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UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549

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FORM 10-K/A

|(Mark One)                                  |                                                                                         
|------------------------------------------- | ----------------------------------------------------------------------------------------
|ý                                           | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934    
|For the fiscal year ended December 31, 2001
|or                                         
|o                                           | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|For the transition period from
 to         

Commission file number 0-24752

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Wave Systems Corp.(Exact name of registrant as specified in its charter)

|Delaware(State or other jurisdiction of
incorporation or organization)         |  | 13-3477246(IRS Employer
Identification No.)
|------------------------------------------------------------------------------ |  | -------------------------------------------
|480 Pleasant Street
Lee, Massachusetts(Address of principal executive offices) |  | 01238(zip code)                            
|413-243-1600(Registrant's telephone number, including area code)              

Securities registered pursuant to Section 12(b) of the Act:
None

Securities
registered pursuant to Section 12(g) of the Act:Class A Common Stock, $.01 par value
(Title of Class)

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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 ý    No o

Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of
registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.    o

The
aggregate market value of the shares of Common Stock of the registrant held by non-affiliates as of December 11, 2002 was $75,780,531 (For purposes of this
calculation, the market value of a share of Class B Common Stock was assumed to be the same as a share of Class A Common Stock, into which it is convertible.)

As
of December 11, 2002, there were 51,771,918 shares of the registrant's Class A Common Stock and 324,225 shares of the registrant's Class B Common Stock
outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant's Proxy Statement for the Annual Stockholders' Meeting that was held on or about June 24, 2002 are incorporated by reference
into Part III. The Exhibit index is located on page 23.

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EXCEPT FOR HISTORICAL INFORMATION CONTAINED HEREIN, THIS FORM 10-K CONTAINS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF THE U.S. SECURITIES LITIGATION REFORM ACT OF 1995. THESE
STATEMENTS INVOLVE KNOWN AND UNKNOWN RISKS AND UNCERTAINTIES THAT MAY CAUSE WAVE'S ACTUAL RESULTS OR OUTCOMES TO BE MATERIALLY DIFFERENT FROM THOSE ANTICIPATED AND DISCUSSED HEREIN. FURTHER, WAVE
OPERATES IN AN INDUSTRY SECTOR WHERE SECURITIES VALUES MAY BE VOLATILE AND MAY BE INFLUENCED BY REGULATORY AND OTHER FACTORS BEYOND WAVE'S CONTROL. IMPORTANT FACTORS THAT WAVE BELIEVES MIGHT CAUSE
SUCH DIFFERENCES ARE DISCUSSED IN THE CAUTIONARY STATEMENTS ACCOMPANYING THE FORWARD-LOOKING STATEMENTS AND IN THE RISK FACTORS DETAILED IN WAVE'S OTHER FILINGS WITH THE COMMISSION DURING THE PAST 12
MONTHS. IN ASSESSING FORWARD-LOOKING STATEMENTS CONTAINED HEREIN, READERS ARE URGED TO READ CAREFULLY ALL RISK FACTORS AND CAUTIONARY STATEMENTS CONTAINED IN THIS FORM 10-K AND IN THOSE
OTHER FILINGS WITH THE COMMISSION.

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Table Of Contents

|PART I   |                                              | 1 
|-------- | -------------------------------------------- | --
|         | Item 1.                                      |   
|         | Item 2.                                      |   
|         | Item 3.                                      |   
|         | Item 4.                                      |   
|PART II  |                                              | 11
|         | Item 5.                                      |   
|         | Item 6.                                      |   
|         | Item 7.                                      |   
|         | Item 7A.                                     |   
|         | Item 8.                                      |   
|         | Item 9.                                      |   
|PART III |                                              | 26
|         | Item 10.                                     |   
|         | Item 11.                                     |   
|         | Item 12.                                     |   
|         | Item 13.                                     |   
|         | Item 14.                                     |   
|PART IV  |                                              | 29
|         | Item 15.                                     |   
|         | EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS |   

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PART I

Item 1. Business

Wave Systems Corp. develops, produces and markets hardware and software based digital security products for the Internet and e-commerce. Wave's
technology involves the use of encryption, which is the process of making data indecipherable. At the heart of Wave's technology is the EMBASSY (EMBedded
Application Security SYstem) Trust System (the "ETS"). The ETS is a combination of client hardware and software
and a back-office infrastructure that manages its security functions. The client hardware consists of the EMBASSY 2100 security chip (the "EMBASSY chip"). EMBASSY chips may be embedded in
such user devices as computer keyboards, smart card readers, PC motherboards, PC and/or cable modems, personal digital assistants, cable set-top boxes and potentially a wide variety of
other user devices. The EMBASSY chip is used to securely store the user's personal information such as usernames, passwords, personal identification numbers, credit card information and personal
information such as social security number, name and address. In addition, the EMBASSY system stores encrypted software applications that can be called upon to perform a variety of secure functions
such as strong authentication, e-commerce and digital rights management, electronic payments, metering of digital content and other functions.

The
ETS has been designed to combine the security strength of hardware, with the flexibility of software, providing a distributed, open and fully programmable platform. Wave believes the
flexibility of the ETS positions it to exploit future revenue opportunities as privacy and security requirements evolve and change. This flexibility allows EMBASSY to fulfill developing security
requirements, while addressing a broad range of advanced applications such as content protection, user managed privacy, strong authentication of user identities, and distributed
e-commerce. While single function security solutions are available, the architecture achieved by EMBASSY provides the capability for multiple entities, such as service providers, content
owners and individuals to share a single device while trusting that their individual interests have been strongly protected from both local and network sources of attack.

Wave Commerce System

The Wave Commerce System (the "Commerce System") comprises two main functions: authentication and commerce. Each of these functions provides multiple services
enabled by the ETS. The authentication services component positively identifies the person wishing to access protected content. It accomplishes this through a protected applet in conjunction with the
EMBASSY device. The goal of the Commerce System is to provide digital commerce, completely secure from unauthorized access. Web site owners would use authentication services to replace less secure
username/password pairs with strong authentication. Content providers use commerce services to distribute digital content. The Commerce System allows flexible purchase models for the sale of digital
content including rental, rent-to-own and event-based charges. This is accomplished using programs that decrypt the encrypted content to allow the user access on a time
specific basis. This means that content, goods and services can be consumed with more efficient and flexible pricing, broader distribution opportunities and greater protection against unauthorized
usage, with better privacy protection of the consumer's sensitive information.

The
Commerce System utilizes the Wavenet back-office ("Wavenet"). Wavenet is a network of servers that supply full e-commerce functions, customer relationship
management tools, security capabilities and digital rights management. Wavenet is transparent to the consumer. All of the account specific commerce functionality occurs at the user's personal computer
containing an EMBASSY device. Wavenet provides the back-office capabilities that support the following capabilities: content protection, content use metering, micro-transactions, Internet
based communities, Internet based strong authentication and e-commerce.

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Digital Signature and Electronic Document Management

On October 4, 2001 Wave acquired digital signature technology, SmartSignature and SmartSAFE from SignOnLine, Inc. ("SignOnLine"), a California-based
company. SmartSignature is a digital signature application that allows for the interaction of users ("Signers") and financial service providers, such as banks, brokerage houses, lessors and mortgage
companies ("Providers"), whereby the Signer can digitally sign a document that will then be considered a legally binding signature. SmartSAFE is a web-based document management
application, with an upload process initiated by the Signer. Once uploaded, the documents are validated and archived. A Provider may then log into the SmartSAFE to review and manage documents that
have been signed. When a document is requested for viewing, the SmartSAFE creates a certified copy including pertinent signature information. SmartSAFE also supports archival and management of
unsigned documents in virtually any format. The SmartSignature and SmartSAFE products are currently in the process of a significant development effort to complete a new version of the software that
will include several features and functionality that Wave has determined the market may demand. In addition, the product will require additional sales and marketing resources, as well as investment in
infrastructure in order to complete a roll out of the final product, which is expected to occur during the third quarter of 2002.

Data Broadcast

WaveXpress, Inc. ("WaveXpress"), a joint venture between Wave and Sarnoff Corporation, has developed products designed to offer cable television multiple
service operators ("MSOs") a complete solution for implementing a new high speed delivery offering called Internet Protocol Multicast that allows the consumer to experience and manage rich digital
content on their PC. These products are being actively marketed to MSOs. Wave believes that benefits of these products to MSOs include: new incremental revenue streams from dormant, underutilized and
off-peak bandwidth, service bundling opportunities, flexible content and pricing offerings, strength of the ETS security products and an advanced consumer experience. Product design of
Wave's data broadcast service has progressed to the point that we are preparing to sign agreements with MSO's for technical trials of the service. It is expected that while significant further
engineering will be required, the level of development expenditures for this segment is expected to be substantially less than what was incurred in 2001 and 2000. As of December 31, 2001, Wave
owned 69% of WaveXpress while Sarnoff owned 26%.

Wave
was incorporated in Delaware under the name Indata Corp. on August 12, 1988. We changed our name to Cryptologics International, Inc. on December 4, 1989. We
changed our name again to Wave Systems Corp. on January 22, 1993. Our principal executive offices are located at 480 Pleasant Street, Lee, Massachusetts 01238 and our telephone number is
(413) 243-1600.

Wave,
as well as WaveXpress, is a development stage company and has realized minimal operating revenues since our inception. Substantially all of Wave's revenues in each of the three
years ended December 31, 2001 have been related to the ETS. For the years ended December 31, 2001, 2000, and 1999 Wave incurred losses to common shareholders of $48,701,057, $47,656,000,
and $28,066,000, respectively. At December 31, 2001 we had an accumulated deficit of approximately $189,624,000. There can be no assurance that we will ever be successful in achieving
commercial acceptance of the Wave System.

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Markets and Business Strategy

Wave is seeking to become a leader in digital security and e-commerce technology. Our objective is to make our EMBASSY Trust System the preferred
infrastructure for security in the digital economy. Key components in achieving this goal include:



Wave believes that a key differentiator of the ETS is that it is open and programmable and combines the strong security of hardware with the flexibility of
software. Wave believes that ultimately, a truly secure system must include hardware protection. Additionally, Wave foresees that single purpose hardware solutions will not be effective as the
hardware will have to support multiple applications to be an effective solution. Therefore, in a business environment of evolving encryption algorithms, multiple digital rights management solutions,
multiple platforms needing to be supported; Wave's open and programmable, hardware based solution will have significant advantages over software only, or single purpose hardware device solutions.



Wave has designed the ETS with features and functionality that it believes uniquely positions its platform to capitalize on e-commerce issues and
trends. Wave sees these issues and trends as follows:



Wave
will continue to pursue strategic relationships with hardware manufacturers, systems integrators and companies involved in the development of commerce in electronic content and services to
achieve broad market acceptance of its products as a distributed security platform for commerce performed in user devices.



We intend to continue to enter into strategic alliances with key partners that could distribute our products in enterprise, government and consumer markets. Over
the past several months, we have formed alliances with such industry leaders as Samsung Electro-Mechanics Co., Ltd, Maximus, Thomcast Communications, Inc. and SSP Solutions
Solutions, Inc. (formerly know as BIZ Interactive Zone Inc.). In addition, we are pursuing strategic relationships with PC OEM's, Internet Service Providers and major systems
integrators.



We intend to continue to develop and extend our existing product offerings to include features and functionality that will satisfy the changing needs in the
computer security arena and the computing and e-commerce industries in general. Planned development efforts that enhance or utilize existing

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technology include building upon and enhancing our Trusted PC concept (a concept being marketed to PC manufacturers that would bundle their product with an EMBASSY enabled device such as a smart card
reader or smart card reader keyboard to deliver applications to make the PC more secure), to continue development efforts towards standards-based security platforms (such as the European Transactional
IC Card Reader standard, FINREAD) and to also pursue efforts to port the ETS to different computing platforms, as needed. We also intend to continue to develop the new versions of the SmartSignature
and SmartSAFE products that we acquired (see"Digital Signature and Electronic Document Management"above), which represents an entirely new product
line for Wave. These development efforts will likely be significant, and Wave intends to expend a substantial portion of its research and development resources towards these enhancements as well as
significant marketing and corporate development funds to introduce the products and build market demand. As a result, although Wave has reduced its research and development expenditures in 2001, the
continued research and development efforts will require substantial capital resources, which will likely necessitate the need for further funding so that Wave may ultimately be able to capitalize on
the future market opportunities for its products and services. It is expected that these product enhancements will continue, for at least until the end of calendar year 2002.



Wave's business model targets revenues from various sources including: licensing of our technology including EMBASSY and its supporting software infrastructure;
fees from entities who use EMBASSY to secure their applets on PCs; and usage and transaction-based fees from content management, e-commerce and other services enabled by EMBASSY. In
addition, we derive revenue from outright sales of hardware and development contracts.

Wave
has identified four key markets where we believe the EMBASSY Trust System provides unique benefits:



Directly
and through our partners, Wave is aggressively targeting opportunities in these markets, as we believe the ETS provides a wide range of security and trust capabilities not offered in any
other single solution.

Although sales for the year ended December 31, 2002 have grown significantly relative to prior years, the amount of revenues have not reached a level that would contribute
significantly to Wave's

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operations, and have been sporadic. The following is a list of Wave's current customers, their type of sale and market segment:

|Customer                     |  | Product or Service Sold       |  | Market Segment          
|---------------------------- |  | ----------------------------- |  | ------------------------
|SSP Solutions, Inc.          |  | Development contract          |  | Government              
|Hitachi Europe Ltd           |  | Hardware Sales                |  | Electronics Manufacturer
|Cyber-COMM                   |  | Intellectual property license |  | Banking and Finance     
|CIBC World Markets Corp. USA |  | Services contract             |  | Banking and Finance     

Wave does not anticipate significant sales from the customers identified above.

Our
sales force will focus on business development opportunities in these key markets and others. Within these key markets we will focus on closing business with large systems
integrators, financial institutions, Cable MSOs, personal computer manufacturers, and government and enterprise customers.

Backlog

Wave's backlog consists of hardware sales and development contract revenue expected to be recognized in 2002. Wave's backlog as of December 31, 2001 and
December 31, 2000 totaled $243,000 and $0, respectively. Backlog can fluctuate greatly based upon, among other matters, the timing and receipt of orders. Therefore, backlog may not represent a
fair indication of future business trends.

Competition

We operate in a highly competitive and fragmented environment that is characterized by rapidly evolving technology. Many of our competitors and potential
competitors in these markets have





substantially greater financial, technical and marketing resources than us. Also, many current and potential competitors have greater name recognition and more extensive customer bases that could be
leveraged, thereby they can gain market share or product acceptance to our detriment. In addition, the rate of market acceptance of content protection solutions has remained slow. The markets for our
products are developing and have not yet established clearly defined industry standards. Wave's primary competitors include security solutions providers such as Checkpoint Software
Technologies Ltd, Verisign, Inc., RSA Security, Inc., Aladdin Knowledge Systems, Inc. and Baltimore Technologies plc as well as digital certificate authorities
including Geotrust, Inc. and Entrust, Inc. In addition, we complete with manufacturers of secure input devices including SCM Microsystems, Inc., Covadis SA and
SafeNet, Inc.

The competitive factors defining these evolving markets include product performance, compatibility, standards compliance, quality and reliability, ease of use, client services and
support, distribution and price. Wave believes its products meet the requirements to be successful viable products in these markets. Wave's features that should allow its products to compete favorably
include product differentiation of a combined software/hardware solution, system integrity, secure communication, fault tolerance, data privacy, and independent customer operation. In addition, Wave
may have the opportunity to be "first to market" with its data broadcasting and digital signature products.

One of the market challenges facing Wave is the establishment of a newly defined market category for multifunction security devices that includes a more complex business model for
adoption. While Wave has developed a very complex cryptographic system that required significant skills and resources, the market for security solutions that are as complex as those developed by Wave
has not materialized. As a result Wave has been unable to commercialize the technology it has developed. It is also possible for other competitors to develop similar offerings to compete with the ETS,
or new technologies may emerge that could replace existing technology that our products rely on, thereby making our products

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non-competitive or obsolete. We can offer no assurances that Wave's products will become industry standards or become widely accepted by the marketplace.

International Market

Most of our products and many components of the ETS are controlled under various United States export control laws and regulations and may require export licenses
for certain exports of the products and components outside of the United States and Canada. We have received full export license from the U.S. Department of Commerce for the sale and export of our
single-key Data Encryption Standard ("DES") products. We have also received an export license for our triple-key DES chips under the provisions of License Exceptions KMI or
ECN, granted by the Bureau of Export Administration of the U.S. Department of Commerce ("BXA"). The remainder of our products and components of the ETS are generally exportable to any
end-user in any country throughout the world with the exception of Cuba, Iran, Iraq, Libya, North Korea, Sudan and Syria.

We
can provide no assurance that we will have patent protection or that we will not infringe patents of other parties in foreign jurisdictions. Because electronic monitoring and the
transmission of audited usage and financial information on end users or payment instructions may be subject to varying statutory or regulatory controls in foreign jurisdictions, the use of all
portions of the ETS may not be permitted in any particular foreign jurisdiction.

Proprietary Rights and Licenses and Intellectual Property

Our success depends, in part, on our ability to enjoy or obtain protection for our products and technologies under United States and foreign patent laws,
copyright laws and other intellectual property laws, to preserve our trade secrets and to operate without infringing the proprietary rights of third parties. Any issued patent owned or licensed by us
may not, however, afford adequate protection to us and may be challenged, invalidated, infringed upon or circumvented. Furthermore, you should understand that our activities may infringe upon patents
owned by others.

In
addition, we may be required to obtain licenses to patents or other proprietary rights of other parties. Licenses required under any such patents or proprietary rights may not be made
available on terms acceptable to us, if at all. If we are required to and do not obtain such licenses, we would be prevented from or encounter delays in the development and marketing of our products
and technologies while we attempt to design around such patents or other rights. Such attempts may not be successful. Failure to obtain such licenses or to design around such patents or other rights
would have a material adverse effect on us.

We
hold non-exclusive patent rights relating to the metered use of encrypted data in local memory under a limited license from Titan Corporation to a patent jointly held by
Titan and a third party (the "Licensed Patent"). This license agreement restricts us from metering information produced and used solely by a government entity or producing products that meter this
information. In addition, this license agreement is subject to the rights of the joint owners of this patent, who have the right to exploit, or to license this patent to third parties in a manner that
may be competitive with us. The joint owners of this patent may compete with us or license this patent to a competitor of ours, or our business may exceed the scope of this license agreement. Pursuant
to this license agreement, we are obligated to pay certain royalties to Titan. Pursuant to this license agreement, we have granted to Titan the exclusive right to use our patents for products
distributed to government entities. On February 28, 1997 Wave and Titan executed an addendum to this license agreement whereby we received a sole license to this patent to develop and
distribute products to the in-home consumer microcomputer market segment. Under this addendum to this license agreement, Titan waived any and all defaults by us under this license
agreement occurring prior to February 28, 1997.

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We
are aware of four United States patents (the "Third Party Patents") each having some claims that are similar to some of the claims in the Licensed Patent. Based upon information
currently known to
us, some of the claims of both the Licensed Patent and the Third Party Patents cover certain material aspects of our technology. Therefore, the commercialization of our technology would be subject to
the rights of the holder of the Third Party Patents unless we are able to invalidate such claims or license such technology. Also, the holder of the Third Party Patents or a licensee of the Third
Party Patents could seek to invalidate such claims of the Licensed Patent and therefore be able to commercialize a technology similar to our technology. In either case, in order to invalidate the
other party's patent rights, the party claiming invalidity might need to prove that it invented the claimed subject matter prior to the other party. We cannot provide any assurance that we would be
successful in invalidating such claims of the Third Party Patents or that the holder of the Third Party Patents or a licensee of the Third Party Patents would not be successful in invalidating the
claims of the Licensed Patent. Furthermore, we cannot provide any assurance that the Third Party Patents could be proven to be invalid on any other basis. Any proceeding involving the validity of the
Licensed Patent and the Third Party Patents would be protracted and costly. In any suit contesting the validity of a patent, the patent being contested would be entitled to a presumption of validity
and the contesting party would be required to demonstrate invalidity of such patent by clear and convincing evidence.

If
the Third Party Patents are not invalid insofar as their claims relate to our technology, then we would require a license from the holder of the Third Party Patents to commercialize
our technology and make, use, or sell products or practice methods, or license others to sell products or use methods, utilizing this technology in the United States. Due to the uncertainty as to
whether the Third Party Patents could be proved to be invalid, we engaged in negotiations with the holder of the Third Party Patents to obtain a license under the Third Party Patents. As a result of
these negotiations, Wave has entered into a license of limited rights to use the Third Party Patents in connection with certain uses. Wave did not obtain, however, a general license to use such
patents in connection with activities not connected with the licensor.

Wave
has been issued ten (10) United States patents relating to encryption and to our proprietary EMBASSY and Wave Commerce technology. We also have six patents pending before the
United States Patent Office. In addition, we have filed foreign patent applications for seven patents. Our patents are material to protecting some of our technology.

Some
of our patent rights derive from a license from Wave's Chairman, Mr. Peter J. Sprague, of his rights in these patents, and several agreements with former officers regarding
their rights in these patents. The license agreement with Mr. Sprague requires us to make royalty payments to him and Dr. John R. Michener, a former officer, in a total amount equal to
two percent of gross revenues less certain adjustments. This royalty payment is apportioned 75 percent to Mr. Sprague and 25 percent to Dr. Michener. The payment of
royalties is secured by a security interest in and to our patents. We believe that these agreements as a whole provide us with exclusive rights under our patents. There can by no assurance that we
will enjoy exclusive rights to these patents under such agreements.

We
rely on trade secrets and proprietary know-how, which we protect, in part, by confidentiality agreements with our employees and contract partners. However, we caution you
that our confidentiality agreements may be breached and we may not have adequate remedies if such a breach occurs. Furthermore, we can provide no assurance that our trade secrets will not otherwise
become known or be independently discovered by competitors.

We
also rely on copyright law to prevent the unauthorized duplication of our software and hardware products. We have and will continue to protect our software and our copyright interest
therein through agreements with our consultants. We can provide no assurance that copyright laws will adequately protect our technology.

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We
have registered trademark and service mark registrations with the United States Patent and Trademark Office for the marks WaveMeter and WaveNet, EMBASSY, Great Stuff Network, Second
Shift (the Wave juggler logo), WaveCommerce, Wave Interactive Network, WaveDirect, WINPublish, WINPurchase,CablePC, iShopHere and Face/Eye logo (iShopHere.com face logo). We have submitted trademark
registrations for, EMBASSY System, Netpass, CharityWave and Trust @ the Edge, Signon-line, Inc., Smartsignature, Smartsafe and others. Wave intends to apply for additional name and
logo marks in the United States and foreign jurisdictions as appropriate. No assurance can be given that federal registration of any of these trademarks in the United States will be granted. We have
abandoned our prior applications for DataWave, InfoWave, and WaveTrac.

Research and Development

Wave's products incorporate semiconductor, encryption/decryption, software transaction processing and other technologies in which we have made a substantial
investment in research and development. We will likely be required to continue to make substantial investments in the design of the ETS, the Commerce System our SmartSignature and SmartSAFE products,
and IP Multicasting products. For the years ended December 31, 2001, 2000, and 1999 we expended approximately $17.7 million, $20.9 million, and $10.7 million, respectively,
on research and development activities (such amounts include the value of stock issued). In addition to our ongoing research and development activities, in July 1997 we licensed technology and
in-process research and development from Aladdin Knowledge Systems ("Aladdin") for cash and warrants valued at $3.9 million. This technology is an integral part of the Commerce
System. The success of the Wave System depends to a large extent on our ability to adapt the Wave System for use with various methods for the distribution of electronic content, the ability of Wave's
technology to interface with various platform environments, and the ability of Wave's products to work in many application environments. Incorporation of Aladdin's Hasp technology furthered these
efforts and illustrates the adaptive capabilities of Wave's products. A significant portion of our future research and development expenditures will be used to adapt the Wave System accordingly.

We
will also continue to expend a significant amount of resources on the development of new iterations of the ETS and the Commerce System. By providing various means of linking the ETS
to the customer's computer or network, we will be more likely to achieve broad acceptance of our technology. We are currently researching other form factors for the EMBASSY chip to target other market
needs.

We
are now focusing increased resources on developing our operational infrastructure. We are placing greater emphasis on developing internal production and fulfillment systems and
marketing infrastructure to distribute Wave's products. We will also increase the resources available to the Commerce System to adapt to changing market requirements. We plan to continue to expand the
Commerce System to handle more end users, to implement more sophisticated pricing methodologies and to add greater financial system flexibility.

Recent Developments

In October 2000, Wave entered into a $10 million comprehensive development agreement with BIZ Interactive Zone, Inc., a privately held
company, to integrate Wave's EMBASSY Trusted Client technology into BIZ's suite of products for deployment into 5 million digital set top boxes and integrated gateway products such as cable and
DSL modems. The development agreement outlined the broad objectives of the project but it required that the parties complete a more detailed plan with related milestones in order to guide the overall
project.

On
February 2, 2001, Wave entered into a stock purchase agreement with BIZ, under which it acquired 3,600,000 shares of the Series B Preferred Stock of BIZ in exchange for
2,000,000 shares of Wave's Class A Common Stock, at a price of $7.16 per share, for an aggregate purchase price of

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$14,312,800. Wave's investment in BIZ represented approximately 17.8% of the outstanding capital stock of BIZ. Accordingly, Wave accounted for this investment using the Cost Method of accounting, as
the investment represents less than a 20% ownership interest in BIZ and because Wave does not have significant influence over BIZ. On August 24, 2001 Litronic, Inc. ("Litronic"), a
provider of authentication and encryption security technology, completed a merger with BIZ to form SSP Solutions. SSP Solutions trades on the NASDAQ National Stock Market as SSPX. As a result of the
merger, Wave now holds 3,083,083 shares (14.95%) of the common stock of SSP Solutions. (See also Item 7A. Quantitative and Qualitative Disclosure about Market Risk).

In
May of 2001, the development agreement with BIZ discussed above, was amended whereby, the parties agreed to a $5 million development services contract pursuant to which Wave
agreed to port its EMBASSY platform to run in a Linux environment. In addition, BIZ agreed to place with Wave an open $5 million purchase order for EMBASSY products. Payment terms of the
agreement provided that SSP Solutions make payments of $277,778 per month for eighteen months. In addition, the parties agreed that in the event that SSP Solutions failed to pay any monthly instalment
within 30 days of receiving written notice by Wave that it is in default, the unpaid portion of the instalment would automatically convert into a stock acquisition right allowing Wave to
acquire a number of shares in SSP Solutions to be determined by dividing the unpaid amount by the fair market value of SSP Solutions common stock. Revenue under the development services agreement had
been recognized on a percentage of completion basis limited to cash received and milestones accomplished. Milestones included specific software development objectives that must be accepted by SSP
Solutions.

