certain customers. Although we have successfully
migrated lines, there can be no assurance that migrated end-users will continue
to purchase our services. Even if we are able to migrate end-users, this
process requires a significant amount of our resources, which may impair our
ability to install new lines as they are ordered. Any of these circumstances
could adversely affect our business. We have also worked proactively to collect
outstanding amounts billed to these customers.

                                      19

<PAGE>

   Even though we are making progress in reducing the number of subscribers for
which we are not currently recognizing revenue on an accrual basis, there is no
assurance that we will be able to completely restore the remaining lines to
normal revenue producing status or that we will not encounter future payment
problems from our customers. Based on our experience to this point, we may lose
as many as 50% of the lines associated with these delinquent partners. However,
in light of the financial position of many ISPs, should a particular ISP
customer become subject to reorganization or bankruptcy proceedings, no
assurance can be given that we will be able to collect payments owed to us or
retain payments or other consideration (including subscriber lines) already
received by us.

  Related Party Transactions

   Our former interim chief executive officer, who is also a member of our
board of directors, is a minority stockholder and former member of the board of
directors of one of our ISP customers, InternetConnect, which filed for
bankruptcy protection in 2001. We recognized revenues of $2,249 and $484
related to this customer during the three months ended March 31, 2002 and 2001,
respectively. Gross accounts receivable from this customer amounted to $4,043
as of March 31, 2001 (none at March 31, 2002). On January 3, 2002, we purchased
substantially all of the assets of InternetConnect in an auction supervised by
the United States Bankruptcy Court for the Central District of California. The
purchase price for the assets of InternetConnect was $5,470 in cash. (Under the
terms of the asset purchase agreement, we may be required to pay additional
cash of up to $1,880 for the assets of InternetConnect, depending upon the
outcome of a previous post-petition bankruptcy claim filed by us against
InternetConnect.) We did not assume any liabilities or obligations of
InternetConnect or hire any of InternetConnect's employees. The tangible assets
purchased from InternetConnect consisted of accounts receivable, refundable
deposits and property and equipment. We also purchased the right, but not the
obligation, to assume InternetConnect's customer contracts. However, we did not
exercise this right. Instead, we solicited the approximate 9,250 DSL, T-1, VPN
and dial-up customers of InternetConnect, and approximately 6,200 of such
customers executed new contracts with us and our resellers subsequent to
January 3, 2002.

   We acquired an equity interest in a supplier during 1999 and disposed of
this interest in 2001. Purchases from this supplier totaled $1,695 and $9,631
for the three months ended March 31, 2002 and 2001, respectively. We also
purchased certain products from a company in which one of our directors and
former interim chief executive officer serves as a director. Purchases from
this vendor totaled $38 and $8 during the three months ended March 31, 2002 and
2001, respectively.

Results of Operations

  Three Months Ended March 31, 2002 and 2001

  Revenues, net

   We recorded net revenues of $101,666 for the three months ended March 31,
2002, an increase of $30,421 (42.7 percent) over revenues of $71,245 for the
three months ended March 31, 2001. As described in the overview section above,
we deconsolidated our Bluestar subsidiary effective June 25, 2001. Net revenues
from Bluestar were $6,556 during the three months ended March 31, 2001 and none
during the three months ended March 31, 2002. The increase in revenues is
mainly attributable to growth in the number of customers and end-users
resulting from our sales and marketing efforts. We expect revenues to increase
in future periods as we add additional end-users, introduce new services and
increase our sales and marketing efforts. Included in net revenues are Federal
Universal Service Fund charges billed to our customers aggregating $2,988 and
$4,176 for the three months ended March 31, 2002 and 2001, respectively.
Revenues for the three months ended March 31, 2002 were comprised of $88,413
from our wholesale channel and $13,253 from our direct channel.

   We have over 150 wholesale customers. However, for the three months ended
March 31, 2002, our thirty largest wholesale customers collectively comprised
94.5% of our total wholesale revenues and 82.2% of our total revenues. As of
March 31, 2002, receivables from these customers collectively comprised 72.0%
of our gross accounts receivable balance.

                                      20

<PAGE>

   For the three months ended March 31, 2002, two of our wholesale customers
(Earthlink, Inc. and XO Communications) individually accounted for 20.6% and
10.7%, respectively, of our total revenues. As of March 31, 2002, receivables
from Earthlink, Inc. comprised 21.3% of our gross accounts receivable balance.
We began recognizing revenues from XO Communications on a cash basis during the
fourth quarter of 2001. Therefore, as of March 31, 2002, we did not recognize
the contractual receivable from XO Communications of $2,791 in our consolidated
financial statements.

   For the three months ended March 31, 2001, two of our wholesale customers
(Earthlink, Inc. and XO Communications) individually accounted for 15.6% and
12.0%, respectively, of our total revenues. As of March 31, 2001, receivables
from these customers comprised 6.0% and 5.3%, respectively, of our gross
accounts receivable balance.

   During the three months ended March 31, 2002 and 2001, we issued billings to
our financially distressed customers, including those that have filed for
bankruptcy protection, aggregating $18,774 and $19,476, respectively. These
billings were not recognized as revenues or accounts receivable in our
consolidated financial statements. We had contractual receivables from our
financially distressed customers, including receivables from customers that
have filed for bankruptcy protection of $12,485, totaling $29,713 as of March
31, 2002 that are not reflected in our consolidated financial statements.
However, we ultimately recognized revenues from certain of these customers on a
cash basis aggregating $20,170 and $4,173 during the three months ended
March 31, 2002 and 2001, respectively. The cash-basis revenues of $20,170
recognized during the three months ended March 31, 2002 include payments
totaling $3,568 from certain bankrupt customers that we received prior to
January 1, 2002 and recorded as unearned revenues in our consolidated balance
sheet as of December 31, 2001 because our ability to retain these payments was
not reasonably assured as of that date. However, as a result of subsequent
developments in the bankruptcy proceedings of such customers, we determined
that our ability to retain these payments was reasonably assured as of March
31, 2002. Consequently, we recognized these payments as revenues during the
three months ended March 31, 2002.

