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

FORM 10-K

(Mark One)

For the fiscal year ended December 31, 2002

or

For the transition period from                                      to                                     

Commission file number: 000-25755

WorldGate Communications, Inc.
(Exact name of registrant as specified in its charter)

(215) 354-5100
(Registrant's 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, $0.01 Par Value
(Title of Class)

        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 registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. Yes [o]        No [ý]

        Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2) Yes [o]        No [ý]

        The aggregate market value of the common stock held by non-affiliates of the registrant was approximately $32.5 million as of June 30, 2002, based on the closing sale price per share of common stock, as quoted on the NASDAQ Small Cap Market.

        The number of shares of the registrant's common stock outstanding as of March 17, 2003 was 23,578,694.

DOCUMENTS INCORPORATED BY REFERENCE

        [None]

WORLDGATE COMMUNICATIONS, INC.

ANNUAL REPORT ON FORM 10-K
For the Fiscal Year Ended December 31, 2002

TABLE OF CONTENTS

WORLDGATE COMMUNICATIONS, INC.

        This report contains forward-looking statements that involve risks and uncertainties. These forward-looking statements are based on management's current expectations and are subject to a number of uncertainties and risks that could cause actual results to differ significantly from those anticipated in these forward-looking statements. Factors that may cause such a difference include, but are not limited to, those set forth in the "Management's Discussion and Analysis of Financial Condition and Results of Operations" as well as those discussed elsewhere in this report.

PART I

Item 1: Business

        WorldGate Communications, Inc., or WorldGate or the Company, was incorporated in Delaware in 1996 to succeed to the business of our predecessor, WorldGate Communications, L.L.C., which commenced operations in March 1995. In April 1999, we completed our initial public offering of 5,750,000 shares of our common stock. Since January 9, 2003 our common stock has been listed on the NASDAQ Small Cap Market. Previously our common stock was traded on the NASDAQ National Market. Our common stock is traded under the symbol "WGAT". Our executive offices are located at 3190 Tremont Avenue, Suite 100, Trevose, Pennsylvania 19053.

Overview

        We are a leader in providing interactive television entertainment applications, products and services to the cable television industry. Interactive television, or ITV, is a sector of the cable television industry that focuses on deploying services and applications to allow television viewers to interact with programs, advertisements and other content on their television sets. We offer our cable operator customers a wide array of ITV applications and related services and products, including the following:

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WorldGate ITV Service—A host of enhanced television applications including broadcast services, news, sports, stock quotes, shopping, e-mail, chat and Internet access. In addition, the service can be packaged with games, promotions, and customer applications such as electronic bill presentment and payment. The WorldGate^SM ITV Service operates on existing cable set-top boxes, and on more advanced, next-generation set-top boxes. It works as an application on the Company's CableWare^SM middleware, and on PowerTV (as offered by Scientific Atlanta, Inc.) middleware, and is integrated with the TVGateway and TV Guide Interactive Program Guides.



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Channel HyperLinking^SM—An ITV application that allows cable subscribers to link instantly between television programming/advertising and related interactive content or Internet websites to link instantly from television programming and advertising to related internet or other content. This powerful feature supplements the WorldGate ITV Service and the TVGateway Service and has a variety of revenue producing uses for cable operators, broadcasters and advertisers and provides a valuable tool for viewers, who can flip back and forth almost instantly between watching television and enjoying the benefits of interactive TV.



•

Support services—WorldGate assists in the installation, launch and maintenance of an interactive cable system. In addition, the Company provides content packaging, monitoring and reporting to help the cable operator manage a profitable and reliable interactive service.



•

CableWare^SM—A middleware product that allows multiple ITV applications to run simultaneously on a digital cable set-top box ("STB"). CableWare is based upon our patented "Ultra-Thin Client^SM" technology, which uses existing cable television architecture to deploy a centralized interactive system. "Ultra-Thin Client" enables us to install, maintain and upgrade our hardware at the cable operator's plant, also called a headend. Because most of our technology is located at the headend, cable subscribers need only use the currently deployed

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generation of low cost set-top boxes with limited memory and processing resources to offer ITV applications. This significantly reduces the cost of deploying ITV applications. In addition, our Ultra-Thin Client architecture permits upgrades to be made either at the headend or through software downloads to the set-top boxes. This minimizes the need to repair or upgrade these set-top boxes at a subscriber's house.

        We believe that we are uniquely positioned in that we can offer cable operators a wide variety of ITV solutions tailored to their needs. Our business strategy, as more fully described below, is designed to take advantage of our unique position. ITV has several components. First, cable operators must create the infrastructure to deploy ITV applications. We design, assemble, install and maintain the equipment and computer software, or systems, necessary to provide these ITV applications. Second, cable operators must have the flexibility to concurrently provide multiple ITV applications, including applications such as interactive program guides, or IPGs, Internet over television services, video on demand, or VOD, and enhanced television, or eTV, products. We provide a platform, called middleware, which works in combination with the set-top boxes currently used by cable operators for television programming to provide these ITV applications. Our middleware is designed as an "open standards" platform, which means it will work with a wide variety of applications, including many of the third party applications that are in existence today. Our middleware has already been integrated with the leading IPG and VOD applications. Third, in addition to our systems and middleware products, we license a variety of our own ITV applications to our cable operator customers. Finally, our cable operator customers must ensure that the various systems, middleware and applications that they are using are compatible and have the required interoperability such that they do not adversely impact each other. We provide development, testing, certification, training and other support services to help our customers to deploy and maintain their various systems, middleware and applications. This comprehensive approach to providing ITV solutions to our customers distinguishes us from many of our competitors, particularly those that merely license technology without providing the full array of support services that we provide.

        In addition to any sales revenue and service and licensing fees we receive for the use of our technologies, once our cable operator customers have the necessary systems, middleware and applications installed and deployed, we may receive revenue from advertising and television commerce, or t-commerce. For example, our interactive television service, the WorldGate^SM ITV Service, contains advertisements for which we receive revenues. Our products and services also provide cable subscribers with opportunities to execute transactions via their television sets, for which we also receive revenues. We partner with, and share these revenues with, our content providers and cable operator customers, which ensures that our subscribers have a wide variety of viewer-friendly content when using our service. In addition, we may provide aggregation and packaging services to our cable operator customers for the interactive information and other content that may be offered through their ITV applications. This content may include news, sports, weather, business and entertainment data feeds as well as other types of content. Finally, we provide a full range of aggregating and reporting functions to help our cable operator customers and content providers manage their interactive offerings.

Deployments

        As of December 31, 2002, our products and services were deployed to approximately 576,000 revenue generating units, or RGUs. RGUs represent unique revenue generating opportunities for us, possibly from the same subscriber. For example a subscriber who utilizes both our WorldGate ITV Service and the TVGateway Service would represent two RGUs, reflecting the two revenue streams that WorldGate receives from the cable operator for that subscriber.

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Material Developments for WorldGate in 2002

        The following is a summary of material developments for us that have occurred since December 31, 2001:

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Introduction of New Products. In 2002, WorldGate integrated its thin-client ITV service with TV Guide's Interactive Program Guide ("IPG"), creating an important integration of the leading IPG with WorldGate's market leading real-time, two-way interactive service. All of WorldGate's interactive applications can be enabled for distribution wherever TV Guide's IPG is deployed, creating a significantly larger target market for WorldGate. WorldGate also introduced our GO!TV line of broadcast application and content including:

        Go!TV Info—provides news, sports, weather, horoscopes, soap opera synopses, and other entertainment information in a TV-formatted and user friendly presentation. This walled-garden content is update each ¹/2 hour every day through WorldGate's automated network operations center.

        Go!TV Links—provides viewers with program or series descriptions, episode synopses, cast lists and bios, current air-time and end-time, viewership ratings, broadcast schedules, and photos, as well as access to program and network-related Web links and TV trivia questions.

        Go!TV Games—features a suite of interactive games including card, casino, kids, strategy and trivia games, and gives the cable subscriber the opportunity to compete against other subscribers in their home town, or from locations around the world. A real-time leaderboard enables consumers to see their ranking with other family members or against others from around the world.

        Go!TV Promotional Portal—enables the cable operator to provide a 24/7 promotion of all of the cable services offered in that market. The Go!TV Promotional Portal sends a broadcast stream of promotional videos to the channel of the operator's choosing. Consumers' set-top boxes are force-tuned to this channel when they power-on the set-top box. In addition to cable service promotions, the consumer can navigate an interactive on-screen menu of services, including any of WorldGate's interactive services, such as Go!TV Games and Go!TV Chat.

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Issuance of New Patents. In 2002, the U.S. Patent and Trademark Office issued two additional patents to WorldGate.



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Additional Deployments. Additional agreements to deploy were finalized in 2002, including those with Liberty Cablevision of Puerto Rico, Sigecom and multiple locations in Latin America. In addition we announced expansions of our deployments with Comcast, Massillon Cable TV and Astound Broadband.



•

TVGateway Transition. During 2002 we commenced the transition to TVGateway of various services we were providing to TVGateway under a management agreement with TVGateway. As a result both the cost of providing these services as well as the associated revenues for the services have been reduced. The agreed transition was substantially completed during the first quarter of 2003. See Note 13 of Notes to the Consolidated Financial Statements.

Continued Decline in Liquidity and Need for Financing.

        The Company has continued to fund operating losses from its available cash. Based on our current operating budget and cash flow projection for 2003, we believe that we will only have enough cash to continue operating into the summer of 2003 unless additional financing is obtained prior to such time.

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Support Services

        In addition to the various products we offer our customers, the following is a description of the full suite of services and support we also provide as an important complement to our products:

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Customer Support Representatives (CSRs). Our technical support team has in-depth experience with all of our products and a high degree of expertise with the set-top boxes manufactured by Motorola and Scientific Atlanta, the most utilized boxes in the industry. They can answer technical questions for our deployed systems, including questions involving network interfaces, system hardware and software operation. Our CSRs use state-of-the-art technology as well as leading customer service management tools to track customer questions and problems. Reported issues generate a ticket number, which is tracked and escalated according to the situation's severity and priority.



•

Network Operations Center (NOC). Our Network Operations Center, or NOC, monitors and troubleshoots our ITV products at the cable systems where our products are deployed. Our NOC contains network monitoring and system management applications that proactively monitor all installed and deployed systems. The NOC staff of network, systems, and software engineers supports our cable operator customers in troubleshooting issues escalated through the CSR center, upgrading software remotely, and performing routine maintenance to ensure optimal system performance. We collect this data using several different processes, all of which are based on industry standards, with procedures in place to ensure the privacy of cable subscribers utilizing our service. Our servers incorporate the latest redundancy techniques, including dual power supplies and hot swappable subsystems (that is, live subsystems that can immediately replace problem subsystems if required). We have tools that monitor our internal servers, our vendor feeds, our local servers at the cable head-end, and our backup systems. With our NOC capabilities, most issues can be identified and resolved before service is interrupted. When the NOC monitoring system detects a problem, it automatically activates alarms, e-mails, and personal pagers as appropriate.



