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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

For the quarterly period ended September 30, 2002

OR

For the transition period from __________ to __________

Commission file number: 333-87267

POET HOLDINGS, INC.
(Exact name of Registrant as specified in its charter)

999 BAKER WAY, SUITE 200
SAN MATEO, CALIFORNIA 94404
(650) 577-2500

(Address, including zip code, of Registrant’s principal executive offices and telephone number, including area code)

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

     The number of shares outstanding of the Registrant’s Common Stock on November 8, 2002 was 10,893,646 shares.

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POET HOLDINGS, INC. AND SUBSIDIARIES
FORM 10-Q

INDEX

Note Regarding Forward Looking Statements

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PART I: FINANCIAL INFORMATION

ITEM 1 FINANCIAL STATEMENTS

POET HOLDINGS, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PAR VALUE AMOUNTS)

Assets

See Notes to Unaudited Condensed Consolidated Financial Statements

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POET HOLDINGS, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

See Notes to Unaudited Condensed Consolidated Financial Statements

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POET HOLDINGS, INC. AND SUBSIDIARIES
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)

See Notes to Unaudited Condensed Consolidated Financial Statements

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POET HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2002
(UNAUDITED)

1. UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

The accompanying unaudited interim condensed consolidated financial statements have been prepared by Poet Holdings, Inc. and its subsidiaries (collectively, "Poet" or the "Company") pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. In the opinion of the Company’s management, these unaudited condensed consolidated financial statements include all adjustments necessary (consisting of normal, recurring adjustments) for a fair presentation of Poet’s financial position as of September 30, 2002, the results of operations and comprehensive loss for the three and nine month periods ended September 30, 2002 and 2001 and cash flows for the nine month periods ended September 30, 2002 and 2001.

The results of operations for the three and nine month periods ended September 30, 2002 are not necessarily indicative of the results to be expected for the fiscal year ending December 31, 2002. These consolidated financial statements should be read in conjunction with the consolidated financial statements and the accompanying notes included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2001 as filed with the SEC.

2. BALANCE SHEET COMPONENTS

INVESTMENTS

Investments with original maturities greater than three months and with maturities less than one year from the balance sheet date are classified as short-term investments. Investments with maturities one year or greater from the balance sheet date are classified as long-term investments. The Company accounts for investments in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 115 “Accounting for Certain Investments in Debt and Equity Securities.” The Company’s policy is to protect the value of its investment portfolio and to minimize principal risk by earning returns based on current interest rates. The Company has classified all of its investments as available-for-sale securities. While the Company’s practice is to hold debt securities to maturity, the Company has classified all debt securities as available-for-sale securities, as the sale of such securities may be required prior to maturity to implement management strategies. The carrying value of all securities is adjusted to fair market value, with unrealized gains or losses being excluded from earnings and reported as a separate component of stockholder’s equity. Cost is based on the specific identification method for purposes of computing realized gains and losses.

Investments include the following available-for-sale securities at September 30, 2002 (in thousands):

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Investments include the following available-for-sale securities at December 31, 2001 (in thousands):

At September 30, 2002 and December 31, 2001, the company had $2,311,000 and $772,000, respectively, of cash and equivalents excluded from the total available-for-sale securities balances above.

3. NET LOSS PER SHARE

The following is a reconciliation of the numerators and denominators used in computing basic and diluted net loss per share (in thousands, except per share amounts):

For the above mentioned periods, the Company had securities outstanding which could potentially dilute basic earnings per share in the future, but were excluded from the computation of diluted net loss per share in the periods presented, as their effect would have been antidilutive. Such outstanding securities consist of the following:

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4. SEGMENT INFORMATION, OPERATIONS BY GEOGRAPHIC AREA AND SIGNIFICANT CUSTOMERS

     The Company operates in one reportable segment, the development and marketing of software products that allow businesses to share and manage complex information and facilitate effective business-to-business processes and information exchange over the Internet. The Company principally operates in the U.S. and Germany. The following is a summary of operations within geographic areas (in thousands):

5. RESTRUCTURING COSTS

During the quarter ended September 30, 2002, the Company approved and implemented a plan to reduce its overall workforce and wind down its United States subsidiary, Poet Software Corporation. The actions resulted in severance and related costs and facility and equipment costs that totaled $1.8 million for the three months ended September 30, 2002. The Company expects the wind-down process to be completed by November 30, 2002.