   A number of our financially distressed customers have filed for bankruptcy
protection. Revenues from these customers accounted for approximately 7.5% and
4.0% of our total revenues for the three months ended March 31, 2002 and 2001,
respectively. We continue to attempt migration of end users from certain of
these financially distressed customers to the extent feasible.

   We have obtained information indicating that some of our customers who (i)
were essentially current in their payments for our services prior to March 31,
2002, or (ii) have subsequently paid all or significant portions of the
respective amounts that we recorded as accounts receivable as of March 31,
2002, may become financially distressed. Revenues from these customers
accounted for approximately 17.9% and 8.1% of our total revenues for the three
months ended March 31, 2002, and 2001, respectively. As of March 31, 2002,
receivables from these customers comprised 11.3% of our gross accounts
receivable balance. If these customers are unable to demonstrate their ability
to pay for the Company's services in a timely manner, in periods ending
subsequent to March 31, 2002, revenue from these customers will be recognized
on a cash basis.

   We have billing disputes with certain of our customers. These disputes arise
in the ordinary course of business in the telecommunications industry and their
impact on our accounts receivable and revenues can be reasonably estimated
based on historical experience. Accordingly, we maintain an allowance, through
charges to revenues (which amounted to $1,260 and $1,550 during the three
months ended March 31, 2002 and 2001, respectively) based on our estimate of
the ultimate resolution of these disputes.

  Network and Product Costs

   We recorded network and product costs of $88,761 and $135,162 for the three
months ended March 31, 2002 and 2001, respectively. For the three months ended
March 31, 2002, network and product costs were 87.3 percent of revenues, a
significant improvement from the three months ended March 31, 2001, when
network and

                                      21

<PAGE>

product costs were 189.7 percent of revenues. The decrease in network and
product costs, in absolute dollars and as a percentage of revenues, during the
three months ended March 31, 2002 is attributable to the downsizing of our
network to approximately 1,700 central offices, cost reduction efforts to lower
network costs related to data transport, a reduction in headcount within our
operations and engineering groups and the deconsolidation of our BlueStar
subsidiary effective June 25, 2001 (network and product costs related to
BlueStar were $19,068 during the three months ended March 31, 2001 and none
during the three months ended March 31, 2002), as well as increased revenue
from a growing subscriber base. Network and product costs for the three months
ended March 31, 2002 include acquisition costs of $3,674 associated with
certain of InternetConnect's former customers, as described above. We expect
network and product costs to increase in future periods due to increased sales
activity and expected revenue growth, but to decrease as a percentage of
revenue as we begin to fully realize the economies of scale that can exist
within our business.

  Sales, Marketing, General and Administrative Expenses

   Sales, marketing, general and administrative expenses were $38,637 (38.0
percent of revenues) for the three months ended March 31, 2002 and $62,827
(88.2 percent of revenues) for the three months ended March 31, 2001. Sales,
marketing, general and administrative expenses consist primarily of salaries,
expenses for the development of business, the development of corporate
identification, promotional and advertising materials, and expenses for the
establishment of our management team. The decrease in expenses from 2001 to
2002 is attributable to a reduction in our workforce, a reduction in office
space throughout the United States, other cost reduction measures related to
advertising and marketing expenses, salary freezes, reduced travel by employees
and the deconsolidation of our BlueStar subsidiary effective June 25, 2001
(selling, marketing, general and administrative expenses related to BlueStar
were $7,038 during the three months ended March 31, 2001 and none during the
three months ended March 31, 2002). Sales, marketing, general and
administrative expenses are expected to remain relatively flat and continue to
decrease as a percentage of revenue as we continue to grow our business.

   Operating expenses, which include network and product costs and selling,
marketing, general and administrative expenses, for the three months ended
March 31, 2002, were comprised of $88,450 from our wholesale channel and
$17,900 from our direct channel.

  Bad debt recoveries, net

   We recorded net bad debt recoveries of $73 for the three months ended March
31, 2002 and $4,247 for the three months ended March 31, 2001. Bad debt
recoveries were 0.1% and 6.0% of net revenue for the three months ended March
31, 2002 and 2001, respectively. Such bad debt recoveries are the result of
improved collections.

  Depreciation and Amortization

   Depreciation and amortization of property and equipment was $30,853 and
$33,809 for the three months ended March 31, 2002 and 2001, respectively. The
decrease in 2002 was due principally to certain assets becoming fully
depreciated during this period. We expect depreciation and amortization to
remain relatively unchanged in the future due to our expectations that our
capital expenditures in the near term will be less than historical amounts as
we believe that the geographic footprint of our network will remain relatively
unchanged and near term capital expenditures will be mostly limited to adding
capacity to our network to support the addition of new users.

   Amortization expenses associated with collocation fees for the three months
ended March 31, 2002 and 2001 were $3,629 and $3,601 respectively. These
comparable amounts represent the stabilization of our network build during the
last twelve months.

   Effective January 1, 2001, we reduced the remaining estimated useful lives
of all long-lived assets (excluding building and leasehold improvements) that
previously had estimated useful lives in excess of five years such that the
residual balances and any subsequent additions are now depreciated or amortized
over five years. This change in accounting estimate increased our net loss by
$3,248 ($0.02 per share) during the three months ended March 31, 2001.

