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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the Fiscal Year Ended December 31, 2002

Commission File Number: 000-28063

DELTATHREE, INC.
--------------------------------------------------
(Exact name of registrant as specified in charter)


Delaware 13-4006766
- ------------------------------- ------------------
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)

75 Broad Street, 31st Floor
New York, New York 10004
- ---------------------------------------- ---------
(Address of principal executive offices) (Zip code)

Registrant's telephone number, including area code: (212) 500-4850

Securities registered pursuant to Section 12(b) of the Act:

None.

Securities registered pursuant to Section 12(g) of the Act:

Name of Each Exchange
Title of Each Class on Which the Securities
are Registered
- ------------------- ------------------------
Class A Common Stock, par value $0.001 Nasdaq SmallCap Market
per share

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

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

The aggregate market value of the Class A common stock held by non- affiliates
of the Registrant based upon the closing price of the Class A common stock as
reported by The Nasdaq Stock Market on June 28, 2002 was $5,692,191. Solely for
purposes of this calculation, shares beneficially owned by directors and
officers of the Registrant and persons owning 5% or more of the Registrant's
Class A common stock have been excluded, in that such persons may be deemed to
be affiliates of the Registrant. Such exclusion should not be deemed a
determination or admission by the Registrant that such individuals or entities
are, in fact, affiliates of the Registrant.

The number of shares outstanding of the Registrant's capital stock as of March
27, 2003 is as follows:

Title of Each Class Number of Shares Outstanding
- -------------------------------- at March 27, 2003:
Class A Common Stock, $0.001 par ----------------------------
value 29,180,896



DOCUMENTS INCORPORATED BY REFERENCE

The following documents (or parts thereof) are incorporated by reference into
the following parts of this Form 10-K: Certain information required in Part III
of this Annual Report on Form 10-K is incorporated from the Registrant's Proxy
Statement for the 2003 Annual Meeting of Stockholders to be held on September
18, 2003.


DELTATHREE, INC.
2001 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
---------------------


Page
----
PART I
------
ITEM 1. Business 4
ITEM 2. Properties 15
ITEM 3. Legal Proceedings 15
ITEM 4. Submission of Matters to a Vote of Security Holders 16

PART II
-------
ITEM 5. Market for Registrant's Common Equity and Related Stockholder 17
Matters
ITEM 6. Selected Financial Data 19
ITEM 7. Management's Discussion and Analysis of Financial Condition 20
and Results of Operations
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk 35

ITEM 8. Financial Statements and Supplementary Data 35
ITEM 9. Changes in and Disagreements with Accountants on Accounting 35
and Financial Disclosure

PART III
----------
ITEM 10. Directors and Executive Officers of the Registrant 36

ITEM 11. Executive Compensation 36

ITEM 12. Security Ownership of Certain Beneficial Owners and Management 36

ITEM 13. Certain Relationships and Related Transactions 36

ITEM 14. Controls and Procedures 36

PART IV
-------
ITEM 15. Exhibits, Financial Statement Schedules and
Reports on Form 8-K 37

Index to Consolidated Financial Statement F-1


DELTATHREE, INC.
2002 ANNUAL REPORT ON FORM 10-K

The statements in this annual report that are not descriptions of historical
facts may be forward-looking statements. Those statements involve substantial
risks and uncertainties. You can identify those statements by the fact that
they contain words such as "anticipate," "believe," "estimate," "expect,"
"intend," "project" or other terms of similar meaning. Those statements reflect
management's current beliefs, but are based on numerous assumptions, which we
cannot control and that may not develop as we expect. Consequently, actual
results may differ materially from those projected in the forward-looking
statements. Among the factors that could cause actual results to differ
materially are: uncertainty of financial estimates and projections, the
competitive environment for Internet telephony, our limited operating history,
changes of rates of all related telecommunications services, the level and rate
of customer acceptance of new products and services, legislation that may
affect the Internet telephony industry, rapid technological changes, and the
risks, uncertainties and other matters discussed below under "Risk Factors" and
elsewhere in this annual report and in our other periodic reports filed with
the U.S. Securities and Exchange Commission.


PART I

ITEM 1. BUSINESS

General

We are a provider of integrated Voice over Internet Protocol (VoIP) telephony
services. We were founded in 1996 to capitalize on the growth of the Internet
as a communications tool by commercially offering Internet Protocol (IP)
telephony services. IP telephony is the real time transmission of voice
communications in the form of digitized "packets" of information over the
Internet or a private network, similar to the way in which e-mail and other
data is transmitted. Our business currently includes: the provision of enhanced
Web-based and other communications services to individual consumers, under our
iConnectHere brand name; the provision of enhanced Web-based and other
communications services to international resellers, under either their own
brand name, a white-label brand, and/or our iConnectHere brand name; the
provision of a total "Hosted Communications Solution" that enables corporate
customers and service providers to offer private label telecommunications to
their customer bases, and; the transmission of voice and data traffic for
communications carriers.

We have built a privately-managed, global network using IP technology and offer
our customers a unique suite of IP telephony products, including: PC-to-Phone,
Phone-to-Phone, and Broadband Phone. We differentiate ourselves from our
competitors by providing a robust set of value-added services that enables us
to effectively address the challenges that have traditionally made the
provision of telecommunications services difficult. These operations management
tools include: account provisioning; payment processing systems; billing and
account management; and customer care. We are able to provide our services at a
cost to users that is generally lower than that charged by traditional carriers
because we minimize our network costs by using efficient packet-switched
technology and we generally avoid local access charges and by-pass
international settlement charges by routing international long distance calls
over our privately-managed network.

Prior to 1999, our focus was to build a privately-managed, global network
utilizing IP technology, and our business primarily consisted of carrying and
transmitting traffic for communications carriers over our network. Beginning in
1999, we began to diversify our offerings by layering enhanced IP telephony
services over our network. These enhanced services were targeted at consumers
and were primarily accessible through our consumer Web site. During 2000, we
began offering services on a co-branded or private-label basis to service
providers and other businesses to assist them in diversifying their product
offerings to their customer bases. Our privately-managed IP network received
the Best Built Public Network Award for excellence in IP services/applications
at SUPERCOMM 2000. We were also recognized as the best IP telephony provider by
SmartMoney magazine and PC World Magazine during 2000. We were recognized for
our innovative Broadband Phone offering during 2001, receiving both the TMC
Labs Innovation Award, and the Communications SOLUTIONSr magazine Product of
the Year Award. In 2001, we continued to enhance our unique strengths through
our pioneering work with the Session Initiation Protocol (SIP), an Internet
Engineering Task Force standard that has been embraced by industry leaders such
as Microsoft and the 3rd Generation Partnership Project (3GPP), which is a
global cooperation between six organizational partners who are recognized as
the world's major standardization bodies from the United States, Europe, China,
Japan and Korea. In 2001, we also announced the launch of our state-of-the-art
SIP (Session Initiation Protocol) infrastructure, and we became one of the
first service providers to have built an end-to-end SIP network. During 2002,
our continuing SIP efforts resulted in our launch of our SIP-based dialer.
These efforts continue to position us as one of the leading providers of VoIP
services.


Recent Developments

On February 6, 2003, we announced that we had received a letter from D3
Acquisition, Inc. relating to a proposal to purchase all of our outstanding
shares not held by Atarey Hasharon Chevra Lepituach Vehashkaot Benadlan (1991)
Ltd. ("Atarey") and its affiliates for a price of $0.70 per share in cash by
means of a cash tender offer. The proposal contemplates that upon successful
completion of the tender offer, D3 Acquisition would merge into us and we would
survive and continue as a wholly owned private subsidiary of Atarey. D3
Acquisition is a wholly owned special purpose acquisition corporation formed by
Atarey. Together, Atarey and its affiliates currently own approximately 71%
(20,655,402 shares) of our outstanding common stock. Our board of directors
has formed a special committee comprised of independent directors to evaluate
the proposal and negotiate its terms. The special committee of our board of
directors has retained Kaufman Bros., L.P. as its financial advisor to assist
the special committee in evaluating strategic alternatives, including a
possible sale of the company. Among other things, Kaufman Bros. is assisting
the special committee in its continuing assessment of the D3 Acquisition
proposal. Upon completion of this review process, the special committee of
independent directors will make its recommendation to our board of directors in
due course. There can be no assurance that Atarey or we will proceed with the
proposed transaction or any of the other strategic alternatives considered or
when any resulting transaction would occur. Upon our announcement that we were
evaluating the D3 Acquisition offer, litigation was commenced against our Board
members and us with respect to the transaction contemplated by the proposal.
Please see "Legal Proceedings" for a description of such litigation.


The Increasing Significance of IP Communications

Historically, the communications services industry has transmitted voice and
data over separate networks using different technologies. Traditional carriers
have typically built telephone networks based on circuit switching technology,
which establishes and maintains a dedicated path for each telephone call until
the call is terminated. Although a circuit-switched system reliably transmits
voice communications, circuit switching does not efficiently utilize
transmission capacity. When a telephone call is placed, a circuit is
established, and the circuit remains dedicated for transmission of the call and
is therefore unavailable to transmit any other call.

Data networks have typically been built utilizing packet switching technology,
such as IP, which divides signals into packets that are simultaneously routed
over different channels to a final destination where they are reassembled in
the original order in which they were transmitted. Packet switching provides
for more efficient use of the capacity in the network because the network does
not establish dedicated circuits and does not require a fixed amount of
bandwidth to be reserved for each transmission. As a result, substantially
greater traffic can be transmitted over a packet-switched network, such as the
Internet, than a circuit-switched network.

Traditional telecommunications carriers have historically avoided the use of
packet switching for transmitting voice calls due to poor sound quality
attributable to delays and lost packets which prevent real-time transmission.
However, recent improvements in packet switching, compression and broadband
access technologies, improved hardware and the use of privately-managed
networks (such as our network) have significantly improved the quality of
packet-switched voice calls, allowing for real-time transmission. Service
providers that use privately-managed networks are able to reduce packet loss
and latency, or delay, because they are able to control the amount, timing and
route of data transmitted.

As a result, packet switching technology enables service providers to converge
their traditional voice and data networks and more efficiently utilize their
networks by carrying voice, fax and data traffic over the same network. The
improved efficiency of packet-switching technology creates network cost savings
that can be passed on to the consumer in the form of lower long distance rates.
In addition, international telephone calls carried over the Internet or private
IP networks are less expensive than similar calls carried over circuit-switched
networks primarily because they bypass the international settlement process,
which represents a significant portion of international long distance tariffs.

Frost & Sullivan, a market research firm, estimates that VoIP communications
services will grow to represent approximately 75% of worldwide voice services
and revenues from the VoIP marketplace will surpass $171 billion by the end of
2007. Beyond cost savings, we believe that advanced IP communications
technologies will further the potential for the Internet to become the
preferred medium of communications and commerce.


Limitations of Existing IP Communications Solutions

Although the growth of IP telephony historically has been limited by poor sound
quality attributable to delays and packet loss, recent technological
advancements have significantly improved the quality of packet-switched
telephone calls. As a result, several large long distance carriers, including
AT&T and Sprint, have announced IP telephony service offerings.

In addition, many smaller service providers have begun to offer low-cost
Internet telephony services from PCs to telephones and from telephones to
telephones. Many of these service providers, however, offer their services only
in certain geographic areas and provide limited services. In addition, many of
these service providers rely soley on the public Internet for transmission,
rather than a privately-managed IP network. In using only the public Internet
rather than a privately-managed IP network for transmission, these service
providers have less control over the network management and monitoring
functions that are necessary to ensure quality of service.


Our Products and Services

Products.

We have built a privately-managed, global network using IP technology and offer
our customers a unique suite of IP telephony products. Our enhanced IP
communication products (which represented 60.2% and 54.8% of our revenues in
2002 and 2001, respectively) include:

PC-to-Phone. Our PC-to-Phone offering enables a user to conveniently and
inexpensively place a call to a standard telephone anywhere in the world
directly from a personal computer while remaining on-line. In order to use this
product, a user need only download our software from our Web site and have
access to the Internet. Once our software is downloaded, the user is able to
place a call from the user's personal computer and, while browsing the Web,
speak to a party who uses a standard telephone. Alternatively, users of
Microsoft's MSN Messenger software can access our PC-to-Phone product through
the "Make a phone call" function without the need to download any other
software.

We are able to provide our PC-to-Phone offering at rates generally lower than
those charged for traditional circuit switched calls. We are able to charge
lower rates because our service utilizes packet-switched technology and because
it routes calls directly from the user's Internet connection onto our
privately-managed IP network and to the called destination, thus avoiding
access and settlement rates associated with traditional international and
domestic long distance telecommunications services. PC-to-phone is currently
our most popular product offering.

Phone-to-Phone. Our Phone-to-Phone offering enables a user to inexpensively
place a call or send a fax from a standard telephone or a fax machine to
anywhere in the world. Phone-to- Phone calls originate and terminate on the
public switched telephone network (PSTN), but travel primarily over our
privately-managed IP network. Similar to our PC-to-Phone product, our
Phone-to-Phone product is generally less expensive than services of traditional
carriers. Users can access our Phone-to- Phone product by dialing a local or
toll-free access number and providing a PIN number. We currently offer
toll-free access numbers in Austria, Canada, Finland, France, Germany, Hong
Kong, Italy, Sweden, Switzerland, the United Kingdom and the United States.
Users are charged for toll and long distance calls on a per-minute basis. We
and our private-label partners receive payment for these calls by debiting
pre-paid user accounts opened on-line and through the sale of pre-paid calling
cards.

Broadband Phone. In early 2001, we successfully deployed the world's first
commercially available Broadband Phone offering. Our Broadband Phone product is
a complete phone replacement solution available to business and consumer
customers over the "last mile" through broadband connections via cable modem,
DSL or fixed wireless. Broadband Phone challenges the traditional PSTN and
circuit switched networks with a full VoIP solution. With our high call
quality, "always on" reliability and increased functionality provided by the
high bandwidth access line, we are able to offer potential partners and their
customers some of the most sophisticated VoIP solutions available in the market
through a highly scalable, low-cost and easily implemented product. Broadband
Phone is designed to take advantage of how people communicate, building on the
current customer experience by allowing them to use their existing phone. In
addition to offering traditional telecommunications capabilities, Broadband
Phone enables a user to conveniently retrieve e-mail, voice mail and faxes, as
well as send e-mail, from a single source. For our potential partners, the
turnkey solution is delivered with our full back-end infrastructure, including
customer service for end users, customer service for service providers, pricing
information, billing and provisioning and fraud services. Additionally,
Broadband Phone is a technology-neutral solution, easily integrated (a variety
of devices are available to plug directly into a PC or IP network) so as to
allow broadband providers to begin delivering our voice solution rapidly.

Carrier transmission services. In addition to our enhanced IP communication
products, in order to maximize the use of our available network capacity, we
offer carrier transmission services over our privately-managed IP network to
telecommunications carriers.

Services.

We differentiate ourselves from our competitors by providing a robust set of
value-added services that enables us to effectively address the challenges that
have traditionally made the provision of telecommunications services difficult.
These operations management tools include the following:

- - account provisioning: we provide our customers with a dedicated Web page
through which they can order additional services or accounts, generate and
activate PINs and perform other customary implementation functions;

- - payment processing systems: we provide our customers with a fraud detection
and prevention system to permit secure credit card transactions over the Web;

- - billing and account management: we provide our customers with real-time,
Web-based access to billing records to check billing and usage information or
to increase prepaid accounts; and

- - customer care: we have moved and consolidated traditional first tier
customer care functions onto the Web for ease and flexibility and support this
with second tier customer care via toll-free access.

iConnectHere

We began marketing our on-line consumer offering under the iConnectHere brand
name in September 2000 in connection with the formal roll-out of our Hosted
Communications Solution. At that time, we decided to eliminate our free on-line
service and to move away from a business model focused on consumers with a high
acquisition cost. We have positioned iConnectHere as a powerful showcase and
test facility for our current and future products and services. iConnectHere
demonstrates our products, services and hosting capabilities to other business
customers and service providers. Through iConnectHere, an account holder can
access PC- to-Phone, Phone-to-Phone, Broadband Phone and the full range of our
back-end infrastructure and support. Additionally, iConnectHere permits us to
collect usage information on our products and services and enables us to
provide our partners with key information and recommendations regarding
implementation of our products and services.


Through iConnectHere, consumer users can:

- - sign up for any of our services, including PC-to-Phone, phone-to-Phone, and
Broadband Phone;
- - download our software;
- - recharge their accounts, either by entering their credit card information or
authorizing automatic recharging;
- - send a PC-to-phone call;
- - check real-time billing and usage information;
- - communicate by e-mail with a customer service representative;
- - view answers to frequently-asked questions.

iConnectHere Marketing, Advertising and Promotional Programs

We have developed and will continue to develop diversified marketing,
advertising and promotional programs to stimulate demand for our iConnectHere
services. Our marketing, advertising and promotional programs include:

On-line agent commission program. We have developed a Web- based agent program
that allows for rapid agent enrollment and agent account maintenance. Agents
may devise their own marketing programs, including Web-links, direct mail
campaigns or co- branding of our services in select markets. Agents receive as
commissions a percentage of revenue generated from end users who sign up for
our services through the agent's Web site. We believe that providing our agents
with easy, on-line access to these marketing tools helps us to maximize the
number of agents selling our services while significantly reducing the
resources needed to recruit agents.

Off-line agent commission program. Our off-line agent commission program allows
non-Web agents to design their own marketing programs to solicit sales of our
services. Off-line agents market and advertise through traditional channels
such as newspaper and magazine advertisements, direct mail campaigns and
telemarketing campaigns. Off-line agents receive a percentage of revenue
generated from users who sign up for our services through the agent's programs.
We currently have relationships with more than 30 off-line agents that have
generated revenue for us.

