10-Q 1 d10q.txt FORM 10-Q FOR PERIOD ENDING JULY 1, 2001 -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended July 1, 2001. OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission File Number: 0-28157 ------------------------------- Virata Corporation (Exact name of Registrant as specified in its charter) ---------------------------------- ~~Delaware 77-0521696 (State or other jurisdiction of incorporation or organization) (IRS Employer Identification No.)~~

2700 San Tomas Expressway, Santa Clara, California 95051 (Address of principal executive offices, including zip code) Registrant's telephone number, including area code: (408) 566-1000 --------------- Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [_] As of July 27, 2001, there were 63,752,742 shares of the Registrant's Common Stock outstanding, par value $0.001. -------------------------------------------------------------------------------- TABLE OF CONTENTS

PART I - FINANCIAL INFORMATION ITEM 1 - Condensed Consolidated Financial Statements VIRATA CORPORATION CONDENSED CONSOLIDATED BALANCE SHEET (in thousands, unaudited)

The accompanying notes are an integral part of these condensed consolidated financial statements. __________________ (A) The information in this column is derived from Virata Corporation's audited financial statements for the fiscal year ended April 1, 2001. 1 VIRATA CORPORATION CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS (in thousands, except per share data) (unaudited)

The accompanying notes are an integral part of these condensed consolidated financial statements. 2 VIRATA CORPORATION CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (in thousands, unaudited)

The accompanying notes are an integral part of these condensed consolidated financial statements. 3 VIRATA CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS Note 1--Basis of Presentation Virata Corporation ("Virata", "Company" or "we") provides communications processors and DSL physical-layer chips combined with integrated software modules to manufacturers of equipment utilizing digital subscriber line, or DSL, and broadband wireless technologies. These "integrated software on silicon"(TM) product solutions enable our customers to develop a diverse range of equipment, including modems, gateways, routers, fixed wireless receivers and base stations targeted at the voice and high-speed data network access, or broadband, market. We believe our systems expertise, products and support services enable equipment manufacturers to simplify product development, reduce the time it takes for products to reach the market and focus resources on product differentiation and enhancement. We outsource the manufacturing of our semiconductors, which allows us to focus our resources on the design, development and marketing of our products. Effective October 3, 1999, the Company changed the fiscal year such that each quarter ends on the Sunday closest to the calendar quarter end. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not contain all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, the accompanying unaudited condensed consolidated financial statements reflect all adjustments, consisting of only normal recurring adjustments, considered necessary for a fair presentation of the Company's financial condition as of July 1, 2001, the results of its operations and cash flows for the three months ended July 1, 2001 and July 2, 2000. These financial statements should be read in conjunction with the Company's audited financial statements, including the notes thereto, and the other information set forth therein included in the Company's Annual Report on Form 10-K for the fiscal year ended April 1, 2001. Operating results for the three months ended July 1, 2001 are not necessarily indicative of the operating results that may be expected for the fiscal year ending March 31, 2002. Note 2--Revenue Recognition Revenues from the sale of both semiconductors and systems are recognized upon shipment to customers. Allowances are provided for estimated returns at the time of shipment. The Company recognizes software license revenue under Statement of Position ("SOP") 97-2, Software Revenue Recognition, and SOP 98-9, Modification of SOP 97-2, Software Revenue Recognition, with Respect to Certain Transactions. When contracts contain multiple elements and vendor-specific objective evidence exists for all undelivered elements, the Company accounts for the delivered elements in accordance with the "Residual Method" prescribed by SOP 98-9. Software licenses are generally recognized as revenue upon shipment of the software product. In the event the Company grants customers the right to specified upgrades, license revenue is deferred until delivery of the specific upgrade. If vendor-specific objective evidence of fair value exists for the specified upgrade, then the amount equal to the fair value is deferred. If vendor-specific objective evidence of fair value for the specified upgrade does not exist, the entire license fee is deferred until the delivery of the specified upgrade. The Company recognizes revenues from maintenance and support services provided to licensees ratably over the term of the agreement, generally over one year, and recognizes revenues from design services provided to customers as the services are performed. In December 1999, the Securities Exchange Commission ("SEC") issued Staff Accounting Bulletin ("SAB") No. 101, "Revenue Recognition in Financial Statements", which outlines the basic criteria that must be met to recognize revenue and provides guidance for presentation of revenue and for disclosure related to revenue recognition policies in financial statements filed with the SEC. In June 2000, the SEC issued SAB 101B, "Second Amendment: Revenue Recognition in Financial Statements". SAB 101B deferred the implementation date of SAB 101 until no later than the fourth fiscal quarter of fiscal years beginning after December 15, 1999. The Company adopted SAB 101 in the fourth quarter of fiscal year 2001, effective as of the beginning of the calender year. The adoption of SAB 101 did not have a material effect on the financial position or results of operations of the Company. Note 3--Earnings Per Share Net loss per share The Company computes net loss per share in accordance with Statement of Financial Accounting Standards, ("SFAS") No. 128, "Earnings per Share" and SEC SAB No. 98. Under the provisions of SFAS No. 128 and SAB 4 VIRATA CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued) No. 98, basic and diluted net loss per share is computed by dividing the net loss available to holders of common stock for the period by the weighted average number of shares of common stock outstanding during the period. The calculation of diluted net loss per share excludes potential shares of common stock if their effect is anti-dilutive. Potential common stock consists of shares of common stock issuable upon the exercise of stock options and warrants. Note 4--Investments Short-term investments consist of debt securities with original maturity dates greater than ninety days and less than one year. Debt securities with original maturity dates greater than one year are classified on the balance sheet as non-current assets. In accordance with SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities", the Company's investments are classified as available-for-sale, and are reported at fair value at the balance sheet date. The unrealized gains and losses, net of related taxes, are reported as a component of accumulated other comprehensive income. Management determines the appropriate classification of debt securities at the time of purchase and reassesses the classification at each reporting date. Gains and losses on the sale of available-for-sale investments are determined using the specific-identification method. As of July 1, 2001 and April 1, 2001, the Company held $232.3 million and $166.0 million of debt securities, respectively. Of these securities, $173.5 million and $166.0 million, respectively, were classified as short-term investments on the Company's consolidated balance sheet. The debt securities held by the Company consisted primarily of commercial paper, and U.S. and foreign corporate debt securities. Unrealized holding gains and losses of available-for-sale debt securities were not significant and accordingly the amortized cost of these securities approximated fair market value at July 1, 2001 and April 1, 2001. Contract maturities of these securities were within two years as of July 1, 2001. Realized gains and losses on available-for-sale debt securities were not significant for the three months ended July 1, 2001. As of July 1, 2001, the Company held restricted shares in some privately-held technology companies, with an aggregate carrying value of $7.3 million. These non-marketable shares are carried at cost, and are classified on the balance sheet as non-current assets. Note 5--Balance Sheet Components (in thousands)

5 VIRATA CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued)

Note 6--Non-Cash Compensation Charges The components of the non-cash compensation charges in the operating expenses are as follows:

Note 7--National Insurance Contributions on Options The charge for National Insurance Contributions on options is based on a tax applied in the United Kingdom on the gain in our stock options for options granted to our United Kingdom employees, both vested and unvested. The charge is calculated on each option granted in the United Kingdom as the difference between the market value of our common stock at the close of the period and the exercise price of the option multiplied by a 12.2% tax rate. In October 2000, the Emerging Issues Task Force ("EITF") of the Financial Accounting Standards Board ("FASB") reached a consensus on Issue No. 00-16, "Recognition and Measurement of Employer Payroll Taxes on Employee Stock-Based Compensation", whereby employer payroll taxes should be recognized as a liability when the tax obligation is triggered, which is generally the date the stock option is exercised. Prior to October 1, 2000, the Company estimated and recorded its liability for the National Insurance Contributions based upon total outstanding stock options held by its employees in the United Kingdom. Beginning in the quarter ended December 31, 2000, the Company will record an additional liability only upon the exercise of options granted to employees in the United 6 VIRATA CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS--(Continued) Kingdom subsequent to October 1, 2000, after the existing reserve has been exhausted. No additional liability has been recorded since the quarter ended October 1, 2000. In May 2001 legislation went into effect in the United Kingdom whereby the liability for National Insurance Contributions on any options to employees in the United Kingdom granted between April 6, 1999 and May 19, 2000 may be limited by making a payment for National Insurance Contributions with regard to such grants. The amount of National Insurance Contributions payable in connection with these options is limited to the difference between the market value of our common stock on November 7, 2000 and the exercise price of the options. During the quarter ending September 30, 2001, the Company has paid approximately $1.5 million to settle National Insurance Contributions liability with respect to the majority of the Company's option grants. The settlement of this liability removes the need for any further reserves to be made in respect of National Insurance Contributions for these options and eliminates the uncertainty of the future ultimate liability. Note 8--Restructuring Costs In June 2001, the Company recorded restructuring costs related to the consolidation of excess facilities, which included the closure of certain corporate facilities in U.S. and United Kingdom. The Company recorded a restructuring charge of approximately $6.0 million for excess facilities relating primarily to lease termination and non-cancelable lease costs. The lease costs represent future lease payments subsequent to closure less estimated sublease income. Amounts related to the net lease expense due to the consolidation of facilities will be paid over the respective lease terms through 2007. Note 9--Comprehensive Loss (in thousands) The components of comprehensive loss, net of tax, are as follows:

