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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



---



FORM 10-Q



(Mark One)



|x |  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- |  | ---------------------------------------------------------------------------------------



For the quarterly period ended March 31, 2003



or



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



For the transition period from
                to                 .



Commission File Number 0-25186



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CAPTARIS, INC.

(Name of Registrant as
Specified in Its Charter)



|Washington               |  | 91-1190085                             
|------------------------ |  | ---------------------------------------
|(State of incorporation) |  | (I.R.S. Employer Identification Number)



|10885 N.E. 4th Street, Suite 400         |  |           
|---------------------------------------- |  | ----------
|Bellevue, WA                             |  | 98004     
|(Address of principal executive offices) |  | (Zip code)



Registrants telephone number, including area code: (425) 455-6000



---



Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes x No ̈



Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes x No ̈



The number of outstanding shares of the registrants
common stock as of May 9, 2003 was 30,293,611.



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CAPTARIS,
INC.



FORM 10-Q

For the Quarter Ended September 30, 2002



Table of Contents



|           |  |                       |  |                                                                                       |  | Page
|---------- |  | --------------------- |  | ------------------------------------------------------------------------------------- |  | ----
|PART I.    |  | Financial information |  |                                                                                      
|           |  | Item 1.               |  | Financial Statements (unaudited)                                                      |  | 3   
|           |  | Item 2.               |  | Managements Discussion and Analysis of Financial Condition and Results of Operations |  | 9   
|           |  | Item 3.               |  | Quantitative and Qualitative Disclosures about Market Risk                            |  | 18  
|           |  | Item 4.               |  | Controls and Procedures                                                               |  | 18  
|           |  |                       |  |                                                                                       |  |     
|PART II.   |  | Other Information     |  |                                                                                      
|           |  | Item 6.               |  | Exhibits and Reports on Form 8-K                                                      |  | 19  
|Signatures |  |                       |  |                                                                                       |  | 20  



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PART I.
FINANCIAL INFORMATION



Item 1. FINANCIAL STATEMENTS



CAPTARIS, INC.



CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands)



|                                                                                                                           |  | March 31, 2003 |         | December 31, 2002
|-------------------------------------------------------------------------------------------------------------------------- |  | -------------- | ------- | -----------------
|                                                                                                                           |  | (unaudited)    |         |                  
|ASSETS                                                                                                                     |  |                |         |                  
|Current assets:                                                                                                            |  |                |         |                  
|Cash and cash equivalents                                                                                                  |  | $              | 24,789  |                  
|Short-term investments, available for sale                                                                                 |  |                | 18,926  |                  
|Accounts receivable, net                                                                                                   |  |                | 15,570  |                  
|Inventories                                                                                                                |  |                | 2,187   |                  
|Deferred and income tax receivable                                                                                         |  |                | 4,419   |                  
|Prepaid expenses and other                                                                                                 |  |                | 2,101   |                  
|                                                                                                                           |  |                |         |                  
|Total current assets                                                                                                       |  |                | 67,992  |                  
|Long-term investments, available for sale                                                                                  |  |                | 28,058  |                  
|Equipment and leasehold improvements, net                                                                                  |  |                | 7,570   |                  
|Restricted cash                                                                                                            |  |                | 1,000   |                  
|Deferred income taxes                                                                                                      |  |                | 1,553   |                  
|Goodwill                                                                                                                   |  |                | 9,000   |                  
|Intangible and other assets, net                                                                                           |  |                | 2,365   |                  
|                                                                                                                           |  |                |         |                  
|Total assets                                                                                                               |  | $              | 117,538 |                  
|                                                                                                                           |  |                |         |                  
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                                       |  |                |         |                  
|Current liabilities:                                                                                                       |  |                |         |                  
|Accounts payable                                                                                                           |  | $              | 5,492   |                  
|Accrued compensation and benefits                                                                                          |  |                | 3,435   |                  
|Deferred revenue                                                                                                           |  |                | 8,385   |                  
|Other accrued liabilities                                                                                                  |  |                | 2,295   |                  
|                                                                                                                           |  |                |         |                  
|Total current liabilities                                                                                                  |  |                | 19,607  |                  
|                                                                                                                           |  |                |         |                  
|Shareholders equity:                                                                                                      |  |                |         |                  
|Preferred stock, par value $.01 per share, 2,000,000 shares authorized; none
outstanding                                   |  |                |        |                  
|Common stock, par value $.01 per share, 120,000,000 shares authorized; 30,268,180 and
30,217,955 outstanding, respectively |  |                | 303     |                  
|Additional paid-in capital                                                                                                 |  |                | 61,137  |                  
|Retained earnings                                                                                                          |  |                | 36,258  |                  
|Accumulated other comprehensive income                                                                                     |  |                | 233     |                  
|                                                                                                                           |  |                |         |                  
|Total shareholders equity                                                                                                 |  |                | 97,931  |                  
|                                                                                                                           |  |                |         |                  
|Total liabilities and shareholders equity                                                                                  |  | $              | 117,538 |                  
|                                                                                                                           |  |                |         |                  



See the
accompanying notes to unaudited condensed consolidated financial statements.



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CAPTARIS,
INC.



CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS

(in thousands, except per share data)

(unaudited)



|                                                                                       |  | Quarter Ended March 31, |       
|-------------------------------------------------------------------------------------- |  | ----------------------- | ------
|                                                                                       |  | 2003                    |       
|Net sales:                                                                             |  |                         |       
|Software products                                                                      |  | $                       | 15,700
|E-document services                                                                    |  |                         | 5,910 
|                                                                                       |  |                         |       
|Total net sales                                                                        |  |                         | 21,610
|Cost of
sales:                                                                         |  |                         |       
|Software products                                                                      |  |                         | 5,794 
|E-document services                                                                    |  |                         | 2,108 
|                                                                                       |  |                         |       
|Total cost of sales                                                                    |  |                         | 7,902 
|                                                                                       |  |                         |       
|Gross profit                                                                           |  |                         | 13,708
|                                                                                       |  |                         |       
|Operating expenses:                                                                    |  |                         |       
|Research and development                                                               |  |                         | 2,805 
|Selling, general and administrative                                                    |  |                         | 12,146
|Amortization of intangibles                                                            |  |                         | 57    
|Restructuring charges                                                                  |  |                         |      
|Stock compensation expense (benefit)                                                   |  |                         | 482   
|Other                                                                                  |  |                         |      
|                                                                                       |  |                         |       
|Total operating expenses                                                               |  |                         | 15,490
|                                                                                       |  |                         |       
|Operating loss                                                                         |  |                         | (1,782
|                                                                                       |  |                         |       
|Other income (expense):                                                                |  |                         |       
|Interest                                                                               |  |                         | 455   
|Other, net                                                                             |  |                         | (43   
|                                                                                       |  |                         |       
|Other income                                                                           |  |                         | 412   
|                                                                                       |  |                         |       
|Loss before income tax benefit and cumulative effect of change in accounting
principle |  |                         | (1,370
|Income tax benefit                                                                     |  |                         | (480  
|                                                                                       |  |                         |       
|Loss before cumulative effect of change in accounting principle                        |  |                         | (890  
|Cumulative effect of change in accounting principle                                    |  |                         |      
|                                                                                       |  |                         |       
|Net loss                                                                               |  | $                       | (890  
|                                                                                       |  |                         |       
|Basic and diluted loss per common share prior to cumulative effect                     |  | $                       | (0.03 
|Cumulative effect of change in accounting principle                                    |  |                         |      
|                                                                                       |  |                         |       
|Basic and diluted loss per common share                                                |  | $                       | (0.03 
|                                                                                       |  |                         |       
|Weighted average common shares outstanding                                             |  |                         | 30,220



See the
accompanying notes to unaudited condensed consolidated financial statements.