                                      22

<PAGE>

   Depreciation and amortization expenses for the three months ended March 31,
2002 were comprised of $32,767 from our wholesale channel and $556 from our
direct channel.

  Restructuring Expenses

   In connection with the restructuring plan we announced in December 2000, we
recorded a charge to operations of $4,988 during the fourth quarter of 2000
relating to employee severance benefits that met the requirements for accrual
as of December 31, 2000. During the three months ended March 31, 2001, we paid
severance benefits of $2,968, which were charged against the restructuring
liability recorded as of December 31, 2000.

   Results of operations for the three months ended March 31, 2001 include
restructuring expenses of $14,805 for collocation and building lease
termination costs that met the requirements for accrual during the first
quarter of 2001. We completed the restructuring activities that were initiated
in 2000 during the fourth quarter of 2001. Therefore, we neither recognized nor
paid any restructuring expenses during the three months ended March 31, 2002.
However, we continue to consider whether additional restructuring is necessary,
and we may incur additional expenses related to further restructuring
activities in future periods.

  Litigation-related Expenses

   We recorded a credit to litigation-related expenses of $3,767 for the three
months ended March 31, 2002, representing a non-cash valuation adjustment for
the change in value of 6,495,844 shares of common stock that are expected to be
distributed upon the approval of the MOU as described in "Part II. Item 1.
Legal Proceedings" of our 2001 Annual Report (Form 10-K), filed with the SEC on
March 29, 2002. We will adjust this liability in subsequent quarters based on
changes in our stock price until such time as the final distribution of the
shares is made. We did not recognize any litigation-related expenses for the
three months ended March 31, 2001.

  Net Interest Income (Expense)

   Net interest income (expense) for the three months ended March 31, 2002 and
2001 was $94 and $(25,612), respectively. Net interest income during the three
months ended March 31, 2002 consisted principally of interest income earned on
our cash, cash equivalent and short-term investment balances, less interest
expense on our long-term debt. Net interest expense during the three months
ended March 31, 2001 consisted primarily of interest expense on our senior
notes, which were extinguished in December 2001, and capital lease obligations,
less interest income on our cash, cash equivalent and short-term investment
balances. As a result of this debt extinguishment, our interest expense during
the three months ended March 31, 2002 related principally to our note payable
to SBC described below.

   Upon our emergence from Chapter 11 bankruptcy on December 20, 2001, we
entered into a series of new agreements with SBC. One such agreement involves a
term note payable that is collateralized by substantially all of our domestic
assets. This note bears interest at 11.0%, which is payable quarterly beginning
in December 2003. The entire unpaid principal balance is payable in December
2005. However, we have the right to prepay the principal amount of the note, in
whole or in part, at any time without penalty.

   We expect future interest expense to be limited principally to interest on
our 11.0% note payable to SBC.

  Investment Gains and Losses

   We recorded a net loss on investments for the three months ended March 31,
2002 in the amount of $48. This amount includes a realized loss on short-term
investments of $17, our equity in the losses of our unconsolidated affiliates
of $391 and a gain on the sale of our equity investment in one of our
unconsolidated affiliates of $360.

                                      23

<PAGE>

   We recorded a net gain on investments for the three months ended March 31,
2001 of $1,818. This included a realized gain on short-term investments of
$6,297, other than temporary losses on short-term investments of $1,311 and our
equity in the losses of our unconsolidated affiliates of $3,168.

  Income Taxes

   We made no provision for income taxes because we operated at a loss during
all periods presented.

  Critical Accounting Policies and Estimates

   Our discussion and analysis of financial condition and results of operations
are based upon our condensed consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States for interim financial information, the instructions to Form 10-Q
and Article 10 of Regulation S-X. The preparation of our financial statements
requires us to make estimates that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosures of contingent
assets and liabilities. We base our accounting estimates on historical
experience and other factors that are believed to be reasonable under the
circumstances. However, actual results may vary from these estimates under
different assumptions or conditions. The following is a summary of our critical
accounting policies and estimates:

  .  We recognize revenues when (i) persuasive evidence of an arrangement
     between the customer and us exists, (ii) service has been provided to the
     customer, (iii) the price to the customer is fixed and determinable and
     (iv) collectibility of the sales price is reasonably assured. We recognize
     up-front fees associated with service activation over the expected term of
     the customer relationship, which is presently estimated to be 24 months,
     using the straight-line method. Similarly, we treat the incremental direct
     costs of service activation (which consist principally of customer premise
     equipment, service activation fees paid to other telecommunications
     companies and sales commissions) as deferred charges in amounts no greater
     than the up-front fees that are deferred, and such incremental direct
     costs are amortized to expense using the straight-line method over 24
     months.

  .  We have concentrations of credit risk with a small number of customers,
     certain of which were experiencing financial difficulties as of March 31,
     2002 and 2001 and were not current in their payments for our services as
     of those dates. Accordingly, we recognize revenues from these financially
     distressed customers in the period in which cash is received, after the
     collection of all previous outstanding accounts receivable balances. We
     perform ongoing credit evaluations of our customers' financial condition
     and maintain an allowance for estimated credit losses. In addition, we
     have billing disputes with certain of our customers. These disputes arise
     in the ordinary course of business in the telecommunications industry and
     their impact on our accounts receivable and revenues can be reasonably
     estimated based on historical experience. We maintain an allowance,
     through charges to revenues, based on our estimate of the ultimate
     resolution of these disputes.

  .  We state our inventories at the lower of cost or market. In assessing the
     ultimate recoverability of inventories, we are required to make estimates
     regarding future customer demand.

