**UNITED STATES****SECURITIES AND EXCHANGE COMMISSION**

**WashingtonD.C. 20549**

 

----

 

**FORM 10-K**

 

| **(Mark one)**                              | ** **                                                                                    |
|---------------------------------------------|-----------------------------------------------------------------------------------------------|
| **ý**                                  | **ANNUAL REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**     |
| ** **                                  | ** **                                                                                    |
| **For the fiscal year ended June 30, 2004** |
| ** **                                  |
| **or**                                      |
| ** **                                  | ** **                                                                                    |
| **o**                                       | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |

 

**For thetransition periodfrom            to             **

 

**CommissionFile Number 000-1095478**

 

----

 

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD.**

(Exact name ofregistrant as specified in its charter)

 
| **Bermuda**                                                | ** ** | **98-0155633**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or other jurisdiction of  incorporation or organization) | ** ** | (I.R.S. Employer  identification No.) |

 
| **Clarendon House, 2 Church Street****P.O. Box HM 1022****Hamilton HM DX, Bermuda**  | ** ** | **Not Applicable** | ** ** | **441-295-5950**   |
|-------------------------------------------------------------------------------------------|------------|--------------------|------------|--------------------|
| (Address of principal  executive offices)                                                 | ** ** | (Zip code)         | ** ** | (Telephone Number) |

 

| **Title of each class**                         | ** ** | **Name of each exchange on which registered** |
|-------------------------------------------------|------------|-----------------------------------------------|
| **Common Shares, par value US $0.01 per share** | ** ** | **NASDAQ**                                    |

 

Securitiesregistered pursuant to Section 12(g) of the Act:

Common Shares,par value US $0.01 per share

(Title ofclass)

 

----

 

Indicate by check mark whether 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 (orfor such shorter period that the Registrant was required to file such reports),and (2) has been subject to such filing requirements for the past90 days.  Yes ý  No o

 

Indicate by check mark if disclosure ofdelinquent filers pursuant to Item 405 of Regulation S-K is not containedherein, and will not be contained, to the best of Registrant’s knowledge, indefinitive proxy or information statements incorporated by reference inPart III of this Form 10-K or any amendment to thisForm 10-K. o

 

Indicate by check mark whether Registrant isan accelerated filer (as defined in Rule 12b-2 of the Act).  Yes o  No ý

 

Aggregate market value of the voting andnon-voting common shares held by non-affiliates of the Registrant, based uponthe closing price per share of $4.41 on December 31, 2003 on the NASDAQ was$20.9 million. Calculation of holdings by non-affiliates of theRegistrant’s is based upon the assumption, for these purposes only, thatexecutive officers, directors, nominees, and persons holding 5% or more ofRegistrant’s outstanding common shares are affiliates. Number of outstandingCommon Shares of the Registrant on August 25, 2004: 9,185,765.

 

DOCUMENTSINCORPORATED BY REFERENCE:

 

Certain portions of the Registrant’s proxy statement for its AnnualMeeting of Shareholders are incorporated by reference in Part III of thisreport.

 

 

----

 

**2004 FORM10-K ANNUAL REPORT****TABLE OF CONTENTS**

 
|     |                                                                                                                | **Page**   |
|----------|---------------------------------------------------------------------------------------------------------------------|------------|
| PART I   |                                                                                                                | ** ** |
| Item 1   | Business                                                                                                            | 2          |
|     | Overview                                                                                                            | 2          |
|     | Standards for Wireless Mobile  Communications                                                                       | 3          |
|     | Interwave Product Solutions                                                                                         | 4          |
|     | GSM Infrastructure                                                                                                  | 6          |
|     | CDMA Infrastructure                                                                                                 | 7          |
|     | Customers                                                                                                           | 8          |
|     | Sales and Marketing                                                                                                 | 8          |
|     | Customer Support                                                                                                    | 10         |
|     | Engineering                                                                                                         | 10         |
|     | Manufacturing                                                                                                       | 11         |
|     | Backlog                                                                                                             | 11         |
|     | Competition                                                                                                         | 12         |
|     | Employees                                                                                                           | 12         |
|     | Government Regulation                                                                                               | 13         |
|     | Proprietary Rights                                                                                                  | 13         |
|     | Trademarks                                                                                                          | 14         |
| Item 2   | Properties                                                                                                          | 14         |
| Item 3   | Legal  Proceedings                                                                                                  | 15         |
| Item 4   | Submission  of Matters to a Vote of Security Holders                                                                | 15         |
|     |                                                                                                                |       |
| PART II  |                                                                                                                |       |
| Item 5   | Market  for Registrant’s Common Equity, Related Shareholder Matters and Issuer  Purchases of Equity Securities | 16         |
| Item 6   | Selected  Financial Data                                                                                            | 18         |
| Item 7   | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                         | 19         |
| Item 7A  | Qualitative and Quantitative Disclosures  About Market Risk                                                         | 53         |
| Item 8   | Financial Statements and Supplementary Data                                                                         | 53         |
| Item 9   | Changes in and Disagreements with  Accountants on Accounting and Financial Disclosure                               | 89         |
| Item 9A  | Controls and Procedures                                                                                             | 89         |
|     |                                                                                                                |       |
| PART III |                                                                                                                |       |
| Item 10  | Directors and Executive Officers of the  Registrant                                                                 | 90         |
| Item 11  | Executive Compensation                                                                                              | 90         |
| Item 12  | Security Ownership of Certain Beneficial  Owners and Management and Related Shareholder Matters                     | 90         |
| Item 13  | Certain Relationships and Related  Transactions                                                                     | 91         |
| Item 14  | Principal Accountant Fees and Services                                                                              | 91         |
|     |                                                                                                                |       |
| PART IV  |                                                                                                                |       |
| Item 15  | Exhibits, Financial Statement Schedules and  Reports on Form 8-K                                                    | 92         |
|     | Exhibit Index                                                                                                       | 93         |
|     | Signatures                                                                                                          | 95         |
|     | Power of Attorney                                                                                                   | 95         |

 

1

----

 

**PART I**

 

**Item 1****. Business**

 

***We make many statements in this report, suchas statements regarding our plans, objectives, expectations and intentions andothers that are forward-looking statements within the meaning ofSection 27A of the Securities Act and Section 21E of the ExchangeAct. We may identify these statements by the use of the future tense or wordssuch as “believe,” “anticipate,” “intend,” “may,” “expect,” “estimate,” “will,”“continue,” “plan” and similar expressions. These forward-looking statementsmay involve risks and uncertainties. You should read statements that containthese words carefully, because they discuss our expectations about our futureperformance, contain projections of our future operating results and our futurefinancial condition, or state other “forward-looking” information. There may beevents in the future, however, that we are not able to predict or over which wehave no control. Our actual results could differ materially from thoseanticipated in these forward-looking statements as a result of various factors,including those we discuss in “Risk Factors” and elsewhere in this report.These forward-looking statements speak only as of the date of this report, andwe caution you not to rely on these statements without also considering therisks and uncertainties associated with these statements and our business thatare addressed in this report.***

 

**Overview**

 

Interwave Communications International Ltd.(“we”, “us”, “our”, “the Company”, or “Interwave”) is a global provider ofscaleable wireless infrastructure networks that offer a cost effective solutionto extend coverage and connectivity to hard-to-reach areas. We wereincorporated in June 1994 and recorded our first product sale inMay 1997. Our systems support wireless voice and data transmission forboth mobile and fixed applications.

 

We offer a complete line of compact, GlobalStandard for Mobile Communications, or GSM, systems. We have pioneered what webelieve is the only commercially available system that provides all of theinfrastructure equipment and software necessary to support an entire wirelessnetwork within a single, compact enclosure. Our networks may be deployed incommunities with a few thousand subscribers and may be scaled to grow to morethan a hundred thousand subscribers. Our products provide wireless networkoperators a simple, easy to support and maintain network that is softwareconfigurable to various network architectures. In addition, we offer productsbased on the Code Division Multiple Access or CDMA2000 technology. We havedesigned our systems to serve the following applications:

 

•                                          CommunityNetworks. Our systems enable wireless service providers to add capacity andcoverage in remote or rural areas and to provide telephone service inpreviously under-served communities.

 

•                                          NetworkExtension. Our systems enable cost-effective extension to the existing networkinfrastructure provided by the major network vendors.

 

•                                          SpecializedNetworks. Our compact systems allow innovative applications, which werepreviously impossible, such as emergency and military applications as well asapplications on cruise ships, containerized networks, or network on wheels forrapid deployments.

 

•                                          Privateor Enterprise Networks. Our systems allow wireless users in organizations suchas large corporations, government entities, convention centers, technologyparks and universities to maintain connection with the organization’s privatetelephone network whether the users are in their offices, out of their officesor moving between locations.

 

On July 27, 2004, we and Alvarion Ltd.announced that the two companies entered into a definitive agreement forAlvarion to acquire us for $5.75 per share. The details of this transaction arediscussed in our Form 8-K filed with the Securities and Exchange Commission, orSEC, on July 28, 2004. This transaction is to be structured as an amalgamationunder Bermuda law. On August 30, 2004, we filed a definitive proxy statementwith the SEC in preparation for a special meeting of our shareholders held onSeptember 30, 2004, at which our shareholders voted on the amalgamation.

 

2

----

 

Alvarion announced on September 30, 2004 that it had determined thatInterwave had experienced a material adverse effect with respect to itsbusiness and has advised Interwave that Alvarion would not complete theamalgamation on the terms set forth in the amalgamation agreement.  In addition, on September 30, 2004, Interwaveheld its scheduled special meeting of shareholders and approved the agreementand plan of amalgamation pursuant to which interWAVE was to be acquired byAlvarion Ltd.  On October 1, 2004,Interwave advised Alvarion in writing that Interwave believes there is nomaterial adverse effect or any other basis, legal or otherwise, for Alvarion tonot comply with its obligations under the agreement.  Interwave further advised Alvarion thatInterwave remained prepared to consummate the amalgamation according to theterms of the agreement and viewed Alvarion’s refusal to go forward with theamalgamation according to these terms as a material breach of theagreement.  On October 4, 2004, Interwavefiled a complaint against Alvarion in the United States District Court for theSouthern District of New York.  TheComplaint alleges, among other things, that Alvarion breached the agreement andplan of amalgamation pursuant to which Interwave was to be acquired byAlvarion.  The complaint seeks specificperformance of the amalgamation agreement and seeks compensatory and punitivedamages in excess of $75 million.

 

We continued downsizing and realigning ourcompany in fiscal 2004 to focus on our core business as a provider of cellularinfrastructure networks to network operators. Although the downturn in theglobal economic environment, and in the telecommunications industry inparticular, which began in early 2001, continued throughout fiscal 2004, webelieve that during the year, our industry began to show signs of stability andrecovery in certain of our markets. Competition remained intense as largercommunications equipment providers continued to either consolidate or moreaggressively pursue markets that addressed smaller subscriber bases such asours.

 

We believe that we delivered importantupgrades to our GSM product offering, including the addition of a new highcapacity switch, a new operating and maintenance center and a new radio basestation. We increased the commercial functionality of our CDMA offering,expanded our value-added services and increased penetration of emerging marketsin Africa and the Pacific Islands. We enhanced the capacity of our UltraWAVEBTS Base Station family and deployed a GSM1800 product in North Africa and aGSM900 product in the Pacific Islands. Our product line was further enhanced toprovide Intelligent Network, or IN, prepaid services through the seamlessintegration of our products with prepaid platforms supplied by leading networkequipment providers. We also completed the development of our CDMA soft switchplatform and expect to conduct product trials with a major North Americancellular operator in fiscal 2005. Our CDMA products have increased base stationcapacity compared to our existing GSM and Internet Protocol (“IP”)architectures.

 

We market and sell our solutions around theworld through our direct sales force and other sales representatives utilizinga multi-tiered sales strategy. This includes selling to wireless serviceproviders, communications equipment providers and systems integrators,including value added resellers, or VARS, that integrate our systems with theproducts of other companies. Since 1997 we have sold over 100 networks in morethan 35 countries.

 

**Standardsfor Wireless****Mobile Communications**

 

GSM is the most widely accepted digitalwireless standard worldwide, followed by the CDMA standard, the time divisionmultiple access standard, or TDMA, and analog standards. We believe thatdigital standards will attract even more users in the future, as functions suchas high-speed data communications become available. The GSM standard allowsusers to send and receive text messages and allows users to roam acrossinternational boundaries without an interruption in service. Interwave’s networkproducts operate on the GSM standard.

 

In November 1999, the GSM Associationand the Universal Wireless Communications Consortium, the governing bodies ofthe GSM and TDMA standards, respectively, announced an agreement to jointlydevelop standards that enable GSM and TDMA systems to operate together.Universal Mobile Telephony Services, or UMTS, the follow-on standard for GSMand General Packet Radio Service (“GPRS”) is the third generation (“3G”)standard for licenses

 

3

----

 

issued in Europe. CDMA2000, the follow-on standard for CDMA, also is athird generation mobile wireless technology. CDMA2000 has been adopted bynetwork operators in the United States, Korea, Japan and China. In addition,certain Latin American and Eastern European wireless operators have indicatedthat they intend to adopt the CDMA2000 standard.

 

In September 2002, Interwave acquiredCDMA2000 technology from GBase Communications. As part of the GBaseacquisition, Interwave obtained a license from Qualcomm to use the CDMA2000technology for enterprise applications. In April 2003, the terms of thisexisting wireless enterprise licensing agreement were expanded to include afull worldwide CDMA infrastructure license agreement. Under the terms of theexpanded agreement, Interwave can develop, manufacture and sell CDMAOneTM andCDMA2000® 1X/1xEV-DO infrastructure equipment.

 

**Interwave Product Solutions**

 

Our systems offer a number of importantadvantages to wireless service providers:

 

*Compact, Flexible and Modular*

 

Our GSM and CDMA products provide acomprehensive set of radio and switching capabilities. We believe that weprovide the only commercially available system that supports an entire GSMnetwork within a single enclosure approximately the size of a personal computertower. The patented architecture can serve as a base station, base stationcontroller, switch or any combination of these functions depending on oursystem’s hardware and software configuration. Both the GSM and CDMA productsare modular, using only four major hardware modules, which enable the systemsto be updated and enhanced by simply exchanging specific hardware modules andupgrading software.

 

*Cost-Effective Network Deployment andOperation*

 

The deployment of traditional wirelessnetworks requires significant capital expenditures. A typical wireless networkconsists of a large centrally located mobile switching center, or MSC, to routevoice and data signals to their correct destinations, multiple base stationcontrollers, or BSCs, to aggregate and manage voice and data signals betweenthe switch and the base transceiver station, or BTS, and many base transceiverstations to transmit and receive voice and data signals over radio frequencies.Wireless networks typically are designed to support large user bases, butservice providers also need cost-effective ways to address smaller user bases.

 

Our compact, flexible systems enable us to bea price leader, reducing both initial and incremental capital expenditures fornetwork deployment by wireless service providers. The flexible nature of ourproducts enable wireless service providers to rapidly add capacity to theirnetworks. In addition, because there are only four main hardware modules,maintenance and training costs are minimized, and the amount of capitalnecessary to maintain spare parts in inventory is limited.

 

*Interoperability with Existing GSM and CDMANetworks*

 

We maintain strict adherence to GSM standardsto ensure that our systems are compatible with other communications equipmentproviders’ products. We have experienced our systems’ interoperability in livenetworks with equipment from all major communications equipment providers,including Alcatel, Ericsson, Huawei, Lucent, Nokia, Nortel Networks andSiemens. Our systems are also compatible with existing private telephonesystems. Interoperability enables wireless service providers to upgrade theirexisting systems without having to replace their entire network, facilitatingthe introduction of new capabilities and services in a timely andcost-effective manner.

 

4

----

 

Our wireless systems support industrystandard protocols that allow voice and data to be transported atcarrier-quality standards. Our systems address a broad range of applications indifferent markets. Our products are split into two distinct product lines:

 

•                                          GSMinfrastructure. The WAVEXpress® and UltraWAVE® product suites deliver acomprehensive set of wireless network capabilities, which are based on the GSMstandard.

 

•                                          CDMAinfrastructure. The WAVE2000® product line provides 3G voice and data servicebased on the CDMA 1XRTT and IOS4.1 standards.

 

*Rapid Time-to-Market for New, Value-AddedServices*

 

Service providers using our wireless networksystems can achieve rapid time-to-market for new services that can be offeredto new and existing users. Our flexible design enables the system to be readilyupgraded through simple hardware additions and software reconfigurations. Thesefeatures allow service providers to decrease the implementation time requiredto offer new services to customers.

 

Our WAVEViewTM products also allow for thecontrol of all functions and components of the network through a singlemanagement system. These products enable service providers to customize andexpand service offerings to users without deploying additional systems thatrequire incremental training and testing. Our systems provide scalable andlow-cost alternatives to expensive digital communications infrastructureequipment.

 

*Community Solutions*

 

Community networks enable the introduction ofwireless service to those areas that wireless providers currently do not serveor to areas that may not have any telephone service. Wireless solutions such aswireless local loop networks offer the most cost-effective way to providetelephone service to areas with no current service. Wireless local loopnetworks are wireless communications systems that connect users to the publictelephone network using radio signals as a substitute for traditional last milecopper connections. These markets offer substantial growth potential due to therelatively low level of rural and remote telephone service penetration and thecontinued need for low-cost communications services. In addition, wireless solutionsprovide a high-value proposition in developing countries since these solutionsare generally less expensive due to the lack of an established infrastructurein these countries.

 

*Specialty Applications*

 

The compact size of our respective GSM and CDMAinfrastructure equipment and packaging expertise has enabled several specialapplications of our equipment including:

 

•                                          Networkon Wheels. An entire GSM or CDMA network, or just a GSM or CDMA base stationsystem, or BSS, is packaged into a small van or truck, allowing an operator toprovide primary coverage in the case of natural disasters or temporary,supplemental or primary coverage for events where current coverage isinadequate.

 

•                                          Cellularon a Ship. This network provides roaming coverage on cruise ships and ferriesworldwide, allowing passengers to send and receive calls while at sea.

 

•                                          LabSystems. These networks are deployed to either test new handset designs or todevelop new multi-media applications that run over GPRS or 1XRTT data bearers.

 

5

----

 

•                                          MilitaryNetworks. These networks can be deployed in any military theatre of operations.The compact size of our equipment allows it to be installed in the back of a“Hummer” or in flyaway boxes that meet the military 85 lbs. two man liftrequirements. These systems also support the NSA type 1 encryption algorithmfor secure end-to-end communications.

 

**Product Summary Table**

 
| **Product Name**        | ** ** | **Function**                                                                                                                                                               | ** ** | **Product Features**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
|-------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **GSM Infrastructure**  |       |                                                                                                                                                                       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| WAVEXchangeTM       |       | Wireless switches that route telephone traffic through the GSM  network and can also act as a base station controller.                                                     |       | •        Small  size, low price per user.

•        Software  provides the wireless switch functionality that routes and bills calls,  directs data packets, acts as a signaling gateway. 

•        Designed  to allow the network to process calls regionally, reducing operating costs.

•        Design  allows users to increase capacity by adding components.                                                                                                             |
|                    |       |                                                                                                                                                                       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| WAVEXchange-I           |       | Based on the WAVEXpress platform.                                                                                                                                          |       | •        Can  accommodate up to 8,000 users.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
|                    |       |                                                                                                                                                                       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| WAVEXchange-II          |       | A high capacity mobile switch that switches traffic between the BSS  network and the PSTN.                                                                                 |       | •        Can  support up to 200,000 subscribers.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|                    |       |                                                                                                                                                                       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| WAVEXpress®/BSC    |       | Compact base station controller that aggregates and manages the  communications between the WAVEXpress/BTS and the mobile switching center or  a local WAVEXchange switch. |       | •        The  wall-mountable WAVEXpress/BSC is one of the smallest GSM base station  controllers on the market, and connects to any mobile switching center  supporting the GSM standard.

•        Supports  the full rate and enhanced full rate voice transcoders and the four GPRS data  coding schemes.

•        Can  be reconfigured into the WAVEXchange switching platform or the WAVEXpress BTS  platform.

•        Supports  from 1 to 16 base transceiver stations. |
| UltraWAVE®/BSC     |       | High capacity Base Station Controller with the same functionality as  the WAVEXpress®/BSC.                                                                            |       | •        Supports  up to 32 base transceiver stations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |
|                    |       |                                                                                                                                                                       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| UltraWAVE®/BTS     |       | A high capacity Base Transceiver Station supporting up to 12 radios  (transmissions or TRXs).                                                                              |       | •        Supports  the GSM 850, 900 and 1900 frequency bands.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|                    |       |                                                                                                                                                                       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| WAVEXpress®/BSPlus |       | Combines the functions of a base station controller and base  transceiver station in a single product.                                                                     |       | •        A  WAVEXpress/BS Plus can support up to three external WAVEXpress/BTS base  stations to serve up to 2,400 users.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|                    |       |                                                                                                                                                                       |       |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
| UltraWAVE®/BSPlus  |       | A high capacity product that combines the features of the  UltraWAVE/BSC and UltraWAVE/BTS.                                                                                |       | •        Supports  up to 12 internal TRXs and a total TRX capacity of 36.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |

 

6

----

 
| **Product Name**               | ** ** | **Function**                                                                                                                                                                           | ** **                                                                                                                           | **Product Features**                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|--------------------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------------------------------------------------------------------------------------------------------------------------------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| WAVEXpress®/ TurboMAX BTS |       | A high power, macro-network product that extends the reach of the  WAVEXpress to provide broader geographic coverage for the community market.                                         |                                                                                                                                 | •        Increases  power output to up to 40 watts per transceiver.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
|                           |       |                                                                                                                                                                                   | •        Unique,  patented thermal technology developed initially for military applications. |
|                           |       |                                                                                                                                                                                   |                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| Network In A Box®         |       | All-in-one wireless network that includes the GSM switching, base  station control and base transceiver station functions in a single enclosure.                                       |                                                                                                                                 | •        Incorporates  all of the functionality of the WAVEXchange, WAVEXpress/BSC and  WAVEXpress/BTS in a single enclosure.

•        Supports  up to 2 radios and 1,000 users.                                                                                                                                                                                                                                                                                                                                                                                          |
|                           |       |                                                                                                                                                                                   |                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| WAVEGSN                        |       | A low cost Combined Gateway GPRS Support Node (“GGSN”) and Serving  GPRS Support Node (“SGSN”) providing packet data service to GSM subscribers.                   |                                                                                                                                 | •        All  in one GPRS Support node supporting up to 5000 attached users. Can be split  into separate GGSN and SGSN for higher capacities.                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|                           |       |                                                                                                                                                                                   |                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| WAVETransitTM              |       | A high capacity switch that provides for the interconnection of  multiple WAVEXchange systems and the PSTN.                                                                            |                                                                                                                                 | •        Supports  up to 256 E1 with a variety of PSTN interconnect protocols.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |
|                           |       |                                                                                                                                                                                   |                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| WAVEViewTM                 |       | An operations and management control, or OMC, system that manages  multiple base transceiver stations, base station controllers and switches for  wireless service network components. |                                                                                                                                 | •        Operates  on a standard UNIX System with multiple system administrators.

•        Simplifies  the process of deploying new network components, allowing the user to manage  all aspects of BSS and NSS wireless infrastructure.

•        Supports  remote connection and dial-in access.

•        Allows  wireless service providers to monitor network faults in real-time.                                                                                                        |
|                           |       |                                                                                                                                                                                   |                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| **CDMA  Infrastructure**       |       |                                                                                                                                                                                   |                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|                           |       |                                                                                                                                                                                   |                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| WAVE2000 Pico BS+              |       | A combined CDMA BSC and BTS product which provides the radio  frequency (RF) interface to the Mobile Station and a internet protocol (IP)  interface to the MSC via a media gateway.   |                                                                                                                                 | •        A  small low power BSS supporting up to 2 frequency assignments using the  1XRTT CDMA standard.

•        Flexible  indoor platform utilizing existing Private Branch Exchange, or PBX, Public  Switch Telephone Network, or PSTN, and Voice Over Internet Protocol, or VoIP,  infrastructure to provide wireless communication within public and private  networks.

•        Ideal  for building in-fill environments, and wireless office applications. Its  compact form makes it suitable for pole or wall mounting. |

 

7

----

 
| **Product Name** | ** ** | **Function**                                                                                                                                                                                                                                                                  | ** ** | **Product Features**                                                                                                                                                                                                                                                                                                    |
|------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| WAVE2000 BS Plus |       | A combined CDMA BSC and BTS product which provides the RF interface  to the Mobile Station and a IP interface to the MSC via a media gateway.                                                                                                                                 |       | •        Macro  high power BSS supporting up to 3 FA and a total of 96 channels.

•        Ideal  for providing voice and data services in large public or private areas (e.g.,  public communities and large campuses).           |
| WAVE2000 PDSN    |       | The CDMA-based Packet Data Support Node (“PDSN”) integrates all  Internet data traffic from one or more WAVE2000 BS Plus units over the radio  access network, or RAN. It also provides the proxy functionality for all  subscribers registered within the network. |       | •        Can  support up to 5,000 subscribers at 144Kbit/s per subscriber.

•        A  software package that runs on a standard PC

•        Optimized  for small to medium capacity networks. |

 

**Customers**

 

We havedeveloped relationships with communications equipment providers, systemsintegrators and wireless service providers. The following table identifiesselected customers, the various applications of our products and the intendedend users of communications networks employing our products. For the fiscalyear ended June 30, 2004, sales to a single customer, Commercial FacilitatorsLimited, or CFL, the prime contractor for Econet Wireless, a wireless serviceprovider in Nigeria, accounted for approximately 22% of net revenues and salesto all customers in Nigeria accounted for approximately 23% of net revenues. Inaddition, seven customers accounted for approximately 51% of our net revenues.Risks associated with our foreign operations and customer concentration arediscussed more fully in the “Risk Factors” section.

 

The selected customers listed below each represented less than 10% ofour revenues for the fiscal year ended June 30, 2004.

 
| **Customer**                    | ** ** | **Application**                     | ** ** | **End Users**                                  |
|---------------------------------|------------|-------------------------------------|------------|------------------------------------------------|
| **Systems Integrators:**        |       |                                |       |                                           |
| Cell-Tel                        |       | Private cellular networks           |       | U.S. Military                                  |
| Dena Technologies               |       | Urban and rural community networks  |       | Wireless users in certain former Soviet states |
| **Wireless Service Providers:** |       |                                |       |                                           |
| AT&T Wireless               |       | Cruise ships’ roaming networks |       | Wireless roaming users on cruise ships         |
| Mauritel Mobiles                |       | Urban and rural community networks  |       | Wireless users in Mauritania                   |
| Outremer                        |       | Urban and rural community networks  |       | Wireless users in French Guiana                |
| Safaricom Tel                   |       | Rural community networks            |       | Wireless users in Kenya                        |
| Telecom Cook Islands            |       | Urban and rural community networks  |       | Wireless users in Cook Islands                 |

 

**Sales andMarketing**

 

We market andsell our solutions around the world through our direct sales force and othersales representatives utilizing a multi-tiered sales strategy which includesselling to wireless service providers, communications equipment providers, andsystems integrators that integrate our systems with the products of othercompanies.

 

Our GSM systems currently are deployed in:

 

Australia, Bahrain, Benin, Central AfricanRepublic, China, Coco Islands, Cook Islands, Cyprus, Guantanamo Bay, Cuba (U.S.Naval Base), Democratic Republic of Congo, France, French Guiana, Greece, Guam,Guinea, Guyana, Iraq, Italy, Japan, Kenya, Korea, Kosovo, Madagascar, MarshallIslands, Mauritania, Micronesia, Nigeria, Palau Island, Paraguay, Phillipines,Russia, Sierra Leone, Solomon Islands, Somalia, Sri Lanka, Tonga, Turkey,Tuvalu, United Arab Emirates, United Kingdom, and the United States.

 

8

----

 

Trial systemscurrently are deployed in:

 

Kenya, Japan, Russia and South Korea.

 

Our CDMA systems currently are deployed in:

 

Canada, Japan and the United States.

 

We ceased marketing and selling our broadbandproduct line in July 2002. Our broadband product line represented 18% of ournet revenues in fiscal 2002.

 

Segment and geographic information isprovided in the consolidated financial statements as of June 30, 2004 and 2003and for the fiscal years ended June 30, 2004, 2003 and 2002. See “Notes toConsolidated Financial Statements, Note 18—Segment Information.” Risksassociated with our foreign operations and customer concentration are discussedmore fully in the “Risk Factors” section in this report on Form 10-K.

 

***Communications Equipment Providers***

 

**Eastern Communications Co., Ltd.,**or Eastcom, a publicly listed company on the Shanghai Stock Exchange, is one ofthe leading providers of telecommunications equipment for cellular networks andhandsets throughout China. In March 2002, Interwave entered into an OEMAgreement with Eastcom for BSS extension equipment. Sales to Eastcom wereapproximately 0%, 9% and 7% of our net revenues for the fiscal years ended June30, 2004, 2003 and 2002, respectively. As of June 30, 2004, Eastcom ownedapproximately 5.1% of our outstanding common shares on a fully diluted basis.

 

**Telos Technology, Inc.,** or Telos, is a Canadian switchdeveloper and integrator supplying rural networks within the United States andinternationally. We have partnered with Telos in the deployment of GSM and CDMAnetworks worldwide. In May 2004, UTStarcom, Inc., a global leader in IP accessnetworking and services and a shareholder of the Company acquired substantiallyall of the assets of Telos. Sales to Telos were approximately 2% of netrevenues in fiscal 2004. As of June 30, 2004, UTStarcom, Inc. ownedapproximately 7.3% of our outstanding common shares on a fully diluted basis.

 

***Systems Integrators***

 

**Cell-Tel.**Cell-Tel Government Systems, Inc., or Cell-Tel,is the premier systems integrator of rapidly deployable, mobile and fixedwireless communication networks for military and government applications. Thecompany is comprised of ex-military personnel and senior engineers who providean added element of familiarity and expertise in the development of advancedintegrated wireless communication solutions to meet the demandingspecifications of government and military clients. Cell-Tel is specificallyfocused on selling our products to various departments of the U.S. government.

 

**Dena Technologies.**DenaTechnologies is a leading telecommunications system integration company basedin Canada. Dena Technologies uses our products as part of their Wireless LocalLoop product offering, which they then market and sell to republics of theformer Soviet Union. Dena Technologies initially purchased from us low capacityNetwork In A Box (NIB) based solutions, but during fiscal year 2004 they havestarted buying the high capacity UltraWAVE and WXC II platforms to increase thecapacity of their customer base.

 

***Direct Sales***

 

We established a direct sales presence inParis, France in mid-1996. Through wireless service providers, such as CFL,Safaricom Tel, Outremer, Telecom Cook Islands, Mauritel Mobiles and AT&TWireless, we have deployed our network solutions in Nigeria, Kenya, FrenchGuiana, Cook Islands and Mauritania. In fiscal 2004, sales to CFL, SafaricomTel, Outremer, Telecom Cook Islands, Mauritel Mobiles and AT&T Wirelesscomprised 22%, 6%, 6%, 4%, 4% and 3% of our net revenues, respectively.

 

9

----

 

**Hutchison Telecommunications Group.**We began deploying our products in Hong Kong with Hutchison TelecommunicationsGroup, or Hutchison, in 1997. In December 1999, we executed a contractwith an affiliate of Hutchison, Lanka Cellular, to deploy our products in SriLanka; this network was expanded in fiscal 2004. In June 2001, we executeda contract with Comunicaciones Personales, S.A., an affiliate of Hutchison, todeploy a nationwide GSM network in Paraguay. Hutchison and its affiliates owned2.3% of our outstanding common shares on a fully diluted basis as ofJune 30, 2004.

 

**CustomerSupport**

 

We complement our products with a worldwideservice organization that provides product support, network and radio systemdesign, turnkey installation, maintenance and field engineering. Our supportorganization provides pre-sales, installation and post-sales support towireless service providers who have purchased systems directly from us. Ourdistributors are typically responsible for installation, maintenance andsupport services to their customers. We offer 24-hour telephone support7 days a week to both service providers who have purchased systems directlyfrom our distributors and us. We offer an ongoing maintenance program for ourproducts, consisting of product enhancements, product updates and technicalsupport. System operators may renew maintenance and support on an annual basisby paying a maintenance fee. We also provide extensive support to communicationequipment providers and systems integrators through product training, 24-hourhelp-desk support and emergency problem resolution. In addition, we workclosely with our customers’ first-line support organizations to ensure thatthey have the necessary skills and specific product knowledge to assist theircustomers with installation, management and other network support requirements.

 

**Engineering**

 

Our engineering development team resides infour locations. Our main engineering organization is in Mountain View,California, where hardware, firmware, and the core radio software and systemsengineering are performed. The high capacity switching platform and Value-AddedServer products are developed in Shenzhen, China. The CDMA BSS hardware andsoftware is developed by a group located in Walnut Creek, California. Themanagement system software group and the documentation group are located inTralee, Ireland.

 

In fiscal 2004, the major products that werebeing developed or delivered were:

 

•                                          Supportfor GPRS incorporated into all GSM product lines;

 

•                                          Highcapacity WAVEXchange switch supporting over 100,000 subscribers;

 

•                                          Supplementarynetwork service software supporting Intelligent Network Pre-paid system, SMSand authentication center;

 

•                                          Supportfor IN interface to existing GSM operators switching platforms;

 

•                                          UltraWAVEproduct line supporting 6 radios, that can be upgraded to support 12;

 

•                                          UltraWAVEMobile Switching Center (“MSC”) increasing capacity of MSC products;

 

•                                          UltraWAVEBS+ supporting 12 radio channels;

 

•                                          Newcost-reduced radios that support high performance GPRS for 900Mhz and 1800Mhz;

 

•                                          ChargingGateway Product for GPRS call data records (“CDR”) mediation product;

 

•                                          NewNetwork Management System (“NMS”) to consolidate management of GSM and CDMAequipment in one platform;

 

10

----

 

•                                          Continuedcost reduction of high-power base stations to achieve lower cost throughre-engineering of power amplifiers with alternative suppliers;

 

•                                          CDMAsoft switch; and

 

•                                          CDMAvalue-added services such as Short Message Service or SMS-center, Prepaidcenter, Authentication center and Voice Mail center expected to be available inthe first quarter of calendar 2005.

 

We believe Interwave’s success depends on itsability to continue to develop more cost effective products through technologyinnovation and to introduce new capabilities and features for existingproducts. Our research development expenses totaled approximately $9.6 million,$12.9 million, and $19.8 million for fiscal years 2004, 2003 and2002, respectively. As of June 30, 2004, the engineering development staffconsisted of 72 employees.

 

**Manufacturing**

 

We rely on Flash Electronics to manufactureour GSM and CDMA product lines. We began using Flash Electronics’ contractmanufacturing services on a purchase order basis in May 2000 and weentered into a manufacturing agreement in January 2002. Flash Electronicshas manufacturing facilities in Fremont, California and in Suzhou, JiangsuProvince, China.

 

We also rely on Bravo Tech, Inc. tomanufacture our GSM Ultrawave products. We began using Bravo Tech, Inc.’smanufacturing services under a manufacturing agreement in May 2003. Bravo Tech,Inc. has manufacturing facilities in Cypress, California and Shenzhen,Guangdong Province, China.

 

In May 2003, our manufacturing team wasrelocated to our main 34,500 square foot facility in Mountain View, Californiafrom our former central facility in Menlo Park, California (See Note 15 to theConsolidated Financial Statements). In April 2004, we relocated our operationsteam to our Mountain View location from an 11,400 square foot facility in SanDiego, California (See Note 15 to the Consolidated Financial Statements). Wenow have all planning, procurement, final assembly, system testing, and qualitycontrol consolidated in our central facility in Mountain View.

 

Since we typically have long sales cycles, werely on a detailed sales forecast to determine our production requirements andto meet the ordering needs of our contract manufacturers. We also utilize thissales forecast to control our inventory levels. Due to the modular architectureof our product line, we are able to reconfigure our products for specificcustomer purchase orders in a timely manner.

 

Our systems include a number of componentsthat come from sole source suppliers such as Lucent, Motorola and Xilinx.Either our contract manufacturers or Interwave procure these components fromdistributors or directly from the manufacturers. We communicate with our solesource suppliers frequently in order to insure the continued availability ofthe components. We anticipate that if a manufacturer decides to discontinue acritical component, it would provide enough time for us and our contractmanufacturers to locate alternative components. However, we may be required toredesign our products or take other steps, which could limit the availabilityof our products.

 

**Backlog**

 

As of September 24, 2004, our backlogwas approximately $15.7 million. As of September 26, 2003, ourbacklog was approximately $21.3 million. Backlog consists of purchaseorders received, including, in some instances, forecast requirements releasedfor production under customer contracts. Any cancellation and/or postponementcharges generally vary depending upon the time of cancellation or postponement,and a portion of our backlog may be subject to cancellation or postponementwithout significant penalty. A substantial portion of our current backlog isscheduled for delivery within the next 12 months. Customers may cancelscheduled deliveries without significant penalty and backlog therefore may notbe a meaningful indicator of future financial results.

 

11

----

 

**Competition**

 

The GSM wireless market is rapidly evolvingand highly competitive. We believe that our GSM business is affected by thefollowing competitive factors:

 

•                                          conformityto industry standards, including the evolution to Enhanced Data rates for GSMEvolution, or EDGE/3G standards;

 

•                                          supportof country specific protocol variations and type approvals of our products bylocal regulatory authorities;

 

•                                          completenessand breadth of our product lines;

 

•                                          implementationof additional product features and enhancements, including improvements inproduct performance, reliability, size and scalability;

 

•                                          cost;

 

•                                          easeof deployment;

 

•                                          salesand distribution capability; and

 

•                                          technicalsupport and service.