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CAPTARIS,
INC.



CONDENSED CONSOLIDATED STATEMENTS OF
CASH FLOWS

(in thousands)

(unaudited)



|                                                                                         |  | Quarter Ended March 31, |        
|---------------------------------------------------------------------------------------- |  | ----------------------- | -------
|                                                                                         |  | 2003                    |        
|Cash flows from operating activities:                                                    |  |                         |        
|Net income (loss)                                                                        |  | $                       | (890   
|Adjustments to reconcile net income (loss) to net cash provided by operating
activities: |  |                         |        
|Depreciation and amortization                                                            |  |                         | 1,113  
|Realized loss (gain) on investments, net                                                 |  |                         | 6      
|Stock compensation expense                                                               |  |                         | 482    
|Deferred income taxes                                                                    |  |                         | (118   
|Cumulative effect of change in accounting principle                                      |  |                         |       
|Restructuring and other charges                                                          |  |                         |       
|Unrealized gain (loss) on investments, net of tax                                        |  |                         | (63    
|Foreign currency translation adjustment                                                  |  |                         | (16    
|Changes in current assets and liabilities:                                               |  |                         |        
|Accounts receivable, net                                                                 |  |                         | 2,241  
|Inventories                                                                              |  |                         | 741    
|Prepaid expenses and other assets                                                        |  |                         | (557   
|Accounts payable                                                                         |  |                         | (1,712 
|Accrued compensation and benefits                                                        |  |                         | (751   
|Other accrued liabilities                                                                |  |                         | (906   
|                                                                                         |  |                         |        
|Net cash provided (used) by operating activities                                         |  |                         | (430   
|                                                                                         |  |                         |        
|Cash flows from investing activities:                                                    |  |                         |        
|Purchase of equipment and leasehold improvements                                         |  |                         | (997   
|Purchase of investments                                                                  |  |                         | (17,358
|Proceeds from sale of and principal pay downs on investments                             |  |                         | 21,486 
|                                                                                         |  |                         |        
|Net cash provided (used) by investing activities                                         |  |                         | 3,131  
|                                                                                         |  |                         |        
|Cash flows from financing activities:                                                    |  |                         |        
|Proceeds from exercise of common stock options                                           |  |                         | 117    
|                                                                                         |  |                         |        
|Net cash provided (used) by financing activities                                         |  |                         | 117    
|                                                                                         |  |                         |        
|Net increase (decrease) in cash                                                          |  |                         | 2,818  
|Cash and cash equivalents at beginning of period                                         |  |                         | 21,971 
|                                                                                         |  |                         |        
|Cash and cash equivalents at end of period                                               |  | $                       | 24,789 
|                                                                                         |  |                         |        





See the accompanying notes to unaudited condensed consolidated financial statements.



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CAPTARIS,
INC.



NOTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS



Quarters ended March
31, 2003 and 2002

(Unaudited)



1.    Interim Financial Statements



In the opinion of management, the accompanying unaudited condensed consolidated balance sheets and related
interim consolidated statements of operations, and cash flows have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and with the instructions to Form 10-Q and
Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and notes required by accounting principles generally accepted in the United States of America for complete financial statements. All adjustments considered
necessary for fair presentation have been included. Interim results are not necessarily indicative of results for a full year. These unaudited condensed consolidated financial statements should be read in conjunction with Managements
Discussion and Analysis of Financial Condition and Results of Operations and the financial statements and notes thereto included in the Companys Annual Report on Form 10-K for the fiscal year ended December 31, 2002. The preparation of
financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual amounts may differ from those estimates.



2.    Segment Reporting





The Company has adopted SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information. This standard requires segmentation based upon the Companys internal organization and disclosure of revenue and
operating income based upon internal accounting methods. The segment information is provided for software products and e-document delivery services. Software products include the Companys telephony and computer-oriented products, as well as
the Companys mobility products. Interest and other debt expense, provision for income taxes, interest income, and gains and losses on the disposition of marketable securities are not presented by segment since they are excluded from the
measure of segment profitability reviewed by the Companys management. Corporate items include corporate expense items, impairment, restructuring, stock compensation and other charges, which are not allocated to operating segments. The
Companys assets are managed on a company-wide basis; and, accordingly, asset information is not reported.





|                             |  | Software Products |        |   | E-document Services |   | Corporate |  |   | Total |  
|---------------------------- |  | ----------------- | ------ | - | ------------------- | - | --------- |  | - | ----- | -
|                             |  | (in thousands)    |       
|Quarter ended March 31, 2003 |  |                   |        |   |                     |   |           |  |   |       |  
|Net sales                    |  | $                 | 15,700 |   |                     | $ | 5,910     |  | $ |      |  
|Operating income (loss)      |  |                   | (1,868 | ) |                     |   | 999       |  |   | (913  | )
|Quarter
ended March 31, 2002 |  |                   |        |   |                     |   |           |  |   |       |  
|Net Sales                    |  | $                 | 15,801 |   |                     | $ | 5,742     |  | $ |      |  
|Operating income (loss)      |  |                   | (4,501 | ) |                     |   | 747       |  |   | (837  | )



The
Companys sales by country, as determined by shipping destination were as follows:





|                |  | Quarter Ended March 31,
|--------------- |  | -----------------------
|                |  | 2003                   
|                |  | (in thousands)         
|United States   |  | $                      
|Canada          |  |                        
|United Kingdom  |  |                        
|Other           |  |                        
|                |  |                        
|Total net sales |  | $                      
|                |  |                        



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CAPTARIS,
INC.



NOTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS



(Unaudited)



3.    OEM Agreement



In January 2002, the Company entered into an original
equipment manufacturing (OEM) agreement with Cisco Systems, Inc., under which the Company has granted Cisco an exclusive third-party license to certain enabling technology. The agreement generally provides for quarterly payments to be made by Cisco
to the Company through mid-2005. However, the timing and amount of these payments are subject to a number of conditions, some of which are beyond the control of the Company, and there can be no assurance that any additional payments will be
received. Future payments depend on Ciscos ability to successfully implement the technology and, under certain conditions, Cisco may accelerate the payments at a discounted rate or terminate the license and make no further payments. The
Company received a payment of $833,000 in 2001 and received payments of $2.5 million in 2002. The Company recognized $3.3 million in revenue from this agreement in 2002, of which $98,000 was recognized in the first quarter of 2002. The Company did
not receive a payment, or recognize revenue, from Cisco in the first quarter of 2003. Revenue related to the Companys OEM agreement with Cisco Systems is generally recorded as cash payments are received. However, if payments are received ahead
of schedule, a portion would be deferred to account for future support periods.



4.    Cumulative Effect of Change in Accounting Principle



Effective January 1, 2002, the Company adopted SFAS No. 142, Goodwill and Other Intangibles Assets, which eliminates the
amortization of goodwill and indefinite-lived intangible assets, addresses the amortization of intangible assets with finite lives, and addresses impairment testing and recognition for goodwill and intangible assets. The company evaluated its other
intangible assets, including core technology, customer lists, and other and determined that these assets have finite lives. Additionally, a $2.7 million non-cash charge was recognized in the first quarter of 2002 as a cumulative effect of change in
accounting principle as a result of the impairment of goodwill. SFAS No. 142 prescribes an impairment testing of goodwill to be performed at least annually. The Company completed this annual evaluation during the first quarter of 2003 noting no
additional impairment.



