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

FORM 10-K

FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13
OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

(MARK ONE)

For the Fiscal Year Ended April 30, 2002

OR

For the Transition Period From                                      To                                     

COMMISSION FILE NUMBER: 000-26209

DITECH COMMUNICATIONS CORPORATION
(Exact Name of Registrant as Specified in its Charter)

DELAWARE
(State or Other Jurisdiction of Incorporation or Organization)

94-2935531
(I.R.S. Employer Identification No.)

825 East Middlefield Road
Mountain View, CA 94043
(650) 623-1300
(Address, Including Zip Code, of Registrant's Principal Executive Offices and
Telephone Number, Including Area Code)

Securities Registered Pursuant to Section 12(b) of the Act: None

Securities Registered Pursuant to Section 12(g) of the Act: Common Stock, $.001 Par Value

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

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

        The aggregate market value of voting stock held by non-affiliates of the Registrant was approximately $51,318,675 as of July 15, 2002, based upon the closing price on the Nasdaq National Market reported for such date. Excludes an aggregate of 11,883,092 shares of common stock held by officers and directors and by each person known by the registrant to own 5% or more of the outstanding common stock. Exclusion of shares held by any of these persons should not be construed to indicate that such person is an affiliate of the registrant.

        The number of shares outstanding of the Registrant's Common Stock on July 15, 2002 was 30,343,047 shares.

DOCUMENTS INCORPORATED BY REFERENCE

        The information required by Part III of this report, to the extent not set forth herein, is incorporated by reference from the Registrant's definitive proxy statement relating to the annual meeting of stockholders to be held September 20, 2002, which definitive proxy statement will be filed with the Securities and Exchange Commission within 120 days after the fiscal year to which this Report relates.

DITECH COMMUNICATIONS CORPORATION
FORM 10-K

INDEX

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Trademarks:

        The name Ditech Communications Corporation is a registered trademark of Ditech. Ditech has applied for trademarks for the following: Ditech, Altamar Networks, Titanium, and the wave design logo. This Annual Report on Form 10-K also includes trademarks of companies other than Ditech.

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Ditech Communications Corporation

Part I

Item 1—Business

General

        This Annual Report contains forward-looking statements that relate to future events or future financial performance. In some cases, forward looking statements can be identified by terminology such as "may", "will", "should", "expects", "plans", "anticipates", "believes", "estimates", "predicts", "intends", "potential" or "continue" or the negative of such terms or other comparable terminology. These statements are only predictions. Although we believe that the expectations reflected in the forward looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. Actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including the risks outlined under "Item 7—Management's Discussion and Analysis of Financial Condition and Results of Operations—Future Growth and Operating Results Subject to Risk" and elsewhere in this Annual Report. All forward-looking statements included in this document are based on information available to us on the date hereof. We assume no obligation to update any such forward-looking statements.

        Ditech Communications Corporation (Ditech) is a global telecommunications equipment supplier for voice and optical networks. Our voice products are echo cancellers, which effectively eliminate echo, a significant problem in existing and emerging voice networks. Ditech develops and markets optical subsystems and systems communications products through its wholly owned subsidiary, Altamar Networks, Inc. (Altamar Networks). Where we use the words "we", "our" or similar expressions, we are referring to Ditech and Altamar Networks. Our fiscal year ends on April 30.

        We market our products domestically through a direct sales force. Internationally, we market our products through a direct sales force, value-added resellers, system integrators, OEMs and distributors.

        Ditech was originally incorporated as Phone Info., Inc. in July 1983 and subsequently changed its name to Automated Call Processing Corporation, Inc. In March 1997, Automated Call Processing sold portions of its business and merged with its wholly owned subsidiary, and the surviving entity was renamed Ditech Corporation. Ditech Corporation reincorporated in Delaware in April 1999 and changed its name to Ditech Communications Corporation. Ditech develops and markets optical subsystems and systems communications products through its subsidiary, Altamar Networks, which was formed in February 2001. The mailing address for Ditech and Altamar Networks is 825 East Middlefield Road, Mountain View, California 94043. The Ditech general telephone number is 650-623-1300. The Altamar Networks general phone number is 650-864-1700.

Echo Cancellation Market

        In the current deregulated market, voice quality is a key competitive differentiator for telecommunication service providers. One of the primary challenges faced by service providers in delivering quality voice communication is the elimination of echo. Echo results from signal reflection at the "hybrid," commonly the point where two wires of the local network meet the four wires of the long distance network. The hybrid is not completely efficient in carrying the electrical energy from the four-wire network to the two-wire network and a certain amount of electrical energy or voice signal is reflected back from the hybrid towards the speaker. Echo becomes noticeable whenever the one-time delay of a rebounded voice signal exceeds 25 milliseconds. If the delay exceeds 32 milliseconds, the quality of the voice call begins to degrade and an echo is reflected back to the person speaking. When these echo problems are present, people describe the effect as their voices sounding hollow or like someone talking in a tunnel. Delays, either due to a long transmission path, as in a long distance telephone call, or due to the complex signal hand-off from one network to another, for instance digital wireless or satellite voice calls, exacerbate the effect of echo. Therefore, most long distance, digital

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wireless and satellite calls require echo cancellation. Delays are also introduced as intelligent processing equipment is increasingly incorporated into voice networks. Digital processing of voice signals requires time to compress and decompress and route signals through networks. As there is a greater shift towards voice-over-packet, which is a means of packaging voice signals into units of digital data for efficient transmission, these processing delays will continue to increase.

        In addition to dealing with the problem of echo, service providers must also address the problems of background noise and high and low voice levels. Background noise is a particularly acute problem in wireless voice networks, where users are attempting to use their wireless handset in a noisy environment, such as an airport terminal or a car. When voice calls are routed between the networks of different service providers, particularly on international calls, the voice of the speaker is often too high or too low for comfortable listening.

        To address these voice quality problems, service providers deploy echo cancellation technology that quickly analyzes all voice channels and implements counter-measures to solve a variety of voice problems present. When an echo signal is detected, the echo canceller cancels the echo. If the echo canceller is sophisticated enough, it can also detect and cancel background noise as well as raise or lower the voice signal for more comfortable listening.

        Service providers are demanding both smaller and higher capacity equipment as space in service provider facilities and central offices is becoming more crowded. In addition, due to intense competition, service providers are expanding network services offered to consumers. In order to compete successfully, they must deliver these services reliably and under the strict time-to-market and cost constraints demanded by consumers. Echo cancellation products that address these market pressures are poised to gain share in the echo cancellation market.

Our Echo Cancellation Solutions

        We design, develop and market standalone and system based echo cancellation products for wireline, wireless, satellite, and voice-over-packet networks throughout the world. Our products use a software architecture coupled with one of the latest commercially available digital signal processors to cancel echo and enhance the quality of voice communications. As a result of, our sale of our echo cancellation software technology and the transfer of the majority of the echo cancellation software development group to Texas Instruments ("TI") in April 2002, we are dependent on TI for our echo cancellation software development. We have entered into a license relationship with TI, which provides that TI will continue to support our software development needs for at least the next four years. We believe our approach enables us to offer the highest capacity echo cancellation products currently commercially available. The key elements of our echo cancellation solution include:

        Efficient architectural approach.    Our dynamic allocation of resource technology is designed to solve the echo problem more efficiently than other solutions, by applying processing power only when and where it is needed. By using our dynamic allocation of resources technology, a single digital signal processor can monitor multiple channels and dynamically assign the full processor resources to each echo problem as it arises. Using this efficient architectural approach, we can build our echo cancellation products with fewer dedicated processors and fewer memory integrated circuits, which reduces product size and power consumption requirements.

        Time-to-market advantage.    Based on an intelligent software algorithm, which is a sophisticated process or set of rules for our software to address an array of voice quality problems, our dynamic allocation of resources approach enables us to utilize off-the-shelf circuits and digital signal processors. Competitive echo cancellation solutions using application specific integrated circuits are more expensive to design, require more development time and are difficult to upgrade. Our approach leverages rapid technological advances in the commercial integrated circuit and digital signal processor industries. As a

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result, we believe that we are able to deliver high performance products to market with shorter product development cycles and lower investments in capital equipment than alternative solutions.

        Lower total cost of ownership.    Our compact design allows us to offer echo cancellation products with more echo canceling capacity than other commercial suppliers based on a seven-foot industry standard equipment rack located in service providers' central offices or remote facilities. This higher capacity (more echo cancellation capacity per rack) represents cost and space savings for service providers. Our newest generation product also offers more efficient cabling and network equipment installation, saving service providers even more space and installation costs. Our products are designed to allow service providers to remotely download and upgrade software via the Internet without interrupting network service or dispatching a technician to the remote site, which also lowers the cost of ownership. Finally, we believe our products consume less power than other solutions, resulting in greater reliability and additional cost savings for our customers.

        Remote monitoring and service assurance.    Our real-time monitoring technology, known as reflectometry, allows remote monitoring of real-time performance data. Service providers can use this technology to identify problems remotely and address them proactively. We are also able to assist our customers on-line during this process. As a result, service providers can improve performance levels and monitor voice quality on a consistent basis.

Our Echo Cancellation Products

        All of our echo cancellation products are designed to solve echo and other voice quality issues (background noise and voice levels) in wireline, wireless, satellite and voice-over-packet networks. Our echo cancellation product family includes stand-alone echo cancellers and system echo cancellers. Our stand-alone echo cancellers consist of six products. The 18T1 and 18E1 are our third generation echo cancellation products and were deployed in significant volumes from their introduction in March 1995 through fiscal 1999. The Quad T1 and Quad E1 products, our fourth generation echo cancellation products have substantially replaced the sales of our older 18T1 and 18E1 products. Production shipment commenced for our Quad T1 and E1 products in the fourth quarter of fiscal year 1999. The Broadband Echo Cancellation System, or BBEC, is a system-level product that employs the Quad T1. Production shipment of our BBEC began in the first quarter of fiscal year 2000. We began shipping for revenue our fifth generation echo cancellation system, the OC-3 Echo Cancellation System, in the fourth quarter of fiscal 2001. This is the industry's highest density echo cancellation system, providing the capability to handle over 24,000 voice channels in a single seven-foot equipment bay. During the fourth quarter of fiscal 2002, we began shipping our low density SX-24 (for the North American market) and SX-30 (for the international market) echo cancellers. These new low-density echo cancellers provide a smaller footprint similar to the 18T1 and 18E1 but have some of the enhanced processing capabilities of the Quad products. The STM-1 Echo Cancellation System, the international equivalent to the OC-3 product, was in trial with carriers in the fourth quarter of fiscal 2002.

        Our echo cancellation product family shares several common advantages:

        Higher capacity.    We believe our fifth generation echo cancellation product has a major capacity or density advantage (ranging from 50-300%) over currently commercially available competitive products.

        Voice Quality of Service Software (VQoS) Suite.    VQoS is a suite of software programs embedded in the firmware of our echo cancellers. VQoS redefines the classic, one-dimensional echo canceller product. Where the classic echo canceller solved only one key voice quality problem—hybrid echo—VQoS is a suite of software programs that solves several key problems of voice quality, including acoustic echo control, background noise control, and volume control. To provide solutions to the problems addressed by our VQoS suite, competitors sell add-in hardware boards at several hundred dollars a board. Our VQoS software suite, integrated with our fourth generation echo cancellation products, is offered for a fraction of the cost of the competing solution.

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        Remote software updates.    With our products, the latest software updates for bug fixes can be downloaded remotely and incorporated into our products without taking the echo cancellation products offline and interrupting service.

        Lower power consumption.    We believe our products generally require less power than competitive products as a result of our software-intensive design and use of fewer integrated circuits.

        International Telecommunications Union ("ITU") standards.    Our products are fully compliant with ITU standards. As a member of the ITU, we actively participate in establishing the evolving global standards.

        Warranty.    We currently offer a warranty of five years on all of our echo cancellation products.

Our Echo Cancellation Products

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Optical Communications Business

        We design, develop and market a suite of optical communication subsystem and system products for telecommunications networks, through our subsidiary, Altamar Networks. Each of these businesses, markets, and products are described below.