As part of the restructuring plan, the Company is reducing its overall workforce by approximately 43% from 139 employees on June 30, 2002 to approximately 79 employees by November 30, 2002. Severance and related costs associated with these reductions totaling $1.1 million are included in operating expenses for the three months ended September 30, 2002.

In connection with the wind down of Poet Software Corporation and reduction in overall workforce, certain facilities leases were terminated and property and equipment sold. Charges relating to lease terminations and property and equipment of $676,000 are included in operating expenses for the three months ended September 30, 2002.

Substantially all of the remaining facilities and equipment costs of $538,000 are expected to be paid by December 31, 2002. Payments on the remaining severance costs of $413,000 will extend through approximately May 2003.

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6. EFFECTS OF RECENT ACCOUNTING PRONOUNCEMENTS

In July 2001, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 142, “Goodwill and Other Intangible Assets”. SFAS 142 requires goodwill to be tested for impairment under certain circumstances, and written off when impaired, rather than being amortized as previous standards required. The Company adopted SFAS 142 in the quarter ended March 31, 2002. The adoption of SFAS 142 did not have a material impact on our financial position or results of operations.

In August 2001, the FASB released SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”, which is effective in 2002. SFAS 144 establishes standards for accounting for impairment of long-lived assets used by an entity or held measuring impairments. The Company adopted SFAS 144 in the quarter ended March 31, 2002. The adoption of SFAS 144 did not have a material impact on our financial position or results of operations.

In November 2001, the FASB issued an announcement on the topic of “Income Statement characterization of Reimbursements Received for Out of Pocket Expense Incurred” (“EITF-01-14”), which was subsequently incorporated in Emerging Issues Task Force (“EITF”) No. 01-14. “EITF-01-14” requires companies to characterize reimbursements received for out of pocket expenses as revenues in the statement of operations. Historically, the Company has netted reimbursements received for out of pocket expenses against the related expenses in the accompanying condensed consolidated statements of operations. “EITF-01-14” is to be applied in financial reporting periods beginning after December 15, 2001 and comparative financial statements for the prior year are to be reclassified to comply with the guidance in “EITF-01-14.” The Company adopted “EITF-01-14” in the quarter ended March 31, 2002. “EITF-01-14” did not have a material effect on total consulting and training revenues or the consulting and training gross margin percentages and had no effect on net loss as it increased both consulting and training revenues and cost of consulting and training.

In June 2002, the FASB issued SFAS 146, Accounting for Costs Associated with Exit or Disposal Activities, which addresses accounting for restructuring and similar costs. SFAS 146 supersedes previous accounting guidance, principally Emerging Issues Task Force Issue No. 94-3. The Company will adopt the provisions of SFAS 146 for restructuring activities initiated after December 31, 2002. SFAS 146 requires that the liability for costs associated with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of the Company’s commitment to an exit plan. SFAS 146 also establishes that the liability should initially be measured and recorded at fair value. Accordingly, SFAS 146 may affect the timing of recognizing future restructuring costs as well as the amounts recognized.

7. SUBSEQUENT EVENTS

The Company spun off the North American field operations for its FastObjects database products into a separate entity called FastObjects, Inc. effective November 1, 2002. FastObjects, Inc. will serve as an exclusive reseller for the FastObjects Database product line in North America. As part of this spin off, the Company made an equity investment of $300,000 in the non-voting preferred stock of FastObjects, Inc. and paid $85,000 for certain support services to be provided to FastObjects during the months of November and December 2002.

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PART I: FINANCIAL INFORMATION

ITEM 2

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with Poet’s unaudited condensed consolidated financial statements and notes thereto. The results described below are not necessarily indicative of the results to be expected in any future period.