In
April of 2001, Wave (through WaveXpress) and Thomcast Communications, Inc. signed a strategic R&D, Marketing and Sales Agreement to create an end-to-end
datacasting solution for terrestrial broadcasters. The parties agreed to work towards integrating the companies' technologies as an end-to-end solution for broadcasters of
high-definition television signals in the United States with the outlook that customers would purchase an integrated or partially integrated solution sold by the Thomcast sales
organization. In addition, the parties agreed to work together to explore datacasting business models to present to broadcasters to demonstrate the viability of datacasting and the WaveXpress model in
particular. Under the agreement, there were no fixed financial commitments on either party other than the agreement that each party would fund its own efforts in the collaborations.

In
June of 2001, Wave and SCM Microsystems, Inc. formed a strategic relationship and signed an agreement, pursuant to which SCM Microsystems agreed to produce and Wave agreed to
purchase 10,000 EMBASSY smart card readers at a total cost of approximately $555,000. The smart card readers have been designed to address European Level 5 standards for secure pin entry and secure
display. Level 5 specifications guarantee a level of online security that is among the highest in the world, enabling secure electronic transaction protocols and other forms of secure financial
services transactions. The new EMBASSY readers will have the ability to support a continually high level of flexibility and security by working in conjunction with Wave's back office infrastructure
for secure distribution of applications to the devices that can provide various security functions.

In
August of 2001, Wave and Maximus signed a strategic agreement to identify and close joint business opportunities through co-marketing their products and services to
government agencies nationwide. Maximus, a leading provider of program management, information technology and consulting services to government agencies, will offer the ETS as part of their total
security solutions portfolio. Wave will co-market Maximus development services for creating EMBASSY applications. Under the agreement, there were no fixed financial commitments on either
party other than the agreement that each party would fund its own efforts in the collaborations.

In
October of 2001, Wave acquired digital signature and electronic document management technology from SignOnLine, Inc. This acquisition was recorded as an asset purchase as it
did not meet the criteria of a business combination, but was rather an acquisition of assets, under generally accepted

9

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accounting principals. Wave acquired two products, SmartSignature and SmartSAFE, which combine powerful e-signature capability with secure storage functions thus meeting both the signing
and authoritative record requirements of the e-Sign legislation. The technology ensures the integrity of a legally-binding digital contract by a process of ensuring a signer's identity
through strong authentication methods. Wave is marketing these products to financial institutions as a means for them to enable their customers to sign documents electronically, thus eliminating the
need to move paper documents back and forth between the institution and the consumer. The financial institution will then have the ability to store legally executed documents electronically, as
opposed to keeping paper copies of these documents. In addition, Wave acquired a number of computer servers in connection with the transaction.

In
November of 2001, Wave and Samsung Electro-Mechanics Co., Ltd began working together to manufacturer and market secure keyboards containing a built in smart card reader built
around Wave's EMBASSY chip. Wave believes this is a key step to bring its secure smart card reader technology to market by integrating a secure EMBASSY-based smart card reader directly into the PC
keyboard, with no other attachments needed.

Employees

As of December 31, 2001, we employed 180 full-time employees, 86 of whom were involved in sales, marketing and administration and 94 of whom
were involved in research and development (including 34 employed by WaveXpress, 14 of whom were in sales, marketing and administration and 20 of whom were involved in research and development.) As of
December 31, 2001 we retained the services of 7 full-time consultants, 1 of whom was retained by WaveXpress. We believe our employee relations are satisfactory.

Item 2. Properties

Summarized below is a listing of properties leased by Wave. Our principal research and development activities are conducted at the Princeton and Cupertino
facilities.

|Facility        |  | Sq. Ft. |  | Monthly
Base Rent |        | Utility/Common
Costs |   | Lease Expires
|--------------- |  | ------- |  | ----------------- | ------ | -------------------- | - | -------------
|Lee, MA         |  | 16,548  |  | $                 | 12,258 |                      | $ | 0            
|New York, NY    |  | 4,500   |  |                   | 14,250 |                      |   | 0            
|Nashville, TN   |  | 5,757   |  |                   | 3,409  |                      |   | 526          
|Princeton, NJ   |  | 21,673  |  |                   | 43,346 |                      |   | 2,312        
|Cupertino, CA   |  | 12,329  |  |                   | 42,712 |                      |   | 2,609        
|New York, NY    |  | 12,282  |  |                   | 42,987 |                      |   | 9,371        
|Orvault, France |  | 1,000   |  |                   | 2,674  |                      |   | 400          

Item 3. Legal Proceedings

As of December 31, 2001 Wave was not involved in any material litigation, nor, to management's knowledge is any material litigation threatened against them
or their properties other than routine litigation arising in the ordinary course of business.

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

None.

10

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PART II

Item 5. Market for Registrant's Common Equity and Related Stockholder Matters

The Class A Common Stock trades on the Nasdaq National Market under the symbol "WAVX". The following table sets forth, for the periods indicated, the high
and low closing sales prices per share for the Class A Common Stock. There is no established trading market for our Class B Common Stock.

High

LowYear Ended December 31, 2001First Quarter

$
9.34

$
3.47Second Quarter


5.37


3.26Third Quarter


4.19


1.69Fourth Quarter


3.48


1.52Year Ended December 31, 2000First Quarter

$
47.94

$
11.50Second Quarter


32.44


13.00Third Quarter


24.06


15.06Fourth Quarter


16.00


4.50


As
of March 18, 2002, there were approximately 33,000 holders of our Class A Common Stock. As of such date, there were 30 holders of our Class B Common Stock.

On
March 18, 2002, the last sale price reported on the Nasdaq National Market for the Class A Common Stock was $2.10.

We
have never declared nor paid any cash dividends on our capital stock. We currently anticipate that we will retain all future earnings, if any, to fund the development and growth of
our business and do not anticipate paying any cash dividends on our capital stock in the foreseeable future.

Recent Sales of Unregistered Securities

On February 2, 2001 Wave issued 2,000,000 shares of its Class A Common Stock, at a price of $7.16 per share, for an aggregate purchase price of
$14,312,800 to acquire 3,600,000 shares of the Series B Preferred Stock of BIZ, then a privately held company. Wave's investment in BIZ represented approximately 17.8% of the outstanding
capital stock of BIZ. Accordingly, the investment had been accounted for under the cost method of accounting, because the investment is less than 20% of the outstanding capital stock of BIZ and
because Wave could not exercise significant influence over BIZ. On August 24, 2001 Litronic and BIZ completed a merger of the two companies and renamed the newly formed company SSP Solutions.
As a result of the merger, Wave now holds 3,083,083 shares (14.95%) of the common stock of SSP Solutions. Wave has accounted for this investment as non-current marketable equity securities
available for sale based upon our intent to hold these securities as a long-term investment. As of December 31, 2001, this investment was valued at $11,160,758 based on that day's
closing price of SSP Solutions common stock on the NASDAQ national exchange of $3.62 per share.

11

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Item 6. Selected Financial Data

Statement of Operations Data

|                                                                       |                                                           | Year-ended December 31, |            
|---------------------------------------------------------------------- | --------------------------------------------------------- | ----------------------- | -----------
|
|Revenues, Net                                                          |                                                           | $                       | 692,125    
|                                                                       | Cost of Sales                                             |                         |            
|                                                                       |                                                           |                         |            
|                                                                       | Gross Margin                                              |                         |            
|                                                                       |                                                           |                         |            
|Operating expenses:                                                    |                                                           |                         |            
|                                                                       | Selling, general and administrative                       |                         |            
|                                                                       | Research and development                                  |                         |            
|                                                                       | Acquisition Costs                                         |                         |            
|                                                                       | Amortization of Goodwill                                  |                         |            
|                                                                       | Write-off of Goodwill                                     |                         |            
|                                                                       | Write-off Impaired Assets                                 |                         |            
|                                                                       | Aladdin Technology License Expense                        |                         |            
|                                                                       | In-Process Research & Development                         |                         |            
|                                                                       |                                                           |                         |            
|                                                                       |                                                           |                         | 47,642,487 
|                                                                       |                                                           |                         |            
|Other income (expense):                                                |                                                           |                         |            
|                                                                       | ITG Technology License Fee                                |                         |            
|                                                                       | License ITG Warrant Cost                                  |                         |            
|                                                                       | Loss on Other than Temporary Decline in Equity Securities |                         |            
|                                                                       | Equity in net losses of GlobalWave                        |                         |            
|Net interest and other income (expense)                                |                                                           |                         | 2,688,105  
|                                                                       |                                                           |                         |            
|Net loss                                                               |                                                           |                         | (48,701,057
|Accrued dividends on preferred stock                                   |                                                           |                         |           
|Assured incremental yield                                              |                                                           |                         |           
|                                                                       |                                                           |                         |            
|Net loss to common stockholders                                        |                                                           | $                       | (48,701,057
|                                                                       |                                                           |                         |            
|Weighted average number of common shares outstanding during the period |                                                           |                         | 49,949,875 
|Loss per common share-basic and diluted                                |                                                           | $                       | (0.97      
|                                                                       |                                                           |                         |            
|Cash dividends declared per common share                               |                                                           |                         | 0          

See Notes to Financial Statements

12

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Balance Sheet Data

|                              |  | As of December 31
|----------------------------- |  | -----------------
|
|Working capital (deficiency). |  | $                
|Total assets                  |  |                  
|Long-term liabilities         |  |                  
|Total Liabilities             |  |                  
|Redeemable preferred stock    |  |                  
|                              |  |                  
|Total stockholders' equity    |  | $                
|                              |  |                  

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

Overview

Wave develops, produces and markets hardware and software based digital security products for the Internet and e-commerce. Wave is also engaged in
various research, development and marketing efforts to commercialize the Commerce System to provide more efficient and flexible pricing (e.g., pay per use or rent-to-own) and
greater security on the usage of the electronic content. Wave also develops data broadcasting and products that perform digital signature and electronic document management functions. Since our
inception in February of 1988, we have devoted substantially all of our efforts and resources to research, feasibility studies, design, development, and market testing of our products and technology.
As our research and development activities matured, we have been able to devote increased resources to the creation of content distribution services, market development and the application of our
technology to end-user products and services. However, the market for our products and services is still developing and is continually evolving. Wave's offering represents a highly complex
architecture designed to solve many of the security issues currently present with e-commerce and with computer systems in general such as identity theft, fraudulent transactions, virus
attacks, unauthorized access to restricted networks and other security problems that users of computer systems generally encounter. Moreover, Wave's technology involves a new approach to conducting
business and exchanging information using computer systems and, as a result, intensive marketing and sales efforts have been and will continue to be necessary in order to generate demand for products
using Wave's technology.
From inception through December 31, 2001, we have realized only minimal operating revenues, and do not anticipate significant revenues for at least the next fiscal year. This is due to the
early stage nature of market development for our products and services and the digital security industry as a whole. Wave expects to continue to incur substantial additional expenses associated with
continued research and development and business development activities that will be necessary to commercialize our technology. This will likely result in significant losses for the foreseeable future.
There are numerous risks that could adversely affect our efforts to achieve profitability.

For
the years ended December 31, 2001, 2000 and 1999 we have incurred approximately $24.2 million, $26.6 million, and $16.7 million in selling, general and
administrative expenses, respectively. The activities supported by these expenditures include business development, sales, marketing (including product development and product management), corporate
communications and public relations, information technology and management information systems, human resources, accounting, executive management, corporate governance and general administrative
functions. As we have evolved our technology and expanded upon our original product vision, the business development activities and cost of supporting those activities has grown considerably. This
growth is attributable to our expansion, as we have branched out into different technologies such as developing data broadcast technology with the investment into WaveXpress, the development of our
existing open programmable

13

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architecture which was accomplished in large part through our acquisition of N*ABLE Technologies Inc., and our expansion into digital signature and electronic document management through our
acquisition of Smartsignature and SmartSAFE. In addition, we have expanded internationally having made a significant investment in GlobalWave Limited in an attempt to exploit overseas markets. The
cost associated with supporting this expansion has been substantial and has added significantly to our cash requirements over the past three years. Given the early stage nature of the markets for
products that use our technology, we have expended and will continue to expend considerable resources, in the sales, marketing, business development and support activities referred to above that will
be necessary for us to be successful in developing salable products and markets for our technology.

In
June 2000, Wave increased its ownership percentage of GlobalWave Limited, from 25% to 40%. On October 10, 2000, Wave entered into an agreement with GlobalWave Limited
and its Joint Venture partner Redwave, plc., formerly Internet Technology Group, plc. ("ITG"), to subscribe for additional shares to maintain a 40% ownership interest in the venture. As consideration
for the additional shares, Wave committed to invest approximately $5.7 million in cash and development services. Wave accounts for its investment in GlobalWave using the equity method of
accounting, and accordingly recognizes its share (40%) of GlobalWave's results of operations in the accompanying consolidated statement of operations.

On
July 27, 1999, Wave completed the acquisition of N*ABLE Technologies, Inc., a security solutions company that produces hardware-based security solutions for the
protection of sensitive user data within network client systems, including a hardware-based security co-processor that manages the secure transfer of payment or sensitive personal
information to and from desktop computers. Wave paid the shareholders of N*ABLE total consideration of 2,280,821 shares of our Class A Common Stock (subject to certain post closing
adjustments). The closing price per share as of the closing date was $10.38. Founded in 1996, N*ABLE was located in Danvers, Massachusetts, with offices in Cupertino, California and Bouguenais,
France. The transaction was accounted for under the pooling-of-interests method of
accounting and the financial data in the Selected Financial Data table above and in the discussion below has been restated for all periods assuming the acquisition occurred on the first day of the
first period presented.

In April 1999, WaveXpress, a joint venture between Wave and Sarnoff was established. For technology licensed to WaveXpress, Sarnoff and affiliates received a 40% equity stake in
WaveXpress. Wave and its affiliates who purchased, for a nominal amount, founders stock in April 1999 owned the remaining 60% of the outstanding capital stock. The affiliates of Wave include
Peter Sprague and Steven Sprague, the Chairman and Chief Executive Officer of Wave, respectively, certain members of the Board of Directors of Wave and certain employees of Wave. This affiliate group
owned, in the aggregate, 7% of the outstanding capital stock of WaveXpress. As of December 31, 2001, Wave owned 69% of WaveXpress while Sarnoff owned 26%. The equity interests of Wave, Sarnoff
and Wave's affiliates referred to above, assuming all of Wave's and Sarnoff's convertible securities are converted and warrants are exercised, would be approximately 82%, 15%, and 3%, respectively.
Wave is also funding WaveXpress through a series of convertible notes and expects to continue to provide funding until an external round of funding can be attained. These notes can be converted into
equity by Wave. Through December 31, 2001, Wave has loaned approximately $25.9 million in funds under these notes, of which $9.5 million had been converted to WaveXpress common
stock as of December 31, 2001.

The
financial statements of WaveXpress have been consolidated with those of Wave for the years ended December 31, 2001, 2000 and 1999. As the joint venture minority partners,
Sarnoff and the Wave affiliates, have not contributed any cash and are not required to fund the operations of the joint venture, Wave has not recorded a minority interest in WaveXpress in the
consolidated financial statements and therefore, has reflected 100% of WaveXpress' operating results in these consolidated financial statements.

14

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The
following discussion related to the consolidated financial statements of Wave should be read in conjunction with the financial statements appearing in Item 8.

Critical Accounting Policies

The following accounting policies are deemed critical to the understanding of the consolidated financial statements included under Item 8Financial
Statements and Supplementary Data.

Method of Accounting for Joint VenturesWave accounts for its investments in joint ventures using the equity method of
accounting when its ownership interest in the joint venture is less than fifty percent and it is determined that Wave has the ability to exercise significant influence over the joint venture's
operating and financial policies. The financial statements of joint ventures in which Wave owns greater
than a fifty percent interest are consolidated with Wave's financial statements pursuant to Accounting Principles Board ("APB") Opinion No. 18.

15

---

Marketable Securitiesdebt securities and publicly traded equity securities are classified as available for sale and are
recorded at market using the specific identification method. Unrealized gains and losses are reflected in other comprehensive income. Unrealized losses that are determined to be other than temporary
are recognized as charges against earnings. Factors considered when determining if an other than temporary declines has occurred include: whether a decline in market value is related to specific
concerns of the issuer of the securities as opposed to general market conditions, the length of time of the decline in market price, the financial condition and near-term prospects of the
issuer and other factors that may indicate that the value of the securities will not recover. All other investments, excluding joint venture arrangements, are recorded at cost.

InventoriesInventories, which are stated at the lower of cost or net realizable value, consist of inventory held for resale
to customers. Cost is determined on the first-in, first-out basis and includes freight and other incidental costs incurred. Wave provides inventory allowances based on excess
and obsolete inventories.

Goodwill and Purchased Intangible AssetsGoodwill and purchased intangible assets are carried at cost less accumulated
amortization. Amortization is computed using the straight-line method over the expected useful life of the asset (currently 2 to 3 years). In accordance with the Financial
Accounting Standards Board's ("FASB") Statement of Financial Accounting Standard No. 121 ("SFAS 121"), Wave assesses the recoverability of goodwill and purchased intangible assets by
determining whether the amortization of the goodwill balance over its remaining life can be recovered through undiscounted future operating cash flows of the related acquired operation. The amount of
goodwill impairment, if any, is measured based on projected discounted future operating cash flows using a discount rate reflecting Wave's average cost of funds. The assessment of the recoverability
of goodwill is impacted if estimated future operating cash flows are less than the net carrying value of the asset.

Research and Development and Software Development CostsResearch and development costs are expensed as incurred. Software
development costs are accounted for pursuant to Statement of Financial Accounting Standards No. 86 "Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed"
which requires software development costs to be capitalized when a product's technological feasibility has been established. In accordance with SFAS 121, Wave assesses the recoverability of
capitalized costs of software development costs by determining whether the amortization of the balance over their remaining life can be recovered through undiscounted future operating cash flows of
the related acquired operation. The amount of capitalized software development costs impairment, if any, is measured based on projected discounted future operating cash flows using a discount rate
reflecting Wave's average cost of funds. The assessment of the recoverability of capitalized software development costs is impacted if estimated future operating cash flows are less than the net
carrying value of the asset.

Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed OfWave reviews its
long-lived assets and certain identifiable intangibles for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable.
Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future net cash flows expected to be generated by the asset. If such assets are
considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceed the fair value of the assets. Assets to be disposed of are
reported at the lower of the carrying amount or fair value less costs to sell.

Revenue RecognitionWave's business model targets revenues from various sources including: licensing of our technology
including EMBASSY and its supporting software infrastructure; fees from entities who use EMBASSY to secure their applets on PCs; and usage and transaction-based fees from content management,
e-commerce and other services enabled by EMBASSY. In addition, we derive revenue from sales of hardware and from development contracts. To date, our sales arrangements have

16

---

not included multiple-elements, nor have our arrangements required significant modification or customization of the software except for our contract with SSP Solutions for which we used the
percentage of completion method of accounting that is described below.

Wave
follows the provisions of statement of position "SOP" 97-2,Software Revenue Recognitionas amended by SOP
98-9, Modification of SOP 97-2,Software Revenue Recognition, with Respect to Certain Transactions. Generally, Wave recognizes
revenue when it is realized or realizable and earned. Wave considers revenue realized or realizable and earned when persuasive evidence of an arrangement exists, the product has been shipped or the
services have been provided to the customer, the sales price is fixed or determinable and collectability is reasonably assured. Wave reduces revenue for estimated customer returns, rotations and sales
rebates when such amounts can be estimated. When these amounts cannot be estimated Wave defers revenue until the product is sold to the end-user. Revenue from software license agreements
that have significant customizations and modification of the software product is deferred and recognized in a manner that approximates the percentage of completion method. In addition to the
aforementioned general policy, the following are the specific revenue recognition policies for each major category of revenue.



Revenue from delivered elements of one-time charge licensed software is recognized at the inception of the license term, provided Wave has
vendor-specific objective evidence of the fair value of each undelivered element. Revenue is deferred for undelivered elements. Revenue is also deferred for the entire arrangement if vendor-specific
objective evidence does not exist for each undelivered contract element. Examples of undelivered elements in which the timing of delivery is uncertain include contractual elements that give customers
rights to any future upgrades at no additional charge or future maintenance that is provided within the overall price. The revenue that is deferred for any contract
element is recognized when all of the revenue recognition criteria has been met for that element. However, it has not been our practice to provide periodic updates or maintenance to maintain system
performance.

Revenue
from the sale of hardware components is recognized when persuasive evidence of an arrangement exists, the product has been shipped to the customer, the sales price is fixed and
determinable and collectivity is reasonably assured.

All
product is shipped with ownership passing to the buyer upon leaving our premises and payment terms are generally net 30.



Revenue from time and material service contracts is recognized as the services are provided. Revenue from fixed price, long-term service or
development contracts is recognized over the contract term based on the percentage of services that are provided during the period compared with the total estimated services to be provided over the
entire contract. Losses on fixed price contracts are recognized during the period in which the loss first becomes apparent. Payment terms vary by contract.

In
October 2000, we entered into a $10 million comprehensive development agreement with SSP Solutions to integrate Wave's EMBASSY Trusted Client technology into the SSP
Secure Service Provider Suite to be deployed in 5 million digital set top boxes and integrated gateway products such as cable and DSL modems. In May 2001 the agreement was
amended whereby under the amended terms of the agreement, the parties agreed to a $5 million development services contract whereby Wave agreed to port its EMBASSY platform to run in a Linux
environment. In addition, SSP Solutions agreed to place with Wave an open $5,000,000 purchase order for EMBASSY products. Payment terms of the agreement provide that SSP Solutions make payments of
$277,778 per month for eighteen months. In addition, the parties agreed that in the event that SSP Solutions fails to pay any monthly

17

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installment, within 30 days of receiving written notice by Wave that it is in default, the unpaid portion of the installment shall automatically convert into a stock acquisition right allowing
Wave to acquire a number of shares in SSP Solutions to be determined by dividing the unpaid amount by the fair market value of SSP Solutions common stock. As the contract was for a discrete project to
integrate our technology with the SSP platform, revenue under the development services agreement has been recognized on a percentage of completion basis in accordance with SOP 97-2 as it
relates to contract accounting under SOP 81-1. Percentage complete is determined based upon the actual costs incurred compared to the total estimated costs to complete, subject to cash received
and milestones accomplished. Milestones include specific software development objectives that must be completed and accepted by SSP Solutions. As of December 31, 2001 Wave has received $555,556
in cash and has not exercised any stock appreciation rights. We have recognized approximately $358,000 in revenue under the development agreement.

Comparison of the years ended December 31, 2001 and 2000

Results of Operations

For the twelve months ended December 31, 2001 and December 31, 2000, revenues were $692,125 and $332,522 respectively. Revenue growth can be
primarily attributed to a significant increase in hardware sales and service contract revenues, offset by a decrease in licensing and other revenue, as set forth in the following table:

2001

2000

Increase/(Decrease)

% ChangeProduct

$
192,506

$
4,400

$
188,106

4275
%Services


430,724





430,724

Licensing and Other


68,895


328,122


(259,227
)
(79
)%Total Net Revenues


692,125


332,522


359,603

108
%


The
service contract revenue was derived primarily from a development contract with SSP Solutions, a shareholder of Wave. Wave also owns 14.95% of SSP Solutions. The service contract
revenue derived from this development contract for the year ended December 31, 2001 was $357,591, or 83% of the
total service contract revenue. Revenue on the contract is being recognized on a percentage of completion basis limited to cash received and milestones accomplished. Cost of sales for the twelve
months ended December 31, 2001, was $369,166 compared with $58,864 for the same period in 2000. Cost of sales in 2001 is not comparable to costs of sales for 2000, as the sales mix differed
substantially in 2001 versus 2000. Sales in the year-ended 2001 from contracts and hardware produced margins of 45% versus sales for the year ended 2000 which consisted largely of license
revenues, producing a much higher overall profit margin of 82%.

Research
and development expenses for the twelve months ended December 31, 2001 were $17,691,051, as compared to $20,866,055 for the comparable period of 2000. This 15% decrease
in research and development expenses was primarily attributable to lower consultant costs, which decreased by $2,669,000, associated with a lessened design and development effort with respect to our
proprietary integrated circuit technology and software, Significant development initiatives undertaken during the year ended December 31, 2000 included major enhancements to Wavenet, the
development of EMBASSY II, the development of the EMBASSY applet developers kit, the creation of the "Trust Assurance Network" and the development of core EMBASSY applets. Many of these projects were
substantially completed near the end of the 1st quarter of 2001. Accordingly, as the development of these projects were substantially complete, Wave reduced its consultant work force
early in 2001 resulting in significantly less research and development costs incurred during the year. WaveXpress' research and development expenses were $3,916,845 for the year ended
December 31, 2001 versus $5,188,098 for the year ended December 31, 2000. The amounts set forth above include the

18

---

WaveXpress amounts referred to herein. Also, the reasons for the reduction in expenditures set forth above pertain to both Wave as a whole and WaveXpress.

Selling, general and administrative expenses for the twelve months ended December 31, 2001 were $24,184,317 as compared to $26,553,634 for the comparable period of 2000. The 9%
decrease in selling, general and administrative expenses was attributable to several factors. A number of consultant positions were eliminated during 2001 and were either not replaced or were
converted to in-house employees, reducing the overall cost per headcount. Consultants that supported products and/or lines of business that Wave had been developing during the year ended
December 31, 2000; but later de-emphasized, or abandoned in 2001 were eliminated. These included our Internet related businesses: MyPublish.com; a service that allows individual
publishers to offer digital content for sale via the MyPublish.com website, CharityWave.com; an on-line charitable donation service, Wave Direct; a website offering digital content that could be
consumed using a Wave hardware device; and IshopHere.com; an internet shopping portal and products that relied upon legacy hardware technology, that became obsolete. These products and services never
reached full scale production as the demand never reached a level that would have warranted a full scale production launch. Reductions of consultant and professional fees accounted for cost reductions
of approximately $895,000. The consultant services that were eliminated primarily involved the process of content preparation (that is, the process of encrypting digital content to be consumed using
the Wave Commerce System). Wave also reduced trade show costs by $320,000 and advertising and marketing expenses by $362,000. These savings were achieved by attending fewer trade shows and by bringing
the corporate marketing function in-house and using fewer outside marketing consultants. Additionally, during 2001 Wave undertook an aggressive cost cutting program that resulted in
reductions in travel and entertainment expenses of $681,000 and reductions of office supplies expenses totaling $357,000. Finally, substantial savings were achieved by eliminating recruiting expenses
of $1,044,000 as Wave stabilized its work force late in the year-ended 2000 and into 2001. Offsetting these reductions were increases to employee compensation



and fringe expenses totaling $898,000 and litigation settlements of $410,000. Bonuses of approximately $1,570,000 and $1,616,000 were paid to employees for the years ended December 31, 2001 and
2000, respectively. WaveXpress incurred selling, general and administrative expenses of $4,800,927 in 2001, compared to $4,992,285 for 2000, for a decrease of 4%. The reasons set forth above encompass
WaveXpress as well as Wave as a whole.