Note 10--Recent Accounting Pronouncements In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivatives and Hedging Activities." SFAS No. 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. In July 1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities--Deferral of the Effective Date of FASB Statement No. 133." SFAS No. 137 deferred the effective date of SFAS No. 133 until fiscal years beginning after June 15, 2000. The Company will adopt SFAS No. 133 during its year ending March 31, 2002. To date, the Company has not engaged in derivative or hedging activities. The Company does not expect the adoption of SFAS No. 133 to have a material effect on its financial position or results of operations. In July 2001, the FASB issued SFAS No. 141, "Business Combinations." SFAS No. 141 requires the purchase method of accounting for business combinations initiated after June 30, 2001 and eliminates the pooling-of-interests method. In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets," which is effective for fiscal years beginning after March 15, 2001. SFAS No. 142 requires, among other things, the discontinuance of goodwill amortization. In addition, the standard includes provisions upon adoption for the reclassification of certain existing recognized intangibles as goodwill, reassessment of the useful lives of existing recognized intangibles, reclassification of certain intangibles out of previously reported goodwill and the testing for impairment of existing goodwill and other intangibles. The Company is currently assessing, but has not yet determined the impact of SFAS No. 142 on its financial position and results of operations. 7 VIRATA CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS-(Continued) Note 11 - Subsequent Event In August 2001, the Company paid approximately $1.5 million to the Inland Revenue in settlement for National Insurance Contributions due on options granted to employees in the United Kingdom. The settlement of this liability removes the need for any further reserves to be made in respect of National Insurance Contributions for these options and eliminates the uncertainty of the future ultimate liability. 8 ITEM 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations. Overview Virata Corporation ("Virata", "we" or the "Company") provides communications processors and DSL physical-layer chips combined with integrated software modules to manufacturers of equipment utilizing digital subscriber line, or DSL, and broadband wireless technologies. These "integrated software on silicon"(TM) product solutions enable our customers to develop a diverse range of equipment, including modems, gateways, routers, fixed wireless receivers and base stations targeted at the voice and high-speed data network access, or broadband, market. We believe our systems expertise, products and support services enable equipment manufacturers to simplify product development, reduce the time it takes for products to reach the market and focus resources on product differentiation and enhancement. We outsource the manufacturing of our semiconductors, which allows us to focus our resources on the design, development and marketing of our products. We generate revenues from sales of semiconductors, systems-level products, software licenses, maintenance, royalties and design services. Semiconductor revenues have come from two sources, our Proton family of application specific integrated circuit ("ASIC") products and our ATOM family of application specific standard parts ("ASSP"). Original equipment manufacturers, or OEMs, license our software, which permits them to purchase our semiconductors for use in their products. We support our licensee customers through the sale of maintenance contracts and design services. Since September 1997, we have sold our systems- level products primarily to one customer. This principal customer discontinued its use of our systems products in fiscal year 2001, and, as a result, our systems-level products currently consist only of sales of board-level evaluation systems featuring our latest ASSP products. Our revenues to date have been concentrated with a small number of customers. We expect this concentration to continue. For the three months ended July 1, 2001, Ambit Microsystems and Siemens A.G. accounted for 50.0% and 19.9% of our total revenues, respectively. For the three months ended July 2, 2000, Westell Technologies accounted for 34.2% of our total revenues. International revenues, from customers located outside of the U.S., accounted for 93.4% our total revenues for the three months ended July 1, 2001, and 23.7% for the three months ended July 2, 2000. For the three months ended July 1, 2001, sales from customers in Taiwan, Germany and Hong Kong represented 46.0%, 21.2% and 11.1% of total revenues, respectively. For the three months ended July 2, 2000, sales from customers in Taiwan represented 12.7% of total revenues. Almost all of our international revenues are transacted in U.S. dollars, which reduces our exposure to fluctuations in revenues attributable to changes in foreign currency exchange rates. However, we experience risks inherent in international business. These risks include extended collection time for receivables, reduced ability to enforce contractual obligations and reduced protection of our intellectual property. Our material costs are denominated in U.S. dollars, and our operating expenses are primarily in U.S. dollars, British pounds sterling, and new Israeli shekels.

Our limited operating history in the DSL market makes it difficult to forecast our future operating results accurately. To date, we have not achieved profitability in any quarterly or annual period, and as of July 1, 2001, we had an accumulated deficit of $293.1 million. Although our total revenues have grown in recent quarters, we cannot be certain that our total revenues will increase at a rate sufficient to achieve and maintain profitability. Forward-looking Statements This Quarterly Report contains a number of forward-looking statements that reflect our current views with respect to future events and financial performance. We use words such as "anticipates," "believes," "expects," "future," "intends," and similar expressions to identify forward-looking statements. You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Quarterly Report. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially 9 from historical results or our predictions. These risks are described in "Risk Factors" and elsewhere in this Quarterly Report. Results of Operations Three Months Ended July 1, 2001 and July 2, 2000 Total Revenues Total revenues decreased 26.8% from $27.7 million for the three months ended July 2, 2000 to $20.3 million for the three months ended July 1, 2001. Semiconductor revenues decreased 19.2% to $17.3 million for the three months ended July 1, 2001, compared to $21.5 million for the three months ended July 2, 2000, primarily due to delays in expected DSL rollouts, and our customers' inventory buildup in the second half of fiscal year 2001. As a result, certain customers rescheduled or cancelled shipments in Asia and the U.S. and revised the shipment schedules of their remaining orders. Semiconductor revenues increased to 85.5% of total revenues for the three months ended July 1, 2001, compared to 77.5% of total revenues for the three months ended July 2, 2000. License revenues decreased 72.6% to $1.1 million for the three months ended July 1, 2001, compared to $4.2 million for the three months ended July 2, 2000. License revenues also decreased to 5.6% of total revenues for the three months ended July 1, 2001, compared to 15.0% of total revenues for the three months ended July 2, 2000. The decrease in license revenues was primarily due to the slowdown in the U.S. economy and delays in expected DSL rollouts, thus decreasing the number of new software licensees. Services and royalty revenues increased 74.9% to $1.7 million, or 8.3% of total revenues, for the three months ended July 1, 2001, compared to $968,000 or 3.5% of total revenues, for the three months ended July 2, 2000. The increase was due primarily to the expansion of our licensee customer base in prior fiscal year, and the resulting increase in service revenues; and additional service and royalty revenues generated by our acquisitions of Inverness Systems, Ltd, now known as Virata Israel ("Inverness Systems") and Agranat Systems, Inc ("Agranat Systems"). Systems revenues decreased 91.1% to $98,000 for the three months ended July 1, 2001, compared to $1.1 million for the three months ended July 2, 2000. Systems revenue also decreased to 0.5% of total revenues for the three months ended July 1, 2001 from 4.0% of total revenues for the three months ended July 2, 2000. This decrease was primarily due to our decision in September 1997 to focus our sales and development efforts on semiconductor devices for the DSL market. In prior fiscal years we sold our systems products to one principal customer. However, this customer has discontinued the use of our system products. As a result, our systems-level products now consist only of sales of board-level evaluation systems featuring our latest ASSP products. Cost of Revenues and Gross Margin Total cost of revenues consists primarily of costs paid to foundry vendors to manufacture our semiconductors, costs attributable to design services, software maintenance and operations expense. Cost of revenues decreased to $11.4 million, or 56.0% of total revenues, for the three months ended July 1, 2001, compared to $14.9 million, or 53.7% of total revenues, for the three months ended July 2, 2000. Semiconductor gross margin increased to 38.4% for the three months ended July 1, 2001, from 34.3% for the three months ended July 2, 2000. The increase was due primarily to the impact of the $1.7 million inventory provision related to the end-of-life transition for our older Hydrogen product, charged in the three months ended July 2, 2000. We believe our gross margin may continue to fluctuate as semiconductors become a greater percentage of total revenues, and because increased competition and more consumer-oriented markets may impact average selling price. There were no costs of revenues associated with our software license revenues for the three months ended July 1, 2001. License gross margin was 97.0% for the three months ended July 2, 2000 primarily due to costs incurred with license contracts assumed following our acquisitions of D2 Technologies, Inc. ("D2 Technologies") and Inverness Systems. Services and royalty gross margin decreased to 71.3% for the three months ended July 1, 2001 from 80.8% for the three months ended July 2, 2000 due primarily to an increase in fixed operations costs to support our service contracts. Systems gross margin decreased to negative 86.7% for the three months ended July 1, 2001 from 58.6% for the three months ended July 2, 2000. The decrease in systems margin was primarily due to fixed operations support related to systems products and a narrower systems product range. Due to our principal customer discontinuing the 10 use of our systems products in fiscal year 2001, our systems gross margin consists only of sales of board-level evaluation systems featuring our latest ASSP products, which we sell at or below cost to support our ASSP products. Research and Development Expenses Research and development expenses consist primarily of engineering staffing costs and technology license fees. Research and development expenses increased 146.6% to $14.0 million for the three months ended July 1, 2001, from $5.7 million for the three months ended July 2, 2000. The increase was primarily due to the addition of research and development personnel as a result of accelerated new product development and the addition of personnel as a result of the acquisitions of Inverness Systems, Agranat Systems and Excess Bandwidth. For the three months ended July 1, 2001, and July 2, 2000, we recognized amortization of stock compensation of approximately $1.1 million and $50,000, respectively, for the research and development group. See "Amortization of Stock Compensation" below. For the three months ended July 2, 2000, a charge of approximately $600,000 was recorded for National Insurance Contributions on options for the research and development group. See "National Insurance Contributions on Options" below. Sales and Marketing Expenses Sales and marketing expenses consist primarily of employee salaries, sales commissions, travel and related costs, promotional materials and trade show expenses. Sales and marketing expenses increased 10.3% to $5.5 million for the three months ended July 1, 2001, from $5.0 million for the three months ended July 2, 2000. The increase was primarily due to the addition of sales and marketing personnel. For the three months ended July 1, 2001, and July 2, 2000, we recognized amortization of stock compensation of approximately $129,000 and $50,000, respectively, for the sales and marketing group. See "Amortization of Stock Compensation" below. For the three months ended July 2, 2000,a charge of approximately $545,000 was recorded for National Insurance Contributions on options for the sales and marketing group. See "National Insurance Contributions on Options" below. General and Administrative Expenses General and administrative expenses consist primarily of employee salaries and costs associated with legal, accounting and other professional service fees, bad debt expense as well as general corporate expenses. General and administrative expenses increased 5.3% to $5.0 million for the three months ended July 1, 2001, from $4.7 million for the three months ended July 2, 2000. The increase was primarily attributable to the increased staff, inclusion of current expenses related to the former Inverness Systems, Agranat Systems and Excess Bandwidth, which were acquired by Virata in fiscal year 2001, and the additional costs of being a publicly traded company. For the three months ended July 1, 2001, and July 2, 2000, we recognized amortization of stock compensation of approximately $188,000 and $50,000, respectively, for the general and administrative group. See "Amortization of Stock Compensation" below. For three months ended July 2, 2000, a charge of approximately $1.4 million was recorded for National Insurance Contributions on options for the general and administrative group. See "National Insurance Contributions on Options" below. National Insurance Contributions on Options We recorded a charge for National Insurance Contributions on options, which is based on a tax applied in the United Kingdom on the gain in our stock options for options granted to our United Kingdom employees, both vested and unvested. The charge is calculated on each option granted in the United Kingdom as the difference between the market value of our common stock at the close of the period and the exercise price of the option multiplied by a 12.2% tax rate. In October 2000, the EITF of the FASB reached a consensus on Issue No. 00-16, "Recognition and Measurement of Employer Payroll Taxes on Employee Stock-Based Compensation", whereby employer payroll taxes should be recognized as a liability when the tax obligation is triggered, which is generally the date the stock option is exercised. Prior to October 1, 2000, the Company estimated and recorded its liability for the National Insurance Contributions based upon total outstanding stock options held by its employees in the United Kingdom. Beginning in the quarter ended December 31, 2000, the Company will record an additional liability only upon the exercise of options granted to employees in the United Kingdom subsequent to October 1, 2000, after the existing reserve has been exhausted. No additional liability has been recorded since the quarter ended October 1, 2000. In May 2001 legislation went into effect, in the United Kingdom, whereby the liability for National Insurance Contributions on any options to employees in the United Kingdom granted between April 6, 1999 and May 19, 2000 may be limited by making a payment for National Insurance Contributions with regard to such grants. The amount 11 of National Insurance Contributions payable, in connection with these options, is limited to the difference between the market value of our common stock on November 7, 2000 and the exercise price of the options. During the quarter ending September 30, 2001, we have paid approximately $1.5 million to settle National Insurance Contributions liability with respect to the majority of the our option grants. The settlement of this liability removes the need for any further reserves to be made in respect of National Insurance Contributions, for these options, and eliminates the uncertainty of the future ultimate liability. Restructuring Costs In June 2001, we recorded restructuring costs related to the consolidation of excess facilities, which included the closure of certain corporate facilities in the U.S. and the United Kingdom. We recorded a restructuring charge of approximately $6.0 million for excess facilities relating primarily to lease termination and non-cancelable lease costs. The lease costs represent future lease payments subsequent to closure less estimated sublease income. Amount related to the net lease expense due to the consolidation of facilities will be paid over the respective lease terms through 2007. Amortization of Intangible Assets Amortization of intangible assets expense is related to the intangible assets acquired in the July 1998 acquisition of RSA Communications, the February 2000 acquisition of D2 Technologies, the April 2000 acquisition of Inverness Systems, and the August 2000 acquisitions of Agranat Systems and Excess Bandwidth. Amortization of intangible assets for the three months ended July 1, 2001 was $27.9 million, compared to $9.9 million for the three months ended July 2, 2000. The quarter to quarter increase was primarily a result of these recent acquisitions. We are amortizing the intangible assets over the expected lives of the assets of between 24 to 60 months. Amortization of Stock Compensation Through July 1, 2001, we recorded a total of $21.0 million of unearned stock compensation, of which approximately $18.7 million is related to the assumption of unvested stock options from the recent acquisitions of Excess Bandwidth and Agranat Systems. We recognized amortization of stock compensation of $1.4 million for the three months ended July 1, 2001, and $150,000 for the three months ended July 2, 2000. We are amortizing the unearned stock compensation over the vesting period of the related options, generally 48 months. Acquired In-Process Research and Development Expense There was no acquired in-process research and development expense for the three months ended July 1, 2001. In connection with an acquisition completed during the three months ended July 2, 2000, we recorded charges of $1.2 million associated with acquired in-process research and development for the three months ended July 2, 2000. The amount was determined by identifying research projects for which technological feasibility had not been established and no alternative future uses existed as of the respective acquisition dates. The values of these projects were charged to operations at the time of acquisition. The acquired in-process research and development the three months ended July 2, 2000 was attributable to the acquisition of Inverness Systems in April 2000. The acquisition was accounted for as a purchase business combination. Interest and Other Income, Net Interest and other income, net consists primarily of income earned on cash and cash equivalents, marketable investments, interest expense, and foreign exchange gains and losses. Interest income for the three months ended July 1, 2001 increased to $5.3 million, compared to $1.1 million for the three months ended July 2, 2000 due primarily to cash provided by our follow-on offering that was completed in July 2000. Liquidity and Capital Resources We have financed our operations primarily through venture capital, corporate investments, and through public offerings of common stock. On November 16, 1999, we completed our initial public offering of 11,500,000 shares of common stock, including the exercise of the underwriters' overallotment option, at $7.00 per share. Total proceeds to us were approximately $73.0 million, net of commissions and offering costs. On July 13, 2000, we completed a follow-on offering of 6,855,000 shares of common stock, including the exercise of the underwriters' overallotment option, at $71.00 per share. Total proceeds to us were approximately $461 million, net of commissions and offering costs. 12 Our cash and cash equivalents together with our short-term investments decreased $57.8 million to $430.2 million for the three months ended July 1, 2001. The decrease in these accounts was primarily due to purchase of long-term marketable investments. Our cash and cash equivalents decreased $65.2 million to $256.7 million for the three months ended July 1, 2001. Our working capital at July 1, 2001 was approximately $425.4 million as compared to $497.1 million at April 1, 2001. Our current ratio decreased to 13.9 to 1, as of July 1, 2001, from 18.0 to 1, as of April 1, 2001. Net cash provided by operating activities for the three months ended July 1, 2001 of $915,000 was primarily due to the depreciation and amortization of $29.8 million, amortization of stock compensation of $1.4 million, a decrease in accounts receivable and inventories of $6.8 million and $5.8 million, respectively, and an increase in accrued liabilities of $8.6 million, partially offset by a net loss of $44.6 million, an increase in other current assets of $2.9 million, and a decrease in accounts payable of $5.5 million. Net cash used in operating activities for the three months ended July 2, 2000 of $5.9 million was primarily due to a net loss of $12.8 million, an increase in accounts receivables and inventories of $7.3 million and $1.9 million, respectively, and a decrease in accrued liabilities of $1.0 million, partially offset by depreciation and amortization of $10.5 million, acquired in-process research and development expenses in connection with the acquisition of Inverness Systems of $1.2 million, and increases in accounts payable and accrued National Insurance Contributions on options of $3.8 million and $2.5 million, respectively. Net cash used in investing activities was $68.5 million for the three months ended July 1, 2001, which reflected the net purchase of short-term investments of $7.5 million, purchase of investments of $56.5 million, and net purchase of property and equipment of $4.5 million. Net cash used in investing activities was $844,000 for the three months ended July 2, 2000, which reflected $541,000 of cash received in connection with our acquisition of Inverness Systems, net of cash acquisition expenses, and net purchases of property and equipment of $1.4 million. Net cash provided by financing activities was $2.4 million for the three months ended July 1, 2001. Net cash provided by financing activities was attributable primarily to proceeds from the issuance of common stock through our employee stock purchase plan and employee stock option plan of $2.2 million. Net cash provided by financing activities was $677,000 for the three months ended July 2, 2000, attributable primarily to proceeds from the issuance of common stock through our employee stock purchase plan and employee stock option plan of $909,000. We plan to continue to invest in our infrastructure, including information systems, in order to gain efficiencies and meet the demands of our markets and customers. We believe our current cash, cash equivalents, and short-term investments will be sufficient to meet our anticipated cash needs for working capital and capital expenditures for the next 12 months. Thereafter, if cash generated from operations is insufficient to satisfy our long-term liquidity requirements, we may seek to sell additional equity or debt securities or to obtain an additional credit facility. If additional funds are raised through the issuance of debt securities, these securities could have rights, preferences and