OVERVIEW

We are a provider of innovative software infrastructure and solutions that allow organizations to efficiently share, manage and manipulate complex data and facilitate effective business-to-business processes and information exchange over the Internet. Our Internet solutions provide our customers with the ability to efficiently create, manage, manipulate and electronically distribute and exchange complex business information such as product catalogs, customer pricing and other related information. Our solutions leverage the Internet as a new means to increase customer relationships, create new electronic sales channels, accelerate and automate business processes and reduce overhead costs. Our object database management system utilizes and supports complex, multidimensional data models, or frameworks within a database for the organization of information elements and their interrelationships, and standard Internet programming languages. Our database system allows our customers, software vendors and original equipment manufacturers, to build efficient, secure, reliable and high performance applications that are fully integrated, easy to use and cost efficient. Our open systems approach, which works with a variety of development tools, hardware, system software and networks, allows our customers to rapidly develop applications using our database products and customize our Internet solutions for work with a variety of standard application environments and third-party tools without having to make any significant adjustments to their existing internal information technology systems. It is our objective to make complex applications simple and affordable for a large group of organizations by providing sophisticated, easy to use and powerful software products that leverage the Internet and existing and emerging technology platforms.

From commencement of our operations in March 1995 through September 2002, our operating activities related primarily to increasing our research and development capabilities, designing and developing the software products which we are currently selling and staffing our administrative, sales and marketing organizations. Since inception, we have incurred significant losses, and as of September 30, 2002, we had an accumulated deficit of $53.4 million. For the three months ended September 30, 2002, our net loss was $4.2 million. We have not achieved profitability on a quarterly or annual basis and anticipate that we will incur net losses for the foreseeable future. We expect to continue to incur significant selling and marketing, product development, professional services and administrative expenses, and as a result, we will need to generate significantly higher revenues to achieve and maintain profitability. The Company employed 106 employees as of September 30, 2002 as compared to 165 employees as of September 30, 2001. Of the employees employed as of September 30, 2002, 91 of them were employed in Europe and 15 in the United States. As part of the Company’s restructuring plan, we will have approximately 79 employees by November 30, 2002 when the restructuring is completed.

RESULTS OF OPERATIONS

COMPARISON OF RESULTS FOR THE QUARTER ENDED SEPTEMBER 30, 2002 TO THE QUARTER ENDED SEPTEMBER 30, 2001

Total revenues decreased 8% from $1.8 million for the quarter ended September 30, 2001 to $1.7 million for the quarter ended September 30, 2002. Product revenues decreased 22% from $1.1 million for the quarter ended September 30, 2001 to $0.8 million for the quarter ended September 30, 2002. The decrease in product revenues was due primarily to weakening economic conditions in the United States and Europe. Consulting and training revenues increased 15% from $342,000 for the quarter ended September 30, 2001 to $392,000 for the quarter ended September 30, 2002. The increase in consulting and training revenues was due primarily to an increase in consulting services performed in relation to our eSupplier Solutions product line in the quarter ended September 30, 2002 compared to the quarter ended September 30, 2001. Support and maintenance revenues increased 9% from $443,000 for the quarter ended September 30, 2001 to $483,000 for the quarter ended September 30, 2002. The increase in support and maintenance revenues was primarily due to an overall increase in the number of ESS support and maintenance customers.

Cost of product revenues increased 117% from $66,000 in the quarter ended September 30, 2001 to $143,000 in the quarter ended September 30, 2002. Cost of product revenues includes the cost of licensing third-party software incorporated into our products and the costs of packaging and distributing our products. The increase was attributable primarily to an increase in costs related to our eSupplier Solutions product family, which reflects the amortization cost related to the purchase of software incorporated into our