 

We expect that competition in each of ourmarkets will increase in the future. We currently compete against GSMcommunications equipment providers such as Alcatel, Ericsson, Lucent, Motorola,Nokia, Nortel and Siemens. Over the last several years, we have experienced increased competition from Huawei andZTE, two Chinese companies selling their GSM and CDMA products and services inthe African and Russian markets. Huawei and ZTE have been gaining market shareby selling equipment at prices that are significantly lower than prices forsimilar products from other manufacturers and by their ability to receivefinancing from the Chinese government. We also compete with the TDMA and CDMAproduct offerings from the same communications equipment providers and expectthat a number of them will develop competing data communications products andtechnologies in the near future. We also compete with the CDMA productofferings of Samsung, LG Electronics and UTStarcom. In the past, the productsof most of the leading GSM communications equipment providers were designed tohandle large subscriber bases. Equipment providers are beginning to focus,however, on equipment similar to our products that address smaller subscriberbases. Each of the major GSM communications equipment providers has at least apartial GSM solution that addresses this target market. A number of the leadingGSM equipment vendors have made statements over the last year that they viewthe emerging markets as one of the biggest growth markets in GSM and aretherefore introducing new products targeted at these markets.

 

Increased competition in our target market islikely to result in price reductions, shorter product life cycles, reducedgross margins, longer sales cycles and loss of market share, any of which wouldseriously harm our business. We have designed and engineered our products tominimize costs, maximize margins and improve competitiveness. However, wecannot assure you that we will be able to compete successfully against currentor future competitors or that the competitive pressures we face will not seriouslyminimize our business opportunities and negatively affect our results ofoperations.

 

**Employe****es**

 

As of June 30, 2004, we employed 160 people,including 37 in operations and customer support, 38 in marketing and sales, 72in research and development and 13 in finance and administration. None of ouremployees are represented by a labor union and we have experienced no workstoppages to date. We believe our relationship with our employees is good.

 

12

----

 

**GovernmentRegulation**

 

Many of our systems intentionally radiateradio frequency energy, and therefore must comply with regulations in thecountries where we sell and install our systems. The process of verifyingcompliance with radio and network regulations is known as system certification,and this must be granted before a system is offered commercially for sale. TheFederal Communications Commission, or FCC, certifies systems we sell andinstall in the United States. Some regions of the world, such as Latin Americaand the Philippines, accept FCC certification as sufficient approval foroperation within these regions. The European Telecommunications StandardsInstitute, or ETSI, certifies systems we sell and install in Europe. Manycountries also require additional testing to certify compliance to localstandards and requirements, in addition to the FCC or the ETSI rules.

 

Our systems operate in both licensed andlicense-exempt frequency assignments. A licensed frequency assignment requiresthat, prior to installing our systems, the operator obtain a license from theappropriate regulatory body for a specific frequency allocation. Alicense-exempt frequency assignment allows an operator to install and activateour systems without notifying any authority once we have received certificationfor the systems. In the United States, operation of unlicensed radiocommunications equipment is subject to the conditions that no harmfulinterference is caused to authorized users of the band, and that interference,including interference that may cause undesired operation, must be acceptedfrom all other users of the band. This includes other unlicensed operators,authorized operators such as amateur licensees, industrial, scientific andmedical equipment, and U.S. government operations. Unlicensed operators thatcause harmful interference to authorized users, or that exceed permitted radiofrequency emission levels, may be required to cease operations until thecondition causing the harmful interference or excessive emissions has beencorrected.

 

The delays inherent in this regulatoryapproval process may cause the rescheduling, postponement or cancellation ofthe installation of communications systems by our customers, which in turn maysignificantly reduce sales of systems to these customers. The failure to complywith current or future regulations or changes in the interpretation of existingregulations in a particular country could result in the suspension or cessationof sales in that country, restrictions on our development efforts and those ofour customers, render current systems obsolete, expose us to fines, or increasethe opportunity for additional competition. These regulations or changes ininterpretation of these regulations could require us to modify our products andincur substantial compliance costs.

 

We are also subject to U.S. government exportcontrols. We rely on our customers to inform us when they plan to deliver ourproducts to other countries and we regularly inform our customers of the exportcontrols with which they must comply.

 

**ProprietaryRights**

 

Our success and ability to compete depends inpart upon our proprietary technology. We rely on a combination of patent,copyright and trade secret laws as well as non-disclosure agreements to protectour proprietary technology. We currently hold 32 United States patents and have8 United States patent applications pending. We have filed many of these patentapplications in a number of other countries and we have a total of 43 issuedand 19 patents pending worldwide. We cannot be certain that patents will beissued with respect to pending or future patent applications or that ourpatents will be upheld as valid or will be sufficient to prevent thedevelopment of competitive products. We seek to protect our intellectualproperty rights by limiting access to the distribution of our software,documentation and other proprietary information. In addition, we have enteredinto confidentiality agreements with our employees and certain customers,vendors and strategic partners. Despite these efforts, it may be possible forunauthorized third parties to copy certain portions of our products, to designaround our patents, or to reverse-engineer or otherwise obtain and use ourproprietary information. In addition, we cannot be certain that others will notdevelop substantially equivalent or superseding proprietary technology, or thatequivalent products will not be marketed in competition with our products,thereby substantially reducing the value of our proprietary rights. We are alsosubject to the risk of adverse claims and litigation alleging infringement ofthe intellectual property rights of others. In this regard, there can be noassurance that

 

13

----

 

third parties will not assert infringement claims in the future withrespect to our current or future products or that any such claims will notrequire us to enter into license arrangements or result in protracted andcostly litigation, regardless of the merits of such claims.

 

No assurance can be given that any necessarylicenses will be available or that, if available, such licenses can be obtainedon commercially reasonable terms. In addition, the laws of some countries donot protect our proprietary rights to the same extent as do the laws of theUnited States. Accordingly, we may not be able to protect our proprietaryrights against unauthorized third party copying or use, which couldsignificantly harm our business.

 

**Trademarks**

 

The following are trademarks of Interwave inthe United States and internationally: Interwave Microexpress, TheMicrocellular Networks Company, WAVE2000, and interWAVE & Design.

 

The following are registered trademarks ofInterwave in the United States and internationally: GSM Network in a Box®, interWAVE®,interWAVE logo, interWAVE the Microcellular Networks Company®, interWAVE theMicrocellular Network Company®, Microexpress®, MicroXpress®, Minet®, Turbomax®,TurboWAVE®, WAVETransit®, WAVEXpress®, WAVEXpress BS Plus®, WAVExtend®,WAVEView®, interWAVE Communications® and WAVEXchange®.

 

The following are registered trademarks of interWAVE Communications,Inc.: interWAVE®, Microexpress®, Turbomax®, WAVEView®, WAVEXchange®,WAVEXpress®, WAVEXpress BS Plus®.

 

The following are registered trademarks of oursubsidiary Wireless, Inc.: Broadband Without Boundaries®, MULTIPOINTNETWORKS®, Multipoint Networks Logo®, RAN®, Starport®, THE WIRELESS SOLUTIONFOR MAN®, WAVENET®, WAVENET ACCESS®, Wavenet Link®, WAVENET TRANSPORT®, andWireless, Inc & Design®.

 

The following are registered trademarks ofour subsidiary interWAVE Communications UK Limited in the United Kingdom :MINET®.

 

 

**Item 2****. Properties**

 

Our corporate headquarters is located inHamilton, Bermuda. In May 2003, we relocated our principal administrative,manufacturing and engineering facilities from our facility in Menlo Park,California to our main 34,500 square foot facility in Mountain View,California, which is also used for planning, procurement, final assembly,system testing, and quality control. The three-year lease commenced inMay 2003. In addition, we lease sales, service and systems testingfacilities in the following locations:

 
| **City**                                                                                      | ** ** | **Approx. S.F.** | ** ** | **Lease Expires** |
|-----------------------------------------------------------------------------------------------|------------|------------------|------------|-------------------|
|                                                                                          |       |             |       |              |
| Basingstoke, Hampshire, UK                                                                    |       | 3,000            |       | December 2004     |
| Hong Kong, S.A.R.                                                                             |       | 100              |       | November 2004     |
| Makati City, Phillipines                                                                      |       | 100              |       | August 2005       |
| Menlo Park, California, USA (vacated - see Note 15 to the  Consolidated Financial Statements) |       | 59,000           |       | April 2005        |
| Mountain View, California, USA                                                                |       | 34,500           |       | April 2006        |
| Paris, France                                                                                 |       | 3,552            |       | October 2005      |
| San Diego, California, USA (vacated - see Note 15 to the Consolidated  Financial Statements)  |       | 11,411           |       | May 2006          |
| Shenzhen,  People’s Republic of  China                                              |       | 1,815            |       | August 2005       |
| Tralee, Ireland                                                                               |       | 5,000            |       | December 2006     |
| Walnut Creek, California, USA                                                                 |       | 8,638            |       | July 2006         |

 

14

----

 

Interwave believes that its facilities areadequate to support the business efficiently and that the properties andequipment have been well maintained.

 

**Item 3****. Legal Proceedings**

 

On November 21, 2001, Interwave andvarious of its officers and directors were named as defendants in *Middleton v. Interwave Communications International Ltd., etal.*, Case No. 01-CV-10598, a purported securities class actionlawsuit filed in United States District Court, Southern District of New York.On April 19, 2002, plaintiffs filed an amended complaint. The amendedcomplaint asserts that the prospectus from Interwave’s January 28, 2000initial public offering (“IPO”) failed to disclose certain alleged improper actionsby various underwriters for the offering in the allocation of IPO shares. Theamended complaint alleges claims against certain underwriters, Interwave andits officers and directors under the Securities Act of 1933 and the SecuritiesExchange Act of 1934. Similar complaints have been filed concerning more than300 other IPOs; these cases have been coordinated as *In reInitial Public Offering Securities Litigation*, 21 MC 92.

 

On July 15, 2002, the issuers filed anomnibus motion to dismiss for failure to comply with applicable pleadingstandards. On October 8, 2002, the Court entered an Order of Dismissal asto all of the individual defendants in the IPO litigation, without prejudice.On February 19, 2003, the Court denied the motion to dismiss against Interwave.

 

A stipulation of settlement for the claimsagainst the issuer defendants, including Interwave, has been submitted to theCourt for preliminary approval. Under the stipulation of settlement, theplaintiffs will dismiss and release all claims against participating defendantsin exchange for a contingent payment guaranty by the insurance companiescollectively responsible for insuring the issuers in all the related cases, andthe assignment or surrender to the plaintiffs of certain claims the issuerdefendants may have against the underwriters. Under the guaranty, the insurerswill be required to pay the amount, if any, by which $1.0 billion exceeds theaggregate amount ultimately collected by the plaintiffs from the underwriterdefendants in all the cases. There is no guarantee that the settlement willbecome effective, as it is subject to a number of conditions, including Courtapproval. If the settlement does not occur, and litigation against Interwavecontinues, Interwave believes it has meritorious defenses and intends to defendthe action vigorously; provided, however, such legal proceedings may be timeconsuming and expensive and the outcome could be adverse to Interwave. Anadverse outcome could have a material adverse effect on Interwave’s financialposition, on its business and results of operations.

 

Interwave may from time to time become aparty to various legal proceedings arising in the ordinary course of business.

 

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

 

During the fourth quarter of the fiscal yearcovered by this report, no matters were submitted to a vote of securityholders, through the solicitation of proxies or otherwise.

 

15

----

 

**PARTII**

 

**Item 5****. Market for the Registrant’s Common Equity, Related ShareholderMatters and Issuer Purchases of Equity Securities.**

 

**Information about Interwave’s Common Shares**

 

Interwave’s common shares are traded on theNASDAQ National Market under the symbol “IWAV.” The following table sets forththe range of the high and low intraday prices by quarter as reported on theNASDAQ National Market:

 
| ** **                            | ** ** | **High**   | ** ** | **Low**    | ** ** |
|---------------------------------------|------------|------------|------------|------------|------------|
| ** **                            | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Fiscal  Year Ended June 30, 2004:** | ** ** |       |       |       |       |
| First Quarter                         | ** ** | $          | 2.83       |       | $          | 1.82 |   |
| Second Quarter                        | ** ** | 5.95       |       | 2.13       |       |
| Third Quarter                         | ** ** | 6.50       |       | 2.66       |       |
| Fourth Quarter                        | ** ** | 5.50       |       | 3.15       |       |
| ** **                            | ** ** |       |       |       |       |
| **Fiscal  Year Ended June 30, 2003:** | ** ** |       |       |       |       |
| First Quarter                         | ** ** | $          | 8.70       |       | $          | 4.80 |   |
| Second Quarter                        |       | 5.10       |       | 1.80       |       |
| Third Quarter                         |       | 2.20       |       | 1.50       |       |
| Fourth Quarter                        |       | 3.30       |       | 1.60       |       |

 

On June 30, 2004, there wereapproximately 679 shareholders of record of Interwave’s common shares. Thisnumber does not include the number of persons whose shares are in nominee or in“street name” accounts through brokers.

 

**DIVIDENDS**

 

Interwave has never paid cash dividends onits common shares. Interwave intends to retain any earnings for use in itsbusiness and, therefore, does not anticipate paying any cash dividends on itscommon shares.

 

**RECENT SALES OF UNREGISTERED SECURITIES**

 

The following table sets forth informationregarding all unregistered securities of Interwave sold by Interwave fromJuly 1, 2003 to June 30, 2004:

 
| **Class of Purchasers**                  | ** ** | **Date of  Sale** | ** ** | **Aggregate Number of  Title of Securities** | ** ** | **Amount of Price  Consideration** | ** ** | **Form of Price  Consideration** | ** ** |
|------------------------------------------|------------|-------------------|------------|----------------------------------------------|------------|------------------------------------|------------|----------------------------------|------------|
| ** **                               | ** ** | ** **        | ** ** | ** **                                   | ** ** | ** **                         | ** ** | ** **                       | ** ** |
| Empire Capital & affiliated entities |       | 11/13/03          |       | Common  Shares-                              | 1,350,000  |                               | $          | 5,318,000                        |       | Cash |   |
| GBase Communications                     |       | 12/31/03          |       | Common  Shares-                              | 78,500     |                               | $          | —                           |       | Assets | (1) |
| GBase Communications                     |       | 03/31/04          |       | Common  Shares-                              | 730,787    |                               | $          | —                           |       | Assets | (1) |
| GBase Communications                     |       | 06/28/04          |       | Common Shares-                               | 139,713    |                               | $          | —                           |       | Assets | (1) |

 

----

(1)           From September 2002 through June 2004,Interwave issued a total of 1,265,847 common shares in exchange forsubstantially all the assets of GBase Communications and in fulfillment of allthe terms of the asset purchase agreement with GBase Communications.  This amount included a total of 949,000common shares as consideration valued at $685,000 in fiscal 2004.

 

All sales were made in reliance onSection 3(A)(10) or Section 4(2) of the Securities Act and/orRegulation D promulgated under the Securities Act. The securities weresold to a limited number of people with no general solicitation or advertising.The purchasers were sophisticated investors with access to all relevantinformation necessary to evaluate the investment and who represented toInterwave that the shares were being acquired for investment or pursuant to adetermination of fairness by the California Corporations Commission.

 

16

----

 

**USE OFPROCEEDS FROM OUR 2000 INITIAL PUBLIC OFFERING**

 

On January 28, 2000, a registrationstatement on Form F-1 (No. 333-92967) was declared effective by theSEC, pursuant to which 9,775,000 of our common shares were offered and sold forour account at a price of $13.00 per share, generating gross proceeds ofapproximately $127.1 million.

 

In connection with the offering, we incurred$8.9 million in underwriting discounts and commissions, and$1.9 million in other related expenses. The net proceeds from theoffering, after deducting the foregoing expenses, were $116.3 million.Each outstanding preferred  share ofInterwave was automatically converted into one common share upon the closing ofthe initial public offering. The managing underwriters were Salomon SmithBarney, Banc of America Securities LLC and SG Cowen.

 

As of September 28, 2004, we have usedall of the net proceeds from the initial offering to fund our operations,capital expenditures and other general corporate purposes, including purchasesof equipment relating to acquisitions completed during the year, net lossesfrom operations, excluding depreciation and amortization and other non-cashcharges, and other costs relating to acquisitions that we completed during thefiscal year ended June 30, 2004.

 

17

----

 

**Item 6****. Selected Financial Data**

 

The following selected consolidated financialdata should be read together with “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations” and the consolidated financialstatements, including the related notes found elsewhere in this annual report.The statement of operations data for the fiscal years ended June 30, 2004,2003, 2002, 2001 and 2000, and the balance sheet data as of June 30, 2004,2003, 2002, 2001 and 2000 are derived from the audited consolidated financialstatements of Interwave, certain of which are included elsewhere in this annualreport. Our consolidated financial statements are prepared in accordance withaccounting principles generally accepted in the United States of America. Allamounts are expressed in U.S. dollars. Our fiscal years 2004, 2003 and 2002ended on the actual calendar month end. Prior to November 2001, our fiscalperiods ended on the Friday nearest the calendar month end.

 
| ** **                                                                  | ** ** | **Fiscal Year Ended June 30,**            | ** ** |
|-----------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                  | ** ** | **2004**                                  | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| ** **                                                                  | ** ** | **(in thousands, except per share data)** | ** ** |
|                                                                        |       |                                      |       |   |   |   |   |   |   |   |   |
| **Statement of Operations Data:**                                           | ** ** | ** **                                | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Total revenues                                                              |       | $                                         | 44,467     |   | $ | 29,960 |   | $ | 42,955 |   | $ | 26,532 |   | $ | 30,139 |   |
| Cost of revenues                                                            |       | 23,254                                    |       | 22,416 |   | 44,291 |   | 29,586 |   | 18,747 |   |
|                                                                        |       |                                      |       |   |   |   |   |   |   |   |   |
| Gross profit (loss)                                                         |       | 21,213                                    |       | 7,544 |   | (1,336 | ) | (3,054 | ) | 11,392 |   |
| Operating expenses:                                                         |       |                                      |       |   |   |   |   |   |   |   |   |
| Research and development                                                    |       | 9,613                                     |       | 12,937 |   | 19,793 |   | 30,483 |   | 18,148 |   |
| Selling, general and administrative                                         |       | 18,221                                    |       | 19,017 |   | 29,163 |   | 32,915 |   | 13,507 |   |
| Amortization of deferred stock compensation                                 |       | —                                    |       | 194 |   | (227 | ) | 3,054 |   | 9,891 |   |
| In-process research and development                                         |       | —                                    |       | — |   | — |   | 606 |   | — |   |
| Losses (gains) on asset sales and asset  impairments, net                   |       | (809                                      | )          | (144 | ) | 16,657 |   | 23,202 |   | — |   |
| Restructuring charges (credit)                                              |       | 776                                       |       | 3,485 |   | (1,986 | ) | 6,581 |   | — |   |
|                                                                        |       |                                      |       |   |   |   |   |   |   |   |   |
| Total operating expenses                                                    |       | 27,801                                    |       | 35,489 |   | 63,400 |   | 96,841 |   | 41,546 |   |
|                                                                        |       |                                      |       |   |   |   |   |   |   |   |   |
| Loss from operations                                                        |       | (6,588                                    | )          | (27,945 | ) | (64,736 | ) | (99,895 | ) | (30,154 | ) |
| Interest income                                                             |       | 24                                        |       | 167 |   | 1,373 |   | 6,482 |   | 4,120 |   |
| Interest expense                                                            |       | (149                                      | )          | (166 | ) | (317 | ) | (187 | ) | (2,061 | ) |
| Other expense, net                                                          |       | (149                                      | )          | (53 | ) | (436 | ) | (212 | ) | (217 | ) |
|                                                                        |       |                                      |       |   |   |   |   |   |   |   |   |
| Loss before income taxes                                                    |       | (6,862                                    | )          | (27,997 | ) | (64,116 | ) | (93,812 | ) | (28,312 | ) |
| Income tax (expense) benefit                                                |       | 139                                       |       | (267 | ) | (209 | ) | (324 | ) | (99 | ) |
|                                                                        |       |                                      |       |   |   |   |   |   |   |   |   |
| Net loss                                                                    |       | (6,723                                    | )          | (28,264 | ) | (64,325 | ) | (94,136 | ) | (28,411 | ) |
| Dividend effect of beneficial conversion  feature to preferred shareholders |       | —                                    |       | — |   | — |   | — |   | (2,055 | ) |
|                                                                        |       |                                      |       |   |   |   |   |   |   |   |   |
| Net loss attributable to common  shareholders                               |       | $                                         | (6,723     | ) | $ | (28,264 | ) | $ | (64,325 | ) | $ | (94,136 | ) | $ | (30,466 | ) |
| Basic and diluted net loss per share                                        |       | $                                         | (0.85      | ) | $ | (4.34 | ) | $ | (11.52 | ) | $ | (19.25 | ) | $ | (13.30 | ) |
| Shares used in computing basic and diluted  net loss per share              |       | 7,892                                     |       | 6,508 |   | 5,583 |   | 4,890 |   | 2,296 |   |

 
| ** **                                            | ** ** | **June 30,**       | ** ** |
|-------------------------------------------------------|------------|--------------------|------------|
| ** **                                            | ** ** | **2004**           | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| ** **                                            | ** ** | **(in thousands)** | ** ** |
| **Balance Sheet Data:**                               | ** ** | ** **         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Cash and cash equivalents, including  restricted cash |       | $                  | 5,931      |   | $ | 4,625 |   | $ | 13,517 |   | $ | 25,974 |   | $ | 43,813 |   |
| Working capital                                       |       | 2,953              |       | 567 |   | 22,912 |   | 58,631 |   | 154,138 |   |
| Total assets                                          |       | 34,224             |       | 33,277 |   | 52,627 |   | 130,874 |   | 175,653 |   |
| Long-term debt, net of current portion                |       | 1,000              |       | 2,284 |   | 2,502 |   | 3,494 |   | 1,711 |   |
| Total shareholders’ equity                       |       | 11,019             |       | 10,019 |   | 30,147 |   | 93,211 |   | 162,619 |   |
|                                                       |            |                    |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

18

----

 

**Item 7****. Management’s Discussion and Analysis of Financial Condition andResults of Operations**

 

*The following discussion should be read inconjunction with the selected consolidated financial information and ourconsolidated financial statements and related notes included elsewhere in thisForm 10-K. This discussion contains forward looking statements thatinvolve risks and uncertainties. Our actual results could differ materiallyfrom those anticipated in these forward-looking statements as a result ofvarious factors, including those set forth under “Risk Factors” and elsewherein this report. Our fiscal year ends on the actual calendar month end ofJune 30.*

 

**OVERVIEW**

 

Interwave Communications International Ltd.is a global provider of scaleable wireless infrastructure networks that offer acost effective solution to extend coverage and connectivity to hard-to-reachareas. We were incorporated in June 1994 and recorded our first productsale in May 1997. Our systems support wireless voice and data transmissionfor both mobile and fixed applications.

 

We offer a complete line of compact GSM andCDMA systems. We have pioneered what we believe is the only commerciallyavailable system that provides all of the infrastructure equipment and softwarenecessary to support an entire wireless network within a single compactenclosure. Our networks may be deployed in communities with a few thousand subscribersand may be scaled to grow to more than a hundred thousand subscribers. Ourproducts provide wireless network operators with a simple, easy-to-support andmaintain network that is software configurable to various networkarchitectures. We added the CDMA2000 product line in fiscal 2003 afteracquiring the assets of GBase Communications.

 

Deployments of our community networks beganin 1998, primarily in China and Africa, to add capacity and coverage toexisting systems. Trials of our wireless office systems commenced in 1999 inboth Europe and Asia. Prior to May 1997, we had no sales and ouroperations consisted primarily of various start-up activities, such as researchand development, recruiting personnel, conducting customer field trials andraising capital. We generated net revenues of $44.5 million,$30.0 million  and$43.0 million in fiscal 2004, 2003 and 2002, respectively. We incurred netlosses of $6.7 million, $28.3 million and $64.3 million in fiscal 2004, 2003 and 2002,respectively. As of June 30, 2004 and 2003, we had an accumulated deficitof $333.6 million and $326.9 million, respectively. We have obtained andmay require additional capital to fund our operations during the remainder offiscal 2005 and beyond. Additional concerns are discussed more fully later inthe “Operations” and “Liquidity and Capital Resources” sections of this“Management’s Discussion and Analysis of Financial Condition and Results ofOperations” and in the “Risk Factors”.

 

On July 27, 2004, we and Alvarion Ltd. announcedthat the two companies entered into a definitive agreement for Alvarion toacquire us for $5.75 per share. The details of this transaction are discussedin our Form 8-K filed with the SEC on July 28, 2004.  This transaction is to be structured as anamalgamation under Bermuda law. On August 30, 2004, we filed a definitive proxystatement with the SEC in preparation for a special meeting of our shareholdersheld on September 30, 2004, at which our shareholders voted on theamalgamation.

 

Alvarion announced on September 30, 2004 thatit had determined that Interwave had experienced a material adverse effect withrespect to its business and has advised Interwave that Alvarion would notcomplete the amalgamation on the terms set forth in the amalgamation agreement.In addition, on September 30, 2004, Interwave held its scheduled specialmeeting of shareholders and approved the agreement and plan of amalgamationpursuant to which interWAVE was to be acquired by Alvarion Ltd.   On October 1, 2004, Interwave advisedAlvarion in writing that Interwave believes there is no material adverse effector any other basis, legal or otherwise, for Alvarion to not comply with itsobligations under the agreement. Interwave further advised Alvarion that Interwave remained prepared toconsummate the amalgamation according to the terms of the agreement and viewedAlvarion’s refusal to go forward with the amalgamation according to these termsas a material breach of the agreement. On October 4, 2004, Interwave filed a complaint against Alvarion in theUnited States District Court for the Southern District of New York.  The Complaint alleges, among other things,that Alvarion breached the agreement and plan of amalgamation pursuant to whichInterwave was to be acquired by Alvarion. The complaint seeks specific performance of the amalgamation agreementand seeks compensatory and punitive damages in excess of $75 million.  The outcome of this dispute is presentlyunknown, and the accompanying consolidated financial statements do not includethe effect, if any, upon the Interwave’s results of operations, financialcondition, and cash flows.

 

19

----

 

We continued downsizing and realigning ourCompany in fiscal 2004 to focus on our core business as a provider of cellularinfrastructure networks to network operators. Although the downturn in theglobal economic environment, and in the telecommunications industry, inparticular, which began in early 2001, continued throughout fiscal 2004, webelieve that during the year, our industry began to show signs of stability andrecovery in certain of our markets. Competition remained intense as largercommunications equipment providers began to either consolidate or moreaggressively pursue markets that addressed smaller subscriber bases such asours. We believe that large vendors especially those in China have beensacrificing profit margin to gain market share. We have implemented a strategyto increase revenues and margins while reducing operating expense levels. Webelieve that we delivered important upgrades to our GSM product offering,including the addition of a new high-capacity switch, a new operating andmaintenance center and a new radio base station. In addition, we increasedcommercial functionality of our CDMA offering, expanded our value-addedservices, and increased penetration of markets in Africa and in the PacificIslands.

 

We believe that the majority of products wesell in the United States are ultimately installed outside the United States.Accordingly, our business is exposed to risks from economic uncertainties,currency fluctuations, political instability, uncertain regulatory environmentsand other risks associated with global operations. Additional concerns arediscussed more fully in the “Operations” section of this “Management’sDiscussion and Analysis” and in the “Risk Factors” section of this report.

 

In September 2002, we completed thepurchase of substantially all of the assets of GBase Communications, adeveloper of CDMA2000 base station systems and packet data servicing nodes forthird generation markets under a license from Qualcomm, Inc. The purchasewas accounted for as an acquisition of assets.

 

Under the asset purchase agreement, weacquired substantially all of GBase’s assets and assumed most of itsliabilities for an initial purchase price of 0.32 million common shares ofInterwave at $20 per share. An additional 0.02 million common shares wereplaced in escrow in fiscal 2003 pending the satisfaction of certain contingenciesand subsequently released upon satisfaction of those contingencies. Contingentconsideration of 0.08 million common shares was placed in escrow and wassubsequently released in fiscal 2004 as a result of the continued employment ofkey GBase personnel for periods of 12 and 18 months following the assetpurchase.

 

In addition, as the average of the closingshare price for our common shares during the last calendar quarter of 2003 wasbelow approximately $20 per share, we were obligated to issue additionalcontingent consideration in common shares and cash. In fiscal 2004, we issued0.9 million common shares to the GBase Liquidation Trust, thesuccessor-in-interest to GBase, as additional contingent share considerationand accrued $0.7 million as additional cash consideration, which wesubsequently negotiated and settled payment by issuing common shares at fairmarket value equal to the cash consideration previously accrued. As of June 30,2004, 1,265,847 common shares have been issued from September 2002 through June2004 for a total consideration of $7.0 million to Gbase and/or the GbaseLiquidating Trust.

 

The following table summarizes theconsideration paid and allocation of purchase price for GBase (in thousands):

 
| Acquisition costs       |   | $      | 288    |   |
|-------------------------|--------|--------|--------|--------|
| Liabilities assumed     |   | 705    |   |
| Common shares issued    |   | 5,988  |   |
|                    |   | $      | 6,981  |   |
|                    |   |   |   |
| Other intangible assets |   | $      | 123    |   |
| Qualcomm licenses       |   | 1,403  |   |
| Purchased technology    |   | 5,455  |   |
|                    |   | $      | 6,981  |   |

 

20

----

 

The value of the contingent employeeretention-based consideration of $0.3 million and $0.1 million wererecognized ratably as stock compensation expense over the 12 and 18 monthsfollowing the asset purchase, respectively. For the years ended June 30, 2004and 2003, $0.1 million and $0.3 million related to this contingentconsideration. This was recognized as compensation expense and classified asresearch and development expenses in the accompanying consolidated statementsof operations. Purchased technology is amortized over the estimated useful lifeof four years and classified as amortization of intangible assets, whichis included in cost of revenue.

 

In September 2002, we amended ouroriginal equipment manufacturer agreement with UTStarcom, Inc.Additionally, UTStarcom acquired 0.58 million common shares for a purchaseprice of $3.0 million, which represented the fair value of our commonshares on the date of the transaction. We also agreed to provide certainnetwork interface technical design services, and in the future produce and sellproducts to UTStarcom that include the network interface for CDMA2000 for feesto be negotiated. Under the agreement, we have deposited in escrow certainintellectual property as security in case of material breach, cessation ofbusiness or liquidation.

 

In October 2002, we issued warrants topurchase 0.2 million common shares to UTStarcom. The fair value of thewarrant of $0.3 million was determined using the Black-Scholes pricingmodel with the following assumptions: interest rate of 3.5%, volatility of122%, exercise price of $2.10 and 3-year terms. The $0.3 million wascharged to our consolidated statement of operations as selling, general andadministrative expenses.

 

Also in October 2002, we entered into alicensing agreement with Telos Technology Ltd. Under the agreement, inexchange for consideration of $2 million we granted a perpetual license toTelos to use certain technology we acquired in the GBase acquisition. The$2 million consideration received was offset against the cost of GBase’spurchased technology.  In May 2004,UTStarcom acquired substantially all of the assets of Telos.

 

In March 2003, we expanded our agreementwith Qualcomm to include a worldwide CDMA infrastructure license. The expandedlicense grants us the right to develop, make and sell infrastructure equipmentbased on Qualcomm’s CDMAOne and CDMA2000 1X/1xEV-DO technology. Accordingly, wehave recorded an additional license value of $2.5 million. This Qualcommlicense is amortized based on the greater of the straight-line amortizationover 5 years or units sold basis.

 

Also in March 2003, YoungDesign, Inc., a leading manufacturer of broadband solutions for wirelessinternet service providers, or WISP, common carriers and mobile carriers,placed a $0.8 million product order for our Link CX, high-capacity radioand, in a separate transaction, purchased substantially all of the remainingassets and obtained a nonexclusive license for all of the technology related tothe Link CX product line. Accordingly, we recorded a gain on sale of assets inthe amount of $0.3 million.

 

In July 2003, Erwin F. Leichtle joinedInterwave as President and Chief Executive Officer and was elected to its Boardof Directors pursuant to significant changes we had experienced in our seniormanagement, including the resignation of our former Chief Executive Officer,Priscilla M. Lu. Following Ms. Lu’s resignation, William E. Gibson, amember of our Board of Directors, served as the chairman of an executivecommittee consisting of our independent members of the Board of Directors,which collectively managed the duties previously undertaken by our ChiefExecutive Officer until Mr. Leichtle’s appointment.

 

In November 2003, we completed a $5.3 millionprivate placement of our newly issued common shares with Empire Capital L.P.and its affiliates. The common shares were sold at a discount of approximately9% from the average closing sale price of our common shares for the fivetrading days preceding the closing date. The net proceeds of this financing arebeing used for general corporate purposes.

 

In December 2003, we completed twotransactions with an independent third party, whereby we provided an assetlicense agreement and sold certain assets recognizing a gain on sale of assetsof $0.8 million.

 

In order to maintain a listing on the NasdaqNational Market, listed issuers must, among other requirements, maintain a $1per share minimum bid price and shareholder equity of at least$10 million. From time to time we have been notified by Nasdaq that we didnot meet these requirements. On all such occasions, we subsequently cured these

 

21

----

 

maintenance standards deficiencies and Nasdaq closed its inquiries inthese matters. As of June 30, 2004, we met these listing requirements.

 

InMay 2003, we relocated our principal administrative, manufacturing andengineering facilities from our facility in Menlo Park, California to our main34,500 square foot facility in Mountain View, California, which is also used forplanning, procurement, final assembly, system testing, and quality control. Thethree-year lease commenced in May 2003. We have the option to extend thelease for three years at the end of its original term.

 

22

----

 

In September 2003, we renegotiated allremaining obligations under our lease agreement for the Menlo Park, Californiafacility in exchange for monthly payments of $0.1 million for the next19 months beginning October 2003 for a total of $1.9 million.The remaining unpaid discounted value of $1.8 million is included in theaccompanying consolidated balance sheet as accrued restructuring expense.

 

In June 2003, we obtained a revolvingline of credit in the amount of $1.0 million from Silicon Valley Bank atan interest rate of 1.5% monthly on gross accounts receivable outstanding. InSeptember 2003, the availability under the line of credit was increased to$2.5 million. The line of credit is available through June 30, 2005.As of June 30, 2004 and 2003, the outstanding balances were $2.1 million and$1.0 million, respectively. Repayment is required when a specific receivable is90 days past due unless replenished by a more current receivable.

 

In April 2004, the Company vacated its SanDiego facility, relocated its operations team to Mountain View and is obligatedto monthly payments of $17.6 thousand for the next 23 months for a total of$405 thousand through May 2006. The remaining unpaid discounted value of $324thousand is included in the consolidated balance sheet as of June 30, 2004 asaccrued restructuring expense.

 

In June 2004, we obtained a revolving line ofcredit up to $1.5 million from Partners for Growth or PFG, at a monthlyinterest rate of 1.5% which was not to exceed the lower of the dollar creditlimit or an amount equal to the sum of 80% of our eligible current domestic andforeign accounts receivable, 100% of our eligible supported letters of credit,75% of our eligible purchase orders and 50% of our eligible inventory,respectively. The line of credit is available through June 3, 2005. As of June30, 2004, $1.5 million was outstanding under the line of credit. In September2004, an additional $2.0 million was made available by PFG under the line ofcredit to us with principal to be repaid equal to borrowings in excess of $575thousand from Silicon Valley Bank through September 30, 2004 and repaid in fullby October 31, 2004. In September 2004, the Company borrowed the additional$2.0 million available under the line of credit.

 

The agreements with Silicon Valley Bank andPFG pledge substantially all of our assets including our intellectual propertyin favor of the lenders.

 

For fiscal 2005, our management is currentlyattempting to continue to execute plans intended to increase revenues andmargins, and to reduce spending. We plan to continue to refine our sales andmarketing strategy in light of the challenging, though improving, worldwideeconomic conditions and conservatism across all segments of thetelecommunications industry. We plan to market into countries where wirelesstelephone services are critical for continued economic survival, offeringsolutions at prices for overall network deployment that are targeted to allownetwork operators to break even within one year. Taking our success in SriLanka, Paraguay and some of the African countries, we plan to make furtherinroads into regions in Latin America, Eastern Europe including Russia and theformer Soviet States, and parts of South East Asia where cellular servicepenetration is low and where we believe the potential for growth issignificant. We also intend to focus on the continued reduction in operational,sales and marketing costs by relying increasingly on our partners or thirdparty systems integrators to provide direct support services. We also plan toreduce costs on core product lines through design and manufacturingimprovements. We have obtained and may require additional capital to fund ouroperations during the remainder of fiscal 2005 and beyond. We have had recurringnet losses in the past three fiscal years including the fiscal year endedJune 30, 2004.

 

Alvarion announced on September 30, 2004 thatit had determined that Interwave had experienced a material adverse effect withrespect to its business and has advised Interwave that Alvarion would notcomplete the amalgamation on the terms set forth in the amalgamation agreement.In addition, on September 30, 2004, Interwave held its scheduled specialmeeting of shareholders and approved the agreement and plan of amalgamationpursuant to which interWAVE was to be acquired by Alvarion Ltd.   On October 1, 2004, Interwave advisedAlvarion in writing that Interwave believes there is no material adverse effector any other basis, legal or otherwise, for Alvarion to not comply with itsobligations under the agreement. Interwave further advised Alvarion that Interwave remained prepared toconsummate the amalgamation according to the terms of the agreement and viewedAlvarion’s refusal to go forward with the amalgamation according to these termsas a material breach of the agreement. On October 4, 2004, Interwave filed a complaint against Alvarion in theUnited States District Court for the Southern District of New York. The outcomeof this dispute is presently unknown, and the accompanying consolidatedfinancial statements do not include the effect, if any, upon the Interwave’sresults of operations, financial condition, and cash flows.