Goodwill
amortization associated with the acquisition of iShopHere.com, for the year ended December 31, 2001 was $1,720,632 versus $573,544 in the year ended December 31,
2000. This is the result of a full year's amortization having been taken for the year-ended December 31, 2001, while only four months' expense was taken in the year ended
December 31, 2000, as the acquisition took place on August 31, 2000.

In
the first quarter of 2001, we took a charge of $1,562,500 to write off a technology license that it had purchased in connection with the development of the WaveXpress data broadcast
system. Additionally in the fourth quarter of 2001, Wave wrote off $199,417 for hardware; also part of the WaveXpress terrestrial data casting system. These write-offs totaling $1,761,917
were the result of modifications to WaveXpress' business model; consequently, the value of these assets became impaired because they were no longer needed in the business and had no alternative uses.

As
a result of the decline in current business conditions, and our realignment of resources to focus on what it considers high-growth markets and core opportunities, Wave
recorded in the fourth quarter of 2001, a charge of $2,284,570 related to the impairment of goodwill and purchased intangible assets associated with the purchase of Indigo Networks LLC. This amount is
equal to the carrying amount of the assets prior to the impairment charge. Accordingly, the carrying amount of the goodwill and purchased intangible assets as of December 31, 2001 is $0.

19

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We
recorded a provision for inventory obsolescence totaling $933,304 in 2001. This charge related to chips based on legacy technology that Wave is no longer actively marketing, and
therefore became impaired.

The
in-process research and development ("IPRD") expense incurred in the year-ended December 31, 2000 was related to the acquisition of Indigo and its
e-commerce shopping network, iShopHere.com. The portion of the purchase price allocated to in-process research and development for this acquisition was approximately 29% of the
total purchase price of $7,445,000. The IPRD was valued using an income approach. The cash flows were discounted to present value at an appropriate rate. The discount rate was determined by an
analysis of the risks associated with each of the identified intangible assets. The resulting net cash flows to which the discount rate of 27% was applied were based on management's estimates of
revenues, operating expenses and income taxes from such acquired in-process technology.

Other Income and Expenses

Interest income for the year ended December 31, 2001 was $2,688,105 versus $5,103,716 for the year ended December 31, 2000, for a decrease of 47%.
This decrease resulted from a decrease in interest bearing assets during 2001 and lower rates earned on those interest bearing assets. Equity in losses of GlobalWave were $2,332,159 and $3,406,491 for
the year ended December 31, 2001 and 2000, respectively. The decrease resulted from a reduction in GlobalWave's net loss, and Wave's portion being limited to Wave's investment in GlobalWave of
$5.7 million, which was reached in the fourth quarter of 2001.

As
of December 31, 2001 Wave took a charge for an "other than temporary decline" in the value of its investment in SSP Solutions of $1,736,682. This charge was taken because a
decline in SSP Solutions's share price had occurred due to concerns about SSP Solutions' financial condition and near-term prospects. As a result of this charge the cost basis of the
investment as of December 31, 2001 has been adjusted to $12,576,118.

The
Gain on Sale of marketable equity securities in the year ended December 31, 2000 resulted from the acquisition of ITG. Wave recognized the gain as the amount of cash received
in the transaction over the book basis of the 1,000,000 shares.

Comparison of the years ended December 31, 2000 and 1999

For the twelve months ended December 31, 2000 and December 31, 1999, revenues were $332,522 and $187,515 respectively. Revenue growth can be
attributed to increased licensing and other revenue, which consisted of software and technology licensing agreements of approximately $252,000 and $76,000 in usage and transaction fees for content
distribution in 2000 as opposed to hardware security co-processor sales from which most of the 1999 revenues were derived, as set forth in the following table:

2000

1999

Increase/(Decrease)

% ChangeProduct

$
4,400

$
167,234

$
(162,834
)
(97
)%Services










Licensing and Other


328,122


20,281


307,841

1,518
%Total Net Revenues


332,522


187,515


145,007

77
%


The
cost of sales for the twelve months ended December 31, 2000, was $58,864 compared with $93,170 for the same period in 1999. This was the result of higher margins on sales
associated with licensing arrangements versus sales of hardware products.

20

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Research
and development expenses for the twelve months ended December 31, 2000 were $20,866,055, as compared to $10,697,971 for the comparable period of 1999. This 95% increase
in research and development expenses was primarily attributable to an increase in salaries and fringe expense of approximately $2,515,000 and consultant costs which increased approximately $5,023,000
associated with the design and development of our proprietary integrated circuit technology and software. Significant development initiatives undertaken during the year ended December 31, 2000
included major enhancements to Wavenet, the development of EMBASSY II, the development of the EMBASSY applet developers kit, the creation of the "Trust Assurance Network" and the development of core
EMBASSY applets. In addition, WaveXpress experienced significant expenditures in developing its data broadcast system. WaveXpress' research and development expenses were $5,188,098 for the year ended
December 31, 2000 versus $769,733 in for the year ended December 31, 1999, since its operations only began in October of 1999.

Selling,
general and administrative expenses for the twelve months ended December 31, 2000 were $26,553,634 as compared to $16,749,276 for the comparable period of 1999. The 58.5%
increase in selling, general and administrative expenses was primarily attributable to an increase in salary and fringe expenses of $4,420,000, consultants and professional fees of $2,818,000, trade
shows of $526,000, equipment of $334,000 and other related costs associated with the development and marketing of new applications and pursuing new markets for our technology. In addition, WaveXpress
was in operation for the entire year ended December 31, 2000, as its operations began in October of 1999. WaveXpress incurred selling, general and administrative expenses of $4,992,285 in 2000,
compared to $1,084,415 for 1999.

In
addition to the increases in research and development and selling, general and administrative expenses referred to above, Wave recognized an in-process R&D expense of
$2,176,000 and goodwill amortization of $573,544 in the year ended December 31, 2000 associated with the acquisition of iShopHere.com. These expenses were not incurred for the
year-ended December 31, 1999. Acquisition costs associated with pooling-of-interest acquisitions were $0 for the year-ended December 31,
2000, versus $1,494,000 for the year-ended December 31, 1999. For the reasons described above, total operating expenses for the year-ended December 31, 2000 were
$50,169,234 compared with $28,941,247 for the year-ended December 31, 1999.

Net
interest and other income/(expense) for the twelve months ended December 31, 2000 was $5,646,173 as compared to ($455,669) for the comparable period of 1999. This change
resulted from increased interest income of $4,486,410, primarily attributable to an increase in interest-bearing assets. This was a direct result of the private placement of Class A Common
Stock for an aggregate purchase price of $122,427,000; a gain of approximately $542,000 on the sale of marketable equity securities; and the elimination of $833,000 of interest expense resulting from
the pay-off of all outstanding debt. In addition, Wave incurred other charges of $240,000 in 1999. No such charges were incurred in 2000.

Equity
in the net losses of GlobalWave, an unconsolidated subsidiary accounted for under the equity method, was $3,406,491 for the year-ended December 31, 2000. No
losses associated with this subsidiary were recognized in 1999 or any prior years, as Wave had not funded nor had it committed to provide any funding prior to 2000.

Wave
did not realize any license fee income for the year ended December 31, 2000 versus the $1,250,000 that was recognized for the year ended December 31, 1999. The license
fee for 1999 was the final portion of a $5 million fee paid by ITG to Wave as part of a joint venture agreement under which ITG received the right to market the Wave technology in European and
Middle Eastern markets. Additional development work had been committed to support increased distribution efforts in 2001 at a cost of approximately $1.6 million.

For
the year ended December 31, 2000, WaveXpress incurred a net loss of approximately $11.2 million versus approximately $1.9 million for the year ended
December 31, 1999. WaveXpress has

21

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not realized any revenues since inception. The expense components that make up their net losses for the years-ended December 31 2000 and 1999 are described above.

Acquired In-Process Research and Development

During the year ended December 31, 2000, Wave recorded IPRD charges of $2,176,000 related to the acquisition of Indigo and its e-commerce
shopping network, iShopHere.com. The portion of the purchase price allocated to in-process research and development for this acquisition was approximately 29% of the total purchase price
of $7,445,000. Wave's management was primarily responsible for estimating the fair value of purchased in-process research and development. At the acquisition date, Indigo was in the
process of developing technology which would add functionality and features, and developing a new platform for its product. The IPRD had not yet reached technological feasibility, had no alternative
uses, and may not have achieved commercial viability. At the acquisition date, management estimated that completion of the IPRD would be accomplished in November 2000. The initial development
effort had commenced in January, 2000. At the valuation date, the new technology had not reached a completed prototype stage, although some beta testing on portions of the technology had begun. At the
valuation date, the IPRD was approximately 75% complete, based on costs incurred on the IPRD through the acquisition date versus the total costs estimated to complete the project. The IPRD was
substantially completed within the time originally estimated. The IPRD project was valued using an income approach. This approach took into consideration earnings remaining after deducting from cash
flows related to the in-process technology, the market rates of return on contributory assets, including assembled workforce, merchant agreements working capital and fixed assets. The cash
flows were then discounted to present value at an appropriate rate. The discount rate was determined by an analysis of the risks associated with each of the identified intangible assets. The resulting
net cash flows to which the discount rate of 27% was applied were based on management's estimates of revenues, operating expenses and income taxes from such acquired in-process technology.

Liquidity and Capital Resources

We have experienced net losses and negative cash flow from operations since our inception, and, as of December 31, 2001, had a deficit accumulated during
the development stage of $189,624,124, and stockholders' equity of $53,805,406. We have financed our operations principally through the issuance of Class A and B Common Stock and various series
of preferred stock, for total proceeds since inception of approximately $204,775,000.

At
December 31, 2001, we had $40,437,119 in unrestricted cash and cash equivalents. At December 31, 2000, we had $80,703,890 in cash and cash equivalents. We held
marketable equity securities with a value of $11,171,124 ($11,160,758 of which is classified as non-current) as of December 31, 2001 versus $1,923,305 in marketable securities at
December 31, 2000. The decrease in cash and cash equivalents resulted from $38,214,486 used in operating activities and $1,507,598 used to purchase property and equipment, including the
purchase of software and intangible assets. In addition, $544,687 was used in financing activities which consisted of loans to officers of $1,299,640, offset by proceeds from the issuance of Common
Stockprimarily from exercises of employee stock options and warrants totaling
$754,953. Loans to officers totaling $963,320 came due in February and March of 2002, and were extended for an additional one year.

Wave's
commitment to invest approximately an additional $1.6 million in GlobalWave was satisfied in the first quarter of 2002. This amount is included in Accrued Expenses as of
December 31, 2001. In addition, as of December 31, 2001, Wave was committed to provide $850,000 in loans to Specialty Broadcast Networks, Inc. ("SBN"), under an Unsecured
Convertible Term Note Agreement (the "SBN Note") that Wave entered into with SBN on August 3, 2001. Wave owns 50% of SBN's outstanding common stock and had provided approximately $150,000 under
the SBN Note as of December 31, 2001. Wave's commitment to make further loans under this note expired in February 2002. Wave has no

22

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plans to renew its commitment to providing any additional loans to SBN. Wave accounts for its investment in SBN using the equity method of accounting. SBN's operations are not material to Wave's
financial position and results of operations.

Wave's
significant commitments with respect to leases, inventory purchases and software development contracts are as follows:

|                     |  | 2002 |           | 2003 |   | 2004    |  | 2005 |         | 2006 |   | Thereafter |  | Total
|-------------------- |  | ---- | --------- | ---- | - | ------- |  | ---- | ------- | ---- | - | ---------- |  | -----
|Leases               |  | $    | 1,826,621 |      | $ | 761,281 |  | $    | 641,758 |      | $ | 621,623    |  | $    
|Inventory Purchases  |  |      | 983,723   |      |   |        |  |      |        |      |   |           |  |      
|Software Development |  |      | 515,767   |      |   |        |  |      |        |      |   |           |  |      
|                     |  |      |           |      |   |         |  |      |         |      |   |            |  |      
|Total Committments   |  | $    | 3,326,111 |      | $ | 761,281 |  | $    | 641,758 |      | $ | 621,623    |  | $    

WaveXpress has been funded entirely by Wave through a series of convertible promissory notes (the "Notes"). Through December 31, 2001 Wave
has provided approximately $25.9 million in funds under the Notes, including accrued interest of $2.3 million. Wave expects to continue funding WaveXpress through the Notes and similar
notes at least through fiscal 2002. Presently, Wave has committed to funding WaveXpress up to an additional $1.6 million under the Notes.

As
of December 31, 2001, we had available net operating loss carryforwards for Federal income tax purposes of approximately $145 million. Because of the "change in
ownership" provisions of the Tax Reform Act of 1986, our net operating loss carryforwards may be subject to an annual limitation on the utilization of these carryforwards against taxable income in
future periods if a cumulative change in ownership of more than 50 percent of Wave occurs within any three-year period. We have made no determination concerning whether there has
been such a cumulative change in ownership. However, we believe that it is likely that such a change in ownership occurred prior to or following the completion of our initial public offering in
September 1994.

Wave
had outstanding loans receivable from officers totaling $1,380,050 as of December 31, 2001. Some of the loans, as indicated below were extended beyond their original terms by
one year. These loans and the extensions thereon were granted to the officers to allow them to satisfy certain personal financial obligations that would otherwise have required them to liquidate some
of their holdings of Wave shares. The loans were granted and extended as a means to mitigate a potential unfavorable impact to Wave's share price as a result of the officers selling large blocks of
shares. The officer loans consist of the following:

On
March 26, 2001 Wave made a personal loan to Mr. Gerard T. Feeney, Senior Vice President, Chief Financial Officer and Secretary of Wave as evidenced by a demand note for
$250,000, which sum was due and payable to Wave on March 26, 2002 and bears interest at a rate per annum equal to 1% over the prime interest rate. The due date of the demand note was
subsequently extended until March 26, 2003. As of March 31, 2002 the loan balance, including accrued interest thereon was approximately $271,000.

Also
during 2001, Wave made personal loans to Mr. Peter J. Sprague, Chairman of Wave totaling approximately $1,062,000. The loans were evidenced by demand notes for $713,000 dated
February 27, 2001, $185,000 dated July 25, 2001 and $164,000 dated September 5, 2001. These notes carry terms of one year and bear interest at a rate per annum equal to 1% over
the prime rate of interest. One of the demand notes in the amount of $713,000 plus accrued interest of $45,000 came due on February 27, 2002 and was extended for an additional year beyond its
original due date. As of March 31, 2002 the loan balances, including accrued interest thereon was approximately $1,141,000.

At
December 31, 2001, Wave had working capital of $36,963,617, including the loans receivable from officers referred to above, totaling approximately $1,380,000, which we believe
are fully collectable. Wave may also use the officers' future bonuses to reduce this debt if bonuses are

23

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warranted. These loans are due in July and September 2002 and February and March of 2003. If the loans are not repaid, Wave would be required to raise additional funds to continue operating.
Wave expects to continue to incur substantial additional expenses resulting in significant losses for the foreseeable future. However, considering our current cash balance and Wave's projected
operating cash requirements, we anticipate that our existing capital resources will be adequate to satisfy our cash flow requirements through the first quarter of 2003.

However,
as Wave has not yet attained commercial acceptance of its products and has not generated any significant operating revenue, considerable uncertainty currently exists with
respect to the adequacy of current funds to support our activities beyond the first quarter of 2003. This uncertainty will continue until a positive cash flow from operations is achieved.
Additionally, Wave is uncertain as to the availability of financing from other sources to fund any cash deficiencies.

In
order to reduce this uncertainty, Wave continues to evaluate additional financing options and may therefore elect to raise capital, from time to time, through equity or debt
financings in order to capitalize on business opportunities and market conditions and to insure the continued development of Wave's technology, products and services. There can be no assurance that
Wave can raise additional financing in the future.

Recent Accounting Pronouncements

On July 20, 2001, FASB issued Statements No. 141, Business Combinations ("SFAS No. 141") and No. 142 Goodwill and Other Intangible
Assets ("SFAS No. 142"). SFAS No. 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. Poolings initiated prior to
June 30, 2001 are grandfathered. SFAS No. 142 replaces the requirement to amortize intangible assets with indefinite lives and goodwill with a requirement for an impairment test. SFAS
No. 142 also requires an evaluation of intangible assets and their useful lives and a transitional impairment test for goodwill and certain intangible assets. After the transition, the
impairment tests must be performed annually. A company must adopt SFAS No. 142 at the beginning of the fiscal year. Thus, as a calendar year-end company, Wave must adopt SFAS.
No. 142 no later than January 1, 2002. Wave is currently examining the impact of this pronouncement on its results of operations and financial position, but currently believes the impact
will not be material.

FASB
recently issued SFAS No. 143, Accounting for Asset Retirement Obligations ("SFAS No. 143") which addresses financial accounting and reporting for obligations
associated with the retirement of tangible long-lived assets and the associated asset retirement costs. SFAS No. 143 requires an enterprise to record the fair value of an asset
retirement obligation as a liability in the period in which it incurs a
legal obligation associated with the retirement of a tangible long-lived asset. SFAS No. 143 also requires the enterprise to record the contra to the initial obligation as an
increase to the carrying amount of the related long-lived asset and to depreciate that cost over the remaining useful life of the asset. The liability is changed at the end of each period
to reflect the passage of time and changes in the estimated future cash flows underlying the initial fair value measurement. SFAS No. 143 is effective for fiscal years beginning after
June 15, 2002. Wave is currently examining the impact of this pronouncement on the results of its operations and financial position, but currently believes the impact will not be material.

On
October 3, 2001, FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS No. 144"), which addresses financial
accounting and reporting for the impairment or disposal of long-lived assets and supersedes SFAS No. 121. SFAS No. 144, retains many of the fundamental provisions of SFAS
No. 121. SFAS No. 144 also supersedes the accounting and reporting provisions of APB Opinion 30, Reporting the Results of OperationsReporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions ("ABP 30"), for the disposal of a segment of a business. However, it retains the

24

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requirement in APB 30 to report separately discontinued operations and extends that reporting to a component of an entity that either has been disposed of (by sale, abandonment, or in a distribution
to owners) or is classified as held for sale. SFAS No. 144 is effective for fiscal years beginning after December 15, 2001 and interim periods within those fiscal years. Wave is
currently examining the impact of this pronouncement on its results of operations and financial position, but currently believes the impact will not be material.

Item 7A. Quantitative and Qualitative Disclosure about Market Risk

Wave's investment portfolio consists of minority equity investments in publicly traded companies. Most predominantly, we hold a 14.95% interest in SSP Solutions.
(See Recent Sales of Unregistered Securities under Item 5). These securities are generally classified as available for sale and, consequently, are recorded on the balance sheet at fair value with
unrealized gains and losses reported as a separate component of accumulated other comprehensive income (loss), net of tax. These investments are inherently risky because the market for the
technologies or products they have under development are typically in the early stages and may never materialize. In addition, the values of these investments are subject to significant market price
volatility. For example, as a result of market price volatility, we experienced a $3.3 million decrease in net unrealized gains during the year ended December 31, 2001. In addition, we
recorded a charge against earnings associated with a loss in value on our investment in SSP Solutions of $1.7 million that was considered to be "other than temporary". These equity securities
are held for purposes other than trading. The following table presents the hypothetical change in fair values of Wave's investments in marketable equity securities of publicly traded entities using
the high and low closing prices of the securities from January 1, 2001 through March 22, 2002:

|                   |  | Fair Value at
the lowest closing price
January 1, 2001
through March 22, 2002 |           | Fair Value as of
December 31, 2001 |   | Fair Value at
the highest closing price
January 1, 2001
through March 22, 2002
|------------------ |  | ----------------------------------------------------------------------------- | --------- | ---------------------------------- | - | ------------------------------------------------------------------------------
|Corporate Equities |  | $                                                                             | 7,712,027 |                                    | $ | 11,171,124                                                                    

The
exposure to market risk associated with interest rate-sensitive instruments is not material. Wave's cash and cash equivalents consist primarily of money market funds that
meet high credit quality standards and the amount of credit exposure to any one issue is limited.

Item 8. Financial Statements and Supplementary Data

The consolidated financial statements, the notes thereto, and the independent auditors' report thereon are presented beginning at page F-1 of this
Form 10-K and are hereby incorporated by reference into this Item 8. The quarterly financial information required by this Item 8 is included in the Notes to Consolidated Financial
Statements.

Item 9. Changes in and Disagreements with Accountant on Accounting and Financial Disclosure

Not Applicable.

25

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PART III

Item 10. Directors and Executive Officers of the Registrant

The response to this item is incorporated by reference from the discussion responsive thereto under the captions "Management" and "Section 16(a) Beneficial
Ownership Reporting Compliance" in Wave's Proxy Statement for the 2002 Annual Meeting of Stockholders.

Item 11. Executive Compensation

The response to this item is incorporated by reference from the discussion responsive thereto under the caption "Executive Compensation" in Wave's Proxy Statement
for the 2002 Annual Meeting of Stockholders.

Item 12. Security Ownership of Certain Beneficial Owners and Management

The following table sets forth certain information concerning the beneficial ownership of Wave's Class A and Class B Common Stock as of
April 25, 2002 (except as otherwise noted) by (i) each stockholder who is known by Wave to own beneficially more than five percent of the outstanding Class A or Class B
Common Stock, (ii) each director of Wave, (iii) each of the executive officers of Wave named in the Summary Compensation Table below, and (iv) all directors and executive officers
of Wave as a group. Holders of Class A Common Stock are entitled to one vote per share on all matters submitted to a vote of the stockholders of Wave. Holders of Class B Common Stock are
entitled to one vote per share on all matters submitted to a vote of the stockholders, except that holders of Class B Common Stock will have five votes per share in cases where one or more
directors are nominated for election by persons other than Wave's Board of Directors and where there is a vote on any merger, consolidation or other similar transaction which is not recommended by
Wave's Board of Directors. In addition, holders of Class B Common Stock will have five votes per share on all matters submitted to a vote of the stockholders in the event that any person or
group of persons acquires beneficial ownership of 20% or
more of the outstanding voting securities of Wave. Shares of Class B Common Stock are convertible into shares of Class A Common Stock on a one-for-one basis at
the option of the holder.

|Beneficial Owner(1)                                              |  | Number of Shares of Class A Common Stock Owned(2) |  | Percent
of Class |  | Number of Shares of Class B Common Stock Owned |  | Percent
of Class |  | Percent
of All Outstanding Common Stock(3)
|---------------------------------------------------------------- |  | ------------------------------------------------- |  | ---------------- |  | ---------------------------------------------- |  | ---------------- |  | ------------------------------------------
|Peter J. Sprague (4), (12)                                       |  | 1,794,168                                         |  | 3.1              |  | 161,000                                        |  | 49.2             |  | 3.4                                       
|John E. Bagalay, Jr. (5)                                         |  | 116,000                                           |  | *                |  | 0                                              |  | *                |  | *                                         
|Nolan Bushnell (6)                                               |  | 46,316                                            |  | *                |  | 4,316                                          |  | 1.3              |  | *                                         
|George Gilder (7)                                                |  | 198,000                                           |  | *                |  | 2,000                                          |  | *                |  | *                                         
|John E. McConnaughy, Jr. (8)                                     |  | 56,750                                            |  | *                |  | 0                                              |  | *                |  | *                                         
|Steven Sprague (9), (12)                                         |  | 1,604,994                                         |  | 2.9              |  | 42,102                                         |  | 12.9             |  | 3.0                                       
|Gerard T. Feeney (10)                                            |  | 666,667                                           |  | 1.3              |  | 0                                              |  | *                |  | 1.3                                       
|All executive officers and directors as a group (7 persons) (11) |  | 4,482,895                                         |  | 7.6              |  | 209,418                                        |  | 64.0             |  | 8.1                                       

---

26

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Item 13. Certain Relationships and Related Transactions

Note Receivable from Director/Officers

Wave had outstanding loans receivable from officers totaling $1,380,050 as of December 31, 2001. Some of the loans, as indicated below were extended beyond
their original terms by one year. These loans and extensions thereon, were granted to the officers to allow them to satisfy certain personal financial obligations that would otherwise have required
them to liquidate some of their holdings of Wave shares. The loans were granted and extended as a means to mitigate a potential unfavorable impact to Wave's share price as a result of the officers
selling large blocks of shares. The officer loans consist of the following:

On
March 26, 2001 Wave made a personal loan to Mr. Gerard T. Feeney, Senior Vice President, Chief Financial Officer and Secretary of Wave as evidenced by a demand note for
$250,000, which sum was
due and payable to Wave on March 26, 2002 and bears interest at a rate per annum equal to 1% over the prime interest rate. Interest on the loan accrues monthly and is payable at maturity. The
due date of the demand note was subsequently extended until March 26, 2003. As of March 31, 2002 the loan balance, including accrued interest thereon was approximately $271,000. The
largest aggregate amount outstanding with respect to the loan to Mr. Feeney during 2001 was $264,000.

Also
during 2001, Wave made personal loans to Mr. Peter J. Sprague, Chairman of Wave totaling approximately $1,062,000. The loans were evidenced by demand notes for $713,000 dated
February 27, 2001, $185,000 dated July 25, 2001 and $164,000 dated September 5, 2001. These notes carry terms of one year and bear interest at a rate per annum equal to 1% over
the prime rate of interest. Interest on

27

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the loans accrues monthly and is payable at maturity. One of the demand notes in the amount of $713,000 plus accrued interest of $45,000 came due on February 27, 2002 and was extended for an
additional year beyond its original due date. As of March 31, 2002 the loan balances, including accrued interest thereon was approximately $1,141,000. The largest aggregate amount outstanding
with respect to the loans to Mr. Sprague during 2001 was $1,116,000.

Sarnoff Corporation

During 2001, WaveXpress made payments to Sarnoff for consulting services to functionally emulate and test the preparation and transmission of content through
satellite connectivity totaling $396,000. Sarnoff owns approximately 26% of the outstanding common stock of WaveXpress, a majority owned subsidiary of Wave. Wave believes the terms upon which these
services were rendered were comparable to the terms that would have been available with unaffiliated parties.