privileges senior to holders of common stock, and the terms of any debt could impose restrictions on our operations. The sale of additional equity or debt securities could result in additional dilution to our stockholders, and additional financing may not be available in amounts or on terms acceptable to us, if at all. If we are unable to obtain this additional financing, we may be required to reduce the scope of our planned product development and marketing efforts, which could harm our business, financial condition and operating results. Recent Accounting Pronouncements In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivatives and Hedging Activities." SFAS No. 133 establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. In July 1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133." SFAS No. 137 deferred the effective date of SFAS No. 133 until fiscal years beginning after June 15, 2000. Virata will adopt SFAS No. 133 during its fiscal year ending March 31, 2002. To date, Virata has not engaged in derivative or hedging activities. The Company does not expect the adoption of SFAS No. 133 to have a material effect on its financial position or results of operations. In July 2001, the FASB issued SFAS No. 141, "Business Combinations." SFAS No. 141 requires the purchase method of accounting for business combinations initiated after June 30, 2001 and eliminates the pooling-of-interests method. In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets," which is effective for fiscal years beginning after March 15, 2001. SFAS No. 142 requires, among other things, the discontinuance of goodwill amortization. In addition, the standard includes provisions upon adoption for the reclassification of certain existing recognized intangibles as goodwill, reassessment of the useful lives of existing recognized intangibles, 13 reclassification of certain intangibles out of previously reported goodwill and the testing for impairment of existing goodwill and other intangibles. The Company is currently assessing, but has not yet determined the impact of SFAS No. 142 on its financial position and results of operations. Risk Factors The risks described below and other information included in this Quarterly Report should be carefully considered. The risks and uncertainties described below are not the only ones facing us. Additional risks and uncertainties not presently known to us or that we currently deem immaterial may also impair our business operations. If any of the following risks actually occur, our business, financial condition or results of operations could be harmed. These risk factors are not intended to represent a complete list of the general or specific risk factors that may affect us. Because we have a limited operating history selling products to the digital subscriber line, or DSL, market, we cannot be sure that we can successfully implement our business strategy We have not had a long history of selling our products to the DSL market or generating significant revenues and many of our products have only recently been introduced. Furthermore, we have limited historical financial data that can be used in evaluating our business prospects and in projecting future operating results. For example, we cannot forecast operating expenses based on our historical results because they are limited and we are instead required to forecast expenses based in part on future revenue projections. Most of our expenses are fixed in the short term and we may not be able to quickly reduce spending if our revenue is lower than we had projected. Therefore net losses in a given quarter could be greater than expected. In addition, our ability to accurately forecast our revenue going forward is limited which makes it difficult to predict in which quarter sales will occur. You must consider our prospects in light of the risks, expenses and difficulties we might encounter because we are at an early stage of development in a new and rapidly evolving market. Many of these risks are described under the sub-headings below. We may not successfully address any or all of these risks and our business strategy may not be successful. Because we may not be able to achieve or sustain profitability or positive cash flow, the price of our stock may decline and we may not be able to implement our business strategy We have not reported an operating profit for any fiscal year since our incorporation and have an accumulated deficit of $293.1 million at July 1, 2001. We expect to continue to incur net losses and these losses may be substantial. Due to our continuing substantial capital expenditures and product development, sales, marketing and administrative expenses, we will need to generate significant revenues to achieve profitability and positive cash flow. We cannot be sure that we will be able to generate such revenues or achieve profitability or positive cash flow. Even if we do achieve profitability and positive cash flow, we may not be able to sustain or increase profitability or cash flow on a quarterly or annual basis. Our ability to generate future revenues will depend on a number of factors, many of which are beyond our control. These factors include: . the rate of market acceptance of high speed network access; . the rate of market acceptance of our products and the demand for equipment that incorporates our products; . changes in industry standards governing DSL technologies; . the extent and timing of new customer transactions; . personnel changes, particularly those involving engineering and technical personnel; . regulatory developments; and . general economic trends. Due to these factors, we cannot forecast with any degree of accuracy what our revenues will be in future periods and we may not be able to achieve or sustain profitability or positive cash flow. Our ability to continue to operate our business and implement our business strategy may thus be hampered and the value of our stock may decline. Because our operating results from quarter to quarter may fluctuate, the price of our stock may decline Our revenues, expenses and operating results have fluctuated in the past and are likely to fluctuate significantly in the future on a quarterly and an annual basis due to a number of factors, many of which are outside our control. For example, our results of operations have been negatively affected by the following: . the loss of or decrease in sales to a major customer or failure to complete significant transactions; 14 . the timing and size of semiconductor orders from, and shipments to, our existing and new customers; . unexpected delays in introducing new or enhanced products, including manufacturing delays; . the volume and average cost of products manufactured; and . the timing and size of expenses, including expenses to develop new products and product improvements. Accordingly, our revenues, expenses and results of operations could vary significantly in the future and you should not rely upon period-to-period comparisons as indications of future performance. Such fluctuations may make our stock unattractive to investors and result in a decline in the price of our stock. Because our business is dependent upon the broad deployment of DSL services by telecommunications service providers, we may not be able to generate substantial sales of our products if such deployment does not occur Our products are incorporated in equipment that is targeted at end-users of DSL technologies. Consequently, the success of our products may depend upon the decision by telecommunications service providers to broadly deploy DSL technologies and the timing of such deployment. If telecommunications service providers do not offer DSL services on a timely basis, or if there are technical difficulties with the deployment of DSL services, sales of our products may decline, which would have a negative effect on our results of operations. Factors that may impact this deployment include: . a prolonged approval process, including laboratory tests, technical trials, marketing trials, initial commercial deployment and full commercial deployment; . the development of a viable business model for DSL services, including the capability to market, sell, install and maintain DSL services; . cost constraints, such as installation costs and space and power requirements at the telecommunications service provider's central office; . evolving industry standards for DSL technologies; and . government regulation. Because DSL deployments may utilize an alternative CPE solution, we may not be able to generate substantial sales of our products and our results of operations may be negatively impacted Even if telecommunications service providers broadly deploy DSL technologies, such deployments may move away from bridges and routers as the dominant CPE solution and utilize low-end USB modems or another solution where our products are not required or our market share is substantially smaller. In such an event, if we are unable to attain or increase our market share with respect to the alternative deployment solution, then the demand for our products may decrease, which would have a negative impact on our operating results. In addition, even if we are able to participate in the market, the margins we realize in connection with any such alternative solution may be substantially less than the margins we currently realize. A significant decrease in our margins would have a negative impact on our results of operations. Because our products are components of other equipment, if equipment manufacturers do not incorporate our products in their equipment, we may not be able to generate adequate sales of our products Our products are not sold directly to the end-user; rather, they are components of other products. As a result, we rely upon equipment manufacturers to design our products into their equipment. We further rely on this equipment to be successful. If equipment that incorporates our products is not accepted in the marketplace, we may not achieve adequate sales volume of our products, which would have a negative effect on our results of operations. Because the requirements of our customers frequently change, we may not be able to anticipate trends in the markets for our products, which could result in a decline in sales of our products We must anticipate the price, performance and functionality requirements of equipment manufacturers who design DSL equipment. We must also successfully develop products that meet these requirements and make these products available on a timely basis and in sufficient quantities. If we do not anticipate trends in the DSL market and fail to meet the requirements of manufacturers of DSL equipment, we may be unable to generate substantial sales of our products, which would have a negative effect on our results of operations. While we have a strategy of licensing and partnering with as many key participants in our markets as possible, some equipment manufacturers will be more successful than others in developing and marketing their products that 15 incorporate our semiconductor products and it is difficult for us to predict which of these customers will generate revenues for us. Our product sales are almost completely dependent upon the relative success of our customers in the marketplace for high-speed network access equipment. Because we depend on third party foundries to manufacture, assemble and test our products, we may experience delays in receiving semiconductor devices We do not own or operate a semiconductor fabrication facility. Rather, our semiconductor devices are generally manufactured at independent foundries. We intend to continue to rely on third-party foundries and other specialist suppliers for all of our manufacturing, assembly and testing requirements. However, these foundries are not obligated to supply products to us for any specific period, in any specific quantity or at any specific price, except as may be provided in a particular purchase order that has been accepted by one of them. As a result, we cannot directly control semiconductor delivery schedules, which could lead to product shortages, quality assurance problems and increases in the costs of our products. In addition, we