5.    Restructuring Charge



In January 2002, the Company announced a reduction of its workforce, affecting approximately 90 employees, or 18% of the total Company workforce. This reduction in force, primarily affecting the software products segment,
resulted in the recognition of a restructuring charge of $2.1 million primarily related to severance. All costs associated with this reduction in force were paid as of December 31, 2002.



6.    Stock Based Compensation



During the second quarter of 2001, the Company offered a
limited non-compulsory exchange of employee stock options on a less than one-for-one basis. The exchange (which closed on July 10, 2001) resulted in the voluntary cancellation of employee stock options to purchase 3,125,620 shares of our common
stock with varying exercise prices greater than $10.00 per share in exchange for 1,298,284 employee stock options with an exercise price of $2.11. The option exchange offer resulted in variable accounting treatment for a total of 1,951,307 options,
representing the 1,298,284 new options granted in the exchange, as well as all employee options modified during the year. Variable accounting will continue until all options subject to variable accounting treatment are exercised, cancelled or
expired. Variable accounting treatment will result in charges or credits, recorded to Stock-based compensation, dependent on unpredictable fluctuations in quoted prices for the Companys common stock. At March 31, 2003 and 2002 the
Company had 1,226,229 and 1,554,927 options to purchase common shares subject to variable accounting. The Company recorded a charge of $482,000 and a benefit of $204,000 for the first quarter of 2003 and 2002, respectively.



Allocation of this stock compensation benefit (expense) to the
operating categories is as follows:



|                                    |  | March 31,     
|----------------------------------- |  | --------------
|                                    |  | 2003          
|                                    |  | (in thousands)
|Cost of Sales                       |  | $             
|Research and development            |  |               
|Selling, general and administrative |  |               
|                                    |  |               
|                                    |  | $             
|                                    |  |               



The
Company accounts for stock options under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees, under which no compensation cost has been recognized, as there is no difference between the exercise price and fair
market value at the date of grant. Had compensation cost for stock option grants made in the first quarter of 2003 been determined using the fair value method consistent with SFAS No. 123, Accounting for Stock-Based Compensation, the
Companys net loss and loss per share would have been as shown in the following pro forma amounts for the quarter ended March 31, 2003:



|                       |  | (in thousands, except per share data)   | 
|---------------------- |  | --------------------------------------- | 
|Net Income (Loss):     |  | As Reported                             | 
|                       |  | Fair value of Stock-based compensation  | 
|                       |  | Variable accounting expense, net of tax | 
|                       |  |                                         | 
|                       |  | Pro Forma                               | 
|                       |  |                                         | 
|Basic and diluted EPS: |  | As Reported                             | 
|                       |  | Fair value of Stock-based compensation  | 
|                       |  | Variable accounting expense, net of tax | 
|                       |  |                                         | 
|                       |  | Pro Forma                               | 
|                       |  |                                         | 



The fair
value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions used for grants during the quarter ended March 31, 2003: risk-free interest rates of 2.81%;
expected lives of five years; expected volatility of 69%; and no dividends.





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CAPTARIS,
INC.



NOTES TO CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS



(Unaudited)



7.    Net Income (Loss) Per Share



Basic earnings (loss) per common share were
computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding during the year. Diluted earnings per common share were computed by dividing net income by the sum of the weighted average number of shares
of common stock outstanding during the year, plus the net additional shares that would have been issued had all dilutive options and warrants been exercised less shares that would be repurchased with the proceeds from such exercise. Dilutive options
are those that have an exercise price that is less than the average stock price during the period.



Potentially issuable common shares of 1,128,852 and 761,830 were excluded from the calculation of diluted shares outstanding for the
quarters ended March 31, 2003 and 2002, respectively, as they were antidilutive.



8.    Changes in Shareholders Equity



|                                           |  | Common Stock   |     | Additional Paid in Capital |   | Retained Earnings |  |   | Accumulated Other Comprehensive Loss |   |  | Total |    
|------------------------------------------ |  | -------------- | --- | -------------------------- | - | ----------------- |  | - | ------------------------------------ | - |  | ----- | ---
|                                           |  | (in thousands) |    
|Beginning balance at December 31, 2002     |  | $              | 302 |                            | $ | 60,539            |  | $ | 37,148                               |   |  | $     | 312
|Net Loss                                   |  |                |     |                            |   |                   |  |   | (890                                 | ) |  |       |    
|Exercise of stock options                  |  |                | 1   |                            |   | 116               |  |   |                                      |   |  |       |    
|Stock based compensation expense           |  |                |     |                            |   | 482               |  |   |                                      |   |  |       |    
|Unrealized loss on investments, net of tax |  |                |     |                            |   |                   |  |   |                                      |   |  |       | (63
|Foreign currency translation adjustment    |  |                |    |                            |   |                  |  |   |                                     |   |  |       | (16
|                                           |  |                |     |                            |   |                   |  |   |                                      |   |  |       |    
|Ending balance at March 31, 2003           |  | $              | 303 |                            | $ | 61,137            |  | $ | 36,258                               |   |  | $     | 233
|                                           |  |                |     |                            |   |                   |  |   |                                      |   |  |       |    



9.    Other Charges



In April 2002, the Company entered into a nonexclusive license agreement with AudioFAX IP LLC, settling a patent infringement suit filed by AudioFAX on November 30, 2001. The Company paid a one-time fee to license the technology
until the patents expire in 2008 and 2011. In the first quarter of 2002, the Company recorded an other charge of $875,000, reflecting managements assessment of the fair value of the portion of the license fee that relates to prior years. The
balance of the license fee was capitalized and is being amortized over the remaining life of the licensors patents. Amortization expense was $22,000 in the first quarter of 2003.



10.    Legal Proceeding



On September 25, 2002, Lan-Aces, Inc. filed a complaint in the District Court of Harris County, Texas against
the Company seeking damages of $600,000 plus attorneys fees for breach of contract. The Company removed the action to Federal Court in the Southern District of Texas on October 18, 2002. On January 23, 2003, Lan-Aces, Inc. filed an amended
complaint adding unspecified statutory damages under the Copyright Act. The amended complaint alleges that the Company either breached an alleged agreement between the plaintiff and Infinite Technologies, Inc., or infringed plaintiffs
copyright, with respect to software incorporated in the MailandNews.com website, a free Internet service acquired as part of the Infinite Technologies acquisition and subsequently transferred to an unrelated third party. Although the
Company does not believe the ultimate outcome of this proceeding will have a material adverse effect on its results of operations, there can be no assurance in this regard.



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Item 2.    MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS



This discussion and analysis should be read in conjunction with our unaudited condensed consolidated financial statements and
accompanying notes included in this document and the 2002 audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission on March 31, 2003.



The following discussion of our financial
condition and results of operations contains forward-looking statements that involve risks and uncertainties, such as statements of our plans, objectives, expectations and intentions. Words such as believes, expects,
anticipates, intends, plans and similar expressions are intended to identify forward-looking statements. Captaris actual results could differ materially from those anticipated in these forward-looking
statements for many reasons, including the factors described below and under the caption Factors that May Affect Our Business, Future Operating Results, Financial Condition and Market Price of Our Stock set forth at the end of this Item
2. You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Form 10-Q.



Overview



The Company is a leading provider of business communication software solutions for medium and large-sized enterprises, which the Company
considers to be primarily enterprises with 250-5,000 employees. The Company provides flexible, cost-effective products for information delivery, unified communications, and mobile business solutions. These products address the electronic document
(e-document) delivery, fax server, unified messaging, voice messaging, and mobile wireless markets and are distributed primarily through independent distributors and value-added resellers worldwide. The Companys products run on industry
standard server hardware, support Windows-based operating systems, and interface with a wide variety of leading enterprise applications and telephony and computer equipment. The Company also offers an e-document delivery service, including both
broadcast fax and permission-based e-mail services. These services are offered to customers primarily through a direct sales force.