Reseller program. We offer individuals and businesses the opportunity to become
resellers of our services through our reseller program. Resellers are able to
purchase bulk iConnectHere account numbers at reseller specific rates that they
are then able to resell to private individuals as either Phone-to- Phone
calling cards or PC-to-Phone accounts.

Microsoft Messenger Affiliation. Through our relationship with Microsoft, we
provide PC-to-Phone service for Microsoft MSN Messenger users, to any phone
number in the world. Within the Microsoft MSN Messenger program, choosing us
is similar to choosing a long distance provider. With a click of the mouse,
consumers can select us (under our iConnectHere brand) when utilizing the voice
function bundled into the Microsoft software applications. When consumers
choose us, we provide the network call delivery and termination as well as all
the billing and customer relationship aspects of the service. By way of this
relationship, we gain exposure to millions of current Microsoft MSN Messenger
users.

Our Hosted Communications Solution

Our "Hosted Communications Solution" leverages our VoIP expertise and delivers
to our corporate customers and service providers a highly customizable,
private-label suite of VoIP products and services. Using our award-winning
infrastructure, we enable these enterprises to offer their customers any
combination of our basic products and services, accessible through a single
account. We believe that our Hosted Communications Solution brings our
customers the value-added services they need to leverage their strong customer
bases and generate new revenues. We have dedicated significant resources to
this area of our business and anticipate significant growth in the number of
businesses to which we provide our Hosted Communications Solution.

With each new module that is added to our suite of VoIP products and services,
customers can realize new revenue streams from their existing customer base and
make their own offering even more powerful in attracting new customers. The
products and services delivered under our Hosted Communications Solution are
operative 24 hours a day, 7 days a week and are supported at all times by our
Network Operations Center ("NOC") and our customer care center.

Future Products-Broadband focus

The market for broadband access services is projected to grow significantly
over the next several years. Broadband access alone, however, is not a complete
solution. As infrastructure pipes become commodities, maintaining margin and
profitability on them is becoming increasingly difficult for service providers.
We believe that broadband market success will be determined by the ability to
layer high-margin enhanced services and applications over the infrastructure.
Market leaders will need innovative, value-added solutions to maintain
customers, reduce churn and grow their customer base.

We have been developing a suite of next-generation Broadband Phone products
that we believe will encompass a rich sub-set of the voice-related services
broadband providers will seek to deploy in the near-term. These products will
build on our original Broadband Phone offering, and include a more diverse set
of devices (both hardware devices as well as "soft-phones") along with
additional value-added functionality and features that will appeal to a wide
potential customer-base.

Our Network

In order to deliver unique VoIP services, we operate a privately-managed IP
telephony network. By managing our network, we have the ability to regulate
traffic volumes and to directly control the quality of service from each
originating point of presence ("POP") to the termination point via a variety of
termination options. In addition, our network allows us to avoid the
significant transmission delays associated with the Internet, which may impede
delivery of high quality, reliable services to our users. Since the protocols
used by the network are highly standard protocols, our IP network has a tight
connection to the public Internet, allowing us to use the Internet as a backup
facility. This unique situation, where our IP network is considered a
high-quality extension of the Internet, allows our customers to enjoy
best-of-breed functionality: high quality, low jitter and low connection delay,
on the one hand, and global reach and universal access, on the other hand.

During 2001, in conjunction with our relationship with Microsoft and over 12
months of work, we rolled out our state of the art SIP (Session Initiation
Protocol) infrastructure. Our SIP network currently powers the majority of our
offerings, including our Microsoft relationship. The SIP protocol is one of
the most advanced VoIP protocols and unlike its predecessors, which were
modeled after traditional telephony protocols, SIP has the ability to scale
with a distributed architecture and at a lower cost. SIP's superior attributes
also include faster and more cost effective development and lower hardware
requirements, which allows us to incur lower capital expenditure costs. During
2003, we intend to continue to expand our offerings on this network. At the
same time, we continue to build our SIP expertise through relationships with
other SIP leaders such as
Cisco and Microsoft.

Backbone

Our network is built around a redundant, high availability backbone that
connects Los Angeles, New York and London. In each of these locations there are
multiple interconnections or peering arrangements with Internet backbone
providers. These points are strategically located to allow access from our
network to and from the Internet with the best performance. The backbone is
based on Cisco routing equipment utilizing Hot Standby Routing Protocol. In
order to achieve maximum redundancy, our network has several connections to the
public Internet. While operating as a private extension of the Internet, the
backbone has a high level of security designed to isolate it from security
threats found on the public Internet.

Origination Access

Access to our network is possible through several points. Users may access
services through PSTN connections (toll free and local access). Carrier
transmission access is aggregated through our switch in New York or through any
one of our POPs directly. Call origination is possible from the PC-to-Phone
product, using our downloadable software client or using a Web browser,
Microsoft Messenger or Broadband Phone. These calls enter our network from the
Internet through our interconnect points with the Internet. We carefully manage
each originating port and utilize innovative capacity planning tools and
techniques to provide the best and most cost effective service to customers.

Termination

Our network can terminate calls through any of our POPs and termination
providers' POPs. Termination decisions are based on a sophisticated Least Cost
Routing system which applies routing rules based on origination point, time of
day, termination cost and other factors. These rules are constantly updated to
ensure maximum economic and quality efficiency. Our network has termination
facilities that enable us to interconnect with multiple carriers. This allows
us to refile traffic to our own switch, giving us the ability to route calls to
virtually anywhere in the world. Each termination port is carefully managed
with innovative capacity planning tools and techniques to provide the best and
most cost effective service to customers, along with multiple termination
options to ensure the highest possible levels of redundancy.

Network Services

Our network supports several application building services on the network
level, including:

Programmable Interactive Voice Response (PIVR). Our network is capable of
playing a configurable voice prompt to enable it to provide applications such
as pre-paid calling cards. PIVR services are highly programmable and can be
customized to fulfill a variety of customer needs. The configuration of the
PIVR is controlled from a central location, enabling efficient management and
faster maintenance in the event of malfunctions.

Real Time AAA. We are able to authenticate, authorize and account (AAA) for
inbound services through the network's real time radius protocol. Whether
services are pre-paid or post-paid, the network will disconnect the call when
the user's account balance runs out. These protocols interface with the billing
system to rate the calls correctly and allow access to permitted services only.
Authentication may be customized to utilize numbers, textual strings, credit
card numbers and more.

Reporting Tools. All network services are accounted for in real time,
generating Call Detail Records. These records are aggregated in real time to
both the billing systems, for rating, and to the data warehouse, which provides
access to the information by the marketing, financial, capacity planning and
operational groups through a client or Web interface using advanced OLAP cubes.

The Network Operations Center (NOC). Our NOC monitors and manages our network
from a central location, seven days a week, 24 hours a day. The NOC monitors
all aspects of our network, including the routers, databases, switches, leased
lines, Internet connections, gatekeepers and gateways, to ensure that they are
functioning at optimal levels. In the event of a failure of any of these
network components, NOC personnel are provided with a real time, systems
generated notification via an instant messaging system consisting of pagers,
cellular phones, screen pop-ups and e-mail, which identifies the malfunction so
that proper measures can be taken to restore service in a timely fashion. Our
NOC utilizes a combination of proprietary and leading industry technologies,
including Hewlett-Packard Open View software and Ericsson IPT management
console, as well as unique applications developed by us. The NOC serves all of
the different parts of our operations environment, including network nodes, Web
servers and specific applications.

Customer Care. Our services are supported by our on-line interactive customer
service and billing center, which enables an end user to set up an account,
receive an account number and a PIN, pay by credit card for services, find
answers to frequently asked questions and contact customer service
representatives. Once a user has established an account, the user can prepay
for additional usage by credit card as well as access real-time detailed
information such as call logs and transaction records. Through the on-line
billing system, a user can personalize the billing information to select the
data most relevant to them. This on-line interactive customer service and
billing center is supported by a human customer care contact center that
provides voice and e-mail support to the customers.

Proprietary Rights

We rely or expect to be able to rely on trademark and trade secret laws,
confidentiality agreements and other contractual arrangements with our
employees, strategic partners and others to protect our proprietary rights.

We have registered trademarks for "deltathreeT" and "iConnectHere.comT" in the
United States. However, these trademarks may not provide adequate protection
against competitive technology and may not be held valid and enforceable if
challenged. We do not own any registered copyrights.

To further safeguard our intellectual property, we have a policy that requires
our employees to execute confidentiality and technology ownership agreements
when they begin their relationships with us.

Regulatory Environment


Regulation of IP Telephony

The use of the Internet and private IP networks to provide telephone service is
a recent market development. While the provision of voice communication
services over the Internet and private IP networks is currently permitted under
United States law, some foreign countries have laws or regulations that may
prohibit voice communications over the Internet or using private IP networks.
Increased regulation of the Internet may slow its growth, particularly if many
countries impose restrictive regulations. Increased regulation of the Internet
and/or IP telephony providers or the prohibition of Internet and IP telephony
in one or more countries, more aggressive enforcement of existing regulations
in such countries or our failure or the failure of our network partners to
comply with applicable regulations could materially adversely affect our
business, financial condition, operating results and future prospects.

United States. Based on information users provide to us when they signed up
to use our services, we estimate that approximately 60% of our IP
communications services are provided to carriers or users in the United States.
We believe that, under United States law, based on specific regulatory
classifications and recent regulatory decisions, the IP communications services
that we provide constitute information services (as opposed to regulated
telecommunications services). As such, our services are not currently regulated
by the Federal Communications Commission (FCC) or state agencies charged with
regulating telecommunications carriers. Nevertheless, aspects of our operations
may be subject to state or federal regulation, including regulation governing
universal service funding, payment of access charges, disclosure of
confidential communications and tax issues. However, we cannot assure you that
our services will not be regulated in the future. Several efforts have been
made in the United States to enact federal legislation that would either
regulate or exempt from regulation communications services provided over the
Internet.

In addition, the FCC is currently considering reforms to universal service
funding and may consider whether to impose various types of charges or other
common carrier regulations upon some providers of Internet and IP telephony.
The FCC stated in April 1998 that it did not have an adequate record on which
to make a definitive ruling, but that the record suggested that certain forms
of phone-to-phone IP telephony appear to have the same functionality as non-IP
telecommunications services and lack the characteristics that would render them
information services. More recently, the FCC has stated that the development of
new technologies, such as IP telephony, may increase the strain on universal
service funding. In that regard, the FCC is currently reviewing whether to
extend universal service obligations to non- traditional providers such as
facilities-based providers of broadband Internet services.

Two other carriers have asked the FCC to make definitive rulings regarding the
classification of their IP telephony services. Thus, the regulatory
classification issue is now before the FCC, although only in the context of
these two specific service offerings. However, the FCC has indicated that it
plans to address the regulatory and compensation issues posed by IP telephony
services in the near future. Any ruling by the FCC on the regulatory
considerations affecting Internet and IP telephony services will affect our
operations and revenues.

If the FCC were to determine that certain services are subject to FCC
regulations as telecommunications services, the FCC might require providers of
Internet and IP telephony services to be subject to traditional common carrier
regulation, make universal service contributions and/or pay access charges. It
is also possible that the FCC may adopt a regulatory framework other than
traditional common carrier regulation, which would apply to Internet and IP
telephony providers.

State regulatory authorities may also retain jurisdiction to regulate the
provision of, and impose charges on, intrastate Internet and IP telephony
services. Several state regulatory authorities have initiated proceedings to
examine the regulation of such. The majority of states that have looked at the
regulation of IP telephony services have deferred consideration of the issue
pending the outcome of the FCC's proceedings. Although, at least one state has
ordered that access charges apply to the termination of IP telephony calls. In
addition, several state commissions have participated in the FCC's proceedings
and have advocated imposing traditional common carrier regulation on Internet
and IP telephony providers.


International. The regulatory treatment of Internet and IP telephony outside
of the United States varies widely from country to country. A number of
countries that currently prohibit competition in the provision of voice
telephony may also prohibit Internet and IP telephony. Other countries permit,
but regulate Internet and IP telephony. Some countries will evaluate proposed
Internet and IP telephony service on a case-by-case basis and determine whether
it should be regulated as a voice service or as another telecommunications
service. Finally, in many countries Internet and IP telephony has not yet been
addressed by legislation or regulatory action.

With respect to the European Union, we believe that our services fall outside
the classification of regulated voice telephony services. The current European
Union regulatory regime distinguishes between voice telephony services and
other telecommunications services. In January 1998 and again in December 2000,
the European Commission concluded that IP telephony did not at that time meet
the definition of "voice telephony" subject to member state's regulation.
However, the Commission noted that some forms of IP telephony could be
considered voice telephony, for example, where an IP telephony service is
marketed as an alternative form of voice telephony service, users can dial out
to any telephone number, and the provider guarantees the quality of the IP
voice service by bandwidth reservation and claims that the quality of the IP
voice service is the same as traditional voice telephony service.

A determination by the European Commission that IP telephony constitutes "voice
telephony" may trigger significant regulatory consequences with respect to,
among other things, licensing requirements and contributions to universal
service funding. In addition, the Commission has adopted directives for a new
framework for electronic communications regulation that, in part, attempt to
harmonize the regulations that apply to services regardless of the technology
used by the provider. We cannot predict what future actions the European
Commission may take regarding IP telephony and related matters, or what impact,
if any, such actions may have on our business.

Based on the Commission's current position, we believe that providers of IP
telephony should be subjected to no more than a general authorization or
declaration requirement by the European Union Member States. The Member States
of the European Union are: Austria, Belgium, Denmark, Finland, France, Germany,
Greece, Ireland, Italy, Luxembourg, The Netherlands, Portugal, Spain, Sweden
and the United Kingdom. However, since the Commission's findings on IP
telephony are not binding on the Member States, we cannot assure you that the
services provided over our network will not be deemed "voice telephony" subject
to heightened regulation by one or more EU Member States.

As we make our services available in foreign countries, and as we facilitate
sales by our network partners to end users located in foreign countries, such
countries may claim that we are required to qualify to do business in the
particular foreign country. Such countries may also claim that we are subject
to regulation, including requirements to obtain authorization for the provision
of voice telephony or other telecommunications services, or for the operation
of telecommunications networks. It is also possible that such countries may
claim that we are prohibited in all cases from providing our services or
conducting our business as conducted in those countries.

Our network partners may also currently be, or in the future may become,
subject to requirements to qualify to do business in a particular foreign
country, comply with regulations, including requirements to obtain
authorizations for the provision of voice telephony or other telecommunications
services or for the operation of telecommunications networks, or to cease
providing services or conducting their business as conducted in that country.
We cannot be certain that our network partners either are currently in
compliance with any such requirements, will be able to comply with any such
requirements, and/or will continue in compliance with any such requirements.

Other Regulation Affecting the Internet

United States. Congress has recently adopted legislation that affects certain
aspects of the Internet, including on-line content, user privacy, national
security and taxation. For example, the extension of the Internet Tax Freedom
Act prohibits certain taxes on Internet uses through November 1, 2003. We
cannot predict whether substantial new taxes will be imposed on our services
after that date. In addition, Congress, the FCC and other federal entities are
considering other legislative and regulatory proposals that would further
affect the Internet, including with regard to broadband networks used to
support high- speed Internet access services. Congress is, for example,
currently considering legislation on a wide range of issues including Internet
spamming, database privacy, gambling, pornography and child protection,
Internet fraud and privacy. Various states have adopted and are considering
Internet-related legislation.

International. The European Union has also enacted several directives relating
to the Internet. The European Union has, for example, adopted a directive on
data protection that imposes restrictions on the processing of personal data.
Under the directive, personal data may not be collected, processed, used for
other purposes or transferred outside the European Union unless certain
specified conditions are met. In addition, persons whose personal data is
processed within the European Union are guaranteed a number of rights. The
directive may affect companies that collect or transmit information over the
Internet from individuals in the European Union Member States. In particular,
companies with establishments in the European Union may not be permitted to
transfer personal data to countries that do not maintain adequate levels of
data protection.

In addition, the European Union has adopted a separate, complementary privacy
directive that pertains to the telecommunications sector. This directive
establishes certain requirements with respect to, among other things, the
confidentiality, processing and retention of subscriber traffic and billing
data, security of services and networks, subscriber rights to non-itemized
bills, and the presentation and restriction of calling and connected line
identification. In addition, a number of European countries outside the
European Union have adopted, or are in the process of adopting, rules similar
to those set forth in the European Union directives. Although we do not engage
in the collection of data for purposes other than routing calls and billing for
our services, the data protection directives are quite broad and the European
Union privacy standards are stringent. Accordingly, the potential effect of
these data protection rules on the development of our business is uncertain.

Competition

We compete primarily in the market for enhanced IP communications services.
This market is highly competitive and has numerous service providers.

The market for enhanced Internet and IP communications services is new and
rapidly evolving. We believe that the primary competitive factors determining
our success, in the Internet and IP communications market are:

- - quality of service;
- - the ability to meet and anticipate customer needs through multiple service
offerings;
- - responsive customer care services;
- - price.

Future competition could come from a variety of companies both in the Internet
and telecommunications industries. These industries include major companies who
have greater resources and larger subscriber bases than we have, and have been
in operation for many years. We also compete in the growing market of discount
telecommunications services including calling cards, prepaid cards, call-back
services, dial-around or 10-10 calling and collect calling services. In
addition, some Internet service providers have begun to aggressively enhance
their real time interactive communications, focusing initially on instant
messaging, although we expect them to begin to provide PC-to- Phone services.