Our Optical Subsystem Market and Products

        Market Problem Addressed:    All optical signals lose strength and signal integrity as they travel a certain distance over a fiber optic cable. In the legacy optical network, electrical regenerators costing hundreds of thousands of dollars were deployed to regenerate optical signals. By deploying optical amplifiers, service providers can eliminate many of these expensive electrical regenerators and extend the reach of their optical signals at a fraction of the cost. Altamar Networks' products offer system integrators and OEMs tangible benefits, including cost savings and potential improvement in time-to-market of their systems products. The worldwide market for optical amplifiers in 2003 is estimated by market analysts to be over $1 billion. Altamar Networks' current range of optical amplifiers are targeted at two applications within this market, single-wavelength signal extensions and DWDM, and we estimate these markets to be $100-$200 million.

        Subsystem Product Overview.    During fiscal 2002, the principal source of revenue from our optical product line has been our optical amplifiers, which have been shipping since the third quarter of calendar 1996. Altamar Networks' optical subsystem products include optical amplifiers and transponders that enable service providers to cost-effectively expand and extend the reach of fiber optic networks.

Key characteristics of our optical subsystem products include:

        On-board intelligence.    Our subsystems include on-board microprocessors and memory chips, which allow our products to be deployed in system products more easily and more cost-effectively than competitive solutions.

        Sophisticated software.    The sophisticated software incorporated into our products allows our subsystems to easily interface with the complex networking and management systems of system-level optical products.

        Built to demanding Bellcore and ITU standards.    We utilize our many years of experience of building and maintaining telephone equipment in building our optical subsystem products. These products are designed to withstand the environmental effects of temperature and vibration in central offices and remote facilities.

        Modularity and scalability.    Our products are modular in nature and adhere to optical communications operating standards. Therefore, our products are interoperable with the optical communications subsystems and systems of other manufacturers. Our products are also scaleable, which enables customers to improve their existing optical communications systems, or to expand network capacity, on an as-needed basis.

        Remote monitoring and management capability.    Our products are designed to allow remote monitoring and management. These features enable service providers to remotely monitor and predict service outages in optical networks, which helps to improve reliability and lower the troubleshooting costs involved in on-site monitoring. Our optical telemetry system also helps facilitate communications between legacy network management software and our products.

        Plug-and-play subsystems.    Our products are built with on-board processing power allowing them to be easily plugged into different system products.

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        Interoperable in multi-vendor environments.    Our products and modules are built to industry standards so that they can interoperate with different vendors' facilities and shelving.

        Improved time-to-market for OEM partners.    Rather than having to incur the time and delays associated with designing and building subsystem products themselves, our OEM partners can quickly integrate our subsystems into their system products and more quickly deliver a complete solution to the market.

        Warranty.    We currently offer a warranty, ranging from one year to five years, on all of our optical communications products.

Our Optical Subsystem Products

Our Optical Systems Products in Development

        In March 2001, Ditech Communications Corporation announced the creation of Altamar Networks, Inc., a wholly owned subsidiary of Ditech. Simultaneous with this announcement, Altamar Networks announced its new Titanium Optical Network System, being developed to be the industry's most integrated, scaleable and cost-effective transport system for the long-distance optical network. Titanium is being developed to enable carriers to be able to turn up high-speed connections more quickly, thereby generating revenues more quickly, while lowering the cost of building and operating the long-distance optical network. Altamar Networks expects to ship the Titanium product in the fourth quarter of fiscal 2003. However, delays may occur due to unforeseen technical difficulties in the development process, inability to obtain components on a timely basis, and for other reasons outside of our control.

        Problem: The Long-Haul Network Costs Too Much.    Prices—the dollars-per-bit carriers can charge for hauling traffic—are falling faster than the cost of operating the long-haul optical network. By the mid-1990's, it was clear that SONET, the legacy long distance optical transport equipment, was too expensive. SONET required too many boxes, consumed too much space and power, and did not provide the connectivity of a modern network. First generation optical transport network systems lowered costs by introducing optical switching, enabling carriers to connect and route the hundreds of wavelengths introduced by DWDM. Though an improvement, first generation systems didn't integrate the two key elements of the optical network—switching and transmission—and they still required too many expensive network elements. Altamar Networks' Titanium represents the second generation of optical transport systems. By integrating optical switching and transmission, Titanium is designed to dramatically lower costs while providing the scalability and agility required in the 21^st century optical network.

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        The Titanium Solution.    Titanium represents a new generation of optical transport system that integrates all the major components (optical switching, transmission or DWDM, and network management) of the long-haul optical transport system into a single, scaleable platform. Titanium's core optical to electrical to optical ("OEO") switching architecture manages connections that need to be setup and routed throughout the network. By providing both automatic wavelength routing and signal grooming, Titanium optimizes both operations and transmission costs. Titanium's architecture also provides various levels of service protection and bandwidth efficiency using dedicated or shared protection bandwidth. The flexibility and scalability of Titanium's architecture is designed to allow carriers to deploy very small or very large configurations, to deploy integrated DWDM/switching systems, or stand-alone DWDM or switch systems; and to expand systems after installations, generally without traffic interruptions. Titanium is in the latter stages of development, and we currently expect to begin shipping Titanium near the end of fiscal 2003.

Customers

        Echo cancellation customers.    The principal customers for our stand-alone and system echo cancellation products are wireline, wireless, and cellular service providers. During fiscal 2002, 2001 and 2000, approximately 66%, 86% and 92%, respectively, of the Company's revenues came from sales to echo cancellation customers. Our active echo canceller customer base declined from approximately 85 customers in 2001 to approximately 65 in 2002. We believe this decline is due in part to the slowdown in spending by telecommunications carriers throughout the United States of America and the rest of the world, as well as shrinkage in the number of carriers, as several have recently merged or filed for bankruptcy. Our customers include the major North American long distance companies, including Sprint and Qwest Communications and some of the largest wireless carriers including Verizon Wireless. Revenues from echo cancellation sales remain highly concentrated. In fiscal 2002, our largest echo cancellation customer, Verizon Wireless, accounted for 27% of our total company revenue. Our four next largest echo customers accounted collectively for 22% of our total company revenue. In prior fiscal years, Qwest Communications had accounted for over 45% of our total revenue on a much higher revenue base; however, in fiscal 2002, they only accounted for 9% or our total revenue, due in large part to a cut back in their capital spending plans.

        Prior to the disposition of our echo cancellation software technology to TI in April 2002 (see "Acquisitions and Dispositions", below) the principal customers for our echo cancellation software were packet-based voice gateway and switch companies, which were legacy customers of Telinnovation which we acquired in February 2000. Although we have retained title to our software licenses from these customers, all amounts collected under these license agreements will be remitted to TI pursuant to the terms of the TI sale agreement. As such, no future revenue will be reported from these licenses. Historical revenue from our software licenses has been less than 3% of total revenue since our acquisition of Telinnovation. Our echo cancellation software customers included Cisco, Alcatel, Nortel and Sonus Networks.

        Optical communications subsystems customers.    The customers for our optical communications subsystems are primarily network equipment companies and service providers. We maintained our optical customer base at 20 in fiscal 2001 and 2002. During fiscal 2002, 2001 and 2000, approximately 34%, 14% and 8%, respectively, of our revenue came from the sale of optical communications subsystem products. Our optical revenue is also quite highly concentrated, as our top 5 customers generated over 86% of total optical revenue in fiscal 2002, with Cisco Systems being our largest optical customer in fiscal 2002 at 18% of our total revenue.

        Optical systems customers.    As the Titanium system product is still being developed and has not shipped, there are no revenue-generating customers for this product at this time. Targeted customers for this product are currently the North American long-distance telephone companies, some of which are customers of our echo cancellation products.

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        Backlog.    Our backlog was approximately $10.2 million and $5.2 million as of the first business day of June, 2002 and 2001, respectively. We include in our backlog only orders confirmed with a purchase order for products to be shipped within 120 days to customers with approved credit status and shipments classified as deferred revenue which we expect to recognize as revenue within 120 days. Because of the generally short cycle between order and shipment, and occasional customer changes in delivery schedules, we do not believe that our backlog as of any particular date is necessarily indicative of actual net sales for any future period.

        We market our products, both domestically and internationally; geographic information with respect to revenues and long-lived assets is set forth in Note 11 of the Notes to our Consolidated Financial Statements included in this Annual Report on Form 10-K. Historically the majority of our sales have been to customers in the U.S. These customers accounted for approximately 80%, 83% and 88%, of our revenue in fiscal 2002, 2001 and 2000, respectively. The majority of our long-lived assets are located in the U.S. See "Item 7—Management's Discussion and Analysis of Financial Condition and Results of Operations—Future Growth and Operating Results Subject to Risk—We May Experience Unforeseen Problems As We Diversify Our International Customer Base, Which Would Impair Our Ability To Grow Our Business" for a discussion of risks associated with international operations.

Research and Development

        We have engineering departments dedicated to and focused on developing next generation echo cancellation and optical networking products. Our research and development expenses for fiscal 2002, 2001 and 2000, were approximately $53.3 million, $34.4 million and $8.6 million, respectively. In fiscal 2002, the increase in our research and development expenses was principally related to increased spending on personnel, consultants and materials to develop our Titanium system product. The number of employees in our research and development departments grew significantly in fiscal 2002, primarily due to the hiring of former Ilotron employees, from Ilotron Limited, a UK based optical networking company that was in bankruptcy, as well as ongoing hiring in our United States and Australian optical engineering groups. See "Acquisitions and Dispositions" below. We believe that recruiting and retaining qualified engineering personnel will be essential to our continued success.

Manufacturing

        We operate as a "virtual" manufacturing organization by relying on contract manufacturers to assemble our echo cancellation and optical communications products. We perform only final test functions for our echo cancellation products and both final assembly and test functions for our optical products. We are ISO 9001 certified and require that our contract manufacturers have ISO 9000 registration as a condition of qualification. Our stringent incoming inspection procedures for critical optical components include analysis and monitoring of the performance characteristics of critical optical components and sub-assemblies. Our raw materials are procured from outside suppliers through our contract manufacturers. In procuring digital signal processors for our echo cancellation products, our contract manufacturers and Ditech rely on TI as our sole supplier. Our future success will depend in significant part on our ability to obtain optical and echo cancellation components on time, at competitive prices, and in sufficient quantities to meet demand. Although we believe that there are currently ample supplies of components, we have experienced part shortages in prior years, which had a direct impact on revenues and results of operations and may experience such shortages again in the future (see "Item 7—Management's Discussion and Analysis of Financial Condition and Results of Operations—Future Growth and Operating Results Subject to Risk", below).

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Sales and Marketing

        In fiscal 2002, our overall sales and marketing work force has remained relatively constant in the aggregate as compared to fiscal 2001. However, we have increased our optical sales and marketing staff, including the addition of a network-planning group, to support the rollout of our Titanium system, while reducing the staff supporting our more mature echo cancellation products. We have also continued to expand our network of value-added resellers, distributors, and sales agents that sell our products internationally. We have entered into new agreements with original equipment manufacturers (OEMs) for our optical communications products and we are actively exploring the possibility of entering into other OEM agreements for both our echo cancellation and optical communications products. We also continued to expand and enhance our web site marketing program, making this an effective marketing and sales tool. In addition, in fiscal 2002 we expanded our international trade show participation in a further attempt to strengthen our international presence.

Acquisitions and Dispositions

        Our strategy is to increase new product development both through internal staffing and when potential acquisitions provide us with a critical new product and a decided time-to-market advantage, through acquisitions.