The Companys product lines include electronic document delivery and unified communications products, as well as, outsourced
electronic document delivery services. The Companys computer-oriented product lines target the fax server and production fax markets and focus on high-performance fax processing and unified messaging, as well as Internet, corporate intranet
and phone-based information access. The Companys telephony-oriented product lines serve the messaging markets and focus on voice and call processing, unified messaging, and personal and workgroup call management. E-document delivery services
target the outsourced mass fax and permission e-mail markets for time-critical business-to-business (B2B) communications. These services include high-volume, IP fax and e-mail broadcast and merge offerings, fax reply and fax-on-demand applications
as well as industry-specific services and custom workflow solutions for unique customer requirements.



The Company sells its products primarily through an indirect channel of resellers and distributors, as well as through direct sales, OEM
and private label agreements. The Companys data oriented enhanced fax products include RightFax and RightFax Enterprise, the Companys LAN-based fax server lines for Windows based operating systems, and the RightFax Production System, a
high-volume production-oriented server that enables fax and other forms of electronic transmission for electronic commerce applications. The Companys telephony-oriented products include: CallXpress, and CallXpress Enterprise, a
multi-application, high capacity voice and unified messaging platform and PhoneXpress, a full-featured advanced messaging system for small to medium-sized enterprises. The Companys e-document delivery services, branded under the name
MediaLinq, offer high-volume, simultaneous delivery of fax and e-mail documents via the Web, from desktop software or a fax machine.



Results of Operations



The Company derives net sales primarily from initial sales of software and licenses, outsourced e-document delivery services as well as
follow-on sales of add-on software modules and product upgrades. Sales to resellers, distributors and end-users are recognized when the products are shipped unless the sale includes acceptance provisions. Sales of fully integrated systems are no
longer significant. The Company continues to distribute both fax and voice circuit boards with a significant number of its software product sales for which the Company receives a margin significantly less than the margin on its software products.
The sales mix among the Companys product categories and the circuit board content of its product sales affect both net sales and gross margin. Additionally, the Company receives maintenance fees for providing technical support and/or product
upgrades. The Company recognizes maintenance revenue ratably over the life of the maintenance contract. Revenue from outsourced e-document delivery services is recognized at the time the service is provided.



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Net Sales and Gross Margin



|                        |  | Quarter ended March 31, 2003 |        | % of total net sales |      |   | Change from prior year quarter |   |        | Quarter ended March 31, 2002 |  | % of total net sales |       
|----------------------- |  | ---------------------------- | ------ | -------------------- | ---- | - | ------------------------------ | - | ------ | ---------------------------- |  | -------------------- | ------
|                        |  | (in thousands)               |       
|Net Sales:              |  |                              |        |                      |      |   |                                |   |        |                              |  |                      |       
|E-document products     |  | $                            | 13,358 |                      | 61.8 | % |                                | $ | 1,146  |                              |  | $                    | 12,212
|Other software products |  |                              | 2,342  |                      | 10.8 |   |                                |   | (1,247 | )                            |  |                      | 3,589 
|                        |  |                              |        |                      |      |   |                                |   |        |                              |  |                      |       
|Total software products |  |                              | 15,700 |                      | 72.6 |   |                                |   | (101   | )                            |  |                      | 15,801
|E-document services     |  |                              | 5,910  |                      | 27.4 |   |                                |   | 168    |                              |  |                      | 5,742 
|                        |  |                              |        |                      |      |   |                                |   |        |                              |  |                      |       
|Total net sales         |  | $                            | 21,610 |                      | 100  | % |                                | $ | 67     |                              |  | $                    | 21,543
|                        |  |                              |        |                      |      |   |                                |   |        |                              |  |                      |       
|Gross Margin:           |  |                              |        |                      |      |   |                                |   |        |                              |  |                      |       
|Software products       |  | $                            | 9,906  |                      |      |   |                                | $ | 173    |                              |  | $                    | 9,733 
|E-document services     |  |                              | 3,802  |                      |      |   |                                |   | 156    |                              |  |                      | 3,646 
|                        |  |                              |        |                      |      |   |                                |   |        |                              |  |                      |       
|Total gross margin      |  | $                            | 13,708 |                      | 63.4 | % |                                | $ | 329    |                              |  | $                    | 13,379
|                        |  |                              |        |                      |      |   |                                |   |        |                              |  |                      |       



Net Sales



E-document product sales, which represent
sales of the Companys RightFax products and related maintenance and upgrade revenues, increased 9.4% over the first quarter of 2002. Management attributes this increase in sales to a renewed focus on, and investment in, marketing efforts that
began in the prior year and continued into 2003. E-document product sales were primarily generated through the Companys indirect channel of distributors. The decline in other software products net sales is attributable to a decline in demand
for the Companys messaging products. The Company believes demand for these messaging products has been slow industry-wide, and that net sales for messaging products has been negatively impacted by levels of IT spending and continued softness
in telephony related spending in general. Net sales of mobility products are also included in other software products and continue to be insignificant.



The Company did not receive a payment, nor did it recognize revenue, from its OEM agreement with Cisco Systems during the first quarter of
2003. Revenue from this agreement was $98,000 in the first quarter of 2002. The company does not currently expect a payment from Cisco in the second quarter of 2003. Revenue from this agreement is currently anticipated to range between $3 and $5
million for 2003. However, this anticipated revenue depends on the receipt of future payments from Cisco. The timing and amount of these payments are subject to a number of conditions, some of which are beyond the control of the Company and there
can be no assurance that any additional payments will be made. In particular, future payments depend on Ciscos ability to successfully implement the technology. In addition, under certain conditions Cisco may accelerate the payments at a
discounted rate or terminate the license and make no further payments.



Outsourced e-document services net sales are derived from the Companys MediaLinq services group that is a provider of broadcast fax and permission email services. Net sales of these services increased 2.9% over the
first quarter of 2002 and are attributable to increases in revenue from permission email and the Companys ability to increase volume with relatively stable pricing for its broadcast fax business. There can be no assurances that recent
relatively stable pricing trends will continue.



International sales increased 4.6% over the first quarter of 2002 and represented 20.0% and 19.1% of total net sales for the first quarter of 2003 and 2002, respectively.



Gross Profit



Gross margin for software products increased to 63.1% in the first quarter of 2003 as compared to 61.6% for the first quarter of 2002.
This increase is attributable to favorable product mix, which contained a greater portion of higher margin RightFax product sales. Gross margin for the services group increased from 63.5% in the first quarter of 2002 to 64.3% in the same period in
2003. The increase reflects the Companys ability to manage its switch and service related costs and continued favorable pricing on long distance rates that are a significant portion of this groups cost of providing services. The Company
expects gross margin percentages to remain relatively constant and could increase later in the year depending on the amount and timing of future revenues from the Companys OEM agreement with Cisco Systems. Realization of revenue from the Cisco
OEM agreement has a material impact on the Companys margin percentage as this revenue carries a significantly higher margin than normal product and service sales.





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Research and Development



|                         |  | 2003           |       | Change from 2002 |   | 2002
|------------------------ |  | -------------- | ----- | ---------------- | - | ----
|                         |  | (in thousands)
|Research and development |  | $              | 2,805 |                  | $ | 107 



Research
and development costs were 13.0% and 12.5% of sales in the first quarter of 2003 and 2002, respectively. The increase in such expenses is nominal and represents normal fluctuation in spending. Research and development costs are expected to remain
relatively constant throughout 2003.