  .  We implemented significant reorganization and restructuring plans in 2001
     and 2000. In this regard, we consummated a plan of reorganization under
     Chapter 11 of the United States Bankruptcy Code on December 20, 2001.
     However, as of March 31, 2002, we had certain claims relating to our
     Chapter 11 bankruptcy proceedings that were unresolved. Therefore, it is
     reasonably possible that such unresolved bankruptcy claims could
     ultimately be settled for amounts that differ from the aggregate liability
     for such claims reflected in our condensed consolidated balance sheet as
     of March 31, 2002. In addition, we tentatively settled certain securities
     litigation in connection with our emergence from Chapter 11 bankruptcy in
     2001. However, the final settlement of such litigation is still subject to
     court approval.

  .  Property and equipment and intangible assets are recorded at cost, subject
     to adjustments for impairment. Property and equipment and intangible
     assets are depreciated or amortized using the straight-line method over
     their estimated useful lives, certain of which were significantly revised
     in 2001. In assessing the

                                      24

<PAGE>

     recoverability of our property and equipment and intangible assets, we
     must make assumptions regarding estimated future cash flows and other
     factors to determine the fair value of the respective assets. If these
     estimates and assumptions change in the future, we may be required to
     record additional impairment charges relating to our property and
     equipment and intangible assets. See further discussion below concerning
     the recent adoption of SFAS Nos. 142 and 144 and our framework for
     evaluating the impairment of long-lived assets in periods ending after
     December 31, 2001.

  .  We are a party to a variety of legal proceedings, as either plaintiff or
     defendant, and are engaged in other disputes that arise in the ordinary
     course of business, including disputes with a number of telecommunications
     companies related to the balances we owe them for collocation and network
     service fees. We are required to assess the likelihood of any adverse
     judgments or outcomes to these matters, as well as potential ranges of
     probable losses for certain of these matters. The determination of the
     liabilities required, if any, for loss contingencies is made after careful
     analysis of each individual issue. However, it is reasonably possible that
     certain of the liabilities reflected in our condensed consolidated balance
     sheets associated with various loss contingencies and business disputes
     could change in the near term due to new developments or changes in
     settlement strategies.

  .  We are currently analyzing the applicability of certain transaction-based
     taxes to sales of our products and services. This analysis includes
     discussions with authorities of jurisdictions in which we do business to
     determine the extent of our transaction-based tax liabilities. We believe
     that such negotiations will be concluded without a material adverse effect
     on our consolidated financial position and results of operations. However,
     it is reasonably possible that our estimates of our transaction-based tax
     liabilities could change in the near term.

  .  We account for income taxes using the liability method, under which
     deferred tax assets and liabilities are determined based on differences
     between the financial reporting and tax bases of our assets and
     liabilities. We record a valuation allowance on our deferred tax assets to
     arrive at an amount that is more likely than not to be realized. In the
     future, should we determine that we are able to realize all or part of our
     deferred tax assets, which presently are fully reserved, an adjustment to
     our deferred tax assets would increase income in the period in which the
     determination was made.

  Recent Accounting Pronouncements

   On January 1, 2001, we adopted statement of Financial Accounting Standards
("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging
Activities," as amended. SFAS No. 133 standardizes the accounting for
derivatives and hedging activities and requires that all derivatives be
recognized in the statement of financial position as either assets or
liabilities at fair value. Changes in the fair value of derivatives that do not
meet the hedge accounting criteria are required to be reported in operations.
The adoption of SFAS No. 133 had no effect on our condensed consolidated
financial statements.

   On January 1, 2002, we adopted SFAS No. 141, "Business Combinations" and
SFAS No. 142, "Goodwill and Other Intangibles Assets." SFAS No. 141 eliminates
the pooling-of-interests method of accounting for business combinations, except
for qualifying business combinations that were initiated prior to July 1, 2001.
Under SFAS No. 142, goodwill and indefinite-lived intangible assets are no
longer amortized, but are reviewed annually, or more frequently if impairment
indicators arise, for impairment. The adoption of SFAS Nos. 141 and 142 had no
effect on our condensed consolidated financial statements.

   In August 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 143, "Accounting for Asset Retirement Obligations." SFAS No. 143
requires that the fair value of a liability for an asset retirement obligation
be recognized in the period in which it is incurred if a reasonable estimate of
fair value can be made. The associated asset retirement costs are capitalized
as part of the carrying amount of the long-lived asset. We are required to
adopt SFAS No. 143 on January 1, 2003, and we do not believe the adoption of
SFAS No. 143 will have a material effect on our consolidated financial
statements.

                                      25

<PAGE>

   On January 1, 2002, we adopted the FASB issued SFAS No. 144, "Accounting for
the Impairment or Disposal of Long-Lived Assets," which supersedes SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of," and provides a single accounting model for
long-lived assets to be disposed of. The adoption of SFAS No. 144 had no effect
on our condensed consolidated financial statements.

   On January 1, 2002, we adopted the FASB's Emerging Issues Task Force
("EITF") guidance regarding the provision in EITF Issue 00-25, "Vendor Income
Statement Characterization of Consideration from a Vendor to a Retailer,"
dealing with consideration from a vendor to a reseller under cooperative
advertising and other arrangements. This provision of EITF Issue 00-25 states
that consideration from a vendor to a reseller of the vendor's products or
services is presumed to be a reduction of the selling price of the vendor's
products or services, unless the vendor (i) receives an identifiable benefit in
return for the consideration and (ii) can reasonably estimate the fair value of
the benefit received. If the amount of consideration paid by the vendor exceeds
the estimated fair value of the benefit received, the excess amount is to be
recorded by the vendor as a reduction of revenues. The adoption of this new
guidance did not have a material effect on our condensed consolidated financial
statements.