        On February 1, 2000, we completed our first acquisition by purchasing substantially all of the assets and hiring all the key employees of Telinnovation Corporation, a leading developer of voice enhancement and echo cancellation technology. On April 16, 2002, we sold our echo cancellation software intellectual property and all rights to future revenue streams from our existing software licenses to TI. This transaction and license agreement with TI reflects a strategic decision to bolster and focus all of our echo-cancellation resources to compete in the echo cancellation systems business, where historically we have generated the vast majority of our revenues and profits. Under the terms of the agreement, we received a total of $26.8 million, of which $18.3 million of cash was received on the closing date of the sale, $5.0 million will be paid to us in April 2003 (subject to reduction in the event of any breaches of our representations and warranties) and $3.5 million will be paid to us in April 2004. In addition, we secured a long-term license of the echo cancellation software from TI. The license has an initial four-year free royalty period, after which the royalty rate will be set based on a preferred customer pricing formula stipulated in the sale agreement. With this transaction and licensing agreement with TI, we believe we have maintained the advantage of the echo-cancellation software component of our product, while increasing the funds available to develop new systems products. (See Note 7 of Notes to the Consolidated Financial Statements)

        On July 25, 2000, we completed our second acquisition by acquiring Atmosphere Networks, Inc., an optical networking company, and certain of its key employees. With this acquisition, we believe we added key networking expertise to our Titanium system development team. On June 29, 2001, we completed our acquisition of the intellectual property and all tangible assets of Ilotron Limited, a UK based optical transport company that was in bankruptcy. Independantly, we hired certain former employees, primarily engineers, of Ilotron. We believe adding the additional engineering resources and expertise from our last two acquisitions will shorten the time-to-market for our Titanium product.

        We will continue to look to acquire companies that meet the criteria defined above. Acquisitions involve numerous risks, which are more fully discussed in "Item 7—Management's Discussion and Analysis of Financial Condition and Results of Operations—Future Growth and Operating Results Subject to Risk."

Competition

        The markets for our products are intensely competitive, continually evolving and subject to rapid technological change. We believe that rapid product introductions with price performance advantages

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are critical competitive factors. We believe we and our products also face competition in the following areas:

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Product features and enhancements (including improvements in product performance, reliability, size, compatibility and scalability);



•

Cost of ownership (including ease-of-installation and cost of maintenance);



•

Ease of product deployment and installation; and



•

Technical support and service.

        Although we believe that we currently compete favorably with respect to all of these factors, we may not have the financial resources, technical expertise or marketing, manufacturing, distribution and support capabilities to compete successfully in the future. We expect that competition in each of our markets will increase in the future.

        In the echo cancellation market, our principal competitors are Natural Microsystems (NMS), which purchased Lucent's echo cancellation business in October 2001, and Tellabs. The other competition in the echo cancellation market comes from voice switch manufacturers. These manufacturers don't sell echo cancellation products or compete in the open echo cancellation market, but they integrate echo cancellation functionality within their switches, either as hardware modules or as software running on chips. The current trend in the customer base (carriers) is not to deploy echo cancellation within voice switches, and thereby favor external echo cancellation solutions, a reversal of this trend and a widespread adoption of internal echo cancellation solutions could present a competitive threat to us if the net result was the elimination of demand for our echo cancellation system products.

        Altamar Networks' principal competitors in the optical networking subsystem products market fall into two groups, component companies and system companies. Component companies, such as JDS Uniphase and Corning, make the sub-assemblies such as lasers and other active and passive components that must be built-up into subsystems, which Altamar Networks develops and markets. In the future it is probable that these companies will compete with Altamar Networks in the subsystems market. The principal systems competitors for Altamar Network's optical communications subsystem products include Ciena, Lucent, Alcatel and Nortel Networks. Many of these systems companies market and sell the same type of subsystem products that Altamar Networks develops and markets, as well as incorporating these subsystems in their own system-level products.

        Altamar Networks' principal competitors in the optical networking system products include Tellium, Ciena, Nortel, Lucent, and Sycamore Networks. In addition, new companies building optical switching systems could emerge as competitors to Altamar Networks. The traditional market leaders are Nortel and Lucent, but in the last few years, companies like Ciena and Sycamore have been successful in selling their more integrated solutions. We believe that Altamar Networks' Titanium product will be differentiated from all of these products because its superior integration (fewer discrete racks of equipment) and scalability will allow carriers to build and operate the long-distance optical network more inexpensively.

        Competitors in any portion of our business are also capable of rapidly becoming our competitors in other portions of our business. Many of our competitors and potential competitors have substantially greater name recognition and technical, financial, marketing, purchasing and other resources than we do. As a result, these competitors may be able to respond more quickly to new or emerging technologies or standards and to changes in customer requirements, to devote greater resources to the development, promotion and sale of products, or to deliver competitive products at a lower price. We may not be able to compete successfully against our current or future competitors.

        Existing and potential customers are also our current and potential competitors. These companies may develop or acquire competitive products or technologies in the future and thereby reduce or cease

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their purchases from us. In addition, we believe that the size of suppliers will be an increasingly important part of purchasers' decision-making criteria in the future. We may not be able to grow rapidly and therefore compete successfully with our existing or new competitors. In addition, competitive pressures faced by us may result in lower prices for our products, loss of market share, or reduced gross margins, any of which could materially and adversely affect our business, financial condition and results of operations.

Patents and Intellectual Property Rights

        Our success will depend, in part, on our ability to protect our intellectual property. We rely primarily on patent, copyright, trademark and trade secret laws, as well as nondisclosure agreements and other methods to protect our proprietary technologies and processes. Nevertheless, such measures may not be adequate to safeguard the proprietary technology underlying our echo cancellation and optical communications products. As of April 30, 2002, we had 8 issued and 16 patent applications pending. These patents, relating to optical communications products, expire between 2014 and 2017. No patents may issue as a result of our current or future patent applications. If they do issue, any patent claims allowed may not be sufficiently broad to protect our technology. In addition, any existing or future patents may be challenged, invalidated or circumvented, and any right granted thereunder may not provide meaningful protection to us. The failure of any patents to provide protection to our technology would make it easier for our competitors to offer similar products.

        In connection with the sale of our echo cancellation intellectual property to TI in April 2002, we secured a long-term license of the echo cancellation software from TI. The license has an initial four-year free royalty period, after which the royalty rate will be set based on a preferred customer pricing formula stipulated in the sales agreement. We are dependent on the license of this technology and continued support from TI, as it is the fundamental technology incorporated in our echo cancellation products.

        We generally enter into confidentiality agreements with our employees and strategic partners, and generally control access to and distribution of our documentation and other proprietary information. Despite these precautions, it may be possible for a third party to copy or otherwise obtain and use our products or technology without authorization, develop similar technology independently or design around our patents. In addition, effective patent, copyright, trademark and trade secret protection may be unavailable or limited outside of the U.S.A., Europe and Japan. We may not be able to obtain any meaningful intellectual property protection in such countries and territories. Additionally, we may, for a variety of reasons, decide not to file for patent, copyright, or trademark protection outside of the United States of America. Further, we occasionally incorporate the intellectual property of our customers into our designs, and we have certain obligations with respect to the non-use and non-disclosure of such intellectual property. However, the steps taken by us to prevent misappropriation or infringement of the intellectual property of our company or our customers may not be successful. Moreover, litigation may be necessary in the future to enforce our intellectual property rights, to protect our trade secrets or to determine the validity and scope of proprietary rights of others, including our customers. Such litigation could result in substantial costs and diversion of our resources and could have a material adverse effect on our business, financial condition and results of operations.

        The telecommunications equipment industry is characterized by vigorous protection and pursuit of intellectual property rights. We may receive in the future notices of claims of infringement of other parties' proprietary rights. We may not prevail in actions alleging infringement of third-party patents. In addition, the invalidity of our patents may be asserted or prosecuted against us. In addition, in a patent or trade secret action, an injunction could issue against us, requiring that we withdraw certain products from the market or necessitating that certain products offered for sale or under development be redesigned. We have also entered into certain indemnification obligations in favor of our customers and

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strategic partners that could be triggered upon an allegation or finding of our infringement of other parties' proprietary rights. Irrespective of the validity or successful assertion of such claims, we would likely incur significant costs and diversion of our resources with respect to the defense of such claims, which could also have a material adverse effect on our business, financial condition and results of operations. To address any potential claims or actions asserted against us, we may seek to obtain a license under a third party's intellectual property rights. Under such circumstances, a license may not be available on commercially reasonable terms, if at all.

        A few industry participants, such as Lucent, Nortel Networks and certain major universities and research laboratories hold substantial inventories of intellectual property. This concentration of intellectual property in the hands of a few major entities also poses certain risks to us in seeking to hire qualified personnel. We have on a few occasions recruited such personnel from such entities. These entities or others may claim the misappropriation or infringement of their intellectual property, particularly when and if employees of these entities leave to work for us. We may not be able to avoid litigation in the future, particularly if new employees join us after having worked for a competing company. Such litigation could be very expensive to defend, regardless of the merits of the claims, and could have a material adverse effect on our business, financial condition and results of operations.

Employees

        As of April 30, 2002, we employed 276 persons, 46 of whom were primarily engaged in operations, 133 in research and development, 70 in sales, marketing and technical support and 27 in finance and administration. Our employees are not represented by any collective bargaining agreement, and we have not experienced a work stoppage. We believe our employee relations are good.

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Item 2—Properties

        Our principal offices and facilities are currently located in two leased buildings totaling approximately 61,000 square feet in Mountain View, California. The term of the lease expires on June 30, 2006. We also lease a research and development facility in Melbourne, Australia, of approximately 6,300 square feet with a lease term of four years, which expires on April 16, 2005 and a research and development facility in Kent, United Kingdom, of approximately 6,000 square feet with a lease term of 10 years, which expires in October 2011, with an option to terminate the lease in October 2006 for a penalty equal to 9 months rent. We believe that the space under the combined leases is adequate to meet our needs for at least the next twelve months.

Item 3—Legal Proceedings

        We are subject to legal claims and proceedings that arise in the normal course of our business. While the outcome of these matters is currently not determinable, we do not expect that the ultimate costs to resolve these matters will have a material adverse effect on our financial position, results of operations or cash flows.

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

        Not Applicable.

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Part II

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

        Ditech's common stock has been quoted on the Nasdaq National Market under the symbol "DITC" since our initial public offering on June 9, 1999. Prior to this time, there was no public market for our stock. The following table shows the high and low closing sale prices per share of our common stock as reported on the Nasdaq National Market for the periods indicated:

        We have never paid any cash dividends on our common stock. Currently, we expect to retain future earnings, if any, for use in the operation and expansion of our business and do not anticipate paying any cash dividends for the foreseeable future. According to the records of our transfer agent, there were approximately 187 stockholders of record of Ditech's common stock at April 30, 2002.

Item 6—Selected Financial Data

        The consolidated statement of operations data for the years ended April 30, 2000, 2001 and 2002, and the consolidated balance sheet data as of April 30, 2001 and 2002, have been derived from the audited consolidated financial statements of Ditech included elsewhere in this Annual Report on Form 10-K. The consolidated statement of operations data for the years ended April 30, 1998 and 1999 and the consolidated balance sheet data as of April 30, 1998, 1999 and 2000, have been derived from audited consolidated financial statements not included in this Annual Report on Form 10-K. The data set forth below should be read in conjunction with the consolidated financial statements of Ditech, including the notes thereto, set forth in Item 8 of this Form 10-K, and with "Item 7—Management's

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Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere in this Form 10-K.

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(a)

The reduction in earnings per share due to accretion for redeemable preferred stock ceased after our first quarter of fiscal 2000 because the Series A preferred stock was redeemed and the Series B preferred stock was converted to common stock in June 1999, upon completion of our initial public offering.

(b)

Net income attributable to common stockholders and net income per share attributable to common stockholders for fiscal 2000 include amortization of stock compensation of $1.9 million associated with our acquisition of Telinnovation, which was reported as part of research and development expense.

(c)

Net income attributable to common stockholders and net income per share attributable to common stockholders for fiscal 2001 include amortization of stock compensation of $11.5 million, which was reported as part of research and development expense, and compensation expense of $2.7 million, which was included in research and development expense and sales and marketing expense, associated with our acquisitions of Telinnovation and Atmosphere Networks.

(d)

Net income attributable to common stockholders and net income per share attributable to common stockholders for fiscal 2002 include amortization of stock compensation of $11.4 million, which was reported as part of research and development expense, and compensation expense of $0.2 million, which was included in research and development expense and sales and marketing expense, associated with our acquisitions of Telinnovation and Atmosphere Networks. Net income attributable to common stockholders also included a charge for excess inventory of our OC-3 product of $3.5 million related to an unexpected decline in demand for our OC-3 echo cancellation system, a gain from the sale of our echo cancellation software technology and related assets of $0.6 million and the establishment of a valuation reserve for deferred tax assets of $33 million.