 

We are currently seeking additionalfinancing, through issuance of debt or equity or through other means such ascustomer prepayments, asset sales or secured borrowings.

 

If additional funds are raised through theissuance of preferred equity or debt securities or secured borrowings, thesesecurities could have rights, preferences and privileges senior or otherwisesuperior to that of our common shares, and the terms of any debt could imposerestrictions on our operations. The sale of additional equity or convertibledebt securities could result in additional dilution to our shareholders and suchsecurities may have rights, preferences and privileges senior or otherwisesuperior to those held by existing shareholders. If we cannot raise funds onterms favorable to us, or raise funds at all, we may not be able to develop orenhance our products, take advantage of future opportunities or respond tocompetitive pressures or unanticipated requirements. If we are unable to raiseadditional funds, we may be required to reduce the scope of our plannedoperations, which could harm our business, or we may even need to ceaseoperations.

 

23

----

 

**CRITICAL ACCOUNTING POLICIES AND ESTIMATES**

 

In preparing our consolidated financialstatements, we make assumptions, judgements and estimates that can have asignificant impact on our total revenue and net income, as well as on the valueof certain assets and liabilities on our consolidated balance sheets. We baseour assumptions, judgments and estimates on historical experience and variousother factors that we believe to be reasonable under the circumstances. Actualresults could differ materially from these estimates under differentassumptions or conditions. We believe that assumptions, judgments and estimatesinvolved in accounting for revenue recognition, accounts receivable valuation,inventory valuation, and restructuring charges have the greatest potentialimpact on our consolidated financial statements, so we consider these to be ourcritical accounting policies. These policies, and our procedures related tothese policies, are described in detail below. In addition, please refer toNote 1 to the Consolidated Financial Statements in this report for furtherdiscussion of the following critical accounting policies as well as our othersignificant accounting policies.

 

**Revenue Recognition**

 

We recognizerevenue in accordance with the Securities and Exchange Commission, or SEC,Staff Accounting Bulletin No. 101 (“SAB 101”) “Revenue Recognition in FinancialStatements”, Staff Accounting Bulletin No. 104, “Revenue Recognition” (“SAB104”) and Emerging Issues Task Force No. 00-21 (“EITF 00-21”), “RevenueArrangements with Multiple Deliverables.”

 

EITF 00-21addresses certain aspects of the accounting by a vendor for arrangements underwhich it will perform multiple revenue-generating activities. Specifically,EITF 00-21 addresses whether an arrangement contains more than one unit ofaccounting and the measurement and allocation to the separate units ofaccounting in the arrangement. SAB 104 revises or rescinds portions of the interpretiveguidance related to revenue recognition included in Topic 13 of thecodification of the staff accounting bulletins. We assessed the impact of SAB104 and concluded that the adoption of SAB 104 did not have a material effecton our consolidated financial statements.

 

Accordingly, equipment revenue is recognized when all of the followinghave occurred: persuasive evidence of an arrangement exists, the product hasbeen shipped, title and all of the benefits and risks of ownership includingrisk of loss have passed to the customer, we have the right to invoice thecustomer, collection of the receivable is reasonably assured, and we havefulfilled all pre-sale contractual obligations to the customer. Revenue fromextended warranty coverage and customer support is recognized ratably over theperiod of the service contract.  Trialsales made directly to wireless service providers are not recognized as revenueuntil the trial is successfully completed. Trials conducted by communications service providers and systemsintegrators are normally shipped from their inventory and do not result in anyincremental revenue to us. Although our products contain a software component,the software is not sold separately and we do not provide software upgrades toour customers.

 

**Accounts Receivable Valuation**

 

We evaluate the collectibility of our tradereceivables based on a combination of factors. When we become aware of aspecific customer’s inability to meet its financial obligations to us, such asin the case of bankruptcy filings or deterioration in the customer’s operatingresults or financial position, we record a specific reserve for bad debt toreduce the related receivable to the amount we reasonably believe iscollectible. We also record reserves for bad debt for all

 

24

----

 

other customers based on a variety of factors including the length oftime the receivables are past due and historical collection experience. Ifcircumstances related to specific customers change, our estimates of therecoverability of receivables are also likely to change.

 

**Inventory Valuation**

 

We perform a detailed assessment of inventoryat each balance sheet date, which includes a review of, among other factors,demand requirements, product lifecycle and product development plans, qualityissues, excess inventory and obsolescence. Based on this analysis, we recordadjustments, when appropriate, to reflect inventory at net realizable value.

 

**Impairment of Long-lived Assets**

 

We periodically review the value oflong-lived assets and identifiable intangibles for impairment whenever eventsor changes in circumstances indicate that the carrying amount of such assetsmight not be recoverable. Events and circumstances that would trigger animpairment analysis include a significant decrease in the market value of anasset, a significant change in the manner or extent that an asset is usedincluding a decision to abandon acquired products, services or technologies, asignificant adverse change in operations or business climate affecting theasset, and historical operating or cash flow losses expected to continue forthe foreseeable future associated with the asset. When such an event occurs,management determines whether there has been an impairment by comparing theanticipated undiscounted future net cash flows to the related asset’s carryingvalue. If an asset is considered impaired, the asset is written down to fairvalue, which is determined based either on discounted cash flows or appraisedvalues, depending on the nature of the asset.

 

We evaluate the recoverability of long-livedassets when events or circumstances indicate a possible impairment. Anyimpairment losses recorded in the future caused by the continuing deteriorationof the industry we operate in could have a material adverse impact on ourfinancial condition and results of operation.

 

**Restructuring Charges**

 

Our Board of Directors approved a plan toreduce the aggregate workforce of Interwave, consolidate facilities, andrestructure certain business functions to streamline the organization for costreduction. The restructuring activities were initiated primarily due to thesevere downturn in the economic environment in the telecommunications industry.These restructuring charges are ongoing and are recorded in the consolidatedstatement of operations as a separate line item. We accrue all restructuringexpenses in accordance with Statement of Financial Accounting Standards No. 146,“Accounting for Costs Associated with Exit or Disposal Activities.” Pleaserefer to Note 9 to the Consolidated Financial Statements for furtherdiscussion of our restructuring activities.

 

25

----

 

**RECENT ACCOUNTING PRONOUNCEMENTS**

 

In January 2003, the Financial Accounting Standard’sBoard (“FASB”) issued Interpretation No. 46 (“FIN 46”), Consolidation ofVariable Interest Entities, an Interpretation of ARB No. 51, which addresseshow a business enterprise should evaluate whether it has a controlling interestin an entity through means other than voting rights and accordingly shouldconsolidate the entity. FIN 46R, which was issued in December 2003, replacesFIN 46.  Before concluding that it isappropriate to apply ARB 51 voting interest consolidation model to an entity,an enterprise must first determine that the entity is not a variable interestentity (VIF).  As of the effective dateof FIN 46R, an enterprise must evaluate its involvement with all entities orlegal structures created before February 1, 2003, to determine whetherconsolidation requirements of FIN 46R apply to those entities — there is nogrand-fathering of existing entities. Public companies must apply either FIN 46 or FIN 46R immediately toentities created after January 31, 2003, no later than the end of the firstreporting period that ends after December 15, 2003 to entities considered to bespecial purpose entities and no later than the first reporting period that endsafter March 15, 2004 for all other entities. The Company had no variable interest entities as of June 30, 2004.

 

In April 2004, the EITF issued Statement No.03-06 (“EITF 03-06”), *Participating Securitiesand the Two-Class Method under FASB Statement No. 128, Earnings Per Share.*EITF03-06 addresses a number of questions regarding the computation of earnings pershare by companies that have issued securities other than common stock thatcontractually entitle the holder to participate in dividends and earnings ofthe company when, and if, it declares dividends on its common shares. The issuealso provides further guidance in applying the two-class method of calculatingearnings per share once it is determined that a security is participating,including how to allocate undistributed earnings to such a security. EITF 03-06is effective for fiscal periods beginning after March 31, 2004. The adoption ofEITF 03-06 did not have a material effect on our consolidated financialposition, results of operation or cash flows.

 

**LOSSES (GAINS) ON ASSET SALES AND ASSETIMPAIRMENTS, NET**

 

We review our goodwill and other intangibleassets for impairment whenever events or changes in circumstances indicate thatthe carrying value may not be recoverable. As part of our review of year-endresults, we performed an impairment analysis of identifiable intangible assetsrecorded in connection with previous long-lived assets. The assessments wereperformed in accordance with accounting guidance and due to the continuingsoftening of the global economy and the telecommunications industry inparticular, the continuing operating losses, the absence of positive cash flows,previous continuing decline in our stock price, previous net assets exceedingour market capitalization, and the previous overall decline in industry growthrates which indicate that this trend may continue for an indefinite period. Asa result of these reviews, we recorded approximately $19.6  millionin asset impairment charges for the year ended June 30, 2002.

 

26

----

For fiscal 2004, we completed two transactions with an independentparty, whereby we provided an asset license agreement and sold certain assetswhich had been previously charged off to impairment and recorded a gain on saleof $0.8 million. For fiscal 2003, the $83 thousand impairment charge wastaken to write down the net book value of primarily computer equipment andleasehold improvements, which were no longer in use. Additionally, we recordeda $0.2 million net gain from the sale of certain assets in fiscal 2003.For fiscal 2002, a $16.7 million impairment charge was taken to write offthe net book value of goodwill and property and equipment from Interwave’sacquisition of Wireless, Inc., as well as an additional $2.9 millionto write off Wireless, Inc.’s inventories, which was charged to cost ofrevenues.

 
| **Fiscal 2003**            | ** ** | **Balance at   June 30, 2002** | ** ** | **Additions/  (Disposals/Usage)** | ** ** | **Depreciation/  Amortization** | ** ** | **Losses (Gains) on Asset   Sales and Asset   Impairments, Net** | ** ** | **Balance at   June 30, 2003** | ** ** |
|----------------------------|------------|--------------------------------|------------|-----------------------------------|------------|---------------------------------|------------|------------------------------------------------------------------|------------|--------------------------------|------------|
| Property and Equipment(1): |       |                           |       |                              |       |                            |       |                                                             |       |                           |       |
| Interwave                  |       | $                              | 8,045      |                              | $          | —                          |       | $                                                                | (7,962     | )                              | $          | 83 |   | $ | — |   |
|                       |       | $                              | 8,045      |                              | $          | —                          |       | $                                                                | (7,962     | )                              | $          | 83 |   | $ | — |   |
|                       |       |                           |       |                              |       |                            |       |                                                             |       |                           |       |
| **Fiscal 2002**            | ** ** | **Balance at   June 30, 2001** | ** ** | **Additions/  (Disposals/Usage)** | ** ** | **Depreciation/  Amortization** | ** ** | **Losses (Gains) on Asset   Sales and Asset  Impairments, Net**  | ** ** | **Balance at   June 30, 2002** | ** ** |
| Intangible assets(1):      |       |                           |       |                              |       |                            |       |                                                             |       |                           |       |
| Wireless, Inc.             |       | $                              | 21,624     |                              | $          | 891                             |       | $                                                                | (6,517     | )                              | $          | 15,998 |   | $ | — |   |
| Inventories(2):            |       |                           |       |                              |       |                            |       |                                                             |       |                           |       |
| Wireless, Inc.             |       | 5,222                          |       | (1,972                            | )          | —                          |       | 2,916                                                            |       | 334                            |       |
| Property and Equipment(1): |       |                           |       |                              |       |                            |       |                                                             |       |                           |       |
| Wireless, Inc.             |       | 2,804                          |       | (843                              | )          | (1,302                          | )          | 659                                                              |       | —                         |       |
|                       |       | $                              | 29,650     |                              | $          | (1,924                          | )          | $                                                                | (7,819     | )                              | $          | 19,573 |   | $ | 334 |   |

 

----

(1)                              Theimpairment for intangible assets and property and equipment was charged tolosses (gains) on asset sales and asset impairments, net.

 

(2)                              Theimpairment for inventories was charged to cost of revenues.

 

The write-downs to estimated fair value were based upon the estimatedfuture discounted cash flows from operations and estimated terminal values ofthe businesses.

 

27

----

 

**RESTRUCTURING CHARGES**

 

Our restructuring accrual as of June 30, 2004, 2003, and 2002 issummarized as follows (in thousands):

 
| **Fiscal 2004**                                        | ** ** | **Restructuring   Accrual as of   June 30, 2003** | ** ** | **Additions/   Reversals** | ** ** | **Payments** | ** ** | **Restructuring  Accrual as of   June 30, 2004** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------------------|------------|----------------------------|------------|--------------|------------|--------------------------------------------------|------------|
| Future lease payments related to abandoned  facilities |       | $                                                 | 1,765      |                       | $          | 471          |       | $                                                | (886       | ) | $ | 1,350 |   |
| Workforce reduction                                    |       | 150                                               |       | 305                        |       | (389         | )          | 66                                               |       |
| Total                                                  |       | $                                                 | 1,915      |                       | $          | 776          | *          | $                                                | (1,275     | ) | $ | 1,416 |   |

 

----

*                                         Restructuringcharges in the consolidated statement of operations for the fiscal year endedJune 30, 2004 include this addition to the restructuring accrual.

 

During fiscal 2004, we reduced our workforce by an additional 16employees worldwide and vacated certain facilities. As a result, we recordedrestructuring expense related to severance payments and future leasecommitments and recorded a charge of $0.8 million.

 
| **Fiscal 2003**                                        | ** ** | **Restructuring   Accrual as of   June 30, 2002** | ** ** | **Additions/   Reversals** | ** ** | **Payments** | ** ** | **Restructuring   Accrual as of   June 30, 2003** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------------------|------------|----------------------------|------------|--------------|------------|---------------------------------------------------|------------|
| Future lease payments related to abandoned  facilities |       | $                                                 | 747        |                       | $          | 2,300        |       | $                                                 | (1,282     | ) | $ | 1,765 |   |
| Workforce reduction                                    |       | 35                                                |       | 902                        |       | (787         | )          | 150                                               |       |
| Total                                                  |       | $                                                 | 782        |                       | $          | 3,202        | *          | $                                                 | (2,069     | ) | $ | 1,915 |   |

 

----

*                                         Restructuringcharges in the consolidated statement of operations for the fiscal year endedJune 30, 2003 include this addition to the restructuring accrual plus anamount of $283 thousand representing the net book value of property andequipment written off upon the closure of facilities.

 

During fiscal 2003, we reduced our workforce by an additional 133employees, and closed certain facilities. As a result, we recordedrestructuring expense related to severance payments and future leasecommitments and recorded a charge of $3.5 million.

 

In September 2003, we renegotiated our remaining obligations underthe lease agreement for one of our facilities and agreed to make monthlypayments of $0.1 million for the next 19 months beginningOctober 2003 for a total of $1.9 million. The discounted value of$1.8 million is included on the accompanying consolidated balance sheet inaccrued restructuring expenses. The remaining workforce reduction accrual of$0.2 million was paid out by December 2003.

 

28

----

 
| **Fiscal 2002**                                        | ** ** | **Restructuring   Accrual as of   June 30, 2001** | ** ** | **Additions/   Reversals** | ** ** | **Payments** | ** ** | **Restructuring  Accrual as of   June 30, 2002** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------------------|------------|----------------------------|------------|--------------|------------|--------------------------------------------------|------------|
| Future lease payments related to abandoned  facilities |       | $                                                 | 5,986      |                       | $          | (3,494       | )          | $                                                | (1,745     | ) | $ | 747 |   |
| Abandoned leasehold improvements                       |       | 595                                               |       | (595                       | )          | —       |       | —                                           |       |
| Workforce reduction                                    |       | —                                            |       | 855                        |       | (820         | )          | 35                                               |       |
| Total                                                  |       | $                                                 | 6,581      |                       | $          | (3,234       | )**        | $                                                | (2,565     | ) | $ | 782 |   |

 

----

**                                  Restructuringcredits in the consolidated statement of operations for the fiscal year endedJune 30, 2002 include this reduction of the restructuring accrual less anamount of $614 thousand representing renegotiated lease terminationpayments and an amount of $634 thousand representing the net book value ofleasehold improvements ultimately determined not to be abandoned.

 

During fiscal 2002, we reduced our workforce by 107 employees andclosed certain facilities. As a result, we recorded a restructuring expenserelated to severance payments and future lease commitments and recorded an additionalcharge of $0.9 million.

 

Also in fiscal 2002, we negotiated and signed a lease terminationagreement, which reduced our operating lease commitment significantly over thenext three years. The actual termination agreement differed from the estimate andresulted in a reduction of the lease loss accrual and, accordingly, we reversed$2.9 million as a restructuring credit in the accompanying consolidatedstatements of operations.

 

**OPERATIONS**

 

We operate in one business segment—wireless infrastructure networksconsisting of GSM and CDMA systems. We added the CDMA2000 product line infiscal 2003 after acquiring the assets of GBase. We generate net revenues fromsales of our systems and, in connection with our direct sales activity, frominstallation, maintenance contracts and support of those systems. Revenuederived from system sales, comprised of unit sales of our WAVEXpress basestation and base station controller, our WAVEXchange, our Network In A Box andour WAVEView management system, constituted 57%, 58%, and 65% of net revenuesin fiscal 2004, 2003 and 2002, respectively. Other revenues were derivedprimarily from other equipment sales and installation services.

 

We generate revenues through oursales by our direct sales force to wireless providers, sales to systemintegrators that either sell our systems on a stand-alone basis or integratethem with their systems and sales to communications equipment providers whichtogether comprised 86%, 10% and 4% of net revenues in fiscal 2004,respectively. We rely on our internal sales forecasts and our ongoingdiscussions with customers, including their formal purchase orders, as guidancefor planning our production and our revenue outlook.

 

Net revenues outside North America represented approximately 77%, 70% and83% of total net revenues in fiscal years 2004, 2003 and 2002, respectively.For fiscal 2004, approximately 61%, 16% and 23% were derived, respectively,from sales in Europe, Middle East and Africa, sales in Asia Pacific, and salesin North America. Furthermore, sales to a single customer, CFL, the primecontractor for Econet Wireless, a wireless service provider, in Nigeria,accounted for approximately 22% of net revenues and sales to all customers inNigeria accounted for approximately 23% of net revenues. Furthermore, sales toseven customers accounted for 51% of net revenues. We have derived and expectto continue to derive a majority of our revenues from products installedoutside the United States by both non-U.S. and U.S. based wireless service providers,systems integrators and communications equipment providers, exposing ourrevenue stream to risks from economic uncertainties, currency fluctuations,political instability and uncertain cultural and regulatory environments andother risks associated with global operations. All of our revenues arecurrently denominated in U.S. dollars, which may reduce our exposure tofluctuations in revenues attributable to changes in

 

29

----

 

currency exchange rates. In the future, business conditions may requireus to sell our products in other currencies. In addition, we face risksinherent in conducting global business. These risks include extended collectiontime for receivables, the potential loss of security interest, politicalinstability, reduced ability to enforce obligations and reduced protection forour intellectual property.

 

We have incurred substantial operating losses and substantial cashoutflow since our inception and we expect to continue to incur net losses infiscal 2005. Nevertheless, a significant portion of our expenses are fixed inthe near term, and we may not be able to quickly reduce spending if our revenueis lower than anticipated. Therefore, net losses in a given quarter could begreater than expected. You have limited historical financial data and operatingresults with which to evaluate our business and our prospects. As a result, youmust consider our prospects in light of our history in business in a rapidlyevolving market. For additional information on factors that may affect ourfuture results of operations, please see the “Risk Factors” section of thisreport.

 

Communications equipment providers, system integrators and wirelessservice providers typically perform numerous tests and extensively evaluateproducts before incorporating them into their own networks. The time requiredfor testing, evaluation and design of our systems into the service provider’snetwork typically ranges from six to twelve months. During the trial period wesell a limited number of units. The successful completion of the trial phaseoften results in another sale of additional units intended for deployment incommercial service. Our business could be adversely affected if a significantcustomer reduces or delays orders during our sales cycle or chooses not todeploy networks incorporating our systems.

 

Cost of revenues primarily consists of material costs, direct laborcosts, warranty costs, royalties, overhead related to manufacturing ourproducts, amortization of the Qualcomm license, patents and trademarks, andcustomer support costs.

 

In general, our gross margins will be affected by the following factorsand, therefore, we are unable to predict what these margins will be in thefuture:

 

•                                          demandfor our products and services;

 

•                                          newproduct introductions, both by us and our competitors;

 

•                                          changesin our pricing policies and those of our competitors;

 

•                                          themix of products sold;

 

•                                          thesales channels through which our products are sold; and

 

•                                          thepurchase volume discounts we are able to obtain from our contract manufacturer.

 

We obtain all of our primary components and sub-assemblies for our GSMproducts and CDMA products from two independent contract manufacturers.Accordingly, a significant portion of our cost of revenues consists of paymentsto these suppliers. The remainder of our cost of revenues for our productsincludes our in-house manufacturing operations, which consist primarily ofquality control, final assembly, testing and product integration.

 

Research and development expenses consist primarily of compensation andrelated costs for research and development personnel and expenses for testingfacilities and equipment. All research and development costs are expensed asthey are incurred. We expect to continue to make investments in research anddevelopment while attempting to maintain tight control on expenditures.

 

30

----

 

Selling, general and administrative expenses consist primarily ofcompensation and related costs for sales and sales support personnel, marketingpersonnel, financial, accounting, human resource and general managementpersonnel, sales commissions, marketing programs, legal and professionalservices, travel expenses, bad debt expenses and other general corporateexpenses. We have incurred substantial expenditures in connection with ourproposed amalgamation with Alvarion. In addition, we expect to incursubstantial expenditures related to sales and marketing activities, therecruitment of additional sales and marketing personnel and the expansion ofour domestic and international distribution channels.

 

Since our inception, we have used share option programs for keyemployees as compensation to attract strong business and technical talent. Wehave recorded compensation expense for our option grants equal to the excess ofthe fair market price on the date of grant over the option exercise price. Ofthe total deferred compensation, approximately $0, $0.2 million and $(0.2)million was amortized in fiscal years 2004, 2003 and 2002, respectively.

 

Our current GSM products operate on the GSM standard. GSM competes withother digital standards, including code division multiple access, or CDMA, andtime division multiple access, or TDMA. GSM also competes with analogstandards. In the event that TDMA or CDMA become the dominant digital wirelesscommunication standard in geographic markets we are seeking to address, theacceptance of our GSM products and our GSM revenues and operating results fromGSM could be severely harmed.

 

The most prevalent emerging third generation, or 3G, standards ofwireless communications are forms of CDMA, and the Universal Mobile TelephonyServices, UMTS, standard of 3G which is built upon a GSM base. We believe thatmany carriers may deploy GSM prior to deploying 3G because some elements of GSMare utilized in this form of 3G. Ultimately, however, 3G may become thedominant wireless standard.

 

Our industry is intensely competitive, and many of our competitors aremajor telecommunications equipment providers with resources that aresignificantly greater than ours. In addition to competitive pressures, we willalso likely encounter declining sales prices and profit margins over time asproducts mature.

 

31

----

 

**RESULTS OFOPERATIONS**

 

The following table presents certain consolidated statement ofoperations data for the periods indicated as a percentage of net revenues:

 
| ** **                                                | ** ** | **Fiscal Years Ended June 30,** | ** ** |
|-----------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                | ** ** | **2004**                        | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                      |       |                            |       |   |   |   |   |
| As a percentage of total revenues:                        |       |                            |       |   |   |   |   |
| Total revenues                                            |       | 100.0                           | %          | 100.0 | % | 100.0 | % |
| Cost of revenues                                          |       | 52.3                            |       | 74.8 |   | 103.1 |   |
| Gross profit (loss)                                       |       | 47.7                            |       | 25.2 |   | (3.1 | ) |
| Operating expenses:                                       |       |                            |       |   |   |   |   |
| Research and development                                  |       | 21.6                            |       | 43.2 |   | 46.1 |   |
| Selling, general and administrative                       |       | 41.0                            |       | 63.5 |   | 67.9 |   |
| Amortization of deferred stock compensation               |       | —                          |       | 0.6 |   | (0.5 | ) |
| In-process research and development                       |       | —                          |       | — |   | — |   |
| Losses (gains) on asset sales and asset  impairments, net |       | (1.8                            | )          | (0.5 | ) | 38.8 |   |
| Restructuring charges (credit)                            |       | 1.7                             |       | 11.6 |   | (4.6 | ) |
| Total operating expenses                                  |       | 62.5                            |       | 118.4 |   | 147.7 |   |
| Loss from operations                                      |       | (14.8                           | )          | (93.2 | ) | (150.8 | ) |
| Interest income                                           |       | —                          |       | 0.6 |   | 3.2 |   |
| Interest expense                                          |       | (0.3                            | )          | (0.6 | ) | (0.7 | ) |
| Other expense, net                                        |       | (0.3                            | )          | (0.2 | ) | (1.0 | ) |
| Loss before income taxes                                  |       | (15.4                           | )          | (93.4 | ) | (149.3 | ) |
| Income tax (expense) benefit                              |       | 0.3                             |       | (0.9 | ) | (0.5 | ) |
| Net loss                                                  |       | (15.1                           | )%         | (94.3 | )% | (149.8 | )% |

 

Sales to major customers and related parties are as follows (inthousands):

 
| ** **                            | ** ** | **Fiscal Years Ended June 30,** | ** ** | **Fiscal Years Ended June 30,** | ** ** |
|---------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| ** **                            | ** ** | **2004**                        | ** ** | **2003**                        | ** ** | **2002** | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                            | ** ** | **Net Revenues**                | ** ** | **Percentage of Net Revenues**  | ** ** |
|                                  |       |                            |       |                            |       |   |   |   |   |   |   |   |   |
| Commercial Facilitators, Ltd          |       | $                               | 9,665      |                            | —     |   | — |   | 22 | % | — |   | — |   |
| Hutchison Telecommunications Group(1) |       | 625                             |       | $                               | 1,297      |   | $ | 10,636 |   | 1 | % | 4 | % | 25 | % |
| Telos Engineering(1)                  |       | 701                             |       | —                          |       | — |   | 2 | % | — |   | — |   |
| Eastern Communications Co., Ltd.(1)   |       | —                          |       | 2,805                           |       | 2,978 |   | — |   | 9 | % | 7 | % |
| Nortel Networks(2)                    |       | —                          |       | —                          |       | 164 |   | — |   | — |   | — |   |
| Total                                 |       | $                               | 10,991     |                            | $          | 4,102 |   | $ | 13,778 |   | 25 | % | 13 | % | 32 | % |

 

----

(1)                                  Denotesrelated party as of June 30, 2004.

 

(2)                                  NortelNetworks is not a related party as of June 30, 2003.

 

32

----

 

**Comparison of Fiscal Years EndedJune 30, 2004 and 2003**

 

*Net Revenues*

 

Net revenues increased 48%, or $14.5** **million,from $30.0 million in fiscal 2003 to $44.5 million in fiscal 2004 asa result of increased sales to existing customers and sales to new customers.As market conditions improved in the telecommunications industry and the globaleconomy, we continued penetration into the African continent and into newmarkets in the South Pacific. We added new customers, several of whom placedorders for higher gross margin products that were shipped in fiscal 2004. A newcustomer, CFL, the prime contractor for Econet Wireless, a wireless serviceprovider in Nigeria, accounted for 22% of net revenues. Together, sevencustomers accounted for approximately 51% of our revenues.

 

# *Cost of Revenues*

 

Cost of revenues, excluding amortization of intangible assets,increased 2.9%, or $0.6 million, from $20.7 million in fiscal 2003 to$21.3 million in fiscal 2004. As a percentage of net revenues, cost of revenuesexcluding amortization of intangible assets decreased from 69.2% of netrevenues in fiscal 2003 to 48.0 % of net revenues in fiscal 2004. Changes inthe types of products and services required by our customers could affect ourcost of revenues depending on the mix of high or low margin products requiredby them. As market conditions improved, competitive pressures that hadcompelled us to substantially discount our selling prices in fiscal 2003 eased.This enabled us to increase our selling prices and thereby reduce our cost ofrevenues as a percentage of net revenues on certain new orders. Our ongoingcost reduction efforts decreased cost of revenues as a percent of net revenuesby up to 8.5% across all product lines. As sales volume increased over fiscal2003, we were able to ship products to customers from inventory that hadpreviously been reserved. We revised our estimate of required reserves forexcess inventory, and released approximately $2.4 million of excess reserve, or5.5% of net revenues, which offset other manufacturing costs and furtherlowered cost of revenues in fiscal 2004. Changes in the types of products andservices required by our customers could affect our cost of revenues dependingon the mix of high or low margin products required by them. We also experienceda more favorable product mix as sales of our higher margin WAVEXchange,Network-In-A-Box and OMC products accounted for 17.0% of net revenues in fiscal2004 as compared to 5.0% of net revenues in fiscal 2003. Sales of our lowermargin WAVEXpress/BTS products accounted for 43.6% and 47.0% of net revenues infiscal 2004 and fiscal 2003, respectively.

 

Amortization of intangible assets increased 14.1%, or$0.2 million, from $1.7 million in fiscal 2003 to $1.9 million infiscal 2004. Intangible assets amortized in fiscal 2003 related to technologypurchased through our acquisition of GBase Communications inSeptember 2002 and amortization of the CDMA license acquired fromQualcomm.

 

# *Research andDevelopment Expenses*

 

Research and development (R&D) expenses decreased 25.7%, or$3.3 million, from $12.9 million in fiscal 2003 to $9.6 millionin fiscal 2004. The decrease was primarily due to a reduction in research anddevelopment personnel and contractors from 81 as of June 30, 2003 to 72 asof June 30, 2004 as we continued our cost reduction efforts throughout thefiscal year. As a result of these reductions, salaries and wages decreased $1.5million and consultants and temporary services decreased $0.2 million. Inaddition, depreciation decreased $0.6 million, furniture and equipmentrental decreased $0.3 million and R&D materials decreased $0.1 million.The remaining decrease of $0.6 million was comprised of decreases in operatingsupplies, phones and other miscellaneous expenses. We successfully implementedproduct upgrades, new product introductions and feature enhancements whilereducing the level of R&D expenses.

 

33

----

 

*Selling, General and Administrative Expenses*

 

Selling, general and administrative expenses decreased 4.2%, or $0.8million, from $19.0 million in fiscal 2003 to $18.2 million in fiscal2004. The decrease was primarily due to a reduction in headcount andcontractors from 64 as of June 30, 2003 to 57 as of June 2004. Thereduction in headcount resulted in the following decreases from fiscal 2003 tofiscal 2004: salaries and wages decreased $1.8 million and consultants andtemporary services decreased $0.3 million. In addition to labor-relateddecreases, insurance expense decreased by $0.5 million, depreciation decreased$0.4 million while travel and other customer-related expense increased by$0.4 million, investor relations decreased $0.2 million and advertisingexpenses decreased $0.1 million. The remaining changes comprised decreases inoperating supplies, telephone and other miscellaneous expenses.  In addition, in fiscal 2004, we accrued $0.8million in bad debt expense due to the increase in our sales levels and ourlack of collection experience with new customers added during the year, whereasin fiscal 2003, accruals of $1.0 million were reversed due to improvedcollections which resulted in a net $1.0 million credit to bad debt expense.

 

*Amortization of Deferred Stock Compensation*

 

Amortization of deferred stock compensation decreased 100%, or$0.2 million, from $0.2 million in fiscal 2003 to $0 million infiscal 2004 as the balance of deferred stock compensation was fully amortizedin fiscal 2004.

 

*Losses (Gains) on Asset Sales and AssetImpairments, Net*

 

Gains on asset sales and asset impairments, net increased 462%, or$0.7 million, from $0.1 million in fiscal 2003 to $0.8 million infiscal 2004. For fiscal 2004, we completed two transactions with an independentparty, whereby we provided an asset license agreement and sold certain assetswhich had been previously charged off to impairment and recorded a gain on saleof $0.8 million. For fiscal 2003, the $83 thousand impairment charge wasto write down the net book value of primarily computer equipment and leaseholdimprovements which were no longer in use. Additionally, we recorded$0.2 million net gain from the sale of certain assets.

 

*Restructuring Charges (Credits)*

 

In accordance with our plan to reduce the aggregate workforce,consolidate facilities, and restructure certain business functions in order tostreamline the organization for cost reduction, we recorded a restructuringcharge of $0.8 million in fiscal 2004. In fiscal 2003, $3.5 millionwas charged to restructuring of which $1.8 million related to the futurelease commitments for our former Menlo Park facility.

 

*Interest Income*

 

Interest income decreased 86%, or $143 thousand, from$167 thousand in fiscal 2003 to $24 thousand in fiscal 2004.  The decrease was due primarily to thecontinued usage of funds for operations. Interest income earned on the increase in cash and cash equivalentbalances from fiscal 2003 to fiscal 2004 was offset by the decline in interestrates.

 

*Interest Expense*

 

Interest expense was $166 thousand and $149 thousand in fiscal 2003 and2004, respectively. This expense was primarily associated with interest onequipment loans and leases and advances on our outstanding lines of creditwhich increased during fiscal year 2004 as compared with fiscal 2003. Theselines of credit were primarily from Silicon Valley Bank in fiscal 2004 andfiscal 2003 and to a much lesser extent from Partners for Growth beginning inJune 2004. Information regarding our lines of credit is discussed more fully inthe “Liquidity and Capital Resources” section of this report.

 

34

----

 

*Income Taxes*

 

In fiscal 2004 and fiscal 2003, our U.S. subsidiary incurred net lossesfor United States federal and state income tax purposes. We recorded a benefitfrom income taxes of $0.1 million and a provision for income taxes of$0.3 million, respectively, related to current international income taxeson the operations attributable to our foreign operations. As of June 30,2004, we had $195.6 million of federal and $115.7 million of state netoperating loss carry forwards to offset future taxable income. The federal netoperating loss carryforwards expire beginning in 2011 through 2025 and theCalifornia net operating loss carryforwards expire beginning 2006 through 2016.The difference between available net operating losses and our accumulateddeficit as reported for financial statement purposes is principally becauselosses incurred in Bermuda are not subject to a carry-forward since thereis no tax on income earned in Bermuda.

 

**Comparison of Fiscal Years EndedJune 30, 2003 and 2002**

 

*Net Revenues*

 

Net revenues decreased 30%, or $13.0 million, from $43.0 millionin fiscal 2002 to $30.0 million in fiscal 2003. This decrease wasprimarily due to the continued downturn in overall market conditions in theglobal economy and in the telecommunications industry in particular. Thisdownturn had a significant impact on our customers and their markets. Inaddition, the deployment of our products in Paraguay with HutchisonTelecommunications Group, which comprised 25% of our fiscal 2002 net revenues,was completed in early fiscal 2003. Our net revenues in fiscal 2003 werederived from sales to 94 customers compared to over 145 customers in fiscal2002. Sales to affiliates of Hutchinson Telecommunications Group and EasternCommunications Co., Ltd. accounted for 4% and 9%, respectively, of netrevenues in fiscal 2003.

 

*Cost of Revenues*

 

Cost of revenues excluding amortization of intangible assets decreased46%, or $17.5 million, from $38.2 million in fiscal 2002 to$20.7 million in fiscal 2003. As a percentage of net revenues, cost ofrevenues excluding amortization of intangible assets was 69% in fiscal 2003 and89% in fiscal 2002. In fiscal 2003, 5% of net revenues was attributed to ourWAVEXchange and Network-In-A-Box products, which earn higher gross profits,while 47% was attributed to our WAVEXpress/BTS, which earns lower grossprofits. In 2002, 12% of net revenues was attributed to our WAVEXchange andNetwork In A Box products, while 49% was attributed to our WAVEXpress/BTS.During fiscal 2003, we shipped certain products and were required to recognize cost of revenues of $3.5 millionwhile revenue was recognized on a cash receipt basis in fiscal 2004.

 

Amortization of intangible assets decreased 72%, or $4.4 million,from $6.1 million in fiscal 2002 to $1.7 million in fiscal 2003. Thedecrease in amortization was primarily due to our write-off ofWireless, Inc.’s intangible and other assets as part of our impairmentanalysis in June 2002. Intangible assets amortized in fiscal 2003 relatesto our purchased technology through our acquisition of GBase Communications inSeptember 2002 and amortization of the CDMA license acquired fromQualcomm.

 

*Research and Development Expenses*

 

Research and development (R&D) expenses decreased 35%, or$6.9 million, from $19.8 million in fiscal 2002 to $12.9 millionin fiscal 2003. The decrease was primarily due to a reduction in research anddevelopment personnel from 133 as of June 30, 2002 to 81 as ofJune 30, 2003. As a result of these reductions, salaries and wagesdecreased $3.2 million and consultants/temporary services decreased$0.3 million. In addition, depreciation decreased $0.7 million andR&D materials decreased $0.5 million. The remaining decrease of$2.2 million was comprised of decreases in operating supplies, phones andother miscellaneous expenses.

 

*Selling, General and Administrative Expenses*

 

Selling, general and administrative expenses decreased 34%, or$10.1 million, from $29.2 million in fiscal 2002 to$19.0 million in fiscal 2003. The decrease was primarily due to areduction in bad debt expense of $3.2 million and reduction in headcountfrom 103 as of June 30, 2002 to 64 as of June 30, 2003. The reductionin headcount resulted

 

35

----

 

in thefollowing decreases from fiscal 2002 to fiscal 2003: salaries and wagesdecreased $3.9 million and consultants/temporary services decreased$0.4 million. In addition to labor-related decreases, bad debtexpense decreased $3.2 million due to our continuous improvement incollections, depreciation decreased $0.8 million, travel and entertainmentdecreased $0.6 million and marketing expenses decreased $0.5 million.The remaining decrease of $0.7 million was comprised of operatingsupplies, telephone and other miscellaneous expenses.