have occasionally experienced delays in receiving semiconductor devices from foundries due to foundry scheduling and process problems. To date, such delays have not had a material effect on our results of operations. However, we may experience delays in the future and we cannot be sure that we will be able to obtain semiconductors within the time frames and in the volumes required by us at an affordable cost or at all. Any disruption in the availability of semiconductors or any problems associated with the delivery, quality or cost of the fabrication assembly and testing of our products could significantly hinder our ability to deliver our products to our customers and may result in a decrease in sales of our products. If the foundries we currently use are unable to provide us with semiconductors, we may be required to seek a new manufacturer of our semiconductors, and we cannot be certain that a new manufacturer of our semiconductors will be available. Furthermore, switching to a new manufacturer could require six months or more and would involve significant expense and disruption to our business. Because we depend on third party foundries, if there is a shortage in worldwide foundry capacity, we may not be able to obtain sufficient manufacturing capacity to meet our requirements From time to time there may be shortages in worldwide foundry capacity due to increases in semiconductor demand or other factors. In the event of such a shortage, we may not be able to obtain a sufficient allocation of foundry capacity to meet our product needs. In addition, such a shortage could lengthen our products' manufacturing cycle and cause a delay in the shipments of our products to our customers. This could ultimately lead to a loss of sales of our products and have a negative effect on our results of operations. Because we may be required to enter into financial and other arrangements with foundries in order to secure foundry capacity, our earnings or the ownership of our stockholders may be diluted Allocation of a foundry's manufacturing capacity may be influenced by a customer's size or the existence of a long-term agreement with the foundry. To address foundry capacity constraints, other semiconductor suppliers that rely on third-party foundries have utilized various arrangements, including equity investments in or loans to independent component manufacturers, in exchange for guaranteed production capacity, joint ventures to own and operate foundries, or "take or pay" contracts that commit a company to purchase specified quantities of components over extended periods. While we are not currently a party to any of these arrangements, we may enter into such arrangements in the future. We cannot be sure, however, that these arrangements will be available to us on acceptable terms or at all. Any of these arrangements could require us to commit substantial capital. The need to commit substantial capital could require us to obtain additional debt or equity financing, which could result in dilution to our earnings or the ownership of our stockholders. We cannot be sure that this additional financing, if required, would be available when needed or, if available, could be obtained on terms acceptable to us. Because the manufacture of our products is complex, the foundries on which we depend may not achieve the necessary yields or product reliability that our business requires The manufacture of our products is a highly complex and precise process, requiring production in a highly controlled environment. Changes in manufacturing processes or the inadvertent use of defective or contaminated materials by a foundry could adversely affect the foundry's ability to achieve acceptable manufacturing yields and product reliability. If the foundries we currently use do not achieve the necessary yields or product reliability, our customer relationships could suffer. This could ultimately lead to a loss of sales of our products and have a negative effect on our results of operations. Because we depend on a license from Advanced RISC Machines to manufacture certain of our planned 16 communicator processor products, our loss of or inability to maintain the license could result in increased costs or delays in the manufacturing of our products Our communicator processor products feature embedded ARM RISC microprocessors and, accordingly, are required to be manufactured under a license from Advanced RISC Machines, or ARM, the owner of the intellectual property to the ARM RISC microprocessor. In the past, we were required to use foundries with an ARM license for the manufacture of our communicator processor products. In June 1999, we obtained a per semiconductor design ARM license, which means that we are now able to select foundry suppliers that best meet our quality, delivery and cost objectives regardless of whether they have their own ARM license or not. With this greater flexibility, we are able to assume more of the manufacturing and quality control responsibilities, including contracting for wafer processing, assembly and testing from separate suppliers. If we lose or are unable to maintain the per semiconductor design license, we would be required to seek alternative fabrication facilities in our manufacturing of our communicator processor products. Without the ARM license, the number of fabrication facilities we could use in our manufacturing would be substantially reduced to those fabrication facilities that themselves have been directly licensed by Advanced RISC Machines. Accordingly, the loss of, or our inability to maintain the ARM license may result in increased costs or delays in our ability to manufacture our products and could harm our results of operations. In addition, ARM is only required to indemnify us against intellectual property infringement claims up to a specified dollar amount. Because we rely on the technology of third parties, the loss of or inability to obtain the third party technology could result in increased costs or delays in the production or improvement of our products We currently license needed access to technology of third parties to develop and manufacture our products, including licenses from Advanced RISC Machines and Wind River Systems, Inc. If any of these third party providers were to change their product offerings or terminate our licenses, we would incur additional developmental costs and, perhaps, delays in production, or be forced to modify our existing or planned software product offerings. In addition, if the cost of any of these third party licenses or products significantly increases, we could suffer a resulting increase in costs or delays in our ability to manufacture our products or provide complete customer solutions and this could harm our results of operations. We cannot be sure that such third party licenses or substitutes will be available on commercially favorable terms. Because our customer base is concentrated, the loss of one or more of our customers may result in a loss of a significant amount of our revenues A relatively small number of customers account for a large percentage of our total revenues. We expect this trend to continue. Our business will be seriously harmed if we do not generate as much revenue as we expect from these customers, experience a loss of any of our significant customers or suffer a substantial reduction in orders from these customers. For the three months ended July 1, 2001, Ambit Microsystems and Siemens A.G. accounted for 50.0% and 19.9% of our total revenues, respectively. For the three months ended July 2, 2000, Westell Technologies accounted for 34.2% of our total revenues. However, due to our customers' inventory buildup in the second half of fiscal year 2001, certain customers rescheduled or cancelled shipments in Asia and the U.S. and revised the shipment schedules of their remaining orders. Our future success depends in significant part upon the decision of our customers to continue to purchase products from us. Furthermore, it is possible that equipment manufacturers may design and develop internally, or acquire, their own semiconductor technology, rather than continue to purchase semiconductors from third parties like us. If we are not successful in maintaining relationships with key customers and winning new customers, sales of our products may decline. In addition, because a significant portion of our business has been and is expected to continue to be derived from orders placed by a limited number of large customers, variations in the timing of these orders can cause significant fluctuations in our operating results. Because manufacturers of DSL equipment may be reluctant to change their sources of components, if we do not achieve design wins with manufacturers of DSL equipment, we may be unable to secure sales from these customers in the future Once a manufacturer of DSL equipment has designed a supplier's semiconductor into its products, the manufacturer may be reluctant to change its source of semiconductors due to the significant costs associated with qualifying a new supplier. Accordingly, our failure to achieve design wins with manufacturers of DSL equipment which have chosen a competitor's semiconductor could create barriers to future sales opportunities with these manufacturers. 17 Because our customers are not subject to binding agreements, we cannot be certain that we will sell any of our products Achieving a design win with a customer does not create a binding commitment from that customer to purchase our products. Rather, a design win is solely an expression of interest by potential customers in purchasing our products and is not supported by binding commitments of any nature. Accordingly, a customer can choose at any time to discontinue using our products in their designs or product development efforts. Even if our products are chosen to be incorporated into a customer's products, we still may not realize significant revenues from that customer if their products are not commercially successful. In the second half of fiscal year 2001 and the three months ended July 1, 2001, we rescheduled and/or cancelled semiconductor shipments that our customers had contractually agreed to receive and revised the shipment schedule of the remaining orders to a limited number of our customers in Asia and the U.S. Therefore, we cannot be sure that any design win will result in purchase orders for our products, or that these purchase orders will not be later canceled. Our inability to convert design wins into actual sales and any cancellation of a purchase order could have a negative impact on our financial condition and results of operations. Because our customers may cancel orders, we may not be able to recoup expenses incurred in anticipation of sales of our products We work closely with our customers to determine their future product needs and receive a rolling forecast for products. We have incurred and expect to continue to incur expenses based upon these sales forecasts. However, our customer purchase agreements generally contain no minimum purchase requirements and customers typically purchase our products pursuant to short-term purchase orders that may be canceled without charge if notice is given within an agreed-upon period. Therefore, we cannot be sure that the actual product revenues which we will receive will be commensurate with the level of expenses that we will incur based on forecasts we receive from our customers in any future period. As a result, cancellations, deferrals or reductions in pending purchase orders could have a negative impact on our financial condition and results of operations. Because most of our revenues have been and will be derived from a limited number of products, we may not be able to generate sufficient revenues to sustain our business if any of these products fail to gain market acceptance For the three months ended July 1, 2001, approximately 96.7% of our semiconductor revenues were generated from sales of our Helium products. For the three months ended July 2, 2000, approximately 76.6% of our semiconductor revenues were generated from sales of our Helium products. We expect that a substantial portion of our total revenues will continue to be