(e)

All share and per share data presented have been revised to reflect the impact of the two-for-one stock split which was effective on February 16, 2000.

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

        The following discussion and analysis should be read in conjunction with "Selected Financial Data" and our Consolidated Financial Statements and Notes thereto included elsewhere in this Annual Report on Form 10-K. The discussion in this Annual Report on Form 10-K contains forward-looking statements that involve risks and uncertainties, such as statements of our plans, objectives, expectations and intentions. Our actual results could differ materially from those discussed here. See "Future Growth and Operating Results Subject to Risk" at the end of this Item 7 for factors that could cause future results to differ materially.

Overview

        We design, develop and market equipment used in building and expanding telecommunications networks. Our products fall into two categories, echo cancellation equipment and equipment that enables and facilitates communications over fiber optic networks. To date, the majority of our revenue has been derived from sales of our echo cancellation products. Since entering the echo cancellation market, we have continued to refine our echo cancellation product to meet the needs of the ever-changing telecommunications marketplace. We are currently selling our fifth generation echo cancellation product, which began production shipments in the fourth quarter of fiscal 2001. We began sales of our first optical communications product in September 1996. Since that time our optical communications products have also evolved to meet the changing needs of our customers. The current optical amplifier technology began shipment in fiscal 2001. Our optical business is also in the process of taking a major step forward from being a subsystem provider to offering a complete optical switching and transport system, known as Titanium.

        Since completing our initial public offering in June 1999, we have completed three acquisitions (see Note 3 of Notes to the Consolidated Financial Statements). All of these acquisitions were done to bring needed technical skills into our research and development groups to aid in new product introductions.

        On February 1, 2000, we completed our acquisition of substantially all of the assets of Telinnovation in exchange for a total of 1,200,000 shares of common stock. The acquisition was accounted for as a purchase. The total value of the acquisition of approximately $69 million was accounted for in three discrete components. The first, approximately $9 million related to purchased research and development, was written off in the fourth quarter of fiscal 2000. Next, approximately $37 million related to developed technology and goodwill was capitalized and is being amortized to expense over its estimated life of 5 years. The remaining $23 million relates to restricted shares, the cost of which was recorded as deferred stock compensation and was being charged to compensation expense in our research and development operations over the three year vesting period of the shares, assuming the holders of the restricted shares remain in our employ during the vesting period. In April 2002, we sold the echo cancellation software technology and related assets, previously acquired from Telinnovation, to TI for a nominal gain (see Note 7 of the Notes to the Consolidated Financial Statements).

        On July 25, 2000, we completed our acquisition of Atmosphere Networks Inc. in exchange for a total of 841,897 shares of common stock and assumption of outstanding options with a collective aggregate value of $73.4 million, and $7.9 million of cash. Acquisition costs totaled approximately $680,000. The acquisition was accounted for as a purchase. The total value of the acquisition of approximately $82 million comprises approximately $15.0 million in net assets, $1.5 million associated with the value of the established workforce and $65.4 million of goodwill. The goodwill and established workforce costs were capitalized and are being amortized over their estimated lives of four years. Effective May 1, 2003, we will begin applying SFAS 142, which replaces the amortization of goodwill

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with a regular evaluation of the remaining unamortized balance of goodwill for impairment (see Recent Accounting Pronouncements, below).

        We generally recognize product revenue when: persuasive evidence of a definitive agreement exists; shipment to the customer has occurred, title and all risks and rewards of ownership have passed to the customer; acceptance terms, if any have been fulfilled; no significant contractual obligations remain outstanding; the fee is fixed or determinable; and collection is reasonably assured. If any of these conditions are not satisfactorily met, revenue from that transaction is deferred until all conditions are met. We offer a warranty, ranging from one year to five years, on all of our products. The warranty generally provides that we will repair or replace any defective product within one year to five years from the invoice date. We accrue for warranty costs at the time we recognize product revenue, based on our experience.

        To date, the majority of our revenue has been derived from sales of our echo cancellation products. We derived approximately 66%, 86% and 92% of our revenue from the sale of our echo cancellation products in fiscal 2002, 2001 and 2000, respectively. We expect that a majority of our revenue will continue to come from sales of our echo cancellation products for the foreseeable future.

        Historically the majority of our sales have been to customers in the U.S. These customers accounted for approximately 80%, 83% and 88% of our revenue in fiscal 2002, 2001, and 2000 respectively. However, sales to some of our customers in the U.S. may result in our products eventually being deployed internationally, especially in the case of any original equipment manufacturer that distributes overseas. To date, substantially all of our international sales have been export sales and denominated in U.S. dollars.

        Our revenue historically has come from a small number of customers. Our five largest customers accounted for over 65%, 70% and 75% in fiscal 2002, 2001, and 2000 respectively. Qwest, our largest customer for the past few years, accounted for only 9% of our sales in fiscal 2002, a time period in which revenues were substantially less than in recent prior periods, as compared to 47% and 57% of our revenue in fiscal 2001 and 2000, respectively.

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Results of Operations

        The following table sets forth certain items from our consolidated statements of operations as a percentage of revenue for the periods indicated:

Fiscal Years ended April 30, 2002 and 2001

        Revenue.    Revenue decreased to $41.4 in fiscal 2002 from $121.7 million in fiscal 2001. The primary reason for this decrease was the 74% decline in sales of our echo cancellation products as we continued to experience the slowdown in infrastructure spending by our telecommunications customers, which began in the second half of fiscal 2001 and continued throughout fiscal 2002. Despite this slowdown in spending, our echo cancellation products remained the primary source of revenue in fiscal 2002, representing 66% of fiscal 2002 revenue. Our series of fourth generation echo cancellation products remained the main contributors to the echo cancellation revenue stream in fiscal 2002. Our fifth generation, OC-3 echo cancellation system, which began production shipment in the fourth quarter of fiscal 2001, saw limited activity in fiscal 2002 as the primary customer, Qwest, substantially decreased its spending to expand and/or upgrade its network. Revenue from echo cancellation products was $27.2 million in fiscal 2002, down from $104.7 million in fiscal 2001. Revenue from licenses of our echo cancellation software, prior to the sale of that technology to TI, represented less than 3% of total revenue in both fiscal 2002 and 2001. Although our optical products were also impacted by the slowdown in infrastructure spending, they experienced a much more modest decline from fiscal 2001 as one of our new OEM relationships has begun to generate meaningful sales levels. Revenue from optical products was $14.2 million in 2002 down from $17.0 million in fiscal 2001.

        Geographically, our fiscal 2002 revenue remained primarily domestic, at 80% of total worldwide revenue a slight decreased from 83% in fiscal 2001. This decrease was due in large part to the domestic telecommunications market being softer than the rest of the world in fiscal 2002. The slowdown in capital spending in the telecommunications industry we first experienced in the latter half of fiscal 2001 has continued throughout 2002, and we anticipate will continue to have a substantial effect on our revenues for the foreseeable future. We expect that sales of our echo cancellation products will remain

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the source of the majority of our revenue for most of fiscal 2003, at least until our Titanium optical system begins shipping for revenue, which is currently scheduled for near the end of fiscal 2003. However, if shipments of Titanium are delayed due to technical difficulties or adverse market conditions, then it would be unlikely that we would receive any revenue from this product in fiscal 2003.

        Cost of Goods Sold.    Cost of goods sold consists of direct material costs, personnel costs for test and quality assurance, costs of licensed technology incorporated into our products, provisions for inventory and warranty expenses and other indirect costs. Cost of goods sold decreased to $24.1 million in fiscal 2002 from $38.5 million in fiscal 2001. The decrease in fiscal 2002 is primarily due to the decline in product sales in fiscal 2002. This decline in product costs was partially offset by a shift in the sales mix towards higher cost optical products and to a lesser extent increases in operations department costs, primarily salary and related and facilities costs. Also partially offsetting this decline in overall cost of sales was a $3.5 million provision for excess inventory related to our OC-3 echo cancellation system, due to our largest customer for that product making a sudden and significant reduction in its projected demand. While we currently do not expect near-term demand for this product to substantially improve, should demand from this customer or others for our OC-3 product increase over current expectations, it is possible that some or all of this inventory could be used.

        Gross Profit.    Gross margin decreased to 41.9% in fiscal 2002 from 68.4% in fiscal 2001. The primary factors causing this decrease are changes in the sales mix from our historically high margin echo cancellation products toward lower margin optical products, increased provisions for inventory as discussed above and the relatively fixed manufacturing organization's costs being spread over a smaller revenue base. Gross margins on our echo cancellation products were down to 44.8% in fiscal 2002 from 70.4% in fiscal 2001, due in large part to the provision taken for excess inventory of the OC-3 product and to a lesser extent due to continued pressures on selling prices and the relatively fixed nature of our manufacturing costs. Gross margins on our optical products dropped to 36.3% in fiscal 2002 from 56.2% in fiscal 2001, due in larger part to our optical sales being more heavily concentrated in lower margin OEM products in fiscal 2002 and the relatively fixed nature of our manufacturing costs.

        Operating Expenses.    Operating expenses increased to $101.3 million in fiscal 2002 from $75.0 million in fiscal 2001. This increase was primarily driven by across the board increases in personnel and related costs as we expanded all facets of our operations to prepare for the introduction and sale of our new Titanium optical system and materials and consulting expenses related to development of our Titanium optical system. However, at the end of the first half of fiscal 2002, we implemented a hiring freeze and subsequently completed a 10% reduction in force to ensure we had the proper employees in the proper positions. The reduction in workforce resulted in a charge of approximately $600,000 which has been included in cost of goods sold and operating expenses based on the capacities in which the terminated employees worked.

        Sales and Marketing.    Sales and marketing expenses primarily consist of personnel costs including commissions and costs associated with customer service, travel, trade shows, communications and outside consulting services. Sales and marketing expenses increased to $17.1 million in fiscal 2002 from $13.8 million in fiscal 2001. The primary causes for the increase were increases in personnel and related costs and promotion and trade show costs as we introduced and began to position ourselves for production shipment of our new Titanium product. Partially offsetting these increases were reduced commission costs due to the lower sales levels in fiscal 2002. We expect to experience a modest increase in our level of sales and marketing spending in fiscal 2003, as we continue to put the infrastructure in place for our introduction of Titanium and attempt to further penetrate the domestic and international markets with our echo cancellation and optical subsystem products.

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        Research and Development.    Research and development expenses primarily consist of personnel costs, contract consultants, equipment and supplies used in the development of echo cancellation and optical communications products, as well as amortization of deferred stock compensation associated with our acquisitions of Telinnovation and Atmosphere Networks. Research and development expenses increased to $53.3 million in fiscal 2002 from $34.4 million in fiscal 2001. The increase is primarily related to increased personnel and related costs and increased materials and consulting costs primarily associated with our optical communications products, principally our Titanium optical system. Personnel and related costs were up $7.1 million due mostly to hiring, including the former Ilotron engineers who were hired independent from our acquisition of Ilotron's technology. We increased spending on materials, product development and test, and consulting services by $10.2 million in fiscal 2002 primarily related to our Titanium optical product. Amortization of deferred stock compensation associated with our acquisitions of Telinnovation and Atmosphere was $7.3 million and $7.7 million in fiscal 2002, respectively, and $4.1 million and $3.9 million in fiscal 2001, respectively. As a result of our sale of our echo software technology and the transfer of employees to TI, at the end of fiscal 2002, we will no longer have amortization charges with respect to the acquisition of Telinnovation. We expect research and development expenses, exclusive of amortization of stock compensation, in fiscal 2003 to remain relatively flat with fiscal 2002 levels as we move closer to the first production shipments of our Titanium product and we continue to refine our echo cancellation and optical subsystem product offerings.

        General and Administrative.    General and administrative expenses primarily consist of personnel costs for corporate officers and finance and human resources personnel, and legal, accounting and consulting costs. General and administrative expenses decreased to $6.2 million in fiscal 2002 from $6.7 million in fiscal 2001. The decrease was primarily due to decreased personnel and related costs, as the level of executive compensation declined year over year and the level of recruiting was cut in the second half of the fiscal year after our hiring freeze was implemented.