 

*Amortization of Deferred Stock Compensation*

 

Amortization of deferred stock compensation increased 185%, or$0.4 million, from $(0.2) million in fiscal 2002 to $0.2 million infiscal 2003. The increase in amortization was due to the continued amortizationof deferred stock compensation for fiscal 2003, while in the prior year creditswere applied from forfeitures of stock options for terminated employees.

 

*Losses (Gains) on Asset Sales and AssetImpairments, Net*

 

Losses (gains) on asset sales and asset impairments, net decreased101%, or $16.8 million, from $16.7 million in fiscal 2002 to $(0.1)million in fiscal 2003. The $16.7 million loss on asset impairment andsales in fiscal 2002 relates to our write-down to estimated fair values ofWireless, Inc.’s intangible and other assets, and our sale of certainassets related to Wireless, Inc. to a third party. The $(0.1) million gainon asset sales and asset impairments, net in fiscal 2003 relates to our sale ofcertain fixed assets to third parties.

 

*Restructuring Charges (Credits)*

 

In accordance with our plan to reduce the aggregate workforce,consolidate facilities, and restructure certain business functions in order tostreamline the organization for cost reduction, we recorded a restructuringcharge of $3.5 million for fiscal 2003. Of the $3.5 million, $1.8 millionrelates to the future lease commitments for our former Menlo Park facility.During fiscal 2002, we had additional layoffs, closed down several facilities,recorded an additional charge of $0.9 million, and reversed$2.9 million as a restructuring credit to reflect the final restructuringaccrual.

 

*Interest Income*

 

Interest income decreased 86%, or $1.2 million, from$1.4 million in fiscal 2002 to $0.2 million in fiscal 2003. Thedecrease was due to the continuing reduction of cash and investments from our useof funds for operations.

 

*Interest Expense*

 

Interest expense was $0.2 million and $0.3 million in fiscal2003 and fiscal 2002, respectively. This expense was primarily associated withequipment loans and leases and advances on our outstanding lines of credit.Information regarding our capital leases and lines of credit is discussed morefully in the “Liquidity and Capital Resources” section of this report.

 

*Income Taxes*

 

In fiscal 2003 and fiscal 2002, our U.S. subsidiary incurred net lossesfor United States federal and state income tax purposes. We recorded aprovision for income taxes of $0.3 million and $0.2 million,respectively, related to current international income tax provided on theprofits attributable to our foreign operations. As of June 30, 2003, wehad $189.7 million of federal and $107.5 million of state netoperating loss carry forwards to offset future taxable income. The differencebetween available net operating losses and our accumulated deficit as reportedfor financial statement purposes is principally because losses attributable toBermuda are not subject to a carry-forward since there is no tax onincome attributable to Bermuda.

 

36

----

 

**LIQUIDITY AND CAPITAL RESOURCES**

 
| ** **                                           | ** ** | **Fiscal Year Ended June 30,** | ** ** |
|------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                           | ** ** | **2004**                       | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                                           | ** ** | **(in thousands)**             | ** ** |
|                                                 |       |                           |       |   |   |   |   |
| Cash and cash equivalents                            |       | $                              | 5,350      |   | $ | 4,371 |   | $ | 11,403 |   |
| Short-term investments                               |       | —                         |       | — |   | 2,849 |   |
| Net cash used in operating activities                |       | (5,553                         | )          | (12,916 | ) | (28,811 | ) |
| Net cash provided by (used in) investing  activities |       | (279                           | )          | 2,766 |   | 13,394 |   |
| Net cash provided by financing activities            |       | 6,021                          |       | 3,799 |   | 1,291 |   |
|                                                      |            |                                |            |  |  |  |  |  |  |  |

 

Our auditors have included an explanatoryparagraph in their opinion on the consolidated financial statements as of andfor the year ended June 30, 2004 that Interwave has recurring losses fromoperations that raise substantial doubt about our ability to continue as agoing concern.  Management’s plans as tothese matters are also described in Note 1 to the consolidated financial statements.  The 2004 financial statements do not includeany adjustments that might result from the outcome of this uncertainty.

 

*Operating Activities.*Net cash used in operating activities in fiscal 2004, fiscal 2003 and fiscal2002 resulted primarily from net operating losses. Net cash used in operatingactivities for fiscal 2004 was primarily attributable to net loss fromoperations of $6.7 million, a decrease of $2.8 million in accrued expenses andother liabilities, an increase of $2.7 million in trade receivables and a gainon asset sales and asset impairments, net of $0.8 million, all of which werepartially offset by non-cash depreciation and amortization of $4.0 million, andincreases in accounts payable, deferred revenue, provision for bad debt and compensation-relatedexpenses of $1.6 million, $0.8 million, $0.5 million and $0.1 million,respectively.

 

Net cash used in operating activities for fiscal 2003 was primarilyattributable to net loss from operations of $28.3 million, and decreases inaccounts payable of $3.6 million which were partially offset by non-cashdepreciation and amortization of $4.8 million, decreases in trade receivablesof $4.5 million, decreases in inventory of $5.6 million and increases inaccrued expenses and other liabilities of $2.9 million relating primarily torestructuring. For fiscal 2002, net cash used in operating activities wasprimarily attributable to net loss from operations of $64.3 million, decreasesin accounts payable of $4.3 million, decreases in accrued expenses and otherliabilities of $10.7 million associated with our restructuring activitiesoffset by non-cash depreciation and amortization of $12.8 million and losses onasset sales and asset impairments, net of $16.7 million, as well as decreasesin inventory of $7.0 million, decreases in trade receivables of $2.6 millionand increases in deferred revenue of $0.7 million.

 

*Investing Activities.*For fiscal 2004, net cash used in investing activities consisted primarily ofthe purchase of property and equipment of $0.7 million and an increase of $0.3million in restricted cash associated with security deposits partially offsetby proceeds from the sale of property and equipment and impaired assets of $0.8million.  We received these proceeds whenwe provided an asset license agreement and also sold certain assets to anindependent third party.  For fiscal2003, our investing activities consisted of purchases in capital equipment of$1.0 million and the acquisition of the assets of GBase Communications of $3.0million, offset by the sale of short-term investments, net of $2.8 million. Forfiscal 2002, the primary source of cash in investing activities was the sale ofshort-term investments, net of $16.9 million which was slightly offset bypurchases of property and equipment of $2.2 million. We expect that capitalexpenditures will remain nominal due to our continued cost-cutting efforts andconservation of cash resources.

 

*Financing Activities.*During fiscal 2004, net cash provided by financing activities consisted of $5.3million we raised through the private placement of 1,350,000 common shares withEmpire Capital and its affiliates. In addition, we obtained $2.6 million in netadvances under our revolving domestic lines of credit. These were slightlyoffset by principal payments of $2.0 million to pay down outstanding capitalleases, the credit facility of our European subsidiary and other liabilities.During fiscal 2003, we raised $3.0 million through the sale of commonshares to UTStarcom, Inc. and obtained advances on a $1.0 millionrevolving line of credit with Silicon Valley Bank.  During fiscal 2002, we raised $2.5 millionfrom the sale of shares directly and pursuant to the exercise of warrants,options and our Employee Stock Purchase Plan.

 

*Commitments.* We leaseall of our facilities under operating leases that expire on various datesthrough 2006. As of June 30, 2004, we had $2.6 million in futureoperating lease commitments. In May 2003, we relocated our principaladministrative, manufacturing and engineering facilities from our formerfacility in Menlo Park, California to our main 34,500 square foot facility inMountain View, California, which is also used for planning, procurement, finalassembly, system testing, and quality control. The three-year lease commencedin May 2003. In September 2003, we renegotiated our remainingobligations under the lease agreement for our prior principal facility andagreed to make monthly payments of $0.1 million for the next19 months beginning October 2003 for a total of $1.9 million. InApril 2004, we vacated our San Diego facility and relocated our operations teamto our Mountain View facility and are 

 

37

----

 

obligated toaverage monthly payments of $17.6 thousand for the remaining 23 months of thislease through May 2006. In the future we expect to continue to finance theacquisition of computer and network equipment through additional equipmentfinancing arrangements. Our significant cash commitments for the next few yearsare summarized below:

 
| ** **                          | ** ** | **Payments Due By Period** | ** ** |
|-------------------------------------|------------|----------------------------|------------|
| ** **                          | ** ** | **Total**                  | ** ** | **Less Than   1 Year** | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **More Than   5 Years** | ** ** |
| ** **                          | ** ** | **(in thousands)**         | ** ** |
|                                |       |                       |       |   |   |   |   |   |   |   |   |
| Operating lease commitments         |       | $                          | 2,614      |   | $ | 1,863 |   | $ | 751 |   | $ | — |   | $ | — |   |
| Capital lease commitments           |       | 316                        |       | 316 |   | — |   | — |   | — |   |
| Qualcomm license scheduled payments |       | 978                        |       | 978 |   | — |   | — |   | — |   |
| Purchase commitments                |       | 2,026                      |       | 2,026 |   | — |   | — |   | — |   |
| Short-term borrowings               |       | 3,588                      |       | 3,588 |   | — |   | — |   | — |   |
| Income taxes payable                |       | 172                        |       | 172 |   | — |   | — |   | — |   |
| Other long-term liabilities         |       | 1,000                      |       | — |   | — |   | — |   | 1,000 |   |
| Total                               |       | $                          | 10,694     |   | $ | 8,943 |   | $ | 751 |   | $ | — |   | $ | 1,000 |   |

 

In January and March 2001, we enteredinto two equipment financing agreements for a then aggregate total of$2 million. The financing equipment loans range from three to four years.The interest on each loan is fixed at the time of the draw down with theinterest rates ranging from 9.8% to 10.3%. Interwave’s obligations under theseloans are collateralized by the assets financed. We had $0.3 million and$0.9 million outstanding as of June 30, 2004 and 2003, respectively,under these loans. We intend to repay approximately $0.3 million of theoutstanding balance as of June 30, 2004 within the next twelve months.

 

In addition, we had a credit facility with Royal Bank of Scotland forone of our European subsidiaries. The $1.5 million facility carried aninterest rate of New York LIBOR +3% payable monthly, with quarterly repaymentof principal over three years. Collateral is based on specific receivables andcertain assets of this European subsidiary. As of June 30, 2004 and 2003,the outstanding balances were $30 thousand and $0.2 million,respectively. In July 2004, all borrowings under the facility were repaid. Thiscredit facility expired in September, 2004.

 

In June 2003, we obtained a revolving line of credit in the amountof $1.0 million from Silicon Valley Bank at an interest rate of 1.5%monthly on gross accounts receivable outstanding. Repayment is required when aspecific receivable is 90 days past due unless replenished by a morecurrent receivable. In September 2003, the availability under the line ofcredit was increased to $2.5 million. In June 2004, the agreement wasamended to provide for an automatic one-year renewal unless terminated bywritten notice of either party and the nominal interest rate was reduced to0.85% monthly on gross accounts receivable outstanding. The line of credit isavailable through June 30, 2005. As of June 30, 2004 and 2003, $2.1million and $1.0 million, respectively, was outstanding on the line of credit.Repayment is required when a specific receivable is 90 days past dueunless replenished by a more current receivable.

 

In June 2004, the Company obtained arevolving line of credit of up to $1.5 million from Partners for Growth, orPFG, at a monthly interest rate of 1.5% which was not to exceed the lower ofthe dollar credit limit or an amount equal to the sum of 80% of our eligiblecurrent domestic and foreign accounts receivable, 100% of our eligiblesupported letters of credit, 75% of our eligible purchase orders and 50% of theCompany’s eligible inventory, respectively. The line of credit is availablethrough June 3, 2005. As of June 30, 2004, $1.5 million was outstanding on theline of credit. In September 2004, an additional $2.0 million was madeavailable by PFG to us with principal to be repaid equal to borrowings inexcess of $575 thousand from Silicon Valley Bank through September 30, 2004 andrepaid in full by October 31, 2004. In September 2004, the Company borrowed theadditional $2.0 million available under the line of credit.

 

The agreements with Silicon Valley Bank and PFG pledge substantiallyall of our assets including our intellectual property in favor of the lenders.

 

38

----

 

Concurrent with the signing of an agreement to amalgamate with awholly-owned subsidiary of Alvarion in late July 2004, Alvarion provided a $3million loan facility and lent the full amount available under the loanfacility to us. Borrowings under the loan facility bear interest at 6% perannum and will be collateralized by a third priority security interestsubordinate to our currently outstanding debt to financial institutions. Uponcompletion of the amalgamation, all principal and accrued interest outstandingunder the loan facility will be cancelled. In the event that the amalgamationis not completed, or in the event that the amalgamation agreement is terminatedprior to completion of the amalgamation, all principal and accrued interestoutstanding under the loan facility will be due and payable on the earlier ofthe lapse of six months following the grant of the first loan by Alvarion to usunder the loan facility or 30 days following completion of any otheracquisition transaction with us.

 

*Summary of Liquidity.*We cannot assure you that our existing cash and cash equivalents plusshort-term investments will be sufficient to meet our liquidity requirements.We have had recurring net losses, including net losses of $6.7 million,$28.3 million and $64.3 million for the years ended June 30,2004, 2003 and 2002, respectively, and we have used cash in operations of $5.6million, $12.9 million and $28.8 million for the years endedJune 30, 2004, 2003 and 2002, respectively. We are currently executingplans with the intent of increasing revenues and margins and reducingspending.  However, ****on September 30, 2004, Interwave****heldits scheduled special meeting of shareholders and approved the agreement andplan of amalgamation pursuant to which interWAVE was to be acquired by AlvarionLtd.  Alvarion announced on September 30,2004, that it had determined that Interwave had experienced a material adverseeffect with respect to its business and has advised Interwave that Alvarionwould not complete the amalgamation on the terms set forth in the amalgamationagreement.  ****On October1, 2004, Interwave**** advised Alvarion in writing thatInterwave believes there is no material adverse effect or any other basis,legal or otherwise, for Alvarion to not comply with its obligations under theagreement.  Interwave further advisedAlvarion that Interwave remained prepared to consummate the amalgamationaccording to the terms of the agreement and viewed Alvarion’s refusal to goforward with the amalgamation according to these terms as a material breach ofthe agreement.  ****On October 4, 2004, Interwave filed a complaintagainst Alvarion in the United States District Court for the Southern Districtof New York.**** The outcome of this dispute is presentlyunknown, and the accompanying consolidated financial statements do not includethe effect, if any, upon the Interwave’s results of operations, financialcondition, and cash flows. We are currently seeking additional financing,through issuance of debt or equity or through other means such as customerprepayments, asset sales or secured borrowings. If additional funds are raised through the issuance of preferred equityor debt securities, these securities could have rights, preferences andprivileges senior or otherwise superior to that of our common shares, and theterms of any debt could impose restrictions on our operations. The sale ofadditional equity or convertible debt securities could result in additionaldilution to our shareholders, and we may not be able to obtain additional financingon acceptable terms, if at all. If we are unable to successfully execute suchplans, we may be required to reduce the scope of our planned operations, whichcould harm our business, or we may even need to cease operations.

 

**RISK FACTORS**

 

**Our proposed transaction with Alvarion Ltd.may adversely affect our results of operations whether or not the amalgamationis completed, and the amalgamation may not be completed on a timely basis or atall.**

 

On July 27,2004, we and Alvarion Ltd. announced that the two companies have entered into adefinitive agreement for Alvarion to acquire us for $5.75 per share, subjectto, among other conditions, regulatory approval and our shareholders’affirmative vote. The details of this transaction are discussed in our Form 8-Kfiled with the SEC on July 28, 2004.

 

In response to our proposed transaction with Alvarion, our customersmay defer purchasing decisions or elect to switch to other suppliers due touncertainty about the direction of our product offerings following theamalgamation and our willingness to support and service existing products.  Uncertainty surrounding the proposedtransaction also may have an adverse effect on employee morale and retention,and result in the diversion of management attention and resources. In addition,the market value of our common shares will continue to vary prior to completionof the proposed transaction due to changes in our business, operations, orprospects, market assessments of the amalgamation, regulatory considerations,market and economic considerations, or other factors. However, there will be noadjustment to the consideration to be received by our shareholders inconnection with the amalgamation.

 

Alvarion announced on September 30, 2004 that it had determined thatInterwave had experienced a material adverse effect with respect to itsbusiness and has advised Interwave that Alvarion would not complete theamalgamation on the terms set forth in the amalgamation agreement.  In addition, on September 30, 2004, Interwaveheld its scheduled special meeting of shareholders and approved the agreementand plan of amalgamation pursuant to which interWAVE was to be acquired byAlvarion Ltd.  On October 1, 2004,Interwave advised Alvarion in writing that Interwave believes there is nomaterial adverse effect or any other basis, legal or otherwise, for Alvarion tonot comply with its obligations under the agreement.  Interwave further advised Alvarion thatInterwave remained prepared to consummate the amalgamation according to theterms of the agreement and viewed Alvarion’s refusal to go forward with theamalgamation according to these terms as a material breach of theagreement.  On October 4, 2004, Interwavefiled a complaint against Alvarion in the United States District Court for theSouthern District of New York.  TheComplaint alleges, among other things, that Alvarion breached the agreement andplan of amalgamation pursuant to which Interwave was to be acquired byAlvarion.  The complaint seeks specificperformance of the amalgamation agreement and seeks compensatory and punitivedamages in excess of $75 million. The outcome of this dispute is presentlyunknown, and the accompanying consolidated financial statements do not includethe effect, if any, upon the Interwave's results of operations, financialcondition, and cash flows.

 

If the amalgamation is not completed, the price of our common sharesmay decline to the extent that the current market price of our common sharesreflects a market assumption that the amalgamation will be completed. Inaddition, our business may be harmed to the extent that customers, suppliers orothers believe that we cannot effectively compete in the marketplace withoutthe amalgamation or there is customer and employee uncertainty surrounding thefuture direction of our product and service offerings and strategy on astand-alone basis. We also will be required to pay significant costs incurredin connection with the amalgamation, including legal, accounting and financialadvisory fees, whether or not the amalgamation is completed. Moreover, underspecified circumstances, we may be required to pay Alvarion a termination feeof approximately $2.6 million in connection with the termination of theamalgamation agreement.

 

39

----

 

**We may require additional financing to fundour operations for the remainder of fiscal 2005 and beyond and this financingmay not be available.**

 

We may require additional capital to fund our operations during theremainder of fiscal 2005 and beyond. We have had recurring net losses in thepast three fiscal years and the fiscal year ended June 30, 2004. Ourmanagement is currently attempting to execute plans intended to increaserevenues and margins, and to reduce spending.

 

If our proposed amalgamation with Alvarion is not completed, we mayseek to raise additional financing through the issuance of debt or equity orthrough other means such as customer prepayments, asset sales or securedborrowings.

 

If additional funds are raised through the issuance of preferred equityor debt securities or secured borrowings, these securities could have rights,preferences and privileges senior or otherwise superior to that of our commonshares, and the terms of any debt could impose restrictions on our operations.The sale of additional equity or convertible debt securities could result inadditional dilution to our shareholders and such securities may have rights,preferences and privileges senior or otherwise superior to those held byexisting shareholders. If we cannot raise funds on terms favorable to us, orraise funds at all, we may not be able to develop or enhance our products, takeadvantage of future opportunities or respond to competitive pressures orunanticipated requirements. If we are unable to raise additional funds, we maybe required to reduce the scope of our planned operations, which could harm ourbusiness, or we may even need to cease operations. See “Use of Proceeds” and“Management’s Discussion and Analysis of Financial Condition and Results ofOperations—Liquidity and Capital Resources” in this Form 10-K for moreinformation on our capital requirements and requirements for liquidity.

 

**We are exposed to general economicconditions, which could have a material adverse impact on our business,operating results and financial condition.**

 

Continued weakness in the telecommunications equipment industry orfurther deterioration to the business or financial condition of our customersin this industry could have a material adverse impact on our business,operating results and financial condition. If the economic conditions in theUnited States and in the other international markets we serve worsen, we mayexperience a material adverse impact on our business, operating results andfinancial condition.

 

**Because we have a limited operating history,we cannot be sure that we can successfully execute our business strategy.**

 

We did not record revenue from our first product sale untilMay 1997 and we have a limited history of generating significant revenues.Some of our products are new and are being tested by customers forincorporation into live networks. Therefore, you have limited historicalfinancial data and operating results with which to evaluate our business andour prospects. You must consider our prospects in light of the early stage ofour business in a new and rapidly evolving market. Our limited operatinghistory may make it difficult for you to assess, based on historicalinformation, whether we can successfully execute our business strategy. If weare unable to successfully execute our business strategy, we would be unable toachieve cash-flow breakeven, profitability or to build a sustainable business.

 

40

----

 

**We have a history of losses, expect futurelosses and may never achieve or sustain profitability.**

 

As of June 30, 2004, we had an accumulated deficit of$333.6 million. We incurred a net loss of approximately $6.7 millionfor the fiscal year ended June 30, 2004. We may continue to incur netlosses and these losses may be substantial. Furthermore, we expect to generatesignificant negative cash flow in the near future. To achieve and sustainprofitability and positive cash flow, we will need to generate substantiallyhigher revenues. Our ability to generate future revenues, generate cash flowand achieve profitability will depend on a number of factors, many of which arebeyond our control. These factors include:

 

•                                          therate of market acceptance of compact mobile wireless systems;

 

•                                          ourability to compete successfully against much larger GSM and CDMA2000communications equipment providers;

 

•                                          ourability to expand our customer base;

 

•                                          ourability to control costs and reduce expenses;

 

•                                          ourability to efficiently manufacture our products ourselves and throughoutsourcing arrangements;

 

•                                          ourability to absorb overhead costs through higher manufacturing volume;

 

•                                          ourability to develop third generation (3G) wireless products, including CDMA2000products;

 

•                                          ourability to achieve compatibility and interoperability of our GSM and CDMA2000products with existing networks and other vendor’s equipment and industrystandards; and

 

•                                          ourability to generate cash flow from operations.

 

Due to these factors, as well as other factors described in this “RiskFactors” section, we may be unable to achieve or maintain profitability. If weare unable to achieve or maintain profitability, or if we are unable to achievecash-flow breakeven, we will be unable to build a sustainable business. In thisevent, our share price and the value of your investment would likely decline.

 

**Our quarterly operating results are likely tofluctuate significantly and may fail to meet the expectations of securitiesanalysts and investors, which may cause our share price to decline.**

 

Our quarterly operating results have fluctuated significantly in thepast and are likely to do so in the future. If our operating results do notmeet the expectations of securities analysts and investors, our share price islikely to decline. The factors that could cause our quarterly results tofluctuate include:

 

•                                          anydelay in the introduction of new products or product enhancements;

 

•                                          thesize and timing of customer orders and our product shipments, which havetypically consisted of a relatively small number of wireless network systems atthe end of each quarter;

 

•                                          themix of products sold, because our various products generate different grossmargins;

 

•                                          anydelay in shipments caused by component shortages or other manufacturingproblems, extended product testing of complex products or regulatory issues;

 

•                                          thetiming of orders from and shipments to major customers, including possiblecancellation of orders;

 

41

----

 

•                                          theloss of a major customer;

 

•                                          reductionsin the selling prices of our products;

 

•                                          costpressures from shortages of skilled technical employees, increased productdevelopment and engineering expenditures and other factors;

 

•                                          customerresponses to announcements of new products and product enhancements bycompetitors and the entry of new competitors into our market;

 

•                                          economicand political conditions in the markets where we sell our products;

 

•                                          thelevel of capital equipment spending by our customers, includingtelecommunications service providers and Internet service providers; and

 

•                                          macroeconomicconditions, including recessionary conditions in the telecommunicationsindustry worldwide.

 

Due to these and other factors, our results of operations couldfluctuate substantially in the future, and quarterly comparisons may not bereliable indicators of future performance. In addition, because many of ourexpenses for personnel, facilities and equipment are relatively fixed innature, if revenues fail to meet our expectations, we may not be able to reduceexpenses correspondingly. As a result, we would experience greater thanexpected net losses and net cash outflow. If we experience greater thanexpected net losses and net cash outflow, our share price and the value of yourinvestment would likely decline.

 

**Our quarterly revenue may be affected by thepurchasing and financing process of our customers, particularly in thepurchasing of complete network systems.**

 

The sales cycle for our network systems may last from nine months toone year or more and the purchasing process for many customers is complex.Customers often require assistance in network planning, equipmentspecification, business plan preparation and financing presentations. Customersalso may require a number of approvals, including the approval of licensingauthorities, a technical team, a management group and a board of directors, aswell as the approval of financing for the purchase. In addition, prior tosubmitting an order, some customers for our complete network systems require publichearings and a public decision approval process. The timing and outcome of ourcustomers’ purchasing and financing processes may be difficult to determine andmay affect our ability to forecast sales. If we fail to close the sale for oneor more complete network systems in any fiscal quarter, or if a customer failsto obtain the required approvals or fails to obtain financing, then ourrevenues and operating results would be adversely affected.

 

**Our stock price has been volatile since ourinitial public offering, which may make it more difficult for you to resellshares at prices you find attractive.**

 

Our stock price could fluctuate due to the following factors, amongothers:

 

•                                          failureto complete the proposed amalgamation transaction with Alvarion;

 

•                                          announcementsof operating results and business conditions by us or our competitors;

 

•                                          announcementsby us or our competitors relating to new customers, new products ortechnological innovation;

 

•                                          economicdevelopments and market trends in the telecommunications industry as a whole;

 

•                                          changesin financial estimates and recommendations by securities analysts;

 

42

----

 

•                                          politicaland economic developments in countries where we have business or where our customersare located;

 

•                                          delistingfrom the Nasdaq National Market; and

 

•                                          generalmarket conditions.

 

In addition, the stock market has experienced extreme volatility, and asteep decline, with volatility that may be unrelated to the operatingperformance of companies and a decline related to recessionary conditions intelecommunications markets. These broad market and industry fluctuations andconditions may adversely affect the price of our stock, regardless of ouroperating performance.

 

**Our stock has been subject to delisting fromthe Nasdaq National Market due to past maintenance standard deficiencies andmay be subject to delisting in the future due to potential, new maintenancestandard deficiencies.**

 

In order to maintain a listing onthe Nasdaq National Market, listed issuers must, among other requirements,maintain a $1 per share minimum bid price and shareholder equity of at least$10 million.  On separate occasionsduring calendar 2003, Nasdaq notified Interwave that it no longer met theminimum bid price requirement and the minimum shareholder equity requirement.Interwave subsequently cured these maintenance standard deficiencies and Nasdaqclosed its inquiries in both matters.

 

On March 8, 2004, Nasdaq notifiedus that we did not meet the requirements of Marketplace Rule 4310(c)(14)because our Form 10-Q/A for the quarter ended December 31, 2003, was filed withthe SEC on February 17, 2004 prior to having our independent auditors completetheir review of such quarterly report. As a result, our trading symbol on theNasdaq National Market was changed from “IWAV” to “IWAVE” on March 10, 2004.Our independent auditors have since completed their review of such quarterlyreport and on April 13, 2004, Nasdaq notified us that we had regainedcompliance with Marketplace Rule 4310(c)(14). On April 14, 2004, our tradingsymbol no longer carried the “E” designation and reverted back to “IWAV.”

 

As a matter of standard procedure,the Nasdaq National Market Staff typically evaluates compliance with itscontinued listing requirements on a quarterly basis concurrent with the filingof financial statements with the SEC. If we are unable to maintain compliancewith the listing requirements of the Nasdaq National Market in the future, wemay be subject to delisting from the Nasdaq National Market and forced totransfer the listing of our common shares to the Nasdaq SmallCap Market inorder to take advantage of that market’s lengthier grace periods and morelenient requirements.

 

If we are forced to transfer the listing of our common shares to theNasdaq SmallCap Market, it could seriously limit the liquidity of our commonshares and impair our potential to raise future capital through the sale of ourcommon shares, which could have a material adverse effect on our business. Thetransfer of our listing to the Nasdaq SmallCap Market could also reduce theability of holders of our common shares to purchase or sell shares as quicklyand as inexpensively as they have done historically, and may have an adverseeffect on the trading price of our common shares. The transfer could alsoadversely affect our relationships with vendors and customers.

 

**We extend credit to many of our customers inconnection with the sale of our products.**

 

We frequently enter into financing arrangements in connection with thesale of our products to wireless service providers. These financingarrangements may include extended payment terms, and, on occasion, lines ofcredit that cover not only equipment financing but also the working capitalneeds of our wireless service provider customers. We cannot assure you thatthese wireless service providers will be able to repay loans to us on time, orat all. If these loans are not repaid on a timely basis, our operating resultswould be adversely affected.

 

43

----

 

**We must manage our growth successfully,including the integration of recently acquired operations, in order to achieveour desired results.**

 

As a result of acquisitions and international expansion, many of our160 worldwide employees are based outside of our Mountain View facility. If weare unable to effectively manage our geographically dispersed group ofemployees, our business will be adversely affected.

 

As part of our business strategy, we have completed severalacquisitions. During fiscal year 2003, we acquired substantially all of theassets of GBase Communications. Acquisition transactions are accompanied by anumber of difficulties, including:

 

•                                          thedifficulty of assimilating the operations and personnel of acquired companies;

 

•                                          thepotential disruption of our ongoing business and the distraction of ourmanagement;

 

•                                          thedifficulty of incorporating acquired technology into our products andunanticipated expenses related to such integration;

 

•                                          thecorrect assessment of the relative percentages of in-process research anddevelopment expense that can be immediately written off as compared to theamount which must be amortized over the appropriate life of the asset;

 

•                                          thepotential underestimation of the costs and resources required to completedevelopment of new products in an acquired company;

 

•                                          theimpairment of assets in the telecommunications business with unfavorable marketconditions, particularly for broadband wireless access products;

 

•                                          thefailure to successfully develop an acquired in-process technology resulting inthe impairment of amounts currently capitalized as intangible assets;

 

•                                          maintainingcustomer, supplier and other favorable relationships of acquired operations;

 

•                                          thepotential unforeseen liabilities associated with acquired operations;

 

•                                          negativecash flow from acquired operations; and

 

•                                          theadditional fixed costs associated with acquired operations.

 

We may not be successful in addressing these difficulties or any otherproblems encountered in connection with such acquisitions.

 

44

----

 

**We rely on a small number of customers formost of our revenues, and a decrease in revenues from these customers couldseriously harm our business.**

 

A small number of customers account for a significant portion of ourrevenues. Net revenues from significant customers as a percentage of our totalrevenues are as follows:

 
| ** **                            | ** ** | **Years Ended June 30,** | ** ** |
|---------------------------------------|------------|--------------------------|------------|
| ** **                            | ** ** | **2004**                 | ** ** | **2003** | ** ** | **2002** | ** ** |
| **Revenues**                          |       |                     |       |   |   |   |   |
| Commercial Facilitators, Ltd          |       | 22                       | %          | — |   | — |   |
| Hutchison Telecommunications Group(1) |       | 1                        | %          | 9 | % | 7 | % |
| Eastern Communications Co., Ltd.(1)   |       | —                   |       | 4 | % | 25 | % |

 

----

(1) Denotes related party

 

Seven customers accounted for approximately 51% of our net revenuesduring fiscal 2004.

 

We expect that the majority of our revenues will continue to depend onsales to a small number of customers.  Ifany key customers experience a downturn in their business or shift theirpurchases to our competitors, our revenues and operating results would decline.

 

**We depend primarily on two contractmanufacturers to manufacture most of our products, and we may use only twocontract manufacturers in the future.**

 

We depend primarily on two contract manufacturers to manufacture mostof our GSM and CDMA2000 products. We do not have long-term supply contractswith our contract manufacturers, and these manufacturers are not obligated tosupply us with products for any specific period, in any specific quantity or atany specific price, except as may be provided in a particular purchase order.None of our products are manufactured by more than one supplier and this maynot change for the foreseeable future.

 

There are risks associated with our dependence on two contractmanufacturers, including the contract manufacturers’ control of capacityallocation, labor relations, production quality and other aspects of themanufacturing process. If we are unable to obtain our products from thesemanufacturers on schedule, revenues from the sale of products may be delayed orlost, and our reputation, relationship with customers and our business could beharmed. In addition, in the event that the contract manufacturers must bereplaced, the disruption to our business and the expense associated withobtaining and qualifying new contract manufacturers could be substantial. Ifproblems with our contract manufacturers cause us to miss customer deliveryschedules or result in unforeseen product quality problems, we may losecustomers. As a result, our revenues and our future growth prospects wouldlikely decline.

 

**Because some of our key components come froma single source, or require long lead times, we could experience unexpectedinterruptions, which could cause our operating results to suffer.**

 

A number of our suppliers are sole sources for key components for ourproducts. These key components are complex, difficult to manufacture andrequire long lead times. In the event of a reduction or interruption of supply,or a degradation in quality, as many as six months could be required before wewould begin receiving adequate supplies from other suppliers. Supplyinterruptions could delay product shipments, causing our revenues and operatingresults to decline.

 

45

----

 

**If we fail to accurately estimate productdemand, we may incur expenses for excess inventory or be unable to meetcustomer requirements.**

 

Our customers typically give us firm purchase orders with short leadtimes before requested shipment. However, our contract manufacturers require commitmentsfrom us so that they can allocate capacity and be assured of having adequatecomponents and supplies from third parties. Failure to accurately estimateproduct demand could cause us to incur expenses related to excess inventory orprevent us from meeting customer requirements.

 

**Our products are complex and may have errorsor defects that are detected only after deployment in complex networks.**

 

Our products are highly complex and are designed to be deployed incomplex networks. Although our products are tested during manufacturing andprior to deployment, they can only be fully tested when deployed in networkswith high-call volume. Consequently, our customers may discover errors afterthe products have been fully deployed. If we are unable to fix errors or otherproblems that may be identified in full deployment, we could experience:

 

•                                          costsassociated with the remediation of any problems;

 

•                                          lossof or delay in revenues;

 

•                                          lossof customers;

 

•                                          failureto achieve market acceptance and loss of market share;

 

•                                          diversionof deployment resources;

 

•                                          diversionof research and development resources to fix errors in the field;

 

•                                          increasedservice and warranty costs;

 

•                                          legalactions or demands for compensation by our customers; and

 

•                                          increasedinsurance costs.

 

In addition, our products often are integrated with other networkcomponents. There may be incompatibilities between these components and ourproducts that could significantly harm the service provider or its subscribers.Product problems in the field could require us to incur costs or divertresources to remedy the problems and subject us to liability for damages causedby the problems or delay in research and development projects because of thediversion of resources. These problems could also harm our reputation andcompetitive position in the industry.

 

**We may experience difficulties in theintroduction of new or enhanced products, such as CDMA2000 or other 3Gproducts, that could result in significant, unexpected expenses or delays inthe launch of new or enhanced products.**

 

The development of new or enhanced products is a complex and uncertainprocess. We may experience design, manufacturing, marketing and otherdifficulties that could delay or prevent our development, introduction or marketingof new products or product enhancements. We must also effectively manage thetransition from old products to new or enhanced products. InSeptember 2002, we acquired the assets of a third generation, or 3G,product development company, GBase Communications. We cannot assure you that wewill be able to develop, introduce or manage this or any other new product orproduct enhancements in a timely manner or at all. Failure to develop newproducts or product enhancements in a timely manner would substantiallydecrease market acceptance and sales of our products.

 

46

----

 

**Failure to comply with regulations affectingthe telecommunications industry could seriously harm our business and resultsof operations.**

 

Our failure to comply with government regulations relating to thetelecommunications industry in countries where our products are deployed andfailure to comply with any changes to those regulations could seriously harmour business and results of operations. We have not completed all activitiesnecessary to comply with existing regulations and requirements in some of thecountries in which we intend to sell our products. Compliance with theregulations of numerous countries could be costly and require delays indeployments.

 

**Our failure to comply with evolving industrystandards could delay our introduction of new products.**

 

An international consortium of standards bodies has established thespecifications for the third generation, or 3G, wireless standard, and isworking to establish the specifications of this future wireless standard andits interoperability with existing standards. Any failure of our products tocomply with 3G or future standards, including Qualcomm’s standards for CDMA,could delay their introduction and require costly and time consumingengineering changes. After a future standard is adopted, any delays in ourintroduction of next generation products could impair our ability to growrevenues in the future.

 

**Our market opportunity could be significantlydiminished in the event that GSM or any subsequent GSM-based standards do notcontinue to be or are not widely adopted or if CDMA2000 is not widely adopted.**

 

Our current products are designed to utilize only GSM, an internationalstandard for voice and data communications. There are other competing standardsincluding CDMA, and TDMA. We offer CDMA2000 products, beginning with 1XRTTproducts. In the event that GSM or any GSM-based standards do not continue tobe or are not broadly adopted, or in the event that CDMA2000 products are notwidely adopted, our market opportunity could be significantly limited, whichwould seriously harm our business.

 

**Our sales cycle is typically long andunpredictable, making it difficult to plan our business.**

 

Our long sales cycle requires us to invest resources in a possibletransaction that may not be recovered if we do not successfully conclude thetransaction. Factors that affect the length of our sales cycle include:

 

•                                          timerequired for testing and evaluation of our products and third-partyproducts before they are deployed in a network;

 

•                                          timeto design the network;

 

•                                          sizeof the deployment;

 

•                                          complexityof the customer’s network environment;

 

•                                          timefor approval of the transaction with the customer’s internal procedures;

 

•                                          timefor the customer’s internal financing process; and

 

•                                          thedegree of system configuration necessary to deploy our products.