•

Field Operations and Deployment. Our staff of experienced project managers, field engineers, and technicians allows us to launch our products and support our customers on an ongoing basis. Our project managers develop the framework for all project communications, contractual obligations and deliverables. They identify critical needs, define responsibilities, establish controls, and manage schedules. Project managers also keep customers informed with reports including Project Planning, Status, Change Management, and Problem Resolution. The maintenance and installation engineers are responsible for installing systems. Before installation, our engineers ensure that the site meets our equipment requirements. The engineers document complex channel mapping issues, environmental and radio frequency connectivity requirements and they present their report to our cable operator customers and our personnel. The system configuration is fully recorded, maintained, and verified prior to delivery and installation. The project manager can then coordinate the installation and test procedures to ensure the system works as designed.



•

Content Customization. We offer a suite of professional services to assist customers in building a user interface design, aggregating content, or other ITV applications. Customers may move beyond our core product by designing a custom interface and content. Working with a WorldGate Account Development Representative, partners can customize their user experience by hand picking the design and content to be included on each site. We will work with specified content partners or will independently provide those resources.



•

Training. Our training department offers a variety of training classes developed for cable operator personnel ranging from CSRs to headend technicians. The design of the training can be geared from basic to advanced levels. The training department provides flexible options for a

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variety of standard and customized courses on the WorldGate Interactive Service. Our trainers develop and maintain training modules for customer support representatives, headend technicians, field installers, content developers, and Pay-Per-View schedulers.

WorldGate Business Model

        We derive revenues from cable operators, e-commerce merchants and advertisers and from management and service fees. We expect to enhance these revenue opportunities by implementing the strategies described below.

        Revenue Derived from Cable Operators.    In most instances, we sell our headend server equipment and wireless keyboards to cable operators and license the software for our various ITV products, including CableWare and the WorldGate ITV Service, to cable operators for a monthly subscriber fee. We believe that cable operators either offer our services to their subscribers as a premium service, requiring subscribers to pay a separate monthly fee for the service, or as a part of a package of services in which the subscriber pays a monthly fee for the entire package. Generally, we receive monthly fees from the cable operators based on the total number of subscribers to our services.

        Revenue Derived from E-commerce Merchants.    We have negotiated agreements with companies in the business of selling products and services online and via ITV through which these companies pay for the opportunity to promote their business through portals by sharing a portion of the revenues they are paid or by paying a fixed fee per transaction. Although such revenues are currently not significant we intend to make access to online shopping opportunities both simple and convenient for our subscribers so that we can participate in the rapid growth forecasted for e-commerce on television. No meaningful revenue has been derived from e-commerce since our inception.

        Revenue Derived from Advertisers.    We have space on our various menu pages that is available for banner advertising and other promotions. When subscribers click on these banners, they can be linked quickly to another Web page that gives more detailed information about the subject of the banner ad. Advertisers typically pay fees based on the number of times that their ad is displayed on a page viewed by a subscriber, so as the number of WorldGate subscribers grows, we expect our advertising revenues to grow. We believe we provide advertisers with a particularly attractive opportunity since information derived from the cooperating cable system will permit us to know the general geographic area in which each of our subscribers lives, and in many cases the zip codes and perhaps more extensive demographic information regarding our subscribers if they consent to share that information with us. In order to protect the confidentiality of this information we have designed our system to maintain encrypted subscriber information on separate computers that are independent of the servers for the WorldGate ITV Service. We expect to share the revenues derived from Internet advertising with cable operators. No meaningful revenue has been derived from advertising since our inception.

        Our Channel HyperLinking technology will provide one button linking from television and advertising content to a related interactive Internet web site. This sort of advertising is "self targeted" because subscribers themselves decide whether they want to get more information. This is in sharp contrast to traditional television advertising that typically includes sending messages to large numbers of viewers on an unsolicited basis. In addition to the value achieved by self-targeting, the value of our Channel HyperLinking technology is enhanced by both the availability of demographic information and interactivity. By delivering an interactive experience, we are able to give the subscribers the opportunity to follow a variety of paths to gain extensive information about the subject of interest. The interactivity also allows the subscribers in many cases to purchase a product or service online. With the average cable household being exposed to tens of thousands of television advertisements annually, we believe that there are many opportunities for use of our Channel HyperLinking technology.

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        Our Channel HyperLinking technology business model is based on a revenue split with our cable operator customers and the television networks. We expect revenues to come from advertisers seeking to engage the WorldGate ITV Service subscribers in some form of interactivity while using our Channel HyperLinking technology. This business model assumes that interactions will be on a pay-for-performance basis such that advertisers and others will pay us based on the number of "clicks" that occur. No meaningful revenue was derived from this service since our inception.

        Revenue Derived from TVGateway Joint Venture.    We are the provider of headend equipment for the TVGateway joint venture and receive licensing fee revenue for providing certain technology to the venture on behalf of its partners. During 2002 we also provided development, support, sales and management services to the venture pursuant to a Management Agreement between TVGateway and us (the "Management Agreement"). In 2002, approximately 83% of our revenues was attributable to fees from TVGateway for services provided under the Management Agreement. The Management Agreement provides for our company and TVGateway to cooperate to transition to TVGateway some or all of the support services being provided by us and/or the employees providing these services. The Management Agreement also requires that we remain available to provide support services until July 24, 2005. During 2002, our company and TVGateway negotiated an agreement to transition the services to TVGateway. During the first quarter 2003 the agreed transition was substantially completed. Accordingly, future revenue from the TVGateway joint venture is expected to be largely comprised of licensing fees and equipment sales revenue as opposed to consulting revenue.

Business Strategy

        We offer technology in the form of hardware sales and software licensing; provide services and support for our business partners; and earn revenue from interactive advertising and commerce via our technology and services via the television. The principal elements of our business strategy include the following:

        Provide Compelling Value for End-Users.    Unlike other companies who can offer just one of the many pieces that make up interactive television, we enable our subscribers to access an array of ITV applications. Our products and services were designed to operate on the widely available existing cable television systems, as well as future set-top technologies, and were developed to provide consumers with an easy to use, cost-effective product. For example, to access the WorldGate ITV Service, a consumer needs only their existing television, a WorldGate enabled digital or advanced analog cable set-top box and a wireless remote or keyboard, with all but the television typically supplied by the cable operator. In addition, WorldGate's Channel HyperLinking and CableWare technology have been designed to offer consumers easy, fast and interactive access to content that is associated with a television program or advertisement they are viewing.

        Provide Compelling Value for Cable Operators.    We believe that cable operators assess the viability of an investment in a new service by considering the cost of initial investment in equipment, service reliability, overall operating and maintenance expenses and the incremental revenue that can be generated by such service. The WorldGate ITV Service can be offered to cable subscribers through the cable operators' existing two-way infrastructure, or its one-way infrastructure with certain of our products. Furthermore, the WorldGate ITV Service has been designed to be deployed with low capital costs for headend equipment, at less than $5 per WorldGate subscriber. These systems are also designed to be efficiently upgraded as the cable operator's infrastructure is improved through the deployment of new generation cable boxes or the deployment of cable modem ready plant, i.e. a cable plant that has been upgraded to improve the original transmission quality to permit the use of cable modems, and easily expanded as the number of subscribers grows. There is, however, no need for any costly upgrades to make the plant cable modem ready as a requirement for the WorldGate ITV Service. Accordingly, the WorldGate ITV Service can provide cable operators with the low investment

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opportunity for immediate incremental revenue streams from subscriber fees and sharing of advertising and online transaction fees.

        Provide Compelling Value for Programmers, Advertisers, Advertising Agencies and E-Commerce Merchants.    Through WorldGate's Channel HyperLinking and CableWare technology, programmers and advertisers may enhance their television content with related Web-based materials by providing their viewers with the ability to interact on a real-time basis with their television programming or advertising. As observed in our deployments, we are facilitating a market of active subscribers for interactive advertising. Giving consumers the ability to link immediately to an advertiser's Internet site to find more information about the product or to place an order is a valuable user feature and an effective way for advertisers to reach their customers using a new method. We believe this ability increases the value of the program or advertising to the television networks or advertisers, and that as a result, programmers and advertisers will be able to increase their revenues, brand extension and loyalty.

Competition

        The ITV industry is highly competitive in the general categories of applications and middleware. We are likely to encounter significant competition with respect to each of these areas.

Applications

        ITV applications include email, chat, online games, web browsing, electronic program guides, or EPGs, and broadcast data and information services. Various companies are attempting to provide these ITV applications to cable television consumers through a set-top box appliance connected to a television. In some instances this appliance may be a dedicated unit or a cable converter box. The use of a dedicated unit adds incremental costs that are not present when the service is offered directly over a cable box. Generally, these solutions are cable-based and do not use the telephone infrastructure, thus mitigating bandwidth constraints. Several companies have developed and/or are testing these applications. We believe that our major competitors in the ITV applications category are Gemstar International Group Ltd., Microsoft, Liberate Technologies and OpenTV Corporation. Each of these companies has developed and is marketing one or more of the ITV applications we have developed and are marketing.

Middleware

        Several companies are attempting to leverage the use of their platforms to obtain greater distribution for their ITV applications. For example, our competitors, Gemstar, Liberate, Microsoft and OpenTV are developing and have developed middleware products that compete with our CableWare middleware. We believe that middleware vendors are pursuing a business strategy based on the premise that once a cable operator adopts their middleware platform, that cable operator would be more likely to use their ITV applications as well. Therefore, if our competition is more successful than we are in marketing and deploying middleware on a large scale, and their business strategy is validated, we may find it more difficult to deploy our applications on a large scale. In addition, a cable set-top box manufacturer, Scientific-Atlanta, Inc., has developed a middleware product, PowerTV, that competes with our CableWare middleware. Scientific-Atlanta could use its position as a set-top box developer to exclude other middleware developers from deploying on its set-top boxes, limiting our ability to successfully deploy our middleware product to cable operators deploying Scientific-Atlanta boxes.