IP Telephony Providers. Many companies provide, or are planning to provide,
certain portions of the complete communications solution we offer, including
Net2Phone, iBasis, Inc. and ITXC Corp.

Traditional Telecommunications Carriers.

Several traditional telecommunications companies, including industry leaders
such as AT&T, Sprint, Deutsche Telekom, WorldCom and Qwest Communications
International, have announced their intention to offer enhanced Internet and IP
communications services in both the United States and internationally. All of
these competitors are significantly larger than we are and have:

- - substantially greater financial, technical and marketing resources;
- - larger networks;
- - a broader portfolio of services;
- - stronger name recognition and customer loyalty;
- - well-established relationships with many of our target customers;
- - an existing user base to which they can cross-sell their services.

These and other competitors may be able to bundle services and products that
are not offered by us together with enhanced Internet and IP communications
services, which could place us at a significant competitive disadvantage. Many
of our competitors enjoy economies of scale that can result in lower cost
structure for transmission and related costs, which could cause significant
pricing pressures within the industry.

Employees

As of December 31, 2002, we employed 69 full-time and 27 part-time employees,
of which 77 were located in Israel, and 19 were located in New York. We
consider our relationship with our employees to be good. None of our employees
is covered by collective bargaining agreements.

Generally, all male adult citizens and permanent residents of Israel under the
age of 51 are, unless exempt, obligated to perform up to 31 days of military
reserve duty annually. Additionally, all such residents are subject to being
called to active duty at any time under emergency circumstances. Some of our
officers and employees are currently obligated to perform annual reserve duty.
While we have operated effectively under these requirements since we began
operations, no assessment can be made as to the full impact of such
requirements on our workforce or business if conditions should change, and no
prediction can be made as to the effect on us of any expansion of such
obligations.

ITEM 2. PROPERTIES

We maintain our executive offices at 75 Broad Street, New York, New York under
a lease with an annual rent of approximately $650,000, increasing annually to
$870,000 during the final year of the lease. The lease term extends until July
2010, with an option to extend the lease for an additional five years.

We lease a 1,440 square meter office, which houses our research and development
facilities, at the Jerusalem Technology Park, Jerusalem, Israel at an annual
cost of $ 292,000. The lease term that expired in February 2003 contained an
option to extend the lease for an additional five years. In June 2002 we signed
an extension agreement for additional three years, commencing February 2003, at
an annual cost of $201,600, for 1,056 square meters, with the remaining 384
square meters to be returned to the building owner.

ITEM 3. LEGAL PROCEEDINGS

On October 8, 1999, Aerotel, Ltd. and Aerotel U.S.A. commenced a suit against
us, RSL COM and an RSL COM subsidiary in the United States District Court for
the Southern District of New York. Aerotel alleges that we are infringing on a
patent issued to Aerotel in November 1987 by making, using, selling and
offering for sale prepaid telephone card products in the United States. Aerotel
seeks an injunction to stop us from using the technology covered by this
patent, monetary damages in an unspecified amount and reimbursement of
attorneys' fees. We have answered the complaint, the parties engaged in
pre-trial discovery, and the case remains at a preliminary stage. We believe
that we have meritorious defenses to the claims and we intend to defend the
lawsuit vigorously. However, the outcome of the litigation is inherently
unpredictable and an unfavorable result may have a material adverse effect on
our business, financial condition and results of operations. Regardless of the
ultimate outcome, the litigation could result in substantial expenses to us and
significant diversion of efforts by our managerial and other personnel.

We, as well as certain of our former officers and directors, have been named as
defendants in a number of purported securities class actions in Federal
District Court for the Southern District of New York, arising out of our
initial public offering in November 1999 (the "IPO"). Various underwriters of
the IPO also are named as defendants in the actions. The complaints allege,
among other things, that the registration statement and prospectus filed with
the Securities and Exchange Commission for purposes of the IPO were false and
misleading because they failed to disclose that the underwriters allegedly (i)
solicited and received commissions from certain investors in exchange for
allocating to them shares of our stock in connection with the IPO and (ii)
entered into agreements with their customers to allocate such stock to those
customers in exchange for the customers agreeing to purchase additional shares
in the aftermarket at predetermined prices. On August 8, 2001, the court
ordered that these actions, along with hundreds of IPO allocation cases against
other issuers, be transferred to Judge Scheindlin for coordinated pre-trial
proceedings. In July 2002, omnibus motions to dismiss the complaints based on
common legal issues were filed on behalf of all issuers and underwriters. On
February 19, 2003, the Court issued an opinion granting in part and denying in
part those motions to dismiss. The complaint against the Company was not
dismissed as a matter of law. These cases remain at a preliminary stage and no
discovery proceedings have taken place. We believe that the claims asserted
against us in these cases are without merit and intend to defend ourselves
vigorously against them.

On February 12, 2003 we announced that four lawsuits had been filed against us,
our officers and directors, and our majority stockholder, Atarey Hasharon
Chevra Lepituach Vehashkaot Benadlan (1991) Ltd. ("Atarey"), in connection with
our formation of the special committee to evaluate the proposal by Atarey to
purchase all of our outstanding shares of common stock not held by Atarey and
its affiliates. On February 6, 2003, we issued a press release in connection
with the proposed transaction. The lawsuits purport to be class actions on
behalf of our public stockholders. The plaintiffs in these actions have
asserted a variety of claims, including allegations that Atarey's proposed
tender offer price for our publicly held shares is unfair and grossly
inadequate; and that our officers and directors have breached their fiduciary
duties to the public stockholders. Each of the lawsuits has been filed in the
Delaware Court of Chancery in and for New Castle County. We do not believe
that these lawsuits state valid claims against us or any of our officers or
directors.

We are not a party to any other material litigation and are not aware of any
other pending or threatened litigation that could have a material adverse
effect on us or our business taken as a whole.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.

PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS

Market Information

Our common stock is currently listed on the Nasdaq SmallCap Market under the
symbol "DDDC". The listing of our common stock was transferred from the Nasdaq
National Market to the Nasdaq SmallCap Market effective on September 17, 2002.
Our common stock had traded on the Nasdaq National Market under the symbol
"DDDC" since November 22, 1999. We currently meet all criteria for continued
inclusion in the Nasdaq SmallCap Market except for the $1.00 minimum bid price
per share requirement. We currently have a grace period until September 1, 2003
to demonstrate a closing bid price of at least $1.00 for a minimum of ten
consecutive trading days, provided we can demonstrate that we remain in
compliance with the Nasdaq SmallCap Market's initial listing standards, based
on Nasdaq's most recent rules. Nasdaq regulations allow for the transfer back
to the Nasdaq National Market should we maintain a minimum bid price of $1.00
for at least 30 consecutive trading days by September 1, 2003, and comply at
all times with other applicable continued listing requirements for the Nasdaq
National Market.

The following table sets forth the per share range of high and low closing
sales prices of our common stock for the periods indicated:

High Low
------ -----
Year ended December 31, 2000
First quarter $62.38 $18.00
Second quarter 21.38 5.75
Third quarter 15.00 3.56
Fourth quarter 5.44 1.19
Year ended December 31, 2001
First quarter 3.50 1.03
Second quarter 1.61 0.60
Third quarter 0.98 0.26
Fourth quarter 0.93 0.52
Year ended December 31, 2002
First quarter 1.25 0.75
Second quarter 1.08 0.60
Third quarter 0.63 0.34
Fourth quarter 0.90 0.37
Year ended December 31, 2003
First quarter (through March 27th, 2003) 0.68 0.48


On March 27, 2003, the last reported sale price for our common stock on the
Nasdaq SmallCap Market was $0.55 per share. The market price for our stock is
highly volatile and fluctuates in response to a wide variety of factors.

Holders

As of March 27, 2003, we had approximately 129 holders of record of our common
stock. This does not reflect persons or entities who hold their stock in
nominee or "street" name through various brokerage firms.

Dividend Policy

We have never declared or paid any cash dividends on our capital stock. We do
not anticipate paying any cash dividends on our capital stock in the
foreseeable future. We currently intend to retain future earnings, if any, to
finance our operations and to expand our business. Any future determination to
pay cash dividends will be at the discretion of our board of directors and will
be dependent upon our financial condition, operating results, capital
requirements and other factors that our board of directors considers
appropriate.

Equity Compensation Plan Information

The following table provides certain aggregate information with respect to all
of our equity compensation plans in effect as of December 31, 2002:

Plan Category Number of Weighted Number of
Securities to Average Securities
be Issued Upon Exercise Price Remaining
Exercise of of Outstanding Available for
Outstanding Options, Future Issuance
Options, Warrants and Under Equity
Warrants and Rights Compensation
Rights Plans
(excluding
securities
reflected in
first column)
-------------- -------------- --------------- ----------------
Equity 3,449,520 $2.87 550,480
Compensation
Plans Approved
by Security
Holders (1)
-------------- -------------- --------------- ----------------
Equity N/A N/A N/A
Compensation
Plans not
Approved by
Security
Holders
-------------- -------------- --------------- ----------------
Total 3,449,520 $2.87 550,480
-------------- -------------- --------------- ----------------
(1) These plans consist of our 1999 Stock Incentive Plan, 1999 Directors'
Plan, and 1999 Employee Stock Purchase Plan.

Recent Sales of Unregistered Securities

None.

Use of Proceeds

On November 22, 1999, we offered 6,000,000 shares of our common stock in an
initial public offering. These shares were registered with the Securities and
Exchange Commission on a registration statement on Form S-1 (file no.
333-86503), which became effective on November 22, 1999. We received net
proceeds of approximately $96,255,000 from the sale of 6,900,000 shares at the
initial public offering price of $15.00 per share after deducting underwriting
commissions and discounts and expenses of approximately $6,300,000. The
managing underwriters for our initial public offering were Lehman Brothers
Inc., Merrill Lynch & Co., U.S. Bancorp Piper Jaffray, Lazard Freres & Co. LLC
and Fidelity Capital Markets.

Through December 31, 2002, we used approximately $33 million of the net
proceeds for sales, marketing and promotional activities, $20 million for
capital expenditures and $13 million for general corporate purposes. Pending
use of the remaining net proceeds, we have invested the remaining net proceeds
in interest-bearing, investment-grade instruments, certificates of deposit, or
direct or guaranteed obligations of the United States.

ITEM 6. SELECTED FINANCIAL DATA

We derived the selected consolidated financial data presented below from our
consolidated financial statements and related notes included in this annual
report. You should read the selected consolidated financial data together with
our consolidated financial statements and related notes and the section of this
annual report entitled "Management's Discussion and Analysis of Financial
Condition and Results of Operations." Brightman Almagor & Co., a member firm of
Deloitte Touche, independent certified public accountants, audited our
historical financial statements since inception and as of and for the years
ended December 31, 1998, 1999, 2000, 2001 and 2002. Their report appears
elsewhere in this annual
report.




Year Ended December 31,
-----------------------------------------------
1998 1999 2000 2001 2002
(In thousands, except share data)

Statement of Operations Data:
Revenues:
Affiliates $3,896 $7,431 $13,977 $1,669 $ -
Non-affiliates 1,742 3,621 16,399 13,991 12,929
Total revenues 5,638 11,052 30,376 15,660 12,929
Costs and operating expenses:
Cost of revenues, net (4,459) (9,723) (24,932) (13,486) (8,934)

Research and development expenses, net (650) (1,233) ( 6,625) ( 5,648) (3,435)
Selling and marketing expenses (2,431) (7,403) (20,548) ( 7,800) (3,910)
General and administrative (1,842) (2,754) ( 6,694) ( 6,982) (2,158)
expenses (exclusive of non-cash
compensation expense)
Non-cash compensation expense ( 743) (19,116) ( 6,331) (825) (270)
Depreciation and amortization (2,671) ( 3,721) ( 7,919) ( 8,996) (6,606)
Write-down of fixed assets - - - ( 1,003) -
Expenses due to cancellation of - - - ( 3,628) -
supplier agreement
Impairment of goodwill - - ( 8,905) ( 4,151) -
Total costs and operating expenses (12,796) (43,950) (81,954) (52,519) (25,313)
Loss from operations ( 7,158) (32,898) (51,578) (36,859) (12,384)
Interest income (expense), net ( 186) (873) 3,632 1,677 448
Minority interest 223 - - - -
Income taxes - - (311) (552) (141)
Net loss $( 7,121)$(33,771) $(48,257) $(35,734) $(12,077)
Net loss per share - basic and $ (0.37) $(1.65) $ (1.67) $ (1.23) $ (0.42)
diluted
Weighted average shares outstanding 19,254 20,418 28,833 29,035 28,886
- - basic and diluted

Year Ended December 31,
---------------------------------------------
1998 1999 2000 2001 2002
(In thousands)
Balance Sheet Data:
Cash and cash equivalents $ 1,357 $89,957 $20,857 $13,583 $5,681
Short-term investments - 11,276 30,542 14,192 15,552
Working capital (deficiency) (3,232) 82,942 43,538 23,374 17,675
Total assets 25,676 126,832 86,169 45,869 32,197
Long-term debt due to affiliates 5,107 - - - -
Total stockholder's equity 12,370 102,580 72,479 38,921 27,114
(deficiency)



ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The following discussion of our financial condition and results of operations
should be read together with our consolidated financial statements and the
related notes thereto included in another part of this annual report. This
discussion contains certain forward-looking statements that involve substantial
risks and uncertainties. When used in this report the words "anticipate,"
"believe," "estimate," "expect" and similar expressions as they relate to our
management or us are intended to identify such forward-looking statements. Our
actual results, performance or achievements could differ materially from those
expressed in, or implied by, these forward-looking statements. Historical
operating results are not necessarily indicative of the trends in operating
results for any future period.
Overview

We are a provider of integrated Voice over Internet Protocol (VoIP) telephony
services. We were founded in 1996 to capitalize on the growth of the Internet
as a communications tool by commercially offering Internet Protocol (IP)
telephony services. IP telephony is the real time transmission of voice
communications in the form of digitized "packets" of information over the
Internet or a private network, similar to the way in which e-mail and other
data is transmitted. Our business currently includes the provision of enhanced
Web-based and other communications services to individual consumers, under our
iConnectHere brand name, the provision of a total "Hosted Communications
Solution" that enables corporate customers and service providers to offer
private label telecommunications to their customer bases, and the transmission
of voice and data traffic for communications carriers.

Prior to 1999, our focus was to build a privately-managed, global network
utilizing IP technology. Our business primarily consisted of carrying and
transmitting traffic for communications carriers over our network. Beginning in
1999, we began to diversify our offerings by layering enhanced IP telephony
services over our network. These enhanced services were targeted at consumers
and were primarily accessible through our consumer Web site. During 2000, we
began offering services on a co-branded or private-label basis to service
providers and other businesses to assist them in diversifying their product
offerings to their customer bases. In early 2001, we deployed our Broadband
Phone offering - a complete phone replacement solution available to business
and consumer customers over the "last mile" through broadband connections via
cable modem, DSL or fixed wireless. In 2001, we also announced the launch of
our state-of-the-art SIP (Session Initiation Protocol) infrastructure, and we
became one of the first service providers to have built an end-to-end SIP
network. During 2002, our continuing SIP efforts resulted in our launch of our
SIP-based dialer. These efforts are designed to position us as a leading
provider of VoIP services.

Factors Affecting Future Results

Industry and Economic Factors: Our operations and earnings are affected by
local, regional and global events or conditions that affect supply and demand
for telecommunications products and services. These events or conditions are
generally not predictable and include, among other things, general economic
growth rates and the occurrence of economic recessions; the development of new
supply sources; supply disruptions; technological advances, including advances
in telecommunications technology and advances in technology relating to
telecommunications usage; changes in demographics, including population growth
rates and consumer preferences; and the competitiveness of alternative
telecommunications sources or product substitutes. Currently, the economy in
general and the telecommunications industry in particular are suffering. A
number of the leading telecommunications companies have seen their market
capitalizations decrease dramatically and some have filed for bankruptcy
protection. As a result, raising capital has become extremely difficult, there
is extreme pressure on the pricing of telecommunications services and potential
customers and partners have sharply cut back on expenditures, all of which
impact us.


Competitive Factors: The telecommunications industry is highly competitive.
There is competition within the traditional telecommunications marketplaces
(landline and wireless) and also with other emergent "next generation"
telecommunications providers, including IP telecommunications providers in
supplying the overall telecommunications needs of businesses and individual
consumers. We compete with other telecommunications firms in the sale and
purchase of various products and services in many national and international
markets and employ all methods of competition which are lawful and appropriate
for such purposes. A key component of our competitive position, particularly
given the commodity-based nature of many of our products, is our ability to
manage operating expenses successfully, which requires continuous management
focus on reducing unit costs and improving efficiency.

Political Factors: Our operations and earnings have been, and may in the future
be, affected from time to time in varying degree by political instability and
by other political developments and laws and regulations, such as forced
divestiture of assets; restrictions on production, imports and exports; war or
other international conflicts; civil unrest and local security concerns that
threaten the safe operation of company facilities; price controls; tax
increases and retroactive tax claims; expropriation of property; cancellation
of contract rights; and telecommunications regulations. Both the likelihood of
such occurrences and their overall effect upon us vary greatly from country to
country and are not predictable.

Project Factors: In addition to the factors cited above, the advancement, cost
and results of particular projects depend on the outcome of negotiations with
potential partners, governments, suppliers, customers or others; changes in
operating conditions or costs; and the occurrence of unforeseen technical
difficulties.

Risk Factors: See "-Risk Factors" below for discussion of the impact of market
risks, financial risks and other uncertainties.