 

In addition, the emerging and evolving nature of the market for thesystems we sell, and current economic conditions, may lead prospectivecustomers to postpone their purchasing decisions. Our long and unpredictablesales cycle can result in delayed revenues, difficulty in matching revenueswith expenses and increased expenditures, which together may contribute to declinesin our results of operations and our share price.

 

47

----

 

**Intense competition in the wireless marketcould prevent us from increasing or sustaining revenues or achieving orsustaining profitability.**

 

The wireless market is rapidly evolving and is highly competitive. Wecannot assure you that we will have the financial resources, technicalexpertise or marketing, manufacturing, distribution and support capabilities tocompete successfully in the future. We expect that competition in each of ourmarkets will increase in the future.

 

In the community network market, we compete against wireless local loopnetworks, which are wireless communication systems that connect users to thepublic telephone network using radio signals as a substitute for traditionaltelephone connections. In the wireless office network market, the primarycompeting standard for our systems is the digital European cordless telephonestandard known as DECT.

 

We currently compete against communications equipment providers such asAlcatel, Ericsson, Lucent, Motorola, Nokia, Nortel, Siemens, Huawei and ZTE inthe GSM, CDMA, TDMA, DECT and wireless local loop markets. All of the majorcommunications equipment providers have broad product lines that include atleast partial solutions that address our target markets.

 

The wireless market is rapidly evolving and highly competitive. Webelieve that our business is affected by the following competitive factors:

 

•                                          intenseprice competition;

 

•                                          theavailability of substitute products;

 

•                                          easeof installation;

 

•                                          technicalsupport and service;

 

•                                          salesand distribution capability;

 

•                                          breadthof product line;

 

•                                          conformityto industry standards; and

 

•                                          implementationof additional product features and enhancements.

 

In addition, we are seeking to sell ourproducts in emerging markets, many of which have less reliable traditionaltelephone infrastructures than developed countries. If these countries improvethe reliability and service of their traditional telephone networks, the demandfor our products in these markets could diminish and our future revenue growthcould decline. The existing poor quality of the public switched telephonenetwork in these markets may affect the perceived performance of our productsand adversely affect our business.

 

Many of our competitors and potentialcompetitors have substantially greater name recognition and greater technical,financial and sales and marketing resources than we have. Such competitors mayundertake more extensive marketing campaigns, adopt more aggressive pricingpolicies and devote substantially more resources to developing new productsthan we can. Trends toward increased consolidation in the telecommunicationsindustry may increase the size and resources of some of our current competitorsand could affect some of our current relationships. Pricing trends in thetelecommunications markets and intense pricing pressure may cause ourcompetitors to cut prices to very low price points in an effort to win business.

 

48

----

 

Increased competition is likely to result in price reductions, shorterproduct life cycles, reduced gross margins, longer sales cycles and loss ofmarket share, any of which would seriously harm our business. We cannot assureyou that we will be able to compete successfully against current or futurecompetitors. Competitive pressures we face may cause our revenues, prices, orgrowth to decline and may therefore seriously harm our business and results ofoperations.

 

**If we areunable to manage our global operations effectively, our business would beseriously harmed.**

 

Substantially all of our GSM revenue to datehas been derived from systems intended for installation outside of the UnitedStates. In addition to the regulatory issues, our operations are subject to thefollowing risks and uncertainties:

 

•                                          legaluncertainties regarding liability, tariffs and other trade barriers;

 

•                                          greaterdifficulty in trade receivable collection, obtaining confirmed letters ofcredit, and longer collection periods;

 

•                                          costsof staffing and managing operations in several countries;

 

•                                          languageskills and communications with our customers;

 

•                                          difficultiesin protecting intellectual property rights;

 

•                                          changesin currency exchange rates which may make our U.S. dollar-denominatedproducts less competitive in global markets;

 

•                                          theimpact of recession in the global economy;

 

•                                          localunfavorable economic conditions; and

 

•                                          politicaland economic instability.

 

**If we fail to improve our operational systemsand controls to manage future growth, our business could be seriously harmed.**

 

We plan to continue to expand our operations significantly to pursueexisting and potential market opportunities including the market for 3G products.This growth and new technology places significant demands on our management andour operational resources. In order to manage growth effectively, we mustimplement and improve our operational systems, procedures and controls on atimely basis. We must strictly control costs and manage our business to achievecash-flow breakeven in order to achieve our goals while pursuing marketopportunities.

 

**Our future success depends on the continuedservice of our management team and our ability to hire, retain or maintainsufficient key personnel.**

 

We have experienced significant changes in our senior management duringthe past two years, including the appointment of our President and ChiefExecutive Officer Erwin Leichtle in July 2003. Prior toMr. Leichtle’s joining Interwave, William E. Gibson, a member ofInterwave’s Board of Directors, served as the Chairman of an ExecutiveCommittee consisting of our senior management, which managed the dutiespreviously undertaken by the Chief Executive Officer of Interwave following theresignation of our former Chief Executive Officer. These changes may have beendisruptive to our business.

 

Our business is highly dependent on our ability to attract, retain andmotivate qualified technical and management personnel. Competition has been andmay continue to be intense for qualified personnel in our industry and inNorthern California, where most of our engineering personnel are located, andwe may not be successful in attracting and retaining these personnel. Skilledmanagement and technical personnel are essential to our business and to the

 

49

----

 

development of our 3G products. Our personnel resources are limitedbecause we have reduced the number of our employees in order to reduce ourexpenses. We do not have non-compete agreements with most of our key employees.We currently do not maintain key person life insurance on any of our keyexecutives. Our success also depends upon the continuing contributions of ourkey management and our research, product development, sales and marketing andmanufacturing personnel. These employees may voluntarily terminate theiremployment with us at any time. The search for a replacement for any of our keypersonnel could be time consuming, and could distract our management team fromthe day-to-day operations of our business.

 

**Our intellectual property and proprietaryrights may be insufficient to protect our competitive position.**

 

We cannot assure you that the protection offered by our U.S. patentswill be sufficient or that any of our pending U.S. or foreign patentapplications will result in the issuance of patents. In addition, competitorsin the United States and other countries, many of whom have substantiallygreater resources, may apply for and obtain patents that will prevent orinterfere with our ability to make and sell our products in the United Statesor abroad. We have 32 issued and 8 pending U.S. patents. We have filed many ofthese patents internationally. We have a total of 43 issued and 19 patentspending worldwide. Unauthorized parties may attempt to design around ourpatents, copy or otherwise obtain and use our products. We cannot be certainthat the steps we have taken will prevent unauthorized use of our technology,particularly in countries where the laws may not protect our proprietary rightsas fully as in the United States. Failure to protect our proprietary rightscould harm our competitive position and therefore cause our revenues andoperating results to decline.

 

**Claims that we infringe third-partyintellectual property rights could result in significant expenses andrestrictions on our ability to sell our products in particular markets.**

 

From time to time, third parties may assert patent, copyright,trademark and other intellectual property rights to technologies that areimportant to our business. Any claims could result in costly litigation, divertthe efforts of our technical and management personnel, cause product shipmentdelays, require us to enter into royalty or licensing agreements or prevent usfrom making or selling certain products. Any of these could seriously harm ouroperating results. Royalty or licensing agreements, if available, may not beavailable on commercially reasonable terms, if at all. In addition, in some ofour sales agreements, we agree to indemnify our customers for any expenses orliabilities resulting from claimed infringements of patents, trademarks orcopyrights of third parties. Costs associated with these indemnificationobligations could be significant and could cause our operating results andstock price to decline.

 

**We may not be able to license necessary third-partytechnology or it may be expensive to do so.**

 

From time to time, we may be required to license technology from thirdparties to develop new products or product enhancements. We have licensedsoftware for use in our products from Qualcomm, Inc., Lucent Technologies,TCSI Inc., Trillium Digital Systems Inc., Hughes Software Systems,Component Plus and Wind River Associates. We cannot assure you that third-partylicenses will be available to us on commercially reasonable terms, if at all.The inability to obtain any third-party license required to develop newproducts and product enhancements could require us to obtain substitute technologyof lower quality or performance standards or at greater cost which couldseriously harm our competitive position, revenues and growth prospects.

 

There are a number of general GSM and CDMA patents held by differentcompanies, which may impact our GSM and CDMA technology. If any of our productsinfringe on any of these patents and we are unable to negotiate licenseagreements, then we may be required to redesign a portion of our product line.

 

**Control by our existing shareholders coulddiscourage the potential acquisition of our business.**

 

As of June 30, 2004, our executiveofficers, directors and 5% or greater shareholders and their affiliates ownedapproximately 4.4 million of our outstanding common shares orapproximately 49.5% of our outstanding common shares. Acting together, theseshareholders may be able to control all matters requiring approval byshareholders, including the election of directors.

 

50

----

 

This concentration of ownership could have the effect of delaying orpreventing a change in control of our business or otherwise discouraging apotential acquirer from attempting to obtain control of us, which could preventour shareholders from realizing a premium over the market price for their commonshares.

 

** **

**Anti-takeover provisions in our Bye-Laws andour Shareholder Rights Plan could impede an attempt to replace or remove ourdirectors or to initiate a change of control, which could diminish the value ofour common shares.**

 

OurBye-Laws and Shareholder Rights Plan contain provisions that may entrenchdirectors and make it more difficult for shareholders to replace directors evenif the shareholders consider it beneficial to do so or delay or prevent achange of control that a shareholder might consider favorable.  Even inthe absence of an attempt to effect a change in management or a takeoverattempt, these provisions may adversely affect the prevailing market price ofour common shares if they are viewed as discouraging takeover attempts in thefuture.

 

OurBye-Laws contain the following provisions that could have such an effect:

 

•                                          election of ourdirectors is staggered, meaning that the members of only one of three classesof our directors are selected each year; and

 

•                                          shareholdershave limited ability to remove directors.

 

OurShareholder Rights Plan contains provisions which might cause substantialdilution to a person who attempts to acquire us on terms not approved by ourBoard of Directors.  In connection withour definitive agreement to be acquired by Alvarion, our Board of Directorsamended the Shareholder Rights Plan so that our acquisition by Alvarion wouldnot trigger the Shareholder Rights Plan.

 

 

**Our Bye-Laws restrict shareholders from bringing legal action againstour officers and directors and indemnify our officers and directors.**

 

Our Bye-Laws contain a broadwaiver by our shareholders of any claim or right of action, both individuallyand on our behalf, against any of our officers or directors.  The waiver applies to any action taken by anofficer or director, or the failure of an officer or director to take anyaction, in the performance of his or her duties, except with respect to anymatter involving any fraud, dishonesty or breach of fiduciary duty on the partof the officer or director, and any claim arising under United States federalsecurities laws.  This waiver limits theright of shareholders to assert claims against our officers and directorsunless the act or failure to act involves fraud, dishonesty or breach of fiduciaryduty or a claim arising under United States federal securities laws.

 

In addition, our Bye-Laws providefor a broad indemnification of our officers or directors against all claims,damages and actions that they may incur or sustain in the performance of his orher duties, except with respect to any matter involving any fraud ordishonesty.

 

 

**Our operations based in Bermuda may besubject to United States taxation, which could significantly harm our businessand operating results.**

 

Except for our U.S. subsidiaries,we do not consider ourselves to be engaged in a trade or business in the UnitedStates. Our U.S. subsidiaries are subject to U.S. taxation on their worldwideincome, and dividends from our U.S. subsidiaries are subject to U.S.withholding tax. We and our non-U.S. subsidiaries would, however, be subject toU.S. federal income tax on income related to the conduct of a trade or businessin the United States. If we were

 

51

----

 

determined to be subject to U.S. taxation,our financial results would be significantly harmed. We cannot assure you thatthe Internal Revenue Service will not contend that our Bermuda-based operationsare engaged in a U.S. trade or business and, therefore, are subject to U.S. incometaxation.

 

**We may become subject to taxes in Bermudaafter March 28, 2016, which may have a material adverse effect on our resultsof operations and your investment.**

 

The Bermuda Minister of Finance, under theExempted Undertakings Tax Protection Act 1966, as amended, of Bermuda, hasgiven us an assurance that if any legislation is enacted in Bermuda that wouldimpose tax computed on profits or income, or computed on any capital asset, gain or appreciation, or any tax in thenature of estate duty or inheritance tax, then the imposition of any such taxwill not be applicable to us or any of our operations, shares, debentures orother obligations until March 28, 2016. Given the limited duration of the Minister of Finance’s assurance wecannot be certain that we will not be subject to any Bermuda tax afterMarch 28, 2016.

 

**We are a Bermuda company and it may be difficult for you to enforcejudgments against us or our directors and executive officers.**

 

We are a Bermuda exempted company.As a result, the rights of holders of our common shares will be governed byBermuda law and our memorandum of association and bye-laws. The rights ofshareholders under Bermuda law may differ from the rights of shareholders ofcompanies incorporated in other jurisdictions. It may be difficult forinvestors to effect service of process on our directors or officers in theUnited States or to enforce in the United States judgments obtained in U.S.courts against us or those persons based on the civil liability provisions ofthe U.S. securities laws. Uncertainty exists as to whether courts in Bermudawill enforce judgments obtained in other jurisdictions, including the UnitedStates, against us or our directors or officers under the securities laws ofthose jurisdictions or entertain actions in Bermuda against us or our directorsor officers under the securities laws of other jurisdictions.

 

**A substantial number of our common shares areavailable for sale in the public market simultaneously, which could cause themarket price of our shares to decline.**

 

Sales of substantial amounts ofour common shares in the public market or the awareness that a large number ofshares is available for sale could cause the market price of our common sharesto decline. Sales of our common shares held by existing shareholders couldcause the market price of our shares to decline.

 

**Because we do not intend to pay any cashdividends on our common shares, holders of our common shares will not be ableto receive a return on their shares unless they sell them.**

 

We have never paid or declared anycash dividends on our common shares or other securities and intend to retainany future earnings to finance the development and expansion of our business.We do not anticipate paying any cash dividend on our common shares in theforeseeable future.

 

**Our operations could be significantlyhindered by the occurrence of a natural disaster or other catastrophic event.**

 

Our manufacturing operations aresusceptible to outages due to fire, floods, power loss, telecommunicationsfailures, break-ins and similar events. In addition, the majority of ournetwork infrastructure is located in Northern California, an area susceptibleto earthquakes. Despite our implementation of network security measures, ourservers are vulnerable to computer viruses, break-ins, and similar disruptionsfrom unauthorized tampering with our computer systems. In addition, we arevulnerable to coordinated attempts to overload our systems with data, resultingin denial or reduction of service to some or all of our employees for a periodof time. Any such event could have a material adverse effect on our business,operating results, and financial condition.

 

**Terrorist acts and acts of declared orundeclared war may seriously harm our business and revenues, costs and expensesand financial condition.**

 

Terrorist acts or acts of declaredor undeclared war may cause damage or disruption to Interwave, our employees,facilities, partners, suppliers, distributors, or customers, which couldsignificantly impact our revenues, costs, expenses, cash flow and financialcondition. The potential for future terrorist attacks, the national andinternational responses to terrorist attacks, and other acts of declared orundeclared war or hostility have created many economic and politicaluncertainties, which could adversely affect our business and results ofoperations in ways that cannot presently be predicted. Additionally, we arepredominantly uninsured for losses and interruptions caused by terrorist actsand acts of declared or undeclared war.

 

52

----

 

**We have recorded impairment losses in thepast and any future impairment of long-lived assets could have a materialadverse impact on our financial conditions and results of operations.**

 

Our long-lived assets includeintangible assets as a result of our purchasing of assets or businesses. Anyfurther impairment losses recorded in the future caused by the continuingdeterioration of the industry we operate in could have a material adverseimpact on our financial condition and results of operations.

 

**Item 7A****. Qualitative and Quantitative Disclosures About Market Risks**

 

**Foreign Exchange**

 

Our financial market risk includesrisks associated with international operations and related foreign currencies,as we anticipate that international sales will continue to account for asignificant portion of our consolidated revenue. While our international salesare in U.S. dollars and are therefore not subject to foreign currency exchangerisk, expenses of our international operations are denominated in eachcountry’s local currency and are affected by foreign currency exchange ratefluctuations. We do not engage in any hedging activity in connection with ourinternational business or foreign currency risk.

 

Through June 30, 2004, wehave not experienced any significant negative impact on our operations as aresult of fluctuations in foreign currency exchange rates. Moreover, based onour overall currency rate exposures, a near-term 10% appreciation or depreciationof the values of the relevant foreign currencies from the values as of June 30,2004 would have a $1.0 million impact on the balance sheet, but would have nomaterial impact on our results of operations and cash flows over the nexttwelve months.

 

**Interest Rates**

 

We have invested our cash in financialinstruments, including commercial paper, and repurchase agreements, and inmoney market funds. These investments are denominated in U.S. dollars. Cashbalances in foreign currencies overseas are operating balances and are onlyinvested in short term deposits of the local operating bank.

 

Our exposure to market risk forchanges in interest rates relates primarily to our investment portfolio andoutstanding debt obligations. We do not use derivative financial instrumentsfor speculative or trading purposes.

 

Due to the short-term nature ofour investments, a hypothetical 10% change in interest rates from those as ofJune 30, 2004 would not have a material effect on our financial position,results of operations and cash flows over the next twelve months.

 

**Item 8****. Financial statements and Supplementary Data**

 

53

----

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD. AND SUBSIDIARIES**

**INDEX TO CONSOLIDATED FINANCIAL STATEMENTS**

 
| Report of Independent Registered Public  Accounting Firm                                                                            | 55 |
|-------------------------------------------------------------------------------------------------------------------------------------|----|
| Independent Auditors’ Report                                                                                                   | 56 |
| Consolidated Balance Sheets as of June 30, 2004 and 2003                                                                       | 57 |
| Consolidated Statements of Operations for  the years ended June 30, 2004, 2003 and 2002                                        | 58 |
| Consolidated Statements of Shareholders’  Equity and Comprehensive Loss for the years ended June 30, 2004, 2003  and 2002 | 59 |
| Consolidated Statements of Cash Flows for  the years ended June 30, 2004, 2003 and 2002                                        | 62 |
| Notes to Consolidated Financial Statements                                                                                          | 63 |

 

54

----

 

**Reportof Independent Registered****Public Accounting Firm**

 

The Board of Directors and Shareholders

Interwave Communications International Ltd.:

 

We have audited the accompanying consolidated balance sheet ofInterwave Communications International Ltd. and subsidiaries as ofJune 30, 2004, and the related consolidated statements of operations,shareholders’ equity and comprehensive loss, and cash flows for the year thenended. Our audit also included the financial statement schedule listed inItem 15(a)(2). The consolidated financial statements and financial statementschedule are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these consolidated financialstatements and financial statement schedule based on our audit.

 

We conducted our audit in accordance with the standards of the PublicCompany Accounting Oversight Board (United States). Those standards requirethat we plan and perform the audit to obtain reasonable assurance about whetherthe financial statements are free of material misstatement. An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements. An audit also includes assessing the accountingprinciples used and significant estimates made by management, as well asevaluating the overall financial statement presentation. We believe that ouraudit provides a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to abovepresent fairly, in all material respects, the financial position of InterwaveCommunications International Ltd. and subsidiaries as of June 30,2004, and the results of their operations and their cash flows for the yearthen ended, in conformity with accounting principles generally accepted in theUnited States of America. Also, in our opinion, the related financial statementschedule, when considered in relation to the consolidated financial statementstaken as a whole, presents fairly, in all material respects, the informationset forth therein.

 

As discussed in Note 1 to the consolidated financial statements, theCompany’s recurring losses from operations raise substantial doubt about itsability to continue as a going concern. Management’s plans as to these mattersare also described in Note 1. The 2004 financial statements do not includeany adjustments that might result from the outcome of this uncertainty.

 

 
|                                    |   | /s/ BURR, PILGER & MAYER LLP |   |
|-----------------------------------------|--------|----------------------------------|--------|
|                                    |   |                             |
|                                    |   |                             |
| Palo Alto, California                   |   |                             |
| August 13, 2004, except as to      |   |                             |
| Note 19, which is as of October 4, 2004 |   |                             |

 

55

----

 

**Report ofIndependent Registered Public Accounting Firm**

 

The Board of Directors and Shareholders

Interwave Communications International Ltd.:

 

We have audited the accompanying consolidated balance sheets ofInterwave Communications International, Ltd. and subsidiaries (the“Company”) as of June 30, 2003, and the related consolidated statements ofoperations, shareholders’ equity and comprehensive loss, and cash flows foreach of the years in the two-year period ended June 30, 2003. Inconnection with our audits of the consolidated financial statements, we havealso audited the related financial statement schedule listed in Item15(a)(2) for each of the years in the two-year period ended June 30, 2003.These consolidated financial statements and financial statementschedule are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these consolidated financialstatements and financial statement schedule based on our audits.

 

We conducted our audits in accordance with the Standards of the Public CompanyAccounting Oversight Board (United States). Those standards require that weplan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements. An audit also includes assessing the accountingprinciples used and significant estimates made by management, as well asevaluating the overall financial statement presentation. We believe that ouraudits provide a reasonable basis for our opinion.

 

In our opinion, the consolidated financial statements referred to abovepresent fairly, in all material respects, the financial position of InterwaveCommunications International, Ltd. and subsidiaries as of June 30,2003, and the results of their operations and their cash flows for each of theyears in the two-year period ended June 30, 2003, in conformity with U.S.generally accepted accounting principles. Also, in our opinion, the relatedfinancial statement schedule for each of the years in the two-year period endedJune 30, 2003, when considered in relation to the consolidated financialstatements taken as a whole, presents fairly, in all material respects, theinformation set forth therein.

 

As discussed in Note 7 to the consolidated financial statements,the Company adopted the provisions of Statement of Financial AccountingStandards No. 142, “Goodwill and Other Intangible Assets,” as ofJuly 1, 2002.

 
|                      |   | /s/ KPMG LLP |   |
|---------------------------|--------|--------------|--------|
|                      |   |         |
|                      |   |         |
| Mountain View, California |   |         |
| September 25, 2003   |   |         |

 

56

----

 

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD. AND SUBSIDIARIES**

**Consolidated Balance Sheets**

**(In thousands, except share data)**

 
| ** **                                                                                                                                                         | ** ** | **June 30,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|
| ** **                                                                                                                                                         | ** ** | **2004**          | ** ** | **2003** | ** ** |
| **Assets**                                                                                                                                                         |       |              |       |   |   |
| Current assets:                                                                                                                                                    |       |              |       |   |   |
| Cash and cash equivalents                                                                                                                                          |       | $                 | 5,350      |   | $ | 4,371 |   |
| Restricted cash, short term portion                                                                                                                                |       | 382               |       | 107 |   |
| Trade receivables, net of allowance of $968  and $2,403 at June 30, 2004 and 2003, respectively                                                               |       | 8,210             |       | 5,959 |   |
| Trade receivables from related parties                                                                                                                             |       | 593               |       | 625 |   |
| Inventories, net                                                                                                                                                   |       | 7,989             |       | 8,058 |   |
| Prepaid expenses and other current assets                                                                                                                          |       | 2,634             |       | 2,421 |   |
| Total current assets                                                                                                                                               |       | 25,158            |       | 21,541 |   |
| Restricted cash, long term portion                                                                                                                                 |       | 199               |       | 147 |   |
| Property and equipment, net                                                                                                                                        |       | 2,747             |       | 4,321 |   |
| Purchased technology, net                                                                                                                                          |       | 2,620             |       | 2,691 |   |
| Patents and other intangibles, net                                                                                                                                 |       | 3,387             |       | 4,459 |   |
| Other assets                                                                                                                                                       |       | 113               |       | 118 |   |
| Total assets                                                                                                                                                       |       | $                 | 34,224     |   | $ | 33,277 |   |
| **Liabilities and Shareholders’ Equity**                                                                                                                      |       |              |       |   |   |
| Current liabilities:                                                                                                                                               |       |              |       |   |   |
| Short-term borrowings                                                                                                                                              |       | $                 | 3,588      |   | $ | 1,000 |   |
| Current portion of notes and capital leases  payable                                                                                                               |       | 308               |       | 786 |   |
| Accounts payable                                                                                                                                                   |       | 6,933             |       | 5,324 |   |
| Accrued expenses                                                                                                                                                   |       | 3,283             |       | 5,692 |   |
| Accrued compensation                                                                                                                                               |       | 2,034             |       | 2,193 |   |
| Income taxes payable                                                                                                                                               |       | 172               |       | 417 |   |
| Accrued restructuring                                                                                                                                              |       | 1,416             |       | 1,915 |   |
| Deferred revenue                                                                                                                                                   |       | 283               |       | 1,939 |   |
| Deferred revenue from related parties                                                                                                                              |       | 95                |       | 141 |   |
| Advance customer deposits                                                                                                                                          |       | 4,093             |       | 1,567 |   |
| Total current liabilities                                                                                                                                          |       | 22,205            |       | 20,974 |   |
| Capital lease obligations, long-term  portion                                                                                                                      |       | —            |       | 306 |   |
| Other long-term liabilities                                                                                                                                        |       | 1,000             |       | 1,978 |   |
| Total liabilities                                                                                                                                                  |       | 23,205            |       | 23,258 |   |
| Commitments and contingencies (Note 15)                                                                                                                            |       |              |       |   |   |
| Shareholders’ equity:                                                                                                                                         |       |              |       |   |   |
| Convertible preferred shares, $0.001 par  value; 10,000,000 shares authorized; no shares issued and outstanding at  June 30, 2004 and 2003                    |       | —            |       | — |   |
| Common shares, $0.01 par value; 20,000,000  shares authorized; 9,164,605 and 6,755,177 shares issued and outstanding at  June 30, 2004 and 2003, respectively |       | 91                |       | 67 |   |
| Additional paid-in capital                                                                                                                                         |       | 344,863           |       | 338,225 |   |
| Receivables from shareholders                                                                                                                                      |       | (185              | )          | (456 | ) |
| Accumulated other comprehensive loss                                                                                                                               |       | (116              | )          | (906 | ) |
| Accumulated deficit                                                                                                                                                |       | (333,634          | )          | (326,911 | ) |
| Total shareholders’ equity                                                                                                                                    |       | 11,019            |       | 10,019 |   |
| Total liabilities and shareholders’ equity                                                                                                                    |       | $                 | 34,224     |   | $ | 33,277 |   |

 

See accompanying notes to consolidatedfinancial statements.

 

57

----

 

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD. AND SUBSIDIARIES**

**Consolidated Statements of Operations**

**(In thousands, except per share data)**

 
| ** **                                                                                                                  | ** ** | **Fiscal Years Ended June 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                                                                  | ** ** | **2004**                             | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                                                        |       |                                 |       |   |   |   |   |
| Product revenues                                                                                                            |       | $                                    | 41,087     |   | $ | 26,997 |   | $ | 39,340 |   |
| Service revenues                                                                                                            |       | 3,380                                |       | 2,963 |   | 3,615 |   |
| Total revenues (inclusive of related party  revenues of $1,326, $4,102, and $13,778 for 2004, 2003 and 2002,  respectively) |       | 44,467                               |       | 29,960 |   | 42,955 |   |
| Product cost of revenues                                                                                                    |       | 16,775                               |       | 16,202 |   | 32,666 |   |
| Service cost of revenues                                                                                                    |       | 4,557                                |       | 4,529 |   | 5,540 |   |
| Amortization of intangible assets                                                                                           |       | 1,922                                |       | 1,685 |   | 6,085 |   |
| Total cost of revenues                                                                                                      |       | 23,254                               |       | 22,416 |   | 44,291 |   |
| Gross profit (loss)                                                                                                         |       | 21,213                               |       | 7,544 |   | (1,336 | ) |
| Operating expenses:                                                                                                         |       |                                 |       |   |   |   |   |
| Research and development                                                                                                    |       | 9,613                                |       | 12,937 |   | 19,793 |   |
| Selling, general and administrative                                                                                         |       | 18,221                               |       | 19,017 |   | 29,163 |   |
| Amortization of deferred stock  compensation*                                                                               |       | —                               |       | 194 |   | (227 | ) |
| Losses (gains) on asset sales and asset  impairments, net                                                                   |       | (809                                 | )          | (144 | ) | 16,657 |   |
| Restructuring charges (credit)                                                                                              |       | 776                                  |       | 3,485 |   | (1,986 | ) |
| Total operating expenses                                                                                                    |       | 27,801                               |       | 35,489 |   | 63,400 |   |
| Loss from operations                                                                                                        |       | (6,588                               | )          | (27,945 | ) | (64,736 | ) |
| Interest income                                                                                                             |       | 24                                   |       | 167 |   | 1,373 |   |
| Interest expense                                                                                                            |       | (149                                 | )          | (166 | ) | (317 | ) |
| Other expense, net                                                                                                          |       | (149                                 | )          | (53 | ) | (436 | ) |
| Loss before income taxes                                                                                                    |       | (6,862                               | )          | (27,997 | ) | (64,116 | ) |
| Income tax benefit (expense)                                                                                                |       | 139                                  |       | (267 | ) | (209 | ) |
| Net loss                                                                                                                    |       | $                                    | (6,723     | ) | $ | (28,264 | ) | $ | (64,325 | ) |
|                                                                                                                        |       |                                 |       |   |   |   |   |
| Basic and diluted net loss per share                                                                                        |       | $                                    | (0.85      | ) | $ | (4.34 | ) | $ | (11.52 | ) |
|                                                                                                                        |       |                                 |       |   |   |   |   |
| Shares used in computing basic and diluted  net loss per share                                                              |       | 7,892                                |       | 6,508 |   | 5,583 |   |

 

----

| * Amortization of deferred stock  compensation can be classified as follows: |   |   |   |   |   |   |   |
|------------------------------------------------------------------------------|--------|--------|--------|--------|--------|--------|--------|
| Cost of revenues                                                             |   | $      | — |   | $      | 39     |   | $ | 102 |   |
| Research and development                                                     |   | — |   | 177    |   | 595    |   |
| Selling, general and administrative                                          |   | — |   | (22    | )      | (924   | )      |
| Total                                                                        |   | $      | — |   | $      | 194    |   | $ | (227 | ) |

 

See accompanying notes to consolidatedfinancial statements.

 

58

----

 

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD. AND SUBSIDIARIES**

**Consolidated Statements of Shareholders’****Equity and Comprehensive Loss (In thousands, except share data)**

**Fiscal Years ended June 30, 2002, 2003and 2004**

 
| ** **                                                                             | ** ** | **Convertible  Preferred Shares** | ** ** | **Common Shares** | ** ** | **Additional  Paid-In  Capital** | ** ** | **Receivables  From  Shareholders** | ** ** | **Deferred Stock  Compensation** | ** ** | **Accumulated  Other  Comprehensive  Income (Loss)** | ** ** | **Accumulated  Deficit** | ** ** | **Total  Shareholders’  Equity** | ** ** | **Comprehensive  Loss** | ** ** |
|----------------------------------------------------------------------------------------|------------|-----------------------------------|------------|-------------------|------------|----------------------------------|------------|-------------------------------------|------------|----------------------------------|------------|------------------------------------------------------|------------|--------------------------|------------|---------------------------------------|------------|-------------------------|------------|
| ** **                                                                             | ** ** | **Shares**                        | ** ** | **Amount**        | ** ** | **Shares**                       | ** ** | **Amount**                          | ** ** | ** **                       | ** ** | ** **                                           | ** ** | ** **               | ** ** | ** **                            |
| Balances as of June 30, 2001                                                      |       | —                            |       | $                 | —     |                             | 5,552,870  |                                | $          | 56                               |       | $                                                    | 329,656    |                     | $          | (444                                  | )          | $                       | (2,305     | ) | $ | 570 |   |   | (234,322 | ) | $ | 93,211 |   |   |   |
| Issuance of common shares                                                              |       | —                            |       | —            |       | 222,977                          |       | 2                                   |       | 1,956                            |       | —                                               |       | —                   |       | —                                |       | —                  |       | 1,958 |   |   |   |
| Repurchase of common shares                                                            |       | —                            |       | —            |       | (46,900                          | )          | —                              |       | (481                             | )          | —                                               |       | —                   |       | —                                |       | —                  |       | (481 | ) |   |   |
| Exercise of stock options                                                              |       | —                            |       | —            |       | 26,976                           |       | —                              |       | 209                              |       | —                                               |       | —                   |       | —                                |       | —                  |       | 209 |   |   |   |
| Issuance of common shares for Employee Stock  Purchase Plan                            |       | —                            |       | —            |       | 45,884                           |       | —                              |       | 370                              |       | —                                               |       | —                   |       | —                                |       | —                  |       | 370 |   |   |   |
| Exercise of warrants                                                                   |       | —                            |       | —            |       | 10,128                           |       | —                              |       | 12                               |       | —                                               |       | —                   |       | —                                |       | —                  |       | 12 |   |   |   |
| Interest earned on shareholder receivable                                              |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | (11                                                  | )          | —                   |       | —                                |       | —                  |       | (11 | ) |   |   |
| Stock-based compensation to non-employees                                              |       | —                            |       | —            |       | —                           |       | —                              |       | 208                              |       | —                                               |       | —                   |       | —                                |       | —                  |       | 208 |   |   |   |
| Repurchase of stock warrants                                                           |       | —                            |       | —            |       | —                           |       | —                              |       | (126                             | )          | —                                               |       | —                   |       | —                                |       | —                  |       | (126 | ) |   |   |
| Issuance of stock warrants for services                                                |       | —                            |       | —            |       | —                           |       | —                              |       | 107                              |       | —                                               |       | —                   |       | —                                |       | —                  |       | 107 |   |   |   |
| Amortization of deferred stock compensation                                            |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | 1,029                    |       | —                                |       | —                  |       | 1,029 |   |   |   |
| Recapture of compensation expense for option  cancellations in excess of straight line |       | —                            |       | —            |       | —                           |       | —                              |       | (1,256                           | )          | —                                               |       | —                   |       | —                                |       | —                  |       | (1,256 | ) |   |   |
| Reversal of deferred stock compensation upon  termination                              |       | —                            |       | —            |       | —                           |       | —                              |       | (978                             | )          | —                                               |       | 978                      |       | —                                |       | —                  |       | — |   |   |   |
| Comprehensive Loss:                                                                    |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Net loss                                                                               |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | —                                |       | (64,325                 | )          | (64,325 | ) | $ | (64,325 | ) |
| Foreign currency translation adjustment                                                |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | (445                                  | )          | —                  |       | (445 | ) | (445 | ) |
| Accumulated unrealized (loss) on investments                                           |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | (313                                  | )          | —                  |       | (313 | ) | (313 | ) |
|                                                                                   |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Total comprehensive loss                                                               |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | —                                |       | —                  |       | — |   | $ | (65,083 | ) |
|                                                                                   |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Balances as of June 30, 2002                                                      |       | —                            |       | $                 | —     |                             | 5,811,935  |                                | $          | 58                               |       | $                                                    | 329,677    |                     | $          | (455                                  | )          | $                       | (298       | ) | $ | (188 | ) | $ | (298,647 | ) | $ | 30,147 |   |   |   |

 

Continued

 

59

----

 

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD. AND SUBSIDIARIES**

**Consolidated Statements of Shareholders’Equity and Comprehensive Loss (In thousands, except share data)**

**Fiscal Years ended June 30, 2002, 2003and 2004**

 
| ** **                                                  | ** ** | **Convertible  Preferred Shares** | ** ** | **Common Shares** | ** ** | **Additional  Paid-In  Capital** | ** ** | **Receivables  From  Shareholders** | ** ** | **Deferred Stock  Compensation** | ** ** | **Accumulated  Other  Comprehensive  Income (Loss)** | ** ** | **Accumulated  Deficit** | ** ** | **Total  Shareholders’  Equity** | ** ** | **Comprehensive  Loss** | ** ** |
|-------------------------------------------------------------|------------|-----------------------------------|------------|-------------------|------------|----------------------------------|------------|-------------------------------------|------------|----------------------------------|------------|------------------------------------------------------|------------|--------------------------|------------|---------------------------------------|------------|-------------------------|------------|
| ** **                                                  | ** ** | **Shares**                        | ** ** | **Amount**        | ** ** | **Shares**                       | ** ** | **Amount**                          | ** ** | ** **                       | ** ** | ** **                                           | ** ** | ** **               | ** ** | ** **                            |
| Issuance of common shares and warrants to UT  Starcom       |       | —                            |       | $                 | —     |                             | 583,657    |                                | $          | 6                                |       | $                                                    | 3,314      |                     | —     |                                  | —     |                    | —     |   | — |   | $ | 3,320 |   |   |   |
| Issuance of common shares for acquisition of Gbase  Corp.   |       | —                            |       | —            |       | 316,847                          |       | 3                                   |       | 5,299                            |       | —                                               |       | —                   |       | —                                |       | —                  |       | 5,302 |   |   |   |
| Exercise of stock options                                   |       | —                            |       | —            |       | 1,066                            |       | —                              |       | 8                                |       | —                                               |       | —                   |       | —                                |       | —                  |       | 8 |   |   |   |
| Issuance of common shares for Employee Stock  Purchase Plan |       | —                            |       | —            |       | 41,672                           |       | —                              |       | 66                               |       | —                                               |       | —                   |       | —                                |       | —                  |       | 66 |   |   |   |
| Shareholder payment received                                |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | 11                                                   |       | —                   |       | —                                |       | —                  |       | 11 |   |   |   |
| Interest earned on shareholder receivable                   |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | (12                                                  | )          | —                   |       | —                                |       | —                  |       | (12 | ) |   |   |
| Other, net                                                  |       | —                            |       | —            |       | —                           |       | —                              |       | (35                              | )          | —                                               |       | —                   |       | 1                                     |       | —                  |       | (34 | ) |   |   |
| Amortization of deferred stock compensation                 |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | 194                      |       | —                                |       | —                  |       | 194 |   |   |   |
| Reversal of deferred stock compensation upon  termination   |       | —                            |       | —            |       | —                           |       | —                              |       | (104                             | )          | —                                               |       | 104                      |       | —                                |       | —                  |       | — |   |   |   |
| Comprehensive Loss                                          |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Net loss                                                    |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | —                                |       | (28,264                 | )          | (28,264 | ) | $ | (28,264 | ) |
| Foreign currency translation adjustment                     |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | (681                                  | )          | —                  |       | (681 | ) | (681 | ) |
| Realized gain on investments                                |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | (38                                   | )          | —                  |       | (38 | ) | (38 | ) |
|                                                        |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Total comprehensive loss                                    |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | —                                |       | —                  |       | — |   | $ | (28,983 | ) |
|                                                        |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Balances as of June 30, 2003                           |       | —                            |       | $                 | —     |                             | 6,755,177  |                                | $          | 67                               |       | $                                                    | 338,225    |                     | $          | (456                                  | )          | $                       | —     |   | $ | (906 | ) | $ | (326,911 | ) | $ | 10,019 |   |   |   |
|                                                             |            |                                   |            |                   |            |                                  |            |                                     |            |                                  |            |                                                      |            |                          |            |                                       |            |                         |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Continued