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eSupplier Solutions product family. The gross margin for product decreased to 83% in the quarter ended September 30, 2002 from 94% in the quarter ended September 30, 2001 primarily as a result of the increase in production costs and the decrease in product sales. Cost of consulting and training revenues decreased 12% from $328,000 in the quarter ended September 30, 2001 to $288,000 in the quarter ended September 30, 2002. This decrease was attributable primarily to an decrease in personnel and related compensation. The gross margin for consulting and training increased to 27% in the quarter ended September 30, 2002 from 4% in the quarter ended September 30, 2001, primarily as a result of higher utilization of consulting and training personnel and the increase in consulting and training revenues. Cost of support and maintenance revenues increased 23% from $280,000 in the quarter ended September 30, 2001 to $343,000 in the quarter ended September 30, 2002. The increase was attributable primarily to an increase in personnel and related compensation. The gross margin for support and maintenance decreased to 29% in the quarter ended September 30, 2002 from 37% in the quarter ended September 30, 2001 primarily as a result of an increase in personnel and related compensation.

Selling and marketing expenses decreased 41% from $3.0 million in the quarter ended September 30, 2001 to $1.7 million in the quarter ended September 30, 2002. Selling and marketing expenses decreased primarily as a result of a decrease in spending on sales and marketing programs and a decrease in sales and marketing personnel and related expenses.

Research and development expenses increased 26% from $0.8 million in the quarter ended September 30, 2001 to $1.1 million in the quarter ended September 30, 2002. This increase was attributable primarily to an increase in research and development personnel and an increase in outsourced research and development.

General and administrative expenses decreased 28% from $814,000 in the quarter ended September 30, 2001 to $586,000 in the quarter ended September 30, 2002. The decrease was attributable primarily to a decrease in the number of administrative personnel and a reduction in corporate development efforts.

Restructuring costs of $1.8 million, consisting of $1.1 million in severance and related costs, and $676,000 in facility and equipment costs were recorded in the quarter ended September 30, 2002 in relation to the companies restructuring plan.

Other income, net decreased 90% from income of $286,000 in the quarter ended September 30, 2001 to income of $30,000 in the quarter ended September 30, 2002. The decrease was attributable primarily to interest income earned on lower cash and equivalents and investment balances in the quarter ended September 30, 2002 as compared to the quarter ended September 30, 2001, as well as the overall decrease in interest rates on investment balances.

COMPARISON OF RESULTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2002 TO THE NINE MONTHS ENDED SEPTEMBER 30, 2001

Total revenues decreased 21% from $7.4 million for the nine months ended September 30, 2001 to $5.8 million for the nine months ended September 30, 2002. Product revenues decreased 28% from $4.8 million for the nine months ended September 30, 2001 to $3.5 million for the nine months ended September 30, 2002. The decrease in product revenues was due primarily to weakening economic conditions in the United States and Europe. Consulting and training revenues decreased 15% from $1.2 million for the nine months ended September 30, 2001 to $985,000 for the nine months ended September 30, 2002. The decrease in consulting and training revenues was due primarily to a decrease in consulting services performed in relation to our eSupplier Solutions and FastObjects product lines in the nine months ended September 30, 2002 compared to the nine months ended September 30, 2001. Support and maintenance revenues remained relatively unchanged at $1.4 million for the quarters ended September 30, 2001 and 2002.

Cost of product revenues increased 102% from $190,000 in the nine months ended September 30, 2001 to $383,000 in the nine months ended September 30, 2002. This increase was attributable primarily to an increase in production costs related to our eSupplier Solutions product family. The gross margin for product decreased to 89% in the nine months ended September 30, 2002 from 96% in the nine months ended September 30, 2001 primarily as a result of the increase in production costs in relation to our eSupplier Solutions product line and the decrease in product sales. Cost of consulting and training revenues increased 7% from $907,000 in the nine months ended September 30, 2001 to $967,000 in the nine months ended September 30, 2002. This increase was attributable primarily to an increase in personnel and related compensation. The gross margin for consulting and training decreased to 2% in the nine months ended September 30, 2002 from 22% in the nine months ended September 30, 2001, primarily as a result of lower utilization of consulting and training personnel and the decrease in revenues. Cost of support and maintenance revenues increased 21% from $901,000 in the nine months ended September 30, 2001 to $1.1 million in the nine months ended September 30, 2002. The increase was attributable primarily to an increase in personnel and related compensation. The gross margin for support and

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maintenance decreased to 21% in the nine months ended September 30, 2002 from 36% in the nine months ended September 30, 2001 primarily as a result of an increase in personnel and related compensation.