Revenues

Prior to June 28, 2001, our majority shareholder was RSL COM, a large
telecommunications provider, who was also our largest customer. As such, for
financial reporting purposes for fiscal year 2001 and prior years, revenues
were derived from affiliates and non-affiliates. Revenues from affiliates
consist of revenues received from RSL COM for the carrier transmission and
calling card services we provided to RSL COM, prior to Atarey's acquisition of
RSL COM's holdings of our stock. The majority of the services we provided to
RSL COM were resold by RSL COM to other communications companies, and the
remainder were used directly by RSL COM's customers. Carrier transmission
services to RSL COM accounted for 0% of our total revenues in 2002 and 10.7% of
our total revenues in 2001.

Revenues from non-affiliates consist of revenues from end- users of our
enhanced IP communications services, including PC-to- Phone and Phone-to-Phone,
which are generated by our both our consumer offering, iConnectHere, and our
Hosted Communications Solution, and revenues from carriers other than RSL COM
for carrier transmission services. All revenues are recognized as the services
are performed. The provision of enhanced IP communications services (primarily
PC-to-Phone) through iConnectHere accounted for 43.3% and 32.7% of our total
revenues in 2002 and 2001, respectively, while the provision of enhanced IP
communications services through our Hosted Communications Solution sales
efforts accounted for 16.9% and 22.1% of our total revenues in 2002 and 2001,
respectively. Carrier transmission services to non-affiliates accounted for
10.9% and 11.2% of our total revenues in 2002 and 2001, respectively.

Costs and Operating Expenses

Costs and operating expenses consist of cost of revenues, research and
development expenses, selling and marketing expenses, general and
administrative expense, depreciation and amortization of goodwill, non-cash
stock compensation, write-down of fixed assets, expenses due to cancellation of
agreement with a supplier and impairment of goodwill related expenses.

- - Cost of revenues consist primarily of access, termination and transmission
costs paid to carriers that we incur when providing services and fixed costs
associated with leased transmission lines. The term of our contracts for leased
transmission lines is generally one year, or less, and either party can
terminate with prior notice.

- - Research and development expenses consist primarily of costs
associated with establishing our network and the initial testing of our
services and compensation expenses of software developers involved in new
product development and software maintenance. In the future, these expenses may
fluctuate as a percentage of revenue depending on the project undertaken during
the reporting period. Since our inception, we have expensed all research and
development costs in each of the periods in which they were incurred.

- - Selling and marketing expenses consist primarily of advertising and
promotional expenses incurred to attract potential consumer users of
iConnectHere and expenses associated with our direct sales force incurred to
attract potential business customers and service providers for our Hosted
Communications Solution. We expect to decrease our overall selling and
marketing expenses as we focus our attention on growing the percentage of sales
related to our Hosted Communications Solution. We anticipate that as we add new
paid users we will be able to spread these costs over a larger revenue
base and accordingly improve our operating margins.

- - General and administrative expenses consist primarily of
compensation and benefits for management, finance and administrative personnel,
occupancy costs and legal and accounting fees, as well as the expenses
associated with being a public company, including the costs of directors' and
officers' insurance.

We have not recorded any income tax benefit for net losses and credits incurred
for any period from inception to December 31, 2002. The utilization of these
losses and credits depends on our ability to generate taxable income in the
future. Because of the uncertainty of our generating taxable income, we have
recorded a full valuation allowance with respect to these deferred assets.

We recognized $6.3 million in non-cash compensation expense in 2000, $825,000
in 2001, and $270,000 in 2002.

Critical Accounting Policies

Our established policies are outlined in the footnotes to the Consolidated
Financial Statements (contained in Part IV, Item 15 of this Form 10-K) entitled
"Note 2 - Summary of significant accounting policies". As part of its oversight
responsibilities, our management evaluates the propriety of its accounting
methods as new events occur. We believe that our policies are applied in a
manner which provides the reader of our financial statements a current,
accurate and complete presentation of information in accordance with U.S.
Generally Accepted Accounting Principles. Principal accounting practices that
require the use of assumptions and judgments are outlined below:

Revenue recognition and deferred revenue: We record revenue from Internet
telephony services based on minutes (or fractions thereof) of customer usage.
We record payments received in advance for prepaid services and services to be
supplied under contractual agreements as deferred revenue until such related
services are provided. We estimate the allowance for doubtful accounts by
reviewing the status of significant past due receivables and analyzing
historical bad debt trends and we then reduce accounts receivables by such
allowance for doubtful accounts to expected net realizable value.

Expenses: Cost of revenues is comprised primarily of access, transmission and
termination costs based on actual minutes in addition to monthly circuit lease
costs and is net of reimbursements from vendors. Research and development
expenses, net of reimbursements from vendors, are expensed as incurred.
Advertising expenses are expensed as incurred.

Long-lived Assets: Property and equipment are stated at cost. Depreciation is
calculated using the straight-line method over the estimated useful lives of
the depreciable assets, which range from two to five years. Improvements are
capitalized, while repair and maintenance costs are charged to operations as
incurred. In accordance with SFAS 121, our long-lived assets are reviewed for
impairment on a quarterly basis and whenever events or changes in
circumstances occur indicating that the net carrying amount may not be
recoverable. We review for impairment by comparing the carrying value of the
long-lived asset to the estimated undiscounted future cash flows expected to
result from the use of the long-lived assets (and their eventual disposition).
If the sum of the expected undiscounted future cash flows is less than the
carrying amount of assets, we would recognize an impairment loss. The
impairment loss, if determined to be necessary, would be measured as the
amount by which the carrying amount of the long-lived asset exceeds the fair
value of the long-lived asset based on estimated future discounted cash flows.
Effective December 1, 2001, we adopted SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," (SFAS 144) which addresses
financial accounting and reporting for the recognition and measurement of
impairment and disposal of long-lived assets. SFAS 144 supersedes SFAS No.
121. The adoption of SFAS 144 did not have a material effect on our
consolidated financial position or results of operations.

Results of Operations

The following table sets forth the statement of operations data presented as a
percentage of revenues for the periods indicated:

2000 2001 2002
-------- ------- -------
Year Ended December 31,
--------------------------
Revenues:
Affiliates 46.0% 10.7% 0.0%
Non-affiliates
54.0 89.3 100.0
Total revenues ----- ------ -------
100.0 100.0 00.0
Costs and operating expenses:
Cost of revenues, net 82.1 86.0 69.1
Research and development expenses, net 21.8 36.0 26.6
Selling and marketing expenses 67.6 49.8 30.2
General and administrative expenses
(exclusive of non-cash 22.0 44.6 16.7
compensation expense)
Non-cash compensation expense 20.8 5.3 2.1
Depreciation and amortization 26.1 57.4 51.1
Write down of fixed assets - 6.4 0.0
Expenses due to cancellation of supplier agreement - 23.2 0.0
Impairment of goodwill 29.3 26.5 0.0
Total revenues ----- ------ ------
Total costs and operating expenses 269.8 335.3 95.8
Total revenues ------ ------- ------
Loss from operations (169.8) (235.3) (95.8)
Interest income (expense), net 12.0 10.7 3.5
Income taxes 1.0 ( 3.5) ( 1.1)
------ ------- ------
(158.9)% (228.2)% (93.4)%
======== ======== =======
Comparison of 2002 and 2001

Revenues

Affiliates. There were no revenues from affiliates in 2002, compared to $1.7
million in 2001.The decrease in revenues from affiliates was due to the sale of
all of our Class B Common Stock, representing majority ownership of us, on June
29, 2001 by RSL Communications, Ltd. ("RSL COM") and our disconnection from the
RSL COM network.After June 29, 2001, there were no further revenues from
affiliates, and we do not anticipate receiving revenues from affiliates in the
future.

Non-affiliates. Revenues from non-affiliates decreased approximately $1.1
million or 7.9% to approximately $12.9 million in 2002 from approximately $14.0
million in 2001. Revenues from enhanced IP communications services (including
our Hosted Communications Solution) decreased by approximately $0.7 million or
5.7% to approximately $11.5 million in 2002 from approximately $12.2 million in
2001, due to a lesser number of new Hosted Communications Solution partners,
yielding lower up-front integration fees, and partially offset by a greater
number of PC- to-Phone and Phone-to-Phone calls being placed by an increasing
user base.

Revenues from carrier transmission services, for telecommunications carriers
other than RSL COM, decreased by approximately $0.4 million or 22.2% to
approximately $1.4 million in 2002 from approximately $1.8 million in 2001, due
primarily to decreased demand from a smaller customer base. No customer (other
than RSL COM in 2001) accounted for greater than 10% of our revenues during
these periods.

Costs and Operating Expenses

Cost of revenues. Cost of revenues decreased by $4.6 millionor34.1% to $8.9
million in 2002 from $13.5 million in 2001,due primarily to a decrease in the
amount of traffic being terminated.

Research and development expenses. Research and development expenses decreased
by $2.2 million or 39.3% to $3.4 million in 2002 from $5.6 million in 2001, due
to lower personnel costs associated with the development of new services and
enhancements to our existing services.

Selling and marketing expenses. Selling and marketing expenses decreased by
$3.9 million or 50.0% to $3.9 million in 2002 from $7.8 million in 2001, due to
a significant decrease in branding and promotional activities.

General and administrative expenses. General and administrative expenses
decreased by $4.8 millionor68.6%to $2.2 million in 2002 from $7.0 million in
2001, primarily due to decreased personnel and occupancy costs.

Non-cash compensation expenses. Non-cash compensation expenses decreased by
$0.5 million or 62.5% to $0.3 million in 2002 from $0.8 million in 2001, due to
our impairment of goodwill during 2001. Consequently, there were no goodwill
related expenses during 2002.

Depreciation and amortization of goodwill. Depreciation and amortization of
goodwill increased by $2.4 million or 26.7% to $6.6 million in 2002 from $9.0
million in 2001, due to our on- going purchase, and subsequent depreciation of
fixed assets.
Loss from Operations

Loss from operations decreased by $24.5 million or 66.4% to $12.4 million in
2002 from $36.8 million in 2001, due primarily to the decrease in costs and
operating expenses, including non- cash compensation expenses and selling and
marketing expenses. We expect to continue to incur losses for the foreseeable
future.

Interest (Expense) Income, Net

Interest income decreased by $1.3million or 76.5% to $0.4 million in 2002 from
$1.7 million in 2001, due primarily to lower interest rates earned on a reduced
balance of remaining proceeds from our initial public offering.

Income Taxes, Net

We paid net income taxes of $0.1 million in 2002 compared to $0.6 million in
2001.

Net Loss

Net loss decreased $23.6 million or 66.1% to $12.1 million in 2002 from $35.7
million in 2001, due to the foregoing factors.

Comparison of 2001 and 2000

Revenues

Affiliates. Revenues from affiliates decreased by $12.3 million or 87.9% to
$1.7 million in 2001 from $14.0 million in 2000, due to the sale of all of our
Class B Common Stock on June 29, 2001 by RSL COM to Atarey and our
disconnection from the RSL COM network. After June 29, 2001, there were no
further revenues from affiliates, and we do not anticipate receiving revenues
from affiliates in the future.

Non-affiliates. Revenues from non-affiliates decreased by $2.4 million or 14.6%
to $14.0 million in 2001 from $16.4 million in 2000. Revenues from enhanced IP
communications services (including our Hosted Communications Solution)
decreased by $1.4 million or 10.3% to $12.2 million in 2001 from $13.6 million
in 2000, due to a lesser number of new Hosted Communications Solution partners,
yielding lower up-front integration fees, partially offset by a greater number
of PC-to-Phone and Phone-to- Phone calls being placed by an increasing user
base. Revenues from carrier transmission services for telecommunications
carriers other than RSL COM decreased by $1.0 million or 35.7% to $1.8 million
in 2001 from $2.8 million in 2000, due primarily to decreased demand from a
smaller customer base.

Revenues from carrier transmission services to RSL COM and other
telecommunications carriers accounted for 19.5% and 25.3% of revenues in 2001
and 2000, respectively. As revenues from our enhanced IP communication services
continue to grow as a percentage of total revenue, we expect that our revenues
from carrier transmission services will continue to account for a declining
percentage of our revenues. Other than RSL COM, no other customer accounted for
greater than 10% of our revenues
during these periods.

Costs and Operating Expenses

Cost of revenues. Cost of revenues decreased by$11.4 million or 45.8% to $13.5
million in 2001 from $24.9 million in 2000,due primarily to a decrease in the
amount of traffic being terminated.

Research and development expenses. Research and development expenses decreased
by $1.0 million or 15.2% to $5.6 million in 2001 from $6.6 million in 2000, due
to lower personnel costs associated with the development of new services and
enhancements to our existing services.

Selling and marketing expenses. Selling and marketing expenses decreased by
$12.8 million or 62.1% to $7.8 million in 2001 from $20.6 million in 2000, due
to a significant decrease in branding and promotional activities.

General and administrative expenses. General and administrative expenses
increased by $0.3millionor4.5%to $7.0 million in 2001 from $6.7 million in
2000, primarily due to increased personnel and occupancy costs.

Non-cash compensation expenses. Non-cash compensation expenses decreased by
$5.5 million or 87.3% to $0.8 million in 2001 from $6.3 million in 2000, due to
the completed amortization of costs incurred during 1998. Remaining
amortization of costs related to the 1999 grants of options and warrants below
the then fair market value will continue to be reflected in future financial
statements.

Depreciation and amortization of goodwill. Depreciation and amortization of
goodwill increased by $1.1 million or 13.9% to $9.0 million in 2001 from $7.9
million in 2000, due to our on- going purchase, and subsequent depreciation of
fixed assets.

Impairment of goodwill. We incurred a one-time expense of $4.2 million for the
year ended December 31, 2001 related to the impairment of goodwill. This
one-time charge was due to the write- off of `pushed-down' goodwill associated
with the acquisition of us by RSL COM, the valuation of which was impacted by
the sale of majority ownership by RSL COM to Atarey. We incurred a one-time
expense of $8.9 million for the year ended December 31, 2000 related to the
impairment of goodwill. This one-time charge was due to the write-off of
goodwill associated with the technology acquired through our acquisition of
Yourday.com, which was not incorporated into iConnectHere as originally
planned.

Write down of fixed assets from RSL sale. We incurred a one- time expense of
approximately $7.0 million from the write down of equipment that was purchased
in previous periods to support contracts and inter-company agreements between
us and RSL COM that were cancelled at the time of RSL COM's sale of its
majority ownership interest to Atarey. See Note 12 to the accompanying
financial statements for further details.

Expenses due to the cancellation of a supplier agreement . We incurred a
one-time expense of approximately $3.6 million that resulted from the
cancellation of a development and promotion agreement between CNET and us.
Expenses included a payment to terminate the contract and the acceleration of
the amortization of compensation charges deferred in previous years.

Loss from Operations

Loss from operations decreased by $14.7 million or 28.5% to $36.8 million in
2001 from $51.5 million in 2000, due primarily to the decrease in costs and
operating expenses, including non- cash compensation expenses and selling and
marketing expenses. We expect to continue to incur losses for the foreseeable
future.

Interest (Expense) Income, Net

Interest income decreased by $1.9 million or 52.8% to $1.7 million in 2001 from
$3.6 million in 2000, due primarily to lower interest rates earned on a reduced
balance of remaining proceeds from our initial public offering.

Income Taxes, Net

We paid net income taxes of $0.6 million in 2001 compared to $0.3 million in
2000.

Net Loss

Net loss decreased $12.5 million or 25.9% to $35.7 million in2001from$48.2
million in 2000,duetotheforegoing factors.

Liquidity and Capital Resources

Since our inception in June 1996, we have incurred significant operating and
net losses due in large part to the start-up and development of our operations.
As of December 31, 2002, we had an accumulated deficit of approximately $139.5
million. We anticipate that we will continue to incur operating and net losses
for the foreseeable future.

As of December 31, 2002, we had cash and cash equivalents of approximately $5.7
million, marketable securities and other short-term investments of
approximately $15.6 million and working capital of approximately $17.7 million.
We generated negative cash flow from operating activities of approximately $6.2
million during 2002 compared with negative cash flow from operating activities
of $22.7 million during 2001. Accounts receivable were approximately $0.7
million and $1.1 million at December 31, 2002 and December 31, 2001,
respectively.

Our capital expenditures decreased from approximately $1.6 million in the year
ended December 31, 2001 compared to approximately $0.4 million in the year
ended December 30, 2002, as we better utilize our existing domestic and
international network infrastructure.

Short-term, we obtain our funding from our utilization of the remaining
proceeds from our initial public offering offset by positive or negative cash
flow from our operations. These proceeds are maintained as cash and cash
equivalents with an original maturity of three months or less. Based on current
trends in our operations, these funds will be sufficient to meet our working
capital requirements, including operating losses, and capital expenditure
requirements for at least the next fiscal year, assuming that our business plan
is implemented successfully, and that:

- - our recent revenue trends, which reflected an increase in our higher-margin
(primarily PC-to-Phone) products and services continues to increase;
- - our expense trends remain at or near the rates of our fourth quarter 2002
rates, which were significantly reduced during the year through reductions in
personnel, curtailment of discretionary expenditures, and reduced network
rent and termination rates from our carriers; and

- - our net cash-burn rate, which was significantly reduced during the year due
to the foregoing factors to approximately $0.8 million in the fourth quarter
of 2002, continues to improve throughout 2003 and beyond.

To the extent that these trends do not remain steady, or if in the longer-term
we are not able to successfully implement our business strategy we may be
required to raise additional funds for our ongoing operations. Additional
financing may not be available when needed or, if available, such financing may
not be on terms favorable to us, especially in light of current economic
conditions and the unfavorable market for telecommunications companies in
particular. If additional funds are raised through the issuance of equity
securities, our existing stockholders may experience significant dilution. In
addition, while the indentures governing outstanding indebtedness of RSL COM
were cancelled and no longer restrict our ability to incur indebtedness, we
cannot assure you that any third party will be willing or able to provide
additional capital on favorable terms or at all.