 

60

----

 

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD. AND SUBSIDIARIES**

**Consolidated Statements of Shareholders’Equity and Comprehensive Loss (In thousands, except share data)**

**Fiscal Years ended June 30, 2002, 2003 and 2004**

 
| ** **                                                                                        | ** ** | **Convertible  Preferred Shares** | ** ** | **Common Shares** | ** ** | **Additional  Paid-In  Capital** | ** ** | **Receivables  From  Shareholders** | ** ** | **Deferred Stock  Compensation** | ** ** | **Accumulated  Other  Comprehensive  Income (Loss)** | ** ** | **Accumulated  Deficit** | ** ** | **Total  Shareholders’  Equity** | ** ** | **Comprehensive  Loss** | ** ** |
|---------------------------------------------------------------------------------------------------|------------|-----------------------------------|------------|-------------------|------------|----------------------------------|------------|-------------------------------------|------------|----------------------------------|------------|------------------------------------------------------|------------|--------------------------|------------|---------------------------------------|------------|-------------------------|------------|
| ** **                                                                                        | ** ** | **Shares**                        | ** ** | **Amount**        | ** ** | **Shares**                       | ** ** | **Amount**                          | ** ** | ** **                       | ** ** | ** **                                           | ** ** | ** **               | ** ** | ** **                            |
|                                                                                              |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Issuance of common shares to Empire Capital, net  of issuance costs of $14                        |       | —                            |       | —            |       | 1,350,000                        |       | $                                   | 14         |                             | $          | 5,304                                                |       | —                   |       | —                                |       | —                  |       | — |   | $ | 5,318 |   |   |   |
| Issuance of common shares to related parties                                                      |       | —                            |       | —            |       | 37,563                           |       | 1                                   |       | 95                               |       | —                                               |       | —                   |       | —                                |       | —                  |       | 96 |   |   |   |
| Exercise of stock options                                                                         |       | —                            |       | —            |       | 19,674                           |       | —                              |       | 49                               |       | —                                               |       | —                   |       | —                                |       | —                  |       | 49 |   |   |   |
| Issuance of common shares for Employee Stock  Purchase Plan                                       |       | —                            |       | —            |       | 52,927                           |       | 1                                   |       | 118                              |       | —                                               |       | —                   |       | —                                |       | —                  |       | 119 |   |   |   |
| Interest earned on shareholder receivable                                                         |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | (13                                                  | )          | —                   |       | —                                |       | —                  |       | (13 | ) |   |   |
| Write-off of uncollectible amount receivable from  shareholder                                    |       | —                            |       | —            |       | —                           |       | —                              |       | (284                             | )          | 284                                                  |       | —                   |       | —                                |       | —                  |       | — |   |   |   |
| Issuance of common shares for GBase acquisition  contingent consideration                         |       | —                            |       | —            |       | 949,000                          |       | 8                                   |       | 677                              |       | —                                               |       | —                   |       | —                                |       | —                  |       | 685 |   |   |   |
| Other, net                                                                                        |       | —                            |       | —            |       | 264                              |       | —                              |       | (24                              | )          | —                                               |       | —                   |       | —                                |       | —                  |       | (24 | ) |   |   |
| Issuance of common shares to employees upon  completion of GBase acquisition specified milestones |       | —                            |       | —            |       | —                           |       | —                              |       | 414                              |       | —                                               |       | —                   |       | —                                |       | —                  |       | 414 |   |   |   |
| Issuance of warrants                                                                              |       | —                            |       | —            |       | —                           |       | —                              |       | 272                              |       | —                                               |       | —                   |       | —                                |       | —                  |       | 272 |   |   |   |
| Issuance of compensatory stock options                                                            |       | —                            |       | —            |       | —                           |       | —                              |       | 17                               |       | —                                               |       | —                   |       | —                                |       | —                  |       | 17 |   |   |   |
| Comprehensive Loss:                                                                               |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Net loss                                                                                          |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | —                                |       | (6,723                  | )          | (6,723 | ) | $ | (6,723 | ) |
| Foreign currency translation adjustment                                                           |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | 790                                   |       | —                  |       | 790 |   | 790 |   |
|                                                                                              |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Total comprehensive loss                                                                          |       | —                            |       | —            |       | —                           |       | —                              |       | —                           |       | —                                               |       | —                   |       | —                                |       | —                  |       | — |   | $ | (5,933 | ) |
|                                                                                              |       |                              |       |              |       |                             |       |                                |       |                             |       |                                                 |       |                     |       |                                  |       |                    |       |   |   |   |   |
| Balances as of June 30, 2004                                                                 |       | —                            |       | $                 | —     |                             | 9,164,605  |                                | $          | 91                               |       | $                                                    | 344,863    |                     | $          | (185                                  | )          | $                       | —     |   | $ | (116 | ) | $ | (333,634 | ) | $ | 11,019 |   |   |   |
|                                                                                                   |            |                                   |            |                   |            |                                  |            |                                     |            |                                  |            |                                                      |            |                          |            |                                       |            |                         |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

See accompanying notes to consolidatedfinancial statements.

 

61

----

 

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD. AND SUBSIDIARIES**

**Consolidated Statements of Cash Flows**

**(In thousands)**

 
| ** **                                                                                                                                          | ** ** | **Fiscal Years Ended June 30,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                                                                                          | ** ** | **2004**                             | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                                                                                |       |                                 |       |   |   |   |   |
| Cash flows from operating activities:                                                                                                               |       |                                 |       |   |   |   |   |
| Net loss                                                                                                                                            |       | $                                    | (6,723     | ) | $ | (28,264 | ) | $ | (64,325 | ) |
| Adjustments to reconcile net loss to net  cash used in operating activities:                                                                        |       |                                 |       |   |   |   |   |
| Depreciation and amortization                                                                                                                       |       | 4,019                                |       | 4,772 |   | 12,758 |   |
| Amortization of deferred stock compensation                                                                                                         |       | —                               |       | 194 |   | (227 | ) |
| Losses (gains) on asset sales and asset  impairments, net                                                                                           |       | (809                                 | )          | (144 | ) | 16,657 |   |
| Stock compensation expense                                                                                                                          |       | 113                                  |       | (35 | ) | — |   |
| Compensation expense related to contingent  consideration                                                                                           |       | 134                                  |       | — |   | — |   |
| Inventory valuation and purchase commitment  charges                                                                                                |       | —                               |       | — |   | 7,937 |   |
| Non-cash restructuring charges                                                                                                                      |       | —                               |       | 283 |   | (1,248 | ) |
| Loss on disposition of property and  equipment and retirements                                                                                      |       | 144                                  |       | — |   | 1,243 |   |
| Provision for bad debt                                                                                                                              |       | 484                                  |       | (1,038 | ) | 2,125 |   |
| Interest accrued on shareholders’  receivable                                                                                                  |       | (13                                  | )          | (12 | ) | (11 | ) |
| Warrants issued                                                                                                                                     |       | —                               |       | 320 |   | 107 |   |
| Value of consulting/engineering services  received in exchange for shares                                                                           |       | —                               |       | — |   | 208 |   |
| Changes in operating assets and  liabilities:                                                                                                       |       |                                 |       |   |   |   |   |
| Trade receivables                                                                                                                                   |       | (2,703                               | )          | 4,488 |   | 2,616 |   |
| Inventories                                                                                                                                         |       | 69                                   |       | 5,607 |   | 7,004 |   |
| Prepaid expenses and other assets                                                                                                                   |       | 59                                   |       | 1,088 |   | 579 |   |
| Accounts payable                                                                                                                                    |       | 1,609                                |       | (3,623 | ) | (4,260 | ) |
| Accrued expenses and other liabilities                                                                                                              |       | (2,765                               | )          | 2,915 |   | (10,679 | ) |
| Deferred revenue and other                                                                                                                          |       | 829                                  |       | 533 |   | 705 |   |
|                                                                                                                                                |       |                                 |       |   |   |   |   |
| Net cash provided by (used in) operating  activities                                                                                                |       | (5,553                               | )          | (12,916 | ) | (28,811 | ) |
| Cash flows from investing activities:                                                                                                               |       |                                 |       |   |   |   |   |
| Sale of short-term investments, net                                                                                                                 |       | —                               |       | 2,811 |   | 16,850 |   |
| Proceeds from sale of property and  equipment and impaired assets                                                                                   |       | 809                                  |       | 100 |   | — |   |
| Purchases of property and equipment                                                                                                                 |       | (666                                 | )          | (984 | ) | (2,207 | ) |
| Purchase of licensed technologies,  trademarks and patents                                                                                          |       | (95                                  | )          | (3,021 | ) | (624 | ) |
| Acquisition, net of cash acquired                                                                                                                   |       | —                               |       | 2,000 |   | — |   |
| Decrease (increase) in restricted cash                                                                                                              |       | (327                                 | )          | 1,860 |   | (625 | ) |
|                                                                                                                                                |       |                                 |       |   |   |   |   |
| Net cash provided by (used) in investing  activities                                                                                                |       | (279                                 | )          | 2,766 |   | 13,394 |   |
| Cash flows from financing activities:                                                                                                               |       |                                 |       |   |   |   |   |
| Proceeds from issuances of common shares  and/or warrants                                                                                           |       | 5,318                                |       | 3,000 |   | 1,958 |   |
| Proceeds from short-term borrowings                                                                                                                 |       | 2,588                                |       | 1,200 |   | — |   |
| Principal payments on notes payable and  other liabilities                                                                                          |       | (2,029                               | )          | (486 | ) | (651 | ) |
| Proceeds from exercise of warrants, options  and ESPPs                                                                                              |       | 144                                  |       | 74 |   | 591 |   |
| Repurchase of common shares                                                                                                                         |       | —                               |       | — |   | (481 | ) |
| Advance to (payment from) shareholder and  other                                                                                                    |       | —                               |       | 11 |   | (126 | ) |
|                                                                                                                                                |       |                                 |       |   |   |   |   |
| Net cash provided by financing activities                                                                                                           |       | 6,021                                |       | 3,799 |   | 1,291 |   |
| Effect of exchange rate changes on cash and  cash equivalents                                                                                       |       | 790                                  |       | (681 | ) | (445 | ) |
|                                                                                                                                                |       |                                 |       |   |   |   |   |
| Net increase (decrease) in cash and cash  equivalents                                                                                               |       | 979                                  |       | (7,032 | ) | (14,571 | ) |
| Cash and cash equivalents at beginning of  year                                                                                                     |       | 4,371                                |       | 11,403 |   | 25,974 |   |
|                                                                                                                                                |       |                                 |       |   |   |   |   |
| Cash and cash equivalents at end of year                                                                                                            |       | $                                    | 5,350      |   | $ | 4,371 |   | $ | 11,403 |   |
|                                                                                                                                                |       |                                 |       |   |   |   |   |
| Supplemental disclosures of cash flow  information:                                                                                                 |       |                                 |       |   |   |   |   |
| Cash paid during year for interest                                                                                                                  |       | $                                    | 149        |   | $ | 164 |   | $ | 317 |   |
| Cash paid during year for taxes                                                                                                                     |       | $                                    | 175        |   | $ | 132 |   | $ | 221 |   |
| Common shares issued and stock options and  warrants assumed for acquisitions                                                                       |       | $                                    | 414        |   | $ | 5,302 |   | $ | — |   |
|                                                                                                                                                |       |                                 |       |   |   |   |   |
| Supplemental disclosures of non-cash  transactions:                                                                                                 |       |                                 |       |   |   |   |   |
| Issuance of common shares for the GBase  acquisition related to contingent consideration                                                            |       | $                                    | 685        |   | $ | — |   | $ | — |   |
| Cancellation of note receivable from a  shareholder                                                                                                 |       | $                                    | 284        |   | $ | — |   | $ | — |   |
| Fair value of the warrants issued in  connection with the Partners For Growth line of credit included in prepaid  expenses and other current assets |       | $                                    | 272        |   | $ | — |   | $ | — |   |

 

See accompanying notes to consolidatedfinancial statements.

 

62

----

 

**INTERWAVE COMMUNICATIONSINTERNATIONAL LTD. AND SUBSIDIARIES**

**Notes to Consolidated Financial Statemen****ts**

**Fiscal Years ended June 30, 2004, 2003and 2002**

 

**(1) The Company and Summary of Significant Accounting Policies**

 

*(a) Description of Business*

 

Interwave Communications International Ltd. (the “Company”)develops, manufactures and markets compact mobile wireless network solutionsfor GSM and CDMA2000 wireless communications and cellular products on a globalbasis. The Company’s products are primarily marketed to communication equipmentproviders, wireless service providers and systems integrators.

 

*(b) Basis of Accounting and Consolidation*

 

The consolidated financial statements of the Company are presented inconformity with accounting principles generally accepted in the United Statesof America and the rules and regulations of the Securities and ExchangeCommission (“SEC”) and include the accounts of the Company and its wholly ownedsubsidiaries. All intercompany balances and transactions have been eliminatedin consolidation.

 

All common share numbers disclosed in this Form 10-K have beenretroactively adjusted to account for the 1-for-10 reverse stock split whichtook effect on April 30, 2003.

 

The consolidated financial statements contemplate the realization ofassets and the satisfaction of liabilities in the normal course of business.The Company has had recurring net losses, including net losses of$6.7 million, $28.3 million and $64.3 million for the yearsended June 30, 2004, 2003 and 2002, respectively, and the Company also hadnet cash used in operations of $5.6 million, $12.9 million, and$28.8 million for the years ended June 30, 2004, 2003 and 2002,respectively. These conditions raise substantial doubt about the Company’sability to continue as a going concern. Our management is currently attemptingto execute plans intended to increase revenues and margins, and to reducespending. We may seek to raise additional financing through the issuance ofdebt or equity or through other means such as customer prepayments, asset salesor secured borrowings. If additional funds are raised through the issuance ofpreferred equity or debt securities or secured borrowings, these securitiescould have rights, preferences and privileges senior or otherwise superior tothat of our common shares, and the terms of any debt could impose restrictionson our operations. The sale of additional equity or convertible debt securitiescould result in additional dilution to our shareholders and such securities mayhave rights, preferences and privileges senior or otherwise superior to thoseheld by existing shareholders. If we cannot raise funds on terms favorable tous, or raise funds at all, we may not be able to develop or enhance ourproducts, take advantage of future opportunities or respond to competitivepressures or unanticipated requirements. If we are unable to raise additionalfunds, we may be required to reduce the scope of our planned operations, whichcould harm our business, or we may even need to cease operations.

 

*(c) Reclassifications*

 

Certain prior year financial statement amounts have been reclassifiedto conform to the current year’s presentation. These reclassifications had noimpact on previously reported net loss, total assets or shareholders’ equity.

 

*(d) Currency Translation*

 

For operations outside of the United States for which the localcurrency is the functional currency, assets and liabilities are translated intoU.S. dollars at exchange rates in effect at the balance sheet date. Income andexpense items are translated at average exchange rates for the period.Adjustments arising from translation of non-U.S. currency denominated assetsand liabilities for these operations are included as a component of accumulatedother comprehensive income (loss) in shareholders’ equity.

 

For non-U.S. operations with the U.S. dollar as the functionalcurrency, non-U.S. currency denominated assets and liabilities are convertedinto U.S. dollars using historical rates and any measurement gains and lossesare included in the consolidated results of operations and, to date, have notbeen significant.

 

63

----

 

*(e) Cash and Cash Equivalents, Restricted Cash and Short-TermInvestments*

 

The Company considers all highly liquid investments with an originalmaturity of three months or less to be cash equivalents. Investments with anoriginal maturity of more than three months and less than one year areclassified as short-term investments. All short-term investments are classifiedas “available-for-sale.”

 

The amortized cost of available-for-sale securities is adjusted foramortization of premiums and accretion of discounts to maturity. Suchamortization is included in net investment income. Available-for-salesecurities are recorded at fair value. Unrealized gains and losses are reportedas a separate component of accumulated other comprehensive income (loss) inshareholders’ equity. Realized gains and losses and declines in value judged tobe other than temporary on available-for-sale securities are included in netinvestment income. The cost of securities sold is based on the specificidentification method. Interest on securities classified as available-for-saleare included in interest income.

 

The Company has $0.6 million of outstanding letters relating to twooperating leases and the Company sold a product to a customer whereby thecontract states a right of return and the amount refundable to thecustomer.  The letters of credit arecollateralized by certificate of deposit accounts of $0.6 million, which isrecorded as restricted cash on the consolidated balance sheets.

 

*(f) Accounts Receivable/Allowance forDoubtful Accounts*

 

Accounts receivable are stated at net realizable value. Uncollectiblereceivables are recorded as bad debt expense when all efforts to collect themhave been exhausted and recoveries are recognized when they are received.Generally, accounts receivable are past due after 30 days of an invoice date orafter special terms were given.

 

*(g) Concentration of Risk*

 

Financial instruments that potentially subject the Company to aconcentration of credit risk consist of cash and cash equivalents and tradereceivables. Cash and cash equivalents are deposited in demand and money marketaccounts in two financial institutions in the United States. Deposits held withfinancial institutions may exceed the amount of insurance provided on suchdeposits. The Company has not experienced any material losses on its depositsof cash and cash equivalents. The Company performs ongoing credit evaluationsof its customers and generally does not require collateral on tradereceivables. These evaluations require significant judgment and are based on avariety of factors including current economic trends, historical payment andbad debt write-off experience. The Company maintains an allowance for potentialcredit losses resulting from the inability or unwillingness of its customers tomake required payments. When the Company becomes aware that a specific customeris unable to meet its financial obligations, the Company records a specific allowanceto reflect the level of credit risk in the customer’s outstanding receivablebalance. In addition, the Company records additional allowances based oncertain percentages of aged receivable balances. The Company records bad debtexpenses as selling, general and administrative expenses. Accounts receivabledeemed uncollectible are written off at the time of that determination.

 

64

----

 

The following table summarizes information relating to the Company’s significantcustomers with balances greater than 10% of trade receivables as of:

 
| ** **                       | ** ** | **June 30,** | ** ** |
|----------------------------------|------------|-------------------|------------|
| ** **                       | ** ** | **2004**          | ** ** | **2003** | ** ** |
| **Trade Receivables**            |       |              |       |   |   |
| Widespread Trading International |       |              | *          | 25 | % |
| Safaricom Ltd                    |       | 14                | %          |   | * |
| Outremer                         |       | 14                | %          |   | * |

 

The following table summarizes information relating to the Company’ssignificant customers with revenues comprising greater than 10% of revenue:

 
| ** **                               | ** ** | **Years Ended  June 30,** | ** ** |
|------------------------------------------|------------|---------------------------|------------|
| ** **                               | ** ** | **2004**                  | ** ** | **2003** | ** ** | **2002** | ** ** |
| **Revenues**                             |       |                      |       |   |   |   |   |
| Commercial Facilitators Limited          |       | 22                        | %          |   | * |   | * |
| Hutchison Telecommunications Group(1)(2) |       |                      | *          |   | * | 25 | % |

 

----

(1)                                  HutchisonTelecommunications Group includes Hutchison Telecommunications (Hong Kong),HutchMax, Lanka Cellular Systems and Comunicaciones Personales, S.A.

 

(2)                                  Denotes relatedparty.

 

* Less than 10%.

 

Periodically, the Company makes loans to certain individuals. Interestincome on any such loans or notes receivable is recorded in accordance with thestated terms of the loans or notes. In fiscal 2004, the Company recognized $13thousand in interest income in its statement of operations for a note to aformer officer. The principal balance of this note and all accrued interestthereon which totalled $185 thousand as of June 30, 2004 was paid in fullin August 2004.

 

The Company currently relies on limited supply sources for key componentsused in the manufacture of its products. Additionally, the Company reliesprimarily on two third party manufacturers for the production of its products.

 

*(h) Inventories*

 

Inventories are stated at the lower of cost or market using thefirst-in first-out method. Inventory costs include material, labor andoverhead. The Company performs a detailed assessment of inventory at eachbalance sheet date, which includes a review of, among other factors, demandrequirements, product lifecycle and product development plans, quality issues,excess inventory, and obsolescence. Based on this analysis, the Company recordsadjustments, when appropriate, to reflect inventory at net realizable value.

 

*(i) Property and Equipment*

 

Property and equipment are stated at cost, less accumulateddepreciation and amortization, and are calculated using the straight-linedepreciation method over the estimated useful lives of the related assets,generally two to five years. Leasehold improvements are amortized over the lifeof the underlying lease or the estimated useful life, whichever is shorter.Upon retirement or sale, the cost and related accumulated depreciation oramortization are removed from the accounts and any related gain or loss isreflected in the statement of operations. Repairs and maintenance expenses areexpensed as incurred.

 

65

----

 

*(j) Revenue Recognition*

 

The Company recognizes revenue in accordance with the Securities andExchange Commission (“SEC”) Staff Accounting Bulletins No. 101 (“SAB 101”)“Revenue Recognition in Financial Statements” and No. 104 (“SAB 104”) “RevenueRecognition” and Emerging Issues Task Force, or EITF, Issue No. 00-21(“EITF 00-21”), “Revenue Arrangements with Multiple Deliverables,” which addressescertain aspects of the accounting by a vendor for revenue arrangements withmultiple deliverables. Accordingly, equipment revenue is recognized when all ofthe following have occurred: persuasive evidence of an arrangement exists, theproduct has been shipped, title and all of the benefits and risk of loss havepassed to the customer, the Company has the right to invoice the customer, thefee is fixed or determinable, collection of the receivable is reasonablyassured, and the Company has fulfilled all pre-sale contractual obligations tothe customer. Revenue from extended warranty coverage and customer support isrecognized ratably over the period of the service contract. Trial sales madedirectly to wireless service providers are not recognized as revenue until thetrial is successfully completed. Trials conducted by communications serviceproviders and systems integrators are normally shipped from their inventory anddo not result in any incremental revenue to the Company. Although the Company’sproducts contain a software component, the software is not sold separately. TheCompany does not provide software upgrades to its customers, and the softwareis incidental to the product as a whole.

 

*(k) Research and Development Costs*

 

Costs to develop the Company’s products are expensed as incurred.

 

*(l) Advertising and Marketing Costs*

 

The Company expenses all advertising and marketing costs as incurred,which is included as part of selling, general and administrative expenses.Advertising and marketing expenses were $0.1 million, $0.2 millionand $0.6 million in the fiscal years ended June 30, 2004, 2003 and2002 respectively.

 

*(m) Shipping and Handling Costs*

 

The Company includes fees billed to customers and costs incurredrelating to shipping and handling as a component of cost of sales as theamounts are considered insignificant.

 

*(n) Impairment of Long-Lived Assets*

 

The Company periodically reviews the value of long-lived assets andidentifiable intangibles, for impairment whenever events or changes incircumstances indicate that the carrying amount of such assets might not berecoverable. Events and circumstances that would trigger an impairment analysisinclude a significant decrease in the market value of an asset, a significantchange in the manner or extent that an asset is used including a decision toabandon acquired products, services or technologies, a significant adversechange in operations or business climate affecting the asset, and historicaloperating or cash flow losses expected to continue for the foreseeable futureassociated with the asset. When such an event occurs, management determineswhether there has been an impairment by comparing the anticipated undiscountedfuture net cash flows to the related asset’s carrying value. If an asset isconsidered impaired, the asset is written down to fair value, which isdetermined based either on discounted cash flows or appraised values, dependingon the nature of the asset.

 

66

----

 

*(o) Income Taxes*

 

The Company uses the asset and liability method of accounting forincome taxes. Deferred tax assets and liabilities are recognized for theestimated future tax consequences attributable to differences between thefinancial statement carrying amounts of existing assets and liabilities andtheir respective tax bases and net operating loss carryforwards. Deferred taxassets and liabilities are measured using enacted tax rates in effect for theyear in which those temporary differences are expected to be recovered orsettled. Valuation allowances are established when necessary to reduce deferredtax assets to the amounts expected to be realized.

 

*(p) Net Loss Per Share*

 

The denominator used in the computation of basic and diluted net lossper share is the weighted-average number of common shares outstanding for therespective period. For the years ended June 30, 2004, 2003 and 2002,1.2 million, 2.1 million and 0.3 million potential commonshares, respectively, were excluded from the calculation of diluted net lossper share, as the effect would be anti-dilutive. Stock options with exerciseprices greater than the average fair market price for a period, which aredefined as anti-dilutive, are not included in the calculation because of theiranti-dilutive effect. All stock options are anti-dilutive in the fiscal yearsended June 30, 2004, 2003 and 2002, respectively, due to the net lossesincurred in those years.

 

*(q) Stock-Based Compensation and Warrants for Goods and Services*

 

The Company accounts for its stock option plans and its Employee StockPurchase Plan in accordance with the provisions of Accounting Principles BoardOpinion 25, “Accounting for Stock Issued to Employees,” (“APB 25”), and relatedinterpretations whereby the difference between the exercise price and the fairvalue at the date of grant is recognized as compensation expense. Statement ofFinancial Accounting Standards No. 123, “Accounting for Stock-BasedCompensation,” (“SFAS No. 123”), established a fair value based method ofaccounting for stock-based plans. Companies that elect to account forstock-based compensation plans in accordance with APB 25 are required todisclose the pro forma net loss that would have resulted from the use of thefair value based method under SFAS No. 123.

 

Under SFAS No. 123, the Company is required to disclose the proforma effects on net loss and net loss per share as if the Company had electedto use the fair value approach to account for all of its employee stock-basedcompensation plans. Had compensation cost for the Company’s plans beendetermined consistently with the fair value approach described in SFASNo. 123, the Company’s pro forma net loss and pro forma net loss per sharefor the years ended June 30, 2004, 2003 and 2002 would have been changedas indicated below (in thousands, except per share amounts):

 
| ** **                                                                                                     | ** ** | **June 30,** | ** ** |
|----------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|
| ** **                                                                                                     | ** ** | **2004**          | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                                           |       |              |       |   |   |   |   |
| Net loss as reported                                                                                           |       | $                 | (6,723     | ) | $ | (28,264 | ) | $ | (64,325 | ) |
| Add: Stock-based employee compensation  expense included in the reported loss, net of related tax effects      |       | 17                |       | 194 |   | (227 | ) |
| Less: Stock-based employee compensation  expense using the fair value based method, net of related tax effects |       | (1,148            | )          | (1,368 | ) | (4,399 | ) |
| Pro forma net loss                                                                                             |       | $                 | (7,854     | ) | $ | (29,438 | ) | $ | (68,951 | ) |
|                                                                                                           |       |              |       |   |   |   |   |
| Net loss per share:                                                                                            |       |              |       |   |   |   |   |
| As reported                                                                                                    |       | $                 | (0.85      | ) | $ | (4.34 | ) | $ | (11.52 | ) |
|                                                                                                           |       |              |       |   |   |   |   |
| Pro forma                                                                                                      |       | $                 | (1.00      | ) | $ | (4.52 | ) | $ | (12.35 | ) |

 

67

----

 

The fair value of options granted was estimated on the date of grantusing the Black-Scholes option-pricing model with the followingweighted-average assumptions used for grants in 2004, 2003 and 2002:

 
| ** **                      | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** |
|---------------------------------|------------|----------|------------|----------|------------|----------|------------|
| Weighted average risk-free rate |       | 3.0      | %          | 1.4      | %          | 3.5      | %          |
| Expected life (years)           |       | 3.3      |       | 3.2      |       | 4.3      |       |
| Volatility                      |       | 192      | %          | 209      | %          | 286      | %          |
| Dividend yield                  |       | —   |       | —   |       | —   |       |

 

During fiscal 2004, 2003 and 2002, the Company granted options with aweighted-average fair value of approximately $3.21, $2.62 and $9.20.

 

Assumptions related to the Employee Stock Purchase Plan are notpresented as the related compensation expense amounts are insignificant.

 

Warrants issued for goods or services are valued at the fair value ofthe equity instrument using the Black-Scholes model or the goods or servicesreceived, whichever is more readily determinable.

 

*(r) Use of Estimates*

 

The preparation of consolidated financial statements in conformity withaccounting principles generally accepted in the United States of Americarequires management to make estimates and assumptions that affect the reportedamounts of assets and liabilities and disclosure of contingent assets andliabilities at the date of the consolidated financial statements and thereported amounts of revenues and expenses during the reporting period. Actualresults could differ from those estimates.

 

*(s) Accumulated Other Comprehensive Income (Loss)*

 

Accumulated other comprehensive income (loss) refers to revenues,expenses, gains and losses that are not included in net loss, but rather arerecorded directly in shareholders’ equity. For the year ended June 30,2004, other comprehensive income (loss) only reflected cumulative translationadjustments. The components of other comprehensive income (loss) for the yearsended June 30, 2003 and 2002 include cumulative translation adjustmentsand unrealized gains and losses on short-term investments.

 

*(t) Fair Value of Financial Instruments*

 

The carrying value of cash, cash equivalents, trade receivables,accounts payable and accrued expenses, and other current liabilitiesapproximate fair value due to the short maturity of those instruments. Thecarrying value of the notes payable and short-term borrowings approximate fairvalue based upon the borrowing rates currently available to the Company forloans with similar terms.

 

68

----

 

*(u) Recent Accounting Pronouncements*

 

In January 2003, the Financial Accounting Standards Board (“FASB”)issued Interpretation No. 46 (“FIN 46”), Consolidation of Variable InterestEntities, an Interpretation of ARB No. 51, which addresses how a businessenterprise should evaluate whether it has a controlling interest in an entitythrough means other than voting rights and accordingly should consolidate theentity. FIN 46R, which was issued in December 2003, replaces FIN 46. Beforeconcluding that it is appropriate to apply ARB 51 voting interest consolidationmodel to an entity, an enterprise must first determine that the entity is not avariable interest entity. As of the effective date of FIN 46R, an enterprisemust evaluate its involvement with all entities or legal structures createdbefore February 1, 2003, to determine whether consolidation requirements of FIN46R apply to those entities — there is no grand-fathering of existing entities.Public companies must apply either FIN 46 or FIN 46R immediately to entitiescreated after January 31, 2003, no later than the end of the first reportingperiod that ends after December 15, 2003 to entities considered to be specialpurpose entities and no later than the first reporting period that ends afterMarch 15, 2004 for all other entities. The Company had no variable interestentities as of June 30, 2004.

 

In April 2004, the EITF issued Statement No. 03-06 (“EITF 03-06”),*Participating Securities and the Two-Class Methodunder FASB Statement No. 128, Earnings Per Share.*EITF 03-06addresses a number of questions regarding the computation of earnings per shareby companies that have issued securities other than common shares thatcontractually entitle the holder to participate in dividends and earnings ofthe company when, and if, it declares dividends on its common shares. The issuealso provides further guidance in applying the two-class method of calculatingearnings per share once it is determined that a security is participating,including how to allocate undistributed earnings to such a security. EITF 03-06is effective for fiscal periods beginning after March 31, 2004. Theadoption of EITF 03-06 did not have a material effect on the Company’sconsolidated financial statements.

 

69

----

 

**(2) Cash and Cash Equivalents**

 

*(a) Cash and cash equivalents consisted of the following (inthousands):*

 
| ** **         | ** ** | **June 30,** | ** ** |
|--------------------|------------|-------------------|------------|
| ** **         | ** ** | **2004**          | ** ** | **2003** | ** ** |
| Cash               |       | $                 | 5,350      |   | $ | 4,015 |   |
| Money market funds |       | —            |       | 356 |   |
|               |       | $                 | 5,350      |   | $ | 4,371 |   |

 

*(b) Restricted cash:*

 

The Company maintains stand-by letters of credit in the amount of$0.6 million as collateral on the leased facility in Mountain View andcustomer guarantees, which are restricted for use. As of June 30, 2004,$0.4 million and $0.2 million are classified as short-term and longterm, respectively, on the accompanying consolidated balance sheets.

 

**(3) Inventories, net**

 

Inventories consisted of the following (in thousands):

 
| ** **                       | ** ** | **June 30,** | ** ** |
|----------------------------------|------------|-------------------|------------|
| ** **                       | ** ** | **2004**          | ** ** | **2003** | ** ** |
| Work in process                  |       | $                 | 5,460      |   | $ | 4,634 |   |
| Finished goods                   |       | 1,332             |       | 1,423 |   |
| Inventory held at subcontractors |       | 1,197             |       | 2,001 |   |
|                             |       | $                 | 7,989      |   | $ | 8,058 |   |

 

**(4) Property and Equipment, net**

 

Property and equipment consisted of the following (in thousands):

 
| ** **                                      | ** ** | **June 30,** | ** ** |
|-------------------------------------------------|------------|-------------------|------------|
| ** **                                      | ** ** | **2004**          | ** ** | **2003** | ** ** |
| Machinery and equipment                         |       | $                 | 12,597     |   | $ | 12,042 |   |
| Computer equipment                              |       | 4,970             |       | 5,530 |   |
| Furniture and fixtures                          |       | 390               |       | 412 |   |
| Leasehold improvements                          |       | 205               |       | 182 |   |
|                                            |       | 18,162            |       | 18,166 |   |
| Less accumulated depreciation and  amortization |       | (15,415           | )          | (13,845 | ) |
|                                            |       | $                 | 2,747      |   | $ | 4,321 |   |

 

Depreciation expense including property and equipment under capitalleases was $2.1 million, $3.1 million and $5.3 million in thefiscal years ended June 30, 2004, 2003 and 2002, respectively.

 

Assets held under capital leases consisted of the following (inthousands):

 

 
| ** **                    | ** ** | **June 30,** | ** ** |
|-------------------------------|------------|--------------|------------|
| ** **                    | ** ** | **2004**     | ** ** | **2003** | ** ** |
|                          |       |         |       |   |   |
| Machinery and equipment       |       | $            | 1,784      |   | $ | 1,784 |   |
| Less accumulated amortization |       | (1,249       | )          | (892 | ) |
|                          |       | $            | 535        |   | $ | 892 |   |
|                               |            |              |            |  |  |  |  |  |

 

                Amortization expense for assets held undercapital leases was $0.4 million, $0.4 million and $0.4 million in the fiscalyears ended June 30, 2004, 2003 and 2002, respectively.

 

70

----

 

**(5) Accrued Expenses**

 

Accrued expenses consisted of the following (in thousands):

 
| ** **                                    | ** ** | **June 30,** | ** ** |
|-----------------------------------------------|------------|-------------------|------------|
| ** **                                    | ** ** | **2004**          | ** ** | **2003** | ** ** |
| Accrued purchase commitments                  |       | $                 | 37         |   | $ | 697 |   |
| Qualcomm license                              |       | 978               |       | 1,289 |   |
| Accrued acquisition contingent  consideration |       | —            |       | 345 |   |
| Accrued professional service expenses         |       | 801               |       | 590 |   |
| Other                                         |       | 1,467             |       | 2,771 |   |
|                                          |       | $                 | 3,283      |   | $ | 5,692 |   |

 

**(6) Acquisitions**

 

There were no acquisition activities in fiscal 2004.

 

In September 2002, the Company completed the purchase ofsubstantially all of the assets of GBase Communications, a developer ofCDMA2000 base station systems and packet data servicing nodes for thirdgeneration markets under a license from Qualcomm, Inc. The purchase wasaccounted for as an acquisition of assets.

 

Under the asset purchase agreement, the Company acquired substantiallyall of GBase’s assets and assumed most of its liabilities for an initialpurchase price of 0.32 million common shares of Interwave at $20 pershare. An additional 0.02 million common shares were placed in escrow infiscal 2003 pending the satisfaction of certain contingencies. Contingentconsideration of 0.08 million common shares was placed in escrow and wassubsequently released in fiscal 2004 as a result of the continued employment ofkey GBase personnel for periods of 12 and 18 months following the assetpurchase.

 

In addition, if the average of the closing share price for our commonshares during the last calendar quarter of 2003 were to fall belowapproximately $20 per share, the Company would be obligated to issue additionalcontingent consideration in common shares and cash, such that the totalconsideration at that time would equal $6.7 million. In fiscal 2004, theCompany issued 0.9 million common shares to the GBase Liquidating Trust, thesuccessor-in-interest to GBase, as additional contingent shares considerationand accrued $0.7 million as additional cash consideration, which the Companysubsequently negotiated and settled payment by issuing common shares at fairmarket value equal to the cash consideration previously accrued. As ofJune 30, 2004, 1,265,847 common shares have been issued fromSeptember 2002 through June 2004 for a total consideration of $7.0million.