derived from our Helium and Beryllium families. Therefore, broad market acceptance of the Helium, Helium derivatives and Beryllium is critical to our success. We cannot be sure that our products will attain broad market acceptance. The failure of our products to achieve broad market acceptance could result in a decrease in our revenues, which would have a negative impact on our results of operations and financial condition. Because our products typically have lengthy sales cycles, we may experience substantial delays between incurring expenses related to research and development and the generation of sales revenue and may not ultimately sell a large volume of our products It often takes more than one year, occasionally more than two years, for us to realize volume shipments of our semiconductor products after we first contact a customer. We first work with customers to achieve a design win, which may take six months or longer, at which time we sell a source code license. Our customers then complete the design, testing and evaluation of their systems and begin the marketing process, a period which typically lasts an additional three to six months or longer. As a result, a significant period of time may elapse between our sales efforts and our realization of revenues, if any, from volume purchasing of our products by our customers. Because our products are complex, the detection of errors in our products may be delayed, and if we deliver products with defects, our credibility will be harmed, and the sales and market acceptance of our products may decrease Our products are complex and may contain errors, defects and bugs when introduced. If we deliver products with errors, defects or bugs, our credibility and the market acceptance and sales of our products could be significantly harmed. Furthermore, the nature of our products may also delay the detection of any such error or defect. If our products contain errors, defects and bugs, then we may be required to expend significant capital and resources to alleviate these problems. This could result in the diversion of technical and other resources from our other development efforts. Any actual or perceived problems or delays may also adversely affect our ability to attract or retain customers. 18 Because defects in our products may give rise to product liability claims against us, we may be required to incur increased expenses and divert management resources away from our operations The existence of any defects, errors or failures in our products could lead to product liability claims or lawsuits against us or against our customers. In addition, we have agreed to indemnify certain of our customers in certain limited circumstances against liability from defects in our products. A successful product liability claim could result in substantial cost and divert management's attention and resources, which would have a negative impact on our financial condition and results of operations. Although we have not experienced any product liability claims to date, the sale and support of our products entail the risk of these claims. Because we are introducing industry standard compliant chip sets, we may be required to obtain licenses on adverse terms to sell industry standard compliant chip sets We have received correspondence, including a proposed licensing agreement, from Amati Corporation (which was acquired by Texas Instruments) stating that they believe that they own a number of patents that are required to be compliant with the American National Standards Institute, or ANSI, standard specification T1.413. This industry standard is based on the DMT line code. We have introduced products that we believe are compliant with this industry standard, and we may be required to obtain a license to these Amati patents. We are currently evaluating Amati's patents and proposed licensing terms. If these patents are valid and essential to the implementation of products that are compliant with this industry standard, then Amati may be required to offer us a license to use these patents on commercially reasonable, non-discriminatory terms. If these patents are valid, but not essential to the implementation of products that are compliant with this industry standard, and they apply to our products and we do not modify our products so they become non-infringing, then Amati would not be obligated to offer us a license on reasonable terms or at all. If we are not able to agree on license terms and as a result fail to obtain a required license, then we could be sued and potentially be liable for substantial monetary damages or have the sale of our products stopped by an injunction. We could also be subject to similar claims like the Amati claim by third parties in the future. Because we have significant operations in countries outside of the U.S., we may be subject to political, economic and other conditions affecting such countries that could result in increased operating expenses and regulation of our products Significant portions of our operations occur outside the U.S. One of our principal subsidiaries is incorporated under the laws of, and its principal offices are located in, the United Kingdom. We also have a subsidiary and sales office in Taipei, Taiwan and sales offices in several other countries. In addition, on April 27, 2000, we completed the acquisition of Inverness Systems, a privately-held corporation based in Israel. Our international operations are subject to a number of risks, including foreign currency exchange rate fluctuations; longer sales cycles; multiple, conflicting and changing governmental laws and regulations; protectionist laws and business practices that favor local competition; difficulties in collecting accounts receivable; and political and economic instability. In addition, in September 1999, Taiwan was affected by a significant earthquake. Recently there have been additional earthquakes and the risk of future earthquakes is significant due to the proximity of major earthquake fault lines in the area. Taiwan has also suffered from political unrest. Any future earthquakes, fire, flooding or other natural disasters, political unrest, labor strikes or work stoppages in Taiwan would likely result in the disruption of our operations at that facility. Finally, as a result of our acquisition of Inverness Systems, we are directly affected by the political, economic and military conditions affecting Israel. Major hostilities involving Israel, including current events, could significantly harm our business. Israel's economy has been subject to numerous destabilizing factors, including low foreign exchange reserves, fluctuations in world commodity prices, military conflicts and civil unrest. Although Israel has entered into various agreements with certain Arab countries and the Palestinian Authority, and various declarations have been signed in connection with efforts to resolve some of the economic and political problems in the Middle East, Israel is currently experiencing political and civil unrest. We cannot predict whether or in what manner these problems will be resolved. In addition, some of the officers and employees of Inverness systems are currently obligated to perform annual reserve duty in the Israeli armed forces and are subject to being called to active duty at any time under emergency circumstances. We cannot assess or predict the full impact of these obligations on our workforce or business. Because we sell a significant portion of our products in countries other than the U.S., we may be subject to political, economic and other conditions affecting such countries that could result in decreased revenue for our products International revenues accounted for 93.4% our total revenues for the three months ended July 1, 2001, and 23.7% for the three months ended July 2, 2000. We expect that sales to our international customers will continue to account for a significant portion of our total revenues for at least the next 12 months. Accordingly, we are subject to 19 the political, economic and other conditions affecting countries or jurisdictions other than the U.S., including Israel, Europe and Asia. Any interruption or curtailment of trade between the countries in which we operate and their present trading partners, change in exchange rates or a significant downturn in the political, economic or financial condition of these countries could cause demand for and revenue from our products to decrease, cause our costs of doing business to increase or subject us to increased regulation including future import and export restrictions. Because we have expanded rapidly and future expansion may be required, we may lack the ability to manage this growth in our operations We have rapidly and significantly expanded our operations, including the number of our employees, the geographic scope of our activities and our product offerings. We completed the acquisitions of D2 Technologies, Inverness Systems, Excess Bandwidth and Agranat Systems. Our continued success will depend significantly on our ability to integrate these new operations and new personnel. We expect that further significant expansion will be required to address potential growth in our customer base and market opportunities. If we are unable to manage growth effectively, we may not be able to take advantage of market opportunities, develop or enhance our products or our technical capabilities, execute our business plan or otherwise respond to competitive pressures or unanticipated requirements. To successfully manage the anticipated growth of our operations, we believe we must effectively be able to: . improve our existing and implement new operational, financial and management information controls, reporting systems and procedures; . hire, train and manage additional qualified personnel; . expand and upgrade our core technologies; and . effectively manage multiple relationships with our customers, suppliers and other third parties. We may engage in future acquisitions that could dilute our stockholders' equity and harm our business, results of operations and financial condition As part of our business strategy, from time to time, we expect to review opportunities to acquire and may acquire other businesses or products that will complement our existing product offerings, augment our market coverage or enhance our technological capabilities. Although we have no current agreements or negotiations underway with respect to any material acquisitions, we may make acquisitions of businesses, products or technologies in the future. However, we cannot be sure that we will be able to locate suitable acquisition opportunities. Future acquisitions by us could result in the following, any of which could seriously harm our results of operations or the price of our stock: . issuance of equity securities that would dilute our current stockholders' percentages of ownership; . large one-time write-offs; . the incurrence of debt and contingent liabilities; . difficulties in the assimilation and integration of the operations, personnel, technologies, products and the information systems of the acquired companies; . diversion of management's attention from other business concerns; . contractual disputes; . risks of entering geographic and business markets in which we have no or only limited prior experience; and . potential loss of key employees of acquired organizations. 