Other

        We will also experience competition from providers of other TV applications. Two examples are the providers of video-on-demand, or VOD, and personal video recording, or PVR. VOD allows television viewers to order movies or television programs when they want them and PVR lets viewers

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pause, rewind, and replay broadcasts of television programming, as well as record programs. While these personalized television services do not compete directly with the WorldGate products, they may compete for "space" within the cable set-top box. WorldGate has attempted to mitigate this form of competition by integrating its software with the software provided by the leading providers of VOD technology, including Concurrent Computer Corporation, nCube, and SeaChange.

Technology

        Our technology can be classified under three major product lines:

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CableWare^SM Middleware



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Ultra-Thin Client^SM platform



•

Channel HyperLinking^SM

CableWare^SM Middleware

        Middleware is an important part of the overall thin-client ITV offering to cable operators. Middleware consists of a software layer that allows easier integration of new applications and content services. Ideal middleware would enable application developers to write highly sophisticated applications for the set-top box that seamlessly communicate and interact with other applications. This middleware can also include a presentation engine that would allow content developers to easily offer simple applications, such as stock tickers, without having the cost and schedule burden of engaging a professional computer programmers. All of this needs to be implemented in a manner efficient enough to run on today's thin-client set-top boxes, but also needs to include the sophisticated facilities necessary to get the most from advanced set-tops. Our Cableware middleware is designed to meet these goals. Cableware includes a sophisticated software interface layer that enables coexistence and communication of multiple set-top applications. With Cableware, developers can create content and applications that execute either at the headend or at the set-top box.

Ultra-Thin Client^SM Platform

        WorldGate's patented Ultra-Thin Client platform allows substantially all client-related processing to be performed at the cable headend. This platform is comprised of three primary components:

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Servers are located at the cable headend;



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A WorldGate enabled digital or advanced analog cable box; and



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A remote control and/or optional wireless infrared keyboard

        There are typically two servers located at the cable headend. One server manages all information traveling to and from this server to the Internet. This server also manages individual Internet sessions, processes data for presentation on the television screen, and manages the Web browsing client. The second server manages real-time communications from the cable headend to a subscriber's cable box. This server acts as a bi-directional router for data on a cable network. These servers:

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Are based on a multi-processor architecture



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Can be accessed remotely by WorldGate for performance monitoring and software upgrades



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Are configured such that typical full screen refresh times are less than one second.

        General Web surfing is provided on this platform by our browser technology using high performance server headend systems. The WorldGate ITV Service browser currently supports HTML Version 3.2, HTTP Version 1.0 and 1.1, HTML Frames, Image formats such as GIF Animations, JPEG, and XBM formats. We believe we are the only company that supports a full Java implementation

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offering on a set-top platform. Java is used for such applications as chat and instant messaging. The WorldGate platform supports JavaScript that is compatible with the Netscape browser.

Channel HyperLinking^SM

        Our patented Channel HyperLinking technology interactively links a television viewer with enhanced information or other content related to the advertisement and/or program being viewed. When a cable television subscriber makes a Channel HyperLinking request, the subscriber's cable box sends a signal to the cable headend indicating the channel and program information of the program the subscriber is viewing. This information is then matched with the corresponding Web address for the program, which has been stored at a cable headend database. The subscriber is then linked to the corresponding Web site for full Internet interactivity. This entire process occurs within seconds.

Intellectual Property

        WorldGate regards its technology as proprietary, and relies on a combination of patents, copyrights, trademarks, trade secret laws, contractual restrictions, restrictions on disclosure and other methods to establish and protect our technology and proprietary rights and information. WorldGate has filed patent applications in the United States and internationally covering aspects of its real-time, two-way interactive systems, including its Ultra-Thin Client architecture, centralized data processing, communications schemes, Channel HyperLinking technology and other aspects of its interactive television products.

        We have devoted significant attention to our research and development efforts that have already been recognized by the issuance of six patents in the United States containing over 170 claims collectively. In addition, we currently have over 50 applications pending worldwide containing over 1,700 claims collectively. Our intellectual property covers numerous facets of interactive television, enhanced television and interactive advertising applications, including systems and techniques for the transmission, retrieval, display and means of navigating through interactive information. In particular, we have received significant intellectual property coverage for our pioneering work in developing ultra-thin client solutions for the cable industry. Given the breadth and pioneering nature of our efforts, we continue to enhance our position as the worldwide leader in the interactive television marketplace. In addition, we have built upon these achievements and our industry leading ability to manage transmission bandwidth and client resources in the home to develop efficient and effective, standards based middleware solutions that are capable of operating within the low resource current generation set-tops while being migratable to the more powerful set-tops being introduced.

Backlog

        The Company typically delivers ordered equipment to customers within a few days of receiving such orders. We do not generally maintain a material amount of orders in backlog.

Research and Development

        To date, engineering and product development has been a significant focus of WorldGate. Development of the WorldGate ITV Service has required combining technical experience and knowledge from two historically separate industries, the Internet and cable. The principal elements of WorldGate's engineering and development activities during 2002 were enhancing our existing Ultra-Thin Client^SM technology and developing our Go!TV line of applications. Our engineering and development expenditures, excluding engineering and development expenses rendered in connection with our TVGateway management agreement, were approximately $21,734,000, $12,894,000 and $7,705,000 for the years ended December 31, 2000, 2001 and 2002, respectively.

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Financial Information Relating to Foreign and Domestic Operations and Export Sales

*

These represent export sales. Contracts and orders are denominated in U.S. dollars. Foreign sales are subject to various risks and uncertainties which are described in Risk Factors—Factors Affecting Our Business Condition—Our International Operations Are Subject to Many Uncertainties.

Employees

        As of December 31, 2002, on a consolidated basis, we had approximately 93 full-time employees. All of our employees are located in Trevose, Pennsylvania, except for a salesperson located in New York. None of our employees are represented by a labor union, and we have no collective bargaining agreement. We consider our employee relations to be good.

Item 2. Properties.

        Our corporate headquarters is located in Trevose, Pennsylvania in a leased facility consisting of approximately 72,000 square feet. The lease for this space will expire in June 2009, with an option to extend for an additional 10 years. We are currently subleasing approximately 19,000 square feet of this space to TVGateway, LLC. This sublease expires May 31, 2003, but will be automatically renewed for additional one month periods unless either TVGateway or WorldGate provides notice to the contrary.

Item 3. Legal Proceedings.

        None.

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

        WorldGate held its Annual Meeting of Shareholders on October 5, 2002. At this meeting, the shareholders voted in favor of the following items listed in the Proxy Statement dated October 30, 2002:

(1)

Election of Directors:

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(2)

Ratification of the selection of PricewaterhouseCoopers LLP as our Independent Auditors for the year ending December 31, 2002:

PART II

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

        Our common stock, $0.01 par value, commenced trading on the NASDAQ National Market under the symbol "WGAT" since our initial public offering in April 15, 1999. The Company applied for and received permission, effective January 9, 2003 to transfer the listing of its common stock to the NASDAQ Small Cap Market. The following table shows the high and low closing sales price as reported by the NASDAQ National Market and the NASDAQ Small Cap Market, as is applicable, for each quarter of 2001 and 2002.

        On March 17, 2003, the last reported sale price of our common stock as reported on the NASDAQ Small Cap Market was $0.299 per share.

        As of March 17, 2003, we had 343 holders of record of our common stock.

Dividends

        We have never paid or declared any cash dividends on our common stock. We do not anticipate paying any cash dividends in the foreseeable future. We currently expect to retain future earnings, if any, to finance the growth and development of our business.

Sale of Unregistered Securities

(1)

On August 15, 2000, we completed a private placement of an aggregate of 1,531,211 shares of our common stock (the "MSO Shares") to four cable operators who are accredited investors (each a "MSO"). The shares were sold for $16.02 per share, resulting in proceeds from the offering of $24.5 million. The MSOs were also issued warrants (the "MSO Warrants") to purchase in the aggregate up to 1,500,000 additional shares of common stock at a per share exercise price of $24.78 and up to 500,000 additional shares of common stock at a per share exercise price of $12.39. The MSO Warrants are subject to vesting at varying rates based on the deployment of the Company's Internet TV service on the MSOs' digital cable system.

The MSO Shares and the MSO Warrants were issued in reliance upon the exemption from the registration requirements of the Securities Act of 1933 afforded to transactions not involving a public offering by Section 4(2) of that Act and Rule 506 thereunder. The MSO Shares issued in

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the offering have been registered for resale by the MSOs. In addition, the MSO Warrants grant to the MSOs certain "piggyback" and "demand" registration rights. Generally, a "piggyback" registration right allows holders to include their shares of common stock in registration statements we or other stockholders initiate and a "demand" registration right allows holders to require us to file a registration statement to register their shares of common stock.

(2)

In November 2000, we entered into a deployment agreement with AT&T Broadband to deploy our interactive services to AT&T digital customers in Cedar Falls and Waterloo, Iowa and Tacoma, Washington. As part of this agreement, we issued warrants to AT&T to purchase up to 1,000,000 shares of our common stock at a per share exercise price of $16.02. The warrants are subject to vesting at varying rates based on the deployment of our Internet TV service on AT&T's digital cable systems.

The AT&T warrants were issued in reliance upon the exemption from the registration requirements of the Securities Act of 1933 afforded to transactions not involving a public offering by Section 4(2) of that Act and Rule 506 thereunder. The warrants grant to AT&T certain demand registration rights.

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Item 6. Selected Financial Data.

        The following selected financial information for each of the years ended December 31, 1998 through 2002 are derived from our audited financial statements. You should read the following information in conjunction with our financial statements and notes thereto and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere in this report.

(1)

For purposes of computing the net loss per common share before extraordinary item, loss before extraordinary item has been reduced by the accretion on preferred stock.

(2)

"As adjusted net loss available to common stockholders" and "As adjusted basic and diluted net loss per common share" amounts reflect the exclusion of amortization of goodwill of approximately $241 and $361 for the years ended December 31, 2000 and 2001, respectively. These amounts are presented to comply with SFAS 142 as if this standard had been adopted at the beginning of the respective periods. There was no amortization of goodwill or intangible assets during each of the years ended December 31, 1998 and 1999.