Selling and marketing expenses decreased 40% from $10.4 million in the nine months ended September 30, 2001 to $6.2 million in the nine months ended September 30, 2002. Selling and marketing expenses decreased primarily as a result of a decrease in spending on sales and marketing programs and a decrease in sales and marketing personnel and related expenses.

Research and development expenses increased 3% from $3.0 million in the nine months ended September 30, 2001 to $3.1 million in the nine months ended September 30, 2002. This increase was attributable primarily to an increase in research and development personnel and an increase in outsourced research and development.

General and administrative expenses decreased 21% from $2.5 million in the nine months ended September 30, 2001 to $2.0 million in the nine months ended September 30, 2002. The decrease was attributable primarily to a decrease in administrative personnel and a reduction in corporate development efforts.

Restructuring costs of $1.8 million, consisting of $1.1 million in severance and related costs, and $676,000 in facility and equipment costs were recorded in the nine months ended September 30, 2002 in relation to the companies restructuring plan.

Other income, net decreased 68% from income of $1.0 million in the nine months ended September 30, 2001 to income of $330,000 in the nine months ended September 30, 2002. The decrease was attributable primarily to interest income earned on lower cash and equivalents and investment balances in the nine months ended September 30, 2002 as compared to the nine months ended September 30, 2001, as well as the overall decrease in interest rates on investment balances.

LIQUIDITY AND CAPITAL RESOURCES

Since inception, we have primarily financed our operations through private sales of redeemable convertible preferred stock and from our initial public offering, resulting in net proceeds of $16.4 million and $41.5 million, respectively. To a lesser extent, we have also financed our operations through a convertible note financing and lending arrangements in the aggregate amount of $6.3 million.

As of September 30, 2002, we had $7.1 million in cash and equivalents, $6.3 million in short-term investments and $12.2 million in working capital. As of December 31, 2001, we had $10.9 million in cash and equivalents, $10.9 million in short-term investments and $21.2 million in working capital. The decrease in working capital was primarily due to net cash used in operating activities.

Net cash used in operating activities was $8.2 million for the nine months ended September 30, 2002 and $8.4 million for the nine months ended September 30, 2001. Net cash used in operating activities for the nine months ended September 30, 2002 primarily reflects the net loss partially offset by depreciation and amortization and the increase in accounts payable and accrued liabilities. Net cash used in operating activities for the nine months ended September 30, 2001 primarily reflects the net loss and the decrease in accounts payable and accrued liabilities partially offset by the decrease in accounts receivable. As part of the spin off of its North American field operations for its FastObjects database products into FastObjects, Inc., the Company is contractually obligated to grant FastObjects, Inc. a loan of an additional $300,000 by the beginning of March 2003 if FastObjects, Inc. meets certain revenue targets. The Company will also reimburse FastObjects, Inc. for support services to be provided between January 1, 2003 and October 31, 2003, which will require payments of approximately $149,000 during that period.

Net cash provided by investing activities was $4.4 million for the nine months ended September 30, 2002 and $0.8 million for the nine months ended September 30, 2001. Cash from investing activities reflects proceeds from the sale and maturity of short-term and long-term investments, as well as purchases of short-term and long-term investments and purchases of property, furniture and equipment in each period. Since inception, we have generally funded capital expenditures either through the use of working capital or, to a lesser extent, through equipment leases.

Net cash used in financing activities was $50,000 for the nine months ended September 30, 2002 and $89,000 for the nine months ended September 30, 2001. Our financing activities for the nine month periods ended September 30, 2002 and 2001 used cash primarily to repay debt in the form of loans and capital leases and provided cash primarily through the issuance of common stock.