Specialty Broadcast Networks

In August 2001, Wave loaned $150,000 to SBN pursuant to the SBN Note. SBN's business is to create new video and Internet content networks and aggregate
this content into commercially viable web sites and interactive networks. The loans were made to SBN to fund initial operations. The largest aggregate amount due Wave under the SBN Note during 2001
was $154,083, including accrued interest of $4,083. Wave also entered into a stockholder agreement pursuant to which Wave acquired a 50% stake in SBN, for a nominal amount. Steven Sprague is a
director and Executive Officer of SBN. The SBN Note bears interest at a rate per annum equal to the prime rate and is convertible into shares of SBN common stock. Interest on the note accrues monthly.
As of March 31, 2002 the loan balance, including accrued interest thereon was approximately $155,000.The SBN Note together with accrued interest is due and payable no later than
April 30, 2004. Wave's commitment to make further loans to SBN pursuant to the SBN Note expired on February 3, 2002, and Wave has made no further loans to SBN.

Compensation to Michael Sprague

During 2001, Michael Sprague, son of Mr. Peter J. Sprague, the Chairman and former Chief Executive Officer of Wave, served as Vice President of Services
Development of WaveXpress and was paid a salary of $120,000 for serving in this capacity.

Item 14. Controls and Procedures



28

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PART IV

Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K

(a)
(1) Financial Statements:

|                                                                                                                                                                                                                                                |  | Page(s)
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------
|Index to Consolidated Financial Statements                                                                                                                                                                                                      |  | F-1    
|Independent Auditors' Report                                                                                                                                                                                                                    |  | F-2    
|Consolidated Balance Sheets as of December 31, 2001 and 2000                                                                                                                                                                                    |  | F-3    
|Consolidated Statements of Operations for each of the years ended December 31, 2001, 2000 and 1999 and for the period from February 12, 1988 (inception) through December 31, 2001                                                              |  | F-4    
|Consolidated Statements of Stockholders' Equity (Deficiency) and Other Comprehensive Income (Loss) for each of the years ended December 31, 2001, 2000 and 1999 and for the period from February 12, 1988 (inception) through December 31,
2001 |  | F-5    
|Consolidated Statements of Cash Flows for each of the years ended December 31, 2001, 2000 and 1999 and for the period from February 12, 1988 (inception) through December 31, 2001                                                              |  | F-10   
|Notes to Consolidated Financial Statements                                                                                                                                                                                                      |  | F-12   

(a)
(2) Financial Statement Schedules:
All schedules have been omitted since they are either not required or not applicable.

(a)
(3) Exhibits:

|Exhibit No. |  |   |  | Description of Exhibit                                                                                                                                                                                                                                             
|----------- |  | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|3.1*        |  |  |  | Restated Certificate of Incorporation of Wave (incorporated by reference to Exhibit 3.1 of Wave's Registration Statement on Form S-1, File No. 33-75286)                                                                                                           
|3.2*        |  |  |  | Bylaws of Wave (incorporated by reference to Exhibit 3.2 of Wave's Registration Statement on Form S-1, File No. 33-75286)                                                                                                                                          
|4.1*        |  |  |  | Form of Stock Certificate of Class A Common Stock (incorporated by reference to Exhibit 4.1 of Wave's Registration Statement on Form S-1, File No. 33-75286)                                                                                                       
|4.2*        |  |  |  | Form of Representative's Warrant Agreement, including the Form of Representative's Warrant (incorporated by reference to Exhibit 4.2 of Wave's Registration Statement on Form S-1, File
No. 33-75286).                                                             
|4.3*        |  |  |  | Certificate of Designation of Series B Preferred Stock of Wave as filed with the Delaware Secretary of State on May 24, 1996 (incorporated by reference to Exhibit 3.1 of Wave's Current Report on Form 8-K filed on
May 30, 1996, File No. 0-24752)               
|4.4*        |  |  |  | Certificate of Designation of Series C Convertible Preferred Stock of as filed with the Delaware Secretary of State on December 27, 1996 (incorporated by reference to Exhibit 3.1 of Wave's Current Report on
Form 8-K filed on January 8, 1997, File No. 0-24752)
|4.5*        |  |  |  | Certificate of Designation of Series D Convertible Preferred Stock of as filed with the Delaware Secretary of State on December 27, 1996 (incorporated by reference to Exhibit 3.1 of Wave's Current Report on Form 8-K
filed on June 3, 1997, File No. 0-24752)   

29

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|4.6*    |  |  |  | Certificate of Designation of Series F Convertible Preferred Stock of Wave as filed with the Delaware Secretary of State on October 9, 1997 (incorporated by reference to Exhibit 3.1 of Wave's Current Report on
Form 8-K filed on October 15, 1997, File No. 0-24752)                                                                 
|------- |  | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|4.7*    |  |  |  | Certificate of Designation of Series G Convertible Preferred Stock of Wave as filed with the Delaware Secretary of State on March 5, 1998 (incorporated by reference to Exhibit 3.1 of Wave's Current Report on
Form 8-K filed on March 19, 1998, File No. 0-24752)                                                                     
|+10.1*  |  |  |  | Joint Technology Development Agreement, dated as of May 1, 1992, between The Titan Corporation and Cryptologics International, Inc. (incorporated by reference to Exhibit 10.2 of Wave's Registration Statement on
Form S-1, File No. 33-75286)                                                                                         
|+10.2*  |  |  |  | License and Cross-License Agreement, dated as of May 1, 1992, between The Titan Corporation and Cryptologics International, Inc. (incorporated by reference to Exhibit 10.3 of Wave's Registration Statement on
Form S-1, File No. 33-75286)                                                                                            
|10.3*   |  |  |  | Amendment to License and Cross-License Agreement, dated as of August 27, 1993, between The Titan Corporation and Wave (incorporated by reference to Exhibit 10.4 of Wave's Registration Statement on Form S-1, File
No. 33-75286)                                                                                                       
|10.4*   |  |  |  | Amended and Restated License Agreement, dated February 14, 1994, by and among Wave, Peter J. Sprague and John R. Michener (incorporated by reference to Exhibit 10.5 of Wave's Registration Statement on Form S-1,
File No. 33-75286)                                                                                                   
|10.5*  |  |  |  | Wave 1994 Stock Option Plan (incorporated by reference to Exhibit 10.6 of Wave's Registration Statement on Form S-1, File No. 33-75286)                                                                                                                                                                                                 
|10.6*  |  |  |  | Wave Non-Employee Directors Stock Option Plan (incorporated by reference to Exhibit 10.7 of Wave's Registration Statement on Form S-1, File No. 33-75286)                                                                                                                                                                               
|10.7*  |  |  |  | Wave 1996 Performance Stock Option Plan (incorporated by reference to Exhibit 10.7 of Wave's annual report on Form 10-K, filed on April 1, 2002 (File No. 0-24752))                                                                                                                                                                     
|10.8*   |  |  |  | Addendum to License and Cross-License Agreement, dated February 28, 1997, between The Titan Corporation and Wave (incorporated by reference to Exhibit 10.10 of Wave's Current Report on Form 10-K filed on
March 24, 1997, File No. 0-24752).                                                                                          
|10.9*  |  |  |  | Employment Contract, dated June 8, 1998, between Gerard T. Feeney and Wave (incorporated by reference to Exhibit 10.18 of Wave's Current Report on Form 10-K filed on April 1, 1999, File
No. 0-24752).                                                                                                                                 
|10.10* |  |  |  | Employment Contract, dated November 10, 1998, between Steven Sprague and Wave (incorporated by reference to Exhibit 10.19 of Wave's Current Report on Form 10-K filed on April 1, 1999, File
No. 0-24752).                                                                                                                              
|10.11*  |  |  |  | Asset Purchase Agreement dated August 13, 2000, by and among Wave and Indigo Networks, LLC (incorporated by reference to Exhibit 99.1 of Wave's current report on Form 8-K, filed on September 15, 2000
(File #0-24752)                                                                                                                 
|10.12*  |  |  |  | Agreement to subscribe for 40,000 shares of GlobalWave., dated October 10, 2000, by and among Wave, Redwave,, GlobalWave,, and Earthquest, Ltd. (a United Kingdom Company and wholly-owned subsidiary of Wave) (incorporated
by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002 (File #0-24752))

30

---

|10.13* |  |  |  | Form of Stock Purchase Agreement, dated February 2, 2002 by and between Wave and BIZ (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002
(File #0-24752))                     
|------ |  | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|10.14* |  |  |  | Consulting Services Agreement dated September 14, 2001, by and between Wave and Archon Technologies, Inc. (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002
(File #0-24752))
|10.15* |  |  |  | Form of Asset Purchase Agreement dated October 4, 2001, by and between Wave and SignOnLine (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002
(File #0-24752))               
|10.16* |  |  |  | First Amendment to Asset Purchase Agreement dated October 4, 2001, by and between Wave and SignOnLine (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002
(File #0-24752))    
|21.1*  |  |  |  | Subsidiaries of Registrant (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002 (File #0-24752))                                                                               
|23.1   |  |  |  | Consent of Independent AuditorsKPMG LLP                                                                                                                                                                                           
|99.1*  |  |  |  | Demand Note, dated March 26, 2001 between Gerard T. Feeney and Wave (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002 (File #0-24752))                                      
|99.2*  |  |  |  | Demand Note, dated February 27, 2001 between Peter J. Sprague and Wave(incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002 (File #0-24752))                                    
|99.3*  |  |  |  | Demand Note, dated July 25, 2001 between Peter J. Sprague and Wave (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002 (File #0-24752))                                       
|99.4*  |  |  |  | Demand Note, dated September 5, 2001 between Peter J. Sprague and Wave (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002 (File #0-24752))                                   
|99.5*  |  |  |  | Co-marketing agreement dated May 14, 2001, by and between Wave and Maximus (incorporated by reference to Exhibit 10.12 of Wave's annual report on Form 10-K, filed on April 1, 2002 (File #0-24752))                               

---

(b)
Reports on Form 8-K

There
have been no reports on Form 8-K filed during the quarter-ended December 31, 2001.

31

---



SIGNATURES

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

|Dated: March 18, 2003 |  |                    |                                             
|--------------------- |  | ------------------ | --------------------------------------------
|                      |  | WAVE SYSTEMS CORP.
|                      |  | By:                | /s/PETER J. SPRAGUEPeter J. Sprague Chairman

Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the registrant and in the capacities and on the
dates indicated.

|Name                                                |  | Title                                                                                                                                                                |  | Date          
|--------------------------------------------------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | --------------
|                                                    |  |                                                                                                                                                                      |  |               
|/s/PETER J. SPRAGUEPeter J. Sprague                 |  | Chairman                                                                                                                                                             |  | March 18, 2003
|/s/STEVEN SPRAGUESteven Sprague                     |  | President, Chief Executive Officer and Director                                                                                                                      |  | March 18, 2003
|/s/JOHN E. BAGALAY, JR.John E. Bagalay, Jr.         |  | Director                                                                                                                                                             |  | March 18, 2003
|/s/GEORGE GILDERGeorge Gilder                       |  | Director                                                                                                                                                             |  | March 18, 2003
|/s/JOHN E. MCCONNAUGHY, JR.John E. McConnaughy, Jr. |  | Director                                                                                                                                                             |  | March 18, 2003
|/s/NOLAN BUSHNELLNolan Bushnell                     |  | Director                                                                                                                                                             |  | March 18, 2003
|/s/GERARD T. FEENEYGerard T. Feeney                 |  | Senior Vice President, Finance and Administration, Chief Financial Officer and Secretary (Principal Financial Officer and Duly Authorized Officer of the Registrant) |  | March 18, 2003

32

---



CERTIFICATIONS

I,
Steven K. Sprague, certify that:





|Date: March 18, 2003 |  |  |                                                                            
|-------------------- |  |  | ---------------------------------------------------------------------------
|                     |  |  | /s/STEVEN K. SPRAGUESteven K. Sprague President and Chief Executive Officer

33

---

I,
Gerard T. Feeney, certify that:





|Date: March 18, 2003 |  |  |                                                            
|-------------------- |  |  | -----------------------------------------------------------
|                     |  |  | /s/GERARD T. FEENEYGerard T. Feeney Chief Financial Officer

34

---



Index to Consolidated Financial Statements

|                                                                                                                                                                                                                                                |  | Page(s)
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------
|Independent Auditors' Report                                                                                                                                                                                                                    |  | F-2    
|Consolidated Balance Sheets as of December 31, 2001 and 2000                                                                                                                                                                                    |  | F-3    
|Consolidated Statements of Operations for each of the years ended
December 31, 2001, 2000 and 1999 and for the period from February 12, 1988
(inception) through December 31, 2000                                                              |  | F-4    
|Consolidated Statements of Stockholders' Equity (Deficiency) and
Other Comprehensive Income (Loss) for each of the years ended December 31, 2001,
2000 and 1999 and for the period from February 12, 1988
(inception) through December 31, 2001 |  | F-5    
|Consolidated Statements of Cash Flows for each of the years ended
December 31, 2001, 2000 and 1999 and for the period from February 12, 1988
(inception) through December 31, 2001                                                              |  | F-10   
|Notes to Consolidated Financial Statements                                                                                                                                                                                                      |  | F-12   

F-1

---



INDEPENDENT AUDITORS' REPORT

The
Board of Directors and Stockholders
Wave Systems Corp.:

We
have audited the consolidated financial statements of Wave Systems Corp. and subsidiaries (a development stage corporation) as listed in the accompanying index. These consolidated
financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We
conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In
our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Wave Systems Corp. and subsidiaries as of
December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2001 and for the period
from February 12, 1988 (date of inception) to December 31, 2001 in conformity with accounting principles generally accepted in the United States of America.



Boston,
Massachusetts
March 7, 2002

F-2

---



WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)    Consolidated Balance Sheets  December 31, 2001 and 2000

|                                                                                                                                               |                                                                       | 2001                       |              | 2000       |           
|---------------------------------------------------------------------------------------------------------------------------------------------- | --------------------------------------------------------------------- | -------------------------- | ------------ | ---------- | ----------
|Assets                                                                                                                                         |                                                                       |                            |              |            |           
|Current assets:                                                                                                                                |                                                                       |                            |              |            |           
|                                                                                                                                               | Cash and cash equivalents                                             |                            | $            | 40,437,119 |           
|                                                                                                                                               | Cash Collected on Behalf of Charities                                 |                            |              | 358,531    |           
|                                                                                                                                               | Marketable securities                                                 |                            |              | 10,366     |           
|                                                                                                                                               | Notes Receivable from Officers                                        |                            |              | 1,380,050  |           
|                                                                                                                                               | Inventories                                                           |                            |              | 581,912    |           
|                                                                                                                                               | Prepaid expenses and other receivables                                |                            |              | 624,535    |           
|                                                                                                                                               |                                                                       |                            |              |            |           
|                                                                                                                                               |                                                                       | Total current assets       |              |            | 43,392,513
|                                                                                                                                               | Marketable Equity Securities                                          |                            |              | 11,160,758 |           
|                                                                                                                                               | Investment in GlobalWave                                              |                            |              |           |           
|                                                                                                                                               | Property and equipment, net                                           |                            |              | 4,291,228  |           
|                                                                                                                                               | Intangible assets, net                                                |                            |              |           |           
|                                                                                                                                               | Goodwill and acquisition intangibles, net of accumulated amortization |                            |              |           |           
|                                                                                                                                               | Other assets                                                          |                            |              | 1,389,803  |           
|                                                                                                                                               |                                                                       |                            |              |            |           
|                                                                                                                                               |                                                                       | Total Assets               |              |            | 60,234,302
|                                                                                                                                               |                                                                       |                            |              |            |           
|Liabilities and Stockholders' equity                                                                                                           |                                                                       |                            |              |            |           
|Current liabilities:                                                                                                                           |                                                                       |                            |              |            |           
|                                                                                                                                               | Accounts payable and accrued expenses                                 |                            |              | 5,807,878  |           
|                                                                                                                                               | Due to Charities                                                      |                            |              | 423,053    |           
|                                                                                                                                               | Deferred Revenue                                                      |                            |              | 197,965    |           
|                                                                                                                                               |                                                                       |                            |              |            |           
|                                                                                                                                               |                                                                       | Total current liabilities  |              |            | 6,428,896 
|Stockholders' Equity:                                                                                                                          |                                                                       |                            |              |            |           
|Common Stock, $.01 par value. Authorized 75,000,000 shares as Class A; 49,996,506 shares issued and outstanding in 2001 and 47,051,197 in 2000 |                                                                       |                            | 499,965      |            |           
|Common Stock, $.01 par value. Authorized 13,000,000 shares as Class B; 357,083 shares issued and outstanding in 2001 and 779,211 in 2000       |                                                                       |                            | 3,571        |            |           
|Capital in excess of par value                                                                                                                 |                                                                       |                            | 244,330,985  |            |           
|Deficit accumulated during the development stage                                                                                               |                                                                       |                            | (189,624,123 | )          |           
|Other Comprehensive Incomeunrealized gain (loss) on marketable securities                                                                     |                                                                       |                            | (1,404,992   | )          |           
|                                                                                                                                               |                                                                       |                            |              |            |           
|                                                                                                                                               |                                                                       | Total stockholders' equity |              |            | 53,805,406
|Total Liabilities and Stockholders' Equity                                                                                                     |                                                                       | $                          | 60,234,302   |            | $         
|                                                                                                                                               |                                                                       |                            |              |            |           

See
accompanying notes to consolidated financial statements.

F-3

---



WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)    Consolidated Statements of Operations  Years ended December 31, 2001, 2000, 1999, and  period from
February 12, 1988 (date of inception)  through December 31, 2001

|                                                                       |                                                                      | 2001 |             | 2000       |   | 1999        |            | Period from
February 12, 1988
(date of inception)
through
December 31,
2001 |            
|---------------------------------------------------------------------- | -------------------------------------------------------------------- | ---- | ----------- | ---------- | - | ----------- | ---------- | --------------------------------------------------------------------------- | -----------
|Net Revenues:                                                          |                                                                      |      |             |            |   |             |            |                                                                             |            
|Product                                                                |                                                                      | $    | 192,506     |            | $ | 4,400       |            | $                                                                           | 167,234    
|Services                                                               |                                                                      |      | 430,724     |            |   |            |            |                                                                             |           
|Licensing and Other                                                    |                                                                      |      | 68,895      |            |   | 328,122     |            |                                                                             | 20,281     
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|                                                                       | Total Net Revenues                                                   |      |             | 692,125    |   |             | 332,522    |                                                                             |            
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|Cost of sales:                                                         |                                                                      |      |             |            |   |             |            |                                                                             |            
|Product                                                                |                                                                      |      | 135,134     |            |   | 3,520       |            |                                                                             | 77,632     
|Services                                                               |                                                                      |      | 227,124     |            |   |            |            |                                                                             |           
|Licensing and Other                                                    |                                                                      |      | 7,701       |            |   | 55,344      |            |                                                                             | 15,538     
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|                                                                       | Total Cost of Sales                                                  |      |             | 369,959    |   |             | 58,864     |                                                                             |            
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|Gross margin                                                           |                                                                      |      | 322,166     |            |   | 273,658     |            |                                                                             | 94,345     
|Operating expenses:                                                    |                                                                      |      |             |            |   |             |            |                                                                             |            
|                                                                       | Selling, general and administrative                                  |      |             | 24,184,317 |   |             | 26,553,634 |                                                                             |            
|                                                                       | Research and development                                             |      |             | 17,691,051 |   |             | 20,866,055 |                                                                             |            
|                                                                       | Amortization of Goodwill                                             |      |             | 1,720,632  |   |             | 573,544    |                                                                             |            
|                                                                       | Write-off of Intangibles and other Impaired Assets                   |      |             | 1,761,917  |   |             |           |                                                                             |            
|                                                                       | Write-off of Goodwill                                                |      |             | 2,284,570  |   |             |           |                                                                             |            
|                                                                       | In Process research and development expense                          |      |             |           |   |             | 2,176,000  |                                                                             |            
|                                                                       | Acquisition Costs                                                    |      |             |           |   |             |           |                                                                             |            
|                                                                       | Aladdin license expense                                              |      |             |           |   |             |           |                                                                             |            
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|                                                                       |                                                                      |      | 47,642,487  |            |   | 50,169,233  |            |                                                                             | 28,941,247 
|Other income (expense):                                                |                                                                      |      |             |            |   |             |            |                                                                             |            
|                                                                       | Interest income                                                      |      |             | 2,688,105  |   |             | 5,103,716  |                                                                             |            
|                                                                       | Interest expense                                                     |      |             |           |   |             |           |                                                                             |            
|                                                                       | Equity in net losses of GlobalWave                                   |      |             | (2,332,159 | ) |             | (3,406,491 | )                                                                           |            
|                                                                       | Loss on Other than Temporary Decline in Marketable Equity Securities |      |             | (1,736,682 | ) |             |           |                                                                             |            
|                                                                       | Gain on Sale of Marketable Securities                                |      |             |           |   |             | 542,457    |                                                                             |            
|                                                                       | License fee                                                          |      |             |           |   |             |           |                                                                             |            
|                                                                       | License warrant cost                                                 |      |             |           |   |             |           |                                                                             |            
|                                                                       | Other (expense)                                                      |      |             |           |   |             |           |                                                                             |            
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|                                                                       |                                                                      |      | (1,380,736  | )          |   | 2,239,682   |            |                                                                             | 794,330    
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|Net loss                                                               |                                                                      |      | (48,701,057 | )          |   | (47,655,893 | )          |                                                                             | (28,052,572
|Accrued dividends on preferred Stock                                   |                                                                      |      |            |            |   |            |            |                                                                             | 13,239     
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|Net loss to common stockholders                                        |                                                                      | $    | (48,701,057 | )          | $ | (47,655,893 | )          | $                                                                           | (28,065,811
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|Loss per common sharebasic and diluted                                |                                                                      | $    | (0.97       | )          | $ | (1.03       | )          | $                                                                           | (0.73      
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            
|Weighted average number of common shares outstanding during the period |                                                                      |      | 49,949,875  |            |   | 46,149,587  |            |                                                                             | 38,365,573 
|                                                                       |                                                                      |      |             |            |   |             |            |                                                                             |            

See accompanying notes to consolidated financial statements.

F-4

---



WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)

Consolidated
Statements of Stockholders' Equity (Deficiency) And Comprehensive Income (Loss)

|                                                                                                                  |  | Class A
Common Stock |  | Class B
Common Stock |   |  |           | Deficit
accumulated
during the
development
stage |   |        |  |   |           |   |  
|----------------------------------------------------------------------------------------------------------------- |  | -------------------- |  | -------------------- | - |  | --------- | ------------------------------------------------ | - | ------ |  | - | --------- | - | -
|
|
|
|Shares issued to founders at $.003 per share                                                                      |  |                     |  | $                    |  |  | 4,680,000 |                                                  | $ | 46,800 |  | $ | (31,200   | ) | $
|Shares issued at $1.25 per share, net of expenses of $36,574 from September through November 1988                 |  |                     |  |                      |  |  | 300,000   |                                                  |   | 3,000  |  |   | 335,426   |   |  
|Net loss for period ended December 31, 1988                                                                       |  |                     |  |                      |  |  |          |                                                  |   |       |  |   |          |   |  
|                                                                                                                  |  |                      |  |                      |   |  |           |                                                  |   |        |  |   |           |   |  
|Balance at December 31, 1988                                                                                      |  |                     |  |                      |  |  | 4,980,000 |                                                  |   | 49,800 |  |   | 304,226   |   |  
|Shares issued at $1.25 per share, net of expenses of $68,750, from January through December 1989                  |  |                     |  |                      |  |  | 270,000   |                                                  |   | 2,700  |  |   | 266,050   |   |  
|Shares issued at $1.25 per share in July 1989 as compensation for services rendered                               |  |                     |  |                      |  |  | 1,920     |                                                  |   | 19     |  |   | 2,381     |   |  
|Shares issued by principal stockholders at $1.25 per share in December 1989 as compensation for services rendered |  |                     |  |                      |  |  |          |                                                  |   |       |  |   | 374,000   |   |  
|Net loss for year ended December 31, 1989                                                                         |  |                     |  |                      |  |  |          |                                                  |   |       |  |   |          |   |  
|                                                                                                                  |  |                      |  |                      |   |  |           |                                                  |   |        |  |   |           |   |  
|Balance at December 31, 1989                                                                                      |  |                     |  |                      |  |  | 5,251,920 |                                                  |   | 52,519 |  |   | 946,657   |   |  
|Shares issued by principal stockholder at $1.25 per share in March 1990 as compensation for services rendered     |  |                     |  |                      |  |  |          |                                                  |   |       |  |   | 56,250    |   |  
|Shares issued by principal stockholder at $.50 per share in March 1990 as compensation for services rendered      |  |                     |  |                      |  |  |          |                                                  |   |       |  |   | 60,000    |   |  
|Shares issued at $1.67 per share in May 1990 as compensation for services rendered                                |  |                     |  |                      |  |  | 6,000     |                                                  |   | 60     |  |   | 9,940     |   |  
|Shares issued at $1.67 per share, net of expenses of $5,000 in March, April, November and December 1990           |  |                     |  |                      |  |  | 390,000   |                                                  |   | 3,900  |  |   | 641,100   |   |  
|Net loss for year ended December 31, 1990                                                                         |  |                     |  |                      |  |  |          |                                                  |   |       |  |   |          |   |  
|                                                                                                                  |  |                      |  |                      |   |  |           |                                                  |   |        |  |   |           |   |  
|Balance at December 31, 1990                                                                                      |  |                     |  |                      |  |  | 5,647,920 |                                                  |   | 56,479 |  |   | 1,713,947 |   |  
|Shares issued at $1.67 per share from March through November 1991                                                 |  |                     |  |                      |  |  | 315,000   |                                                  |   | 3,150  |  |   | 521,850   |   |  
|Shares issued at $1.67 per share in November 1991 as compensation for services rendered                           |  |                     |  |                      |  |  | 19,800    |                                                  |   | 198    |  |   | 32,802    |   |  
|Net loss for year ended December 31, 1991                                                                         |  |                     |  |                      |  |  |          |                                                  |   |       |  |   |          |   |  
|                                                                                                                  |  |                      |  |                      |   |  |           |                                                  |   |        |  |   |           |   |  
|Balance at December 31, 1991 (carried forward)                                                                    |  |                     |  |                      |  |  | 5,982,720 |                                                  |   | 59,827 |  |   | 2,268,599 |   |  

See
accompanying notes to consolidated financial statements.