Contractual Obligations and Commercial Commitments

With the exception of the real estate in ITEM 2. PROPERTIES, and Operating
Lease commitments (including automobile leases) of approximately $190,000 in
2003 and $140,000 in 2004, we have no other material contractual or commercial
commitments for 2003 and thereafter.

Risk Factors

In addition to the other information included in this annual report, you should
consider the following risk factors. This annual report contains
forward-looking statements covered by the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995. These forward-looking statements
involve risks and uncertainties that may affect our business and prospects.
Our results may differ significantly from the results discussed in the
forward-looking statements as a result of certain factors that are listed below
or discussed elsewhere in this annual report and our other filings with the
Securities and Exchange Commission. Risks Related to Our Company

We Have a History of Losses and Negative Cash Flow and We Anticipate They Will
Continue

We have incurred significant losses since inception, and we expect to continue
to incur significant losses for the foreseeable future. We reported net losses
of approximately $12.1 million in 2002, approximately $35.7 million in 2001,
and approximately $48.3 million in 2000. As of December 31, 2002, our
accumulated deficit was approximately $139.5 million. We generated negative
cash flow of approximately $7.9 million during 2002 and $7.3 million during
2001. As a percentage of revenues, our net loss was 93.4% in 2002, 228.2% in
2001 and 158.9% in 2000. Our revenues may not grow or even continue at their
current level. As a result, while we believe we have sufficient funds to meet
our working capital requirements for at least the next fiscal year (see -
Liquidity and Capital Resources), we will need to increase our revenues
significantly to become profitable. In order to increase our revenues, we need
to attract and maintain customers to increase the fees we collect for our
services. If our revenues do not increase as much as we expect or if our
expenses increase at a greater pace than revenues, we may never be profitable
or, if we become profitable, we may not be able to sustain or increase
profitability on a quarterly or annual basis.

We Will Need Additional Capital to Finance Our Operations in the Future

We intend to continue to enhance and expand our network in order to maintain
our competitive position and meet the increasing demands for service quality,
capacity and competitive pricing. Also, the introduction of new products and/or
service will require significant marketing and promotional expenses that we
often incur before we begin to receive the related revenue. While we believe we
have sufficient funds to meet our working capital requirements for at least the
next fiscal year (see - Liquidity and Capital Resources), if our cash flow from
operations is not sufficient to meet our capital expenditure and working
capital requirements, we will need to raise additional capital to continue our
operations. Especially in light of current economic conditions and the
unfavorable market for telecommunications companies in particular, we may not
be able to raise additional capital, and if we are able to raise additional
capital through the issuance of additional equity, our current investors could
experience dilution. If we are unable to obtain additional capital, we may be
required to reduce the scope of our business or our anticipated growth, which
would reduce our revenues.

We Have a Limited Operating History Upon Which You Can Evaluate Us

We have only a limited operating history upon which you can evaluate our
business and prospects. We commenced operations in June 1996. You should
consider our prospects in light of the risks, expenses and difficulties we may
encounter as an early stage company in the new and rapidly evolving market for
IP communications services. These risks include our ability:

- - to increase acceptance of our enhanced IP communications services (including
our Hosted Communications Solution), thereby increasing the number of users
of our IP telephony services;
- - to compete effectively;
- - to develop new products and keep pace with developing technology.

In addition, because we expect an increasing percentage of our revenues to be
derived from our enhanced IP communications services (including our Hosted
Communications Solution), our past operating results may not be indicative of
our future results.

We May Not be Able to Expand Our Revenue and Achieve Profitability

Our business strategy is to expand our revenue sources to include the provision
of enhanced IP communications services to several different customer groups. We
can neither assure you that we will be able to accomplish this nor that this
strategy will be profitable. Currently, our revenues are primarily generated by
sales of enhanced IP communications services through our direct consumer
offering, iConnectHere. Enhanced IP communications services generated 60.2%,
54.8%, and 44.8% of our total revenues in 2002, 2001 and 2000, respectively.
The provision of enhanced IP communications services has not been profitable to
date and may not be profitable in the future.

In the future, we intend to generate increased revenues from multiple sources,
many of which are unproven, including the commercial sale of our Hosted
Communications Solution and enhanced IP communications services. We expect that
our revenues for the foreseeable future will be dependent on, among other
factors:

- - sales of enhanced IP communications services and our Hosted Communications
Solution;
- - acceptance and use of IP telephony;
- - expansion of service offerings;
- - traffic levels on our network;
- - the effect of competition, regulatory environment, international long
distance rates and access and transmission costs on our prices;
- - continued improvement of our global network quality.

We may not be able to sustain our current revenues or successfully generate
additional revenues from the sale of enhanced IP communications services,
Hosted Communications Solutions or carrier transmission services.

We Cannot Assure You That a Market for Our Services Will Develop

We are uncertain whether a market will develop for our enhanced IP
communications services or our Hosted Communications Solutions. Our market is
new and rapidly evolving. Our ability to sell our services may be inhibited by,
among other factors, the reluctance of some end users to switch from
traditional communications carriers to IP communications carriers and by
concerns with the quality of IP telephony and the adequacy of security in the
exchange of information over the Internet. End users in markets serviced by
recently deregulated telecommunications providers are not familiar with
obtaining services from competitors of these providers and may be reluctant to
use new providers, such as us. Our ability to increase revenues depends on the
migration of traditional telephone network traffic to our IP network. We will
need to devote substantial resources to educate customers and end users about
the benefits of IP communications solutions in general and our services in
particular. If enterprises and their customers do not accept our enhanced IP
communications services and our Hosted Communications Solutions as a means of
sending and receiving communications, we will not be able to increase our
number of paid users or successfully generate revenues in the future.

Our Future Success Depends on the Growth in the Use of the Internet as a Means
of Communications

If the market for IP communications, in general, and our services in
particular, does not grow at the rate we anticipate or at all, we will not be
able to increase our number of users or generate revenues we anticipate. To be
successful, IP communications requires validation as an effective, quality
means of communication and as a viable alternative to traditional telephone
service. Demand and market acceptance for recently introduced services are
subject to a high level of uncertainty. The Internet may not prove to be a
viable alternative to traditional telephone service for reasons including:

- - inconsistent quality or speed of service;
- - traffic congestion on the Internet;
- - potentially inadequate development of the necessary infrastructure;
- - lack of acceptable security technologies;
- - lack of timely development and commercialization performance improvements;
- - unavailability of cost-effective, high-speed access to the Internet.

If Internet usage grows, the Internet infrastructure may not be able to support
the demands placed on it by such growth, or its performance or reliability may
decline. In addition, Web sites may from time to time experience interruptions
in their service as a result of outages and other delays occurring throughout
the Internet network infrastructure. If these outages or delays frequently
occur in the future, Internet usage, as well as usage of our communications
portal and our services, could be adversely affected.

Potential Fluctuations in Our Quarterly Financial Results Make it Difficult for
Investors to Predict Our Future Performance

Our quarterly operating results may fluctuate significantly in the future as a
result of a variety of factors, many of which are outside our control. The
factors generally within our control include:

- - the rate at which we are able to attract users to purchase our enhanced IP
communications services and our Communications Solutions;
- - the amount and timing of expenses to enhance marketing promotion efforts and
to expand our infrastructure;
- - the timing of announcements or introductions of new or enhanced services by
us.

The factors outside our control include:

- - the timing of announcements or introductions of new enhanced services by our
competitors;
- - technical difficulties or network interruptions in Internet or our
privately-managed network;
- - general economic and competitive conditions specific to our industry.

The foregoing factors also may create other risks affecting our long-term
success, as discussed in the other risk factors.

We believe that quarter-to-quarter comparisons of our historical operating
results may not be a good indication of our future performance, nor would our
operating results for any particular quarter be indicative of our future
operating results.

Our Network May Not Be Able to Accommodate Our Capacity Needs

We expect the volume of traffic we carry over our network to increase
significantly as we expand our operations and service offerings. Our network
may not be able to accommodate this additional volume. In order to ensure that
we are able to handle additional traffic, we may have to enter into long-term
agreements for leased capacity. To the extent that we overestimate our capacity
needs, we may be obligated to pay for more transmission capacity than we
actually use, resulting in costs without corresponding revenues. Conversely, if
we underestimate our capacity needs, we may be required to obtain additional
transmission capacity from more expensive sources. If we are unable to maintain
sufficient capacity to meet the needs of our users, our reputation could be
damaged and we could lose users.

We Face a Risk of Failure of Computer and Communications Systems Used in Our
Business

Our business depends on the efficient and uninterrupted operation of our
computer and communications systems as well as those that connect to our
network. We maintain communications systems in four facilities in New York, Los
Angeles, London and Jerusalem. Our systems and those that connect to our
network are subject to disruption from natural disasters or other sources of
power loss, communications failure, hardware or software malfunction, network
failures and other events both within and beyond our control. Any system
interruptions that cause our services to be unavailable, including significant
or lengthy telephone network failures or difficulties for users in
communicating through our network or portal, could damage our reputation and
result in a loss of users.

Our Computer Systems and Operations May Be Vulnerable to Security Breaches

Our computer infrastructure is potentially vulnerable to
physical or electronic computer viruses, break-ins and similar disruptive
problems and security breaches that could cause interruptions, delays or loss
of services to our users. We believe that the secure transmission of
confidential information over the Internet, such as credit card numbers, is
essential in maintaining user confidence in our services. We rely on licensed
encryption and authentication technology to effect secure transmission of
confidential information, including credit card numbers. It is possible that
advances in computer capabilities, new technologies or other developments could
result in a compromise or breach of the technology we use to protect user
transaction data. A party that is able to circumvent our security systems could
misappropriate proprietary information or cause interruptions in our
operations. Security breaches also could damage our reputation and expose us to
a risk of loss or litigation and possible liability. Although we have
experienced no security breaches to date of which we are aware, we cannot
guarantee you that our security measures will prevent security breaches.

Third Parties Might Infringe Upon Our Proprietary Technology

We cannot assure you that the steps we have taken to protect our intellectual
property rights will prevent misappropriation of our proprietary technology. To
protect our rights to our intellectual property, we rely on a combination of
trademark and patent law, trade secret protection, confidentiality agreements
and other contractual arrangements with our employees, affiliates, strategic
partners and others. We may be unable to detect the unauthorized use of, or
take appropriate steps to enforce, our intellectual property rights. Effective
copyright and trade secret protection may not be available in every country in
which we offer or intend to offer our services. Failure to adequately protect
our intellectual property could harm our brand, devalue our proprietary content
and affect our ability to compete effectively. Further, defending our
intellectual property rights could result in the expenditure of significant
financial and managerial resources.

Our Services May Infringe on the Intellectual Property Rights of Others

Third parties may assert claims that we have violated a patent or infringed a
copyright, trademark or other proprietary right belonging to them. We
incorporate licensed third-party technology in some of our services. In these
license agreements, the licensors have agreed to indemnify us with respect to
any claim by a third party that the licensed software infringes any patent or
other proprietary right so long as we have not made changes to the licensed
software. We cannot assure you that these provisions will be adequate to
protect us from infringement claims. Any infringement claims, even if not
meritorious, could result in the expenditure of significant financial and
managerial resources.

On October 8, 1999, we were named as a defendant in a lawsuit alleging that we
are infringing on a patent by making, using, selling and offering for sale
prepaid telephone card products in the United States. The plaintiffs are
seeking an injunction to stop us from using the technology covered by this
patent, monetary damages in an unspecified amount and reimbursement of
attorneys' fees. We have answered the complaint, the parties engaged in
pre-trial discovery, and the case remains at a preliminary stage. We believe
that we have meritorious defenses to the claim and we intend to defend the
lawsuit vigorously. However, the outcome of the litigation is inherently
unpredictable and an unfavorable result may have a material adverse effect on
our business, financial condition and results of operations. Regardless of the
ultimate outcome, the litigation could result in substantial expenses to us and
significant diversion of efforts by our managerial and other personnel.

Operating Internationally Exposes Us to Additional and Unpredictable Risks

We intend to continue to enter additional markets in Eastern Europe, Latin
America, Africa and Asia and to expand our existing operations outside the
United States. International operations are subject to inherent risks,
including:

- - potentially weaker protection of intellectual property rights;
- - political instability;
- - unexpected changes in regulations and tariffs;
- - fluctuations in exchange rates;
- - varying tax consequences;
- - uncertain market acceptance and difficulties in marketing efforts due to
language and cultural differences.

We Have Experienced Losses as a Result of Fraud

We have experienced losses due to fraud. In 2002, we experienced losses from
fraud of less than 2% of our revenues. Callers have obtained our services
without rendering payment by unlawfully using our access numbers and personal
identification numbers. Although we have implemented anti-fraud measures in
order to control losses relating to these practices, these measures may not be
sufficient to effectively limit all of our exposure in the future from fraud
and we continue to experience losses from fraud. While we have established
reserves for bad debts in accordance with historical levels of uncollectible
receivables resulting primarily from these fraudulent practices, our losses may
exceed our reserves and could rise significantly above anticipated levels.

Intense Competition Could Reduce Our Market Share and Harm Our Financial
Performance

Competition in the market for enhanced IP communications services is becoming
increasingly intense and is expected to increase significantly in the future.
The market for enhanced Internet and IP communications is new and rapidly
evolving. We expect that competition from companies both in the Internet and
telecommunications industries will increase in the future. Our competitors
include both start-up IP telephony service providers and established
traditional communications providers. Many of our existing competitors and
potential competitors have broader portfolios of services, greater financial,
management and operational resources, greater brand-name recognition, larger
subscriber bases and more experience than we have. In addition, many of our IP
telephony competitors use the Internet instead of a private network to transmit
traffic. Operating and capital costs of these providers may be less than ours,
potentially giving them a competitive advantage over us in terms of pricing.

We also compete in the growing market of discount telecommunications services
including calling cards, prepaid cards, call-back services, dial-around or
10-10 calling and collect calling services. In addition, some Internet service
providers have begun to aggressively enhance their real time interactive
communications, focusing initially on instant messaging, although we expect
them to begin to provide PC-to- phone services.

If we are unable to provide competitive service offerings, we may lose existing
users and be unable to attract additional users. In addition, many of our
competitors, especially traditional carriers, enjoy economies of scale that
result in a lower cost structure for transmission and related costs, which
cause significant pricing pressures within the industry. Although the minutes
of use we sell are increasing, revenues are not increasing at the same rate due
primarily to a decrease in revenue per minute for our carrier transmission
services. In order to remain competitive we intend to increase our efforts to
promote our services, and we cannot be sure that we will be successful in doing
this.

In addition to these competitive factors, recent and pending deregulation in
some of our markets may encourage new entrants. We cannot assure you that
additional competitors will not enter markets that we plan to serve or that we
will be able to compete effectively.

Decreasing Telecommunications Rates May Diminish or Eliminate Our Competitive
Pricing Advantage

Decreasing telecommunications rates may diminish or eliminate the competitive
pricing advantage of our services. International and domestic
telecommunications rates have decreased significantly over the last few years
in most of the markets in which we operate, and we anticipate that rates will
continue to be reduced in all of the markets in which we do business or expect
to do business. Users who select our services to take advantage of the current
pricing differential between traditional telecommunications rates and our rates
may switch to traditional telecommunications carriers as such pricing
differentials diminish or disappear, and we will be unable to use such pricing
differentials to attract new customers in the future. In addition, our ability
to market our carrier transmission services to telecommunications carriers
depends upon the existence of spreads between the rates offered by us and the
rates offered by traditional telecommunications carriers, as well as a spread
between the retail and wholesale rates charged by the carriers from which we
obtain wholesale service. Continued rate decreases will require us to lower our
rates to remain competitive and will reduce or possibly eliminate our gross
profit from our carrier transmission services. If telecommunications rates
continue to decline, we may lose users for our services.

Government Regulation and Legal Uncertainties Relating to IP
Telephony Could Harm Our Business

Historically, voice communications services have been provided by regulated
telecommunications common carriers. We offer voice communications to the public
for international and domestic calls using IP telephony, and we do not operate
as a licensed telecommunications common carrier in any jurisdiction. Based on
specific regulatory classifications and recent regulatory decisions, we believe
we qualify for certain exemptions from telecommunications common carrier
regulation in many of our markets. However, the growth of IP telephony has led
to close examination of its regulatory treatment in many jurisdictions making
the legal status of our services uncertain and subject to change as a result of
future regulatory action, judicial decisions or legislation in any of the
jurisdictions in which we operate. Established regulated telecommunications
carriers have sought and may continue to seek regulatory actions to restrict
the ability of companies such as ours to provide services or to increase the
cost of providing such services. In addition, our services may be subject to
regulation if regulators distinguish phone-to- phone telephony service using IP
technologies over privately-managed networks such as our services from
integrated PC-to-PC and PC-originated voice services over the Internet. Some
regulators may decide to treat the former as regulated common carrier services
and the latter as unregulated enhanced or information services.