  Liquidity and Capital Resources

   Our operations have required substantial capital investment for the
procurement, design and construction of our central office cages, the design,
creation, implementation and maintenance of our operational support system, the
purchase of telecommunications equipment and the design and development of our
networks. Capital expenditures were $4,724 for the three months ending March
31, 2002. We expect that our capital expenditures related to the purchase of
infrastructure equipment necessary for the development and expansion of our
networks and the development of new regions will be less in future periods
while capital expenditures related to the addition of subscribers in existing
regions will increase proportionately in relation to the number of new
subscribers that we add.

   From our inception through March 31, 2002, we financed our operations
primarily through private placements of $220,600 of equity securities,
$1,282,000 in net proceeds raised from the issuance of notes (including our
recent agreement with SBC for a $50,000 note payable), a $75,000 collateralized
deposit and $719,000 in net proceeds raised from public equity offerings. As of
March 31, 2002, we had an accumulated deficit of $1,401,347, and cash, cash
equivalents, and short-term investments of $247,672. In addition, we had
stockholders' equity as of March 31, 2002 of $204,950.

   Net cash used in our operating activities was $31,903 for the three months
ending March 31, 2002. The net cash used in our operating activities during
this period was primarily due to the net loss of $56,839, an increase in
accounts receivable of $10,576 and a reduction of non-cash litigation-related
expenses of $3,767, offset by depreciation and amortization charges of $34,482.

   Net cash used in our investing activities was $9,345 for the three months
ending March 31, 2002. The net cash used in our investing activities during
this period was primarily due to purchases of short-term investments of
$45,104, purchases of property and equipment of $3,805, payment of collocation
fees of $919, offset by sales of short-term investments of $40,000.

   Net cash provided by our financing activities was $90 for the three months
ending March 31, 2002. The net cash provided by our financing activities during
this period was primarily due to proceeds from common stock issuances of $101,
offset by principal payments under our capital lease obligations of $11.

   We recently entered into a non-binding letter of intent to sell our
Manassas, VA, facility for $14,000. The sale is conditioned upon (1) the buyers
completion of its due diligence and (2) the negotiation and signing of
definitive agreements relating to the sale.

                                      26

<PAGE>

   As of March 31, 2002, we had $166,652 in cash and cash equivalents and
$81,020 in short-term investments. We expect to experience negative cash flow
from operating and investing activities at least into the second half of 2003
due to continued development, commercial deployment and addition of new
end-users to our networks. We may also make investments in and acquisitions of
businesses that are complementary to ours to support the growth of our
business. Our future cash requirements for developing, deploying and enhancing
our networks and operating our business, as well as our revenues, will depend
on a number of factors including:

  .  the rate at which customers and end-users purchase and pay for our
     services and the pricing of such services;

  .  the financial condition of our customers;

  .  the level of marketing required to acquire and retain customers and to
     attain a competitive position in the marketplace;

  .  the rate at which we invest in engineering, development and intellectual
     property with respect to existing and future technology;

  .  the operational costs that we incur to install, maintain and repair
     end-user lines and our network as a whole;

  .  pending litigation;

  .  existing and future technology;

  .  unanticipated opportunities;

  .  network development schedules and associated costs; and

  .  the number of regions entered, the timing of entry and services offered.

   In addition, we may wish to selectively pursue possible acquisitions of, or
investments in, businesses, technologies or products complementary to ours in
order to expand our geographic presence, broaden our product and service
offerings and achieve operating efficiencies. We may not have sufficient
liquidity, or we may be unable to obtain additional financing on favorable
terms or at all, in order to finance such an acquisition or investment.

   Our contractual debt and lease obligations as of December 31, 2001 for the
next five years, and thereafter, were as follows:

<TABLE>
<CAPTION>
                              2002  2003-2004 2005-2006 Thereafter  Total
                             ------ --------- --------- ---------- -------
      <S>                    <C>    <C>       <C>       <C>        <C>
      Note payable to SBC... $   --  $    --   $50,000    $   --   $50,000
      Capital leases........     11       --        --        --        11
      Office leases.........  5,540    9,226     5,742     1,829    22,337
      Other operating leases  2,371    1,575         5        --     3,951
                             ------  -------   -------    ------   -------
                             $7,922  $10,801   $55,747    $1,829   $76,299
                             ======  =======   =======    ======   =======
</TABLE>

   Our business plan includes certain discretionary spending in 2002 that is
predicated on certain revenue growth assumptions. If necessary, we will curtail
this discretionary spending so that we can continue as a going concern at least
through January 1, 2003 using only our unrestricted cash, cash equivalent and
short-term investment balances in existence as of December 31, 2001.
Additionally, based on the advice of our legal counsel, we believe it is more
likely than not that certain securities litigation described in Note 6 to our
March 31, 2002 condensed consolidated financial statements will ultimately be
settled in accordance with the terms of the MOU executed by us and the
plaintiffs in such securities litigation dated August 10, 2001. Therefore, we
do not believe that the ultimate settlement of this securities litigation will
have a material adverse effect on our ability to continue as a going concern at
least through January 1, 2003. However, in the event (1) the MOU is not

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ultimately approved by the United States District Court and (2) the settlement
of the aforementioned securities litigation ultimately requires us to disburse
additional cash to the plaintiffs in such litigation, we will reduce other
discretionary spending so that we can continue as a going concern at least
through January 1, 2003 using only our unrestricted cash, cash equivalent and
short-term investment balances in existence as of December 31, 2001. We do not
believe the curtailment of our discretionary spending, if necessary, will have
a material adverse effect on the overall execution of our business plan.