        Amortization of Goodwill and Other Acquisition Related Intangible Assets.    In fiscal 2002, we recorded expense of $24.6 million, an increase of $4.5 million from fiscal 2001, for amortization of acquisition related intangible assets, including goodwill, purchased technology and established workforce. These assets were acquired as part of the acquisitions of Telinnovation, in the fourth quarter of fiscal 2000, and of Atmosphere Networks, in the first quarter of fiscal 2001. The basis for the allocation and expected amortization periods are detailed in Note 3 of Notes to the Consolidated Financial Statements. Due to the sale, in the fourth quarter of fiscal 2002, of our echo cancellation software technology and related assets, which were acquired as part of our Telinnovation acquisition, (see Note 7 of Notes to the Consolidated Financial Statements) and the adoption of SFAS 142 effective May 1, 2002 (see Note 2 of Notes to the Consolidated Financial Statements), we expect that amortization of goodwill and other acquisition related intangibles will be substantially eliminated beginning in the first quarter of fiscal 2003. However, the $36.0 million in net goodwill that exists at April 30, 2002 will have to be reviewed on a regular basis for impairment consistent with the guidance in SFAS 142. Based on the analysis done as part of our adoption of SFAS 142, we believe that an impairment loss has occurred. We are finalizing the amount of the impairment loss but expect that a write down of a substantial amount, if not all, of the goodwill balance of approximately $36.0 million will be recorded upon adoption of the new standard in the first quarter of fiscal 2003. This loss is due to the continuing soft telecommunications market and the depressed values of telecommunications equipment provider stocks.

        Other Income (Expense).    Other income (expense) consists of interest income on our invested cash and cash equivalent balances, offset by interest expense attributable to our capital leases. Other income decreased to $3.7 million in fiscal 2002 from $4.9 million in fiscal 2001. The decline was primarily attributable to the decreased interest income on funds invested due to lower average interest rates

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earned on invested balances and to a lesser extent lower average invested cash balances during fiscal 2002.

        The decline in interest earned was partially offset by a $0.6 million gain realized on the sale of our echo cancellation software technology and related assets (see Note 7 of Notes to the Consolidated Financial Statements).

        Income Taxes.    Income taxes consist of federal, state and foreign income taxes. Our effective tax rate in fiscal 2002 was 6.4% as compared to 83.9% in fiscal 2001. The principal reasons for the existence of a tax provision in fiscal 2002 despite the operating loss for the year are certain non-deductible costs associated with our acquisitions, the amortization of goodwill and other acquisition-related intangible assets, and the establishment of a $33 million valuation allowance against our deferred tax assets, due to our continued operating losses and the fact that recovery of these assets is now dependent on future operating profits. The factors that contributed to a higher effective tax rate in fiscal 2001 were primarily related to the amortization of goodwill and other acquisition-related intangible assets combined with the relatively small pretax profit for fiscal 2001. These adverse impacts on the tax rate were partially offset by the effect of having earned greater tax-exempt interest income in fiscal 2001. We will not recognize a tax benefit on our future net operating losses until we establish a consistent pattern of profitability. This will result in our having a near zero effective tax rate (international earnings, which have been insignificant, will continue to be subject to taxation) until such time as we can demonstrate a proven history of profits to justify reestablishing our deferred tax assets.

Fiscal Years ended April 30, 2001 and 2000

        Revenue.    Revenue increased to $121.7 million in fiscal 2001 from $116.9 million in fiscal 2000. The primary reason for this increase was the 74% growth in sales of our optical amplifiers and subsystems products as we continued to win new customers and introduce new products in fiscal 2001. Our echo cancellation products remained the primary source of revenue, representing 86% of fiscal 2001 revenue; however, we experienced significant decreases in echo product revenues in the second half of fiscal 2001 as we were impacted by the slowdown in capital spending in the telecommunications industry. Our series of fourth generation echo cancellation products were the main contributors to the echo cancellation revenue stream in fiscal 2001. We also introduced in fiscal 2001, and shipped in volume in the fourth quarter, our fifth-generation and highest density echo cancellation product, the OC-3 echo cancellation system. Geographically, our fiscal 2001 revenue remained primarily domestic, at 83% of total worldwide revenue; however, domestic revenue decreased from 88% in fiscal 2000 as we experienced significant growth in export sales to China (38% increase) and Latin America (over 200% increase) in fiscal 2001.

        Cost of Goods Sold.    Cost of goods sold consists of direct material costs, personnel costs for test and quality assurance, costs of licensed technology incorporated into our products, provisions for inventory and warranty expenses and other indirect costs. Cost of goods sold increased to $38.5 million in fiscal 2001 from $34.9 million in fiscal 2000. The increase in fiscal 2001 is primarily due to hiring in operations, higher levels of sales, a change in the shipment mix toward higher cost optical products, and indirect cost increases such as rent expenses and inventory charges. Those increases more than offset our ongoing trend of reducing the cost of purchased inventory.

        Gross Profit.    Gross margin decreased to 68.4% in fiscal 2001 from 70.1% in fiscal 2000. The primary factors causing this decrease, in addition to the increases in cost of goods sold, are changes in the sales mix from echo cancellation to lower margin optical products. Also, within the optical product family, sales were more concentrated in lower margin products in fiscal 2001. Average selling prices also declined in fiscal 2001, in particular for our echo cancellation products, putting additional pressure on margins.

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        Sales and Marketing.    Sales and marketing expenses primarily consist of personnel costs including commissions and costs associated with customer service, travel, trade shows, communications and outside consulting services. Sales and marketing expenses increased to $13.8 million in fiscal 2001 from $9.4 million in fiscal 2000. The primary causes for the increase were increases in personnel and related costs, including travel, to support expansion of our customer service functions and marketing efforts for products both domestically and internationally, including the formation of new direct and OEM channels partnerships.

        Research and Development.    Research and development expenses primarily consist of personnel costs, contract consultants, equipment and supplies used in the development of echo cancellation and optical communications products, as well as amortization of deferred stock compensation associated with our acquisitions of Telinnovation and Atmosphere Networks. Research and development expenses increased to $34.4 million in fiscal 2001 from $8.6 million in fiscal 2000. The increase is primarily related to increased personnel and related costs and increased materials and consulting costs associated with both our echo cancellation products and optical communications products. Personnel and related costs were up $7.3 million due mostly to hiring, including the engineers who had been part of Atmosphere Networks. We increased spending on materials, product development and test, and consulting services by $6.5 million in fiscal 2001 for our echo cancellation efforts, primarily on OC-3 and STM-1 products, as well as in the optical communications and networking products labs. In addition, amortization of deferred stock compensation increased by $9.6 million to $11.5 million in fiscal 2001 related to the acquisitions of Telinnovation ($7.6 million in fiscal 2001, $1.9 million in fiscal 2000) and Atmosphere Networks ($3.9 million in fiscal 2001, since being acquired on July 25, 2000).

        General and Administrative.    General and administrative expenses primarily consist of personnel costs for corporate officers and finance and human resources personnel, and legal, accounting and consulting costs. General and administrative expenses increased to $6.7 million in fiscal 2001 from $4.3 million in fiscal 2000. The increase was primarily due to increased costs, including costs of personnel, to support the continuing development of the company.

        Amortization of Goodwill and Other Acquisition Related Intangible Assets.    In fiscal 2001, we recorded expense of $20.1 million, an increase of $18.3 million from fiscal 2000, for amortization of acquisition-related intangible assets, including goodwill, purchased technology and established workforce. These assets were acquired as part of the acquisitions of Telinnovation, in the fourth quarter of fiscal 2000, and of Atmosphere Networks, in the first quarter of fiscal 2001. The basis for the allocation and expected amortization periods are detailed in Note 3 of Notes to the Consolidated Financial Statements.

        Other Income (Expense).    Other income (expense) consists of interest income on our invested cash and cash equivalent balances, offset by interest expense attributable to our capital leases. Other income increased to $4.9 million in fiscal 2001 from $1.5 million in fiscal 2000. The improvement was primarily attributable to increased interest income on funds invested from our initial and follow-on public offerings completed in fiscal 2000, and cash from operations. Despite a lower interest rate environment in fiscal 2001, our larger average balances invested in fiscal 2001 contributed to an increase in interest income earned over that earned in fiscal 2000.

        Income Taxes.    Income taxes consist of federal, state, and foreign income taxes. Our effective tax rate in fiscal 2001 was 83.9% as compared to 40.9% in fiscal 2000. The principal reason for the higher tax rate in fiscal 2001 is due to certain non-deductible costs associated with our acquisitions, including purchased technology and the amortization of goodwill and other acquisition-related intangible assets. Those factors, which contributed to a higher effective tax rate in fiscal 2001, were partially offset by the effect of having earned greater tax-exempt interest income in fiscal 2001.

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Stock-Based Compensation

        We recorded deferred compensation of $1.3 million as of April 30, 1999, as a result of stock options granted in fiscal 1999. We are amortizing the deferred compensation over the corresponding vesting period of the stock options. We amortized approximately $283,000, $322,000 and $330,000 of the deferred compensation to general and administrative expense in fiscal 2002, 2001 and 2000, respectively. Due to normal amortization and turnover in the workforce since the establishment of this deferred compensation in fiscal 1999, the net remaining balance as of April 30, 2002 of $142,000 will be fully amortized to expense by the end of the third quarter of fiscal 2003.

        Associated with the acquisition of Telinnovation in February 2000, we recorded $23 million of deferred compensation related to 400,000 restricted shares granted to the Telinnovation employees. These restricted shares were tied to the employees' continuing employment with Ditech. The deferred compensation was being amortized as research and development expense over the three-year vesting period of the restricted shares. We amortized approximately $7.3 million, $7.7 million and $1.9 million of this deferred compensation in fiscal 2002, 2001 and 2000, respectively. As part of the disposition of our echo software technology to TI, TI became the custodian of these restricted shares and will release them to the Telinnovation employees, who now work for TI, as they are earned. Should a former Telinnovation employee leave their employment prior to earning their restricted shares, the shares would be forfeited to TI. Since all former Telinnovation employees have left our employment and are now working for TI, the net deferred stock compensation of $6.1 million remaining on April 15, 2002 was eliminated as part of the sale transaction. Therefore, there will be no future amortization related to deferred stock compensation associated with our acquisition of Telinnovation.

        Associated with the acquisition of Atmosphere on July 25, 2000, we recorded $2.4 million of deferred compensation related to unvested options assumed in the acquisition. This amount has been reduced from time to time due to option cancellations associated with employee terminations. This deferred compensation is being amortized to research and development expense over the remaining terms of the original twenty-four month vesting period of the options. In connection with the acquisition of Atmosphere, we issued nonqualified stock options for approximately 750,000 shares of our common stock at a price equal to a 50% discount from the market value of the stock on its grant date of August 1, 2000. The discount was recorded as deferred compensation of $17.3 million in August 2000. Subsequent to recording this deferred compensation in August 2000, the gross amount of deferred compensation has been reduced from time to time for the impact of option cancellations due to employee terminations. The net deferred compensation is being amortized to research and development expense over the remaining term of the original forty-eight month vesting period of the options. The Atmosphere-related deferred compensation expense totaled approximately $4.1 million in fiscal 2002 and $3.9 million in fiscal 2001. The net remaining balance related to the assumed options of $35,000 will be fully amortized in the first quarter of fiscal 2003 and the net remaining balance related to the August 2000 option grant of $6.1 million will be amortized over the remaining 27 months of the original option term.