Application of new regulatory restrictions or requirements to us could increase
our costs of doing business and prevent us from delivering our services through
our current arrangements. In such event, we would consider a variety of
alternative arrangements for providing our services, including obtaining
appropriate regulatory authorizations for our local network partners or
ourselves, changing our service arrangements for a particular country or
limiting our service offerings. Such regulations could limit our service
offerings, raise our costs and restrict our pricing flexibility, and
potentially limit our ability to compete effectively. Further, regulations and
laws which affect the growth of the Internet could hinder our ability to
provide our services over the Internet. For a more detailed discussion of the
regulation of IP telephony, see "Business-Regulation of IP Telephony." We May
Not Be Able to Keep Pace with Rapid Technological Changes in the Communications
Industry

Our industry is subject to rapid technological change. We cannot predict the
effect of technological changes on our business. In addition, widely accepted
standards have not yet developed for the technologies we use. We expect that
new services and technologies will emerge in the market in which we compete.
These new services and technologies may be superior to the services and
technologies that we use, or these new services may render our services and
technologies obsolete.

To be successful, we must adapt to our rapidly changing market by continually
improving and expanding the scope of services we offer and by developing new
services and technologies to meet customer needs. Our success will depend, in
part, on our ability to license leading technologies and respond to
technological advances and emerging industry standards on a cost- effective and
timely basis. We will need to spend significant amounts of capital to enhance
and expand our services to keep pace with changing technologies.

Risks Related to Our Relationship with Atarey

Atarey Controls All Matters Submitted to a Stockholder Vote

Atarey owns approximately 72% of the voting power and economic interest in us.
As long as Atarey continues to beneficially own shares of capital stock
representing more than 50% of the voting power of our outstanding capital
stock, Atarey will be able to exercise a controlling influence over decisions
affecting us, including:

- - composition of our board of directors and, through it, our direction and
policies, including the appointment and removal of officers;
- - mergers or other business combinations;
- - acquisitions or dispositions of assets by us;
- - future issuances of capital stock or other securities by us;
- - incurrence of debt by us;
- - amendments, waivers and modifications to any agreements between us and
Atarey;
- - payment of dividends on our capital stock;
- - approval of our business plans and general development.

In addition, three of our seven directors are officers and/or directors of
Atarey, or otherwise affiliated with Atarey. As a result, the ability of any of
our other stockholders to influence the management of our company is limited,
which could have an adverse effect on the market price of our stock.

Recently, Atarey made a proposal to purchase us. Although a special committee
comprised of our independent directors is evaluating the proposal, as a
practical matter, Atarey could, by virtue of its position as a 72% stockholder,
cause us to go private without the assent of our directors and our minority
stockholders and could block any other transaction.


Risks Related to Our Common Stock

A Third Party May Be Deterred from Acquiring Our Company

Atarey's majority ownership could delay, deter or prevent a third party from
attempting to acquire control of us. This may have the effect of discouraging a
third party from making a tender offer or otherwise attempting to obtain
control of us, even though such a change in ownership would be economically
beneficial to us and our stockholders.

Volatility of Our Stock Price Could Adversely Affect Our Stockholders

Since trading commenced in November 1999, the market price of our common stock
has been highly volatile and may continue to be volatile and could be subject
to wide fluctuations in response to factors such as:

- - variations in our actual or anticipated quarterly results or those of our
competitors;
- - announcements by us or our competitors of technological innovations;
- - introduction of new products or services by us or competitors;
- - changes in financial estimates by securities analysts;
- - conditions or trends in the Internet industry;
- - changes in the market valuations of other companies;
- - announcements by us or our competitors of significant acquisitions;
- - our entry into strategic partnerships or joint ventures;
- - sales of our common stock by Atarey.

All of these factors are, in whole or part, beyond our control and may
materially adversely affect the market price of our common stock regardless of
our performance.

Investors may not be able to resell their shares of our common stock following
periods of volatility because of the market's adverse reaction to such
volatility. In addition, the stock market in general, and the market for
telecommunications, Internet-related and technology companies in particular,
has been dramatically decreased and is extremely depressed.. We cannot assure
you that our common stock will trade at the same levels of other
telecommunications or Internet stocks or that telecommunications or Internet
stocks in general will sustain their current market prices. We also cannot
assure you that our common stock will continue to be quoted on the Nasdaq
SmallCap Market if the price of our common stock remains below $1.

The Liquidity of Our Common Stock Could Be Adversely Affected by Changes in Our
Nasdaq Listing.

Our common stock is currently listed on the Nasdaq SmallCap Market. The listing
of our common stock was transferred from the Nasdaq National Market to the
Nasdaq SmallCap Market effective on September 17, 2002. We currently meet all
criteria for continued inclusion in the Nasdaq SmallCap Market except for the
$1.00 minimum bid price per share requirement. We currently have a grace period
until September 1, 2003 to demonstrate a closing bid price of at least $1.00
for a minimum of ten consecutive trading days, provided we can demonstrate that
we remain in compliance with the Nasdaq SmallCap Market's initial listing
standards, based on the Nasdaq's most recent ruling. We have yet to satisfy
this requirement, and if we do not do so prior to September 1, 2003, we may be
delisted from the Nasdaq SmallCap Market on or about that date. If we are
delisted from the Nasdaq SmallCap Market, our shares will continue to trade, if
at all, on the OTC Bulletin Board, upon application by the requisite market
makers. This will adversely impact our stock price, as well as the liquidity of
the market for our shares which, as a result, will adversely affect the ability
of our stockholders to purchase and sell their shares in an orderly manner, or
at all. Furthermore, a delisting of our shares could damage our general
business reputation and impair our ability to raise additional funds. Any of
the foregoing events could have a material adverse effect on our business,
financial condition and operating results.


We Do Not Intend to Pay Dividends

We have never declared or paid any cash dividends on our common stock. We
intend to retain any future earnings to finance our operations and to expand
our business and, therefore, do not expect to pay any cash dividends in the
foreseeable future.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

The Securities and Exchange Commission's rule related to market risk disclosure
requires that we describe and quantify our potential losses from market risk
sensitive instruments attributable to reasonably possible market changes.
Market risk sensitive instruments include all financial or commodity
instruments and other financial instruments (such as investments and debt) that
are sensitive to future changes in interest rates, currency exchange rates,
commodity prices or other market factors. We believe our exposure to market
risk is immaterial. We currently do not invest in, or otherwise hold, for
trading or other purposes, any financial instruments subject to market risk.


ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The Company's Consolidated Financial Statements required by this Item are
included in Item 14 of this report.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

None.

PART III


ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information required by this Item is incorporated herein by reference to
the sections entitled "Management" and "Principal Stockholders" in the proxy
statement for our 2003 Annual Meeting of Stockholders.

ITEM 11. EXECUTIVE COMPENSATION

The information required by this Item is incorporated herein by reference to
the section entitled "Executive Compensation" in the proxy statement for our
2003 Annual Meeting of Stockholders.

ITEM 12. SECURITY OWNERSHIP OF MANAGEMENT AND PRINCIPAL STOCKHOLDERS

The information required by this Item is incorporated herein by reference to
the section entitled "Principal Stockholders" in the proxy statement for our
2003 Annual Meeting of Stockholders.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information required by this Item is incorporated herein by reference to
the section entitled "Related Party Transactions" in the proxy statement for
our 2003 Annual Meeting of Stockholders.


ITEM 14. CONTROLS AND PROCEDURES

(a) Evaluation of Disclosure Controls and Procedures. Our principal executive
officer and principal financial officer, after evaluating the effectiveness of
our disclosure controls and procedures (as defined in Exchange Act Rules
13a-14(c) and 15d- 14(c)) as of a date within 90 days of the filing date of
this annual report on Form 10-K, have concluded that, based on such evaluation,
our disclosure controls and procedures were adequate and effective to ensure
that material information relating to us, including our consolidated
subsidiaries, was made known to them by others within those entities,
particularly during the period in which this annual report on Form 10-K was
being prepared.

(b) Changes in Internal Controls. There were no significant changes in our
internal controls or in other factors that could significantly affect these
controls subsequent to the date of their evaluation, nor were there any
significant deficiencies or material weaknesses in our internal controls.
Accordingly, no corrective actions were required or undertaken.


PART IV

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

(a)(1) Financial Statements.

The Consolidated Financial Statements filed as part of this Annual Report on
Form 10-K are identified in the Index to Consolidated Financial Statements on
page F-1 hereto.

(a)(2) Financial Statement Schedules.

Financial Statement Schedules have been omitted because the information
required to be set forth therein is not applicable or is shown on the financial
statements or notes thereto.

(a)(3) Exhibits.

The following exhibits are filed herewith or are incorporated by reference to
exhibits previously filed with the Securities and Exchange Commission.

Exhibit Description
- ------- -----------------------------------------------------------------
Number
3.1.1* Form of Restated Certificate of Incorporation of Deltathree, Inc.
3.1.2*** Form of Amendment to Restated Certificate of Incorporation of
deltathree, Inc.
3.2* Form of Amended and Restated By-laws of deltathree, Inc.
4.1* Specimen Certificate of Common Stock.
4.2* Specimen Certificate of Class B Common Stock.
10.1* Form of deltathree, Inc. 1999 Stock Incentive Plan.
10.2* Form of deltathree, Inc. 1999 Employee Stock Purchase Plan.
10.3* Form of deltathree, Inc. 1999 Performance Incentive Plan.
10.4* Form of deltathree, Inc. 1999 Directors' Plan.
10.5* Employment Agreement, effective as of April 1, 1999, between Noam
Bardin and deltathree, Inc.
10.6** Amendment No. 1 to Employment Agreement, effective as of June 1,
2000, between Noam Bardin and deltathree, Inc.
10.7* Employment Agreement, effective as of April 1, 1999, between
Shimmy Zimels and deltathree, Inc.
10.8** Amendment No. 1 to Employment Agreement, effective as of June 1,
2000, between Shimmy Zimels and deltathree, Inc.
10.9** Employment Agreement, effective as of August 28, 2000, between
Paul White and deltathree, Inc.
10.10# Amendment No. 2 to Employment Agreement, effective as of March 25,
2002, between Shimmy Zimels and deltathree, Inc.
10.11# Amendment No. 3 to Employment Agreement, effective as of September
1, 2002, between Shimmy Zimels and deltathree, Inc.
10.12# Amendment No. 1 to Employment Agreement, effective as of
September 1, 2002, between Paul C. White and deltathree, Inc.
23.1 Consent of Brightman Almagor & Co.
99.1 Certifications Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

* Incorporated by reference to the Company's registration
statement on Form S-1 (Registration No. 333-86503).
** Incorporated by reference to the Company's quarterly report
on Form 10-Q filed on November 14, 2000.
*** Incorporated by reference to the Company's annual report on
Form 10-K/A filed on April 30, 2001.
# Incorporated by reference to the Company's quarterly report
on Form 10-Q filed on November 14, 2002.

(b) Reports on Form 8-K.

None.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
DELTATHREE, INC.

Independent Auditors' Report F-2

Consolidated Balance Sheets as of December 31, 2002 and 2001 F-3

Consolidated Statements of Operations for the years ended F-4
December 31, 2002, 2001, and 2000

Statements of Changes in Stockholders' Equity for the years F-5
ended December 31, 2002, 2001, and 2000

Consolidated Statements of Cash Flows for the years ended F-6
December 31, 2002, 2001, and 2000

Notes to Consolidated Financial Statements F-7


INDEPENDENT AUDITORS' REPORT


To the Stockholders of
Deltathree, Inc.

We have audited the accompanying consolidated balance sheets of Deltathree,
Inc. ("the Company") as of December 31, 2002 and 2001 and the related
consolidated statements of operations, changes in stockholders' equity and cash
flows for each of the three years in the period ended December 31, 2002. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards 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. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements present fairly, in all
material respects, the consolidated financial position of the Company as of
December 31, 2002 and 2001, and the consolidated results of its operations and
consolidated 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.


Brightman Almagor & Co.
- -----------------------
Brightman Almagor & Co.
Certified Public Accountants
A member firm of Deloitte Touche Tohmatsu

Tel Aviv, Israel
March 10, 2003


DELTATHREE, INC.
CONSOLIDATED BALANCE SHEETS

December 31,
2002 2001
------- -------
($ in thousands)
ASSETS
Current assets:
Cash and cash equivalents $5,681 $ 13,583
Short-term investments 15,552 14,192
Accounts receivable, net (Note 3) 652 1,092
Prepaid expenses and other current 760 1,264
assets (Note 4) ------- -------
Total current assets 22,645 30,131
Property and equipment: ------- -------

Telecommunications equipment 14,344 14,068
Furniture, fixtures and other 570 591
Leasehold improvements 4,615 4,631
Computers hardware & software 6,891 6,751
------- -------
26,420 26,041
Less accumulated depreciation (16,968) (10,406)
------- -------
Property and equipment, net 9,452 15,635
------- -------
Deposits 100 103
------- -------
Total assets $ 32,197 $ 45,869
LIABILITIES AND STOCKHOLDER'S EQUITY ========= =========
Current liabilities:
Accounts payable $ 2,306 $ 3,417
Deferred revenues 334 505
Other current liabilities (Note 5) 2,330 2,835
------- -------
Total current liabilities 4,970 6,757
------- -------
Long-term liabilities:
Severance pay obligations (Note 6) 113 191
------- -------
Total liabilities 5,083 6,948
Commitments and contingencies (Note 7) ------- -------
Stockholder's equity: (Note 8)
Share capital:
Class A Common stock, - par value
$0.001; authorized 75,000,000 shares;
issued and outstanding: 29,159,772
at December 31, 2002;
29,143,206 at December 31, 2001 29 29
Class B Common stock - par value
$0.001; authorized 1,000;
issued and outstanding: no shares
at December 31, 2002;
19,569,459 at December 31, 2000 - -
Preferred stock, par value $0.001;
authorized 25,000,000 shares;
issued and outstanding: no shares at - -
December 31, 2002 and 2001
Additional paid-in capital 166,801 166,801
Deferred stock based compensation - (270)
Accumulated deficit (139,506) (127,429)
Treasury stock at cost: 257,600 shares (210) (210)
of Class A Common Stock as of ------- -------
December 31, 2002 and 2001
Total stockholder's equity 27,114 38,921
-------- -------
Total liabilities and stockholder's $ 32,197 $45,869
equity ======== ========



DELTATHREE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS

Year ended December 31,
-------------------------------------
2002 2001 2000
($ in thousands, except share data)
Revenues: (Note 13)
Affiliates $ - $ 1,669 $ 13,977
Non-affiliates 12,929 13,991 16,399
------ ------ --------
Total revenues 12,929 15,660 30,376
Costs and operating expenses:
Cost of revenues, net 8,934 13,486 24,932
Research and development 3,435 5,648 6,625
expenses, net (Note 9)
Selling and marketing expenses 3,910 7,800 20,548
General and administrative
expenses (exclusive of
non-cash compensation expense 2,158 6,982 6,694
shown below)
Non-cash compensation expense 270 825 6,331
Depreciation and amortization 6,606 8,996 7,919
Write-down of fixed assets (Note 10) - 1,003 -
Expenses due to cancellation of
agreement with a supplier
(including non-cash - 3,628 -
compensation of $1,493) (Note 8b)
Impairment of goodwill (Note 13) - 4,151 8,905
Total costs and operating expenses 25,313 52,519 81,954
------ ------ --------
Loss from operations (12,384) (36,859) (51,578)
Interest income (expense), net 448 1,677 3,632
------ ------ --------
Loss before income taxes (11,936) (35,182) (47,946)
------ ------ --------
Income taxes (Note 12) 141 552 311
Net loss (12,077) (35,734) (48,257)
======== ======== ========
Net loss per share - basic and
diluted $ (1.23) $ (1.67) $(0.42)
======== ======== ========
Weighted average number of
shares outstanding -
basic and diluted (number of
shares) $28,888,367 $28,832,709 $29,035,318
=========== ============ ===========


DELTATHREE, INC
STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY
($ in thousands, except share data)


Total
Stock-
Addit holders
Class A Class B ional Receivable Deferred Treasury Accum- Equity
Common Common Paid-in For Capital Compen- Stock ulated (defic-
Stock Stock Capital Deficit sation (at cost) deficit iency)
Shares Amount Shares Amount
--------- ------ ---------- ------ -------- ----------- -------- -------- -------- --------
Balance at 8,918,132 $9 19,569,459 $20 157,891 $ (1,232) (10,670) $ - $(43,43) $102,580
January 1, 2000
Issuance of common
stock in
purchase of
subsidiary 227,738 10,500
Issuance expenses (272) (272)
Cancellation of (2,751) 2,751 -
options
Exercise of 319,229 1,365 232 1,597
employee options
Offset
receivable against
debt
to Yahoo! for
services rendered of 1,000 1,000
Amortization of
deferred
compensation 5,331 5,331
expense
Loss for the year (48,257) (48,257)
--------- ------ ---------- ------ ------- ----------- -------- -------- -------- --------
Balance at 9,465,099 9 19,569,459 20 166,733 - (2,588) - (91,695 72,479
December 31, 2000

Exercise of
employee options 108,648 68

Purchase of (257,600) (210) (210)
treasury stock
Cancellation of
class B shares 19,569,459 20 (19,569,459) (20)
Amortization of
deferred
compensation
expense 2,318 2,318
Loss for the year (35,734) (35,734)
--------- ------ ---------- ------ ------- ----------- -------- -------- -------- --------
Balance at
December 31, 2001 28,885,606 29 - - 166,801 - (270) (210) (127,429) 38,921
Exercise of 16,566 -* - -
employee options
Amortization of
deferred
compensation 270 270
expense
Loss for the year (12,077) (12,077)
--------- ------ ---------- ------ ------- ----------- -------- -------- -------- --------
Balance at 28,902,172 29 - $ - 166,801 $ - (270) (210)(139,506) 27,144
December 31, 2002 ========== ====== ========== ===== ========= =========== ======== ======= ========== ========

* - Less than $ 1 thousand.