Selling, General and
Administrative



|                                    |  | 2003           |        | Change from 2002 |   | 2002
|----------------------------------- |  | -------------- | ------ | ---------------- | - | ----
|                                    |  | (in thousands)
|Selling, general and administrative |  | $              | 12,146 |                  | $ | 103 



Selling,
general and administrative costs remained consistent as a percentage of sales and increased slightly in total. Headcount in these areas is down over the first quarter of last year but the Company has increased its investment in marketing and
promotion in an effort to maintain or increase sales volume over 2002. The Company anticipates such levels of spending to remain relatively constant throughout 2003. The Companys relocation of its corporate headquarters office did not result
in significant out of pocket charges as such costs were primarily covered by allowances contained in its new lease.



Restructuring and Other Charges



In January 2002, the Company announced a reduction of its workforce, affecting approximately 90 employees, or 18% of the total Company
workforce. This reduction in force, primarily affecting the software products segment, resulted in the recognition of a restructuring charge of $2.1 million related to severance, impairment of certain assets and non-cancelable lease obligations. All
costs associated with this reduction in force were paid as of December 31, 2002.



In April 2002, the Company entered into a nonexclusive license agreement with AudioFAX IP LLC, settling a patent infringement suit filed by AudioFAX on November 30, 2001. The Company paid a one-time
fee to license the technology until the patents expire in 2008 and 2011. In the first quarter of 2002, the Company recorded a charge of $875,000, included in other charges, reflecting managements assessment of the fair value of the portion of
the license fee that relates to prior years. The balance of the license fee, the amount of which is confidential, was capitalized and is being amortized over the remaining life of the licensors patents. Amortization expense in the first
quarter of 2003 totaled $22,000.



Stock-Based Compensation



During the second quarter of 2001, the
Company offered a limited non-compulsory exchange of employee stock options on a less than one-for-one basis. The exchange (which closed on July 10, 2001) resulted in the voluntary cancellation of employee stock options to purchase 3,125,620 shares
of our common stock with varying exercise prices greater than $10.00 per share in exchange for 1,298,284 employee stock options with an exercise price of $2.11. The option exchange offer resulted in variable accounting treatment for a total of
1,951,307 options, representing the 1,298,284 new options granted in the exchange as well as all employee options modified during the year. Variable accounting treatment will result in charges or credits, recorded to Stock-based
compensation, dependent on fluctuations in quoted prices for the Companys common stock. At March 31, 2003 and 2002 the Company had 1,226,229 and 1,554,927 options to purchase common shares subject to variable accounting. The Company
recorded a charge of $482,000 and a benefit of $204,000 for the first quarter of 2003 and 2002, respectively.



Other Income, Net



Other income, net remained relatively constant in total as a result of the offsetting effects of the decline in interest income versus the decline in other expenses for which the prior year amounts are items that did not
reoccur themselves in the first quarter of 2003. The decline in interest income was driven by the decrease in available interest rates. Assuming interest rates remain at recent levels, the Company expects interest income to further decline, as rates
on maturing investments are greater than rates currently available.



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Income Tax Expense



The effective income tax benefit rate for
the first quarter of 2003 was 35%.



Cumulative Effect of
Change in Accounting Principle



Effective
January 1, 2002, the Company adopted SFAS No. 142, Goodwill and Other Intangibles Assets, which eliminates the amortization of goodwill and indefinite-lived intangible assets, addresses the amortization of intangible assets with finite lives,
and addresses impairment testing and recognition for goodwill and intangible assets. The company evaluated its other intangible assets, including core technology, customer lists, and other and determined that these assets have finite lives.
Additionally, a $2.7 million non-cash charge was recognized as a cumulative effect of change in accounting principle as a result of the impairment of goodwill. SFAS No. 142 prescribes an impairment testing of goodwill to be performed at least
annually. The Company completed this annual evaluation during the first quarter of 2003 noting no additional impairment.



Liquidity and Capital Resources



Cash used by operating activities in the three months ended March 31, 2003 was $430,000 driven primarily by the quarter net loss and
changes in working capital accounts. The accounts receivable collection period was approximately 64 days at March 31, 2003. The Company faces credit risks with customers and partners in its distribution model and therefore maintains appropriate
accruals for such exposures, while continuing to closely monitor reserves. Net accounts receivables decreased from $17.8 million at December 31, 2002 to $15.6 million at March 31, 2003.



In August 2000, the Board of Directors approved a plan to repurchase up to $15 million of the Companys
common stock. At March 31, 2003, $10 million remains available under this repurchase program. No repurchases were made during the first quarter of 2003 or the first quarter of 2002. The Company may repurchase shares in the future subject to open
trading windows, overall market conditions, stock prices, and the Companys cash position and requirements going forward.



The Company expects that its current cash, short-term investments, and available bank line of credit will provide sufficient working
capital for operations for the foreseeable future.



Contractual Obligations and Commercial Commitments



The following table summarizes the Companys contractual obligations and commercial commitments as of March 31, 2003 and the effect such obligations are expected to have on liquidity in future
periods:



|                            |  | Payments Due by Period
|--------------------------- |  | ----------------------
|                            |  | (in thousands)        
|Contractual Obligations     |  | Total                 
|Operating Lease Obligations |  | $                     
|Co-op advertising           |  |                       



At March
31, 2003, the Company had a $4 million unsecured revolving line of credit, $2 million for unsecured borrowings and $2 million dollars reserved for letters of credit. As of March 31, 2003, the Company utilized $1 million of its letter of credit
capacity in conjunction with its corporate headquarters lease. The Company has placed $1 million in a restricted certificate of deposit with the bank that supports the letter of credit. The Company did not borrow under its line of credit during the
year ended December 31, 2002 and did not borrow in the quarter ended March 31, 2003. The line expires in August 2004, and contains certain financial covenants and restrictions as to various matters, including restrictions on the Companys
ability to pay cash dividends without the banks prior approval. Borrowings under the line of credit bear interest at the banks prime rate or, at the Companys option, its interbank offering rate plus 1.50%.



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FACTORS THAT
MAY AFFECT OUR BUSINESS, FUTURE OPERATING RESULTS,

FINANCIAL CONDITION AND MARKET PRICE OF OUR STOCK



The following factors may materially adversely affect the
Companys business, financial condition or results of operations. In that event, the trading price of the Companys common stock could decline and shareholders may lose part or all of their investment, therefore, shareholders should
carefully consider the risks described below before making an investment decision.



Our stock price may be highly volatile.



The market price of our common stock may continue to be highly volatile. The future price of our common stock may fluctuate in response to factors, involving our competitors, or us, such as



| |  |  | new product announcements or changes in product pricing policies;
| | - |  | -----------------------------------------------------------------



| |  |  | quarterly fluctuations in our operating results;
| | - |  | ------------------------------------------------



| |  |  | announcements of technical innovations;
| | - |  | ---------------------------------------



| |  |  | announcements relating to strategic relationships or acquisitions;
| | - |  | ------------------------------------------------------------------



| |  |  | changes in earnings estimates by securities analysts; and
| | - |  | ---------------------------------------------------------



| |  |  | general conditions in the economy, levels of IT spending and/or the computer-telephony market.
| | - |  | ----------------------------------------------------------------------------------------------



In addition, the market prices of securities issued by many
companies, particularly in high-technology industries, are volatile for reasons unrelated to the operating performance of the specific companies. This industry volatility, along with broad market fluctuations may adversely affect the market price of
our common stock.