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

(Dollar amounts contained in this Item 7 are in thousands, except for per share amounts)

FORWARD-LOOKING AND CAUTIONARY STATEMENTS

        We may from time to time make written or oral forward-looking statements, including those contained in the following Management's Discussion and Analysis of Financial Condition and Results of Operations. The words "estimate," "project," "believe," "intend," "expect," and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. In order to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995, we are hereby identifying certain important factors that could cause our actual results, performance or achievement to differ materially from those that may be contained in or implied by any forward-looking statement made by or on behalf of WorldGate. The factors, individually or in the aggregate, that could cause such forward-looking statements not to be realized include, without limitation, the following: (1) difficulty in developing and implementing marketing and business plans, (2) continued losses, (3) difficulty or inability to raise additional financing on terms acceptable to us, (4) loss of any one of our other largest customers (5) industry competition factors and other uncertainty that a market for our interactive TV products will develop, (6) challenges associated with cable operators (including, uncertainty that they will offer our interactive TV products, inability to predict the manner in which they will market and price our interactive TV products and existence of potential conflicts of interests and contractual limitations impeding their ability to offer our interactive TV products), (7) challenges with advertisers and television programmers (including uncertainties that they will support our Channel HyperLinking^SM technology), (8) departure of one or more key persons and (9) delisting of our common stock from the NASDAQ Small Cap Market, (10) changes in regulatory requirements and (11) other risks identified in our filings with the Securities and Exchange Commission. We caution you that the foregoing list of important factors is not intended to be, and is not, exhaustive. We do not undertake to update any forward-looking statement that may be made from time to time by or on behalf of WorldGate.

Results of Operations:

Critical Accounting Policies and Estimates

        Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States. These generally accepted accounting principles require management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of net sales and expenses during the reporting period. Actual results could differ from those estimates.

        Our significant accounting policies are described in note 2 to our consolidated financial statements included elsewhere in this report. We believe that the following discussion addresses our critical accounting policies, which are those that are most important to the portrayal of our financial condition and results and require management's most difficult, subjective and complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.

        Revenue Recognition.    Revenue is recognized when persuasive evidence of an arrangement exists, the price is fixed or determinable, the collectibility is reasonably assured, and either the delivery and the acceptance of the equipment has occurred or services have been rendered. In the event terms of the sale provide for a lapsing customer acceptance period, we recognize revenue based upon the expiration of the lapsing acceptance period or customer acceptance, whichever occurs first. There are inherent difficulties in predicting the timing and magnitude of equipment sales. As such, the potential for fluctuations in quarterly revenues and operating results exists. Revenue related to services is

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generally recognized upon performance of the services requested by a customer order. Revenue from license agreements is recognized in accordance with the contract terms, generally based on the number of monthly subscribers. Included in our financial statements is a provision for the estimated amount of future returns that we believe is appropriate based on historical experience and current trends. While such returns have historically been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same return rates that we have in the past.

        Accounts Receivable.    We generate accounts receivable primarily from sales of equipment to and services performed for our cable operator customers and from services performed for managing the TVGateway joint venture. This equipment is primarily headend equipment for use in deploying the Company's interactive television services. The services represent fees from the cable operator based on the number of subscribers using our services and fees for managing the TVGateway joint venture. We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. If economic or political conditions were to change in the countries where we do business, it could have an impact on the results of our operations, and our ability to realize the full value of our accounts receivable.

        Inventories.    We value our inventories, which consist primarily of raw materials, work in process and finished goods equipment to be sold to our customers for use in deploying interactive television services, at the lower of cost or market. The cost is determined on an average cost basis. A periodic review of inventory quantities on hand is performed in order to determine and record a provision for excess and obsolete inventories. Factors related to current inventories such as technological obsolescence and market conditions are analyzed to determine estimated net realizable values. A provision is recorded to reduce the cost of inventories to the estimated net realizable values. Any significant unanticipated changes in the factors noted above could have an impact on the value of our inventories and our reported operating results.

        Long-Lived Assets.    Our long-lived assets consist of property and equipment. These long-lived assets are recorded at cost and are depreciated or amortized using the straight-line method over their estimated useful lives. The carrying value of a long-lived asset is considered impaired when the anticipated undiscounted cash flows from such assets are separately identifiable and are less than the carrying value. In that event, a loss is recognized based on the amount by which the carrying value exceeds the fair market value of the long-lived asset. Fair market value is determined by using the anticipated cash flows discounted at a rate commensurate with the risk involved. Measurement of the impairment, if any, will be based upon the difference between carrying value and the fair value of the asset. If useful life estimates or anticipated cash flows change in the future, we may be required to record an impairment charge.

        Accounting for Income Taxes.    As part of the process of preparing our consolidated financial statements we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves us estimating our actual current tax exposure together with assessing temporary differences resulting from differing treatment of items, such as depreciation of property and equipment and valuation of inventories, for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheet. 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 not more likely than not, we must establish valuation allowances. To the extent we establish valuation allowances or increase the allowances in a period, we must include an expense within the tax provision in the statement of operations.

        We have a full valuation allowance against the net deferred tax asset of $69,494 as of December 31, 2002, due to the Company's lack of earnings history and the uncertainty as to the

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reliability of the asset. In the future, if sufficient evidence of our ability to generate sufficient future taxable income becomes apparent, we would be required to reduce our valuation allowance, resulting in a benefit from income tax in the consolidated statement of operations.

        Accounting for Contractual Obligation related to Equity Financing.    In July 2000, four cable operators purchased shares in the Company. As part of the financing arrangement, the Company agreed to provide the four cable operators with a credit to be used to purchase products that pertain to the development and deployment of the WorldGate service equal to 25% of the amount they invested. The Company recorded a liability to satisfy this obligation based on the Company's best estimate of what it would cost to satisfy the credit. The Company's policy has been not to adjust the liability after it had been established. When equipment credits are utilized by the cable operators, the value of the equipment is reflected in its entirety in the cost of revenues and a portion of the recorded contractual obligation is adjusted against additional paid in capital. The equipment credit expires on August 24, 2003. Any credit amounts that are not utilized by the cable operators will be reclassified from the recorded liability to additional paid in capital.

2002 versus 2001

Revenues.

        Revenues decreased from $16,847 for the year ended December 31, 2001 to $13,878 for the year ended December 31, 2002. WorldGate derives revenue by providing technology and services to its customers for their delivery of interactive television, or ITV products. Our technology consists of the hardware, software and know-how for delivering over traditional television distribution platforms, such as those provided by cable television operators, the data, information and applications that comprise these ITV products, as well as the data, information and applications to be delivered through the use of our hardware and software. The Company has three primary revenue components (i) the purchase price received from the cable operator for the required hardware to deliver the data, information and applications, (ii) service fees from the cable operator for the (a) end-users' access to the delivered data, information and applications, and (b) for the services provided by the Company to support the cable operator with configuring, installing and maintaining the required equipment and configuring and delivering the data, information and applications, and (iii) advertising and transaction revenue received from advertisers and e-commerce merchants for advertising and transaction opportunities placed in the data, information and applications delivered to the end-user.

        At December 31, 2001 we had deployed our technology in 61 cable systems with approximately 472,000 Revenue Generating Units. As of December 31, 2002 we had deployed our technology in 66 cable systems, representing approximately 576,000 Revenue Generating Units. During recent quarters our sales of equipment has been reduced as the result of a delay in the introduction of interactive television products as well as a reduced capital expenditure posture within the cable television industry, and is currently running at a rate considerably lower than we anticipated. The service fees and advertising and transaction revenue components, which are largely dependent upon the delivery of the data, information and applications made possible through the use of the installed equipment, would be expected to grow as the equipment is installed and more end-users are added. These components of our revenues have increased in both magnitude and significance, however, the significance of the service component of our revenues has been made even more apparent by the reduction in significance of the equipment revenue component as described above. Furthermore, the service component of our revenues has grown faster than we expected as a result of the services provided to TVGateway LLC as discussed below. The services component of our revenues will be reduced by the value of the transitioned services. Although there can be no certainty as to if and when a resumption in capital spending might take place or whether such resumption will result in increased deployment of ITV products, we do expect the resumption of a more traditional balance in the significance of the hardware and service components of our revenues.

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        As of December 31, 2002, substantially all revenues of the Company are attributable to service fees for providing engineering, operations and administrative consulting support to TVGateway, LLC, an unconsolidated entity, and to the commercial deployments of WorldGate's interactive television products and services and cable subscribers subscribing to these services. A substantial portion of the revenue decrease for the twelve months ended December 31, 2002, as compared to the twelve months ended December 31, 2001, is attributable to reduced equipment sales during a period when we believe the industry was focused on consolidation and other non-ITV issues. For the twelve months ended December 31, 2002, we derived revenues of $12,930, or 93% of total revenues from service fee revenues consisting of consulting fees, subscriber fees and advertising fees. For the twelve months ended December 31, 2002, we derived revenues of $948, or 7% of total revenues from the delivery of headends, keyboards, and related equipment products. Included in the twelve months ended December 31, 2002 equipment product revenues are sales of excess inventory in the amount of $561. For the twelve months ended December 31, 2001, we derived revenues of $11,340, or 67% of total revenues, from service fee revenues and $5,507 or 33% of total revenues from the delivery of headends, keyboards, and related equipment products.

        The business conducted by the Company outside the United States includes Spain, Canada, Latin America and Mexico. The majority of this international business is in Mexico and as a result we do not believe the potential financial instability of any of these markets would have a significant impact on our business.

Costs and Expenses

        Cost of Revenues.    Cost of revenues consists primarily of equipment product costs related to initial trials and commercial deployments and service fee revenue costs related primarily to the provision of engineering and administrative services. Costs of equipment product revenues for the twelve months ended December 31, 2002 was $4,537, or approximately 479% of equipment product revenues, compared to the product costs of revenues of $8,770, or approximately 159% of equipment product revenues, for the twelve months ended December 31, 2001. The increase in the cost of equipment product revenues as a percent of total equipment product revenues for the twelve months ended December 31, 2002, as compared to the twelve months ended December 31, 2001, was primarily the result of differences in product mix, a reduced level of equipment revenues, and the magnitude, in relation to sales, of the inventory provisions recorded against the carrying amount of certain inventory products to adjust them to their net realizable value. For the twelve months ended December 31, 2002, inventory adjustments were $2,209. For the twelve months ended December 31, 2001, inventory adjustments were $1,307. Service fee costs of revenues for the twelve months ended December 31, 2002 were $11,284, or approximately 87% of service fee revenues. Service fee costs of revenues were $10,343 or approximately 91% of service fee revenues for the twelve months ended December 31, 2001. The increase in service fee cost of revenues of $941 for the twelve months ended December 31, 2002 when compared to 2001 is primarily attributable to increased consulting fees with TVGateway and the additional support costs relating to a larger subscriber base.

        Engineering and Development.    Engineering and development expenses primarily consist of the cost of design, programming, testing, documentation and support of the Company's hardware, software and services. For the twelve months ended December 31, 2002, engineering and development costs were $7,705, a decrease of approximately 40% when compared to $12,894 for the twelve months ended December 31, 2001. This decrease in expenses of $5,189 is primarily attributable to declines in staffing over the last two years that have resulted in a significant payroll cost reduction, a significant portion of which is the result of termination of all of the personnel of the former Digital Video Art, Inc. ("DVA"). Employee compensation costs declined for the twelve months ended December 31, 2002 by $4,984, or 49%, when compared to the same periods in 2001.