The accompanying notes are an integral part of these financial statements




DELTATHREE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS


Year ended December 31,
--------------------------------
2002 2001 2000
($ in thousands)
-------- ------- -------
Cash flows from operating activities:
Net loss $(12,077) $(35,734) $(48,257)
Adjustments to reconcile net loss to
net cash used in operating activities
Depreciation and amortization 6,606 8,996 7,919
Write-down of fixed assets - 1,003 -
Impairment of goodwill - 4,151 8,905
Amortization of deferred 270 2,318 6,331
compensation
Capital loss (gain), net (56) 1 11
Increase (decrease) in liability (78) 22 (39)
for severance pay, net
Provision for losses on accounts 81 1,104 199
receivable
Changes in assets and liabilities:
Decrease (increase) in accounts 359 1,272 (2,541)
receivable
Decrease (increase) in other 504 928 (168)
current assets and due from affiliates
Increase (decrease) in accounts (975) (3,053) 2,656
payable
Increase (decrease) in deferred (171) 254 (287)
revenues
Increase in current liabilities (667) (3,965) 1,860
and due to affiliates -------- ------- -------
5,873 13,028 24,846
-------- ------- -------
Net cash used in operating activities (6,204) (22,703) (23,411)
-------- ------- -------
Cash flows from investing activities:
Purchase of property and (403) (1,558) (13,585)
equipment
Proceeds from sale of property 62 467 54
and equipment
Proceeds from sale of investment - - 150
Increase (decrease) in deposits 3 (30) 385
Net cash used in investing activities (338) (1,121) (12,996)
-------- ------- -------
Cash flows from financing activities:
Decrease (increase) in (1,360) 16,692 (19,266)
short-term investments -------- ------- -------
Repayment of short term debt - - (14,752)
from affiliates
Expenses relating to share - - (272)
issuance in 1999
Purchase of treasury stock - (210) -
Proceeds from exercise of - 68 1,597
employee options
Net cash provided by (used in) (1,360) 16,550 (32,693)
financing activities

Increase (decrease) in cash and cash (7,902) (7,274) (69,100)
equivalents
Cash and cash equivalents at beginning 13,583 20,857 89,957
of year

Cash and cash equivalents at end of $5,681 $13,583 $ 20,857
year ======== ======= ========
Supplemental disclosures of cash flow
information:
Cash paid for:
Interest $ - - $ 1,332
Taxes $ 236 $ 552 $ 311
Supplemental schedule of non cash
investing and financing activities:
Acquisition of fixed assets on credit $ 194 $ - $ -
Assets purchased in exchange for a $ - $ - $ 2,500
receivable
Assets purchased in exchange for $ - $ - $ 10,500
shares (See Note 13)


Note 1 - The Company

Deltathree, Inc. (the "Company"), a Delaware corporation, is a global provider
of integrated Voice over Internet Protocol (VoIP) telephony services. The
Company was founded in 1996 to capitalize on the growth of the Internet as a
communication tool by commercially offering Internet Protocol (IP) telephony
services. IP telephony is the real time transmission of voice communications in
the form of digitized "packets" of information over the public Internet or a
private network, similar to the way in which e-mail and other data is
transmitted. The Company's business currently includes the transmission of
voice and data traffic for communications carriers, the provision of enhanced
Web- based and other communications services to individual consumers and the
provision of a total "Hosted Communication Solution" that enables corporate
customers and service providers to offer private label telecommunications to
their customer bases

Prior to 1999, the Company's business primarily consisted of carrying and
transmitting traffic for communications carriers over its network. Beginning in
1999, the Company began to diversify its offering by layering enhanced IP
telephony services over its privately managed network. These enhanced services
were targeted at consumers and were primarily accessible through a
consumer-oriented Web site. During 2000, the Company began offering services on
a co-branded or private- label basis to service providers and other businesses
to assist them in diversifying their product offerings to their customer bases.

The Company's headquarters are located in New York City, New York. The
Company's research and development activities are conducted in Israel by its
wholly owned subsidiary, Delta Three Israel Ltd. ("Delta Ltd.").

Prior to its November 1999 initial public offering, the Company was a wholly
owned subsidiary of RSL Communications Ltd, a multinational telecommunications
company. RSL Communications Ltd. and its subsidiaries and affiliates (excluding
the Company) are collectively referred to herein as "RSL COM" or "affiliates."
Approximately 0%, 11% and 46 % of the Company's revenues for the year ended
December 31, 2002, 2001 and 2000, respectively, were derived from transactions
with RSL COM.

Since the Company's initial public offering in November 1999, RSL COM owned
100% of the outstanding Class B common stock (which carried ten votes per
share), which represented approximately 95.5% of the combined voting power of
all the Company's outstanding capital stock and approximately 67.4% of the
economic interest in the Company. In March 2001, RSL COM commenced insolvency
proceedings in Bermuda. On June 28, 2001, RSL COM, entered into a share
purchase agreement with Atarey Hasharon Chevra Lepituach Vehashkaot Benadlan
(1991) Ltd., an Israeli company ("Atarey") to sell to Atarey all of the Class B
Common Stock of the Company owned by RSL COM. On June 29, 2001, the sale was
consummated, and all of RSL COM's shares of Class B Common Stock, were
automatically converted into shares of Class A Common Stock, which carry one
vote per share. As a result of the sales transaction, Atarey became the
majority stockholder of the Company, owning approximately 72% of the
outstanding Class A Common Stock of the Company. Simultaneously with the
completion of the transaction on June 29, 2001, all of the contracts and
inter-company agreements by and between RSL COM (and all of its subsidiaries)
and the Company were terminated. At the same time, the Company severed its
reliance on RSL COM as its primary pan-European wholesale telecommunications
carrier, and shifted to other service providers.

Note 2 - Summary of significant accounting policies

a. Principles of consolidation and basis of presentation

The consolidated financial statements include the accounts of Deltathree, Inc.
and its subsidiary. All significant intercompany accounts and transactions
have been eliminated in consolidation.

b. Use of estimates

The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions,
primarily for allowances for doubtful accounts receivable and the useful lives
of fixed assets and intangible assets, 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 revenues and
expenses during the reporting period. Actual results could differ from those
estimates.

c. Cash and cash equivalents

The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents. Note 2 -
Summary of significant accounting policies (Cont.)

d. Revenue recognition and deferred revenue

The Company records revenue from Internet telephony services based on minutes
(or fractions thereof) of customer usage. The Company records payments
received in advance for prepaid services and services to be supplied under
contractual agreements as deferred revenue until such related services are
provided.

e. Cost of revenues

Cost of revenues is comprised primarily of access, transmission and
termination costs based on actual minutes in addition to monthly circuit
lease costs and is net of reimbursements from vendors.

f. Research and development expenses

Research and development expenses, net of reimbursements from vendors, are
expensed as incurred.

g. Advertising expenses

Advertising expenses are expensed as incurred. For the years ended December 31,
2002, 2001 and 2000, advertising expenses were approximately $ 20,000, $ 7,000
and $ 170,000, respectively.

h. Allowance for doubtful accounts

The Company estimates the allowance for doubtful accounts by reviewing the
status of significant past due receivables and analyzing historical bad debt
trends and the Company then reduces accounts receivables by such allowance for
doubtful accounts to expected net realizable value.

i. Property and equipment and related depreciation

Property and equipment are stated at cost. Depreciation is calculated using
the straight-line method over the estimated useful lives of the depreciable
assets, which range from two to five years. Improvements are capitalized,
while repair and maintenance costs are charged to operations as incurred.

j. Impairment of long-lived assets

On January 1, 2002, the Company adopted SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," (SFAS 144) which requires that
long-lived assets, to be held and used by an entity, be reviewed for impairment
and, if necessary, written down to the estimated fair values, whenever events
or changes in circumstances indicate that the carrying amount of the assets may
not be recoverable through undiscounted future cash flows. The adoption of SFAS
144 did not have a material effect on the Company's consolidated financial
position or results of operations.

k. Income taxes

The Company accounts for income taxes under the provisions of Statement of
Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes".
SFAS No. 109 establishes financial accounting and reporting standards for the
effect of income taxes that result from activities during the current and
preceding years. SFAS No. 109 requires an asset and liability approach for
financial reporting for income taxes. The Company's foreign subsidiary files
separate income tax returns in the jurisdiction of their operations.

l. Net loss per share

Basic and diluted net loss per share have been computed in accordance with SFAS
No. 128, "Earnings Per Share", using the weighted average number of common
stock outstanding. Diluted earnings per share give effect to all potential
dilutive issuances of ordinary shares that were outstanding during the period.
A total of 32,746; 168,212; and, 832,600 incremental shares were excluded from
the calculation of diluted net loss per ordinary share for 2002, 2001 and 2000
respectively.

m. Concentration of credit risk

The Company is subject to concentrations of credit risk, which consist
principally of trade accounts receivable and cash and cash equivalents.

The Company maintains its cash with various financial institutions. The Company
performs periodic evaluations of the relative credit standing of these
institutions.

The majority of the Company's non-carrier customers prepay for their services.
The Company establishes an allowance for doubtful accounts based upon factors
surrounding the credit risk of customers, historical trends and other
information.

n. Fair value of financial instruments

The carrying amounts of cash and cash equivalents, accounts and other
receivables and accounts payable approximate fair value due to the short-term
maturity of these instruments. The carrying amounts of outstanding borrowings
approximate fair value due to their short-term interest rate.

o. Derivatives

The Company adopted Statement of Financial Accounting Standard (SFAS) No. 133,
"Accounting for Derivative Instruments and Hedging Activities," as amended, at
the beginning of fiscal year 2001. The standard requires the Company to
recognize all derivatives on the balance sheet at fair value. Derivatives that
are not hedges must be adjusted to fair value through the statement of
operations. If the derivative is a hedge, depending on the nature of the hedge,
changes in the fair value of derivatives will either be offset against the
change in fair value of the hedged assets, liabilities or firm commitments
through earnings, or recognized in other comprehensive income (loss) until the
hedged item is recognized in earnings. The ineffective portion of a
derivative's change in fair value will be immediately recognized in earnings.
The Company use of derivatives is immaterial.

p. Effects of recently issued accounting standards

In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
SFAS Nos. 4, 44, and 64, Amendment of FASB Statement No. 13 and Technical
Corrections." SFAS No. 145 will impact how companies account for sale-leaseback
transactions and how gains or losses on debt extinguishments are presented in
financial statements. SFAS No. 145 is effective for fiscal years beginning
after May 15, 2002, early application is encouraged. The application of the
requirements of SFAS No. 145 will not have a material impact on the Company's
financial position or results of operations.

In July 2002, the FASB issued SFAS No.146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 requires that a liability for
costs associated with an exit or disposal activity be recognized and measured
initially at fair value only when the liability is incurred. SFAS No. 146 is
effective for exit or disposal activities that are initiated after December 31,
2002. The application of the requirements of SFAS No. 146 will not have a
material impact on the Company's financial position or results of operations.

In November 2002, the FASB issued Interpretation No. 45 (FIN 45), "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others", which clarifies disclosure and
recognition/measurement requirements related to certain guarantees. The
disclosure requirements are effective for financial statements issued after
December 15, 2002 and the recognition/measurement requirements are effective on
a prospective basis for guarantees issued or modified after December 31, 2002.
The application of the requirements of FIN 45 will not have a material impact
on the Company's financial position or results of operations.

Note 2 - Summary of significant accounting policies (Cont.)

r. Effects of recently issued accounting standards (Cont.)

In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock Based
Compensation-Transition and Disclosure-as Amendment to FAS 123." SFAS 148
provides two additional transition methods for entities that adopt the
preferable method of accounting for stock based compensation. Further, the
statement requires disclosure of comparable information for all companies
regardless of whether, when, or how an entity adopts the preferable, fair value
based method of accounting. These disclosures are now required for interim
periods in addition to the traditional annual disclosure. The amendments to
SFAS No. 123, which provides for additional transition methods, are effective
for periods beginning after December 15, 2002, although earlier application is
permitted. The amendments to the disclosure requirements are required for
financial reports containing condensed financial statements for interim periods
beginning after December 15, 2002.

q. Stock-based compensation

The Company accounts for employee stock-based compensation in accordance with
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees" and in accordance with FASB Interpretation No. 44. Pursuant to these
accounting pronouncements, the Group records compensation for stock options
granted to employees over the vesting period of the options based on the
difference, if any, between the exercise price of the options and the market
price of the underlying shares at that date. Deferred compensation is amortized
to compensation expense over the vesting period of the options. See below a pro
forma disclosure required in accordance with SFAS No. 123, "Accounting for
Stock-Based Compensation", as amended by SFAS No. 148.

If compensation cost for the Company's stock options and restricted units had
been determined based on fair value at the grant date in accordance with SFAS
No. 123 provisions as amended by SFAS No.148, the Company's pro forma net loss
and pro forma basic and diluted net loss per share would have been as follows:

December 31,
-----------------------------
2 0 0 2 2 0 0 1 2 0 0 0
($ in thousands)
Pro forma net loss:
Net loss for the year, as reported $(12,077) $(35,734) $(48,257)
Deduct: stock-based compensation 270 825 6,331
determined under APB 25
Add: stock-based compensation (2,102) (3,434) 7,569
determined under SFAS 123
Pro forma net loss $(13,909) $(38,343) $(34,357)
========= ========== =========
Net loss per share - basic and diluted:
As reported $ (0.42) $ (1.23) $ (1.67)
Pro forma $ (0.48) $ (1.35) $ (1.75)

For the purpose of presenting pro forma information required under SFAS 123,
the fair value option grant has been estimated on the date of grant using the
minimum value method for grants through the period of November 22, 1999 (the
date of the Company's initial public offering) and the Black-Scholes option
pricing model for grants made after the Company became a public entity. The
following assumptions were used for the years 2002, 2001 and 2000: dividend
yield of 0.00% for all periods; risk-free interest rate of 4.8%, 6% and 6%
respectively; an expected life of 3-years for all periods; a volatility rate of
150%, 70% and 70% respectively.

Because the determination of the fair value of all options granted after the
Company became a public entity included an expected volatility factor, in
addition to the factors described in the preceding paragraph and since
additional option grants are expected to be made each year, the above pro forma
disclosures are not representative of the pro forma effects of reported net
income for future years.


s. Reclassifications

Certain previously reported amounts have been reclassified to conform with the
2001 presentation.

Note 3 - Accounts receivable, net

Accounts receivable are stated net of an allowance for doubtful accounts of
$81,000 and 1,356,000 at December 31, 2002 and 2001, respectively.

Note 4 - Prepaid expenses and other current assets

Prepaid expenses and other current assets consist of the following:

December 31,
---------------------
2002 2001
($ in thousands)

Government of Israel (VAT refund and other) 26 $ 57
Deposits with suppliers 378 380
Prepaid expenses 350 714
Other 6 113
------ -------
Total prepaid expenses and other current 760 $ 1,264
assets ====== =======


Note 5 - Other current liabilities

Other current liabilities consist of the following:



December 31,
---------------------
2002 2001
($ in thousands)

Accrued expenses $ 977 $ 1,143
Employees and related expenses 1,127 1,582
Other 226 110
------- --------
Total other current liabilities $ 2,330 $ 2,835


Note 6 - Severance pay obligations

Deltathree Ltd., the Company's Israeli subsidiary, is subject to certain
Israeli law and labor agreements that determine the obligations of Deltathree
Ltd. to make severance payments to dismissed employees and to employees leaving
the Company under certain other circumstances. The obligation for severance pay
benefits, as determined by Israeli law, is based upon length of service and the
employee's most recent salary. This obligation is partially funded through
regular deposits made by Deltathree Ltd. into unaffiliated companies for
managers' insurance policies. Amounts funded are controlled by the fund
trustees and insurance companies and are not under the control and management
of Deltathree Ltd.

Expenses relating to employee termination benefits were $5,000, $128,000 and
$101,000 for the years ended December 31, 2002, 2001 and 2000, respectively.


Note 7 - Commitments and contingencies

a. Lease commitments

The Company leases offices in New York City for the headquarters of its United
States operation with an initial cost of approximately $650,000, increasing
annually to $870,000 during the final year of the lease. The lease extends
until July 2010 with an option to extend the lease for an additional five
years.

In addition, the Company leases offices in Israel at an annual cost of $
292,000. The lease term that expired on February 2003 contained an option to
extend the lease for up to an additional five years. In June 2002 the Company
signed an extension agreement for an additional three years, commencing
February 2003, at an annual cost of $201,600.

b. Legal proceedings

On October 8, 1999, Aerotel, Ltd. and Aerotel U.S.A. commenced a suit against
the Company, RSL COM and an RSL COM subsidiary in the United States District
Court for the Southern District of New York. Aerotel alleges that the Company
is infringing on a patent issued to Aerotel in November 1987 by making, using,
selling and offering for sale prepaid telephone card products in the United
States. Aerotel seeks an injunction to stop the Company and its co-defendant
from using the technology covered by this patent, monetary damages in an
unspecified amount and reimbursement of attorneys' fees. The Company has
answered the complaint, and the parties are currently still engaged in a pre-
trial discovery. As the Company continues to evaluate these claims, the Company
believes that it has meritorious defenses to the claim and it intends to defend
the lawsuit vigorously. However, the outcome of the litigation is inherently
unpredictable and an unfavorable result may have a material adverse effect on
the Company's business, financial condition and results of operations.
Regardless of the ultimate outcome, the litigation could result in substantial
expenses to the Company and significant diversion of efforts by the Company's
managerial and other personnel.