Our operating results fluctuate from
quarter to quarter, which could cause our operating results to fall below expectations of securities analysts and investors.



We expect our operating results to fluctuate significantly from quarter to quarter in the future. Because of these fluctuations, our
operating results for a particular quarter may fall below the expectations of securities analysts and investors. If this occurs, the trading price of our common stock may decline. Such fluctuations could cause period-to-period comparisons to be less
than meaningful. Numerous factors contribute to the unpredictability of our operating results, including



| |  |  | the timing of customers orders;
| | - |  | --------------------------------



| |  |  | changes in our mix of products and distribution channels;
| | - |  | ---------------------------------------------------------



| |  |  | the announcement or introduction of new products by us or our competitors;
| | - |  | --------------------------------------------------------------------------



| |  |  | pricing pressures; and
| | - |  | ----------------------



| |  |  | general economic conditions.
| | - |  | ----------------------------



Most of our software product revenue comes from current-quarter orders and sales, of which a substantial portion has, at times, occurred
in the last month of the quarter. We do not maintain a large backlog of orders, and most of our distributors maintain little or no inventory. Order fulfillment cycles are typically short, and often as short as one to two days. Accordingly, the
timing of customer orders can cause significant variations in quarterly results of operations. Because we sell our products to end-customers through various third parties such as telephone system manufacturers, value-added resellers, telephone
interconnect resellers, and others, we are unable to project with certainty the actual orders, sales, and revenues these third parties will generate in a given quarter. The combination of these factors impairs and delays our ability to know when
revenues and earnings will be higher or lower than expected. We base product development and other operating expenses on our expected revenues. Because our expenses are relatively fixed in the short term, we may be unable to adjust our spending in
time to compensate for any unexpected shortfall in quarterly revenues.



Our revenue, and therefore our results of operations, may also fluctuate based on the amount of revenue, if any, we receive pursuant to our original equipment manufacturing (OEM) agreement with Cisco Systems, Inc. Under the
agreement, the Company has granted Cisco an exclusive third-party license to certain enabling technology. The agreement generally provides for quarterly payments to be made by Cisco to the Company through mid-2005. The Company received a payment of
$833,000 in 2001 and received payments totaling $2.5 million in 2002. The Company recognized $3.3 million in revenue from this agreement in 2002. The Company received no payments and recognized no revenue in the first quarter of 2003. The timing and
amount of any future



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payments under the agreement are subject to a number of conditions, some of which are beyond our control. In particular, future payments
depend on Ciscos ability to successfully implement the technology. In addition, under certain conditions, Cisco may accelerate the payments at a discounted rate or terminate the license and make no further payments. Accordingly, there can be
no assurance that any additional payments will be made under the agreement or that any payments that are made will be made on the schedule we anticipate, which could have an adverse impact on our results of operations generally or in a particular
quarter.



Our operating results may vary by season, which
could cause our operating results to fall below expectations of securities analysts and investors.



Our results of operations may fluctuate as a result of seasonal factors, and this may cause our operating results to fall below the
expectations of securities analysts and investors for a particular quarter. Specifically, due to typical year-end dealer sales patterns and end-user buying patterns, net product sales in our first quarter, without taking into account the effect of
acquisitions, have historically declined from the fourth quarter of the previous year. Historically, the services segment has experienced seasonally low net sales in the fourth quarter as a result of the impact of the holiday season on broadcast fax
and email services.



We depend on third parties for certain
key components of our products and for certain services necessary to the delivery of our broadcast fax and email services.



Our products operate on standard computer hardware, most of which is readily available. However, only two domestic suppliers can provide
fax processing circuit boards to meet our specifications. In addition, only three domestic suppliers can provide voice-processing circuit boards to meet our specifications. Historically, we have relied almost exclusively on Brooktrout, Inc. for fax
cards and on Dialogic Corporation (now a division of Intel Corporation) for voice cards. We rely on these suppliers primarily because of volume price discounts and the cost and effort required to develop software for an alternate fax or voice card.
Significant changes in technology, issues regarding quality performance, delays, interruptions or reductions in our supply of fax or voice cards, or unfavorable changes to price and delivery terms could adversely affect our business.



In the Companys services segment, we are dependent on
long distance service providers to provide access to the PSTN and on ISPs to provide access to the Internet.



We rely heavily on telephone system manufacturers, independent equipment resellers and value-added resellers.



A substantial majority of our net sales depends on a network
of computer-oriented value-added resellers and independent telephone equipment resellers. There is intense competition for the attention of these resellers from our competitors and from providers of other products distributed through these channels.
Many of these resellers do not have the financial resources to withstand a downturn in their businesses. We may not be able to maintain or expand our network of resellers in the future. Moreover, our resellers may not maintain or expand their
present level of efforts to sell our products. If we lose a major dealer or reseller, or if our dealers and resellers lose interest in selling our products, our business, results of operations and financial condition may be adversely affected.



Failure to establish and maintain strategic relationships
could limit our ability to maintain or increase sales.



Creating and maintaining strategic relationships is important to our success because these relationships enable us to market and distribute our products to a larger customer base than we could otherwise reach through our direct
marketing efforts. We currently have strategic relationships with Ericsson, IBM (Lotus), Verizon, Xerox Corporation, Cisco Systems and others. However, we may not be successful in creating new strategic relationships on acceptable terms, if at all.
Moreover, although we view our strategic relationships as an important factor in the successful commercialization of our products and services, our current strategic partners may not view their relationships with us as significant for their own
businesses and any one of them could reassess their commitment to us in the future. Further, our strategic relationships are generally non-exclusive, which means our strategic partners may develop relationships with some of our competitors. Failure
of one or more of our strategic partners to successfully develop and sustain a market for our services, or the termination of one or more of our strategic relationships, could adversely affect our ability to maintain or increase sales.



Additionally, our strategic partners from time to time require
us to customize our products and/or develop further enhancements or capabilities. If we are unable to meet these requests in a timely manner, our relationships with our partners and operating results could be negatively impacted.



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Our market is highly
competitive.



The business communications
market is highly competitive. We may not have the financial resources, marketing, distribution and service capability, and depth of key personnel or technological knowledge to continue to compete successfully in each of our markets.



We believe the main competitive factors affecting our business
are breadth and quality of application software, product integration, ability to respond to technological change, quality of our sales force, price, size of the installed base, level of customer support and professional services.



In the market for LAN-based fax systems, our principal
competitors are Esker, S.A., ACCPAC International, Inc., TOPCALL International AG, Omtool, Ltd., Optus Software, Inc., and Biscom, Inc. Our fax server products also compete with vendors offering a range of alternative fax solutions, including
operating systems containing fax and document transmission features, low-end fax modem products, desktop fax software, single-platform fax software products and customized proprietary software solutions. In the market for production fax systems, our
principal competitors are Biscom, Inc., Esker, S.A. and Topcall International AG. In the e-document delivery services market, the Companys services segment, principal competitors are the Xpedite division of PTEK Holdings, telecommunications
companies who provide fax services and other regionally-based specialty providers. Competitors to our mobility offerings include companies such as Research In Motion Limited, Microsoft Corporation (Mobile Information Server-MIS), IBM Corporation
(International Business Machines Lotus Domino Everyplace), Aether Systems, Inc., Wireless Knowledge, Fenestrae BV, Mobeon AB, and Openwave Systems, Inc.



In the telephony-oriented market for messaging systems, our principal competitors include PBX manufacturers like Avaya, Inc., Cisco
Systems, Inc., Interactive Intelligence, Inc., Mitel Corporation, NEC America, Inc., Nortel Networks Corporation and Siemens. In addition, there are independent suppliers of computer-telephony solutions such as Cycos AG, Esna Technologies, Inc., and
Teleware plc, who offer integrated voice-messaging systems and unified messaging systems that integrate with multiple PBX products, sold independently or as an OEM offering.