F-5

---

WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)

Consolidated
Statements of Stockholders' Equity (Deficiency) And Comprehensive Income (Loss)(Continued)

|                                                                                                                                                                                         |  | Class A
Common Stock |  | Class B
Common Stock |  |           |   | Deficit
accumulated
during the
development
stage |   |            |   |             |   |          |  
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------- |  | -------------------- |  | --------- | - | ------------------------------------------------ | - | ---------- | - | ----------- | - | -------- | -
|
|
|
|Balance at December 31, 1991 (brought forward)                                                                                                                                           |  |                     |  |                     |  | 5,982,720 |   | 59,827                                           |   | 2,268,599  |   | (3,496,515  | ) |         |  
|Shares issued at $1.67 per share from January through October 1992                                                                                                                       |  |                     |  |                     |  | 708,000   |   | 7,080                                            |   | 1,172,920  |   |            |   |         |  
|Shares issued at $1.67 per share in May 1992 in connection with License and Cross-License Agreement                                                                                      |  |                     |  |                     |  | 674,976   |   | 6,750                                            |   | 1,118,210  |   |            |   |         |  
|Shares issued at $1.67 per share in May 1992 as compensation for services rendered                                                                                                       |  |                     |  |                     |  | 18,000    |   | 180                                              |   | 29,820     |   |            |   |         |  
|Shares issued at $2.50 per share in May and November 1992 as compensation for services rendered                                                                                          |  |                     |  |                     |  | 771,000   |   | 7,710                                            |   | 1,919,790  |   |            |   |         |  
|Shares issued at $2.50 per share, net of expenses of $7,500, in November and December 1992                                                                                               |  |                     |  |                     |  | 323,001   |   | 3,230                                            |   | 796,773    |   |            |   |         |  
|Shares issued by principal stockholder in December 1992 at $2.50 per share as compensation for services rendered                                                                         |  |                     |  |                     |  |          |   |                                                 |   | 75,000     |   |            |   |         |  
|Shares canceled in October and December 1992                                                                                                                                             |  |                     |  |                     |  | (75,000   | ) | (750                                             | ) | 750        |   |            |   |         |  
|Issuance of stock options at $.003 exercise price per share in June 1992                                                                                                                 |  |                     |  |                     |  |          |   |                                                 |   | 798,400    |   |            |   | (398,660 | )
|Amortization of deferred compensation                                                                                                                                                    |  |                     |  |                     |  |          |   |                                                 |   |           |   |            |   | 155,455  |  
|Accrued dividends on preferred stock                                                                                                                                                     |  |                     |  |                     |  |          |   |                                                 |   | (6,383     | ) |            |   |         |  
|Note receivable and accrued interest from stockholder                                                                                                                                    |  |                     |  |                     |  |          |   |                                                 |   |           |   |            |   |         |  
|Net loss for the year ended December 31, 1992                                                                                                                                            |  |                     |  |                     |  |          |   |                                                 |   |           |   | (4,182,638  | ) |         |  
|                                                                                                                                                                                         |  |                      |  |                      |  |           |   |                                                  |   |            |   |             |   |          |  
|Balance at December 31, 1992                                                                                                                                                             |  |                     |  |                     |  | 8,402,697 |   | 84,027                                           |   | 8,173,879  |   | (7,679,153  | ) | (243,205 | )
|Shares issued at $1.67 per share in February 1993                                                                                                                                        |  |                     |  |                     |  | 30,000    |   | 300                                              |   | 49,800     |   |            |   |         |  
|Shares issued at $3.50 per share, net of expenses of $82,427, from April through December 1993                                                                                           |  |                     |  |                     |  | 550,359   |   | 5,504                                            |   | 1,838,294  |   |            |   |         |  
|Shares issued at $3.50 per share from May to December 1993 as compensation for services rendered, for the acquisition of property and equipment and as additional interest on borrowings |  |                     |  |                     |  | 73,319    |   | 733                                              |   | 255,884    |   |            |   |         |  
|Issuance of warrants to purchase Class B Common Stock from September to December 1993 in conjunction with the issuance of convertible debt                                               |  |                     |  |                     |  |          |   |                                                 |   | 72,893     |   |            |   |         |  
|Amortization of deferred compensation                                                                                                                                                    |  |                     |  |                     |  |          |   |                                                 |   |           |   |            |   | 243,205  |  
|Accrued dividends on preferred stock                                                                                                                                                     |  |                     |  |                     |  |          |   |                                                 |   | (38,467    | ) |            |   |         |  
|Note receivable and accrued interest from stockholder                                                                                                                                    |  |                     |  |                     |  |          |   |                                                 |   |           |   |            |   |         |  
|Net loss for year ended December 31, 1993                                                                                                                                                |  |                     |  |                     |  |          |   |                                                 |   |           |   | (3,959,334  | ) |         |  
|                                                                                                                                                                                         |  |                      |  |                      |  |           |   |                                                  |   |            |   |             |   |          |  
|Balance at December 31, 1993                                                                                                                                                             |  |                     |  |                     |  | 9,056,375 |   | 90,564                                           |   | 10,352,283 |   | (11,638,487 | ) |         |  

See
accompanying notes to consolidated financial statements.

F-6

---

WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)

Consolidated
Statements of Stockholders' Equity (Deficiency) And Comprehensive Income (Loss)(Continued)

|                                                                                                                                                      |  | Class A
Common Stock |  | Class B
Common Stock |  |            |   | Deficit
accumulated
during the
development
stage |   |            |   |             |   |   | 
|----------------------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------- |  | -------------------- |  | ---------- | - | ------------------------------------------------ | - | ---------- | - | ----------- | - | - | 
|
|
|
|Balance at December 31, 1993                                                                                                                          |  |                     |  |                     |  | 9,056,375  |   | 90,564                                           |   | 10,352,283 |   | (11,638,487 | ) |  | 
|Shares issued at $3.50 per share in January and February 1994                                                                                         |  |                     |  |                     |  | 95,715     |   | 957                                              |   | 334,046    |   |            |   |  | 
|Shares issued at $3.50 per share in February 1994 as additional interest on borrowings                                                                |  |                     |  |                     |  | 5,700      |   | 57                                               |   | 19,893     |   |            |   |  | 
|Issuance of warrants to purchase Class B Common Stock in January and February 1994 in conjunction with the issuance of convertible debt               |  |                     |  |                     |  |           |   |                                                 |   | 115,234    |   |            |   |  | 
|Accrued dividends on preferred stock                                                                                                                  |  |                     |  |                     |  |           |   |                                                 |   | (39,484    | ) |            |   |  | 
|Accrual of interest on note receivable from stockholder                                                                                               |  |                     |  |                     |  |           |   |                                                 |   |           |   |            |   |  | 
|Sale of warrants to underwriter in September 1994                                                                                                     |  |                     |  |                     |  |           |   |                                                 |   | 4          |   |            |   |  | 
|Conversion of notes payable                                                                                                                           |  |                     |  |                     |  | 599,507    |   | 5,995                                            |   | 2,079,131  |   |            |   |  | 
|Shares issued at $5.00 per share in initial public offering in September 1994, net of expenses of $2,929,835                                          |  | 3,728,200            |  | 37,282               |  |           |   |                                                 |   | 15,673,883 |   |            |   |  | 
|Net loss for year ended December 31, 1994                                                                                                             |  |                     |  |                     |  |           |   |                                                 |   |           |   | (4,271,501  | ) |  | 
|                                                                                                                                                      |  |                      |  |                      |  |            |   |                                                  |   |            |   |             |   |   | 
|Balance at December 31, 1994                                                                                                                          |  | 3,728,200            |  | 37,282               |  | 9,757,297  |   | 97,573                                           |   | 28,534,990 |   | (15,909,988 | ) |  | 
|Shares issued at prices ranging from $1.00 per share to $3.13 per share as compensation for services rendered                                         |  | 31,559               |  | 315                  |  |           |   |                                                 |   | 57,184     |   |            |   |  | 
|Exercise of options to purchase Class B Common Stock                                                                                                  |  |                     |  |                     |  | 681,700    |   | 6,817                                            |   | 429,413    |   |            |   |  | 
|Accrued dividends on preferred stock                                                                                                                  |  |                     |  |                     |  |           |   |                                                 |   | (40,600    | ) |            |   |  | 
|Accrual of interest on note receivable from stockholder                                                                                               |  |                     |  |                     |  |           |   |                                                 |   |           |   |            |   |  | 
|Exchange of Class B Common Stock for Class A Common Stock                                                                                             |  | 2,855,859            |  | 28,559               |  | (2,855,859 | ) | (28,559                                          | ) |           |   |            |   |  | 
|Net loss for the year ended December 31, 1995                                                                                                         |  |                     |  |                     |  |           |   |                                                 |   |           |   | (6,832,866  | ) |  | 
|                                                                                                                                                      |  |                      |  |                      |  |            |   |                                                  |   |            |   |             |   |   | 
|Balance at December 31, 1995                                                                                                                          |  | 6,615,618            |  | 66,156               |  | 7,583,138  |   | 75,831                                           |   | 28,980,987 |   | (22,742,854 | ) |  | 
|Exercise of options to purchase Class A Common Stock                                                                                                  |  | 214,091              |  | 2,141                |  |           |   |                                                 |   | 420,366    |   |            |   |  | 
|Shares issued at prices ranging from $2.06 per share to $3.44 per share as compensation for services rendered                                         |  | 42,077               |  | 421                  |  |           |   |                                                 |   | 123,029    |   |            |   |  | 
|Issuance of unregistered Class B Common Stock to acquire Wave Interactive Network valued at approximately $.98 per share                              |  |                     |  |                     |  | 375,000    |   | 3,750                                            |   | 364,688    |   |            |   |  | 
|Issuance of warrants to purchase unregistered shares of Class A Common Stock in conjunction with the issuance of convertible debt and preferred stock |  |                     |  |                     |  |           |   |                                                 |   | 283,455    |   |            |   |  | 
|Conversion of Class B Preferred Stock                                                                                                                 |  | 2,960,303            |  | 29,603               |  |           |   |                                                 |   | 3,078,921  |   |            |   |  | 
|Accrual of interest on note receivable                                                                                                                |  |                     |  |                     |  |           |   |                                                 |   |           |   |            |   |  | 
|Accrued dividends on preferred stock                                                                                                                  |  |                     |  |                     |  |           |   |                                                 |   | (199,014   | ) |            |   |  | 
|Exchange of Class B Common Stock for Class A Common Stock                                                                                             |  | 1,749,997            |  | 17,500               |  | (1,749,997 | ) | (17,500                                          | ) |           |   |            |   |  | 
|N*ABLE APIC in connection with the issuance of Class A Common Stock due to merger                                                                     |  | 873,317              |  | 8,733                |  |           |   |                                                 |   | 1,296,241  |   |            |   |  | 
|Net loss for the year ended December 31, 1996                                                                                                         |  |                     |  |                     |  |           |   |                                                 |   |           |   | (10,126,546 | ) |  | 
|                                                                                                                                                      |  |                      |  |                      |  |            |   |                                                  |   |            |   |             |   |   | 
|Balance at December 31, 1996                                                                                                                          |  | 12,455,403           |  | 124,554              |  | 6,208,141  |   | 62,081                                           |   | 34,348,673 |   | (32,869,400 | ) |  | 

See
accompanying notes to consolidated financial statements.

F-7

---

WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)

Consolidated
Statements of Stockholders' Equity (Deficiency) And Comprehensive Income (Loss)(Continued)

|                                                                                                                                        |  | Class A
Common Stock |  | Class B
Common Stock |         |  |            | Deficit
accumulated
during the
development
stage |   |         |   |   |            |   |  
|--------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------- |  | -------------------- | ------- |  | ---------- | ------------------------------------------------ | - | ------- | - | - | ---------- | - | -
|
|
|
|Balance at December 31, 1996                                                                                                            |  | 12,455,403           |  |                      | 124,554 |  | 6,208,141  |                                                  |   | 62,081  |   |   | 34,348,673 |   |  
|                                                                                                                                        |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |            |   |  
|Exercise of options to purchase Class A and B Common Stock                                                                              |  | 70,326               |  |                      | 703     |  | 10,330     |                                                  |   | 104     |   |   | 139,081    |   |  
|Shares issued at prices ranging from $1.00 per share to $3.00 per share as compensation for services rendered                           |  | 126,885              |  |                      | 1,269   |  |           |                                                  |   |        |   |   | 304,227    |   |  
|Conversion of preferred stock into Common Stock                                                                                         |  | 7,998,860            |  |                      | 79,989  |  |           |                                                  |   |        |   |   | 6,703,028  |   |  
|Issuance of Class A Common Stock and warrants to purchase Class A Common Stock to Aladdin                                               |  | 500,000              |  |                      | 5,000   |  |           |                                                  |   |        |   |   | 3,834,000  |   |  
|Issuance of Class A Common Stock and warrants to purchase Class A Common Stock                                                          |  | 799,964              |  |                      | 8,000   |  |           |                                                  |   |        |   |   | 792,000    |   |  
|Reduction in note receivable                                                                                                            |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |           |   |  
|Accrual of interest on note receivable                                                                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |           |   |  
|Issuance of warrants to purchase Class A Common Stock in conjunction with the issuance of preferred stock                               |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | 386,462    |   |  
|Accrued dividend on preferred stock including accretion of assured incremental yield                                                    |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | (1,372,984 | ) |  
|Assured incremental yield on issuance of Series F convertible preferred stock and debt                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | 682,000    |   |  
|N*ABLE APIC in connection with the issuance of Class A Common Stock due to merger                                                       |  | 1,404,723            |  |                      | 14,047  |  |           |                                                  |   |        |   |   | 10,133,497 |   |  
|Net loss                                                                                                                                |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |           |   |  
|Exchange of Class B Common Stock for Class A Common Stock                                                                               |  | 1,796,518            |  |                      | 17,965  |  | (1,796,518 | )                                                |   | (17,965 | ) |   |           |   |  
|                                                                                                                                        |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |            |   |  
|Balance at December 31, 1997                                                                                                            |  | 25,152,679           |  | $                    | 251,527 |  | 4,421,953  |                                                  | $ | 44,220  |   | $ | 55,949,984 |   | $
|Exercise of options to purchase Class A Common Stock                                                                                    |  | 77,558               |  |                      | 775     |  |           |                                                  |   |        |   |   | 151,180    |   |  
|Options issued to employees below fair market-value                                                                                     |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | 234,723    |   |  
|Exercise of warrants to purchase Class A Common Stock                                                                                   |  | 1,652,770            |  |                      | 16,528  |  |           |                                                  |   |        |   |   | 3,945,740  |   |  
|Warrants to purchase Class A Common Stock to be issued as part of technology licensing agreement and issued to consultants for services |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | 1,546,824  |   |  
|Shares issued at prices ranging from $1.00 per share to $5.00 per share as compensation for services rendered                           |  | 121,400              |  |                      | 1,214   |  |           |                                                  |   |        |   |   | 647,274    |   |  
|Reduction in note receivable                                                                                                            |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |           |   |  
|Issuance of Series G Convertible Preferred stock and Common Stock warrants, net of issuance costs of $222,500                           |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | 218,250    |   |  
|Assured incremental yield on issuance of Series G convertible preferred stock and debt                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | 750,000    |   |  
|Accrual of interest on note receivable                                                                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |           |   |  
|Accrued dividend on preferred stock including accretion of assured incremental yield                                                    |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | (858,863   | ) |  
|Conversion of Series G Preferred Stock                                                                                                  |  | 2,394,494            |  |                      | 23,945  |  |           |                                                  |   |        |   |   | 2,274,756  |   |  
|N*ABLE's APIC in connection with the issuance of Class A Common Stock due to the merger                                                 |  | 2,781                |  |                      | 28      |  |           |                                                  |   |        |   |   | 59,182     |   |  
|Net loss                                                                                                                                |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |           |   |  
|Adjustment for net loss of N*ABLE for the 1st six months ended June 30,of 1998                                                          |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |           |   |  
|Exchange of Class B Common Stock for Class A Common Stock                                                                               |  | 1,281,288            |  |                      | 12,813  |  | (1,281,288 | )                                                |   | (12,813 | ) |   |           |   |  
|                                                                                                                                        |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |            |   |  
|Balance at December 31, 1998                                                                                                            |  | 30,682,970           |  | $                    | 306,830 |  | 3,140,665  |                                                  | $ | 31,407  |   | $ | 64,919,050 |   | $
|                                                                                                                                        |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |            |   |  

See
accompanying notes to consolidated financial statements.

F-8

---

WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)

Consolidated
Statements of Stockholders' Equity (Deficiency) And Comprehensive Income (Loss)(Continued)

|                                                                                                          |  | Class A
Common Stock |  | Class B
Common Stock |         |  |            | Deficit
accumulated
during the
development
stage |   |         |   |   |             |   |   |              |  
|--------------------------------------------------------------------------------------------------------- |  | -------------------- |  | -------------------- | ------- |  | ---------- | ------------------------------------------------ | - | ------- | - | - | ----------- | - | - | ------------ | -
|
|
|
|Balance at December 31, 1998                                                                              |  | 30,682,970           |  | $                    | 306,830 |  | 3,140,665  |                                                  | $ | 31,407  |   | $ | 64,919,050  |   | $ | (65,214,601  | )
|Net loss                                                                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   | (28,052,572  | )
|Unrealized gain on Marketable Securities                                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|                                                                                                          |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |             |   |   |              |  
|Comprehensive loss                                                                                        |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|Exercise of options to purchase Class A Common Stock                                                      |  | 964,000              |  |                      | 9,640   |  |           |                                                  |   |        |   |   | 1,622,431   |   |   |             |  
|Warrants exercised to purchase Class A Common Stock                                                       |  | 3,370,238            |  |                      | 33,702  |  |           |                                                  |   |        |   |   | 6,708,057   |   |   |             |  
|Shares Issued at $11.00 per share, net of issuance costs                                                  |  | 2,090,405            |  |                      | 20,904  |  |           |                                                  |   |        |   |   | 21,481,665  |   |   |             |  
|Conversion of Bridge to Loan to purchase Class A Common Stock                                             |  | 787,349              |  |                      | 7,874   |  |           |                                                  |   |        |   |   | 2,567,380   |   |   |             |  
|Warrants to Purchase Class A Common Stock For services rendered                                           |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|Shares issued as compensation for services rendered                                                       |  | 83,461               |  |                      | 834     |  |           |                                                  |   |        |   |   | 1,149,486   |   |   |             |  
|Accrual of interest on note receivable                                                                    |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|Conversion of Series G Preferred Stock                                                                    |  | 377,102              |  |                      | 3,771   |  |           |                                                  |   |        |   |   | 344,041     |   |   |             |  
|Accrued dividend on preferred stock                                                                       |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | (13,239     | ) |   |             |  
|Exchange of Class B Common Stock for Class A stock                                                        |  | 1,090,158            |  |                      | 10,902  |  | (1,090,158 | )                                                |   | (10,902 | ) |   |            |   |   |             |  
|                                                                                                          |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |             |   |   |              |  
|Balance at December 31, 1999                                                                              |  | 39,445,683           |  | $                    | 394,457 |  | 2,050,507  |                                                  | $ | 20,505  |   | $ | 99,854,111  |   | $ | (93,267,173  | )
|Net loss                                                                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   | (47,655,893  | )
|Unrealized gain (loss) on marketable securities                                                           |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|                                                                                                          |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |             |   |   |              |  
|Comprehensive loss                                                                                        |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|Shares issued at $34.00 per share, net of issuance costs                                                  |  | 3,600,800            |  |                      | 36,008  |  |           |                                                  |   |        |   |   | 114,941,407 |   |   |             |  
|Shares issued in exchange for substantially all of the assets of Indigo Networks, LLC at $19.30 per share |  | 374,889              |  |                      | 3749    |  |           |                                                  |   |        |   |   | 7,231,609   |   |   |             |  
|Shares issued as compensation for services at $13.75 per share                                            |  | 7,879                |  |                      | 79      |  |           |                                                  |   |        |   |   | 108,254     |   |   |             |  
|Exercise of warrants to purchase Class A Common Stock                                                     |  | 319,692              |  |                      | 3,197   |  |           |                                                  |   |        |   |   | 1,331,048   |   |   |             |  
|Exercise of Options to purchase Class A Common Stock                                                      |  | 2,030,958            |  |                      | 20,309  |  |           |                                                  |   |        |   |   | 4,950,872   |   |   |             |  
|Compensation on Employee Options issued                                                                   |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | 318,609     |   |   |             |  
|Exchange of Class B Common Stock for Class A Common Stock                                                 |  | 1,271,296            |  |                      | 12,713  |  | (1,271,296 | )                                                |   | (12,713 | ) |   |            |   |   |             |  
|Repayment of note receivable from stockholder                                                             |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|                                                                                                          |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |             |   |   |              |  
|Balance at December 31, 2000                                                                              |  | 47,051,197           |  | $                    | 470,512 |  | 779,211    |                                                  | $ | 7,792   |   | $ | 228,735,910 |   | $ | (140,923,066 |  
|Net loss                                                                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   | (48,701,057  | )
|Investment Loss on Marketable Securities                                                                  |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|                                                                                                          |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |             |   |   |              |  
|Comprehensive loss                                                                                        |  |                     |  |                      |        |  |           |                                                  |   |        |   |   |            |   |   |             |  
|Shares issued in exchange for 3,600,000 shares of BIZ Interactive Zone, Inc. at $7.16 per share           |  | 2,000,000            |  |                      | 20,000  |  |           |                                                  |   |        |   |   | 14,292,800  |   |   |             |  
|Exercise of Options                                                                                       |  | 523,181              |  |                      | 5,232   |  |           |                                                  |   |        |   |   | 749,721     |   |   |             |  
|Compensation on Employee Options Issued                                                                   |  |                     |  |                      |        |  |           |                                                  |   |        |   |   | 552,554     |   |   |             |  
|Exchange of Class B Common Stock for Class A Common Stock                                                 |  | 422,128              |  |                      | 4,221   |  | (422,128   | )                                                |   | (4,221  | ) |   |            |   |   |             |  
|                                                                                                          |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |             |   |   |              |  
|Balance at December 31, 2001                                                                              |  | 49,996,506           |  | $                    | 499,965 |  | 357,083    |                                                  | $ | 3,571   |   | $ | 244,330,985 |   | $ | (189,624,123 | )
|                                                                                                          |  |                      |  |                      |         |  |            |                                                  |   |         |   |   |             |   |   |              |  

See
accompanying notes to consolidated financial statements.

F-9

---



WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)        Consolidated Statements of Cash Flows        Years ended December 31, 2001, 2000, 1999,
and the Period  From February 12, 1988 (Date of Inception) through December 31, 2001

|                                                                            |                                                               | 2001 |             | 2000        |   | 1999        |             | Period from
February 12, 1988
(date of inception)
through
December 31,
2001 |            
|--------------------------------------------------------------------------- | ------------------------------------------------------------- | ---- | ----------- | ----------- | - | ----------- | ----------- | --------------------------------------------------------------------------- | -----------
|Cash flows from operating activities:                                       |                                                               |      |             |             |   |             |             |                                                                             |            
|Net loss                                                                    |                                                               | $    | (48,701,057 | )           | $ | (47,655,893 | )           | $                                                                           | (28,052,572
|Adjustments to reconcile net loss to net cash used in operating activities: |                                                               |      |             |             |   |             |             |                                                                             |            
|Write-off of goodwill                                                       |                                                               |      | 2,284,570   |             |   |            |             |                                                                             |           
|Goodwill Amortization                                                       |                                                               |      | 1,720,632   |             |   | 573,544     |             |                                                                             |           
|Depreciation and amortization                                               |                                                               |      | 2,531,324   |             |   | 2,593,594   |             |                                                                             | 767,993    
|Reserve for note from affiliate                                             |                                                               |      |            |             |   |            |             |                                                                             |           
|Non-cash expenses:                                                          |                                                               |      |             |             |   |             |             |                                                                             |            
|                                                                            | Accretion of assured incremental yield on convertible debt    |      |             |            |   |             |            |                                                                             |            
|                                                                            | Common stock issued in connection with License Agreement      |      |             |            |   |             |            |                                                                             |            
|                                                                            | Realized gain on marketable securities                        |      |             |            |   |             | (542,457    | )                                                                           |            
|                                                                            | Net losses realized on GlobalWave investment                  |      |             | 2,332,159   |   |             | 3,406,491   |                                                                             |            
|                                                                            | Common stock issued for services rendered                     |      |             |             |   |             |             |                                                                             |            
|                                                                            | and additional interest on borrowings                         |      |             |            |   |             | 108,333     |                                                                             |            
|                                                                            | Warrants issued as compensation for services                  |      |             |            |   |             |            |                                                                             |            
|                                                                            | Issuance of warrants to Aladdin                               |      |             |            |   |             |            |                                                                             |            
|                                                                            | Accrued interest on note payable                              |      |             |            |   |             |            |                                                                             |            
|                                                                            | In Process research and development                           |      |             |            |   |             | 2,176,000   |                                                                             |            
|                                                                            | Write-off of Impaired Assets                                  |      |             | 1,761,917   |   |             |            |                                                                             |            
|                                                                            | Loss on Other than Temporary Decline in Marketable Equity     |      |             |             |   |             |             |                                                                             |            
|                                                                            | Securities                                                    |      |             | 1,736,682   |   |             |            |                                                                             |            
|                                                                            | Preferred stock issued for services rendered                  |      |             |            |   |             |            |                                                                             |            
|                                                                            | Compensation associated with issuance of Stock Options        |      |             | 552,554     |   |             | 318,609     |                                                                             |            
|                                                                            | Amortization of deferred compensation                         |      |             |            |   |             |            |                                                                             |            
|                                                                            | Amortization of discount on notes payable                     |      |             |            |   |             |            |                                                                             |            
|                                                                            | Common stock issued by principal stockholder for services     |      |             |            |   |             |            |                                                                             |            
|Changes in assets and liabilities:                                          |                                                               |      |             |             |   |             |             |                                                                             |            
|                                                                            | Increase (decrease) in deferred revenue                       |      |             | 197,965     |   |             |            |                                                                             |            
|                                                                            | Increase in accrued interest on note receivable               |      |             | (80,410     | ) |             | 105,985     |                                                                             |            
|                                                                            | (Increase) in inventories                                     |      |             | 43,236      |   |             | (193,462    | )                                                                           |            
|                                                                            | (Increase) decrease in prepaid expenses and other receivables |      |             | 92,478      |   |             | (194,834    | )                                                                           |            
|                                                                            | (Increase) decrease in other assets                           |      |             | (112,278    | ) |             | (870,604    | )                                                                           |            
|                                                                            | Increase (decrease) in accounts payable and accrued expenses  |      |             | (2,638,780  | ) |             | 26,365      |                                                                             |            
|                                                                            | Increase in amounts due to charities                          |      |             | 423,053     |   |             |            |                                                                             |            
|                                                                            | Increase in cash restricted on behalf of Charities            |      |             | (358,531    | ) |             |            |                                                                             |            
|                                                                            |                                                               |      |             |             |   |             |             |                                                                             |            
|                                                                            | Net cash used in operating activities                         |      |             | (38,214,486 | ) |             | (40,148,329 | )                                                                           |            
|                                                                            |                                                               |      | (Continued) |            

F-10

---

WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)

Consolidated
Statements of Cash Flows (Continued)

Years
ended December 31, 2001, 2000, 1999, and the Period
From February 12, 1988 (Date of Inception) through December 31, 2001

|                                                     |                                                                         | 2001 |             | 2000       |   | 1999        |             | Period from
February 12, 1988
(date of inception)
through
December 31,
2001 |           
|---------------------------------------------------- | ----------------------------------------------------------------------- | ---- | ----------- | ---------- | - | ----------- | ----------- | --------------------------------------------------------------------------- | ----------
|Cash flows from investing activities:                |                                                                         |      |             |            |   |             |             |                                                                             |           
|                                                     | Acquisition of property and equipment                                   |      |             | (1,507,598 | ) |             | (3,829,300  | )                                                                           |           
|                                                     | Investment in GlobalWave joint venture                                  |      |             |           |   |             | (4,142,000  | )                                                                           |           
|                                                     | Purchase of intangible assets                                           |      |             |           |   |             | (750,000    | )                                                                           |           
|                                                     | Short-term loans to affiliate                                           |      |             |           |   |             |            |                                                                             |           
|                                                     | Organizational costs                                                    |      |             |           |   |             |            |                                                                             |           
|                                                     | Proceeds from sale of marketable securities                             |      |             |           |   |             | 2,162,457   |                                                                             |           
|                                                     | Exercise of warrant to acquire marketable securities-available for sale |      |             |           |   |             |            |                                                                             |           
|                                                     |                                                                         |      |             |            |   |             |             |                                                                             |           
|                                                     | Net cash used in investing activities                                   |      |             | (1,507,598 | ) |             | (6,558,843  | )                                                                           |           
|Cash flows from financing activities:                |                                                                         |      |             |            |   |             |             |                                                                             |           
|                                                     | Net proceeds from issuance of common stock                              |      |             | 754,953    |   |             | 121,072,842 |                                                                             |           
|                                                     | Net proceeds from issuance of preferred stock and warrants              |      |             |           |   |             |            |                                                                             |           
|                                                     | Payment on (issuance of) note receivable from stockholder               |      |             | (1,299,640 | ) |             | 48,175      |                                                                             |           
|                                                     | Proceeds from notes payable and warrants to Stockholders                |      |             |           |   |             |            |                                                                             |           
|                                                     | Repayments of notes payable to stockholders                             |      |             |           |   |             |            |                                                                             |           
|                                                     | Proceeds from notes payable and warrants                                |      |             |           |   |             |            |                                                                             |           
|                                                     | Repayments of note payable                                              |      |             |           |   |             |            |                                                                             |           
|                                                     | Redemption of Preferred Stock                                           |      |             |           |   |             |            |                                                                             |           
|                                                     |                                                                         |      |             |            |   |             |             |                                                                             |           
|Net cash provided by (used in) financing activities  |                                                                         |      | (544,687    | )          |   | 121,121,017 |             |                                                                             | 32,367,995
|Net increase (decrease) in cash and cash equivalents |                                                                         |      | (40,266,771 | )          |   | 74,413,845  |             |                                                                             | 1,838,870 
|Cash and cash equivalents at beginning of period     |                                                                         |      | 80,703,890  |            |   | 6,290,045   |             |                                                                             | 4,451,175 
|                                                     |                                                                         |      |             |            |   |             |             |                                                                             |           
|Cash and cash equivalents at end of period           |                                                                         | $    | 40,437,119  |            | $ | 80,703,890  |             | $                                                                           | 6,290,045 
|                                                     |                                                                         |      |             |            |   |             |             |                                                                             |           

Supplemental information about noncash investing and financing activities:

For the year ended December 31, 2001, additional common stock was issued to acquire 3,600,000 shares of BIZ for $14,312,800. See Note 12.