The Company, as well as certain of its former officers and directors, has been
named as a defendant in a number of purported securities class actions in
Federal District Court for the Southern District of New York, arising out of
the Company's initial public offering in November 1999 (the "IPO"). Various
underwriters of the IPO also are named as defendants in the actions. The
complaints allege, among other things, that the registration statement and
prospectus filed with the Securities and Exchange Commission for purposes of
the IPO were false and misleading because they failed to disclose that the
underwriters allegedly (i) solicited and received commissions from certain
investors in exchange for allocating to them shares of the Company stock in
connection with the IPO and (ii) entered into agreements with their customers
to allocate such stock to those customers in exchange for the customers
agreeing to purchase additional Company shares in the aftermarket at
predetermined prices. On August 8, 2001, the court ordered that these actions,
along with hundreds of IPO allocation cases against other issuers, be
transferred to Judge Scheindlin for coordinated pre-trial proceedings. At a
status conference held on September 7, 2001, Judge Scheindlin adjourned all
defendants' time to respond to the complaints until further order of the Court.
These cases remain at a preliminary stage and no discovery proceedings have
taken place. The Company believes that the claims asserted against it in these
cases are without merit and intends to defend vigorously against them.

On February 12, 2003 the Company announced that four lawsuits had been filed
against the Company, their officers and directors, and their majority
stockholder, Atarey Hasharon Chevra Lepituach Vehashkaot Benadlan (1991) Ltd.
("Atarey"), in connection with the proposal by Atarey to purchase all of the
Company's outstanding shares of common stock not held by Atarey and its
affiliates. On February 6, 2003, the Company issued a press release in
connection with the proposed transaction. The lawsuits purport to be class
actions on behalf of the Company's public stockholders. The plaintiffs in these
actions have asserted a variety of claims, including allegations that Atarey's
proposed tender offer price for the Company's publicly held shares is unfair
and grossly inadequate; and that the Company's officers and directors have
breached their fiduciary duties to the public stockholders. Each of the
lawsuits has been filed in the Delaware Court of Chancery in and for New Castle
County. The Company does not believe that these lawsuits state valid claims
against the Company or any of the Company's officers or directors.

c. Other marketing and cooperation agreements

The Company has entered into marketing and cooperation agreements with various
other companies that maintain sites on the Web. Pursuant to certain of these
agreements, the Company is obligated to pay commissions based on revenues
derived from such Web links.


Note 8 - Stockholders' equity

a. Share capital

Following the Company's initial public offering, effective December 1999, the
Company's Class A common stock was listed on the NASDAQ National Market
System. . Holders of the Class A common stock are entitled to one vote per
share. The Company also issued Class B shares to RSL COM, (which carried ten
votes per share). Each share of Class B common stock was convertible into one
share of Class A common stock at any time.

In June 2001 Atarey acquired the controlling interest in the Company. As part
of the transaction all Class B shares were converted to Class A shares (see
Note 1).

On September 17, 2002 the listing of the Company's common stock was
transferred from the Nasdaq National Market to the Nasdaq SmallCap Market.

b. CNET transaction

On October 20, 1999, the Company issued to CNET Investments, Inc. ("CNET")
1,085,943 shares of common stock and a warrant to purchase 466,028 shares of
Class A common stock at an exercise price of $ 19.31 per share, or
approximately $ 11.0 million in the aggregate, which was received in cash by
the Company upon the issuance of the shares. The Company recorded approximately
$ 2.7 million of deferred compensation expense in 1999 related to the issuance
of the shares representing the difference between each of the purchase price of
the Class A common stock as compared to the initial public offering price of
the Class A common stock and the issuance of the warrant (using the
Black-Scholes option pricing model for determining the fair value of the
warrant). Amortization of the deferred compensation for the year ended December
31, 2000 amounted to $ 1,062,000. On July 6, 2001, CNET entered into a share
purchase agreement with Atarey (the "CNET Purchase Agreement"). Under the CNET
Purchase Agreement, among other things, Atarey purchased all of the shares
owned by CNET in accordance with the "tag-along" rights granted to CNET
pursuant to their purchase. In addition, the Company entered into a binding
development and promotion agreement with CNET in September 1999, which was
amended effective July 1, 2000, whereby CNET provided various promotions to the
Company to assist it in promoting its PC-to-Phone product and related services.
In consideration for these services, the Company was obligated to pay CNET a
total of $11,000,000.

In May 2001 the agreement with CNET was terminated. The Company incurred a
one-time expense of approximately $3,628,000 resulting from the cancellation of
the agreement. Expenses included a payment to terminate the contract of
$1,750,000, the acceleration of the amortization of compensation charges
deferred in previous years of $1,493,000 and other related expenses.

c. Stock Options

In November 1999, the Company adopted the 1999 Stock Incentive Plan ("the
Plan"). Under the Plan, 4,000,000 shares of Class A were reserved for issuance
upon exercise of awards to be granted. In addition, the Company's compensation
committee may grant both incentive and non-incentive stock options for shares
of Class A common stock of the Company. The options generally have a term of
seven years and become exercisable in three equal installments commencing on
the first anniversary of the date of the grant. The purchase price per share
payable upon exercise of an option is no less than the fair market value of the
share at the date of grant.

As of December 31, 2002, options to purchase 3,449,520 shares of Class A were
outstanding with exercise prices ranging between $0.004 and $15.00 per share.

A summary of the status of the Company's stock option plans as of December 31,
2002 and 2001 and changes during the years then ended, is presented below:



December 31, December 31, December 31,
2002 2001 2000
Weighted Weighted Weighted
average average average
Exercise Exercise Exercise
Shares price Shares price Shares price
-------- --------- --------- ----------- --------- --------
Options outstanding 2,591,205 4.24 1,626,843 8.72 1,952,537 7.54
at beginning of year
Granted during the year 1,335,348 0.98 1,978,416 3.68 475,000 7.85
Exercised during the year 16,566 0.004 50,961 0.004 319,22 9 4.10
Forfeited during the year 460,467 5.20 963,093 8.77 481,465 6.54
-------- --------- --------- ----------- --------- --------
Outstanding at end of year 3,449,520 2.87 2,591,205 4.24 1,626,843 8.72
========= ========= ========= =========== ========= ========
Weighted average $ 0.95 2.39 4.00
fair value of ========= ========= =========
options granted
during the year


d. Employee Stock Purchase Plan

During 1999, the Board of Directors approved an Employee Stock Purchase Plan
(the "ESPP"), effective beginning November 23, 1999. Under the ESPP, the
maximum number of shares to be made available under the ESPP is 5% of the
number of outstanding shares. All full-time employees who have been employed by
the Company for at least one calendar quarter are eligible to participate in
the ESPP. Employee stock purchases are made through payroll deductions. Under
the terms of the ESPP, employees may not deduct an amount that exceeds $25,000
in total value of stock in any one year. The purchase price of the stock will
be the lower of 85% of the fair market value on the first trading day of the
offering period or the last trading day of the purchase period. The ESPP shall
terminate upon the first to occur of (i) December 31, 2009 or (ii) the date on
which the ESPP is terminated by the Board of Directors. During 2002, there were
no purchases of shares under the ESPP.

Note 9 - Research and development expenses, net

Research and development expenses consist of the following:

Year ended December 31,
--------------------------
2002 2001 2000
($ in thousands)

Salaries and related expenses $2,462 $ 3,255 $5,388
Consulting and advisory fees 78 655 -
Travel 41 126 344
Other 854 1,612 893
------ ------- ------
Total research and development 3,435 5,648 6,625
expenses ====== ======= ======

Note 10 - Write-down of fixed assets

In 2001 the Company incurred a one-time expense of approximately $1,003,000
from the write down of equipment that was purchased in previous periods to
support contracts and inter-company agreements between RSL COM and the Company
that were cancelled at the time of RSL COM's sale of their majority ownership
interest in the Company to Atarey in accordance with FAS 121 (See Note1).

Note 11 - Impairment of goodwill

During 2001, the telecommunications industries experienced significant and
rapid contraction, which was accompanied by a decrease in revenues. In the
fourth quarter of fiscal 2001 the Company assessed the value and future benefit
of its goodwill pursuant to Accounting Principles Board Opinion No. 17,
Intangible Assets ("APB 17") and consequently made a full write-off of the
goodwill in the amount of $4,151,000.

In February 2000, the Company issued 227,738 shares of Class A common stock, at
an average market price of $46 per share, amounting to $ 10,500,000 in the
aggregate to acquire all the outstanding shares of YourDay.com, Inc. In
November 2000, the Company decided to deemphasize its consumer business, and
communications portal, and focus on generating revenues primarily through sales
of its Hosted Communications Solution. As a result, the Yourday.com technology
was not incorporated into the Company's offerings. Accordingly, the Company
recorded a full write-off of the Yourday.com technology in the amount of $
8,905,000.

Note 12 - Income taxes

a. Tax loss carryforwards

As of December 31, 2002, the Company had net operating loss carryforwards
generated in the U.S. and Israel of approximately $119,143,000 and $ 7,511,000,
respectively. The Company's U.S. net operating loss carryforwards will expire
at various dates beginning in 2011 if not utilized. In addition, a portion of
those net operating loss carryforwards could be subject to limitation due to
changes in ownership of the Company. The Company's net operating losses
generated in Israel may be carried forward indefinitely.

b. In accordance with SFAS No. 109, the components of deferred income taxes
are as follows:

December 31,
-----------------
2002 2001
------ ------
($ in thousands)
Net operating losses
carryforwards $ 45,595 $ 41,245
------ ------
Less valuation allowance (45,595) (41,245)
Net deferred tax assets $ - $ -
======= ========

As of December 31, 2002, and 2001, a valuation allowance of $45,595,000, and
$41,245,000 respectively, is provided as the realization of the deferred tax
assets are not assured.

Note 13 - Segment reporting, geographical information and major customers

The Company operates in a single industry segment, IP communications
services, and makes business decisions and allocates resources accordingly.


December 31,
-----------------------
2002 2001 2000
($ in thousands)
Revenues by geographical location:
United States $5,077 $ 9,123 $ 20,862
Europe 984 2,654 5,289
Argentina 903 - -
Far east 1,109 1,413 3,162
Other 4,856 2,470 1,063
Total revenues 12,929 15,660 30,376
------ ------- -------
Revenues from major customers:
Affiliates $ - $ 1,669 $ 13,977
------ ------- -------


December 31,
----------------
2002 2001
($ in thousands)
Long-lived assets:
United States 7,054 11,864
Israel 1,554 1,797
Europe 690 1,426
Other 154 548
Total long-lived assets ----- ------
$ 9,452 $ 15,635
======= ========



Note 14 - Selected Quarterly Financial Information (Unaudited)


Three Months Ended,
---------------------------
March 31 June 30 September 30 December 31
-------- ------- ------------ -----------
($ in thousands, except per share data)
2002
----
Total revenues $ 3,337 $ 3,154 $ 3,214 $ 3,224
Costs and operating expenses:
Cost of revenues, net 2,557 2,179 2,193 2,005
Research and development 992 880 772 790
expenses, net
Selling and marketing 1,051 1,168 808 883
expenses
General and administrative
expenses (exclusive of
non cash compensation 610 511 623 415
expense shown below)
Non cash compensation 162 108 - -
expense
Depreciation and 1,635 1,643 1,675 1,653
-------- ------- ------------ -----------
amortization
Total costs and operating 7,007 6,489 6,071 5,746
-------- ------- ------------ -----------
expenses
Loss from operations (3,670) (3,335) (2,857) (2,552)

Interest income (expense), net 129 52 194 73
-------- ------- ------------ -----------
Loss before income taxes (3,541) (3,283) (2,663) (2,449)

Income taxes 11 - 45 85
-------- ------- ------------ -----------
Net loss $(3,552) $ (3,283) $ (2,708) $ (2,534)
========== ========== ========== ==========

Net loss per share - basic and $(0.12) $ (0.11) (0.09) $ (0.09)
diluted ========== ========== ========== ==========
Weighted average number of
shares outstanding -
basic and diluted 28,885,606 28,885,606 28,885,606 28,898,738
========== ========== ========== ==========

2001
----
Total revenues $ 6,026 $ 2,841 $ 3,418 $ 3,375
Costs and operating expenses:
Cost of revenues, net 5,339 2,526 2,820 2,803
Research and development 1,836 1,527 1,279 1,005
expenses, net
Selling and marketing 3,214 1,921 1,488 1,177
expenses
General and administrative
expenses (exclusive of
non cash compensation 2,050 1,628 1,228 2,075
expense shown below)
Non cash compensation 268 233 162 162
expense
Depreciation and 1,971 2,490 2,758 1,632
amortization
Write-down of fixed assets - 1,147 - -
Expenses due to cancellation
of agreement with a
(including non-cash - 3,628 - -
compensation of $1,493)
Impairment of goodwill - - - 4,151
Total costs and operating 14,678 15,100 9,735 13,005
-------- ------- ------------ -----------
expenses
Loss from operations (8,652) (12,259) (6,317) (9,630)

Interest income (expense), net 732 527 232 186
-------- ------- ------------ -----------
Loss before income taxes (7,920) (11,732) (6,085) (9,444)

Income taxes 69 (181) 106 558
-------- ------- ------------ -----------
Net loss $(7,989) $(11,551) $(6,191) $ (10,002)
========== ========== ========== ==========
Net loss per share - basic and $ (0.27) $ (0.40) $ (0.21) $ (0.34)
diluted ========== ========== ========== ==========

Weighted average number of
shares outstanding -
basic and diluted 29,056,413 29,055,783 29,129,604 29,029,061
========== ========== ========== ==========

SIGNATURES

Pursuant to the requirements of Sections 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this annual report to be signed on
its behalf by the undersigned, thereunto duly authorized, in the City of New
York, New York on the 27th day of March, 2003.

Deltathree, Inc.

By:
Paul C. White
-----------------------
Paul C. White
Chief Financial Officer

KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Noam Bardin and Paul C. White his true and lawful
attorney-in-fact, each acting alone, with full power of substitution and
resubstitution for him and in his name, place and stead, in any and all
capacities to sign this Annual Report, and to file the same, with all exhibits
thereto, and other documents in connection therewith, with the Securities and
Exchange Commission, hereby ratifying and confirming all that said
attorney-in-fact or his substitutes, each acting alone, may lawfully do or
cause to be done by virtue thereof.

Pursuant to the requirements of the Securities Exchange Act of 1934, this
Annual Report has been signed by the following persons in the capacities and on
the dates indicated:

Signature Title Date
- ----------------- ---------------------------------- ---------------
Shimmy Zimels Chief Executive Officer, President March 27, 2003
- ------------ and Director (Principal Executive Officer)
Shimmy Zimels


Paul C. White Chief Financial Officer (Principal March 27, 2003
- ------------- Accounting and Financial Officer)
Paul C. White


Noam Bardin Chairman of the Board of Directors March 27, 2003
- -----------
Noam Bardin

Ehud Erez Director March 27, 2003
- ---------
Ehud Erez

Amir Gera Director March 27, 2003
- ---------
Amir Gera

Elie Housman Director March 27, 2003
- ------------
Elie Housman

Joshua Maor Director March 27, 2003
- -----------
Joshua Maor

Lior Samuelson Director March 27, 2003
- --------------
Lior Samuelson


CERTIFICATIONS

I, Shimmy Zimels, certify that:

1. I have reviewed this annual report on Form 10-K of deltathree, Inc.;

2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;

3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;

4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:

a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this annual report is being prepared;

b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this annual
report (the "Evaluation Date"); and

c) presented in this annual report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;

5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
functions):

a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and

b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and

6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.


Date: March 27, 2003
Shimmy Zimels
-----------------
Shimmy Zimels
Chief Executive Officer and President
(Principal Executive Officer)


I, Paul C. White, certify that:

1. I have reviewed this annual report on Form 10-K of deltathree, Inc.;

2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;

4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:

a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this annual report is being prepared;

b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this annual
report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of the
Evaluation Date;

5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
functions):

a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and

b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal controls; and

6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.


Date: March 27, 2003 Paul C. White
------------------------------
Paul C. White
Title: Chief Financial Officer
(Principal Financial Officer)

Exhibit 23.1


Independent Auditors' Consent

We hereby consent to the incorporation by reference in the Registration
Statement on Form S-8 (File No. 333-34156) of deltathree, Inc. (the "Company"),
our report, dated March 31, 2003, relating to our audit of the financial
statements of the Company as of December 31, 2001, and 2002 and for the years
ended December 31, 2000, 2001, and 2002, contained in this Annual Report on Form
10-K.

Brightman Almagor & Co.
- -----------------------------------------
Brightman Almagor & Co.
Certified Public Accountants
A member firm of Deloitte Touche Tohmatsu

Tel Aviv, Israel
March 27, 2003

Exhibit 99.1
Certification
---------------------

Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (Subsections (a) and
(b) of Section 1350, Chapter 63 of Title 18, United States Code)


Pursuant to section 906 of the Sarbanes-Oxley Act of 2002 (subsections (a) and
(b) of section 1350, chapter 63 of title 18, United States Code), each of the
undersigned officers of deltathree, Inc., a Delaware corporation (the "
Company"), does hereby certify, to such officer's knowledge, that:

The Annual Report on Form 10-K for the year ended December 31, 2002 (the "Form
10-K") of the Company fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934, and the information contained in
the Form 10-K fairly presents, in all material respects, the financial condition
and results of operations of the Company.


Dated: March 27, 2003 Shimmy Zimels
-----------------------
Shimmy Zimels
Chief Executive Officer


Dated: March 27, 2003 Paul C. White
----------------------
Paul C. White
Chief Financial Officer


This certification accompanies each Report pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 and shall not, except to the extent required by the
Sarbanes-Oxley Act of 2002, be deemed filed by the Company for purposes of
Section 18 of the Securities Exchange Act of 1934, as amended.