 

The following table summarizes the consideration paid and allocation ofpurchase price for GBase (in thousands):

 

| Acquisition costs       |   | $      | 288    |   |
|-------------------------|--------|--------|--------|--------|
| Liabilities assumed     |   | 705    |   |
| Common shares issued    |   | 5,988  |   |
|                    |   | $      | 6,981  |   |
|                    |   |   |   |
| Other intangible assets |   | $      | 123    |   |
| Qualcomm licenses       |   | 1,403  |   |
| Purchased technology    |   | 5,455  |   |
|                    |   | $      | 6,981  |   |

 

71

----

The value of the contingent consideration of $0.3 million and$0.1 million were recognized ratably as stock compensation expense overthe 12 and 18 months following the asset purchase, respectively. For theyears ended June 30, 2004 and 2003, $0.1 million and $0.3 millionrelated to this contingent consideration. This was recognized as compensationexpense and classified as research and development expenses in the accompanyingcondensed consolidated statements of operations. Purchased technology is amortizedover the estimated useful life of four years and classified asamortization of intangible assets, which is included in cost of revenue.

 

In October 2002, the Company entered into a licensing agreementwith Telos Technology Ltd (“Telos”). Under the agreement, the Companygranted a perpetual license to Telos to use certain technology acquired in theGBase acquisition for consideration of $2 million. The $2 millionreceived was offset against the cost of GBase’s purchased technology. Therewere no acquisition activities in fiscal 2002.

 

**(7) Goodwill and Intangible Assets**

 

The Company adopted Statement of Financial Accounting Standard No. 141(“SFAS No. 141”), “Business Combinations” and No. 142 (“SFAS No. 142”),“Goodwill and Other Intangible Assets” as of July 1, 2002. SFAS No. 141requires that the purchase method of accounting be used for all businesscombinations initiated after June 30, 2001. SFAS No. 141 also specifiescriteria that intangible assets acquired in a purchase method must meet to berecognized and reported apart from goodwill. Under SFAS No. 142, goodwill is no longer amortized but reviewed forimpairment annually or more frequently if certain indicators arise.

 

Prior to the adoption of SFAS No. 142, the Company amortizedgoodwill on a straight-line basis over an estimated useful life offour years. Had the Company accounted for goodwill consistent with theprovisions of SFAS No. 142 in prior periods, the Company’s net loss wouldhave been affected as follows (in thousands, except per share amounts):

 

| ** **                                                       | ** ** | **Fiscal Years Ended** | ** ** |
|------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                       | ** ** | **2004**               | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                             |       |                   |       |   |   |   |   |
| Net loss                                                         |       | $                      | (6,723     | ) | $ | (28,264 | ) | $ | (64,325 | ) |
| Add back: Goodwill amortization                                  |       | —                 |       | — |   | 2,326 |   |
| Adjusted net loss                                                |       | $                      | (6,723     | ) | $ | (28,264 | ) | (61,999 | ) |
| Basic and diluted loss per share:                                |       |                   |       |   |   |   |   |
| Net loss                                                         |       | $                      | (0.85      | ) | $ | (4.34 | ) | $ | (11.52 | ) |
| Goodwill amortization                                            |       | —                 |       | — |   | 0.42 |   |
| Adjusted net loss                                                |       | $                      | (0.85      | ) | $ | (4.34 | ) | $ | (11.10 | ) |
|                                                             |       |                   |       |   |   |   |   |
| Weighted average common shares used in  computing loss per share |       | 7,892                  |       | 6,508 |   | 5,583 |   |
|                                                                  |            |                        |            |  |  |  |  |  |  |  |  |

 

As of June 30, 2004, intangible assets consisted of a QualcommCDMA2000 license and purchased technology acquired in our asset purchase ofGBase Communications in September 2002. Cumulative consideration for thepurchased technology of $7.0 million includes consideration related tocontingencies that were determined and settled in fiscal 2004. The purchasedtechnology is being amortized over four years through amortization ofintangible assets. Additionally, in March 2003, the Company expanded itsagreement with Qualcomm to include a worldwide CDMA infrastructure license. Theexpanded license grants the Company the right to develop, make and sellinfrastructure equipment based on Qualcomm’s CDMAOne and CDMA2000 1X/1xEV-DOtechnology. Accordingly, the Company recorded an additional license value at$2.5 million. The Qualcomm license is amortized through amortization ofintangible assets based on the greater of the straight-line amortization overfive years or units sold basis.

 

72

----

 

The following table reflects the gross carrying amount and accumulatedamortization of the Company’s intangible assets by major asset class on theconsolidated balance sheet as follows (in thousands):

 

| ** **                           | ** ** | **Fiscal Years Ended** | ** ** |
|--------------------------------------|------------|------------------------|------------|
| ** **                           | ** ** | **2004**               | ** ** | **2003** | ** ** |
| Patents and other intangible assets: |       |                   |       |   |   |
|                                 |       |                   |       |   |   |
| Gross carrying amount                |       | $                      | 6,918      |   | $ | 6,918 |   |
| Accumulated amortization             |       | (3,531                 | )          | (2,459 | ) |
| Net carrying amount                  |       | $                      | 3,387      |   | $ | 4,459 |   |

 

| ** **               | ** ** | **Fiscal Years Ended** | ** ** |
|--------------------------|------------|------------------------|------------|
| ** **               | ** ** | **2004**               | ** ** | **2003** | ** ** |
| Purchased technology:    |       |                   |       |   |   |
|                     |       |                   |       |   |   |
| Gross carrying amount    |       | $                      | 6,194      |   | $ | 5,416 |   |
| Accumulated amortization |       | (3,574                 | )          | (2,725 | ) |
| Net carrying amount      |       | $                      | 2,620      |   | $ | 2,691 |   |

 

Aggregate amortization expense is as follows (in thousands):

 

|   | **Year ending June 30,** | ** ** | ** ** | ** ** | ** ** |   |
|--------|-------------------------------|------------|------------|------------|------------|--------|
|   | 2004                          |       | $          | 1,922      |       |   |   |
|   | 2003                          |       | 1,685      |       |       |   |
|   | 2002                          |       | 6,085      |       |       |   |
|        |                               |            |            |            |            |        |  |

 

Estimated future amortization expense is as follows (in thousands):

 

|   | **Year  ending June 30,**              | ** ** | ** ** | ** ** |   |   |
|--------|---------------------------------------------|------------|------------|------------|--------|--------|
|   |                                        |       |       |       |   |   |
|   | 2005                                        |       | $          | 2,149      |   |   |   |
|   | 2006                                        |       | 2,090      |       |   |   |
|   | 2007                                        |       | $          | 1,398      |   |   |   |
|   | 2008                                        |       | 355        |       |   |   |
|   | 2009                                        |       | 15         |       |   |   |
|   | Total estimated future amortization expense |       | $          | 6,007      |   |   |   |

 

(**8) Impairment of Goodwill, Intangible Assets andFixed Assets**

 

As indicated in Note 1, the Company periodically reviews the value oflong-lived assets and identifiable intangibles for impairment whenever eventsor changes in circumstances indicate that the carrying amount of such assetsmight not be recoverable. As part of the Company’s review of our year-endresults, we performed an impairment analysis of identifiable intangible assetsrecorded in connection with previous long-lived assets. The assessments wereperformed in accordance with accounting guidance and due to the continuingsoftening of the global economy and the telecommunications industry inparticular, the continuing operating losses, the absence of positive cashflows, previous continuing decline in our stock price, previous net assetsexceeding our market capitalization, and the previous overall decline inindustry growth rates which indicate that this trend may continue for anindefinite period. As a result of these reviews, we recorded approximately$19.6 million in asset impairment charges for the year ended June 30,2002.

 

For fiscal 2004, the Company completed two transactions with anindependent party, whereby it provided an asset license agreement and soldcertain assets which had been previously charged off to impairment and recordeda gain

 

73

----

 

on sale of $0.8 million. For fiscal 2003, the $83 thousandimpairment charge was to write down the net book value of primarily computerequipment and leasehold improvements, which were no longer in use.Additionally, the Company recorded $0.2 million net gain from the sale ofcertain assets. For fiscal 2002, $16.7 million was to write off the netbook value of goodwill and property and equipment from Interwave’s acquisitionof Wireless, Inc., as well as an additional $2.9 million to write offWireless, Inc.’s inventories, which was charged to cost of revenues.

 
| **Fiscal  2003**           | ** ** | **Balance at  June 30, 2002** | ** ** | **Additions/  (Disposals/Usage)** | ** ** | **Depreciation/  Amortization** | ** ** | **Losses (Gains) on  Asset Sales and Asset  Impairments, Net** | ** ** | **Balance at  June 30, 2003** | ** ** |
|----------------------------|------------|------------------------------------|------------|-----------------------------------|------------|---------------------------------|------------|----------------------------------------------------------------|------------|------------------------------------|------------|
|                       |       |                               |       |                              |       |                            |       |                                                           |       |                               |       |
| Property and Equipment(1): |       |                               |       |                              |       |                            |       |                                                           |       |                               |       |
| Interwave                  |       | $                                  | 8,045      |                              | $          | —                          |       | $                                                              | (7,962     | )                                  | $          | 83 |   | $ | — |   |
|                       |       | $                                  | 8,045      |                              | $          | —                          |       | $                                                              | (7,962     | )                                  | $          | 83 |   | $ | — |   |

 

74

----

 
| **Fiscal  2002**           | ** ** | **Balance at  June 30, 2001** | ** ** | **Additions/  (Disposals/Usage)** | ** ** | **Depreciation/  Amortization** | ** ** | **Losses (Gains) on  Asset Sales and Asset  Impairments, Net** | ** ** | **Balance at  June 30, 2002** | ** ** |
|----------------------------|------------|------------------------------------|------------|-----------------------------------|------------|---------------------------------|------------|----------------------------------------------------------------|------------|------------------------------------|------------|
| Intangible assets(1):      |       |                               |       |                              |       |                            |       |                                                           |       |                               |       |
| Wireless, Inc.             |       | $                                  | 21,624     |                              | $          | 891                             |       | $                                                              | (6,517     | )                                  | $          | 15,998 |   | $ | — |   |
| Inventories(2):            |       |                               |       |                              |       |                            |       |                                                           |       |                               |       |
| Wireless, Inc.             |       | 5,222                              |       | (1,972                            | )          | —                          |       | 2,916                                                          |       | 334                                |       |
| Property and Equipment(1): |       |                               |       |                              |       |                            |       |                                                           |       |                               |       |
| Wireless, Inc.             |       | 2,804                              |       | (843                              | )          | (1,302                          | )          | 659                                                            |       | —                             |       |
|                       |       | $                                  | 29,650     |                              | $          | (1,924                          | )          | $                                                              | (7,819     | )                                  | $          | 19,573 |   | $ | 334 |   |

 

----

(1)                                Theimpairment for intangible assets and property and equipment was charged tolosses (gains) on asset sales and asset impairments, net.

 

(2)                                Theimpairment for inventories was charged to cost of revenues.

 

The write-downs to estimated fair value were based upon the estimatedfuture discounted cash flows from operations and estimated terminal values ofthe businesses.

 

**(9) Restructuring**

 

The Company’s restructuring accrual as of June 30, 2004 and 2003is summarized as follows (in thousands):

 
| **Fiscal  2004**                                       | ** ** | **Restructuring  Accrual as of  June 30, 2003** | ** ** | **Additions/  Reversals** | ** ** | **Payments** | ** ** | **Restructuring  Accrual as of  June 30, 2004** | ** ** |
|--------------------------------------------------------|------------|------------------------------------------------------|------------|---------------------------|------------|--------------|------------|------------------------------------------------------|------------|
| Future lease payments related to abandoned  facilities |       | $                                                    | 1,765      |                      | $          | 471          |       | $                                                    | (886       | ) | $ | 1,350 |   |
| Workforce reduction                                    |       | 150                                                  |       | 305                       |       | (389         | )          | 66                                                   |       |
| Total                                                  |       | $                                                    | 1,915      |                      | $          | 776          | *          | $                                                    | (1,275     | ) | $ | 1,416 |   |

 

----

*                                         Restructuringcharges in the consolidated statement of operations for the fiscal year endedJune 30, 2004 include this addition to the restructuring accrual.

 

During fiscal 2004, the Company reduced its workforce by an additional16 employees worldwide and vacated certain facilities. As a result, the Companyrecorded restructuring expense related to severance payments and future leasecommitments and recorded a charge of $0.8 million.

 
| **Fiscal  2003**                                       | ** ** | **Restructuring  Accrual as of  June 30, 2002** | ** ** | **Additions/  Reversals** | ** ** | **Payments** | ** ** | **Restructuring  Accrual as of  June 30, 2003** | ** ** |
|--------------------------------------------------------|------------|------------------------------------------------------|------------|---------------------------|------------|--------------|------------|------------------------------------------------------|------------|
| Future lease payments related to abandoned  facilities |       | $                                                    | 747        |                      | $          | 2,300        |       | $                                                    | (1,282     | ) | $ | 1,765 |   |
| Workforce reduction                                    |       | 35                                                   |       | 902                       |       | (787         | )          | 150                                                  |       |
| Total                                                  |       | $                                                    | 782        |                      | $          | 3,202        | *          | $                                                    | (2,069     | ) | $ | 1,915 |   |

 

----

*                                         Restructuringcharges in the consolidated statement of operations for the fiscal year endedJune 30, 2003 include this addition to the restructuring accrual plus anamount of $283 thousand representing the net book value of property andequipment written off upon closure of facilities.

 

75

----

 

During fiscal 2003, the Company reduced its workforce by an additional133 employees and closed certain facilities. As a result, the Company recordedrestructuring expense related to severance payments and future leasecommitments and recorded a charge of $3.5 million.

 

In September 2003, Interwave renegotiated all remainingobligations under its lease agreement for the Menlo Park, California facilityin exchange for monthly payments of $0.1 million for the next19 months beginning October 2003 for a total of $1.9 million. Thediscounted value of $1.8 million is included on the accompanyingconsolidated balance sheet in accrued restructuring expenses. The remainingworkforce reduction accrual of $0.2 million was paid out byDecember 2003.

 
| **Fiscal  2002**                                       | ** ** | **Restructuring  Accrual as of  June 30, 2001** | ** ** | **Additions/  Reversals** | ** ** | **Payments** | ** ** | **Restructuring  Accrual as of  June 30, 2002** | ** ** |
|--------------------------------------------------------|------------|------------------------------------------------------|------------|---------------------------|------------|--------------|------------|------------------------------------------------------|------------|
| Future lease payments related to abandoned  facilities |       | $                                                    | 5,986      |                      | $          | (3,494       | )          | $                                                    | (1,745     | ) | $ | 747 |   |
| Abandoned leasehold improvements                       |       | 595                                                  |       | (595                      | )          | —       |       | —                                               |       |
| Workforce reduction                                    |       | —                                               |       | 855                       |       | (820         | )          | 35                                                   |       |
| Total                                                  |       | $                                                    | 6,581      |                      | $          | (3,234       | )**        | $                                                    | (2,565     | ) | $ | 782 |   |

 

----

**                                  Restructuring creditsin the consolidated statement of operations for the fiscal year endedJune 30, 2002 include this reduction of the restructuring accrual less anamount of $614 thousand representing renegotiated lease terminationpayments and an amount of $634 thousand representing the net book value ofleasehold improvements ultimately proving to not be abandoned.

 

During fiscal 2002, the Company reduced its workforce by 107 employees,and closed certain facilities. As a result, the Company recorded arestructuring expense related to severance payments and future leasecommitments and recorded an additional charge of $0.9 million.

 

Also in fiscal 2002, the Company negotiated and signed a leasetermination agreement, which reduced the Company’s operating lease commitmentsignificantly over the next three years. The actual termination agreementdiffered from the estimate and resulted in a reduction of the lease lossaccrual and accordingly the Company reversed $2.9 million as arestructuring credit in the accompanying consolidated statements of operations.

 

**(10) Accrued Warranty and Related Costs**

 

The Company offers a basic limited parts and labor warranty on itshardware products. The basic warranty period for hardware products is typicallyone year from the date of shipment to the end user. The Company providescurrently for the estimated costs that may be incurred under its basic limitedproduct warranties at the time related revenue is recognized. Factors indetermining appropriate accruals for product warranty obligations include thesize of the installed base of products subject to warranty protection,historical warranty claim rates, and knowledge of specific product failuresthat are outside of the Company’s typical experience. The Company assesses theadequacy of its warranty liability at least quarterly and adjusts the amountsas necessary based on actual experience and changes in future expectations.During fiscal year ended June 30, 2004, the Company reduced its overallreserve balance due to low warranty claims and cost history.

 

The following table reconciles changes in the Company’s accruedwarranty which is included in accrued expenses and related costs for the yearsended June 30, 2004, 2003 and 2002:

 

| ** **                                    | ** ** | **Fiscal Years Ended** | ** ** |
|-----------------------------------------------|------------|------------------------|------------|
| ** **                                    | ** ** | **2004**               | ** ** | **2003** | ** ** | **2002** | ** ** |
| Beginning accrued warranty and related  costs |       | $                      | 569        |   | $ | 644 |   | $ | 803 |   |
| Cost of warranty claims                       |       | (58                    | )          | (75 | ) | (159 | ) |
| Adjustment to warranty reserve                |       | (310                   | )          | — |   | — |   |
| Ending accrued warranty and related costs     |       | $                      | 201        |   | $ | 569 |   | $ | 644 |   |

 

76

----

 

**(11) Income Taxes**

 

Income tax benefit (expense) for the fiscal years ended June 30,2004, 2003 and 2002 consisted of the following (in thousands):

 

| ** **   | ** ** | **Current** | ** ** | **Deferred** | ** ** | **Total** | ** ** |
|--------------|------------|-------------|------------|--------------|------------|-----------|------------|
|         |       |        |       |         |       |      |       |
| **2004:**    |       |        |       |         |       |      |       |
| U.S. Federal |       | —      |       | —       |       | —    |       |
| Foreign      |       | $           | 139        |         | —     |      | 139        |   |
| Total        |       | $           | 139        |         | —     |      | $          | 139 |   |
|         |       |        |       |         |       |      |       |
| **2003:**    |       |        |       |         |       |      |       |
| U.S. Federal |       | $           | —     |         | $          | —    |       | $ | — |   |
| Foreign      |       | (267        | )          | —       |       | (267      | )          |
| Total        |       | $           | (267       | )            | $          | —    |       | $ | (267 | ) |
|         |       |        |       |         |       |      |       |
| **2002:**    |       |        |       |         |       |      |       |
| U.S. Federal |       | $           | —     |         | $          | —    |       | $ | — |   |
| Foreign      |       | (209        | )          | —       |       | (209      | )          |
| Total        |       | $           | (209       | )            | $          | —    |       | $ | (209 | ) |

 

The reconciliation between the amountcomputed by applying the U.S. Federal statutory tax rate of 34% to net lossbefore income taxes and the actual provision for income taxes follows (inthousands):

 

| ** **                                                                       | ** ** | **June 30,** | ** ** |
|----------------------------------------------------------------------------------|------------|-------------------|------------|
| ** **                                                                       | ** ** | **2004**          | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                             |       |              |       |   |   |   |   |
| Income tax benefit at statutory rate                                             |       | $                 | (2,333     | ) | $ | 9,519 |   | $ | 21,800 |   |
| Non-U.S. income taxed at rate other than  the U.S. federal rate                  |       | (278              | )          | 51 |   | 112 |   |
| Losses in a zero tax jurisdiction                                                |       | 3,302             |       | (3,432 | ) | (10,664 | ) |
| Net losses and temporary differences for  which no current benefit is recognized |       | (587              | )          | (6,370 | ) | (11,421 | ) |
| Other                                                                            |       | 35                |       | (35 | ) | (36 | ) |
|                                                                             |       | $                 | 139        |   | $ | (267 | ) | $ | (209 | ) |

 

77

----

 

The tax effects of temporary differences thatgive rise to significant portions of deferred tax assets are as follows (inthousands):

 

| ** **                                  | ** ** | **June 30,** | ** ** |
|---------------------------------------------|------------|-------------------|------------|
| ** **                                  | ** ** | **2004**          | ** ** | **2003** | ** ** |
| Deferred tax assets:                        |       |              |       |   |   |
| Technology asset                            |       | $                 | —     |   | $ | 240 |   |
| Inventory reserve                           |       | 3,391             |       | 5,546 |   |
| Allowance for doubtful accounts             |       | 415               |       | — |   |
| Accruals and reserves                       |       | 1,653             |       | 2,936 |   |
| Net operating loss carryforwards            |       | 71,019            |       | 67,203 |   |
| Research and other tax credit carryforwards |       | 10,541            |       | 10,975 |   |
| Property and equipment                      |       | 1,015             |       | 535 |   |
| Total gross deferred tax assets             |       | 88,034            |       | 87,435 |   |
| Less valuation allowance                    |       | (88,034           | )          | (87,435 | ) |
| Total deferred tax assets                   |       | $                 | —     |   | $ | — |   |

 

The total valuation allowance as of June 30,2004, 2003 and 2002 represented an increase of $0.6 million, $4.9 million and$40.8 million from the respective prior year balances.  Management believes that sufficientuncertainty exists regarding the future realization of deferred tax assets and,accordingly, a valuation allowance is required.

 

The Company has net operating loss carryforwards for federal andCalifornia income tax return purposes of approximately $195.6 million and$115.7 million, respectively. The U.S. federal net operating losses expirebeginning in 2011 through 2025. California net operating loss carryforwardswill expire beginning 2006 through 2016.

 

The Company also has research credit carryforwards for U.S. federal andCalifornia income tax return purposes of approximately $5.3 million and $4.4million, respectively. The federal research credit carryforwards will expirebeginning in 2011 through 2025. California research credits carry forwardindefinitely until utilized. The Company has California manufacturer’sinvestment credit carryforwards of approximately $0.9 million, whichexpire in 2006 through 2013.

 

**(12) Lines of Credit**

 

The Company maintains a credit facility for a European subsidiary withRoyal Bank of Scotland. The facility carries an interest rate of New York LIBOR+3% payable monthly, with quarterly repayment of principal over three years.Collateral is based on specific receivables and certain assets of the Company’sEuropean subsidiary. As of June 30, 2004 and 2003, the outstandingbalances were $30 thousand and $0.2 million, respectively. Thiscredit facility expired in  September,2004.

 

In June 2003, the Company obtained a revolving line of credit inthe amount of $1.0 million from Silicon Valley Bank at an interest rate of1.5% monthly on gross accounts receivable outstanding. In September 2003,the availability under the line of credit was increased to $2.5 million.In June 2004, the agreement was amended to provide for automatic one-yearrenewal unless terminated by written notice of either party and the nominalinterest rate was reduced to 0.85% monthly on gross accounts receivableoutstanding. The line of credit is available through June 30, 2005. As ofJune 30, 2004 and 2003, $2.1 million and $1.0 million, respectively, wasoutstanding on the line of credit. Repayment is required when a specificreceivable is 90 days past due unless replenished by a more currentreceivable.

 

78

----

 

In June 2004, the Company obtained a revolving line of credit upto $1.5 million from Partners for Growth, or PFG, at a monthly interest rate of1.5% and which was not to exceed the lower of the dollar credit limit or anamount equal to sum of 80% of the Company’s eligible current domestic andforeign accounts receivable, 100% of the Company’s eligible supported lettersof credit, 75% of the Company’s eligible purchase orders and 50% of theCompany’s eligible inventory, respectively. The line of credit was accompaniedby warrants to purchase 57,000 common shares of the Company. The warrants havean exercise price of $3.60 per share. The Company recorded $0.2 million to prepaid expense for the deemed fairvalue of the warrants. The value of the warrant will be expensed ratably overthe term of the line of credit. The line of credit is available throughJune 3, 2005. As of June 30, 2004, $1.5 million was outstanding onthe line of credit.  In September 2004,the Company borrowed the additional $2.0 million available under the line ofcredit.

 

The agreements with Silicon Valley Bank and PFG pledge substantiallyall of the Company’s assets including certain of its intellectual property infavor of the lenders.

 

**(13) Shareholders’ Equity**

 

*1994 Stock Plan*

 

The Company adopted the 1994 Stock Plan in July 1994. This planprovides for the grant of incentive stock options to employees, includingemployee directors, and non-statutory stock options and stock purchase rightsto employees, directors and consultants. As of June 30, 2004, the Companyhas reserved 0.38 million common shares for issuance under this plan.

 

Incentive share options may be granted at not less than 100% of thefair market value per share, and non-statutory share options may be granted atnot less than 85% of the fair market value per share at the date of grant asdetermined by the Board of Directors or committee thereof, except for optionsgranted to a person owning greater than 10% of the total combined voting powerof all classes of shares of the Company, for which the exercise price must notbe less than 110% of the fair market value. Share option plan shares generallyvest 25% after one year, with the remainder vesting monthly over the followingthree years. Additional options granted to existing employees afterJuly 28, 1998 are generally vesting monthly over four years.

 

Options generally have 10-year terms. However, options granted to anoptionee owning shares representing more than 10% of the voting power of allclasses of shares of the Company at grant date, generally have 5-year terms.

 

*1999 Option Plan*

 

The 1999 Option Plan provides for the grant of incentive stock optionsto employees and for the grant of non-statutory stock options and sharepurchase rights to employees, directors and consultants. Unless terminatedsooner, this option plan will terminate in 2009. As of June 30, 2004,1.27 million common shares are reserved for issuance under this stockoption plan. Similar to the 1994 Option Plan, shares generally vest 25% afterone year, with the remainder vesting monthly over the following three years,with 10-year expiration.

 

*2001 Supplemental Stock Option Plan*

 

During the year ended June 30, 2001, the Company adopted the 2001Supplemental Stock Option Plan, which provides for non-statutory stock optionsto be granted to employees and service providers of the Company, but excludesexecutive officers and members of the Board of Directors. As of June 30,2004, 0.4 million common shares are reserved for the 2001 SupplementalStock Option Plan. Similar to the 1994 Option Plan, shares generally vest 25%after one year, with the remainder vesting monthly over the following three years,with 10-year expiration.

 

The 1994 Stock Plan, the 1999 Option Plan and the 2001 SupplementalStock Option Plan are collectively known as the “Plan.”

 

79

----

 

A summary of the Company’s Plan activity is as follows:

 
| ** **                        | ** ** | **June 30,** | ** ** |
|-----------------------------------|------------|-------------------|------------|
| ** **                        | ** ** | **2004**          | ** ** | **2003** | ** ** | **2002** | ** ** |
| ** **                        | ** ** | **Shares**        | ** ** | **Weighted-  Average  Exercise Price** | ** ** | **Shares** | ** ** | **Weighted-  Average  Exercise Price** | ** ** | **Shares** | ** ** | **Weighted-  Average  Exercise Price** | ** ** |
| Outstanding at beginning of year. |       | 1,279,888         |       | $ | 17.61 |   | 1,109,125 |   | $ | 29.05 |   | 911,682 |   | $ | 43.70 |   |
| Granted                           |       | 487,350           |       | 3.21 |   | 558,900 |   | 2.62 |   | 518,700 |   | 9.20 |   |
| Exercised                         |       | (19,674           | )          | 2.52 |   | (1,066 | ) | 7.40 |   | (26,976 | ) | 7.40 |   |
| Canceled                          |       | (201,089          | )          | 21.94 |   | (387,071 | ) | 28.77 |   | (294,281 | ) | 42.50 |   |
| Outstanding at year-end           |       | 1,546,475         |       | 12.74 |   | 1,279,888 |   | 17.61 |   | 1,109,125 |   | 29.00 |   |
|                              |       |              |       |   |   |   |   |   |   |   |   |   |   |
| Options exercisable at year-end   |       | 670,338           |       | $ | 23.41 |   | 454,453 |   | $ | 31.25 |   | 398,229 |   | $ | 37.00 |   |

 

The following table summarizes information about share optionsoutstanding and exercisable under the Plan as of June 30, 2004:

 
| ** **                   | ** ** | **Outstanding**         | ** ** | **Exercisable**                                           | ** ** |
|------------------------------|------------|-------------------------|------------|-----------------------------------------------------------|------------|
| **Range of Exercise Prices** | ** ** | **Number  Outstanding** | ** ** | **Weighted-Average  Remaining Contractual  Life (Years)** | ** ** | **Weighted-Average  Exercise Price** | ** ** | **Number  Exercisable** | ** ** | **Weighted-Average  Exercise Price** | ** ** |
| $1.70-$1.90                  |       | 5,008                   |       | 8.63                                                      |       | $ | 1.76 |   | 3,438 |   | $ | 1.73 |   |
| $2.03-$2.03                  |       | 250,000                 |       | 8.85                                                      |       | $ | 2.03 |   | — |   | — |   |
| $2.18-$2.40                  |       | 242,132                 |       | 9.00                                                      |       | $ | 2.29 |   | 148,077 |   | $ | 2.34 |   |
| $2.51-$3.30                  |       | 87,408                  |       | 8.68                                                      |       | $ | 2.73 |   | 59,800 |   | $ | 2.76 |   |
| $3.34-$3.34                  |       | 294,977                 |       | 9.86                                                      |       | $ | 3.34 |   | 4,681 |   | $ | 3.34 |   |
| $3.37-$7.30                  |       | 155,648                 |       | 7.71                                                      |       | $ | 5.85 |   | 77,835 |   | $ | 6.51 |   |
| $7.50-$9.59                  |       | 171,999                 |       | 7.26                                                      |       | $ | 8.79 |   | 113,522 |   | $ | 8.74 |   |
| $9.60-$16.30                 |       | 165,437                 |       | 6.62                                                      |       | $ | 11.33 |   | 107,500 |   | $ | 11.89 |   |
| $19.69-$157.50               |       | 170,967                 |       | 6.16                                                      |       | $ | 72.81 |   | 152,607 |   | $ | 76.80 |   |
| $179.38-$258.13              |       | 2,899                   |       | 5.85                                                      |       | $ | 230.97 |   | 2,878 |   | $ | 231.34 |   |
| $1.70-$258.13                |       | 1,546,475               |       | 8.22                                                      |       | $ | 12.74 |   | 670,338 |   | $ | 23.41 |   |

 

As of June 30, 2004, the number of common shares available forgrant under the Plans was 203,846.

 

*1999 Employee Stock Purchase Plan*

 

The Company has a Employee Stock Purchase Plan, or ESPP, under whicheligible employees may authorize payroll deductions of up to 15% of theircompensation, as defined, to purchase common shares at a price of 85% of thelower of the fair market value as of the beginning or the end of the offeringperiod. As of June 30, 2004, 0.06 million common shares were available forissuance under the 1999 Employee Stock Purchase Plan.

 

The ESPP was adopted by the Board in September 1999 and approvedby the shareholders at the 1999 annual shareholders meeting inJanuary 2000. The amount of common shares reserved under the ESPP will beincreased automatically on the first day of each fiscal year in the amount ofthe lesser of 1% of the outstanding shares on such date or an amount determinedby the Board. During the fiscal year 2004, 0.07 million shares were added tothe reserve for the share purchases.

 

80

----

 

*Warrants*

 

In October 2002, the Company issued warrants to purchase0.2 million common shares to UTStarcom. The fair value of the warrant of$0.3 million was determined using the Black-Scholes pricing model with thefollowing assumptions: interest rate at 3.5%, volatility at 122%, exerciseprice at $2.10 and 3-year terms. The $0.3 million was charged to theconsolidated statement of operations as selling, general and administrativeexpenses.

 

In June 2004, the Company issued warrants to purchase 57,000common shares to Partners for Growth, L.P. in connection with a new line ofcredit. The warrant is exercisable immediately and expires in June 2011. Thefair value of the warrant of $0.3 million was determined using theBlack-Scholes option-pricing model with the following assumptions: interestrate of 4.3%, volatility at 121%, exercise price at $3.60 and a 7 year term.The $0.3 million was recorded as a prepaid expense and will be expensed ratablyover the term of the line of credit.

 

81

----

 

**(14) Transactions with Related Parties**

 

For the years ended June 30, 2004, 2003 and 2002, the Companyengaged in transactions with related parties resulting in the followingrevenue, deferred revenue, trade receivables and legal expenses (in thousands):

 
| ** **                              | ** ** | **2004** | ** ** | **2003** | ** ** | **2002**   | ** ** |
|-----------------------------------------|------------|----------|------------|----------|------------|------------|------------|
| Revenue:                                |       |     |       |     |       |       |       |
| Hutchison Telecommunications Group      |       | $        | 625        |     | $          | 1,297      |       | $ | 10,636 |   |
| Eastern Communications Co., Ltd.        |       | —   |       | 2,805    |       | 2,978      |       |
| Telos Engineering, Ltd.(3)              |       | 701      |       | —   |       | —     |       |
| Nortel Networks(1)                      |       | —   |       | —   |       | 164        |       |
|                                    |       | $        | 1,326      |     | $          | 4,102      |       | $ | 13,778 |   |
|                                    |       |     |       |     |       |       |       |
| Legal Expenses:                         |       |     |       |     |       |       |       |
| Wilson, Sonsini, Goodrich and Rosati(2) |       | $        | 445        |     | $          | 458        |       | $ | 255 |   |
|                                    |       |     |       |     |       |       |       |
| ** **                              | ** ** | **2004** | ** ** | **2003** | ** ** | ** ** | ** ** |
| Deferred Revenue:                       |       |     |       |     |       |       |       |
| Hutchison Telecommunications Group      |       | $        | 33         |     | $          | 22         |       |   |   |
| Eastern Communications Co., Ltd.        |       | 62       |       | 119      |       |       |       |
|                                    |       | $        | 95         |     | $          | 141        |       |   |   |
|                                    |       |     |       |     |       |       |       |
| ** **                              | ** ** | **2004** | ** ** | **2003** | ** ** | ** ** | ** ** |
| Trade Receivables:                      |       |     |       |     |       |       |       |
| Hutchison Telecommunications Group      |       | $        | 507        |     | $          | 601        |       |   |   |
| UT Starcom                              |       | 45       |       | —   |       |       |       |
| Eastern Communications Co., Ltd.        |       | 41       |       | 24       |       |       |       |
|                                    |       | $        | 593        |     | $          | 625        |       |   |   |

 

----

(1)                                  NortelNetworks is not a related company as of June 30, 2003.

 

(2)                                  MarioRosati, a member of the law firm Wilson Sonsini Goodrich & Rosati,P.C. was a member of the Company’s Board of Directors from May 2002 untilhe resigned in August 2003.

 

(3)                                  Teloswas acquired by UTStarcom in fiscal 2004.

 

**(15) Commitments and Contingencies**

 

*(a) Operating Lease Commitments*

 

The Company leases its facilities under non-cancelable operatingleases. These leases expire at various dates through December 2006. Futureminimum lease payments as of June 30, 2004 (including the former MenloPark and San Diego facilities discussed below) are as follows (in thousands):

 

| **Year  ending June 30,** | ** ** | ** ** | ** ** |
|--------------------------------|------------|------------|------------|
| 2005                           |       | $          | 1,863      |   |
| 2006                           |       | 734        |       |
| 2007                           |       | 17         |       |
| Total minimum lease payments   |       | $          | 2,614      |   |

 

82

----

 

In May 2003, the Company relocated its principal administrative,manufacturing and engineering facilities from its facility in Menlo Park,California to its main 34,500 square foot facility in Mountain View,California, which is also used for planning, procurement, final assembly,system testing, and quality control. The three-year lease commenced inMay 2003. The Company has the option to extend the lease for three yearsat the end of its original term.

 

The Company vacated its Menlo Park, California facility and inSeptember 2003, it renegotiated all remaining obligations under its leaseagreement for the Menlo Park, California facility in exchange for monthlypayments of $0.1 million for the next 19 months beginningOctober 2003 for a total of $1.9 million. The remaining unpaiddiscounted value of $1.8 million is included in the accompanyingconsolidated balance sheet as accrued restructuring expense. The Companyvacated its San Diego facility in April 2004 and is obligated to monthlypayments of $17.6 thousand  for the next23 months for a total of $405 thousand through May 2006. The remaining unpaiddiscounted value of $324 thousand is included in the consolidated balance sheetas of June 30, 2004 as accrued restructuring expense.

 

Rent expense was approximately $1.2 million, $2.2 million and$3.5 million for the years ended June 30, 2004, 2003 and 2002,respectively.

 

*(b) Capital Lease Commitments*

 

The Company has two capital leases with GE Capital. These leases expirein December 2004 and February 2005. Aggregate future minimum leasepayments as of June 30, 2004 are as follows (in thousands):

 

| **Year  ending June 30,**                 | ** ** | ** ** | ** ** |
|------------------------------------------------|------------|------------|------------|
| 2005                                           |       | $          | 316        |   |
| Less amount representing interest              |       | (8         | )          |
| Present value of payments under capital  lease |       | 308        |       |
| Less current portion                           |       | (308       | )          |
| Long-term portion of capital lease  obligation |       | $          | —     |   |

 

*(c) Future Qualcomm License Payments*

 

Future payments due Qualcomm totalling $978,000 for a worldwide CDMAinfrastructure license are recorded in accrued expenses on the consolidatedbalance sheet as of June 30, 2004, net of interest imputed at a rate of10% per annum and are expected to be paid in full in fiscal 2005.

 

*(d) Contract Manufacturers*

 

The Company generally commits to purchase products from its twocontract manufacturers to be delivered within the most recent 60 dayscovered by forecasts with cancellation fees. As of June 30, 2004, theCompany had committed to make purchases totaling $2.0 million from thesemanufacturers in the next 60 days. In addition, in specific instances, theCompany may agree to assume liability for limited quantities of specializedcomponents with lead times beyond this 60-day period. There are currently noassociated losses related to the purchase commitments.