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        Sales and Marketing.    Sales and marketing costs consist primarily of compensation, attendance at conferences and trade shows, travel costs necessary to cover a domestic and international customer market base, promotions and other marketing programs substantially related to initial trial installations and commercial deployments. For the twelve months ended December 31, 2002 sales and marketing expenses were $2,585. This represents a decrease of approximately 62% when compared to sales and marketing expenses of $6,770 for the twelve months ended December 31, 2001. This decrease in expenses is primarily attributable to declines in staffing over the last two years, significant expense reductions beginning in 2001, and to operating efficiencies achieved under management's continuing efforts to monitor the Company's growth and development and adjust expenditures appropriately. These actions resulted in employee compensation costs declining in the twelve months ended December 31, 2002 by $2,314, or 59%, when compared to the same periods in 2001. Advertising, marketing and travel expenses also declined for the twelve months ended December 31, 2002 by $1,367, or 64%, when compared to the same period in 2001.

        General and Administrative.    General and administrative expenses consist primarily of expenditures for administration, office and facility operations, finance and general management activities, including legal, accounting, insurance and other professional fees. General and administrative expenses were $3,069 for the twelve months ended December 31, 2002, a decrease of 60% when compared to expenses of $7,629 for the same period in 2001. This decrease in expenses is primarily attributable to declines in staffing over the last two years, significant expense reductions beginning in 2001, and to operating efficiencies achieved under management's continuing efforts to monitor the Company's growth and development and adjust expenditures appropriately. These actions resulted in employee compensation costs declining in the twelve months ended December 31, 2002 by $1,103, or 37%, when compared to the same period in 2001. Travel and facility expenses also declined for the twelve months ended December 31, 2002 by $2,975, or 71%, when compared to the same period in 2001.

        The Company recently announced multiple actions that it believes will further reduce operating expenses and increase operating efficiencies. These actions include a reduction in work force as well as the implementation of an agreement with TVGateway, LLC to transfer to TVGateway certain WorldGate employees and functions that WorldGate was providing for TVGateway. This transfer will permit TVGateway to directly absorb the costs and expenses for the transferred employees and functions and will allow WorldGate employees to more directly focus upon the priorities of WorldGate's products and services. WorldGate will be negatively impacted in that it will no longer receive revenues from providing these services and potentially there will be some overhead which cannot be reduced or otherwise allocated and which was previously passed on to TVGateway (see Note 13 to the financial statements).

        The Company expects that general and administrative expense may increase in future quarters as it responds to changes in reporting requirements as a public company and makes efforts to maintain its listing on the NASDAQ Small Cap Market.

        Goodwill Impairment.    During the second quarter of 2002, in an effort to cut costs and achieve operational efficiencies, the Company commenced the termination of all personnel of the former DVA which performed engineering development services. In conjunction with this action, it was determined that the carrying amount of the Company's remaining goodwill, which was originally recorded with the Company's acquisition of DVA, exceeded its fair value. As such, the Company measured the impairment loss by the amount the carrying value exceeded the implied fair value of the goodwill. The amount of the non-cash impairment loss was $3,006. The fair value of goodwill was estimated using the expected present value of future cash flows.

        Interest and Other Income and Interest Expense.    Interest and other income and interest expense consist of interest earned on cash and cash equivalents and short-term investments, and interest expense on equipment financing and short-term debt. Interest and other income decreased from $1,027

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for the twelve months ended December 31, 2001 to $462 for the twelve months ended December 31, 2002, primarily due to declining average cash and short term investment balances and to declining interest rates. During the twelve months ended December 31, 2001, the Company earned interest on average cash balances of approximately $27,498 and incurred interest expense related to its equipment financing facility in the amount of $5. In comparison, during the twelve months ended December 31, 2002 the Company earned interest on average cash balances of approximately $8,311 and incurred interest expense related to its insurance financing in the amount of $7.

        Income Taxes.    The Company has incurred net operating losses since inception and accordingly had no income taxes and has not recorded any income tax benefit for those losses.

2001 versus 2000

Revenues.

        Revenues decreased from $19,241 for the year ended December 31, 2000 to $16,847 for the year ended December 31, 2001. Substantially all revenues are attributable to the commercial deployments of WorldGate's interactive television products and services and cable subscribers subscribing to these services and consulting fees with TVGateway, an unconsolidated entity, as of December 31, 2001. A substantial portion of the revenue decrease is attributable to approximately $6,824 in shipments of equipment to certain TVGateway partners in 2000 to support the newly introduced TVGateway interactive program guide. Service fee revenues increased by $4,987 in 2001 to $11,340 from a total $6,353 in 2000. This increase in revenues was primarily attributable to revenues from consulting fees with TVGateway of $5,344 in 2000 increasing to $10,045 in 2001, pursuant to the TVGateway Management Agreement described in Note 13 to our financial statements. Our equipment product revenues declined in 2001 by $7,381, primarily reflecting the absence of shipments to the TVGateway partners noted above and the slowdown in ITV deployments within the U.S. cable marketplace. At December 31, 2000, we had deployed our services in 28 cable systems and had agreements to deploy an additional 17 cable systems with approximately 114,000 Revenue Generating Units from deployed systems. As of December 31, 2001, we had deployed our services in 61 cable systems with approximately 472,000 Revenue Generating Units. For the year ended December 31, 2001, there were revenues of $5,507 derived from the delivery of headends, keyboards, and related equipment products, and $1,184 attributable to subscriber fees and advertising fees. For the year ended December 31, 2000, revenues of $12,888 were derived from the delivery of headends, keyboards, and related equipment products and $539 attributable to subscriber fee and advertising revenues.

Costs and Expenses.

        Cost of Revenues.    Cost of equipment product revenues consists primarily of equipment product costs related to initial trials and commercial deployments and service fee revenue costs, related primarily to the provision of engineering and administrative services. Costs of equipment product revenues for the year ended December 31, 2001 were $8,770, or approximately 159% of equipment product revenues, compared to the product costs of revenues of $20,314, or approximately 158%, of equipment product revenues for the year ended December 31, 2000. Service fee costs of revenues for the year ended December 31, 2001 were $10,343, or approximately 91% of service fee revenues. Service fee costs of revenues for the year ended December 31, 2000 were $4,849, or 76% of total service fee revenues. The increase in service fee cost of revenues of $5,494 for the year ended December 31, 2001 when compared to 2000 is attributable to increased revenues from consulting fees with TVGateway and additional subscriber fees.

        Engineering and Development.    Engineering and development expenses primarily consist of the cost of design, programming, testing, documentation and support of the Company's hardware, software and services. Engineering and development costs were $12,894 for the year ended December 31, 2001, a

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decrease of approximately 41% when compared to $21,734 for the year ended December 31, 2000. This decrease in expenses is primarily attributable to significant expense reductions beginning in the second quarter of 2001, activities supporting the TVGateway joint venture for which reimbursement is received, and to operating efficiencies achieved under management's continuing efforts to monitor the Company's growth and development and adjust expenditures appropriately. These actions resulted in employee compensation costs declining by $1,672, or 15%, in 2001 when compared to 2000. Other operating expenses, net of the contingent consideration expensed in 2000 of $4,174 related to our acquisition of DVA (see Note 14 to our financial statements), declined by $2,995, or 53%, in 2001 when compared to 2000. This decline consisted primarily of decreases in engineering and product development expenditures of $2,910.

        Sales and Marketing.    Sales and marketing costs consist primarily of compensation, attendance at conferences and trade shows, travel costs necessary to cover a domestic and international customer market base, promotions and other marketing programs substantially related to initial trial installations and commercial deployments. For the year ended December 31, 2001 sales and marketing expenses were $6,770. This represents a decrease of approximately 47% when compared to sales and marketing expenses of $12,779 for the year ended December 31, 2000. This decrease in expenses is primarily attributable to significant expense reductions beginning in the second quarter of 2001, activities supporting the TVGateway joint venture for which reimbursement is received, and to operating efficiencies achieved under management's continuing efforts to monitor the Company's growth and development and adjust expenditures appropriately. These actions resulted in employee compensation costs declining by $1,149, or 21%, in 2001 when compared to 2000. Other operating expenses declined by $4,861, or 63%, in 2001 when compared to 2000. This decline consisted primarily of decreases in advertising and marketing expenses of $2,209 and trade show expenditures of $1,076.

        General and Administrative.    General and administrative expenses consist primarily of expenditures for administration, office and facility operations, finance and general management activities, including legal, accounting and other professional fees. General and administrative expenses were $7,629 for the year ended December 31, 2001, a decrease of approximately 27% when compared to expenses of $10,507 for 2000. This decrease in expenses is primarily attributable to significant expense reductions beginning in the second quarter of 2001, activities supporting the TVGateway joint venture for which reimbursement is received, and to operating efficiencies achieved under management's continuing efforts to monitor the Company's growth and development and adjust expenditures appropriately. These actions resulted in employee compensation costs declining by $220, or 11%, in 2001 when compared to 2000. Other operating expenses declined by $4,488, or 54%, in 2001 when compared to 2000. This decline consisted primarily of decreases in facility costs of $2,376 and professional fees and travel expenses of $1,620.

        Interest and Other Income and Interest Expense.    Interest and other income and interest expense consist of interest earned on cash and cash equivalents and short-term investments, and interest expense on equipment financing and short-term debt. Interest and other income decreased from $3,562 for the year ended December 31, 2000 to $1,027 for the year ended December 31, 2001, primarily due to declining average cash balances and to declining interest rates. During the year ended December 31, 2000, the Company earned interest on average cash balances of approximately $57,755 and incurred interest expense related to its equipment financing facility in the amount of $30. In comparison, for the year ended December 31, 2001 the Company earned interest on average cash balances of approximately $27,498 and incurred interest expense related to its equipment financing facility in the amount of $5.

        Income Taxes.    The Company has incurred net operating losses since inception and accordingly had no income taxes due and has not recorded any income tax benefit for those losses.

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Liquidity and Capital Resources

        As of December 31, 2002, our primary source of liquidity consisted of cash and cash equivalents and short-term investments that are highly liquid, are of high quality investment grade and have maturities of less than one year.