For
the year ended December 31, 2000, additional common stock was issued to acquire substantially all of the assets of Indigo for $7,445,358, including acquisition costs of
$210,000. See Note 3.

See
accompanying notes to consolidated financial statements.

F-11

---



WAVE SYSTEMS CORP. AND SUBSIDIARIES(a development stage corporation)        Notes to Consolidated Financial Statements

(1)  Business of the Company

Wave Systems Corp. develops, produces and markets hardware and software based digital security products for the Internet and e-commerce. Wave is also
engaged in various research, development and marketing efforts to commercialize the Commerce System to provide more efficient and flexible pricing (e.g., pay per use or
rent-to-own) and greater security on the usage of the electronic content. Wave also develops data broadcasting and products that perform digital signature and electronic
document management functions. The financial statements of Wave have been presented in the development stage format as prescribed by Statement of Financial Accounting Standards No. 7.
Management has determined that Wave meets the criteria of a development stage enterprise as prescribed in Statement of Financial Accounting Standard No. 7 because it has devoted substantially
all of its efforts since inception toward research and development activities and establishing a new business; and although planned principal operations have commenced, there has been no significant
revenue from those operations.

Wave
has incurred significant losses in current and prior periods. Management intends to continue to devote significant resources toward the research, development and marketing of its
products in order to generate future revenues from licensing and product sales as well as develop the business of WaveXpress. On March 8, 2000 Wave completed an offering of common stock for net
proceeds of approximately $114.9 million. Management anticipates that the proceeds of this offering will be sufficient to fund operations into 2003. However, while management believes that it
can successfully develop and market its products and obtain additional financing to fund its operations, there can be no assurance that it will be able to do so.

(2)  Significant Accounting Policies

(a) Basis of Consolidation

The consolidated financial statements include the financial statements of Wave, Wave Systems Holdings, Inc., a wholly owned subsidiary and
WaveXpress, Inc. a majority-owned joint venture. All significant intercompany accounts and transactions have been eliminated in consolidation.

(b) Use of Estimates

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect amounts reported in the Consolidated Financial Statements and accompanying notes. Estimates are used for, but not limited to, depreciation and
amortization, charges for other than temporary declines in value of marketable equity securities and other special charges, inventory allowances and contingencies. Actual results could differ from
those estimates.

(c) Method of Accounting for Joint Ventures

Wave accounts for its investments in joint ventures using the equity method of accounting when its ownership interest in the joint venture is less than fifty
percent and it is determined that Wave has the ability to exercise significant influence over the joint venture's operating and financial policies. The financial statements of joint ventures in which
Wave owns greater than a fifty percent interest are consolidated with Wave's financial statements pursuant to APB Opinion No. 16. (see note 13)

F-12

---

(d) Cash and Cash Equivalents

Wave considers all highly liquid instruments with an original or remaining maturity of three months or less to be cash equivalents. Substantially all cash and
cash equivalents are custodial with two major financial institutions.

(e) Marketable Securities

Debt securities and publicly traded equity securities are classified as available for sale and are recorded at market using the specific identification method.
Unrealized gains and losses are reflected in other comprehensive income. Unrealized losses that are determined to be other than temporary, are recognized as charges against earnings. All other
investments, excluding joint venture arrangements, are recorded at cost.

(f) Inventories

Inventories, which are stated at the lower of cost or net realizable value, consist of inventory held for resale to customers. Cost is determined on the
first-in, first-out basis and includes freight and other incidental costs incurred. Wave provides inventory allowances based on excess and obsolete inventories

(g) Property and Equipment

Property and equipment, including purchased computer software, are stated at cost less accumulated depreciation. Depreciation and amortization are computed using
the straight-line method over the estimated useful lives of the assets which range from between three to five years. Amortization of leasehold improvements is computed using the remaining
lease terms.

(h) Goodwill and Purchased Intangible Assets

Goodwill and purchased intangible assets are carried at cost less accumulated amortization. Amortization is computed using the straight-line method
over the expected useful life of the asset (currently 2 to 3 years). In accordance with the Financial Accounting Standards Board ("FASB") Statement of Financial Accounting Standards
No. 121Accounting for long-lived Assets("SFAS No. 121"), Wave assesses the recoverability of goodwill and purchased
intangible assets by determining whether the amortization of the goodwill balance over its remaining life can be recovered through undiscounted future operating cash flows of the related acquired
operation. The amount of goodwill impairment, if any, is measured based on projected discounted future operating cash flows using a discount rate reflecting Wave's average cost of funds. The
assessment of the recoverability of goodwill is impacted if estimated future operating cash flows are less than the net carrying value of the asset.

(i) Income Taxes

Wave accounts for income taxes under the asset and liability method. As such, deferred tax assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred
tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

F-13

---

(j) Stock Option Plan

Wave accounts for its stock option plans in accordance with the provisions of Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock
Issued to Employees, and related interpretations. As such, compensation expense is recorded on the date of grant only if the current market price of the underlying stock exceeds the exercise price.
Wave adopted the disclosure provisions of Statement of Financial Accounting Standards No. 123 ("SFAS No. 123"), Accounting for Stock Based Compensation and accordingly, provides pro
forma net income and pro forma earnings per share footnote disclosures for employee stock options as if the fair value-based method defined in SFAS No. 123 had been applied.

(k) Research and Development and Software Development Costs

Research and development costs are expensed as incurred. Software development costs are accounted for pursuant to Statement of Financial Accounting Standards
No. 86 "Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed" which requires software development costs to be capitalized when a product's technological
feasibility has been established, and once the product has achieved marketability.

(l) Loss Per Share

Basic net loss per common share has been calculated based upon the weighted average number of shares of common stock outstanding during the period. Diluted net
loss per share is also computed using the weighted average number of common shares and excludes dilutive potential common shares outstanding, as their effect is anti-dilutive. Dilutive
potential common shares consist primarily of employee stock options. Diluted net loss per share is equal to basic net loss per share and is therefore not presented separately in the financial
statements.

(m) Impairment of Long-Lived Assets and Long-Lived Assets to Be Disposed Of

Wave reviews its long-lived assets and certain identifiable intangibles for impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future net cash flows expected to be
generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceed the fair value of the
assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell.

(n) Revenue Recognition

Wave's business model targets revenues from various sources including: licensing of our technology including EMBASSY and its supporting software infrastructure;
fees from entities who use EMBASSY to secure their applets on PCs; and usage and transaction-based fees from content management, e-commerce and other services enabled by EMBASSY. In
addition, we derive revenue from sales of hardware and from development contracts. To date, our sales arrangements have not included multiple-elements, nor have our arrangements required significant
modification or customization of the software except for our contract with SSP Solutions for which we used the percentage of completion method of accounting that is described below.

F-14

---

Wave
follows the provisions of statement of position "SOP" 97-2,Software Revenue Recognitionas amended by SOP
98-9, Modification of SOP 97-2,Software Revenue Recognition, with Respect to Certain Transactions. Generally, Wave recognizes
revenue when it is realized or realizable and earned. Wave considers revenue realized or realizable and earned when persuasive evidence of an arrangement exists, the product has been shipped or the
services have been provided to the customer, the sales price is fixed or determinable and collectability is reasonably assured. Wave reduces revenue for estimated customer returns, rotations and sales
rebates when such amounts can be estimated. When these amounts cannot be estimated Wave defers revenue until the product is sold to the end-user. Revenue from software license agreements
that have significant customizations and modification of the software product is deferred and recognized in a manner that approximates the percentage of completion method. In addition to the
aforementioned general policy, the following are the specific revenue recognition policies for each major category of revenue.



Revenue
from delivered elements of one-time charge licensed software is recognized at the inception of the license term, provided Wave has vendor-specific objective evidence
of the fair value of each undelivered element. Revenue is deferred for undelivered elements. Revenue is also deferred for the entire arrangement if vendor-specific objective evidence does not exist
for each undelivered contract element. Examples of undelivered elements in which the timing of delivery is uncertain include contractual elements that give customers rights to any future upgrades at
no additional charge or future maintenance that is provided within the overall price. The revenue that is deferred for any contract element is recognized when all of the revenue recognition criteria
has been met for that element. However, it has not been our practice to provide periodic updates or maintenance to maintain system performance.

Revenue
from the sale of hardware components is recognized when persuasive evidence of an arrangement exists, the product has been shipped to the customer, the sales price is fixed and
determinable and collectivity is reasonably assured.

All
product is shipped with ownership passing to the buyer upon leaving our premises and payment terms are generally net 30.



Revenue
from time and material service contracts is recognized as the services are provided. Revenue from fixed price, long-term service or development contracts is
recognized over the contract term based on the percentage of services that are provided during the period compared with the total estimated services to be provided over the entire contract. Losses on
fixed price contracts are recognized during the period in which the loss first becomes apparent. Payment terms vary by contract. Payment terms vary by contract.

In
October 2000, we entered into a $10 million comprehensive development agreement with SSP Solutions, Inc. (formerly BIZ Interactive Zone, Inc.) to integrate
Wave's EMBASSY Trusted Client technology into the SSP Secure Service Provider Suite to be deployed in 5 million digital set top boxes and integrated gateway products such as cable
and DSL modems. In May 2001 the agreement was amended whereby under the amended terms of the agreement, the parties agreed to a $5 million development services contract whereby Wave
agreed to port its EMBASSY platform to run in a Linux environment. In addition, SSP Solutions agreed to place with Wave an open $5,000,000 purchase order

F-15

---

for EMBASSY products. Payment terms of the agreement provide that SSP Solutions make payments of $277,778 per month for eighteen months. In addition, the parties agreed that in the event that SSP
Solutions fails to pay any monthly installment, within 30 days of receiving written notice by Wave that it
is in default, the unpaid portion of the installment shall automatically convert into a stock acquisition right allowing Wave to acquire a number of shares in SSP Solutions to be determined by
dividing the unpaid amount by the fair market value of SSP Solutions common stock. Revenue under the development services agreement has been recognized on a percentage of completion basis subject to
cash received and milestones accomplished. Milestones include specific software development objectives that must be completed and accepted by SSP Solutions. As of December 31, 2001 Wave has
received $555,556 in cash and has not exercised any stock appreciation rights. We have recognized approximately $358,000 in revenue under the development agreement.

(o) Recent Accounting Pronouncements

On July 20, 2001, FASB issued Statements No. 141, Business Combinations ("SFAS No. 141") and No. 142 Goodwill and Other Intangible
Assets ("SFAS No. 142"). SFAS No. 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. Poolings initiated prior to
June 30, 2001 are grandfathered. SFAS No. 142 replaces the requirement to amortize intangible assets with indefinite lives and goodwill with a requirement for an impairment test. SFAS
No. 142 also requires an evaluation of intangible assets and their useful lives and a transitional impairment test for goodwill and certain intangible assets. After transition, the impairment
tests must be performed annually. A company must adopt SFAS No. 142 at the beginning of the fiscal year. Thus, as a calendar year-end company, Wave must adopt SFAS. No. 142
no later than January 1, 2002. Wave is currently examining the impact of this pronouncement on its results of operations and financial position, but currently believes the impact will not be
material.

FASB
recently issued SFAS No. 143, Accounting for Asset Retirement Obligations ("SFAS No. 143") which addresses financial accounting and reporting for obligations
associated with the retirement of tangible long-lived assets and the associated asset retirement costs. SFAS No. 143 requires an enterprise to record the fair value of an asset
retirement obligation as a liability in the period in which it incurs a legal obligation associated with the retirement of a tangible long-lived asset. SFAS No. 143 also requires
the enterprise to record the contra to the initial obligation as an increase to the carrying amount of the related long-lived asset and to depreciate that cost over the remaining useful
life of the asset. The liability is changed at the end of each period to reflect the passage of time and changes in the estimated future cash flows underlying the initial fair value measurement. SFAS
No. 143 is effective for fiscal years beginning after June 15, 2002. Wave is currently examining the impact of this pronouncement on the results of its operations and financial position,
but currently believes the impact will not be material.

On
October 3, 2001, FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets ("SFAS No. 144"), which addresses financial
accounting and reporting for the impairment or disposal of long-lived assets and supersedes FASB Statement No. 121, Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to Be Disposed Of ("SFAS No. 121"). SFAS No. 144 retains many of the fundamental provisions of SFAS No. 121. SFAS No. 144 also
supersedes the accounting and reporting provisions of Accounting Principle Board Opinion 30, Reporting the Results of OperationsReporting the Effects of Disposal of a Segment of a
Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions ("ABP 30"), for the disposal of a segment of a business. However, it retains the requirement in APB 30 to report
separately

F-16

---

discontinued operations and extends that reporting to a component of an entity that either has been disposed of (by sale, abandonment, or in a distribution to owners) or is classified as held for
sale. SFAS No. 144 is effective for fiscal years beginning after December 15, 2001 and interim periods within those fiscal years. Wave is currently examining the impact of this
pronouncement on its results of operations and financial position, but currently believes the impact will not be material.

(p) Reclassifications

Certain reclassifications have been made to prior year balances in order to conform to the current year presentation.

(3)  Business Combinations

(a) Pooling of Interests

On July 27, 1999, Wave acquired N*ABLE. The transaction was accounted for as a pooling of interests and the historical financial information for all
periods presented prior to the date of acquisition were restated. Wave exchanged 2,280,821 shares of its Class A Common Stock for all the outstanding shares of N*ABLE for a fair value of
approximately $23.7 million.

(b) Purchase Acquisition

On August 31, 2000, Wave purchased substantially all of the assets of Indigo and its e-commerce shopping network, iShopHere.com. The aggregate
purchase price totaled $7,445,000, which consisted of 374,889 shares of Class A Common Stock priced at $19.30 per share, for a total value of $7,235,000 plus transaction costs of $210,000. The
purchase price was based on the average closing price of Wave's Class A Common Stock for the ten trading days immediately preceding the date of the purchase, in accordance with the purchase
agreement. The following is a summary of the allocation of the purchase price:

Fair market value of tangible assets

$
690,000In-Process R&D


2,176,000Goodwill and purchased intangible assets


4,579,000Total consideration

$
7,445,000


The
amount allocated to in-process research and development totaling $2,176,000 was determined using established valuation techniques and was expensed upon acquisition as
technological and/or commercial feasibility had not been established. The amount allocated to goodwill and purchased intangible assets amounted to $4,578,746 and is being amortized on a
straight-line basis over periods

F-17

---

not exceeding three years. The following table sets forth the goodwill and purchased intangible asset values as of December 31,

2001

2000Developed Technology

$
779,000

$
779,000Assembled Workforce


310,000


310,000Contracts


77,300


77,300Goodwill and purchased intangible assets


3,412,446


3,412,446Total Goodwill and purchased intangible assets

$
4,578,746

$
4,578,746Accumulated Amortization


(2,294,176
)

(573,544
)Net Book Value before impairment charge


2,284,570


4,005,202Impairment Charge


(2,284,570
)

Net Book Value

$
-0-

$
4,005,202


Amortization
expense associated with goodwill and purchased intangibles was $1,720,632, $573,544 and $0 for the years ended December 31, 2001, 2000 and 1999, respectively.

The
consolidated financial statements include the operating results of iShopHere.com from the date of acquisition, which consisted of a net loss of approximately $1,561,000 in 2001 and
$846,000 in 2000. The selected unaudited pro forma condensed consolidated financial information presented below has been derived from the audited and unaudited historical financial statements of Wave
and Indigo, and reflects management's estimate of pro forma adjustments. This pro forma presentation does not purport to represent what our results of operations would actually have been if such
transactions and events had in fact occurred on those dates or to project our results of operations for any future period. The unaudited pro forma consolidated statements of operations give effect to
the acquisition of Indigo as if it had occurred on January 1, 1999. (Pro-forma information for 2001 is not presented as there are no pro-forma adjustments applicable to
2001.)

Dollars in thousands except per share data

2000

1999Net revenues

$
372

$
220Net loss


(50,363
)

(34,860
)Net loss per share

$
(1.08
)
$
(0.90
)


Due
to the decline in current business conditions, Wave has realigned resources to focus on what it considers high-growth markets and core opportunities. As a result, Wave
recorded a charge of
$2,284,570 related to the impairment of goodwill and purchased intangible assets associated with the Indigo asset purchase in 2001. This amount is equal to the carrying amount of the assets prior to
the impairment charge.

(4)  Related Party Transactions

(a) Notes Receivable from Officers

Wave had outstanding loans receivable from officers totaling $1,380,050 as of December 31, 2001. Some of the loans, as indicated below were extended beyond
their original terms by one year. These loans and the extensions thereon were granted to the officers to allow them to satisfy certain personal financial obligations that would otherwise have required
them to liquidate some of their holdings of

F-18

---

Wave shares. The loans were granted and extended as a means to mitigate a potential unfavorable impact to Wave's share price as a result of the officers selling large blocks of shares. The officer
loans consist of the following:

On
March 26, 2001 Wave made a personal loan to Mr. Gerard T. Feeney, Senior Vice President, Chief Financial Officer and Secretary of Wave as evidenced by a demand note for
$250,000, which sum was due and payable to Wave on March 26, 2002 and bears interest at a rate per annum equal to 1% over the prime interest rate. The due date of the demand note was
subsequently extended until March 26, 2003. As of December 31, 2001 the loan balance, including accrued interest thereon was approximately $264,000.

Also
during 2001, Wave made personal loans to Mr. Peter J. Sprague, Chairman of Wave totaling approximately $1,062,000. The loans were evidenced by demand notes for $713,000 dated
February 27, 2001, $185,000 dated July 25, 2001 and $164,000 dated September 5, 2001. These notes carry terms of one year and bear interest at a rate per annum equal to 1% over
the prime rate of interest. One of the demand notes in the amount of $713,000 plus accrued interest of $45,000 came due on February 27, 2002 and was extended for an additional year beyond its
original due date. As of December 31, 2001 the loan balances, including accrued interest thereon was approximately $1,116,000.Accrued interest on these notes totaled $80,000 as of
December 31, 2001.

(b) Payments to Related Party

In 1997, Wave paid $182,209 to Enterprise Engineering Associates ("EEA"), during which time Mr. Michael Sprague was an employee of EEA. On August 1,
1997, Michael Sprague became an employee of Wave, at an annual salary of $110,000. On November 1, 1999 he became an employee of WaveXpress at an annual salary of $120,000. Michael Sprague is
the son of the Chairman and former Chief Executive Officer of Wave

In
1998, Wave paid $25,000 to Studio 2, during which time Mr. Kevin Sprague was an employee of Studio 2. Kevin Sprague is the son of the Chairman and former CEO of Wave.

(c) Acquisition and Dispositions

In November 1995, Wave entered into a transaction with certain individuals whereby shares in its newly-formed subsidiary, Wave Interactive
Network, Inc. ("WIN"), were transferred in exchange for a demand note. The amount of the demand note was based on the level of funding provided to WIN by Wave during 1995. The demand note from
WIN accrued interest at a rate of Prime plus 1% and, subject to certain limitations associated with WIN's ability to raise additional capital, was convertible into an undiluted 20% of the common
shares of WIN at the option of Wave. Wave retained a 1% ownership in WIN and transferred the remaining ownership to certain individuals, including former employees. Approximately 65% of the ownership
was transferred to Steven Sprague, President and CEO of WIN, and three other children of Mr. Peter J. Sprague, Chairman and former CEO of Wave. The note was fully reserved as its collectibility
was dependent upon WIN's ability to raise additional capital. In addition, Wave entered into a separate commercial agreement that, among other things, granted certain distribution rights to WIN in
exchange for royalties and other consideration.

During
1996, Wave continued to finance the operations of WIN through additional demand notes with terms similar to the original demand note. The additional notes amounting to $1,004,000
were also fully reserved. On December 30, 1996, effective as of October 18, 1996, Wave entered into a merger agreement with WIN whereby Wave exchanged, for all of the outstanding WIN
common stock that it

F-19

---

did not own, 375,000 shares of Class B Common Stock. These Class B shares are restricted securities within the meaning of Rule 144 of the Securities Act of 1933, as amended (the
"Act"). Additionally, based on the attainment of a specified milestone, the shareholders of WIN were entitled to receive an additional 325,000 shares of Wave's Class B Common Stock. During
1999, the time to attain the milestone had expired as did the entitlement to additional shares and no additional shares were issued. Wave also issued a 10% convertible note and a warrant to refinance
a convertible note obligation of WIN amounting to approximately $456,000, which included accrued interest to October 18, 1996, and an outstanding warrant. Included in the results of operations
are WIN's operations from October 18, 1996. The acquisition was accounted for by the purchase method.

The
purchase price of $952,438 was determined based on the estimated fair value of the consideration given to the WIN shareholders and noteholders and was allocated to goodwill as WIN
had no net tangible assets. Subsequently, in 1997, Wave determined it was uncertain whether the current and expected future results of operations of WIN would be adequate to support the goodwill
capitalization, and wrote-off the goodwill as impaired.

(d) Sarnoff Corporation

For the years-ended December 31, 2001, 2000 and 1999, Wave incurred expenses for consulting and travel, payable to Sarnoff of approximately $57,000,
$924,000 and $701,000, respectively. Sarnoff is Wave's joint venture partner in WaveXpress and owns approximately 13% of WaveXpress, on a fully diluted basis. Payments made to Sarnoff for the
years-ended December 31, 2001, 2000 and 1999 were $396,000, $986,000 and $356,000, respectively. As of December 31, 2001 and 2000, Wave had accounts payable to Sarnoff of $6,000 and
$325,000, respectively

(5)  Property and Equipment

Property and equipment as of December 31 consisted of the following:

2001

2000Equipment

$
5,797,900

$
5,253,854Furniture, fixtures and improvements


1,914,405


1,919,219Computer software


3,192,288


2,237,22510,904,593


9,410,298Less: Accumulated depreciation


6,613,365


4,208,429Total

$
4,291,228

$
5,201,869


Computer
software includes $610,413 capitalized pursuant to SFAS 86. The status of the project to which these costs relate is presently in process, therefore no amortization has been
taken on these capitalized costs. It is expected that these costs will be amortized over a three-year life, once the product is ready to bring to market.

Depreciation
expense on property and equipment amounted to approximately $2,219,000, $1,969,000, $768,000 and $6,694,000 for the years ended December 31, 2001, 1999, 1998 and for
the period from inception through December 31, 2001, respectively.