Further acceptance of open systems architectures and the development of industry standards in the call
processing market may eliminate some of the technical barriers to entry, allowing additional competitors to enter the market. Many of our existing competitors have larger customer and installed bases and substantially greater technical, financial
and marketing resources than the Company. In addition, some of our competitors have a marketing advantage because they can sell their call processing equipment or fax solutions as part of their broader product offerings. We believe our business has
been, and may continue to be, adversely affected by the introduction of next-generation IP-PBX switches as potential customers delay purchasing decisions as they evaluate these new product offerings. We expect our competitors will continue to offer
improved product technologies and capabilities. The availability of these products could cause sales of our existing products to decline. For these reasons, we may be unable to compete successfully against our current and future competitors.



Technology and customer demands change rapidly in our
industry.



In our industry, technology and
customer demands change rapidly, and the Company and its competitors frequently introduce new products and features. To succeed, we must identify, develop and market new products, features and services that achieve broad market acceptance by
satisfying those changing customer needs and keeping pace with those technological developments. To do this, we must spend substantial funds on product development. We regularly devote significant resources to technologies that we anticipate will be
widely adopted. The market for unified messaging software has not developed at the rate forecasted by many industry analysts. The market for mobile business solutions is relatively new and has, to date, not developed at the rate originally
anticipated. To be successful, we must, among other things, develop and market products and services that achieve broad market acceptance. We may not be able to develop new products or product enhancements on a timely basis. Even if we do, the
market may not accept the new products, product enhancements, or hosted services that we develop and accordingly, the results of our operations may be adversely affected.



We face risks from expansion of our international operations.



Maintaining or growing our revenue depends, in part, on
continued expansion of our international product sales. We have focused significant management attention and financial resources on our international operations. Significant portions of our revenues are subject to the risks associated with
international sales, which include



| |  |  | difficulty adapting products to local languages and telephone system technology;
| | - |  | --------------------------------------------------------------------------------



| |  |  | inability to respond to changes in regulatory requirements;
| | - |  | -----------------------------------------------------------



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| |  |  | inability to meet special standards requirements;
| | - |  | -------------------------------------------------



| |  |  | exposure to exchange rate fluctuations;
| | - |  | ---------------------------------------



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



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



| |  |  | potentially adverse tax consequences; and
| | - |  | -----------------------------------------



| |  |  | uncertainties arising from local business practices and cultural considerations.
| | - |  | --------------------------------------------------------------------------------



In addition, the laws of some foreign countries are uncertain or do not protect intellectual property rights
to the same extent as the U.S. Moreover, we could be sued for patent infringement or other intellectual property violations in a foreign country where it could be very costly to defend such a lawsuit.



Currently, substantially all of our sales are denominated in
U.S. dollars. We do price our international sales to the United Kingdom and to participating European Community countries in U.K. Pounds and the Euro, respectively. Increases in the value of the dollar against any local currencies could cause our
products to become relatively more expensive to customers in a particular country or region, leading to reduced sales or profitability in that country or region. As we continue to expand our international operations, we expect our
non-U.S.-dollar-denominated sales and our exposure to gains and losses on international currency transactions to increase. We do not currently engage in transactions to hedge against the risk of currency fluctuations, but we may do so in the future.



Our investment in the mobile business solutions market, which
is an unproven market, may not be successful.



In March 2001, we announced that we were expanding our business strategy to focus on the mobile business solutions market, which we believed to be a potential higher-growth opportunity. We continue to believe that this market is
likely to develop over time, but it has been slower to develop than we anticipated. Certain early entrants to this market have not achieved their publicly forecasted financial results. While we will continue to invest in this strategy, we have
slowed our investment rate and intend to invest cautiously until the market develops. There can be no assurance that we will realize a return on our past or future investment in this unproven mobile business solutions market.



In the future, if the market for mobile business solutions
develops, competing in this market would likely require an increase in our development and marketing efforts disproportionate to potential revenue streams. Accordingly, the results of our operations may be negatively impacted. Moreover, future focus
on this strategy could disrupt our other operations and distract management, which could have a material adverse affect on our operating results. We cannot guarantee that the demand for mobile business solutions will develop in the future, that new
technologies will not cause the market to evolve in a manner different from what we expect or that we will be able to obtain a leadership position if this market opportunity develops.



Our average sales prices may decline for some of our products and hosted services.



If the average sales prices of our more significant product
lines fall, our overall gross margins will likely fall. To offset and forestall potential declines in average sales prices, we must continue to develop product enhancements and new products with advanced features that are likely to generate
higher-margin incremental revenue. If we are unable to do so in a timely manner, or if our products do not achieve significant customer acceptance, our business, results of operations and financial condition may suffer.



Additionally, we have experienced, as have others in the
broadcast fax and permission e-mail markets, pricing pressure for our services. To compensate for potential declines in average pricing, we must continue to develop additional value added services and seek reductions in our costs from various third
party access providers.



The integration of recent and any
future acquisitions may be difficult and disruptive.



We frequently evaluate potential acquisitions of products, technologies and businesses. Since January 1997, we have completed five strategic acquisitions, including the January 2001 acquisition of Infinite Technologies. Our recent
and any future acquisitions may direct managements attention away from the day-to-day operations of our business and may pose numerous other risks. For instance, we may not be able to successfully integrate any technologies, products,
personnel or operations of companies that we may acquire.



In making acquisitions, we may need to make dilutive issuances of our equity securities, incur debt, write-off purchased in-process research and development, and amortize expenses related to other intangible assets.



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The discontinuance or
divestiture of any of our product lines or operating units may be necessary and could be disruptive.



The Company believes that to maximize profitability and shareholder return, it must place a greater emphasis on focusing its resources on
strategic products and services. The Company regularly evaluates its product lines and operating units not only for their contribution to current results, but also for their potential for benefiting the Company long-term. Based upon the results of
such evaluations, the Company may discontinue, divest or take other actions to improve the performance of product lines and/or operating units. The discontinuance or divestiture of a product line, or operating unit, could cause disruption in our
operations and may be distracting to management or our workforce in general. Although any such actions would be designed to improve our long-term results of operations, our near term results could suffer. In addition, there can be no assurance that
we would realize the benefits of any such disposition or divestiture.



We may be unable to adequately protect our proprietary rights.



To succeed, we must adequately protect our proprietary technology. We rely on a combination of patents, copyrights, trademarks and trade secret laws, nondisclosure and other agreements, and technical
measures to protect our proprietary technology, but those measures may be insufficient. We have seven patents, but our competitors may challenge or circumvent the claims in our patents. Our current patents, or any future patents, may never provide
us with any competitive advantages. Other measures that we take to protect our proprietary technology may not prevent or deter misappropriation of our technology or the development of technologies with similar characteristics. Moreover, our use of
open systems architecture in the design of our products may make it easier for competitors to misappropriate or replicate our designs and developments.



Other companies may claim that we infringe their intellectual property or proprietary rights, which could cause us to incur significant expenses or be
prevented from selling our products.