20 Use of our products requires significant training and support and because of our limited resources, we may not be able to support the demand for our products The development of equipment using our products requires significant training and support. If we are unable to provide this training and support for our products, more time may be necessary to complete the implementation process and customer satisfaction may be adversely affected. In addition, our suppliers may not be able to meet increased demand for our products. We cannot be sure that our systems, procedures or controls or those of our suppliers will be adequate to support the anticipated growth in our operations or the demand for our products. This may result in a decline in the sales of our products and have a negative impact on our results of operations. Our executive officers and key personnel are critical to our business, and because there is significant competition for personnel in our industry, we may not be able to attract and retain such qualified personnel Our success depends to a significant degree upon the continued contributions of our executive management team, and our technical, marketing, sales customer support and product development personnel. The loss of significant numbers of such personnel could significantly harm our business, financial condition and results of operations. We do not have any life insurance or other insurance covering the loss of any of our key employees. Because our products are specialized and complex, our success depends upon our ability to attract, train and retain qualified personnel, including qualified technical, marketing and sales personnel. However, the competition for personnel is intense and we may have difficulty attracting and retaining such personnel. In addition, companies in the communications, software and semiconductor industries have frequently made unfair hiring practices claims against competitors who have hired away such companies' personnel. We cannot be sure that these claims will not be made against us in the future as we seek to hire qualified personnel, or that any of these claims would be decided in our favor. We may incur substantial costs in defending ourselves against any such claims, regardless of their merits. We have entered into employment agreements with our executive officers and certain other key employees that provide for set terms of employment. In addition, all of our employees in the United Kingdom and Israel have employment agreements governed by the laws of the United Kingdom and Israel, respectively. Our employment agreements do not contain anti-competition clauses. Because the markets in which we compete are highly competitive, and many of our competitors have greater resources than we do, we cannot be certain that our products will be accepted in the marketplace or capture market share The market for software and communications semiconductor solutions is intensely competitive and characterized by rapid technological change, evolving standards, short product life cycles and price erosion. We expect competition to intensify as current competitors expand their product offerings and new competitors enter the market. Given the highly competitive environment in which we operate, we cannot be sure that any competitive advantages enjoyed by our products would be sufficient to establish and sustain our products in the market. Any increase in price or other competition could result in erosion of our market share, to the extent we have obtained market share, and would have a negative impact on our financial condition and results of operations. We cannot be sure that we will have the financial resources, technical expertise or marketing and support capabilities to continue to compete successfully. We face competition from a variety of vendors, including software and semiconductor companies, which generally vary in size and in the scope and breadth of products and services offered. We also face competition from customers' or prospective customers' own internal development efforts. Many of the companies that compete or may compete in the future against us have longer operating histories, greater name recognition, larger installed customer bases and significantly greater financial, technical and marketing resources. These competitors may also have pre-existing relationships with our customers or potential customers. As a result, they may be able to introduce new technologies, respond more quickly to changing customer requirements or devote greater resources to the development, promotion and sale of their products than we can. Our competitors may successfully integrate the functionality of our software and communication processors into their products and thereby render our products obsolete. Further, in the event of a manufacturing capacity shortage, these competitors may be able to manufacture products when we are unable to do so. We believe our principal competitors include or will include Alcatel Microelectronics, Analog Devices, Broadcom, Centillium Communications, Mindspeed, GlobeSpan, Intel, Motorola and Texas Instruments. In addition, there have been a number of announcements by other semiconductor companies and smaller emerging companies that they intend to enter the market segments adjacent to or addressed by our products, 21 including Intel and Texas Instruments as Helium and Lithium competitors, GlobeSpan as a Beryllium competitor, and Linux shareware as software competitor. Because the markets in which our customers compete are highly competitive, our customers may not be successful and they may not continue to purchase our products Many of our customers face significant competition in their markets. If our customers are unable to successfully market and sell their products that incorporate our products, these customers may cease to purchase our products, which may have a negative impact on our results of operations. Because the markets in which we compete are subject to rapid changes, our products may become obsolete or unmarketable The markets for our products and services are characterized by rapidly changing technology, short product life cycles, evolving industry standards, changes in customer needs, growing competition and new product introductions. If our product development and improvements take longer than planned, the availability of our products would be delayed. Any such delay may render our products obsolete or unmarketable, which would have a negative impact on our ability to sell our products and our results of operations. Because of changing customer requirements and emerging industry standards, we may not be able to achieve broad market acceptance of our products Our success is dependent, in part, on our ability to: . successfully develop, introduce and market new and enhanced products at competitive prices in order to meet changing customer needs; . respond effectively to new technological changes or new product announcements by others; . effectively use and offer leading technologies; and . maintain close working relationships with our key customers. We cannot be sure that we will be successful in these pursuits, that the growth in demand will continue or that our products will achieve market acceptance. Our failure to develop and introduce new products that are compatible with industry standards and that satisfy customer requirements or the failure of our products to achieve broad market acceptance could have a negative impact on our ability to sell our products and our results of operations. Because the development of new products requires substantial time and expense, we may not be able to recover our development costs The pursuit of necessary technological advances and the development of new products require substantial time and expense. Improvements to existing products or the introduction of new products by us or our competitors has the potential to provide lower cost alternatives to our existing products or to render these products obsolete, unmarketable or inoperable. The mere announcement of any improvement or new product could cause potential customers to defer or cancel purchases of existing products and services. Therefore, we cannot be sure that we will be able to recover the costs of the development of our products or succeed in adapting our business to advancements. Because other high-speed data transmission technologies may compete effectively with digital subscriber line services, our products may not achieve anticipated unit growth DSL services are competing with a variety of different broadband data transmission technologies, including cable modems, satellite and other wireless technologies. If any technology that is competing with DSL technology is more reliable, faster, less expensive or has other advantages over DSL technology, then the demand for our semiconductors may decrease, which would have a negative impact on our operating results. Because price competition among our competitors and volume purchases by large customers may result in a decrease in the average per unit selling price of our products, the gross margins for our products may decline We expect that price competition among our competitors and volume purchases of our products at discounted prices will have a negative effect on our gross margin for these products. We anticipate that average per unit selling prices of DSL semiconductors will continue to decline as product technologies mature. Since we do not manufacture our own products, we may be unable to reduce our manufacturing costs in response to declining average per unit selling prices. Many of our competitors are larger and have greater resources than us, and therefore may be able to 22 achieve greater economies of scale and would be less vulnerable to price competition. Further, we expect that average per unit selling prices of our products will decrease in the future due to volume discounts to our large customers. These declines in average per unit selling prices will generally lead to declines in our gross margins for these products. Because the measures on which we rely to protect our intellectual property rights afford only limited protections, we may lose any competitive advantage we may have The measures on which we rely to protect our intellectual property afford only limited protection and we cannot be certain that these safeguards will adequately protect our intellectual property and other valuable competitive information. In addition, the laws of some countries in which we sell or plan to sell our products, including the Peoples' Republic of China, Korea and certain other Asian countries, may not protect our proprietary rights as fully as do the laws of the U.S., the United Kingdom or Israel. If we are unable to adequately protect our proprietary rights, we may lose any competitive advantage we may have over our competitors. This may have a negative impact on sales of our products and our results of operations. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or to obtain and use trade secrets or other information that we regard as proprietary. Our competitors may also independently develop similar technologies. Moreover, through our participation in various industry groups, we have entered into cross-licenses for intellectual property necessary to the implementation of certain types of standards-compliant products. Such cross-licenses may limit our ability to enforce our intellectual property rights against competitors. Because our industry is characterized by frequent litigation over intellectual property rights, we may be required to incur substantial expenses and divert management resources The industries in which we compete are characterized by numerous allegations of patent infringement among competitors. Such an infringement claim could be asserted against us or by us in the future. The defense or prosecution of any such claim could result in our incurrence of substantial expenses and may divert significant management attention and other resources away from our operations. In the event of an adverse result in any future litigation or claim, we may be required to: . pay substantial damages, including treble damages if we are held to have willfully infringed on the intellectual property of another; . halt the manufacture, use and sale of infringing products or technology; . forfeit a competitive advantage; . expend significant resources to develop non-infringing technology; or . obtain licenses to the infringing technology, which may not be available on commercially reasonable terms, or at all. Virata has recently been apprised of a lawsuit filed in the Federal Republic of Germany by QPSX Europe GmbH ("QPSX") against Siemens A.G.