Recent Accounting Pronouncements

        In June 2001, the Financial Accounting Standards Board (FASB) issued FASB Statement No. 142 (SFAS 142), "Goodwill and other Intangible Assets," effective for fiscal years beginning after December 15, 2001. SFAS 142 supersedes Accounting Principles Board Opinion No. 17 and changes the accounting for goodwill from an amortization method to an impairment-only approach. Upon adoption of SFAS 142, amortization of goodwill, including goodwill recorded in past business combinations, will cease. Instead, goodwill will be tested annually or whenever events or circumstances occur indicating that goodwill might be impaired. We adopted SFAS 142 on May 1, 2002. Based on the analysis done as part of our adoption of SFAS 142, we believe that an impairment loss has occurred. We are finalizing the amount of the impairment loss but expect that a write down of a substantial amount, if not all, of

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the goodwill balance of approximately $36 million will be recorded upon adoption of the new standard in the first quarter of fiscal 2003. This loss is due to the continuing soft telecommunications market and the depressed values of telecommunications equipment provider stocks. In addition, operating results will no longer include amortization of goodwill, which amounted to $19.6 million in fiscal 2002.

        In August 2001, the FASB issued FASB Statement No. 144 (SFAS 144), "Accounting for the Impairment or Disposal of Long-Lived Assets," which is effective for periods beginning after December 15, 2001. SFAS 144 supersedes FASB Statement No. 121, "Accounting for the Impairment or Disposal of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," and the accounting and reporting provisions relating to the disposal of a segment of a business of Accounting Principles Board Opinion No. 30. This Statement retains many of the fundamental provisions of SFAS 121 and expands the scope of discontinued operations to include more disposal transactions. The Company does not expect that the adoption of SFAS 144 will have a significant impact on its financial statements.

Liquidity and Capital Resources

        Since March 1997, we have satisfied the majority of our liquidity requirements through cash flow generated from operations, funds received upon exercise of stock options and the proceeds from our initial and follow-on public offerings in fiscal 2000.

        In fiscal 2002, we used $13.8 million of cash in operations, primarily due to the operating loss for the year, net of non-cash items including depreciation, amortization of goodwill and other acquisition related intangibles, amortization of stock compensation and the establishment of the $33 million deferred income tax valuation allowance. The other key cause for the use of cash was the increase of $13.6 million in income taxes receivable, which was due to our expected recovery of over $15 million of prior taxes paid, through the carryback of our current year losses. These uses of cash were partially offset by reductions in accounts receivable and inventory and increases in accrued expenses and deferred revenue. In fiscal 2001, we generated $28.7 million in cash from operations, primarily due to operating profits, after including the impact of non-cash items, and to a lesser extent due to a reduction in accounts receivable. These net sources of cash were partially offset by net uses of cash for increases in inventory and other current assets and reductions in accounts payable and deferred revenue balances. In fiscal 2000 we generated $34.3 million in cash from operations, primarily due to increased operating profits, increases in accounts payable, accrued expenses and deferred revenue, partially offset by an increase in accounts receivable, inventories and other current assets.

        In fiscal 2002, investing activities generated $8.0 million of cash due to $17.3 million of net cash received from the sale of our echo cancellation software technology and related assets. The sale was partially offset by increased purchases of property and equipment to support the growth in staff and the development and introduction of Titanium. In fiscal 2001, investing activities used $6.1 million, mostly for the purchase of property and equipment, offset somewhat by a net source of cash of $542,000 resulting from our purchase the net assets of Atmosphere Networks in July 2000. Investing activities used $5.3 million in fiscal 2000, with $3.0 million used to purchase our echo technology from Telinnovation, and the balance primarily relating to purchases of equipment.

        In fiscal 2002, we generated $1.6 million in financing activities, primarily due to the proceeds from shares issued under employee stock plans. In fiscal 2001 we used $1.1 million in financing activities, primarily due to the retirement in the second quarter of fiscal 2001 of approximately $4.4 million in notes payable and capital lease obligations assumed in the Atmosphere acquisition, partially offset by approximately $3.3 million from issuance of stock under our stock option plans and employee stock purchase plans. In fiscal 2000 we generated $56.5 million of cash from financing, primarily from the net proceeds from our initial public offering in June 1999 and our secondary offering in October 1999, partially offset by the redemption of Series A preferred stock, retirement of long term debt, and principal payments on our capital leases.

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        As of April 30, 2002, we had cash and cash equivalents of $105.9 million as compared to $110.1 million at April 30, 2001.

        We have no material commitments other than obligations under operating leases, particularly our facility leases (see Note 6 of the Notes to our Consolidated Financial Statements) and normal purchases of inventory, capital equipment and operating expenses, such as materials for research and development and consulting. We currently occupy approximately 61,000 square feet in the two buildings that form our Mountain View headquarters. This facility lease expires in June 2006. We also lease a research and development facility in Australia and on in the United Kingdom, each of which contains approximately 6,000 square feet with lease terms that expire in April 2005 and October 2011, respectively. We believe that the space under the combined leases is adequate to meet our needs for at least the next twelve months. The annual rental payments for these lease commitments are approximately $2 million per year for each of the next four fiscal years and approximately $1 million in total, thereafter. We had less than $10 million of open purchase orders related to purchases of inventory, capital equipment and operating expenses substantially all of which will be received over the next 3 to 9 months.

        We believe that we will be able to satisfy our cash requirements for at least the next twelve months from our existing cash and recovery of income taxes receivable. We are also in preliminary discussions with a bank to provide a line of credit and equipment line to provide an alternative source of funds, if needed. Our ability to fund our operations beyond the next twelve months will be dependent on the acceptance of our new Titanium product and the overall demand of the telecommunications providers for new capital equipment. Should our customers' capital spending patterns not recover by the end of fiscal 2003, we could need to find additional sources of cash during fiscal 2004 or look to reductions in spending to protect our cash reserves.

Critical Accounting Policies and Estimates

        The preparation of our financial statements requires us to make certain estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosures. We evaluate these estimates on an ongoing basis, including those related to our allowance for bad debts, provisions for inventories, warranties, valuation and impairment of goodwill and other acquisition related intangible assets and recovery of deferred income taxes receivable. Estimates are based on our historical experience and other assumptions that we consider reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual future results may differ from these estimates in the event that facts and circumstances vary from our expectations. To the extent there are material differences between our ongoing estimates and the ultimate actual results, our future results of operations will be affected. We believe that the following critical accounting policies affect the most significant judgments and estimates used in the preparation of our consolidated financial statements.

        Revenue Recognition.    We generally recognize product revenue when: persuasive evidence of a definitive agreement exists; shipment to the customer has occurred, title and all risks and rewards of ownership have passed to the customer; acceptance terms, if any have been fulfilled; no significant contractual obligations remain outstanding; the fee is fixed or determinable; and collection is reasonably assured. If any of these conditions are not satisfactorily met, revenue from that transaction is deferred until all conditions are met.

        We offer a warranty, ranging from one year to five years, on all of our products. The warranty generally provides that we will repair or replace any defective product within one year to five years from the invoice date. We accrue for warranty costs at the time we recognize product revenue, based on our historical experience and expectations of future conditions. To the extent we experience

26

increased warranty claim activity or increased costs associated with servicing those claims, our warranty accrual will increase resulting in a decrease in gross profits.

        Allowance for Bad Debts.    We maintain allowances for bad debts for estimated losses resulting from the inability of our customers to make required payments. If the financial condition of one or more of our customers were to deteriorate suddenly, resulting in an impairment of their ability to make payments, additional allowances may be required.

        Provision for Inventory Valuation.    We provide valuation allowances for excess and obsolete inventory based on our ongoing assessment of inventory levels as compared to our estimates of future market demand and market conditions. To the extent that a severe, unexpected decline in forecasted demand occurs, significant charges for excess inventory could occur, such as the $3.5 million charge recorded in the third quarter of fiscal 2002.

        Valuation and Impairment of Goodwill and Other Acquisition Related Intangible Assets.    The purchase combinations carried out by us require management to estimate the fair value of the assets acquired and liabilities assumed in the combinations. These estimates of fair value are based on our business plan for the entities acquired including planned redundancies, use of assets acquired and assumptions as to ultimate resolution of obligations assumed for which no future benefit will be received. For example, with the Atmosphere acquisition, we identified vacated or redundant facilities that we eliminated. Should actual use of assets or resolution of obligations differ from our estimates, revisions to the estimates would be required. If a change in estimate were to occur beyond one year from the date of the acquisition, the change would be recorded in our statement of operations rather than as an adjustment to goodwill.

        We assess the impairment of goodwill and other identifiable intangible assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Some factors we consider important which could trigger an impairment review include the following:

•

Significant under performance relative to expected historical or projected future operating results;



•

Significant changes in the manner of our use of the acquired assets or the strategy for our overall business; and



•

Significant negative industry or economic trends.

        If we determine that the carrying amount of goodwill and other identifiable intangibles may not be recoverable, based upon the existence of one or more of the above indicators of impairment, we measure any impairment based on a projected discounted cash flow method using a discount rate determined by our management to be commensurate with the risk inherent in our current business model. As previously discussed, the review and measurement of any future impairment of goodwill will be done in compliance with SFAS No. 142. Adoption of this new standard will result in elimination of goodwill amortization, which totaled $19.6 million in fiscal 2002.

        Accounting for Income Taxes.    We estimate our actual current tax exposure together with our temporary differences resulting from differing treatment of items, such as valuation allowances for bad debts and inventory, for tax and accounting purposes. These temporary differences along with net operating loss and tax credit carry forwards result in deferred tax assets and liabilities. We must then assess the likelihood that our deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery is no longer more likely than not, we must establish a valuation allowance. At April 30, 2002, we determined that a valuation allowance against our then existing deferred tax asset position was necessary. We based this decision on the fact that in the fourth quarter of 2002, we generated sufficient operating losses on a tax basis to fully recover all taxes paid in prior years. In addition, the sale of our echo canceller software technology and software generated such large

27

loss carry forwards for tax purposes, that we could not conclude that the recovery of our deferred tax assets was still more likely than not. Should we be able to demonstrate a track record of sustained profitability in the future, some or all of the valuation allowance established in April 2002 could be reversed which would have a favorable impact on our tax rates in the quarter of adjustment. Significant management judgment is required in determining our provision for income taxes, our deferred tax assets and the liabilities and any valuation allowance recorded against our net deferred tax assets.

Future Growth and Operating Results Subject to Risk

        Our business and the value of our stock are subject to a number of risks, which are set out below. If any of these risks actually occur, our business, financial condition or operating results could be materially adversely affected, which would likely have a corresponding impact on the value of our common stock. These risk factors should be carefully reviewed.

        WE DEPEND ON A LIMITED NUMBER OF CUSTOMERS FOR OUR PRODUCTS, THE LOSS OF ANY ONE OF WHICH COULD CAUSE OUR REVENUE TO DECREASE.

        Our revenue historically has come from a small number of customers. A customer may stop buying our products or significantly reduce its orders for our products for a number of reasons, including the acquisition of a customer by another company or a delay in a scheduled product introduction. If this happens, our revenue could be greatly reduced, which would materially and adversely affect our business. Our five largest customers accounted for over 65%, 70% and 75% of our revenue in fiscal 2002, 2001 and 2000, respectively. For example, Qwest, our largest customer for the past few years, accounted for only 9% of our sales in fiscal 2002, a time period in which revenues were substantially less than in recent prior periods, as compared to 47% and 57% of our revenue in fiscal 2001 and 2000, respectively. As another example of this risk, in the third quarter of fiscal 2001, delays in scheduled shipments of our new OC-3 echo cancellation products to Qwest resulted in our revenues from Qwest declining to 12% of total revenue in that fiscal quarter.

        Additionally, due to continuing difficult economic conditions, many operators in the telecommunications industry have experienced financial difficulties, dramatically reducing their capital expenditures and, in some cases, resulting in their filing for bankruptcy or becoming acquired by other operators. We expect this trend to continue, which may result in our dependence on an even smaller customer base.

        OUR OPERATING RESULTS HAVE FLUCTUATED SIGNIFICANTLY IN THE PAST, AND WE ANTICIPATE THAT THEY MAY CONTINUE TO DO SO IN THE FUTURE, WHICH COULD ADVERSELY AFFECT OUR STOCK PRICE.

        Our quarterly operating results have fluctuated significantly in the past and may fluctuate in the future as a result of several factors, some of which are outside of our control. If revenue declines in a quarter, as we experienced in the second half of fiscal 2001 and again in the second quarter of fiscal 2002, our operating results will be adversely affected because many of our expenses are relatively fixed. In particular, sales and marketing, research and development and general and administrative expenses do not change significantly with variations in revenue in a quarter. Adverse changes in our operating results could adversely affect our stock price.