In 1997, our subsidiary, Poet Software GmbH, entered into a loan agreement with IKB Deutsche Industriebank in the amount of DM 1.5 million (approximately $684,000 based on the U.S. Dollar/Deutsche Mark exchange rate at December 31, 2001) bearing interest at 7% per year with principal payments due quarterly of DM 125,000 commencing on September 15, 1999 and ending on March 15, 2002. The Company repaid the loan in full in March 2002.

We expect to incur significant operating expenses, particularly selling and marketing and research and development expenses, for the foreseeable future in order to execute our business plan. We anticipate that such operating expenses will constitute a material use of

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our cash resources. As a result, our net cash flows will depend heavily on the level of future sales and our ability to manage operating expenses. In addition, we may utilize cash resources to fund acquisitions of, or investments in, complementary businesses, technologies or product lines. Although it is the opinion of the Company’s management that our cash resources will be sufficient to meet our working capital and operating resource expenditure requirements for at least the next 12 months, changes in our customer demand or impairment of our investments may cause unanticipated fluctuations in our cash resources.

CRITICAL ACCOUNTING POLICIES

We have identified the following as critical accounting policies to our company: revenue recognition, reserves for doubtful accounts and restructuring charges.

Revenue Recognition

Our revenue recognition policy is significant because our revenue is a key component of our results of operations. In addition, our revenue recognition determines the timing of certain expenses, such as commissions and royalties. Revenue results are difficult to predict, and any shortfall in revenue or delay in recognizing revenue could cause our operating results to vary significantly from quarter to quarter.

Our revenue recognition policy is consistent with Statement of Position No. 97-2, as amended. License revenues are comprised of fees for the Company’s software products. Revenue from license fees is recognized when an agreement has been signed, delivery of the product has occurred, no significant Company obligations remain, the fee is fixed or determinable, collectibility is probable and vendor-specific objective evidence exists to allocate a portion of the total fee to any undelivered elements of the arrangement. For electronic delivery, the software is considered to have been delivered when the Company has provided the customer with the access codes that allow for immediate possession of the software. If the fee due from the customer is not fixed or determinable, revenue is recognized as payments become due from the customer. If collectibility is not considered probable, revenue is recognized when the fee is collected.

Support and maintenance arrangements do not provide for specified upgrade rights and provide technical support and the right to unspecified upgrades on an if-and-when-available basis. Revenue from support arrangements is recognized on a straight-line basis over the life of the related agreement, which is typically one year. If support, consulting services or training are included in an arrangement that includes a license agreement, amounts related to support, consulting services, training and the licenses are allocated based on vendor-specific objective evidence. Vendor-specific objective evidence for support, professional services and license agreements is based on the price when such elements are sold separately, or, when not sold separately, the price is established by the section of the Company’s management that has the relevant authority. Where discounts are offered on multiple element arrangements, a proportionate amount of that discount is applied to each element included in the arrangement based on each element’s fair value. Consulting and training revenue is recognized when provided to the customer. Revenues from custom development projects are recognized on the percentage of completion basis. Customer advances and billed amounts due from customers in excess of revenue recognized are recorded as deferred revenue.

Reserves for Doubtful Accounts

We record a provision for doubtful accounts for all specific receivables that we judge to be unlikely for collection. We also record an additional provision for doubtful accounts based on size and age of all receivable balances against which we have not established a specific reserve. We periodically review these allowances, analyzing each customer’s payment history and information regarding customer’s credit worthiness known to us.

Restructuring Charges

Beginning in the third quarter of 2002, we have undertaken significant restructuring initiatives that have required us to develop formalized plans for exiting our North American operations. These plans require us to utilize significant estimates related to expenses for severance and outplacement costs, lease cancellations, long-term asset write downs, and other restructuring costs. Given the significance of, and the timing of the execution of such activities, this process is complex and involves periodic reassessments of estimates made at the time of the original plans. The accounting for restructuring costs and asset impairments requires us to record provisions and charges when we have a formal and committed plan. Our policies require us to continually evaluate the adequacy of the remaining liabilities under our restructuring initiatives. As the Company continues to evaluate the business, there may be additional charges for new restructuring activities as well as changes in estimates to amounts previously recorded.

ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to market risk related to fluctuations in interest rates and in foreign currency exchange rates:

Interest Rate Exposure. Our exposure to market risk due to fluctuations in interest rates relates primarily to cash and equivalents, short-term investments and long-term investments, which consists primarily of investments in commercial paper, money market accounts and federal government agencies, and reported at an aggregate fair market value of $13.4 million as of September 30, 2002. These securities are subject to interest rate risk in as much as their fair value will fall if market interest rates increase. If market interest rates were to increase immediately and uniformly by 10% from the levels prevailing at June 30, 2002, for example, the fair value of the portfolio would not decline by a material amount. We do not use derivative financial instruments to mitigate the risks inherent in these securities. However, we do attempt to reduce such risks by generally limiting the maturity date of such securities to no more than three months, placing investments with high credit quality issuers and limiting the amount of credit exposure with any one issuer. In addition, we believe that we currently have the ability to hold these investments until maturity and, therefore, believe that reductions in the value of such securities attributable to short-term fluctuations in interest rates would not materially affect our financial position, results of operations or cash flows.

Foreign Currency Exchange Rate Exposure. Our exposure to market risk due to fluctuations in foreign currency exchange rates relates primarily to the inter-company balance with our German subsidiary. Although we transact business in various foreign countries, settlement amounts are usually based on U.S. dollars or the Euro. Transaction gains or losses have not been significant in the past, and we have not entered into any hedging activity on the Euro or other currencies. Based on the inter-company balance of approximately $4.9 million at September 30, 2002, a hypothetical 10% adverse change in the Euro against U.S. dollar would not result in a material foreign exchange loss. Consequently, we do not expect that reductions in the value of such inter-company balances, third-party loan receivable balances or of other account balances denominated in foreign currencies resulting from even a sudden or significant fluctuation in foreign exchange rates would have a direct material impact on our financial position, results of operations or cash flows.

Due to our restructuring efforts, in particular the winding down of North American operations, we expect the revenue percentage derived from European operations in Euro to increase significantly and most of the anticipated future losses to result from European operations. Therefore, we will exchange more than 50% of our cash reserve from U.S. dollars into Euro. However, due to our reporting in U.S. dollars, this will result in a higher volatility of the exchange rate gains or losses.

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Notwithstanding the foregoing, analysis of the direct effects of interest rate and foreign currency exchange rate fluctuations on the value of our investments and accounts and the indirect effects of such fluctuations could have a material adverse effect on our business, financial condition and results of operations. For example, international demand for our products is affected by foreign currency exchange rates. In addition, interest rate fluctuations may affect the buying patterns of our customers. Furthermore, interest rate and currency exchange rate fluctuations have broad influence on the general condition of the U.S., foreign and global economies that could have a material adverse effect on us.

ITEM 4.    CONTROLS AND PROCEDURES

The Chief Executive Officer and the Chief Financial Officer (the Company’s principal executive and financial officers) have evaluated the effectiveness of the Company’s system of “disclosure controls and procedures” (as defined in the Securities Exchange Act of 1934) on a date within ninety days prior to the date of this quarterly report, and based on such evaluation, have determined that as of the date of such evaluation, they were adequate and designed to ensure that material information relating to the Company and the Company’s consolidated subsidiaries is made known to them. There have been no significant changes to the system of internal controls or other factors that could significantly affect internal controls subsequent to the date of such evaluation by the Chief Executive Officer and Chief Financial Officer.

PART II:    OTHER INFORMATION

ITEM 1.    LEGAL PROCEEDINGS

     None

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

ADDITIONAL INFORMATION ACCORDING TO RULES AND REGULATIONS NEUER MARKT

The following is a summary of changes in stockholders’ equity for the nine months ended September 30, 2002 (in thousands, except share amounts).

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The following is a summary of changes in stockholders’ equity for the nine months ended September 30, 2001 (in thousands, except share amounts).