("Siemens"), for infringement of a European patent QPSX claims to have the right to enforce. Siemens is a licensee of Virata's wholly-owned subsidiary, Virata Israel (formerly Inverness Systems), with respect to certain software. The license agreement between Virata Israel and Siemens provides for the indemnification of Siemens against claims of infringement based on Siemens' use of Virata Israel's software. Virata is presently investigating the nature and scope of QPSX's claims and whether indemnification of Siemens is warranted. As yet, Virata has made no determination regarding indemnity and Siemens has not invoked any right of indemnity. QPSX has informed Virata that it believes the lawsuit has a litigation value estimated at $54.6 million. Virata has made no determination of the value of the litigation. If Virata determines that indemnification of Siemens is appropriate, it intends to vigorously defend the QPSX lawsuit. Because our products may be required to meet certain industry standards, we may be required to pay substantial royalties to the owners of the intellectual property underlying the standards In order for us to comply with the International Telecommunications Union V.34, V.90 and ADSL standards, the software embedded in our current and planned future products may use the proprietary technology of various parties advancing or promoting these standards. Where such owners are members of such working group or union, they must provide a license upon reasonable terms, which may include the payment of a reasonable royalty. However, if such owners are not members of such working group or union, there may be no limit on the terms or the amount of the royalty with respect to such proprietary technology. As a result, the cumulative effect of the terms and 23 royalties with respect to the use of the proprietary technology necessary to meet such industry standards could increase the cost of our products to the point that they are no longer competitive and could limit our ability to meet certain industry standards. Because our products and those of our customers are subject to government regulations, changes in current laws or regulations could cause sales of our products to decline The jurisdiction of the Federal Communications Commission, or FCC, extends to the entire U.S. communications industry, including our customers and their products and services that incorporate our products. Future FCC regulations affecting the U.S. communications services industry, our customers or our products may have a negative effect on our business. For example, FCC regulatory policies that affect the availability of data and Internet services may impede our customers' penetration into certain markets or affect the prices that they are able to charge. This may cause sales of our products to decline. In addition, international regulatory bodies have introduced new regulations for the communications industry. Delays caused by our compliance with regulatory requirements may result in order cancellations or postponements of product purchases by our customers, which would have a negative impact on our results of operations and financial condition. Because the Nasdaq stock market is likely to experience extreme price and volume fluctuations, the price of our stock may decline even if our business is doing well The stock markets, and in particular the Nasdaq stock market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many technology companies. These fluctuations often have been unrelated or disproportionate to the operating performance of those companies. We also expect that the market price of our common stock will fluctuate as a result of variations in our quarterly operating results. These fluctuations may be exaggerated if the trading volume of our common stock is low. In addition, due to the technology-intensive and emerging nature of our business, the market price of our common stock may rise and fall in response to: . announcements of technological or competitive developments; . acquisitions or strategic alliances by us or our competitors; . the gain or loss of a significant customer or order; and . changes in estimates of our financial performance or changes in recommendations by securities analysts. Accordingly, market fluctuations, as well as general economic, political and market conditions such as recessions, interest rate changes or international currency fluctuations, may negatively impact the market price of our common stock. Because of likely fluctuations in the price of our stock we may be subject to class action litigation, which could distract management and result in substantial costs In the past, securities class action litigation has often been brought against companies following periods of volatility in the market price of their securities. We may be the target of similar litigation in the future. Securities litigation could result in substantial costs and divert management's attention and resources from our operations and sales of our products, which would have a negative impact on our financial condition and results of operations. 24 ITEM 3 -- Quantitative and Qualitative Disclosures about Market Risk. The primary objective of Virata's investment activities is to preserve principal while at the same time maximizing the income we receive from our investments without significantly increasing risk. Some of the securities that we may invest in may be subject to market risk. This means that a change in prevailing interest rates may cause the principal amount of the investment to fluctuate. For example, if we hold a security that was issued with a fixed interest rate at the then-prevailing rate and the prevailing interest rate later rises, the principal amount of our investment will likely decline. To minimize this risk in the future, we maintain our portfolio of cash equivalents and marketable investments in a variety of securities, including commercial paper, money market funds, government and corporate debt securities and certificates of deposit. As of July 1, 2001, all of our marketable investments are government or corporate debt securities or high quality commercial paper. In addition, contract maturities of these securities were within two years as of July 1, 2001. See Note 4 of the "Notes to Condensed Consolidated Financial Statements". We also have investments in restricted shares of privately-held technology companies. These non-marketable shares are recorded at cost and are classified on the balance sheet as non-current assets. We do not hold these securities for speculative or trading purposes. We make investments in key business partners and other industry participants in order to establish important strategic relationships, expand existing relationships and achieve a return on our investment. These investments are inherently risky as the markets for the technologies or products these companies have under development are typically in the early stages and may never materialize. As such, we could lose our entire investment in these companies. As of July 1, 2001, the fair value of these investments was $7.3 million. We develop products in the United Kingdom, Israel and the U.S. and sell in North America, Asia, Israel and Europe. As a result, our financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions. A strengthening of the dollar could make our products less competitive in foreign markets, since all of our sales are currently made in U.S. dollars. Currently, we incur non-dollar denominated operating costs in Europe, Israel and Asia, as well as net assets located in these geographies. At July 1, 2001, approximately 4.6% of our net assets were recorded in non-U.S. dollar currencies. We did not purchase or hold derivative financial instruments as of July 1, 2001. Management believes that the market risk associated with Virata's market risk sensitive instruments as of July 1, 2001 is not significant. 25 PART II - OTHER INFORMATION ITEM 1 - Legal Proceedings. Virata is not currently a party to any material legal proceedings. ITEM 2 - Changes In Securities and Use of Proceeds. None. ITEM 3 - Defaults Upon Senior Securities. None. ITEM 4 - Submission Of Matters To A Vote Of Security Holders. None. ITEM 5 - Other Information. None. 26 ITEM 6 - Exhibits And Reports On Form 8-K. Exhibits Exhibit ------- Number Description ------ ----------- 3.1 Amended and Restated Certificate of Incorporation of Virata Corporation (incorporated by reference to the Registrant's Annual Report on Form 10-K for the fiscal year ended April 2, 2000)........................................................ 3.2 Certificate of Amendment of Amended and Restated Certificate of Incorporation of Virata Corporation (incorporated by reference to the Registrant's Annual Report on Form 10-K for the fiscal year ended April 2, 2000)......................................... 3.3 Bylaws of Virata Corporation, as amended to date (incorporated by reference to the Registrant's Annual Report on Form 10-K for the fiscal year ended April 2, 2000)............................. 4.1 Specimen form of Virata Corporation's Common Stock Certificate (incorporated by reference to the 1999 Form S-1)............. 4.2 Form of Rights Agreement, dated as of May 2, 2001, between Virata Corporation and American Stock Transfer and Trust Company, as Rights Agent, which includes as Exhibit A the Form of Right Certificate, Form of Assignment and Form of Election to Purchase (incorporated by reference to the Registrant's Registration Statement on Form 8-K filed May 8, 2001)..................... 4.3 Form of Certificate of Designations of Series A Preferred Stock (incorporated by reference to the Registrant's Registration Statement on Form 8-K filed May 8, 2001)..................... Reports on Form 8-K The Registrant filed four reports on Form 8-K during the three months ended July 1, 2001. Information regarding the items reported on is as follows: Filing Date Item Reported On ----------- ---------------- May 4, 2001 The Company announced its fiscal year 2001 fourth quarter and year-end revenues for the period ended April 1, 2001. May 8, 2001 The Company announced the adoption of a stockholder rights plan. May 31, 2001 The Company announced that its annual meeting of stockholders will be held on August 21, 2001, at 10:00 a.m. at the Westin Hotel, located at 5101 Great America Parkway in Santa Clara, California. June 14, 2001 The Company announced its intention to reiterate the revenue guidance provided during its earnings conference call on April 25, 2001 with respect to its fiscal year 2002 first quarter. 27 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Virata Corporation Date: August 15, 2001 By: /s/ Charles Cotton ----------------------------------- Charles Cotton Chief Executive Officer (Principal Executive Officer) Date: August 15, 2001 By: /s/ Andrew Vought ----------------------------------- Andrew Vought Chief Financial Officer, Senior Vice President Finance and Administration and Secretary (Principal Financial and Accounting Officer) EXHIBIT INDEX Exhibit ------- Number Description ------ ----------- 3.1 Amended and Restated Certificate of Incorporation of Virata Corporation (incorporated by reference to the Registrant's Annual Report on Form 10-K for the fiscal year ended April 2, 2000).......................................................... 3.2 Certificate of Amendment of Amended and Restated Certificate of Incorporation of Virata Corporation (incorporated by reference to the Registrant's Annual Report on Form 10-K for the fiscal year ended April 2, 2000)........................................... 3.3 Bylaws of Virata Corporation, as amended to date (incorporated by reference to the Registrant's Annual Report on Form 10-K for the fiscal year ended April 2, 2000)............................... 4.1 Specimen form of Virata Corporation's Common Stock Certificate (incorporated by reference to the 1999 Form S-1)............... 4.2 Form of Rights Agreement, dated as of May 2, 2001, between Virata Corporation and American Stock Transfer and Trust Company, as Rights Agent, which includes as Exhibit A the Form of Right Certificate, Form of Assignment and Form of Election to Purchase (incorporated by reference to the Registrant's Registration Statement on Form 8-K filed May 8, 2001)....................... 4.3 Form of Certificate of Designations of Series A Preferred Stock (incorporated by reference to the Registrant's Registration Statement on Form 8-K filed May 8, 2001)....................... 29

VIRATA CORP 10-Q