 

As of June 30, 2004 and 2003, the Company has established anaccrual for purchase commitments of $37 thousand and $0.7 million,respectively, for excess inventory component commitments to key componentvendors that it believes may not be realizable during future normal ongoingoperations.

 

*(e) Investment Banker Services*

 

The Company has arrangements with itsinvestment bankers to compensate them for their services upon the issuance of afairness opinion and the completion of an acquisition transaction.  The compensation for those services is a baseof $1.6 million plus an additional percentage ranging from 1% to 1.5% of theaggregate proceeds received by the shareholders in an acquisition.

 

83

----

 

**(16) Litigation**

 

On November 21, 2001, the Company and various of its officers anddirectors were named as defendants in *Middleton v. InterwaveCommunications International Ltd., et al.*, CaseNo. 01-CV-10598, a purported securities class action lawsuit filed inUnited States District Court, Southern District of New York. On April 19,2002, plaintiffs filed an amended complaint. The amended complaint asserts thatthe prospectus from the Company’s January 28, 2000 initial public offering(“IPO”) failed to disclose certain alleged improper actions by various underwritersfor the offering in the allocation of IPO shares. The amended complaint allegesclaims against certain underwriters, the Company and its officers and directorsunder the Securities Act of 1933 and the Securities Exchange Act of 1934.Similar complaints have been filed concerning more than 300 other IPOs; thesecases have been coordinated as *In re Initial PublicOffering Securities Litigation*, 21 MC 92.

 

On July 15, 2002, the issuers filed an omnibus motion to dismissfor failure to comply with applicable pleading standards. On October 8,2002, the Court entered an Order of Dismissal as to all of the individualdefendants in the IPO litigation, without prejudice. On February 19, 2003,the Court denied the motion to dismiss against the Company.

 

A  stipulation of settlement forthe claims against the issuer defendants, including Interwave, has beensubmitted to the Court for preliminary approval. Under the stipulation ofsettlement, the plaintiffs will dismiss and release all claims againstparticipating defendants in exchange for a contingent payment guaranty by theinsurance companies collectively responsible for insuring the issuers in allthe related cases, and the assignment or surrender to the plaintiffs of certainclaims the issuer defendants may have against the underwriters. Under theguaranty, the insurers will be required to pay the amount, if any, by which$1.0 billion exceeds the aggregate amount ultimately collected by theplaintiffs from the underwriter defendants in all the cases. There is no guaranteethat the settlement will become effective, as it is subject to a number ofconditions, including Court approval. If the settlement does not occur, andlitigation against the Company continues, the Company believes it hasmeritorious defenses and intends to defend the action vigorously; provided,however, such legal proceedings may be time consuming and expensive and theoutcome could be adverse to the Company. An adverse outcome could have amaterial adverse effect on the Company’s financial position, on its businessand results of operations.

 

Interwave may from time to time become a party to various legalproceedings arising in the ordinary course of business.

 

**(17) Employee Benefit Plans**

 

The Company maintains a 401(k) defined contribution benefit plan (the“Plan”) that covers all U.S. employees who have attained the age of at least20.5 years. This Plan allows employees to defer up to 100% of their pretaxsalary in certain investments at the discretion of the employee. Under thePlan, the Company provides for a discretionary 100% vested Employer MatchingContribution equal to 10% of the amount a participant elects to defer as anelective contribution to the Plan up to a maximum of $1,000 during a plan year.The Company had matching contributions to the Plan of  $0, $109,000 and $197,000 for the years endedJune 30, 2004, 2003 and 2002, respectively. In fiscal 2004, the Board ofDirectors elected not to fund the discretionary match. In fiscal 2003, the$109,000 match included a discretionary match of $64,000 and a $45,000 match of10% capped at $1,000 per participant.

 

**(18) Segment Information**

 

Statement of Financial Accounting Standard No. 131 (“SFAS No. 131”),“Disclosures about Segments of an Enterprise and Related Information”,establishes standards for the manner in which public companies reportinformation about operating segments in annual and interim financialstatements. It also establishes standards for related disclosures aboutproducts and services, geographic areas and major customers.

 

The method for determining what information to report is based on theway management organizes the operating segments within the Company for makingoperating decisions and assessing financial performance. Subsequent to theJune 2002 impairment of the Company’s Wireless, Inc. assets and thecontinued decline in the demand for Wireless, Inc.’s products, thefinancial information reviewed by the Company’s principal executive officer hasbeen identical to the information presented in the accompanying statements ofoperations. Accordingly, the Company has determined that effective July 1,2002, it operated in a single cellular segment. Cellular products provideinfrastructure equipment and software using cellular to support an entirewireless network within a single, compact enclosure.

 

84

----

 

Due to the nature of the Company’s business, shipments are frequentlymade to a systems integrator located domestically or in a given country, onlyto be repackaged and shipped to another country for actual installation.Geographic revenue information for the years ended June 30, 2004, 2003 and2002, is based on the Company’s customers’ locations. Long-lived assets includeproperty, plant and equipment. Property and equipment and intangible assetinformation is based on the physical location of the asset at the end of eachperiod presented.

 

85

----

 

Information for each product line is as follows (in thousands):

 
| ** **                               | ** ** | **Years Ended June 30,** | ** ** |
|------------------------------------------|------------|-------------------------------|------------|
| ** **                               | ** ** | **2004**                      | ** ** | **2003** | ** ** | **2002** | ** ** |
| *Net  Revenues*                          |       |                          |       |   |   |   |   |
| GSM:                                     |       |                          |       |   |   |   |   |
| United States                            |       | $                             | 6,276      |   | $ | 6,373 |   | $ | 4,149 |   |
| North America (other than United States) |       | 2,561                         |       | 1,522 |   | 1,967 |   |
| Latin America                            |       | 61                            |       | 521 |   | 9,860 |   |
| Europe, Middle East and Africa           |       | 27,133                        |       | 14,420 |   | 11,215 |   |
| Asia Pacific                             |       | 6,991                         |       | 6,104 |   | 7,836 |   |
| Total GSM                                |       | 43,022                        |       | 28,940 |   | 35,027 |   |
| CDMA:                                    |       |                          |       |   |   |   |   |
| United States                            |       | 709                           |       | 58 |   | — |   |
| North America (other than United States) |       | 694                           |       | 962 |   | — |   |
| Japan                                    |       | 42                            |       | — |   | — |   |
| Total CDMA                               |       | 1,445                         |       | 1,020 |   | — |   |
| Broadband:                               |       |                          |       |   |   |   |   |
| United States                            |       | —                        |       | — |   | 1,390 |   |
| Latin America                            |       | —                        |       | — |   | 5,058 |   |
| Europe, Middle East and Africa           |       | —                        |       | — |   | 1,051 |   |
| Asia Pacific                             |       | —                        |       | — |   | 429 |   |
| Total Broadband                          |       | —                        |       | — |   | 7,928 |   |
|                                     |       | $                             | 44,467     |   | $ | 29,960 |   | $ | 42,955 |   |
|                                     |       |                          |       |   |   |   |   |
| *Net  Revenues By Product Type*          |       |                          |       |   |   |   |   |
| Company cellular equipment               |       | 57                            | %          | 58 | % | 65 | % |
| Third party equipment                    |       | 27                            |       | 21 |   | 12 |   |
| Other                                    |       | 16                            |       | 21 |   | 23 |   |
|                                     |       | 100                           | %          | 100 | % | 100 | % |
|                                     |       |                          |       |   |   |   |   |
| *Product  line loss before income taxes* |       |                          |       |   |   |   |   |
| GSM                                      |       | $                             | (1,980     | ) | $ | (24,062 | ) | $ | (56,999 | ) |
| CDMA                                     |       | (4,882                        | )          | (3,935 | ) |   |   |
| Broadband                                |       | —                        |       | — |   | (7,117 | ) |
| Total                                    |       | $                             | (6,862     | ) | $ | (27,997 | ) | $ | (64,116 | ) |
|                                     |       |                          |       |   |   |   |   |
| *Depreciation  and amortization*         |       |                          |       |   |   |   |   |
| GSM                                      |       | $                             | 2,442      |   | $ | 3,426 |   | $ | 11,419 |   |
| CDMA                                     |       | 1,577                         |       | 1,346 |   | — |   |
| Broadband                                |       | —                        |       | — |   | 1,339 |   |
| Total                                    |       | $                             | 4,019      |   | $ | 4,772 |   | $ | 12,758 |   |
|                                     |       |                          |       |   |   |   |   |
| *Interest  income (expense)*             |       |                          |       |   |   |   |   |
| GSM                                      |       | $                             | 11         |   | $ | 1 |   | $ | 1,081 |   |
| CDMA                                     |       | —                        |       | — |   | — |   |
| Broadband                                |       | —                        |       | — |   | (25 | ) |
| Total                                    |       | $                             | 11         |   | $ | 1 |   | $ | 1,056 |   |

 

86

----

 

 
| ** **                      | ** ** | **Years Ended June 30,** | ** ** |
|---------------------------------|------------|-------------------------------|------------|
| ** **                      | ** ** | **2004**                      | ** ** | **2003** | ** ** | **2002** | ** ** |
| *Income  tax benefit (expense)* |       |                          |       |   |   |   |   |
| GSM                             |       | $                             | 139        |   | $ | (267 | ) | $ | (209 | ) |
| CDMA                            |       | —                        |       | — |   | — |   |
| Total                           |       | $                             | 139        |   | $ | (267 | ) | $ | (209 | ) |

 

 
| ** **      | ** ** | **As of June 30,** | ** ** | ** ** | ** ** |
|-----------------|------------|-------------------------|------------|------------|------------|
| ** **      | ** ** | **2004**                | ** ** | **2003**   | ** ** | ** ** | ** ** |
| *Total  assets* |       |                    |       |       |       |   |   |
| GSM             |       | $                       | 29,388     |       | $          | 27,618 |   |   |   |
| CDMA            |       | 4,836                   |       | 5,659      |       |   |   |
| Total           |       | $                       | 34,224     |       | $          | 33,277 |   |   |   |

 

Net property and equipment by geographic location were as follows (inthousands):

 
|          |   | **As of June 30,** |       |     |   |
|---------------|--------|-------------------------|------------|----------|--------|
|          |   | **2004**                | ** ** | **2003** |   |   |   |
| United States |   | $                       | 1,866      |     | $      | 2,969 |   |   |   |
| Latin America |   | —                  |       | 31       |   |   |   |
| Europe        |   | 445                     |       | 437      |   |   |   |
| Asia          |   | 436                     |       | 884      |   |   |   |
|          |   | $                       | 2,747      |     | $      | 4,321 |   |   |   |

 

All intangible assets are located in the United States.

 

**(19) Subsequent Events**

 

On July 27, 2004, we entered into a definitive agreement wherebyAlvarion Ltd, an Israeli company, through one of its wholly-owned subsidiaries,would acquire us. This transaction is to be structured as an amalgamation underBermuda law. The amalgamation is subject to customary closing conditions,including approval by shareholders of Interwave and regulatory approvals. OnAugust 30, 2004, we filed a definitive proxy statement with the SEC inpreparation for a special meeting of our shareholders held onSeptember 30, 2004 at which our shareholders voted on the amalgamation.

 

Alvarion announced on September 30, 2004 thatafter reviewing the Company’s recent financial results as well as anticipatedresults going forward, it has determined that the Company has experienced amaterial adverse effect with respect to its business and has advised theCompany that it will not be able to cause all of Alvarion’s conditions toclosing of the amalgamation to be satisfied. Alvarion has further advised theCompany that Alvarion will not complete the amalgamation on the terms set forthin the amalgamation agreement and would be willing to discuss with the Company concludinga transaction on different terms. Also on September 30, 2004, the Company heldits scheduled special meeting of shareholders and approved the agreement andplan of amalgamation pursuant to which interWAVE was to be acquired by AlvarionLtd.  On October 1, 2004, the Companyadvised Alvarion in writing that the Company believes there is no materialadverse effect or any other basis, legal or otherwise, for Alvarion to notcomply with its obligations under the agreement.  The Company further advised Alvarion that theCompany remains prepared to consummate the amalgamation according to the termsof the agreement as scheduled and views Alvarion’s refusal to go forward withthe amalgamation according to these terms as a material breach of theagreement.  On October 4, 2004, theCompany filed a complaint against Alvarion Ltd. in the United States DistrictCourt for the Southern District of New York. The Complaint alleges, among other things, that Alvarion breached theagreement and plan of amalgamation pursuant to which the Company was to beacquired by Alvarion.  The complaintseeks specific performance of the amalgamation agreement and seeks compensatoryand punitive damages in excess of $75 million. The ultimate outcome of this matter is presently unknown, and theaccompanying consolidated financial statements do not include the effect, ifany, upon the Company’s results of operations, financial condition, and cashflows.

 

Concurrent with the signing of an agreement to amalgamate with awholly-owned subsidiary of Alvarion in late July 2004, Alvarion provided a $3million loan facility and lent the full amount available under the loanfacility to us.  Borrowings under theloan facility bear interest at 6% per annum and will be collateralized by athird priority security interest subordinate to our currently outstanding debtto financial institutions.  Uponcompletion of the amalgamation, all principal and accrued interest outstandingunder the loan facility will be cancelled. In the event that the amalgamation is not completed, or in the eventthat the amalgamation agreement is terminated prior to completion of theamalgamation, all principal and accrued interest outstanding under the loanfacility will be due and payable on the earlier of the lapse of six monthsfollowing the grant of the first loan by Alvarion to us under the loan facilityor 30 days following completion of any other acquisition transaction with us.

 

InSeptember 2004, an additional $2.0 million was made available by PFG tothe Company with principal to be repaid equal to borrowings in excess of $575thousand from Silicon Valley Bank through September 30, 2004 and repaid infull by October 31, 2004.  InSeptember 2004, the Company borrowed the additional $2.0 million availableunder the line of credit.

 

87

----

 

**(20) Consolidated Supplementary Quarterly Data (unaudited)**

 

The following table sets forth certain unaudited condensed consolidatedstatement of operations data for each quarter of fiscal 2004 and fiscal 2003.This data has been derived from unaudited condensed consolidated financialstatements and, in the opinion of management, includes all adjustments,consisting of normal recurring adjustments, necessary for a fair presentationof the information when read in conjunction with the consolidated financialstatements and notes thereto. The Company’s quarterly results have in the pastbeen and may in the future be subject to significant fluctuations. As a result,the Company believes that results of operations for interim periods should notbe relied upon as an indication of the results to be expected in futureperiods.

 
| ** **                                                   | ** ** | **Quarters Ended**      | ** ** |
|--------------------------------------------------------------|------------|-------------------------|------------|
| ** **                                                   | ** ** | **June 30,  2004** | ** ** | **Mar. 31,  2004** | ** ** | **Dec. 31,  2003** | ** ** | **Sept. 30,  2003** | ** ** | **June 30,  2003** | ** ** | **Mar. 31,  2003** | ** ** | **Dec. 31,  2002** | ** ** | **Sept. 30,  2002** | ** ** |
| ** **                                                   | ** ** | **(in thousands)**      | ** ** |
|                                                         |       |                    |       |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Total revenues                                               |       | $                       | 13,585     |   | $ | 9,710 |   | $ | 10,457 |   | $ | 10,715 |   | $ | 8,475 |   | $ | 6,580 |   | $ | 7,952 |   | $ | 6,953 |   |
| Cost of revenues                                             |       | 7,180                   |       | 4,633 |   | 5,244 |   | 6,197 |   | 4,816 |   | 4,931 |   | 6,152 |   | 6,517 |   |
| Net loss                                                     |       | $                       | (1,113     | ) | (1,120 | ) | (1,067 | ) | (3,423 | ) | (5,154 | ) | (5,459 | ) | (8,043 | ) | (9,608 | ) |
| Basic and diluted net loss per share                         |       | (0.12                   | )          | (0.13 | ) | (0.14 | ) | (0.51 | ) | (0.76 | ) | (0.81 | ) | (1.20 | ) | (1.65 | ) |
| Shares used to compute basic and diluted  net loss per share |       | 9,058                   |       | 8,342 |   | 7,536 |   | 6,772 |   | 6,748 |   | 6,733 |   | 6,726 |   | 5,827 |   |
|                                                              |            |                         |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

88

----

 

**Item 9.Changes in and Disagreements with Accountants on Accounting and FinancialDisclosure**

 

KPMG LLP was previously the principal accountants for InterwaveCommunications International Ltd. (Interwave).  On March 25, 2004,that firm resigned.

 

The audit reports of KPMG LLP on the consolidated financial statementsof Interwave as of June 30, 2003 and June 30, 2002, and for each ofthe years in the three-year period ended June 30, 2003, did not contain anadverse opinion or a disclaimer of opinion and was not qualified or modified asto uncertainty, audit scope or accounting principles except as follows:

 

KPMG LLP’s report on the consolidated financial statements of Interwaveas of June 30, 2003 and June 30, 2002, and for each of the years inthe three-year period ended June 30, 2003, contained a separate paragraphstating “the Company adopted the provisions of Statement of Financial AccountingStandards No. 142, “Goodwill and Other Intangibles Assets,” as of July 1,2002.”

 

The audit reports of KPMG LLP on the consolidated financial statementsof Interwave as of June 30, 2002 and June 30, 2001, and for each ofthe years in the three-year period ended June 30, 2002, did not contain anadverse opinion or a disclaimer of opinion and was not qualified as touncertainty, audit scope or accounting principles except as follows:

 

KPMG LLP’s report on the consolidated financial statements of Interwaveas of June 30, 2002 and June 30, 2001, and for each of the years inthe three year period ended June 30, 2002, contained a separate paragraphstating “the Company incurred recurring losses and negative cash flows fromoperations that raise substantial doubt about its ability to continue as agoing concern.  Management’s plans in regards to these matters are alsodescribed in Note 1(b).  The consolidated financial statements and relatedfinancial statement schedule do not include any adjustments that might resultfrom the outcome of this uncertainty.”

 

In connection with the audits of the consolidated financial statementsas of and for the years ended June 30, 2003 and June 30, 2002, andthe subsequent interim period through March 25, 2004, there were nodisagreements with KPMG LLP on any matter of accounting principles orpractices, financial statement disclosure or auditing scope or procedures whichdisagreements, if not resolved to KPMG LLP’s satisfaction, would have causedKPMG LLP to make reference to such disagreement in their report.

 

A letter from KPMG LLP is attached as Exhibit 16 to this Form 10-K.

 

On April 20, 2004, Interwave’s Audit Committee engaged Burr,Pilger & Mayer LLP to audit its financial statements as of and for the yearending June 30, 2004.  Prior to their engagement, they were notconsulted on any Interwave accounting or auditing matter, and there were nowritten reports or oral advice regarding any accounting or auditing matterprovided by them to Interwave.

 

**Item9A. Controls and Procedures**

 

*Evaluation of disclosure controls andprocedures.* Our management evaluated, with theparticipation of our Chief Executive Officer and our Chief Financial Officer,the effectiveness of our disclosure controls and procedures as of the end ofthe period covered by this Annual Report on Form 10-K. Based on theirevaluation as of the end of the period covered by this Annual Report on Form10-K, and subject to and except for the discussion below, our Company’s ChiefExecutive Officer and Chief Financial Officer have concluded that the Company’sdisclosure controls and procedures, as defined in Rule 13a-15(e) under theSecurities Exchange Act of 1934 (the “Exchange Act”), are effective to ensurethat information required to be disclosed by our Company in the reports that itfiles or submits under the Exchange Act is recorded, processed, summarized andreported within the time periods specified in Securities and ExchangeCommission’s rules and forms.  Inconnection with the evaluation described above, we identified no change in ourinternal control over financial reporting that occurred during or subsequent toour fiscal quarter ended June 30, 2004 that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting, other than the matter noted in the next paragraph.

 

In connection with its audit for the yearended June 30, 2004, Burr, Pilger & Mayer LLP identified a materialweakness in our internal controls over financial reporting.  The identified weakness was that there wasnot proper review of the manual process of aggregating journal entries andadjusting the consolidated financial statements.  Therefore, the originally published financialstatements furnished in a report on Form 8-K did not include a necessaryaccrual as of June 30, 2004, since corrected by amendment.  The Company immediately implementedcorrective action, including increased manual and system tracking of allentries, and increased detailed review to ensure all entries are included inthe financial statements prior to the release of such financialstatements.  We believe this matter hasbeen adequately addressed by the corrective action summarized above.

 

*Changes in internal control over financialreporting.* There was no change in our internal controlover financial reporting that occurred during the quarter ended June 30,2004 that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.

 

89

----

 

**PART III**

 

**Item 10.Directors and Executive Officers of the Registrant**

 

The information required by this item unless otherwise set forth belowis incorporated herein by reference to the fiscal 2004 definitive ProxyStatement under the captions “Election of Directors,” “Executive Officers,” and“Compliance with Section 16(a) of the Exchange Act.”

 

*Code of Business Conduct and Ethics.*Our code of business conduct and ethics is available without charge by mailupon written request to Interwave Communications, Investor Relations, 2495Leghorn Street, Mountain View, CA 94043.

 

**Item 11. Executive Compensation**

 

The information required by this item is incorporated herein byreference to the fiscal 2004 definitive Proxy Statement under the caption“Executive Compensation and Related Information.”

 

**Item 12.Security Ownership of Certain Beneficial Owners and Management**

 

The information concerning security ownership of certain beneficialowners and management of the Company is incorporated herein by referenceto the fiscal 2004 definitive Proxy Statement under the caption “StockOwnership.”

 

90

----

 

**Equity Compensation Plan Information**

 

The following table provides information as of June 30, 2004 withrespect to the common shares of the Company that may be issued under theCompany’s existing equity compensation plans.

 
| **Plan  category**                                             | ** ** | **Number of Securities  to be Issued Upon  Exercise of  Outstanding Options,  Warrants and Rights** | ** ** | **Weighted-Average  Exercise Price of  Outstanding Options,  Warrants and Rights** | ** ** | **Number of Securities  Remaining Available  for Future Issuance  Under Equity  Compensation Plans  (Excluding Securities  Reflected in Column (a))** | ** ** |
|----------------------------------------------------------------|------------|-----------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                                                     | ** ** | **(a)**                                                                                             | ** ** | **(b)**                                                                            | ** ** | **(c)**                                                                                                                                                    | ** ** |
| Equity Compensation Plans Approved by  Security Holders        |       | 1,173,422                                                                                           |       | $                                                                                  | 14.88      |                                                                                                                                                       | 248,333    | (1) |
| Equity Compensation Plans Not Approved by  Security Holders(3) |       | 373,053                                                                                             |       | $                                                                                  | 6.04       |                                                                                                                                                       | 11,848     | (2) |
| Total                                                          |       | 1,546,475                                                                                           |       | $                                                                                  | 17.61      |                                                                                                                                                       | 260,181    |   |

 

----

(1)                                Consistsof common shares available for future issuance under the 1994 Stock Plan, the1999 Option Plan and the 1999 Employee Stock Purchase Plan. As of June 30,2004, 2,797 common shares were available for issuance under the 1994 StockPlan, 189,201 common shares were available for issuance under the 1999 OptionPlan and 56,335 common shares were available for issuance under the 1999Employee Stock Purchase Plan. The number of common shares reserved under the1999 Employee Stock Purchase Plan is increased automatically on the first dayof each fiscal year by an amount equal to the lesser of (i) 1% of theoutstanding common shares on such date or (ii) an amount determined by theBoard of Directors of the Company.

 

(2)                                Consistsof common shares available for future issuance under the 2001 SupplementalStock Option Plan. As of June 30, 2004, 11,848 common shares wereavailable for issuance under the 2001 Supplemental Stock Option Plan.

 

(3)                                Duringthe year ended June 30, 2001, the Company adopted the 2001 SupplementalStock Option Plan, which provides for non-statutory stock options to be grantedto employees and service providers of the Company, but excludes executiveofficers and members of the Board of Directors. Options under the 2001Supplemental Stock Option Plan generally vest over four years and expire tenyears from the date of grant.

 

**Item 13.Certain Relationships and Related Transactions**

 

The information required by this item is incorporated herein byreference to the fiscal 2004 definitive Proxy Statement under the caption“Certain Relationships and Related Party Transactions.”

 

**Item 14.Principal Accountant Fees and Services**

 

The information required by this item is incorporated herein byreference to the fiscal 2004 definitive Proxy Statement under the caption“Audit Committee Report.”

 

91

----

 

**PART IV**

 

### **Item 15. Exhibits**, Financial StatementSchedules and Reports on Form 8-K

 

**(a)****                                  (1)Financial Statements**

 

The Financial Statements required by this item, with the independentauditors’ reports, are submitted in a separate section beginning onpage 54 of this annual report and incorporated herein by reference.

 

**(2) Financial Statement Schedules**

 

**SCHEDULE II—VALUATION AND QUALIFYINGACCOUNTS****Years ended June 30, 2004, 2003 and 2002**

**(in thousands)**

 
| ** **                               | ** ** | **Balance  Beginning of  Year** | ** ** | **Additions** | ** ** | **Deductions*** | ** ** | **Balance  End of  Year** | ** ** |
|------------------------------------------|------------|---------------------------------|------------|---------------|------------|-----------------|------------|---------------------------|------------|
| **2004:**                                |       |                            |       |          |       |            |       |                      |       |
| Allowance for doubtful trade receivables |       | $                               | 2,403      |          | $          | 755             |       | $                         | (2,190     | ) | $ | 968 |   |
| **2003:**                                |       |                            |       |          |       |            |       |                      |       |
| Allowance for doubtful trade receivables |       | $                               | 5,422      |          | $          | —          |       | $                         | (3,019     | ) | $ | 2,403 |   |
| **2002:**                                |       |                            |       |          |       |            |       |                      |       |
| Allowance for doubtful trade receivables |       | $                               | 9,157      |          | $          | 2,125           |       | $                         | (5,860     | ) | $ | 5,422 |   |

 

----

*                                         Infiscal 2004, deductions included a reduction in the allowance for doubtfulaccounts of $244 thousand and write offs of $1,945 thousand.  In fiscal 2003, deductions include areduction in the allowance for doubtful accounts of $1,038 thousand and writeoffs of $1,981 thousand. In fiscal 2002, the deduction was a write off.

 

All other schedules for which provisions are made in the applicableaccounting regulations of the Securities and Exchange Commission have beenomitted because the information required to be set forth therein is notapplicable or is shown in the financial statements or notes thereto.

 

**(3) Exhibits**

 

The exhibits listed in the Exhibit Index are filed or incorporatedherein by reference as a part of this annual report.

 

**(b)****                                  Reportson Form 8-K**

 

On April 22, 2004, the Company filed a report on Form 8-K pursuant toItem 4, “Changes in Registrant’s Certifying Accountants” announcing theengagement of new accountants.

 

On May 5, 2004, the Company filed a report on Form 8-K pursuant toItem 12, “Disclosure of Results of Operations and Financial Condition,”announcing its financial results for the fiscal quarter ended March 31,2004.

 

92

----

 

**EXHIBITINDEX**

 
| **Exhibits** | ** ** | **Description**                                                                                                                                                                                                                                       |
|--------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.2(1)       |       | Amended and Restated Bye-Laws of the Registrant                                                                                                                                                                                                       |
| 3.3(1)       |       | Memorandum of Association                                                                                                                                                                                                                             |
| 4.2(6)       |       | Preferred Share Rights Agreement, dated as of December 2, 2003                                                                                                                                                                                   |
| 4.3(10)      |       | Amendment to Rights Agreement, dated as of July 27, 2004                                                                                                                                                                                              |
| 10.1(1)      |       | Form of indemnification agreement                                                                                                                                                                                                                     |
| 10.2(1)      |       | 1994 Stock Plan and form of stock option agreement and restricted  stock purchase agreement                                                                                                                                                           |
| 10.3(1)      |       | 1999 Option Plan and form of subscription agreement                                                                                                                                                                                                   |
| 10.4(1)      |       | 1999 Share Purchase Plan and form of subscription agreement                                                                                                                                                                                           |
| 10.13(1)     |       | Amended and Restated Rights Agreement by and among Registrant and  certain shareholders, dated in August 1999                                                                                                                                    |
| 10.17(1)     |       | Patent license agreement by and between Registrant and Nortel  Networks Corporation                                                                                                                                                                   |
| 10.18(1)     |       | Technical information agreement by and between Registrant and Nortel  Networks Corporation                                                                                                                                                            |
| 10.21(1)     |       | Lease between Tyco Electronics Corporation and Interwave  Communications, Inc., dated November 24, 1999                                                                                                                                          |
| 10.22(1)     |       | Base Station System Agreement by and between Registrant and Lanka  Cellular Services (PTV) Limited, dated December 1999                                                                                                                          |
| 10.23(2)     |       | 2001 Supplemental Stock Option Plan and form of subscription  agreement                                                                                                                                                                               |
| 10.24(3)     |       | Asset Purchase Agreement, by and among Registrant, Interwave Advanced  Communications, Inc. and GBase Communications, dated August 16, 2002*                                                                                                     |
| 10.25(3)     |       | Amendment to OEM Agreement between UTStarcom, Inc. and Registrant,  dated September 27, 2002*                                                                                                                                                    |
| 10.26(4)     |       | Technology License Agreement by and between Registrant, Interwave  Advanced Communications, Inc. and Telos Engineering LTD., dated  October 10, 2002*                                                                                            |
| 10.27(5)     |       | Letter of Employment between Registrant and Erwin F. Leichtle dated  May 6, 2003                                                                                                                                                                 |
| 10.28(5)     |       | Lease termination agreement between Tyco Electronics Corporation and  Interwave Communications, Inc. dated September 19, 2003                                                                                                                    |
| 10.29(5)     |       | Lease agreement between Stoesser Enterprises and Interwave  Communications, Inc. dated May 5, 2003                                                                                                                                               |
| 10.30(7)     |       | Employment Agreement between Registrant and Priscilla M. Lu dated May  21, 2003                                                                                                                                                                       |
| 10.31(7)     |       | Employment Agreement between Registrant and Cal R. Hoagland dated  June 2, 2003                                                                                                                                                                  |
| 10.32(7)     |       | Employment Agreement between Registrant and William Carlin dated  June 2, 2003                                                                                                                                                                   |
| 10.33(8)     |       | Employment Agreement between Registrant and Lars Lindell dated  September 30, 2003                                                                                                                                                               |
| 10.34        |       | Employment Agreement between Registrant and Padraig Stapleton dated  May 6, 2004                                                                                                                                                                      |
| 10.35        |       | Accounts Receivable Financing Agreement between Silicon Valley Bank  and the Registrant, dated June 30, 2003                                                                                                                                          |
| 10.36        |       | Amendment to Accounts Receivable Financing Agreement between Silicon  Valley Bank and the Registrant, dated September 24, 2003                                                                                                                        |
| 10.37        |       | Amendment to Accounts Receivable Financing Agreement between Silicon  Valley Bank and Interwave Communications, Inc., dated June 28, 2004                                                                                                             |
| 10.38        |       | Loan Agreement between Partners For Growth and Interwave  Communications, Inc. and other ancillary agreements between Partners For  Growth and the Registrant and Interwave Advanced Communications, Inc., each  dated June 4, 2004                   |
| 10.39        |       | Amendment to Loan Agreement between Partners For Growth and Interwave  Communications, Inc. and other ancillary agreements between Partners for  Growth and the Registrant and Interwave Advanced Communications, Inc. each  dated September 10, 2004 |
| 11.1(11)     |       | Statement re computation of earnings per share                                                                                                                                                                                                        |
| 16(9)        |       | Letter re change in certifying accountant                                                                                                                                                                                                             |
| 21.1         |       | List of Subsidiaries                                                                                                                                                                                                                                  |
| 23.1         |       | Consent of Burr, Pilger & Mayer LLP                                                                                                                                                                                                               |
| 23.2         |       | Consent of KPMG LLP                                                                                                                                                                                                                                   |
| 24.1(12)     |       | Power of Attorney                                                                                                                                                                                                                                     |
| 31.1         |       | Certification of Chief Executive Officer pursuant to Rule  13a-14(a)/15d-14(a) under the Securities Exchange Act of 1934, as amended                                                                                                                  |
| 31.2         |       | Certification of Chief Financial Officer pursuant to Rule  13a-14(a)/15d-14(a) under the Securities Exchange Act of 1934, as amended                                                                                                                  |
| 32.1         |       | Certification of Chief Executive Officer Pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002                                                                                    |
| 32.2         |       | Certification of Chief Financial Officer Pursuant to 18 U.S.C.  Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002                                                                                    |

 

 

 

 

----

(1)                                Incorporatedby reference to the same number exhibit filed with Registrant’s RegistrationStatement on Form F-1 (File No. 333-92967), as amended onJanuary 28, 2000.

 

93

----

 

(2)                                Incorporatedby reference to the exhibit filed with Registrant’s Registration Statement onForm S-8 (File No. 333-64854) filed on July 10, 2001.

 

(3)                                Incorporatedby reference to the exhibit filed with Registrant’s Quarterly Report onForm 10-Q (File No. 001-15631) filed on November 14, 2002.

 

(4)                                Incorporatedby reference to the exhibit filed with Registrant’s Quarterly Report onForm 10-Q (File No. 001-15631) filed on February 14, 2003.

 

(5)                                Incorporatedby reference to the exhibit filed with Registrant’s Annual Report on Form 10-K(File No. 001-15631) filed on September 29, 2003.

 

(6)                                Incorporatedby reference to the same number exhibit filed with Registrant’s Current Reporton Form 8-K (File No. 001-15631) filed on December 18, 2003.

 

(7)                                Incorporatedby reference to the same number exhibit filed with Registrant’s QuarterlyReport on Form 10-Q (File No. 001-15631) filed on November 14,2003.

 

(8)                                Incorporatedby reference to the same number exhibit filed with Registrant’s QuarterlyReport on Form 10-Q (File No. 001-15631) filed on February 17, 2004.

 

(9)                                Incorporatedby reference to the same number exhibit filed with Registrant’s Current Reporton Form 8-K (File No. 001-15631) filed on March 31, 2004.

 

(10)                          Incorporatedby reference to the same number exhibit filed with Registrant’s Form 8-A/A(File No. 000-29095) filed on August 25, 2004.

 

(11)                          Informationincluded in consolidated financial statements filed herewith.

 

(12)                          Seepage 95 of this Annual Report.

 

*                                       Certaininformation in this Exhibit has been omitted and filed separately with theSecurities and Exchange Commission. Confidential treatment has been requestedwith respect to the omitted portions.

 

94

----

 

**SIGNATURES**

 

Pursuant to the requirements of Section 13 or 15(d) of the SecuritiesExchange Act of 1934, the Registrant has duly caused this report to be signedon its behalf by the undersigned, thereunto, duly authorized, in the City ofMountain View, State of California, on October 12, 2004.

 
|   | INTERWAVE COMMUNICATIONS  INTERNATIONAL LTD. |
|--------|----------------------------------------------|
|   |                                         |
|   | By:                                          | /s/ ERWIN F. LEICHTLE |
|   |                                         | Erwin F. Leichtle |
|   |                                         | *President and Chief Executive Officer**(Principal Executive Officer)* |

 

**POWER OF ATTORNEY**

 

KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signatureappears below constitutes and appoints Erwin F. Leichtle and Cal R.Hoagland, jointly and severally, his attorneys-in-fact, each with the power ofsubstitution, for him in any and all capacities to sign any amendments to thisAnnual Report on Form 10-K, and to file the same, with exhibits theretoand other documents in connection therewith, with the Securities and ExchangeCommission, hereby ratifying and confirming all that each of saidattorneys-in-fact, or his substitute or substitutes, may do or cause to be doneby virtue hereof.

 

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

 
| **Signature**         | ** ** | **Title**                                          | ** ** | **Date**               |
|-----------------------|------------|----------------------------------------------------|------------|------------------------|
|                  |       |                                               |       |                   |
| /s/ ERWIN F. LEICHTLE |       | President and Chief Executive Officer and Director |       |                   |
| Erwin F. Leichtle     |       | (Principal Executive Officer)                      |       | October  12, 2004 |
|                  |       |                                               |       |                   |
| /s/ CAL R. HOAGLAND   |       | Senior Vice President and Chief Financial Officer  |       |                   |
| Cal R. Hoagland       |       | (Principal Financial and Accounting Officer)       |       | October  12, 2004 |
|                  |       |                                               |       |                   |
| /s/ WILLIAM E. GIBSON |       |                                               |       |                   |
| William E. Gibson     |       | Chairman of the Board of Directors                 |       | October  12, 2004 |
|                  |       |                                               |       |                   |
| /s/ THOMAS R. GIBIAN  |       |                                               |       |                   |
| Thomas R. Gibian      |       | Director                                           |       | October  12, 2004 |
|                  |       |                                               |       |                   |
| /s/ BOB KONDAMOORI    |       |                                               |       |                   |
| Bob Kondamoori        |       | Director                                           |       | October  12, 2004 |
|                  |       |                                               |       |                   |
| /s/ PRISCILLA M. LU   |       |                                               |       |                   |
| Priscilla M. Lu       |       | Director                                           |       | October  12, 2004 |
|                  |       |                                               |       |                   |
| /s/ NIEN DAK SZE      |       |                                               |       |                   |
| Nien Dak Sze          |       | Director                                           |       | October  12, 2004 |
|                  |       |                                               |       |                   |
| /s/ ANDREW C. WANG    |       |                                               |       |                   |
| Andrew C. Wang        |       | Director                                           |       | October  12, 2004 |
|                  |       |                                               |       |                   |
|                  |       |                                               |       |                   |
| Ker Zhang             |       | Director                                           |       | October __, 2004       |

 

95

----