        OUR REVENUE MAY VARY FROM PERIOD TO PERIOD.

        Factors that could cause our revenue to fluctuate from period to period include:

•

changes in capital spending in the telecommunications industry and larger macroeconomic trends;

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•

the timing or cancellation of orders from, or shipments to, existing and new customers;



•

delays outside of our control in obtaining necessary components from our suppliers;



•

delays outside of our control in the installation of products for our customers;



•

the timing of new product and service introductions by us, our customers, our partners or our competitors;



•

competitive pressures;



•

variations in the mix of products offered by us; and



•

variations in our sales or distribution channels.

        In particular, sales of our echo cancellation products, which historically have accounted for the vast majority of our revenue, have typically come from our major customers ordering large quantities when they deploy a switching center. Consequently, we may get one or more large orders in one quarter from a customer and then no orders in the next quarter. As a result, our revenue may vary significantly from quarter to quarter.

        Our customers may delay orders for our existing products in anticipation of the release of our or our competitors' new products. Further, if our or our competitors' new products substantially replace the functionality of our existing products, our existing products may become obsolete, and we could be forced to sell them at reduced prices or even at a loss.

        Revenue can vary period to period if planned dates of new product introductions are missed and the product release occurs in a later quarter. As an example of this risk, we had initially planned to begin production shipment of the international version of our OC-3 echo canceller, the STM-1, in the second quarter of calendar 2001. However due to our schedule delays and prolonged customer testing of this new product, we did not ship any units for revenue in fiscal 2002. We expect our first production shipment will now occur in the first half of fiscal 2003.

        In addition, the sales cycle for our products are typically lengthy. Before ordering our products, our customers perform significant technical evaluations, which typically last up to 90 days in the case of our echo cancellation products and up to 180 days in the case of our optical communications products. Once an order is made, delivery times can vary depending on the product ordered, with delivery times for optical communications products exceeding those for our echo cancellation products. As a result, revenue forecasted for a specific customer for a particular quarter may not occur in that quarter. Because of the potential large size of our customers' orders, this would adversely affect our revenue for the quarter.

        OUR EXPENSES MAY VARY FROM PERIOD TO PERIOD.

        Many of our expenses do not vary with our revenue. Factors that could cause our expenses to fluctuate from period to period include:

•

the extent of marketing and sales efforts necessary to promote and sell our products;



•

the timing and extent of our research and development efforts;



•

the availability and cost of key components for our products; and



•

the timing of personnel hiring.

        If we incur such additional expenses in a quarter in which we do not experience increased revenue, our profitability would be adversely affected and we may even incur losses for that quarter, as we have continued to experience since the third quarter of fiscal 2001.

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        WE ANTICIPATE THAT AVERAGE SELLING PRICES FOR OUR PRODUCTS WILL DECLINE IN THE FUTURE, WHICH COULD ADVERSELY AFFECT OUR PROFITABILITY.

        We expect that the price we can charge our customers for our products will decline as new technologies become available and as competitors lower prices either as a result of reduced manufacturing costs or a strategy of cutting margins to achieve or maintain market share. As a result, we may face reduced profitability and perhaps losses in future periods. We expect price reductions to be more pronounced in the market for our echo cancellation products, at least in the near term, due to more established competition for these products. While we intend to reduce our manufacturing costs in an attempt to maintain our margins and to introduce enhanced products with higher selling prices, we may not execute these programs on schedule. In addition, our competitors may drive down prices faster or lower than our planned cost reduction programs. Even if we can reduce our manufacturing costs, many of our operating costs will not decline immediately if revenue decreases due to price competition.

        IF WE DO NOT SUCCESSFULLY DEVELOP AND INTRODUCE OUR NEW PRODUCTS, OUR PRODUCTS MAY BECOME OBSOLETE.

        We operate in an industry that experiences rapid technological change, and if we do not successfully develop and introduce our new products and our existing products become obsolete due to product introductions by competitors, our revenues will decline. Our ability to maintain and increase revenue in the future will depend primarily on:

•

continued acceptance of our Broadband and OC-3 Echo Cancellation Systems and of our Quasar and Orion optical subsystems;



•

our successful introduction of STM-1 and a next generation echo cancellation system; and



•

our successful introduction of Titanium, our new optical system product.

        However, we may not be able to successfully produce or market our new products in commercial quantities, complete product development when anticipated, or increase sales. These risks are of particular concern when a new generation product is introduced. As a result, while we believe we will achieve our product introduction dates, they may be delayed. For example, we originally expected our international version of our fifth generation echo cancellation system, the STM-1, to be available in the second quarter of calendar 2001. We now expect production shipments of the STM-1 to occur in the first half of fiscal 2003. Additionally, in fiscal 2002, sales of our fourth generation echo cancellers and our broadband system have generated the majority of our echo revenue while sales of our fifth generation, OC-3, echo cancellation system fell short of our expectations due to a sudden decline in projected demand in the second quarter of fiscal 2002 from our primary targeted customer for this product, Qwest.

        Additionally, we have invested heavily in the development of our Titanium product and, if we are unable to introduce it or introduction is delayed due to technical or other difficulties, including the inability to obtain components on a timely basis, or it does not achieve market acceptance due to the weak economic conditions and capital spending in the telecommunications industry, then we would not be able to recover our costs in developing this product. We do not anticipate any revenue from our new Titanium system prior to the fourth quarter of fiscal 2003, depending on telecommunications carrier spending, timing of trials and acceptance criteria, which could affect revenue recognition. Delays in shipping Titanium would adversely affect revenues in fiscal 2003.

        We have in the past experienced, and in the future may experience, similar unforeseen delays in the development of our new products. We must devote a substantial amount of resources in order to develop and achieve commercial acceptance of our new echo cancellation and optical communications and optical systems products. We may not be able to address evolving demands in these markets in a

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timely or effective way. Even if we do, customers in these markets may purchase or otherwise implement competing products.

        IF WE ARE NOT ABLE TO DEVELOP SUBSTANTIAL REVENUE FROM SALES OF OUR OPTICAL COMMUNICATIONS PRODUCTS, OUR ABILITY TO GROW OUR BUSINESS MAY BE SUBSTANTIALLY IMPAIRED.

        To date, the majority of our revenue has been derived from sales of our echo cancellation products. If we are not able to develop substantial revenue from sales of our optical communications products, our ability to grow our business may be substantially impaired due to the relatively small size of the overall echo cancellation market as compared to the optical market. We derived approximately 66%, 86% and 92% of our revenue from the sale of our echo cancellation products in fiscal 2002, 2001 and 2000, respectively. We expect that a majority of our revenue will continue to come from sales of our echo cancellation products for the foreseeable future.

        To date, the vast majority of our optical revenue has come from a few customers, one of whom is located in the Far East. Due to our dependence on such a small number of optical customers at this time and the political and economic volatility in certain parts of the Far East, our optical revenue could be subject to abrupt and unanticipated changes in demand. Until we can diversify our optical revenue stream, both in terms of customer and geographic mix, we may experience unexpected adverse swings in optical revenue from quarter to quarter.

        WE FACE INTENSE COMPETITION, WHICH COULD ADVERSELY AFFECT OUR ABILITY TO MAINTAIN OR INCREASE SALES OF OUR PRODUCTS.

        The markets for our echo cancellation and optical communications products are intensely competitive, continually evolving and subject to rapid technological change. We may not be able to compete successfully against current or future competitors, including our customers. Certain of our customers also have the ability to internally produce the equipment that they currently purchase from us. In such cases, we also compete with their internal product development capabilities. We expect that competition in each of the echo cancellation and optical networking markets will increase in the future. We may not have the financial resources, technical expertise or marketing, manufacturing, distribution and support capabilities to compete successfully.

        In our echo cancellation business, we face competition from two major direct competitors, Tellabs and NMS. The other competition in the echo cancellation market comes from voice switch manufacturers. These manufacturers don't sell echo cancellation products or compete in the open echo cancellation market, but they integrate echo cancellation functionality within their switches, either as hardware modules or as software running on chips. The current trend in the customer base (carriers) is not to deploy echo cancellation within voice switches, and thereby favor external echo cancellation solutions, a reversal of this trend and a widespread adoption of internal echo cancellation solutions could present a competitive threat to us if the net result was the elimination of demand for our echo cancellation system products. With the down turn in spending in the telecommunications industry, service providers appear to be exploring these alternative sources of echo cancellation more thoroughly, while they wait for more robust capital spending budgets to return. If our customers decide to design these alternative sources of echo cancellation into their future network expansion, it could adversely impact the speed and duration of our echo sales recovery.

        In our nascent optical systems business, new technology breakthroughs by our competitors may impact acceptance of our product in the market and future revenues.

        Most of our competitors and potential competitors have substantially greater name recognition and technical, financial and marketing resources than we do. Such competitors may undertake more extensive marketing campaigns, adopt more aggressive pricing policies and devote substantially more

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resources to developing new products than we will. For more information on the competition we face, see "Item 1—Business—Competition."

        IF WE DO NOT RETAIN KEY PERSONNEL FROM ACQUISITIONS, WE MAY NOT BE ABLE TO REALIZE THE BENEFITS WE EXPECT FROM OUR ACQUISITIONS.

        We believe the Atmosphere acquisition provides us with expanded opportunities in the rapidly growing optical communications market. However, our ability to successfully execute in this new market is greatly dependent on our ability to retain key personnel. Although we believe that we have provided significant incentives directly linked to continued employment, there is no guarantee that these key employees will remain in our employment until after we have successfully penetrated these markets.

        WE NOW LICENSE OUR ECHO CANCELLATION SOFTWARE FROM TI, AND IF WE DO NOT RECEIVE THE LEVEL OF SUPPORT WE EXPECT FROM TI, IT COULD ADVERSELY AFFECT OUR ECHO CANCELLATION SYSTEMS BUSINESS.

        In April 2002, we sold our echo cancellation software technology and future revenue streams from our licenses of technology acquired from Telinnovation to TI, in return for cash and a long-term license of the echo cancellation software. Although the licensing agreement has strong guarantees of support for the software used in our products, if TI were to breach that agreement in some fashion, and not deliver complete and timely support to us, this could adversely affect our success in the echo cancellation systems business.

        IF TI LICENSES ITS ECHO CANCELLATION SOFTWARE TO OTHER ECHO CANCELLATION SYSTEMS COMPANIES, THIS COULD INCREASE THE COMPETITIVE PRESSURES ON OUR ECHO CANCELLATION SYSTEMS BUSINESS.

        Under the terms of the sale agreement of our echo cancellation software to TI, TI is precluded from licensing the software to other echo cancellation systems companies for a period of two years and four years to NMS and Tellabs. If TI were to license its echo cancellation software to other echo cancellation systems companies after two years, this could increase the level of competition and adversely affect our success in our echo cancellation systems business.

        IF WE DO NOT REDUCE MANUFACTURING COSTS OF OUR PRODUCTS TO RESPOND TO ANTICIPATED DECREASING AVERAGE SELLING PRICES, OUR ABILITY TO GENERATE PROFITS COULD BE ADVERSELY AFFECTED.

        In order to respond to increasing competition and our anticipation that average selling prices will decrease, we are attempting to reduce manufacturing costs of our new and existing products. If we do not reduce manufacturing costs and average selling prices decrease, our operating results will be adversely affected. We may not be able to successfully reduce the cost of manufacturing our products due to a number of factors, including:

        WE RELY ON A LIMITED SOURCE OF MANUFACTURING.    Manufacturing of our echo cancellation products and the electronic printed circuit board assemblies for our optical networking products is currently outsourced to a small number of contract manufacturers. We believe that our current contract manufacturing relationships provide us with competitive manufacturing costs for our products. However, if we or these contract manufacturers terminate any of these relationships, or if we otherwise establish new relationships, we may encounter problems in the transition of manufacturing to another contract manufacturer, which could temporarily increase our manufacturing costs and cause production delays.