   We believe that our current cash, cash equivalents and short-term
investments will be sufficient to meet our anticipated cash needs for working
capital and capital expenditures to reach cash flow positive operations, which
we currently anticipate will be in the second half of 2003. An adverse
business, legal, regulatory or legislative development may require us to raise
additional financing. If necessary, we will develop a contingency plan to
address any material adverse developments. We also recognize that we may be
required to raise additional capital, at times and in amounts, which are
uncertain, especially under the current capital market conditions. If we are
unable to acquire additional capital or are required to raise it on terms that
are less satisfactory than we desire, it will have a material adverse effect on
our financial condition which could require a restructuring, sale or
liquidation of our company.

  Risk Factors

   The following is a summary list of some of the risk factors relating to our
Company. For additional detail regarding these and other risk factors, please
refer to "Part I. Item 1. Business--Risk Factors," found in our 2001 Annual
Report on Form 10-K, filed with the SEC on March 29, 2002.

  .  We may not be able to expand as quickly as we need to achieve
     profitability.

  .  We are dependent on a limited number of customers for the preponderance of
     our revenues, and we are highly dependent on sales through our resellers.

  .  We may experience decreasing margins on the sale of our services, which
     may impair our ability to achieve profitability or positive cash flow.

  .  The markets we face are highly competitive and we may not be able to
     compete effectively, especially against established industry competitors
     with significantly greater financial resources.

  .  Charges for unbundled network elements are generally outside of our
     control because they are proposed by the traditional telephone companies
     and are subject to costly regulatory approval processes.

  .  Our services are subject to government regulation, and changes in current
     or future laws or regulations and the methods of enforcing the law and
     regulations could adversely affect our business.

  .  Our business will suffer if our interconnection agreements are not renewed
     or if they are modified on unfavorable terms.

  .  Challenges in obtaining space for our equipment on premises owned by the
     traditional local telephone companies harms our business.

  .  We cannot predict whether we will be successful because our business
     strategy is largely unproven.

  .  Our business is difficult to evaluate because we have a limited operating
     history.

  .  We have a history of losses and expect losses in the future.

  .  We are a party to litigation and adverse results of such litigation
     matters could negatively impact our financial condition and results of
     operations.

  .  Our business may suffer unless financial market conditions improve.

  .  The financial uncertainty of the DSL industry caused us to lose orders.

  .  We may need to raise additional capital under difficult financial market
     conditions in order to maintain our operations.

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<PAGE>

  .  Our internal controls need to be improved.

  .  We have experienced increased cancellations and disconnections.

  .  We rely upon distributions from our subsidiaries to service our
     indebtedness and our indebtedness is effectively subordinated to the
     indebtedness of our subsidiaries.

  .  We were delisted from the Nasdaq National Market and this limits the
     public market for our common stock.

  .  The price of our common stock may fluctuate significantly, which may
     result in losses for investors.

  .  Future sales or issuances of our common stock may depress our stock price.

  .  Anti-takeover effects of certain charter and bylaw provisions, Delaware
     law, our indebtedness, our Stockholder Protection Rights Plan and our
     change in control severance arrangements could prevent a change in our
     control.

  .  Our operating results are likely to fluctuate in future periods and may
     fail to meet the expectations of securities analysts and investors.

  .  Our success depends on our retention of certain key personnel, our ability
     to hire additional key personnel and the maintenance of good labor
     relations.

  .  We depend on a limited number of third parties for equipment supply,
     service and installation.

  .  We have made and may make acquisitions of complementary technologies or
     businesses in the future, which may disrupt our business and be dilutive
     to our existing stockholders.

  .  The broadband communications industry is undergoing rapid technological
     changes and new technologies may be superior to the technology we use.

  .  A system failure could delay or interrupt service to our customers.

  .  A breach of network security could delay or interrupt service to our
     customers.

  .  Interference in the traditional telephone companies' copper plant could
     degrade the performance of our services.

  .  Our intellectual property protection may be inadequate to protect our
     proprietary rights.

  .  We must comply with federal, state and local tax and other surcharges on
     our service, the levels of which are uncertain.

Forward-Looking Statements

   We include certain estimates, projections, and other forward-looking
statements in our reports, in presentations to analysts and others, and in
other publicly available material. Future performance cannot be ensured. Actual
results may differ materially from those in forward-looking statements. The
statements contained in this Report on Form 10-Q that are not historical facts
are "forward-looking statements" (as such term is defined in Section 27A of the
Securities Act and Section 21E of the Exchange Act), which can be identified by
the use of forward-looking terminology such as "estimates," "projects,"
"anticipates," "expects," "intends," "believes," or the negative thereof or
other variations thereon or comparable terminology, or by discussions of
strategy that involve risks and uncertainties. Examples of such forward-looking
statements include but are not limited to:

  .  expectations regarding our ability to become cash-flow positive;

  .  expectations regarding the extent to which customers roll out our service;

  .  expectations regarding our relationships with our strategic partners and
     other potential third parties;

  .  expectations as to pricing for our services in the future;

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<PAGE>

  .  expectations as to the impact of our service offerings on our margins;

  .  the possibility that we may obtain significantly increased sales volumes;

  .  the impact of advertising on brand recognition and operating results;

  .  plans to make strategic investments and acquisitions and the effect of
     such investments and acquisitions;

  .  estimates and expectations of future operating results, including
     expectations regarding when we anticipate operating on a cash flow basis,
     the adequacy of our cash reserves, our monthly burn rate and the number of
     installed lines;

  .  expectations regarding the time frames, rates, terms and conditions for
     utilizing "line sharing;"

  .  plans to develop and commercialize value-added services;

  .  our anticipated capital expenditures;

  .  plans to enter into business arrangements with broadband-related service
     providers;

  .  expectations regarding the development and commencement of our voice
     services;

  .  our plans to expand our existing networks or to commence service in new
     metropolitan statistical areas;

  .  estimates regarding the timing of launching our service in new
     metropolitan statistical areas;

  .  the effect of regulatory reform and litigation;

  .  the effect of litigation currently pending; and

  .  other statements contained in this Report on Form 10-Q regarding matters
     that are not historical facts.