        At December 31, 2002, we had cash and cash equivalents of $589 (in addition to $3,218 in short-term investments) as compared to cash and equivalents of $3,356 (in addition to $11,257 in short-term investments) at December 31, 2001. Net cash used in operations was $10,767 for the twelve months ended December 31, 2002, as compared to $23,996 used for the same period in 2001. The decrease in net cash used for operations was primarily attributable to the Company's decrease in expenditures beginning in 2001 and during the twelve months ended December 31, 2002, including its reduction in workforce programs. Accounts receivable and inventory reductions were partially offset by other changes in working capital during the year. The Company increased its Allowance for Doubtful Accounts by $600 during the twelve months ended December 31, 2002 to reflect its current assessment of the collectability of certain receivables, primarily in Latin and South America. The Company has instituted tighter credit procedures to minimize its collection exposure with particular emphasis on international customers.

        Cash provided by investing activities during the twelve months ended December 31, 2002, totaled $7,937 compared to $12,416 provided during the same period in 2001. During the twelve months ended December 31, 2002, we utilized the net proceeds from our maturing short-term investments of $8,039 compared to $14,833 for the twelve months ended December 31, 2001. Capital expenditures were $112 and $1,451 for the twelve months ended December 31, 2002 and 2001, respectively. During the twelve months ended December 31, 2001, we invested $1,000 in TVGateway, an unconsolidated entity.

        Net cash provided by financing activities was $63 for the twelve months ended December 31, 2002 compared to cash used of $5,479 for the twelve months ended December 31, 2001. The increase in net cash provided by financing activities was primarily due to the settlement in 2001 of acquisition consideration due to the shareholders of DVA, the company we acquired in April 2000.

        We have the following long term financing and lease obligations as of December 31, 2002:

        To date, the Company has funded operations primarily through private sales of equity securities and through an initial public offering of common stock in April 1999. As of December 31, 2002 the Company had cash, cash equivalents, and short-term investments of $3,807. The operating cash usage for the twelve months ended December 31, 2002 was $10,767. In October 2002, the Company announced multiple actions that it believed will further reduce operating expenses and increase operating efficiencies. These actions included a reduction in work force as well as the implementation of an agreement with TVGateway to transfer to TVGateway certain WorldGate employees and functions that WorldGate was currently providing for TVGateway. During the first quarter 2003, the Company substantially finalized the transition settlement and other matters with TVGateway and in January 2003 received $2,400 in cash as part of this settlement. This amount largely comprises payment of our receivable balance as of December 31, 2002 in the amount of $1,089, payment of January 2003 service fees in the amount of $300 and other payments largely related to our January 2003 sale of

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certain equipment and inventory in the approximate amount of $1,000. This transition of services removes both the obligation of WorldGate to provide the service as well as TVGateway's obligation to pay WorldGate for rendering the service. Thus, although WorldGate's revenue attributable to the transitioned service was reduced, so was the corresponding expense of providing the service. As such, WorldGate was negatively impacted in that it no longer received a profit from providing these services. Also there was some overhead which was reduced or otherwise allocated and which was previously passed on to TVGateway. Based on the Company's current operating budget and cash flow projections for 2003 we believe that we have sufficient cash and short-term investments to fund our operations into the summer of 2003. Accordingly, our accountants have stated in their audit opinion that there is substantial doubt about our ability to continue as a going concern. As a strategy employed by the Company to obtain additional funding to continue operations beyond this period, the Company filed a registration statement with the SEC for a stock rights offering as described in more detail in Note 17 of the Notes to the Consolidated Financial Statements.

        We have virtually no outstanding debt and our assets are not pledged as collateral. We continue to evaluate possibilities to obtain additional financing through public or private equity or debt offerings, bank debt financing, asset securitizations or from other sources. Such additional financing would be subject to the risk of availability, may be dilutive to our shareholders, or could impose restrictions on operating activities. There can be no assurance that this additional financing will be available on terms acceptable to us, if at all.

        The Company also has the ability to further reduce its workforce and scale back on capital and operational expenditures to decrease cash burn. The Company however can provide no assurance that such reductions in cash spending, if they are made, will extend the Company's operations.

        The Company received a letter dated October 8, 2002, from the NASDAQ, which notified it that the bid price for its common stock had been below $1.00 per share for a period of thirty consecutive days. Subsequently the Company sought and received NASDAQ approval to transfer its listing to the NASDAQ Small Cap Market, and on January 9, 2003 the Company's common stock commenced trading on this market. WorldGate cannot offer any assurance that other NASDAQ requirements for continued listing will be satisfied. If the Company's common stock is delisted, this may have a negative impact on the liquidity and price of its common stock and investors may find it more difficult to purchase or dispose of, or to obtain accurate quotations as to the market value of, its common stock. Furthermore, the listing of the Company's common stock on the NASDAQ Small Cap Market, makes it ineligible for certain exemptions from the various state securities or "blue sky" laws, which makes it more difficult for the Company to raise capital through issuances of securities.

Recent Accounting Pronouncements

        In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations". SFAS No. 143 requires, among other things, retirement obligations to be recognized when they are incurred and displayed as liabilities, with a corresponding amount capitalized as part of the related long-lived asset. The capitalized element is required to be expensed using a systematic and rational method over its useful life. SFAS No. 143 was adopted by the Company on January 1, 2003 and did not have an impact on the Company's financial statements.

        In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," effective for exit or disposal activities initiated after December 31, 2002. SFAS No. 146 addresses the financial accounting and reporting for certain costs associated with exit or disposal activities, including restructuring actions. SFAS No. 146 excludes from its scope severance benefits that are subject to an on-going benefit arrangement governed by SFAS No. 112, "Employer's Accounting for Post-employment Benefits," and asset impairments governed by SFAS No. 144,

22

"Accounting for the Impairment or Disposal of Long-Lived Assets." SFAS No. 146 was adopted by the Company on January 1, 2003 and did not have an impact on the Company's financial statements.

        In December 2002, the FASB issued SFAS No.148, "Accounting for Stock-Based Compensation - Transition and Disclosure", which amends SFAS No. 123, "Accounting for Stock-Based Compensation", to provide alternative methods of transition for a voluntary change to fair value based method of accounting for stock-based compensation. The statement amends the disclosure requirements of SFAS No.123 to require prominent disclosures in both annual and interim financial statements of the method of accounting for stock-based employee compensation and the effect of the methods used on reported results. While SFAS No.148 does not amend SFAS No.123 to require companies to account for employee stock options using the fair value method, the disclosure provisions of SFAS No.148 are applicable to all companies with employee stock-based compensation, regardless of whether they account for that compensation using the fair value method of SFAS No.123 or the intrinsic value method of APB Opinion No. 25, "Accounting for Stock Issued to Employees". The transition guidance and annual disclosure provisions of SFAS No.148 are effective for fiscal years ending after December 15, 2002. The interim disclosure provisions are effective for interim periods beginning after December 15, 2002. We adopted the annual disclosure provisions as of December 31, 2002 and the interim disclosure provisions will be adopted during the first quarter of 2003.

        In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantors Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others" (FIN 45). FIN 45 requires that the guarantor recognize, at the inception of certain guarantees, a liability for the fair value of the obligation undertaken in issuing such guarantee. FIN 45 also requires additional disclosure requirements about the guarantor's obligations under certain guarantees that it has issued. The initial recognition and measurement provisions of this interpretation are applicable on a prospective basis to guarantees issued or modified after December 31, 2002, and the disclosure requirements are effective for financial statement periods ending after December 15, 2002. The Company is currently assessing, but at this point does not believe the adoption of the recognition and initial measurement requirements of FIN 45 will have a material impact on the financial position, cash flows or results of operations of the Company.

        In January 2003, the FASB issued FASB Interpretation No. 46, "Consolidation of Variable Interest Entities" (FIN 46). FIN 46 requires a variable interest to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity's activities or entitled to receive a majority of the entity's residual returns or both. The consolidation requirements apply immediately to variable interest entities created after January 31, 2003. The consolidation requirements apply to entities created prior to January 31, 2003 in the first fiscal year or interim period beginning after June 15, 2003. Certain of the disclosure requirements apply in all financial statements issued after January 31, 2003, regardless of when the variable interest entity was established. Management is currently assessing the impact of the new standard on our financial statements.

23

FACTORS AFFECTING OUR BUSINESS CONDITION

        In addition to other information in this Form 10-K, the following risk factors should be carefully considered in evaluating our company and our business. Investing in our common stock involves a high degree of risk, and you should be able to bear the complete loss of your investment. We also caution you that this Form 10-K includes forward-looking statements that are based on management's beliefs and assumptions and on information currently available to management. Future events and circumstances and our actual results could differ materially from those projected in any forward-looking statements. You should carefully consider the risks described below, the other information in this Form 10-K, the documents incorporated by reference herein and the risk factors discussed in our other filings with the Securities and Exchange Commission when evaluating our company and our business. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known by us or that we currently deem immaterial also may impair our business operations. If any of the following risks actually occur, our business could be harmed. In such case, the trading price of our common stock would decline.

Risks Related to Our Business and Industry

We may be unable to obtain necessary additional capital to fund operations in the future.

        To date, we have funded operations primarily through private sales of equity securities and through our initial public offering of common stock in April 1999. As of December 31, 2002, we had cash, cash equivalents, and short-term investments of $3.8 million. Our quarterly operating cash and short-term investments usage was $2.1 million for the fourth quarter of 2002, and is expected to decrease in the remainder of 2003. We believe that if we achieve this expected decrease, we could fund our cash requirements from cash-on-hand into the summer of 2003. If, however, our operating cash usage increases during one or more quarters, we may not have cash-on-hand necessary to fund our cash requirements for this period without obtaining additional financing. If we are unable to obtain additional financing on terms acceptable to us as needed, our business, operating results and financial condition will be materially adversely affected. If we are unable to secure such additional financing, we will have to curtail or suspend our business activities and may have to seek protection of the bankruptcy courts. If that happens, you could lose your entire investment. If we cannot raise additional financing on acceptable terms, we may not be able to, among other things:

•

continue to operate our business as a going concern;



•

continue to maintain our customer base;



•

continue to support our existing products;



•

develop or enhance our products and services;



•

deploy the equipment and software necessary to support our customers;



•

hire, train and retain employees; and



•

respond to competitive pressures or unanticipated requirements.

        In addition, we cannot predict with certainty the timing or amount of our capital requirements. Our capital requirements depend on numerous factors, including:

•

the rate of acceptance of our products by cable operators, cable subscribers, advertisers, television programmers, e-commerce companies and Internet content providers;



•

our ability to maintain and increase the number of subscribers; and



•

the rate of commercialization of our products, including the WorldGate ITV Service, and the acquisition of related businesses or technology, if any.