        WE HAVE NO COMMERCIAL MANUFACTURING EXPERIENCE WITH OUR NEW PRODUCTS.    To date we have manufactured our newer optical communications products in our facilities but not in commercial quantities. We will need to outsource the manufacturing of these

32

products once we begin to commercially manufacture them. We may experience delays and other problems during the transition to outsourcing the manufacture of these products.

        WE OPERATE IN AN INDUSTRY EXPERIENCING RAPID TECHNOLOGICAL CHANGE, WHICH MAY MAKE OUR PRODUCTS OBSOLETE.

        Our future success will depend on our ability to develop, introduce and market enhancements to our existing products and to introduce new products in a timely manner to meet our customers' requirements. The echo cancellation and optical communications markets we target are characterized by:

•

rapid technological developments;



•

frequent enhancements to existing products and new product introductions;



•

changes in end user requirements; and



•

evolving industry standards.

        WE MAY NOT BE ABLE TO RESPOND QUICKLY AND EFFECTIVELY TO THESE RAPID CHANGES.    The emerging nature of these products and their rapid evolution will require us to continually improve the performance, features and reliability of our products, particularly in response to competitive product offerings. We may not be able to respond quickly and effectively to these developments. The introduction or market acceptance of products incorporating superior technologies or the emergence of alternative technologies and new industry standards could render our existing products, as well as our products currently under development, obsolete and unmarketable. In addition, we may have only a limited amount of time to penetrate certain markets, and we may not be successful in achieving widespread acceptance of our products before competitors offer products and services similar or superior to our products. We may fail to anticipate or respond on a cost-effective and timely basis to technological developments, changes in industry standards or end user requirements. We may also experience significant delays in product development or introduction. In addition, we may fail to release new products or to upgrade or enhance existing products on a timely basis.

        WE MAY NEED TO MODIFY OUR PRODUCTS AS A RESULT OF CHANGES IN INDUSTRY STANDARDS.    The emergence of new industry standards, whether through adoption by official standards committees or widespread use by service providers, could require us to redesign our products. If such standards become widespread, and our products are not in compliance, our current and potential customers may not purchase our products. The rapid development of new standards increases the risk that our competitors could develop and introduce new products or enhancements directed at new industry standards before us.

        IF INCUMBENT AND EMERGING COMPETITIVE SERVICE PROVIDERS AND THE TELECOMMUNICATIONS INDUSTRY AS A WHOLE EXPERIENCE A CONTINUED DOWNTURN OR REDUCTION IN GROWTH RATE, THE DEMAND FOR OUR PRODUCTS WILL DECREASE, WHICH WILL ADVERSELY AFFECT OUR BUSINESS.

        We recently have experienced, as have other companies in our sector, an unexpected slowdown in infrastructure spending by our customers. This recent trend of lower capital spending in the telecommunications industry contributed to the decline in our revenues, beginning in the second half of fiscal 2001 and continuing to the present. If this trend continues, it will continue to have a negative effect on our operating results. Our success will depend in large part on continued development and expansion of voice and data communications networks. We are subject to risks of growth constraints due to our current and planned dependence on emerging competitive and privatized overseas service providers. These potential customers may be constrained for a number of reasons, including their limited capital resources, changes in regulation and consolidation.

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        SOME OF THE KEY COMPONENTS USED IN OUR PRODUCTS ARE CURRENTLY AVAILABLE ONLY FROM SOLE SOURCES, THE LOSS OF WHICH COULD DELAY PRODUCT SHIPMENTS.

        We rely on certain vendors as the sole source of certain key components that we use in our echo cancellation and optical communications products. We have no guaranteed supply arrangements with these vendors. Any extended interruption in the supply of these components would affect our ability to meet scheduled deliveries of our echo cancellation products to customers. If we are unable to obtain a sufficient supply of these components, we could experience difficulties in obtaining alternative sources or in altering product designs to use alternative components. Resulting delays or reductions in product shipments could damage customer relationships, and we could lose customers and orders.

        SOME SUPPLIERS OF KEY COMPONENTS MAY REDUCE THEIR INVENTORY LEVELS WHICH COULD RESULT IN LONGER LEAD TIMES FOR FUTURE COMPONENT PURCHASES AND ANY DELAYS IN FILLING OUR DEMAND MAY REDUCE OR DELAY OUR EXPECTED PRODUCT SHIPMENTS AND REVENUES.

        Although we believe there are currently ample supplies of components for our products, it is possible that in the near-term component manufacturers may reduce their inventory levels and require firm orders before they manufacture components. This reduction in stocking levels could lead to extended lead times in the future. If we are unable to procure our planned quantities of material from all prospective suppliers, and if we cannot use alternative components, we could experience revenue delays or reductions and potential harm to customer relationships. An example of this risk occurred in the third quarter of fiscal 2001 as two vendors supplying us with components used in our OC-3 product did not meet our total demand, which contributed to our revenue shortfall in that quarter.

        WE ARE INVESTING IN GROWING OUR BUSINESS, WHICH IS DIVERTING OUR MANAGEMENT'S ATTENTION FROM THE DAY-TO-DAY OPERATIONS OF OUR BUSINESS AND MAY REDUCE OUR ABILITY TO FOCUS ON FUTURE BUSINESS OPPORTUNITIES.

        We anticipate significantly expanding our business capacity to address potential growth in our customer base and market opportunities, due for the most part to our new Titanium product. Expansion of our business may strain our management personnel, operations and resources. Growth in our customer base may require us to improve our predictions of what customers are likely to need and when they will need it, which may also place further strain on our sales and marketing personnel. In response to the prolonged downturn in the telecommunications industry, we announced a headcount freeze at the end of the third quarter of this year, so any near-term plans to capitalize on potential growth will need to be fulfilled by our existing personnel. We may also experience problems in integrating new personnel into our corporate culture in light of the effects of tighter spending controls.

        WE MAY EXPERIENCE UNFORESEEN PROBLEMS AS WE DIVERSIFY OUR INTERNATIONAL CUSTOMER BASE, WHICH WOULD IMPAIR OUR ABILITY TO GROW OUR BUSINESS.

        Historically, we have sold mostly to customers in North America. We are continuing to execute on our plans to expand our international presence through the establishment of new relationships with established international OEMs, value-added resellers and distributors. However, we may still be required to hire additional personnel for the overseas market and incur other unforeseen expenditures. Our planned expansion overseas may not be successful. As we expand our sales focus further into international markets, we will face new and complex issues that we may not have faced before, such as expanded risk to currency fluctuations, manufacturing overseas and broadened import/export controls, which will put additional strain on our management personnel. In the past, substantially all of our international sales have been denominated in U.S. dollars; however, in the future, we may be forced to denominate a greater amount of international sales in foreign currencies. Additionally, the number of

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installations we will be responsible for is likely to increase as a result of our continued international expansion. In the past, we have experienced difficulties installing one of our echo cancellation products overseas. In addition, we may not be able to establish more relationships with OEMs, value-added resellers and distributors. If we do not, our ability to increase sales could be materially impaired.

        IF WE LOSE THE SERVICES OF ANY MEMBER OF OUR SENIOR MANAGEMENT OR KEY TECHNICAL PERSONNEL, OR ARE UNABLE TO RETAIN OR ATTRACT ADDITIONAL TECHNICAL PERSONNEL, OUR ABILITY TO CONDUCT AND EXPAND OUR BUSINESS WILL BE IMPAIRED.

        We depend heavily on Tim Montgomery, our Chairman, President and Chief Executive Officer, and on other key management and technical personnel, for the conduct and development of our business and the development of our products. Recently, we have attempted to mitigate some of this risk through some key hires. However, there is no guarantee that if we lost the services of one or more of these people for any reason, that it would not adversely affect our ability to conduct and expand our business and to develop new products. We believe that our future success will depend in large part upon our continued ability to attract, retain and motivate highly skilled employees, who are in great demand. However, we may not be able to do so.

        OUR ABILITY TO COMPETE SUCCESSFULLY WILL DEPEND, IN PART, ON OUR ABILITY TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS, WHICH WE MAY NOT BE ABLE TO PROTECT.

        We rely on a combination of patents, trade secrets, copyright and trademark laws, nondisclosure agreements and other contractual provisions and technical measures to protect our intellectual property rights. Nevertheless, such measures may not be adequate to safeguard the technology underlying our echo cancellation and optical communications products. In addition, employees, consultants and others who participate in the development of our products may breach their agreements with us regarding our intellectual property, and we may not have adequate remedies for any such breach. In addition, we may not be able to effectively protect our intellectual property rights in certain countries. We may, for a variety of reasons, decide not to file for patent, copyright or trademark protection outside of the United States. We also realize that our trade secrets may become known through other means not currently foreseen by us. Notwithstanding our efforts to protect our intellectual property, our competitors may be able to develop products that are equal or superior to our products without infringing on any of our intellectual property rights.

        OUR PRODUCTS EMPLOY TECHNOLOGY THAT MAY INFRINGE ON THE PROPRIETARY RIGHTS OF THIRD PARTIES, WHICH MAY EXPOSE US TO LITIGATION.

        Although we do not believe that our products infringe the proprietary rights of any third parties, third parties may still assert infringement or invalidity claims (or claims for indemnification resulting from infringement claims) against us. Such assertions could materially adversely affect our business, financial condition and results of operations. In addition, irrespective of the validity or the successful assertion of such claims, we could incur significant costs in defending against such claims.

        ACQUISITIONS AND INVESTMENTS MAY ADVERSELY AFFECT OUR BUSINESS.

        From time to time, we review acquisition and investment prospects that would complement our existing product offerings, augment our market coverage, secure supplies of critical materials or enhance our technological capabilities. Acquisitions or investments could result in a number of financial consequences, including:

•

potentially dilutive issuances of equity securities;



•

large one-time write-offs;

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•

reduced cash balances and related interest income;



•

higher fixed expenses which require a higher level of revenues to maintain gross margins;



•

the incurrence of debt and contingent liabilities; and



•

amortization expenses related to other acquisition related intangible assets and impairment of goodwill.

        Furthermore, acquisitions involve numerous operational risks, including:

•

difficulties in the integration of operations, personnel, technologies, products and the information systems of the acquired companies;



•

diversion of management's attention from other business concerns;



•

diversion of resources from our existing businesses, products or technologies;



•

risks of entering geographic and business markets in which we have no or limited prior experiences; and



•

potential loss of key employees of acquired organizations.

Item 7A—Quantitative and Qualitative Disclosures About Market Risk

        Our exposure to market risk for a change in interest rates relates primarily to our investment portfolio. We do not use derivative financial instruments and our investment portfolio only includes highly liquid instruments. As a result of the short-term duration of the financial instruments in our investment portfolio, we do not believe that our financial instruments are materially sensitive to changes in interest rates. Our cash and cash equivalents as of April 30, 2002 of $105.9 million all have maturities of 30 days or less and bear an average interest rate of 1.90%. The estimated fair value of our cash and cash equivalents approximates the principal amounts of the underlying securities based on the short maturities of these financial instruments.

        To date, substantially all of our sales are denominated in U.S. dollars. As only a small amount of foreign bills are paid in currencies other than the U.S. dollar, our foreign exchange risk is considered immaterial to our consolidated financial position, results of operations or cash flows.

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Item 8—Financial Statements and Supplementary Data

DITECH COMMUNICATIONS CORPORATION
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

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REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholders of
Ditech Communications Corporation:

In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, stockholders' equity (deficit) and cash flows present fairly, in all material respects, the financial position of Ditech Communications Corporation and its subsidiaries at April 30, 2001 and 2002, and the results of their operations and their cash flows for each of the three years in the period ended April 30, 2002, in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

/s/ PricewaterhouseCoopers LLP

May 24, 2002
San Jose, California

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DITECH COMMUNICATIONS CORPORATION

CONSOLIDATED BALANCE SHEETS

(in thousands)

The accompanying notes are an integral part of these consolidated financial statements

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DITECH COMMUNICATIONS CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

The accompanying notes are an integral part of these consolidated financial statements

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DITECH COMMUNICATIONS CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)

(in thousands)

The accompanying notes are an integral part of these consolidated financial statements

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DITECH COMMUNICATIONS CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)