   These statements are only estimates or predictions and cannot be relied
upon. We can give you no assurance that future results will be achieved. Actual
events or results may differ materially as a result of risks facing us or
actual results differing from the assumptions underlying such statements. Such
risks and assumptions that could cause actual results to vary materially from
the future results indicated, expressed or implied in such forward-looking
statements include our ability to:

  .  collect receivables from customers;

  .  retain end-users that are serviced by delinquent customers;

  .  successfully market our services to current and new customers;

  .  generate customer demand for our services;

  .  defend our company against litigation;

  .  increase the contribution from our direct channel;

  .  reduce our operating costs and overhead in light of the financial
     circumstances of many of our customers while continuing to provide good
     customer service;

  .  continue to increase the number of business-grade lines;

  .  achieve favorable pricing for our services;

  .  respond to increasing competition;

  .  manage growth of our operations; and

  .  access regions and negotiate suitable interconnection agreements with the
     traditional telephone companies, all in a timely manner, at reasonable
     costs and on satisfactory terms and conditions consistent with regulatory,
     legislative and judicial developments.

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<PAGE>

   All written and oral forward-looking statements made in connection with this
report on Form 10-Q that are attributable to us or persons acting on our behalf
are expressly qualified in their entirety by the "Risk Factors" and other
cautionary statements included in document and in our Annual Report on Form
10-K for the year ended December 31, 2001. We disclaim any obligation to update
information contained in any forward-looking statement.

Item 3.  Market Risk

Quantitative and Qualitative Disclosures about Market Risk

   Our exposure to financial market risk, including changes in interest and
marketable equity security prices, relates primarily to our investment
portfolio and outstanding debt obligations. We typically do not attempt to
reduce or eliminate our market exposure on our investment securities because a
substantial majority of our investments are in fixed-rate, short-term
securities. We do not have any derivative instruments. The fair value of our
investment portfolio or related income would not be significantly impacted by
either a 100 basis point increase or decrease in interest rates due mainly to
the fixed-rate, short-term nature of the substantial majority of our investment
portfolio. In addition, all of our outstanding indebtedness as of March 31,
2002 is fixed-rate debt.

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<PAGE>

                          PART II.  OTHER INFORMATION

Item 1.  Legal Proceedings

   On December 13, 2001, the United States Bankruptcy Court for the District of
Delaware (the "Bankruptcy Court") entered an order confirming our
pre-negotiated First Amended Plan of Reorganization, as modified on November
26, 2001 (the "Plan"). On December 20, 2001 (the "Effective Date"), the Plan
was consummated and we emerged from bankruptcy. Under our Plan, we settled
several claims against us. These claims include:

  .  The class action lawsuits filed in the United States District Court for
     the Northern District of California, provided that this settlement will
     not be final unless it is approved by that court. This settlement is
     described in more detail below.

  .  The lawsuits filed in the Superior Court of the State of California for
     the County of Santa Clara by six purchasers of the convertible notes that
     we issued in September 2000.

  .  Disputed claims made by former shareholders of Laser Link.net.

  .  Disputed claims made by GE Capital and its subsidiary, Heller Financial
     Group.

   As of March 31, 2002, there were approximately $27.2 million in unresolved
claims related to our Chapter 11 bankruptcy proceedings. As of March 31, 2002,
we have recorded $18.3 million for these unresolved claims in our condensed
consolidated balance sheet. However, it is reasonably possible that our
unresolved Chapter 11 bankruptcy claims could ultimately be settled for amounts
that differ from the amounts recorded in our condensed consolidated balance
sheet.

   Purchasers of our common stock and purchasers of the convertible notes we
issued in September 2000 have filed complaints on behalf of themselves and
alleged classes of stockholders and holders of convertible notes against us and
certain of our present and former officers and directors. These complaints were
filed in the United States District Court for the Northern District of
California in the fourth quarter of 2000. The complaints have been consolidated
and the lead plaintiff has filed its amended consolidated complaint. The
amended consolidated complaint alleges violations of federal securities laws on
behalf of persons who purchased or otherwise acquired our securities, including
common stock and notes, during the period from April 19, 2000 to May 24, 2001.
The relief sought includes monetary damages and equitable relief. The Company
and the officer and director defendants entered into a memorandum of
understanding ("MOU") with counsel for the lead plaintiffs in this litigation
that tentatively resolves the litigation. The MOU sets forth the terms upon
which the Company, the officer and director defendants and the plaintiffs agree
to settle the litigation. Pursuant to the MOU, the plaintiffs agreed to support
and vote in favor of our bankruptcy plan if it provided for the distribution of
$16.5 million in cash to be funded by the Company's D&O insurance carriers and
approximately 6.5 million shares of our common stock. The plaintiffs voted in
favor of the Plan. The settlement provided for in the MOU is subject to the
approval of the District Court. The approximately 6.5 million shares issuable
to the plaintiffs upon such approval by the District Court were issued on the
Effective Date of the bankruptcy and are being held by the Company in escrow,
pending approval by the District Court. We believe we have strong defenses to
the claims alleged in the lawsuit and intend to contest the lawsuit vigorously
if the District Court does not approve the final settlement. Because this
action is at an early stage, however, we are unable to provide you with an
evaluation of the ultimate outcome of the litigation if the court does not
approve the final settlement agreement. However, we believe it is more likely
than not that this settlement will be completed. We do not expect this process
to be completed for several months.