24

        Any additional equity financing, if available, may be dilutive to our stockholders, and debt financing, if available, may involve significant restrictions on our financing and operating activities. Due to the factors mentioned herein, our accountants have stated in their audit opinion that there is substantial doubt about our ability to continue as a going concern.

We have a limited operating history and we may experience difficulties developing and implementing our marketing and business plans.

        We began operations in March 1995 and our service was first made commercially available in the third quarter of 1998. As a result, our operating, sales and marketing and other strategies are still being developed, and though our software is now in over 66 cable systems, we are still in the early stages of development and have not yet deployed our product widely. As a result, forecasts of our future revenues, expenses and operating results may not be as accurate as they would be if we had a longer history of operations or if our products and strategies were fully developed and deployed. Further, there can be no assurance that we will successfully implement our strategies or develop and deploy our products. If we are not successful in implementing our marketing and business plans on a timely basis or otherwise effectively managing our development, our business, operating results, financial condition and cash flows will be materially adversely affected.

If we continue to incur losses, we may not be able to finance the commercial deployment of our products.

        We have experienced losses and have had negative operating cash flow in each quarter and year since inception, and we expect to continue to operate at a loss for the foreseeable future. We may be unable to sustain our historical revenue growth rates or achieve any growth at all. To achieve profitability, we must increase our revenues and gross profit margin. If we are not able to do so, our losses may extend beyond the foreseeable future and we may not be able to continue financing the commercial deployment, development and enhancement of our products. Our aggregate revenues from inception to December 31, 2002 were approximately $56,723,000, and our aggregate accumulated deficit at December 31, 2002 was approximately $189,238,000. We currently are stabilizing our operating expenses and capital expenditures in order to bring us closer to profitability. As a result, we expect to experience additional operating, but smaller than historical, losses and negative cash flow for the foreseeable future.

We have a limited product offering and because ITV products and services are new, we cannot be certain that a market or sustainable demand for our products will develop.

        We derive a substantial portion of our revenue from a limited number of existing products. We expect that our ITV products will account for a substantial portion of our total revenue for the foreseeable future. The market for interactive TV products and services is new and evolving, and no single technology or approach to providing this access has been widely adopted by consumers or cable operators. As a result, we cannot guarantee that a market for ITV products and services in general, or for our interactive TV products in particular, will develop or that demand for our interactive TV products and services will be sustainable. If the market does not develop, develops more slowly than expected or becomes saturated with competitors or competing technology becomes more widely accepted, our business, operating results, and financial condition will be materially adversely affected.

We could fail to overcome the intense competitive market for ITV and services which may limit demand or pricing for the WorldGate ITV Service and impair our overall financial condition.

        We experience significant competition. Many companies presently provide and others may in the future provide products and services with functionality similar to any of our products and services. As a result of this and future competition, demand for our products may suffer, we may be restricted in the

25

pricing we can charge for our interactive TV products and our business, financial condition and results of operations may be adversely affected. We believe that our competitors include Gemstar-TV Guide International, Inc., Microsoft Corporation, Liberate Technologies, OpenTV Corp. and Liberty Broadband Interactive Television Inc. in the applications category; Liberate Technologies and Scientific-Atlanta, Inc., in the middleware product category; and Concurrent Computer Corp., Diva, nCube Corporation and SeaChange, providers of video-on-demand and personal video recording, which competes for "space" within the cable set-top box. Competitors provide their services through a variety of technologies, which are in various stages of implementation and adoption. Some of our competitors have significantly greater financial, technical, marketing, distribution, customer support, name recognition, compelling content, access to consumers and other resources, and more established relationships with cable operators, advertisers and content and application providers than we have.

We may not succeed if cable operators do not offer our ITV products to their subscribers.

        Because our ITV products are made available to cable subscribers through a cable operator's system, our growth and future success depends substantially on cable operators offering our ITV products to their subscribers at satisfactory rates. If cable operators determine that our service is not viable as a business proposition or if they determine that the service does not meet their business or operational expectations or strategies, they will not offer our ITV products to their subscribers. Furthermore, because there are a limited number of cable operators, as well as consolidation in the industry, the failure to reach agreements with one or more major cable operators which service a significant number of cable subscribers could materially adversely affect the market for our ITV products. In addition, demand for our ITV products could decline if the cable industry is affected by general economic conditions and fluctuations in consumer confidence and spending, caused by factors beyond our control, such as terrorist attacks and acts of war.

Our international operations are subject to many uncertainties.

        A key component of our strategy is the expansion of our sales of ITV products into international markets. International revenues accounted for approximately 24% and 1% of our total revenues for the fiscal years 2001 and 2002, respectively, and our international affiliates made up three of our top ten customers on a percentage of revenue basis for fiscal 2002. We anticipate that a significant portion of our revenues will continue to be derived from sources outside the United States. Accordingly, our success will depend, in part, upon international economic conditions and our ability to manage international sales and marketing operations. We have limited experience in developing localized versions of our service and in developing relationships with international cable system operators. We may not be successful in expanding our service offerings into foreign markets. In addition to the uncertainty regarding our ability to generate revenues from foreign operations and expand our international presence, there are certain risks inherent in doing business on an international level, such as:

•

difficulties in collecting accounts receivable and longer collection periods;



•

regulatory requirements, including the regulation of Internet access;



•

export and import restrictions, including tariffs and other trade barriers;



•

difficulties in staffing and managing foreign operations;



•

political instability; and



•

fluctuations in currency exchange rates.

        In addition, although substantially all of our revenues and costs to date have been denominated in U.S. dollars, we may enter into agreements resulting in payments in foreign currency. Although we may

26

from time to time undertake foreign exchange hedging transactions to cover a portion of our foreign currency exposure, we do not currently attempt to cover potential foreign currency exposure. Accordingly, any fluctuation in the value of foreign currency could seriously harm our ability to increase international revenues. Any of the above factors could materially adversely affect the success of our current and future domestic and international operations.

Our revenues will depend on the manner in which cable operators market and price our ITV products.

        We depend on cable operators to provide our ITV products to their subscribers and therefore have limited or no control over a number of important factors, including:

•

the cable operators' advertising or marketing strategy, if any, regarding their offering of our ITV products to their subscribers;



•

the monthly fees cable operators charge to their subscribers for our ITV products; and



•

the extent to which cable operators purchase additional WorldGate equipment to avoid reduction in performance if subscriber demand grows.

        Our revenues may not meet our expectations if the cable operators' marketing, pricing and operating strategies are inconsistent with our business model.

Cable operators and cable box manufacturers may not offer our ITV products because they may have potential conflicts of interest or for other reasons.

        Some cable operators and cable box manufacturers are stockholders of other companies that provide ITV products and services. To the extent that these cable operators elect not to offer our products and services because of these affiliations or other reasons, our business, financial condition and results of operations could be materially adversely affected. Some companies that provide Internet services, such as Microsoft Corporation, are stockholders of cable operators or cable box manufacturers. We cannot assure you that there will not be other investments among providers of ITV services, cable operators and/or cable box manufacturers. As a result, or for other reasons, these cable operators and cable box manufacturers may be reluctant to provide any service, including our products and services, or to otherwise work with any entity that provides other Internet services in competition with their affiliates.

Only cable television subscribers who utilize a cable set-top box can receive our ITV products.

        For cable television subscribers to receive our ITV products, they must have a cable set-top box that can be WorldGate enabled. Currently, many cable television subscribers receive their cable television service through the cable line directly into their televisions, without a set-top box. We cannot assure you that cable operators serving these subscribers will elect to provide them with set-top boxes for the purpose of offering our ITV products, or that these customers will choose to utilize a set-top box in order to receive our ITV products.

We are subject to capacity constraints and system failures.

        Due to the limited size of our ITV deployments, the ability of our service to accommodate a substantial number of users is still being tested. We cannot assure you that we will be able to provide high quality performance and high transaction speeds as the number of subscribers grows or their usage increases. In addition, as subscriber penetration grows it may be necessary for cable operators to purchase additional equipment, and we cannot assure you that they will do so. The performance of our ITV products is also subject to reduction in performance and interruption from human errors, telecommunication failures, computer viruses and similar events. Any of these problems in our systems or those of cable operators could result in reduced subscriber demand. We have experienced

27

performance reduction and service interruptions from time to time in the past and we expect that these problems will continue from time to time. Our failure to provide uninterrupted service at a level of performance acceptable to subscribers would have a material adverse effect on our business, financial condition and results of operations.

If we fail to adequately protect our intellectual property rights or if we are subject to intellectual property infringement claims of third parties, our business will be harmed.

        Our success depends, in part, on our ability to maintain and continue to develop a strong patent position for our products and technologies both in the United States and other countries. We rely on a combination of contract, patent, copyright, trademark, trade-secret laws, restrictions on disclosure and other measures to protect our intellectual property rights and proprietary information. Our patent position involves complex legal and factual questions. Without our patent and other intellectual property protections, other companies could offer substantially identical products for sale without incurring the sizeable development and testing costs that we have incurred. Our ability to recoup these expenditures and realize profits upon the licensing of our products and services could be diminished. The process of obtaining patents is time consuming and expensive. Even if we spend the necessary time and money, a patent may not issue or it may insufficiently protect the technology it was intended to protect. We can never be certain that we were the first to develop the technology or that we were the first to file a patent application for the particular technology because U.S. patent applications are maintained in secrecy until a patent issues and publications in the scientific or patent literature lag behind actual discoveries. Even after the U.S. Patent and Trademark Office issues patent rights to us, our competitors may develop similar or duplicate technologies or design around the patented aspects of our technology, which may decrease sales of our prospective products, therefore causing a negative impact on our profit. Competitors and others may also challenge our intellectual property rights in court by alleging infringement. If we are found to infringe the intellectual property rights of others, we could be precluded from using certain technologies that are important components of our products, or forced to pay significant license fees, royalties or damages for infringement. Irrespective of the validity or the successful assertion of any patent claims, any litigation could result in significant costs and diversion of management time and resources.

We could become subject to burdensome government regulation which affects our ability to offer our service or which affects demand for our service.

        We are subject to varying degrees of federal, state, local and foreign regulations as well as laws enacted by the U.S. Congress and other governments. The Federal Communications Commission has established regulations that, among other things, set licensing, access, installation and equipment standards for communications systems. We are uncertain how these regulations may be applied to Internet services offered over cable television systems. These laws and regulations could expose us to liability, materially increase our cost of providing our service, and decrease the growth and acceptance of the Internet in general and access to the Internet over cable systems.

Our business would suffer if we were to lose the services of Hal M. Krisbergh or other key personnel.