Our
success depends on our ability to operate without infringing the patents and proprietary rights of third parties. Product development is inherently uncertain in a rapidly evolving technological environment in which there may be numerous patent
applications pending, many of which are confidential when filed, with regard to similar technologies. Historically, competitors in the computer-telephony software industry have filed numerous allegations of patent infringement, resulting in
considerable litigation. We have received claims of patent infringement from several third parties and will probably receive additional claims in the future. Any litigation, regardless of our success, would probably be costly and require significant
time and attention of our key management and technical personnel. Litigation could also force us to



| |  |  | stop or delay selling, or using, products that use the challenged intellectual property;
| | - |  | ----------------------------------------------------------------------------------------



| |  |  | pay damages for infringement;
| | - |  | -----------------------------



| |  |  | obtain licenses, which may be unavailable on acceptable terms; or
| | - |  | -----------------------------------------------------------------



| |  |  | redesign products or services that use the infringing technology.
| | - |  | -----------------------------------------------------------------



We may not be able to hire and retain highly skilled employees, which could affect our ability to compete effectively.



To succeed, we must attract and retain key
personnel in engineering, research and development, marketing, sales, finance and administration. We also depend, to a significant degree, on the efforts of our senior management team. If we fail to recruit such personnel or lose the services of
existing key personnel in any functional area, our current operations and new product development efforts could be adversely affected. Competition for skilled personnel is intense. Past reductions in force and any additional reductions in force we
undertake may adversely impact employee morale and impair our ability to attract and retain highly qualified personnel. We do not maintain material key person life insurance.



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Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK



The Company is exposed to market risk related to changes in interest rates and foreign currency exchange rates, each of which could adversely affect the value of the Companys investments. The
Company does not currently use derivative financial instruments.



The Company maintains an investment portfolio consisting primarily of investment grade interest bearing securities. These securities are classified as available for sale securities. The interest bearing securities are
subject to interest rate risk and will fall in value if market interest rates increase. If market interest rates were to increase immediately and uniformly by 10% from levels at March 31, 2003, the fair value of the portfolio would decline by an
immaterial amount. Because the Company has the ability to hold its fixed income investments until maturity, it does not expect its operating results or cash flows to be affected to any significant degree by a sudden change in market interest rates
on its securities portfolio.



The Company has
assets and liabilities denominated in certain foreign currencies related to the Companys international sales operations. The Company has not hedged its translation risk on these currencies as the Company has the ability to hold its
foreign-currency denominated assets indefinitely and does not expect that a sudden or significant change in foreign exchange rates would have a material impact on future net income or cash flows.



Item 4. CONTROLS AND PROCEDURES



In July 2002, the Company engaged new independent accountants, Deloitte & Touche LLP (D&T), to audit the Companys 2002 financial statements. In addition, in October 2002, the Company engaged D&T to audit
the Companys 2001 restated financial statements. In connection with the completion of its audit of, and the issuance of an unqualified report on, the Companys financial statements for the years ended December 31, 2001 and 2002, D&T
advised management of the Company and the Audit Committee of its Board of Directors of certain deficiencies that existed in the design or operation of the Companys internal accounting controls which, considered collectively, constituted a
material weakness in the Companys internal controls pursuant to standards established by the American Institute of Certified Public Accountants. These deficiencies included the design of controls surrounding timely reconciliation of accounts
and supervision and monitoring of staff who have significant roles in internal control.



The Company has taken appropriate steps to correct the deficiencies identified by D&T and is continuing to implement improvements to its policies, procedures, systems and staff who have significant
roles in internal control to address these matters. The steps taken and to be taken to correct the weaknesses and deficiencies identified by D&T may constitute significant changes in internal controls or in other factors that could significantly
affect internal controls subsequent to the date of the Evaluation referred to below.



Under the supervision and with the participation of the Companys management, including the Companys Chief Executive Officer (the CEO) and Chief Financial Officer (the
CFO), the Company has evaluated the internal control weaknesses identified by D&T and the effectiveness of the Companys disclosure controls and procedures (as defined in Exchange Act Rules 13a-14(c) and 15d-14(c)) within 90
days of the filing date of this quarterly report (the Evaluation). During the course of the Evaluation, the CEO and CFO took note of, and considered as part of the Companys disclosure controls and procedures, the additional
procedures performed and controls instituted by the Company to supplement its internal controls in order to mitigate the effect of the weaknesses identified by D&T, including the steps taken by the Company to correct those weaknesses and
deficiencies. Based on the Evaluation, the CEO and CFO concluded, as of the date of the Evaluation, that the Companys disclosure controls and procedures, including the additional procedures, were effective to ensure that information required
to be disclosed by the Company in this report is recorded, processed, summarized and reported within the appropriate time periods.



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Part II.
OTHER INFORMATION



Item 6. Exhibits and Reports on Form 8-K



| | (a) |  | Exhibits
| | --- |  | --------



| | 99.1 |  | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
| | ---- |  | ----------------------------------------------------------------------------------------------------------------------



| | 99.2 |  | Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
| | ---- |  | ----------------------------------------------------------------------------------------------------------------------



| | (b) |  | Reports on Form 8-K
| | --- |  | -------------------



The Company filed a Current Report on Form 8-K (Item 9) on February 7, 2003 relating to its preliminary financial results for its
financial results for its fourth quarter and year ended December 31, 2002, and results of the re-audit of its 2001 financial statements.



The Company filed a Current Report on Form 8-K (Item 9) on March 26, 2003 relating to its financial results for its fourth quarter and
year ended December 31, 2002.



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SIGNATURES



Pursuant to
the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized on the 15th day of May 2003.



CAPTARIS, INC.By:

/s/ Jeffrey B. deCilliaJeffrey B. deCillia Senior Vice President and Chief Financial Officer










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Certification



I, David P. Anastasi,
certify that:



|1. |  | I have reviewed this quarterly report on Form 10-Q of Captaris, Inc.;
|-- |  | ---------------------------------------------------------------------



|2. |  | Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|3. |  | Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|4. |  | The registrants other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act
Rules 13a-14 and 15d-14) for the registrant and we have:
|-- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | a) |  | Designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | b) |  | Evaluated the effectiveness of the registrants disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report
(the Evaluation Date); and
| | -- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | c) |  | Presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation
Date;
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------



|5. |  | The registrants other certifying officers and I have disclosed, based on our most recent evaluation, to the registrants auditors and the audit committee
of registrants board of directors (or persons performing the equivalent function):
|-- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | a) |  | All significant deficiencies in the design or operation of internal controls which could adversely affect the registrants ability to record, process, summarize
and report financial data and have identified for the registrants auditors any material weaknesses in internal controls; and
| | -- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | b) |  | Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrants internal controls; and
| | -- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------



|6. |  | The registrants other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or
in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Date: May 15, 2003



/s/    DAVID P.
ANASTASIChief Executive Officer




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Certification



I, Jeffrey B. deCillia,
certify that:



|1. |  | I have reviewed this quarterly report on Form 10-Q of Captaris, Inc.;
|-- |  | ---------------------------------------------------------------------



|2. |  | Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|3. |  | Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the
financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



|4. |  | The registrants other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act
Rules 13a-14 and 15d-14) for the registrant and we have:
|-- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | a) |  | Designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | b) |  | Evaluated the effectiveness of the registrants disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report
(the Evaluation Date); and
| | -- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | c) |  | Presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation
Date;
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------



|5. |  | The registrants other certifying officers and I have disclosed, based on our most recent evaluation, to the registrants auditors and the audit committee
of registrants board of directors (or persons performing the equivalent function):
|-- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | a) |  | All significant deficiencies in the design or operation of internal controls which could adversely affect the registrants ability to record, process, summarize
and report financial data and have identified for the registrants auditors any material weaknesses in internal controls; and
| | -- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | b) |  | Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrants internal controls; and
| | -- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------



|6. |  | The registrants other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or
in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



Date: May 15, 2003



/s/    JEFFREY B.
DECILLIAChief Financial Officer




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