F-20

---

(6)  Accounts Payable and Accrued Expenses

Accounts payable and accrued expenses as of December 31 consisted of the following:

|                                              |       | 2001 |           | 2000     
|--------------------------------------------- | ----- | ---- | --------- | ---------
|Accrual of costs related to the ITG agreement |       | $    | 188,986   |          
|Accounts payable                              |       |      | 1,631,430 |          
|Accrued consulting and professional fees      |       |      | 405,346   |          
|Accrued payroll and related costs             |       |      | 1,281,012 |          
|Accrued Rent                                  |       |      | 87,836    |          
|Annual Report and Shareholders Meeting        |       |      | 141,299   |          
|Accrual of committed investment in GlobalWave |       |      | 1,407,664 |          
|Accrued loss contingency                      |       |      | 200,000   |          
|Franchise Tax Payable                         |       |      |          |          
|Other accrued liabilities                     |       |      | 464,305   |          
|                                              |       |      |           |          
|                                              | Total |      | $         | 5,807,878

(7)  Capital Stock

(a) Redeemable Preferred Stock

Wave has authorized 2,000,000 shares of preferred stock having a par value of $.01 per share. On October 19, 1992, the Board of Directors designated and
issued 360 shares of this preferred stock of Wave as "Series A Cumulative Redeemable Preferred Stock" ("Series A Preferred Stock").

The
Series A Preferred Stock was issued in settlement of compensation owed to a former officer of Wave for services provided to Wave. The holder of the Series A Preferred
Stock was entitled to receive a dividend at the rate of $60 per share per annum, when and as declared by the Board of Directors of Wave. Dividends were cumulative from the date of original issue, and
payable upon redemption. On August 11, 1999, Wave redeemed these shares for a total payment of $506,440, including accrued and unpaid dividends.

In
May of 1996, Wave raised $3,214,026, net of issuance costs of $285,974, through the placement of 350 shares of Series B Preferred Stock ("Series B Preferred Stock")
pursuant to Regulation S of the Securities Act of 1933 ("the Act"). The Series B Preferred Stock had a stated value of $10,000 per share, accrued dividends for liquidation and conversion
purposes at 6% per annum and ranked senior to Wave's Common Sock and Series C Convertible Preferred Stock ("Series C Preferred Stock") and junior to the Series A Preferred Stock.
Series B Preferred Stock was convertible by the holder, in increments, into Wave's Class A Common Stock. The Series B Preferred Stock was convertible at the
lesser of 110% of the average closing bid price for the five days immediately preceding the issue date or 85% of the average closing bid price for the five days immediately preceding the conversion
date.

During
1996, 330 shares of Wave's Series B Preferred Stock were converted into 2,960,303 shares of Wave's Class A Common Stock and the remaining 20 shares of
Series B Preferred Stock were converted in 1997 into 117,240 shares of Wave's Class A Common Stock.

In
December of 1996, Wave raised $2,634,037 net of issuance costs of $365,963 ($101,964 of which related to the value ascribed to warrants issued) through the placement of 150,000 shares
of Series C

F-21

---

Preferred Stock pursuant to Regulation D of the Act. The Series C Preferred Stock had a stated value of $20 per share, which accrued dividends payable quarterly in cash at 6% per annum.

The
Series C Preferred Stock ranked senior to Wave's Common Stock and junior to the Series A and B Preferred Stock. Series C Preferred Stock was convertible by the
holder, in increments, into Wave's Class A Common Stock based on the market price of Wave's Class A Common Stock at the time of conversion. The Series C Preferred Stock was
convertible at the lesser of $2.31 per share or 80%, as adjusted, of the average of the fair value of the Class A Common Stock for the five days prior to the conversion date. During 1997 all of
the Series C Preferred Stock was converted into 2,850,439 shares of Wave's Class A Common Stock.

In
May of 1997 Wave raised approximately $1,316,000, net of issuance costs of $272,000 ($162,000 of which related to the value ascribed to warrants issued), through the placement of
80,000 shares of newly created Series D Convertible Preferred Stock. The Series D Preferred Stock had a stated value of $20 per share, which accrued dividends payable quarterly in cash
at 6%.

The
Series D Convertible Preferred Stock was convertible into the Class A Common Stock of Wave at an effective conversion price of the lower of (i) $1.35, or
(ii) 80% of the average closing bid price on the NASDAQ National Market System of Wave's Class A Common Stock for the five (5) trading days immediately preceding the date of
conversion. During 1997 all of the Series D Convertible Preferred Stock was converted into 2,070,095 shares of Wave's Class A Common Stock.

(b) Convertible Preferred Stock

In October 1997 Wave raised approximately $1,850,000, net of issuance costs of $397,000 ($224,000 of which related to the value ascribed to warrants
issued), through the private placement of 112,500 shares of newly created Series F Convertible Preferred Stock. The Series F Convertible Preferred Stock had a stated value of $20 per
share, which accrued dividends payable quarterly in cash at 6%. The Series F
Convertible Preferred Stock was convertible into the Class A Common Stock at an effective conversion price of the lower of (a) $1.05 and (b) 80% of the average of the five
(5) lowest trading prices of Class A Common Stock. During 1997 all of the Series F Convertible Preferred Stock was converted into 2,961,086 shares of Wave's Class A Common
Stock.

During
March of 1998, Wave issued 150,000 shares of newly created Series G Convertible Preferred Stock for an aggregate purchase price of $3,000,000. The Series G
Convertible Preferred Stock was senior to Wave's classes of Common Stock, and was junior to Wave' Series A Preferred Stock in liquidation rights. The Series G Convertible Preferred Stock
accrued dividends at the rate of 6% per annum. The Series G Convertible Preferred Stock was convertible into Wave's unregistered Class A Common Stock at the lower of $1.12 or 80% of the
average of the five lowest closing bids for the 25 calendar days prior to conversion. In addition, Wave issued warrants to the purchaser and placement agent for 225,000 shares of Wave's Class A
Common Stock at an exercise price of $1.38. The Series G Convertible Preferred Stock was converted into 2,394,494 and 377,102 shares of Wave's Class A Common Stock during 1998 and 1999,
respectively.

F-22

---

(c) Common Stock

In December 1989, March through October 1990, and November 1991, substantially all stockholders as of December 29, 1989 were offered
the right to acquire a number of shares equivalent to their pre-offering holdings at a price of $.003 per share. Substantially all stockholders that received the offer accepted this offer.
This was accounted for essentially as a stock split effected in the form of a rights offering, and all shares issued in conjunction with this offering were reflected in the accompanying consolidated
financial statements retroactively.

Two
principal stockholders did not acquire the full amount of shares to which they were entitled. Most of the additional proportionate shares that these stockholders would have been
credited with were offered instead to certain officers, employees and stockholders for $.003 per share. To the extent that these rights were offered to the individuals in compensation for services
rendered to Wave, compensation expense equal to the difference between the estimated fair value as of the date of issuance and the purchase price of the stock was recorded. The estimated fair value of
the Common Stock was determined based on sales to third parties near the date of issuance. Compensation expense associated with the issuance of these shares of $430,250 is included in the accompanying
consolidated statement of operations for the period from inception to December 31, 2000.

In
May and November, 1992, Wave issued 770,000 shares of Class B restricted Common Stock to certain employees, officers and stockholders of Wave for a purchase price of $.003 per
share, payable in the form of services to Wave. As these shares were issued for services rendered, compensation expense of $1,927,500 was recorded representing the estimated fair value of $2.50 per
share at the date of issuance, the price at which Common Stock was sold to third parties near the time of issuance.

In
February 1995, Wave agreed to grant 36,000 shares of Class A Common Stock, 12,000 of which were issued in 1995 with the remainder issued in 1996, to two consultants and
six non-employee directors as compensation for services rendered. Expenses of $112,500 were recorded in 1995 representing the stock's fair value of $3.13 per share at the time of the
agreement to grant.

In
July 1995, Wave issued 19,559 shares to two vendors in payment for services rendered. Costs of $20,000 were recorded representing the stock's fair value of approximately $1.00
per share at the time the services were rendered.

In
July and August 1996, Wave issued 15,000 and 3,077 shares of Class A Common Stock to two consultants as compensation for services rendered. Expenses of $40,938 have been
recorded representing the stock's fair value of $2.06 and $3.44 per share, respectively, at their dates of issuance.

During
1997 Wave issued 126,885 shares of Wave's Class A Common Stock to vendors or for the settlement of liabilities. Expenses of $305,496 have been recorded representing the
stocks' fair value at the date of issuance.

During
1997 Wave sold approximately 800,000 shares of Wave's Class A Common Stock and warrants to purchase 160,000 shares of Wave's Class A Common Stock, exercisable at an
exercise price of $1.00, for an aggregate purchase price of $800,000. The warrants were exercised or expired during 1999.

During
1997 Wave issued 500,000 shares of Wave's Class A Common Stock in connection with a license agreement with Aladdin Knowledge Systems, Ltd. for its proprietary
persistent encryption technology. The shares were issued at their fair value on the date of issuance.

On
March 23, 1999, Wave sold 2,090,954 shares of its Class A Common Stock at a price of $11.00 per share, for an aggregate purchase price of $23,000,494. These shares were
sold to a group of accredited investors pursuant to Regulation D promulgated under the securities act of 1933, as amended. Pacific Growth Equities, Inc. acted as sole placement agent for
the private placement, receiving a commission of 6% or approximately $1.2 million for their services.

F-23

---

On
March 7, 2000 Wave sold 3,600,800 shares of its Class A Common Stock at a price of $34.00 per share, for an aggregate purchase price of $122,427,200. The shares were
sold to a group of accredited investors pursuant to regulation D promulgated under the securities act of 1933, as amended. Pacific Growth Equities, Inc. acted as sole placement agent for
the private placement, receiving a commission of 6% or approximately $7.3 million for their services.

(d) Recapitalization

In January 1994, the Board of Directors authorized Wave to amend and restate Wave's Certificate of Incorporation to reflect the authorization of 25,000,000
shares of a newly created Class A Common Stock, which stock has voting rights of one vote per share, and the reclassification of the then current outstanding shares of Common Stock into
Class B Common Stock. In June 1994, the Board of Directors
authorized that the Class B Common stock will have one vote per share, except that Class B Common Stock will have five votes per share in cases where one or more directors are nominated
for election by persons other than Wave's Board of Directors and where there is a vote on any merger, consolidation or other similar transaction, which is not recommended by Wave's Board of Directors.
In addition, the Class B Common Stock will have five votes per share on all matters submitted to a vote of the stockholders in the event that any person or group of persons acquires beneficial
ownership of 20% or more of the outstanding voting securities of Wave. The Class B Common Stock is convertible into shares of Class A Common Stock at any time. The classes of Common
Stock are alike in all other respects.

(8)  Options and Warrants

1991 Plan

In September 1991, the Board of Directors authorized the establishment of a stock option plan (the "1991 Plan"). The total number of shares of
Class B Common Stock subject to the Plan was 2,700,000. Options terminate upon the earlier of the date of the expiration of the option or upon termination of the employment relationship between
Wave or a subsidiary and the optionee for any reason other than death, disability or retirement.

Under
the 1991 plan, employees are entitled to exercise their options on dates determined by the Compensation Committee of the Board of Directors. Vesting provisions for options granted
generally range from immediate vesting to pro rata vesting over a three-year period. Options granted under the 1991 Plan may, at the discretion of the Compensation Committee, include the
right to acquire a reload option. A reload option provides for the automatic grant of a new option at the then-current market price in exchange for each previously owned share tendered by
an employee in a Stock-for-Stock exercise.

Subsequent
to January 1994 no further options, other than reload options, may be granted under the 1991 Plan. All options outstanding under the 1991 Plan continue in full force
and effect subject to their original terms. As of December 31, 2001, there remained 235,032 options outstanding under the 1991 plan at exercise prices ranging from between $1.67 and $3.50 per
share.

1994 Plans

In January 1994, the Board of Directors authorized the establishment of the 1994 Employee Stock Option Plan (the "1994 Plan"). The initial number of shares
of Class A Common Stock subject to the
1994 Plan was 1,000,000. The terms of the 1994 Plan are similar to those of the 1991 Plan. Options are granted with exercise prices that approximate fair market value at the date of grant. In
May 1996, July 1997, November 1998 and June 2000 Wave's shareholders approved amendments to Wave's 1994 Plan to increase the number of shares of Class A Common Stock
reserved for issuance there under by 1,000,000, 1,000,000, 5,000,000 and 5,000,000, respectively. Therefore, the total number of shares of

F-24

---

Class A Common Stock reserved for issuance under the 1994 Plan is 13,000,000 shares. As of December 31, 2001, there were approximately 1,898,000 shares available for grant under the
1994 Plan.

In
January 1994, the Board of Directors authorized the establishment of the Non-Employee Directors Stock Option Plan (the "Directors' Plan"). The total number of
shares of Class A Common Stock subject to the Directors' Plan was initially 200,000. Pursuant to the Directors' Plan, each director who was not an employee of Wave received an initial grant of
options to purchase 12,000 shares of Class A Common Stock at an exercise price of $3.50 per share.

Any
person subsequently elected as a director who was not an employee of Wave received an initial grant of options to purchase 12,000 shares of Class A Common Stock on the day he
or she was elected a director. In addition, on the day immediately following each of the dates on which an incumbent director was reelected, he or she received an additional grant of options to
purchase 2,000 shares of Class A Common Stock.

The
Stockholders of Wave have since, authorized certain changes to the Directors' Plan. In February 1995, the annual option grant for directors was increased from a total of 2,000
shares of Class A Common Stock to 10,000 shares of Class A Common Stock. In July 1995, the Board authorized an increase to the total number of shares subject to the Directors'
Plan from 200,000 shares to 500,000 shares. In November 1998, the stockholders of Wave authorized an increase to the total number of shares subject to the Directors' Plan from 500,000 shares to
1,000,000 shares. The stockholders also amended the Directors' Plan to provide that options issued to non-employee directors under such plan vest on the day following the grant. (Initial
option grants under the Directors' Plan vested one-third upon grant, and one-third on each of the first and second anniversaries. Annual option grants vested 25% after each
three-month period following grant.)

Options
under the Directors' Plan are exercisable for a period of ten years from the date of grant. Options may not be exercised after the option holder ceases to be a director of Wave,
except that in the event of death or disability of the option holder, the option may be exercised for a period of one year after the date of death or disability, and, in the event of retirement of the
option holder, the option may be exercised for a period of three months after the date of retirement. As of December 31, 2001, there were approximately 445,000 shares available for grant under
the Director's Plan.

In
September 1996, the Board of Directors authorized the establishment of the 1996 Performance Stock Option Plan (the "1996 Plan"). The initial number of shares of Class A
Common Stock subject to the 1996 Plan was 800,000. The terms of the 1996 Plan are similar to those of the 1994 and 1991 Plans.
Options are granted with exercise prices that approximate fair market value at the date of grant. As of December 31, 2001, there were approximately 125,000 shares available for grant under the
1996 Plan.

The
per share weighted-average fair value of stock options granted during 2001, 2000 and 1999 was $2.89, $12.18 and $8.28 on the dates of grant using the Black Scholes option-pricing
model with the following weighted-average assumptions:

|                      |  | 2001 |   | 2000 |   | 1999 |  
|--------------------- |  | ---- | - | ---- | - | ---- | -
|Expected Life (Years) |  | 5    |   | 5    |   | 10   |  
|Interest Rate         |  | 4.0  | % | 6.0  | % | 6.0  | %
|Volatility            |  | 119  | % | 123  | % | 113  | %
|Dividend Yield        |  | 0    | % | 0    | % | 0    | %

Wave
applies APB Opinion No. 25 in accounting for its Plans. Compensation expense has been recognized in the financial statements for Stock options granted to employees at
exercise prices below the market value of $552,554 in 2001, $318,609 in 2000 and $0 in 1999. Deferred compensation for

F-25

---

stock options granted to employees at exercise prices below market value was approximately $1,000,000 as of December 31, 2001; and is being recognized over a period of three years.

Had
Wave determined compensation cost based on the fair value at the grant dates for its stock options under SFAS No. 123, Wave's net loss would have been increased to the pro
forma amounts indicated below:

|                                            |  | 2001 |             | 2000 |   | 1999        |   |   |            
|------------------------------------------- |  | ---- | ----------- | ---- | - | ----------- | - | - | -----------
|Net lossas reported                        |  | $    | (48,701,057 | )    | $ | (47,655,893 | ) | $ | (28,052,572
|Net losspro forma                          |  |      | (69,720,636 | )    |   | (64,029,399 | ) |   | (39,811,659
|Net loss to Common stockholdersas reported |  |      | (48,701,057 | )    |   | (47,655,893 | ) |   | (28,065,811
|Net loss to Common shareholderspro forma   |  |      | (69,720,636 | )    |   | (64,029,399 | ) |   | (39,824,898
|Loss per Common shareas reported           |  |      | (0.97       | )    |   | (1.03       | ) |   | (0.73      
|Loss per Common sharepro forma             |  | $    | (1.40       | )    | $ | (1.39       | ) | $ | (1.04      

Summary of Option Activity

A summary of option activity through December 31, 2001 follows:

|                             |  | Class A and B shares
subject to option |   | Weighted average
exercise price
|---------------------------- |  | -------------------------------------- | - | -------------------------------
|Balance at January 1, 1991   |  |                                       |   | $                              
|Options granted              |  | 30,000                                 |   |                                
|                             |  |                                        |   |                                
|Balance at December 31, 1991 |  | 30,000                                 |   |                                
|Options granted              |  | 816,750                                |   |                                
|                             |  |                                        |   |                                
|Balance at December 31, 1992 |  | 846,750                                |   |                                
|Options granted              |  | 949,186                                |   |                                
|                             |  |                                        |   |                                
|Balance at December 31, 1993 |  | 1,795,936                              |   |                                
|Options granted              |  | 310,200                                |   |                                
|Options canceled             |  | (108,500                               | ) |                                
|                             |  |                                        |   |                                
|Balance at December 31, 1994 |  | 1,997,636                              |   |                                
|Options granted              |  | 777,850                                |   |                                
|Options canceled             |  | (349,205                               | ) |                                
|Options exercised            |  | (681,700                               | ) |                                
|                             |  |                                        |   |                                
|Balance at December 31, 1995 |  | 1,744,581                              |   |                                
|Options granted              |  | 1,342,075                              |   |                                
|Options canceled             |  | (503,879                               | ) |                                
|Options exercised            |  | (214,091                               | ) |                                
|                             |  |                                        |   |                                
|Balance at December 31, 1996 |  | 2,368,686                              |   |                                
|Options granted              |  | 707,914                                |   |                                
|Options canceled             |  | (676,741                               | ) |                                
|Options exercised            |  | (70,326                                | ) |                                
|                             |  |                                        |   |                                
|Balance at December 31, 1997 |  | 2,329,533                              |   |                                
|Options granted              |  | 5,756,893                              |   |                                
|Options canceled             |  | (707,384                               | ) |                                
|Options exercised            |  | (78,653                                | ) |                                
|                             |  |                                        |   |                                

F-26

---

|Balance at December 31, 1998 |  | 7,300,389  |   |   | 2.40 
|---------------------------- |  | ---------- | - | - | -----
|Options granted              |  | 1,925,447  |   |   | 10.15
|Options canceled             |  | (450,378   | ) |   | 3.51 
|Options exercised            |  | (964,000   | ) |   | 1.69 
|                             |  |            |   |   |      
|Balance at December 31, 1999 |  | 7,811,458  |   |   | 4.33 
|Options granted              |  | 3,444,037  |   |   | 13.58
|Options canceled             |  | (905,145   | ) |   | 12.33
|Options exercised            |  | (2,030,958 | ) |   | 2.51 
|                             |  |            |   |   |      
|Balance at December 31, 2000 |  | 8,319,392  |   |   | 7.90 
|Options Granted              |  | 2,934,272  |   |   | 3.46 
|Options Canceled             |  | (1,128,327 | ) |   | 8.16 
|Options Exercised            |  | (473,511   | ) |   | 1.42 
|                             |  |            |   |   |      
|Balance at December 31, 2001 |  | 9,651,826  |   | $ | 6.85 

At
December 31, 2001, there were approximately 4,810,121options exercisable at prices ranging from $.49 to $37.50.

F-27

---

The following table summarizes information about stock options outstanding at December 31, 2001:

|Range of
exercise prices |  | Number
outstanding |  | Number
exercisable |  | Weighted
average
exercise
price |       | Weighted
average
remaining
contractual
life
|------------------------ |  | ------------------ |  | ------------------ |  | ------------------------------- | ----- | -------------------------------------------
|$.490.74                |  | 4,585              |  | 4,585              |  | $                               | .49   |                                            
|0.751.12                |  | 277,264            |  | 277,264            |  |                                 | 1.10  |                                            
|1.131.69                |  | 1,255,996          |  | 730,493            |  |                                 | 1.33  |                                            
|1.702.55                |  | 377,590            |  | 60,991             |  |                                 | 1.80  |                                            
|2.563.84                |  | 1,922,863          |  | 1,833,863          |  |                                 | 3.64  |                                            
|3.855.78                |  | 2,212,337          |  | 475,603            |  |                                 | 4.09  |                                            
|5.798.68                |  | 555,031            |  | 138,106            |  |                                 | 6.66  |                                            
|8.6913.04               |  | 1,301,549          |  | 530,276            |  |                                 | 11.80 |                                            
|13.0519.58              |  | 1,471,881          |  | 668,027            |  |                                 | 15.16 |                                            
|19.5929.38              |  | 222,730            |  | 74,245             |  |                                 | 19.69 |                                            
|29.3937.50              |  | 50,000             |  | 16,668             |  |                                 | 33.75 |                                            

1999 WaveXpress Stock Incentive Plan

In April 2000, the board of directors of WaveXpress authorized the establishment of a stock option plan. The total number of shares of WaveXpress'
Class A Common Stock subject to the Plan is 2,500,000. Options terminate upon the earlier of the date of expiration of the option or upon termination of the employment relationship between
WaveXpress and the optionee for any reason other than death, disability or retirement.

Employees
are entitled to exercise their options on dates determined by WaveXpress' Compensation Committee of the Board of Directors. Vesting provisions for options granted generally
range from immediate vesting to pro rata vesting over a three-year period.

Stock
option activity during 2001 and 2000 is as follows:

|                                                     |  | 2001      |   | 2000
|---------------------------------------------------- |  | --------- | - | ----
|
|Balance at beginning of year                         |  | 634,964   |   | $   
|Granted                                              |  | 75,840    |   |     
|Exercised                                            |  | (27,777   | ) |     
|Canceled                                             |  | (334,052  | ) |     
|                                                     |  |           |   |     
|Balance at end of year                               |  | 1,029,975 |   |     
|                                                     |  |           |   |     
|Exercisable at end of year                           |  | 176,682   |   |     
|                                                     |  |           |   |     
|Additional shares available for grant at end of year |  | 1,442,248 |   |     
|                                                     |  |           |   |     

F-28

---

The
per share weighted-average fair value of stock options granted during 2001 and 2000 was $0.89 and $0.99, respectively, on the date of grant using a Black-Scholes option-pricing model
with the following weighted-average assumptions:

2001

2000Expected dividend yield

0
%
0
%Risk-free interest rate

4
%
6
%Expected Volatility

127
%
149
%Expected life

3 years

3 years


No
options were outstanding at December 31, 1999.

The
following table summarizes information about WaveXpress' fixed stock options outstanding at December 31, 2001:

|           |  | Options Outstanding |  | Options Exercisable
|---------- |  | ------------------- |  | -------------------
|
|$1.20      |  | 1,021,778           |  | 9.1                
|$3.004.50 |  | 8,197               |  | 6.9                
|           |  |                     |  |                    
|$1.204.50 |  | 1,029,975           |  | 9.1                
|           |  |                     |  |                    

Warrants

In 1993 and 1994, Wave issued warrants to acquire a total of 151,600 shares of Class B Common Stock at $3.50 per share in conjunction with sales of
Class B Common Stock to individuals and institutions. All warrants were exercisable for a period of five years from the date of issuance and were subsequently canceled or exercised in 1998 and
1999.

In
1993 and 1994, Wave issued warrants to acquire a total of 376,253 shares of Class B Common Stock at $3.50 per share in conjunction with the issuance of its 10% Convertible
Notes which have since been repaid and in 1994, Wave issued warrants to acquire a total of 46,799 shares of Class B Common Stock at $6.00 per share in conjunction with the issuance of its 15%
Notes, also which have since been repaid. All warrants were exercisable for a period of five years from their dates of issuance. These warrants were exercised or canceled in 1998 and 1999.

Under
the terms of Wave's initial public offering, the underwriter acquired warrants to purchase 360,000 Class A Common Stock at a price of $6.50 per share for nominal
consideration. These warrants were exercisable for four years commencing in September 1995. These warrants were exercised during 1999.

As
a result of the successful placement of 350 shares of Series B Preferred Stock, a consultant from Digital Media Group, Inc. was issued warrants by Wave to purchase
15,000 Class A Common shares at a price of $3.09 per share. These warrants are exercisable for ten years commencing in March 1996, and are still outstanding.

Due
to the successful placement of 150,000 shares of Wave's Series C Convertible Stock, Wharton Capital Partners Ltd. and The Shemano Group, Inc., two financial
consulting firms, were issued warrants by Wave to purchase 37,500 Class A Common Stock each at a price of $2.54 per share. These warrants were exercised in 1999.

F-29

---

In
connection with the acquisition of WIN, Wave issued a warrant that allowed the holder the ability to purchase unregistered shares of Wave's Class A Common Stock at a price of
$1.25 per share at the earlier of the conversion of a note or April 18, 1998 for a period of five years. The number of shares able to be purchased under this warrant is based on a formula of
$170,000 divided by 80% of the fair market value of the Class A Common Stock at the time of conversion. This warrant was subsequently extended one year by issuing 100,000 additional warrants to
be exercised at prices ranging from $1.49 to $3.43. These warrants were exercised during July 1999.

As
a result of the successful placement of 80,000 shares of Wave's Series D Preferred Stock, JNC Opportunity Fund, the acquirer of the placement, received 80,000 warrants to
purchase Wave's unregistered Class A Common Stock, and financial consultants, primarily Wharton Capital Partners, received a total of 40,000 warrants. The warrants were exercised in 1999 at an
exercise price of $1.62.

As
a result of the successful placement of 112,500 shares of Wave's Series F Preferred Stock, Combination Inc., the acquirer of the placement, received 112,500 warrants to
Wave's unregistered Class A Common Stock, and Wharton Capital Partners received 56,250 warrants. The warrants had an exercise price of $1.26, and expire on October 9, 2002. The warrants
were exercised in 1998.

In
connection with the private placement of approximately 800,000 shares of Wave's Class A Common Stock, Wave issued 160,000 warrants to purchase shares of Wave's unregistered
Class A Common Stock at an exercise price of $1.00. The warrants were exercised or expired during 1999.