        Our success depends in significant part upon the continued service of our key technical, sales and senior management personnel, particularly Mr. Krisbergh, who has significant relevant experience in the cable television industry. No officer or employee of our company is bound by an employment agreement, and any officer or employee of our company could terminate his or her relationship with us at any time. Our future success will also depend on our ability to attract, train, retain and motivate highly qualified senior management, technical, marketing and sales personnel. Because competition for these personnel is intense, we cannot assure you that we will be able to do so.

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The ability to influence the outcome of stockholder votes may be limited by the significant ownership interest of our chairman and chief executive officer.

        Hal M. Krisbergh beneficially owns approximately 25.0% of our outstanding common stock as of January 30, 2003. Mr. Krisbergh has the voting power to exercise substantial control over the election of our entire board of directors and all votes on matters requiring stockholder approval. This concentration of ownership may also have the effect of delaying or preventing a change in control of our company.

Anti-takeover provisions in our charter documents could discourage unwanted takeover attempts and could reduce the opportunity for stockholders to get a premium for their shares.

        We are subject to Delaware laws and to provisions of our certificate of incorporation and by-laws that could have the effect of delaying, deterring or preventing a change in control of our company. These include provisions generally prohibiting our stockholders from calling special meetings of stockholders and requiring advance notice for nomination of directors and stockholder proposals. In addition, as a Delaware corporation, we are subject to Section 203 of the Delaware General Corporation Law which, in general, prevents an interested stockholder, defined generally as a person owning 15% or more of the corporation's outstanding voting stock, from engaging in a business combination, as defined, for three years following the date that person became an interested stockholder unless specified conditions are satisfied.

        Our certificate of incorporation and by-law provisions and Delaware law could diminish the opportunities for a stockholder to participate in tender offers, including tender offers at prices above the then-current fair market value of our common stock, that could result from takeover attempts. In addition, our certificate of incorporation permits our board of directors to issue, without further stockholder approval, preferred stock that could have the effect of delaying, deferring or preventing a change in control. The issuance of preferred stock also could adversely affect the voting power of the holders of our common stock, including the loss of voting control to others. The provisions of our certificate of incorporation and by-laws, as well as provisions of Delaware law, may have the effect of discouraging or preventing an acquisition, or disposition of, our business. As a result, our management could attempt to utilize these laws and provisions to discourage or reject unsolicited bids to acquire us, including bids that would have paid stockholders a premium over the then current market price of their shares.

We may not be able to continue to meet the continued listing criteria for NASDAQ, which could materially and adversely affect our business and financial condition and the liquidity of our common stock.

        On October 8, 2002, we received notification from the NASDAQ National Market that we were not in compliance with the minimum bid price rule. On November 26, 2002 we received notification that we were not in compliance with the minimum stockholders' equity requirement. Following such notifications, we applied for listing on the NASDAQ Small Cap Market. We were notified by NASDAQ that our application to transfer to the NASDAQ Small Cap Market had been accepted and was effective at the opening of business on January 9, 2003. Although the transfer has been effected, our continued listing cannot be assured because, we are not in compliance with the minimum bid price, although we have a 180-day grace period for regaining compliance. We have received approval from our Board to request shareholder approval for a discretionary reverse stock split and have filed a preliminary proxy statement as required for a special meeting of stockholders to consider such reverse split. The Company is still evaluating whether it will proceed with the reverse split.. If it elects to proceed, there can, however, be no assurance that such stock split will be approved or that any increased share price resulting from any stock split will be maintained in order to continue to comply with the listing requirements. Furthermore the approval we are seeking from our shareholders for

29

reverse stock split provides the board of directors with discretion as to whether or not the split is implemented as well as the timing of the reverse split, if implemented. Accordingly the board of directors of the company may choose not to implement the reverse split if market forces sufficiently increase our share price. There can be no assurance that other NASDAQ requirements for continued listing will be satisfied. If we fail such requirements, our common stock may be delisted and trading in our common stock, if any, would have to be conducted on the OTC Bulletin Board or in the non-NASDAQ over-the-counter market (or "pink sheet" market). Since our common stock is no longer on the NASDAQ National Market, we are not eligible for certain exemptions from the various state securities or "blue sky" laws, which could make it more difficult for us to raise capital through issuances of securities. The failure to be listed on NASDAQ may have a negative impact on the liquidity and price of our common stock and investors may find it more difficult to purchase or dispose of, or to obtain accurate quotations as to the market value of, our common stock.

Our financial results could be adversely affected by the bankruptcy of one of the members of the TVGateway joint venture.

        During the second quarter of 2002, Adelphia Communications Corporation, a MSO and a member of the TVGateway joint venture filed a voluntary petition under Chapter 11 of the U.S. Bankruptcy Code. This filing may affect Adelphia's ability to participate in future additional capital contributions to the joint venture. The TVGateway joint venture partners are not obligated to make any capital infusions. Rather, if they elect not to contribute to a capital call, their equity interest in the joint venture is diluted and either less capital is raised by TVGateway or the other joint venture partners may elect, individually or jointly, to increase their capital contributions to make up the deficit. Our operating budget and cash flow projections for 2002 and 2003 are heavily dependent upon revenues generated by TVGateway. In turn, funding of the joint venture is heavily dependent upon the capital contributions of its members. In addition the TVGateway joint venture partners made commitments to deploy our products as part of the formation of the venture. We are still working with Adelphia to determine if and how they will fulfill these commitments. Further, under the bankruptcy laws, TVGateway could be precluded from taking actions relating to the joint venture that could affect the estate of the bankrupt partner without the prior approval of the bankruptcy court, which would, in most cases, entail prior notice to the other members and a hearing in bankruptcy court. The requirement to obtain court approval may delay or prevent actions TVGateway may want to take.

Substantial sales of our common stock could lower our stock price.

        The market price for our common stock could drop as a result of sales of a large number of our presently outstanding shares, including shares issued upon the exercise of outstanding options and warrants, or the perception that these sales could occur. These factors also could make it more difficult for us to raise funds through future offerings of our common stock. Certain holders of our common stock have demand and piggy-back registration rights. The exercise of such rights could adversely affect the market price of our common stock. We have filed:

•

on May 20, 1999 a registration statement (Registration No. 333-78943) to register 1,600,000 shares of common stock under our stock option plan;



•

on July 28, 2000, a registration statement (Registration No. 333-42526) under the Securities Act for resale of 1,531,211 shares of common stock that we issued to four cable operators;



•

on November 9, 2000, a registration statement (Registration No. 333-49612) to register an additional 1,600,000 shares of common stock under our stock option plan; and



•

on November 29, 2000, a registration statement (Registration No. 333-35936) under the Securities Act for resale of 250,000 shares of common stock that we issued to shareholders of Digital Video Arts, Inc., a California corporation we acquired in April 2000.

30

•

on April 5, 2001, a registration statement (Registration No. 333-58346) to register 750,000 shares of common stock under our 2001 Employee Stock Purchase Plan.



•

on June 11, 2001, a registration statement (Registration No. 333-62810) to register an additional 932,328 shares of common stock under our Stock Option Plan.



•

on June 13, 2001, a registration statement (Registration No. 333-62888) under the Securities Act for resale of 100,000 shares of common stock that we issued to shareholders of Digital Video Art, Inc.

Legislative actions, higher insurance cost and potential new accounting pronouncements are likely to cause our operating expenses to increase and impact our future financial position and results of operations.

        In order to comply with the newly adopted Sarbanes-Oxley Act of 2002, as well as proposed changes to listing standards by NASDAQ, and proposed accounting changes by the Securities and Exchange Commission, we may be required to enhance our internal controls, hire additional personnel and utilize additional outside legal, accounting and advisory services, all of which will cause our operating expenses to increase. Insurers are also likely to increase premiums as a result of higher claims rates incurred over the past year, and so our premiums for our various insurance policies, including our directors' and officers' insurance policies, are likely to increase. Proposed changes in the accounting rules, including legislative and other proposals to account for employee stock options as a compensation expense among others, could materially increase the expenses that we report under generally accepted accounting principles and adversely affect our operating results.

Item 7A.  Quantitative and Qualitative Disclosures about Market Risk.

        Interest Rate Risk.    Our exposure to market risk related to changes in interest rates relates primarily to our investment portfolio. We invest in instruments that meet high credit quality standards, and we limit the amount of credit exposure to any one issue, issuer and type of investment.

        As of December 31, 2002, our cash and cash equivalents and investments consisted of $3,807, most of which were cash equivalents having a maturity of less than one year. Due to the average maturity and conservative nature of our investment portfolio, a sudden change in interest rates would not have a material effect on the value of the portfolio. Management estimates that had the average yield of our investments decreased by 100 basis points, our interest income for the year ended December 31, 2002 would have decreased by less than $91. This estimate assumes that the decrease occurred on the first day of 2002 and reduced the yield of each investment instrument by 100 basis points. The impact on our future interest income of future changes in investment yields will depend largely on the gross amount of our investments.

        Foreign Currency Exchange Risk.    Although we transact business in various foreign countries, the principal portion of our business is in the United States and substantially all of our revenues and costs to date have been denominated in U.S. dollars. As a result, adverse movements in foreign currency exchange rates would not have a material adverse effect on us.

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Item 8.

WORLDGATE COMMUNICATIONS, INC.

INDEX TO FINANCIAL STATEMENTS

F-1

Report of Independent Accountants

To the Board of Directors
of WorldGate Communications, Inc.:

        In our opinion, the consolidated financial statements listed in the index appearing under Item 15(a)(1) on page 41 present fairly, in all material respects, the financial position of WorldGate Communications, Inc. and its subsidiaries at December 31, 2001 and December 31, 2002, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2002 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule appearing under Item 15(a)(2) on page 42 presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements and financial statement schedule 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 audit 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.

        The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the financial statements, the Company has incurred recurring losses from operations that raise substantial doubt about its ability to continue as a going concern. Management's plans in regard to these matters are also described in Note 2. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.

        As discussed in Notes 2 and 5 to the consolidated financial statements, the Company adopted Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets," on January 1, 2002.

PricewaterhouseCoopers LLP
Philadelphia, PA
February 14, 2003

F-2

WORLDGATE COMMUNICATIONS, INC.

CONSOLIDATED BALANCE SHEETS

(DOLLARS IN THOUSANDS)

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

F-3

WORLDGATE COMMUNICATIONS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

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

F-4

WORLDGATE COMMUNICATIONS, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY

(DOLLARS AND SHARES IN THOUSANDS)

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

F-5

WORLDGATE COMMUNICATIONS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(DOLLARS IN THOUSANDS)