   In April 1999, we filed a lawsuit against Bell Atlantic (now Verizon) and
its affiliates in the United States District Court for the District of
Columbia. We are pursuing antitrust and other claims in this lawsuit. We also
filed a lawsuit against BellSouth Telecommunications and its subsidiaries in
the United States District Court for the Northern District of Georgia. We are
pursuing antitrust and other claims in this lawsuit arising out of BellSouth's
conduct as a supplier of network facilities, including central office space,
transmission facilities and

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telephone lines. Both BellSouth and Verizon asked the courts to dismiss Covad's
cases on the basis of the ruling of the Seventh Circuit in Goldwasser v.
Ameritech, which dismissed a consumer antitrust class action against Ameritech.
Bell South's motion was granted and we have appealed that decision in the
United States Court of Appeals for the Eleventh Circuit. The District Court in
the District of Columbia has not yet ruled on Verizon's motion. While we
believe our position should prevail, we cannot predict the outcome of these
motions.

   On June 11, 2001, Verizon Communications filed a lawsuit against us in the
United States District Court for the Northern District of California. Verizon
is a supplier of telephone lines that we use to provide services to our
customers. It claims that we falsified trouble ticket reports with respect to
the phone lines that we ordered and made false statements to the public and
governmental authorities critical of Verizon, and seeks unspecified monetary
damages (characterized as being in the "millions") and injunctive relief. The
complaint asserts causes of action for negligent and intentional
misrepresentation and violations of the Lanham Act and the California unfair
business practices statute. We believe we have strong defenses to this lawsuit,
but litigation is inherently unpredictable and there is no guarantee we will
prevail.

   Several stockholders have filed complaints, on behalf of themselves and
purported classes of stockholders, against us and several former and current
officers and directors in addition to some of the our underwriters in the
United States District Court for the Southern District of New York. These
lawsuits are so-called IPO allocation cases, challenging practices allegedly
used by certain underwriters of public equity offerings during the late 1990s
and 2000. The plaintiffs claim that we failed to disclose the arrangements that
some of our underwriters purportedly made with certain investors. We believe we
have strong defenses to these lawsuits and we intend to contest them
vigorously. However, because these lawsuits are at an early stage, we are
unable to provide an evaluation of the ultimate outcome of the litigation.

   A manufacturer of telecommunications hardware named "COVID" has filed an
opposition to our trademark application for the mark "COVAD and design" and is
seeking to cancel our registration of the COVAD trademark. We do not believe
that this opposition has merit, but trademark proceedings are unpredictable and
there is no guarantee we will prevail. If we do not succeed, it could limit our
ability to provide our services under the "COVAD" name. COVID has also filed a
complaint in the United States District Court for the District of Arizona,
alleging claims for false designation of origin, infringement and unfair
competition. COVID is seeking an injunction to stop us from using the COVAD
trademark, as well as an award of monetary damages. We do not believe that
these claims have any merit, but the outcome of litigation is unpredictable and
we cannot guarantee that we will prevail.

   We are also a party to a variety of legal proceedings as either plaintiff or
defendant, or are engaged in business disputes that arise in the ordinary
course of business. We do not believe the ultimate outcome of these matters
will have a material impact on our financial condition or results of operations.

   Failure to resolve these various legal disputes and controversies without
excessive delay and cost and in a manner that is favorable to us could
significantly harm our business. We are not currently engaged in any other
legal proceedings that we believe could have a material adverse effect on our
business, prospects, operating results and financial condition. We are,
however, subject to state commission, FCC and court decisions as they relate to
the interpretation and implementation of the 1996 Telecommunications Act, the
interpretation of competitive telecommunications company interconnection
agreements in general and our interconnection agreements in particular. In some
cases, we may be deemed to be bound by or we may otherwise be significantly
impacted by the results of ongoing proceedings of these bodies or the legal
outcomes of other contested interconnection agreements that are similar to our
agreements. The results of any of these proceedings could harm our business.

   In addition, we are engaged in a variety of negotiations, arbitrations and
regulatory proceedings with multiple traditional telephone companies. These
negotiations, arbitrations and regulatory proceedings concern the traditional
telephone companies' denial of physical central office space to us in certain
central offices, the cost

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<PAGE>

and delivery of central office space, the delivery of transmission facilities
and telephone lines and other operational issues. We remain involved in certain
regulatory proceedings against SBC affiliates Pacific Bell, Southwestern Bell,
and Ameritech. An unfavorable outcome in any of these negotiations,
arbitrations and regulatory proceedings could have a material adverse effect on
our consolidated financial position, results of operations and cash flows.

Item 2.  Changes in Securities and Use of Proceeds

   None

Item 3.  Defaults upon Senior Securities

   None

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

   None

Item 5.  Other Information

   None

Item 6.  Exhibits and Reports on Form 8-K

   a. Exhibits:

   None

   b. Reports on Form 8-K

   No reports on Form 8-K were filed by the Company during the quarter ended
March 31, 2002.

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                                   SIGNATURE

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

                       COVAD COMMUNICATIONS GROUP, INC.

    Date:  May 2, 2002 By:              /s/  CHARLES E. HOFFMAN
                           -------------------------------------------------
                                          Charles E. Hoffman
                            President, Chief Executive Officer and Director

    Date:  May 2, 2002 By:                 /s/  MARK RICHMAN
                           -------------------------------------------------
                                             Mark Richman
                           Senior Vice President and Chief Financial Officer

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