In
connection with a technology license agreement with Aladdin, Wave issued two warrants on July 18, 1997 to purchase Wave's Class A Common Stock. The first warrant was
exercisable in 100,000 share lots, and provided the holder with the right to acquire 1,216,136 shares of Wave's unregistered Class A Common Stock at an exercise price of $1.70 per share. The
first warrant had a life of two years. The second warrant provided the holder with the right to acquire 7% of Wave's Class A Common Stock on a fully diluted basis for the average closing price
for the 15 trading days prior to exercise and had a three year life. During June of 1998, Aladdin exercised a portion of the second warrant to purchase 1,000,000 shares of Common Stock. On
March 31, 1999 Aladdin exercised their entire first warrant for 1,216,136 Class A Common Stock. Associated with the second warrant, Aladdin had the right to acquire shares approximating
3.45% of Wave's Class A Common Stock. The remaining shares under the second warrant were not exercised, and expired July 17, 2000.

In
connection with a $2,000,000 convertible promissory note, warrants to acquire 275,000 shares of Class A Common Stock were issued. Wave incurred a non-cash charge to
interest expense for approximately $666,000. These warrants were subsequently exercised in January 2000.

In
connection with a software development agreement that Wave entered into with Archon Technologies, Inc. ("Archon"), Wave issued to Archon a warrant to purchase 50,000 shares of
Wave Class A Common Stock at $3.48 per share. The warrant is exercisable November 9, 2002, and expires on November 9, 2007.

In
2001 50,320 warrants were exercised at $1.83 per share. In 2000 44,692 warrants were exercised at prices ranging from between $1.10 and $5.50 per share

F-30

---

A
summary of warrants outstanding at December 31, 2001, follows:

Class A and B shares
subject to warrants

Range of
exercise
prices

Weighted Average
Remaining
Contractual Life85,000

$3.09$14.73

5 years


At
December 31, 2001, warrants to acquire approximately 35,000 shares of Class A and Class B Common Stock were exercisable.

(9)  Licensing Agreements

(a) Licensed Patents

In February 1994, Wave entered into an Amended and Restated License Agreement (the "Agreement") with Mr. Peter J. Sprague, the Chairman and former
Chief Executive Officer of Wave, and Mr. John Michener, then a shareholder and officer of Wave, whereby Wave was granted an exclusive license to make, have made, use, lease, sell or otherwise
perform services covered by certain licensed patents which are a fundamental part of some of Wave's products. The Agreement amends and restates certain license agreements entered into by Wave prior to
February 1994.

The
Agreement provides for royalty payments to be made to the licensors in the aggregate amount of two percent of the total gross revenues derived by Wave and any sublicensee of Wave
from the exploitation of these licensed patents, less amounts paid, if any, to (i) information and database providers for information distributed to or through Wave or its sublicensees, and to
(ii) Wave's sublicensees for manufacturing the product or performing the services covered by these patents. Royalty payments are payable quarterly and are to be apportioned 75% to
Mr. Sprague and 25% to Mr. Michener.

Payment
of royalties is secured by a security interest in and to these licensed patents. Mr. Sprague assigned all of his right, title, and interest in the licensed patents to
Wave.

Wave
believes that the agreements as a whole provide it with exclusive rights under the patents. There can be no assurance that Wave will enjoy exclusive rights to the licensed patents
under these agreements. No payments have been made to date.

(b) Aladdin License Agreement

During the third quarter of 1997 Wave entered into a license agreement with Aladdin, an Israeli company, for technology and in-process research and
development related to Aladdin's proprietary persistent encryption system. Under the terms of the Aladdin license agreement, Wave is prohibited from using any other encryption technology for the first
five years. This technology will be incorporated into the Wave System to facilitate pay-per-view content distribution.

Wave
acquired the license for this technology in exchange for $950,000 plus two warrants to purchase Wave's Class A Common Stock valued at approximately $2.9 million (see
note 8). The cost of this license was expensed as research and development costs. Aladdin also is provided a royalty payment of 5% to 9% of Wave's net content revenues.

F-31

---

In
connection with this agreement, Aladdin acquired an equity position in Wave by purchasing 500,000 shares of Wave's Class A Common Stock for $900,000, which approximated the
fair market value of the shares on the date of purchase (see note 7).

(10) License and Cross-License Agreements

On May 1, 1992, Wave entered into a Joint Technology Development Agreement and License and Cross-License Agreement ("License and Cross-License Agreement")
with The Titan Corporation ("Titan") whereby Titan granted to Wave license rights to the use of certain patents which are co-owned or licensed by Titan. Wave granted to Titan the exclusive
right to make for, sell in, and lease in a "Retained Market," as defined in the agreement, the subject matter described in any Company patent. The Retained Market is defined generally as the market
for "Government Information," as defined in the agreement, used solely by a government entity, and the market for products used to access such information. Wave issued to Titan 674,976 shares of
Class B Common Stock in return for the license to Titan's patents. These shares were valued at $1.67 per share (total $1,124,960), the estimated fair value of the shares at the time of issuance
(based on the price at which shares were sold to third parties near
the time of issuance), and were included in research and development expense in the accompanying consolidated statement of operations for the period from February 12, 1988 through
December 31, 2001.

The
License and Cross-License Agreement provides for royalties to be paid by Wave to Titan based upon Wave's "Net Revenues," as defined in the agreement. Net Revenues are defined
generally as gross product revenues less amounts paid to information providers and data base providers for information provided to Wave for use in its products and services. Royalties are payable on a
quarterly basis.

The
License and Cross-License Agreement also provides for royalties to be paid to Wave by Titan based upon Titan's "Allocable Net Revenues," as defined in the agreement. Allocable Net
Revenues are generally defined as that portion that a Company patent or information adds to Titan's gross amounts invoiced to purchasers for all products or information services making use of a
Company patent or know-how and information. Royalties are payable on a quarterly basis.

The
License and Cross-License Agreement specifies certain events of termination, some of which have already occurred but which have been waived or extended by Titan.

A
director of Wave, who resigned from the Board at the end of 1997, is also the President, Chief Executive Officer, and a director of Titan. Pursuant to the terms of a related
stockholders agreement, Titan has the right to designate a member of Wave's Board of Directors for as long as Titan continues to own at least 50% of the shares originally issued to Titan. As of
December 31, 2001, no royalties have been earned by Titan. On February 28, 1997, Wave and Titan executed an addendum to the License Agreement whereby Wave received a sole license to
Titan's patent to develop and distribute products to the in-home consumer microcomputers market segment. Under this addendum, Titan waived all defaults previously incurred by Wave as well
as extended the license agreement to expire at the time the patents expire.

(11) Revenue Sharing Agreements With Partners

Wave has, and intends to continue to, enter into revenue sharing arrangements with information providers, software developers, and hardware and systems
manufacturers. Such revenue sharing arrangements are expected to be negotiated between each of the partners and Wave. It is anticipated that revenue sharing arrangements will vary according to the
market in which the Wave system is adopted and from which revenues are derived. Generally, a significant portion of the revenue collected by Wave will be paid directly to the information provider or
software developer. Once these payments are made, the remainder of revenues will be shared between Wave and other partners. There can be no

F-32

---

assurance that Wave will be successful in entering into definitive agreements with these parties, or that the terms of such agreements will be favorable to Wave.

(12) Investments

The following table summarizes Wave's investments in securities as of December 31:

|                                 |  | 2001 |            | 2000
|-------------------------------- |  | ---- | ---------- | ----
|
|Common stock of public companies |  | $    | 12,576,118 |     

The
investments referred to above include 3,083,083 shares of SSP Solutions which were acquired as the result of Wave's issuance of 2,000,000 shares of its Class A Common Stock at
a price of $7.16 per share, for an aggregate purchase price of $14,312,800 in exchange for 3,600,000 shares of the Series B Preferred Stock of BIZ, then a privately held company. On
August 24, 2001 Litronic Inc. and BIZ completed a merger to form SSP Solutions. The 3,083,083 SSP Solutions shares now owned by Wave represent 14.95% of the outstanding common stock of
SSP Solutions. Wave has accounted for this investment as non-current marketable equity securities available for sale based on its intent to hold these securities as a long-
term investment. As of December 31, 2001, the investment was valued at $11,160,758 based on that day's closing price of SSP Solutions on the NASDAQ national exchange of $3.62 per share. As of
December 31, 2001 Wave took a charge for an "other than temporary decline" in the value of its investment in SSP Solutions of $1,736,682. This charge was taken because a decline in SSP
Solutions' share price had occurred due to concerns about SSP Solutions' financial condition and near-term prospects. As a result of this charge the cost basis of the investment as of
December 31, 2001 has been adjusted to $12,576,118.

In
addition, Wave holds 107,975 common shares of XO Communications Corporation ("XO"). As of December 31, 2001 the stock had a market value of $10,366 based on that day's closing
price of $0.096 per share.

F-33

---

(13) Joint Ventures

(a) GlobalWave, Ltd

In July of 1997, Wave entered into a joint venture with ITG, a United Kingdom Internet service provider. The joint venture was initially owned 25% by Wave and 75%
by ITG. Wave contributed its technical expertise and ITG contributed initial working capital and the commitment to fund all future working capital requirements of the joint venture. The objective of
the joint venture company, GlobalWave is to promote and commercialize Wave's technology in certain European, African and Middle Eastern markets. Pursuant to the joint venture agreement, Wave received
a license fee of $5 million in exchange for the joint venture's right to market Wave's technology in European, African and Middle Eastern markets. The license fee was paid by ITG as part of its
commitment to fund the joint venture. During the third quarter of 1997, Wave received $1.0 million from the joint venture representing partial payment of the license fee, with the remaining
payments to be made upon Wave's attaining certain milestones related to the number of Wave Meters distributed. The amount received was recorded as deferred license fee income in the third quarter of
1997 as it was uncertain whether Wave had met the contractual requirements required in order to have earned the first payment. During the fourth quarter of 1997, Wave met these requirements and began
recognizing the license fee ratably over the contractual period, and recorded the $1 million as a license fee income. Also Wave accrued $490,000 in the fourth quarter of 1997 for expenses
related to Wave's obligation to assist the joint venture in setting up the Wave system in the designated markets. In January 1998, the joint venture agreement was modified to extend the
milestone dates and provide for the payment of an additional $750,000 of the $5 million license fee to Wave. The payment of $750,000 was received in January 1998. Wave also received the
final payment of $3.25 million in June 1998. This payment and the $750,000 received in January 1998 totaled $4 million received in 1998. As part of the agreement, after the
final license fee was paid, the companies issued a warrant to each other to purchase approximately one million shares of each other's Common Stock. The exercise price of the Wave warrants was $1.75
per share. The exercise price of the ITG warrant was approximately .995 British pound per share. On June 5, 1998, the final milestone for the last payment on the license fee was attained and
Wave became obligated to issue its warrant to ITG pending approval by the shareholders of ITG for it to issue its reciprocal warrant. On this date the net fair market value of the exchange of warrants
represented a net cost to Wave of approximately $1.1 million. Wave recorded this cost as ITG net warrant cost in the Consolidated Statement of Operations.

On
November 5, 1999, Wave exercised its warrant for 1,000,000 shares in ITG at a total cost of $1,620,000. Also during 1999, ITG exercised its 1,000,000 warrants in Wave yielding
total proceeds of $1,750,000.

In
February, 2000, ITG was acquired by Concentric Network Corporation. As a result of this transaction, Wave received $2,162,457 in cash and 83,910 shares of Concentric Common Stock.
Subsequently, Concentric was acquired by XO, whereby Wave's 83,910 shares in Concentric were converted into 107,975 shares of XO. (See Note 12Investments). In addition, certain
assets of ITG, namely the 1,000,000 shares of Wave Common Stock and ITG's interest in GlobalWave, were distributed to Redwave.

In
June, 2000, Wave increased its ownership percentage of GlobalWave from 25% to 40%. As part of the new joint venture agreement, Wave's partner in the venture, Redwave, agreed to
contribute $7.5 million and 500,000 shares of Wave Common Stock held by Redwave, in exchange for 600,000 shares of GlobalWave class A Common Stock. Wave received 400,000 shares of
GlobalWave class B Common Stock in exchange for a technology license granted by Wave to GlobalWave. Prior to September 30, 2000, no value had been assigned to these shares, as Wave had
not provided any funding to GlobalWave.

F-34

---

On
October 10, 2000, Wave entered into an agreement with GlobalWave and Redwave to subscribe for additional Class B shares of GlobalWave. Under the terms of the agreement,
Wave subscribed for 40,000 additional "B" shares of GlobalWave at £100 per share (approximately $142.80), the consideration for which consisted of £1.5 million
(approximately $2.14 million) in development costs incurred by Wave on behalf of GlobalWave, £1.4 million in cash ($2.0 million), and £1.1 million
(approximately $1.6 million) in cash and/or future development services, for total consideration of £4.0 million (approximately $5.7 million).    In
addition, Redwave has agreed to subscribe for an additional 60,000 GlobalWave "A" shares, the consideration for which will consist of the conversion of debt and cash totaling
£6.0 million (£5,966,615 in debt and £33,385 in cash; approximately $8.6 million). The resulting ownership interest in the venture will remain 60% for
Redwave and 40% for Wave.

Also,
in October 2000, Wave and Redwave formed a joint venture holding company, Wave European Technologies plc, ("WET") for their European interests, including their respective
40% and 60% stakes in GlobalWave. Subsequent to the formation of WET, WET's name changed to GlobalWave Group, plc.

As
of December 31, 2001, Wave has contributed approximately $4.1 million of its committed investment in the form of development costs incurred and cash. Pursuant to the
equity method of accounting, and because Wave has committed to provide funding to the venture, Wave has recognized its equity share (40%) of GlobalWave's net losses since inception in its results for
the year-ended December 31, 2001. Wave has recorded its equity in the GlobalWave's net losses of $2.3 million and $3.4 million for the years-ended December 31,
2001 and 2000, respectively. Because Wave had previously not provided any
funding, and had not committed to provide any funding to GlobalWave, none of it's equity in the prior period losses were recognized by Wave in its prior year financial statements.

In
February, 2002, Wave paid approximately $1.6 million representing its final funding committment to GlobalWave.

(b) WaveXpress

In April 1999, Wave joined with Sarnoff Corporation to form a new joint venture, WaveXpress. WaveXpress develops secure data broadcast architecture,
infrastructure and content services. This technology and these services will allow content providers to send digital content to properly equipped PC's by utilizing unused bandwidth in the Digital
Television Spectrum or broadcast over cable television lines. Consumers will be able to purchase this content directly through a secure network connection, thus enabling a significant new revenue
stream for broadcasters or cable television operators. On October 15, 1999, Wave and Sarnoff signed a joint venture agreement that formally established WaveXpress. Under this agreement, Sarnoff
and its affiliates received a 40% equity stake in WaveXpress. Wave received a 53% equity interest; and its affiliates, who purchased founders stock in April 1999 for a nominal amount, owned the
remaining 7% of the outstanding capital stock. The affiliates of Wave include Peter and Steven Sprague, the Chairman and Chief Executive Officer of Wave, respectively, certain members of the Board of
Directors of Wave and certain Wave employees.

Wave has funded WaveXpress through a series of convertible notes, some with attached warrants. The notes bear interest at rates of 2% to 3% above the prime rate of Chase Manhattan Bank.
Generally, the notes are convertible into shares of Common Stock of WaveXpress at varying prices per share. In addition, some of the notes carry attached warrants that allow Wave to purchase
additional shares of WaveXpress, generally at the conversion price of the notes. As of December 31, 2001, Wave owned 69% of WaveXpress while Sarnoff owned 26%. The equity interests of Wave,
Sarnoff and Wave's affiliates referred to above, assuming all of Wave's and Sarnoff's convertible securities are converted and warrants are exercised, would be approximately 82%, 15%, and 3%,
respectively. Through December 31, 2001, Wave had provided approximately $25.9 million in funds, including

F-35

---

approximately $2.3 million in accrued interest. During 2001, some of the notes, totaling $9.5 million matured and were converted into 1,826,570 shares of WaveXpress common stock. These
amounts are eliminated in consolidation.

Neither
Sarnoff nor any of the other minority shareholders have provided or are obligated to provide funding to WaveXpress. Accordingly, the financial statements of WaveXpress have been
included in the consolidated financial statements of Wave as of December 31, 2001 and for the period then ended. In addition, Wave has not recorded a minority interest in WaveXpress in the
consolidated financial statements and therefore has reflected 100% of WaveXpress' balance sheet and operating results in its consolidated financial statements. WaveXpress has incurred net losses of
$10.2, $11.2 million and $1.9 for the years ended December 31, 2001, 2000 and 1999, respectively.

(14) Cash Collected on Behalf of Charities

As of December 31, 2001, Wave held cash received on behalf of charities of $358,531 in connection with Charitywave.com, Wave's on-line
charitable donation service. These donations were received primarily on behalf of donors to the New York Times 9/11 Disaster Relief Fund. In addition, Wave had a receivable from its
credit card processor of $64,522 as of December 31, 2001, associated with these donations. The total of $423,053 is reflected as due to charities in the December 31, 2001 financial
statements, and was paid to the applicable charities within 30 days, in accordance with the standard Charitywave.com contracts with its member charities.

(15) Commitments and Contingencies

Litigation

During 2001 a demand for arbitration was filed against Wave by a former supplier. The arbitration arises out of a claim that Wave breached a contract with the
supplier to purchase computer components to be incorporated into an internet security device produced by Wave. The demand alleges damages in the amount of approximately $1.2 million. It is too
early in the matter to assess whether the loss, if any resulting from the demand will have a material impact on Wave's financial position, results of operations, or cash flows in future years.
Management intends to vigorously contest the arbitration.

Leases

Summarized below is a listing of properties leased by Wave pursuant to non-cancelable operating leases. Our principal research and development
activities are conducted at the Princeton and Cupertino facilities.

Location

Annual
Lease Cost

Lease Expiration
DateLee, MA

$
147,095

Aug. 2004New York, NY


171,000

May 2002Princeton, NJ


547,893

Dec. 2002Cupertino, CA


543,846

Oct. 2002Nashville, TN


47,233

Sep. 2003Orvault, France


32,087

Sep. 2010New York, NY (1)


628,290

Apr. 2010Total

$
2,117,444




F-36

---



Future minimum lease payments under non-cancelable operating leases (with initial or remaining lease terms in excess of one year) as of
December 31, 2001 are as follows:

2002

$
1,826,6212003


761,2812004


641,7582005


621,6232006


646,187Thereafter


2,208,266Total minimum lease payments

$
6,705,737


Rent
expense for the years ended December 31, 2001, 2000, 1999 and for the period from inception through December 31, 2001 amounted to approximately $2,101,000, $1,960,000,
$957,000 and $7,180,000, respectively.

There
were no capital lease obligations as of December 31, 2001.

Purchase Commitments

Wave has outstanding purchase commitments totaling approximately $984,000 for inventory.

(16) Income Taxes

Wave has net operating loss carryforwards for tax return purposes of approximately $145 million, which expire beginning in 2003 through 2021.

Pursuant
to the Internal Revenue Code, Section 382 of 1986, annual utilization of Wave's net operating loss carryforwards may be limited if a cumulative change in ownership of
more than 50% occurs within a three year period. Wave has not determined whether there has been such a cumulative change in ownership or the impact on the utilization of the loss carryforwards if such
change has occurred.

The
tax effects of temporary differences that give rise to the deferred tax asset at December 31, 2001 and 2000 are as follows:

2001

2000Deferred tax assets:Net operating loss carryforwards

$
61,604,000

$
42,263,000Accrued expenses


831,000


324,000Intangibles


4,609,000


1,595,000Reserves


549,000


142,000Depreciation


786,000


246,000Other


42,000


Total gross deferred tax assets


68,421,000


44,570,000Less valuation allowance


(68,421,000
)

(44,570,000
)Net deferred tax asset

$


$



The
valuation allowance increased by approximately $23.9 million and $11.6 million, during the years ended December 31, 2001 and 2000, respectively.

Management
has concluded that it is more likely than not that Wave will not have sufficient taxable income of an appropriate character within the carryback and carryforward period
permitted by current law to allow for the utilization of certain of the deductible amounts generating the deferred tax

F-37

---

assets and, therefore, a valuation allowance of $68,421,000 and $44,570,000 has been established to reduce the deferred tax assets at December 31, 2001 and 2000 respectively.

(17) Defined Contribution Plan

Wave adopted the Wave Systems Corp. 401(k) Savings and Investment Plan, a defined contribution plan, to which substantially all employees can contribute, on
January 1, 1995. Employees of Wave become eligible immediately on employment. Wave has the option to make discretionary matching contributions; no contributions were made in 2001, 2000 or 1999.

(18) Disclosures about the Fair Value of Financial Instruments

Cash and Cash Equivalents, Marketable Securities, Prepaid Expenses and Other Receivable, Accounts Payable and Accrued Expenses, and Note Payable

The carrying amounts of these instruments, other than marketable securities and the note payable, approximate fair value because of their short maturities.
Marketable securities are valued based on the value of the securities as traded on the Nasdaq Stock Exchange.

Fair
value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates are subjective in nature
and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

F-38

---

(19) Segment Reporting

Effective December 31, 2000, Wave adopted SFAS No. 131 "Disclosures about Segments of an Enterprise and Related Information." SFAS 131
supercedes previously issued segment reporting disclosure rules and requires reporting of segment information that is consistent with the way in which management operates Wave. Prior to
December 31, 2000, SFAS 131 was not applicable because Wave only operated as one segment.

Wave's
products include the Wave EMBASSY® Trusted Client Platform and Services and WaveXpress Data Broadcasting Products and Services. These products and services constitute
Wave's reportable segments. Net Losses for reportable segments exclude interest income, interest expense, equity in losses of equity method investees and realized gains on marketable securities. These
items are not reported by segment since they are excluded from the measurement of segment performance reviewed by Wave's management.

F-39

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The
following sets forth reportable segment data:

|                                       |                                                                       | For the years ended December 31, |  
|-------------------------------------- | --------------------------------------------------------------------- | -------------------------------- | -
|
|Operating Revenues:                    |                                                                       |                                  |  
|                                       | EMBASSY® Trusted Client Platform and Services                         |                                  | $
|                                       | WaveXpress Data Broadcasting                                          |                                  |  
|                                       |                                                                       |                                  |  
|                                       | Total Operating Revenues                                              |                                  |  
|(Net Loss):                            |                                                                       |                                  |  
|                                       | EMBASSY® Trusted Client Platform and Services (1)                     |                                  |  
|                                       | WaveXpress Data Broadcasting                                          |                                  |  
|                                       |                                                                       |                                  |  
|                                       | Total Segments Net Loss                                               |                                  |  
|                                       |                                                                       |                                  |  
|                                       | Interest Income                                                       |                                  |  
|                                       | Interest Expense                                                      |                                  |  
|                                       | Equity in net losses of equity method investees                       |                                  |  
|                                       | Loss for Other than Temporary Decline in Marketable Equity Securities |                                  |  
|                                       | Gain on sale of marketable securities                                 |                                  |  
|                                       |                                                                       |                                  |  
|                                       | Net Loss                                                              |                                  | $
|                                       |                                                                       |                                  |  
|Depreciation and Amortization Expense: |                                                                       |                                  |  
|                                       | EMBASSY® Trusted Client Platform and Services (2)                     |                                  |  
|                                       | WaveXpress Data Broadcasting                                          |                                  |  
|                                       |                                                                       |                                  |  
|                                       | Total Depreciation Expense                                            |                                  | $
|                                       |                                                                       |                                  |  
|Capital Expenditures:                  |                                                                       |                                  |  
|                                       | EMBASSY® Trusted Client Platform and Services                         |                                  |  
|                                       | WaveXpress Data Broadcasting                                          |                                  |  
|                                       |                                                                       |                                  |  
|                                       | Total Capital Expenditures                                            |                                  | $
|                                       |                                                                       |                                  |  
|Assets:                                |                                                                       |                                  |  
|                                       | EMBASSY® Trusted Client Platform and Services                         |                                  |  
|                                       | WaveXpress Data Broadcasting                                          |                                  |  
|                                       |                                                                       |                                  |  
|                                       | Total Assets                                                          |                                  | $
|                                       |                                                                       |                                  |  

---

F-40

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(20) Selected Quarterly Financial Data

|                          |  | For Quarters-ended |            
|------------------------- |  | ------------------ | -----------
|
|Revenues                  |  | $                  | 202,221    
|Gross Profit              |  |                    | 50,351     
|Loss from Operations      |  |                    | (9,922,017 
|Net loss                  |  |                    | (11,743,942
|Net loss per Common Share |  | $                  | (0.23      

|                          |  | For Quarters-ended |            
|------------------------- |  | ------------------ | -----------
|
|Revenues                  |  | $                  | 173,380    
|Gross Profit              |  |                    | 169,832    
|Loss from Operations      |  |                    | (14,361,984
|Net loss                  |  |                    | (14,024,071
|Net loss per Common Share |  | $                  | (0.29      

F-41

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EXHIBIT 23.1

CONSENT OF INDEPENDENT AUDITORS

The
Board of Directors
Wave Systems Corp.:

We
consent to the incorporation by reference in the registration statements Nos. 333-46330, 333-33236, 333-92845, 333-38265, 333-28819,
333-20017, 333-73236 and 333-65648 on Form S-3 and Nos. 333-88665, 333-68911, 333-69041,
33-97612, 333-11611 and 333-11609 on Form S-8, of our report dated March 7, 2002, relating to the consolidated balance sheets of Wave
Systems Corp. and subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of operations, stockholders' equity (deficiency) and other comprehensive income (loss),
and cash flows for each of the years in the three-year period ended December 31, 2001 and for the period from February 12, 1988 (inception) through December 31, 2001
which report appears in the December 31, 2001 annual report on Form 10-K/A of Wave Systems Corp.



Boston,
Massachusetts
March 17, 2003

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Certification  Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002  (Subsections (a) and (b) of Section 1350, Chapter 63 of Title 18, United States Code)

Pursuant
to section 90 of the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of section 1350, Chapter 63 of Title 18, United States Code), each of the undersigned
officers of Wave Systems Corp. (the "Company"), does hereby certify, to such officer's knowledge, that:

The Annual Report on Form 10-K/A for the year ended December 31, 2001 of the Company fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act
of 1934 and information contained in the Form 10-K/A fairly presents, in all material respects, the financial condition and results of operations of the Company.

|Dated: March 18, 2003 |  |  |                                                                    
|--------------------- |  |  | -------------------------------------------------------------------
|                      |  |  | /s/STEVEN K. SPRAGUEName: Steven K. Sprague Chief Executive Officer
|Dated: March 18, 2003 |  |  |                                                                    
|                      |  |  | /s/GERARD T. FEENEYName: Gerard T. Feeney Chief Financial Officer  

The
foregoing certification is being furnished solely pursuant to section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and (b) of Section 1350, Chapter 63
of title 18, United States Code) and is not being filed as part of the Form 10-K/A or as a separate disclosure document.

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