10-K405 1 d25604_form10-k.txt COMVERSE +=============================================================================== 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 Year ended January 31, 2001 Commission File Number 0-15502 COMVERSE TECHNOLOGY, INC. (Exact name of registrant as specified in its charter) New York 13-3238402 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 170 Crossways Park Drive Woodbury, New York 11797 (Address of principal executive offices) Registrant's telephone number, including area code: 516-677-7200 Securities registered pursuant to Section 12(b) of the Act: Name of each exchange Title of each class on which registered ------------------- -------------------- Not applicable Not applicable Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.10 par value per share (Title of Class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes: [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 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 voting stock held by non-affiliates of the registrant on April 23, 2001 was approximately $11,020,000,000. The closing price of the registrant's common stock on the NASDAQ National Market System on April 23, 2001 was $66.68 per share. There were 171,106,918 shares of the registrant's common stock outstanding on April 23, 2001. DOCUMENTS INCORPORATED BY REFERENCE The registrant hereby incorporates by reference in this report the information required by Part III appearing in the registrant's proxy statement or information statement distributed in connection with the 2001 Annual Meeting of Shareholders of the registrant or in an amendment to this report on Form 10K/A. ---------- TRILOGUE, Access NP, RELIANT, Loronix, CCTVware, ImageShare, Signalware and Ulticom Call Control are registered trademarks, and TRILOGUE INfinity, AUDIODISK, Ultra, Ulticom, Inc., Nexworx, Ultimate Service Control, Programmable Network, Service Enabling Software, Instant Conferencing, JTCAP, JISUP, JOAM, Softservice and Nexworld are trademarks, of the Company. - ii - PART I ITEM 1. BUSINESS. The Company Comverse Technology, Inc. ("CTI" and, together with its subsidiaries, the "Company") designs, develops, manufactures, markets and supports computer and telecommunications systems and software for multimedia communications and information processing applications. The Company's products are used in a broad range of applications by wireless and wireline telecommunications network operators and service providers, call centers, and other public and commercial organizations worldwide. Through its subsidiary Comverse Network Systems, Inc. ("Comverse"), the Company provides enhanced services platform ("ESP") products that enable telecommunications service providers to offer a variety of revenue-generating services accessible to large numbers of simultaneous users. These services include a broad range of integrated messaging, information distribution and personal communications services, such as call answering, voicemail, faxmail, unified messaging (voice, fax and email in a single mailbox, media conversion such as email to voice and visual mailbox presentation), prepaid wireless calling services, short messaging services ("SMS"), wireless Internet access and associated services, interactive voice response ("IVR"), Internet-based services such as Internet messaging and voice portal services, which are part of a voice-controlled portfolio of services such as voice dialing, voice-controlled Web browsing and voice-controlled messaging. The Company's principal market for ESP systems consists of organizations that use the systems to provide services to the public, often on a subscription or pay-per-usage basis, and includes both wireless and wireline telecommunications network operators and other telecommunications service provider organizations. The Company markets its ESP systems throughout the world, with its own direct sales force and in cooperation with a number of leading international vendors of telecommunications infrastructure equipment. The Company is the market-share leader in providing large capacity messaging systems for wireless and wireline telecommunications service providers. More than 360 wireless and wireline telecommunications service providers in more than 100 countries, including the majority of the 20 largest telecom companies in the world, have selected the Company's platforms to provide enhanced telecommunications services to their public customers. Major network operators and service providers using the Company's ESP systems include, among others, AT&T (USA), BellSouth (USA), British Telecom (UK), Deutsche Telekom (Germany and other European countries), KDDI (Japan), MCI Worldcom (USA), NTT (Japan), Orange (UK), Pacific Century CyberWorks (Hong Kong), SBC Communications (USA), SFR Cegetel (France), SingTel (Singapore), Sprint (USA), Telecom Italia (Italy), Telmex (Mexico), Telstra (Australia), Verizon (USA) and Vodafone (multiple European countries). Through its subsidiary Comverse Infosys, Inc. ("Infosys"), the Company provides business intelligence solutions based on digital recording of voice (telephone transactions) video (closed circuit television ("CCTV") cameras) and the Internet. These systems support the acquisition of voice, fax, video, data and screen imagery from multiple telecommunications channels and Internet Protocol-based ("IP") networks, and enable access to the recorded information for processing and further analysis. The Infosys Ultra product targets the enterprise call center and customer relationship management ("CRM") markets and provides end users with business intelligence about the enterprise customers and the performance of agents. The Infosys InfoGate product targets the public networks market, providing monitoring interfaces to a variety of wireline, wireless and IP networks for traffic monitoring and law enforcement compliance applications. The Infosys Reliant product targets the law enforcement and government agency markets, providing legal interception and surveillance solutions. The Loronix product targets a variety of organizations, including the retail, transportation, gaming, corporate and government markets, and provides end users with business intelligence about their operations based on digital video recording of CCTV cameras and networked access to recorded video. Infosys markets its Ultra, InfoGate, Reliant, and Loronix products throughout the world with its own direct sales force and through resellers and VARs. Major enterprises using Infosys products include, among others, Barclays Bank, Fidelity, Hewitt Bank, HSBC, Midland Bank and TIAA CREF in the financial segment; Ameritech, NTT Docomo (Japan), Orange (UK) and Sprint in the service provider segment; telecommunications infrastructure equipment vendors such as Ericsson and Lucent; corporate and retail entities such as Cisco, Fedex, Intel, Target and Tiffany, and government agencies in over 40 countries worldwide. Through its subsidiary Ulticom, Inc. ("Ulticom"), the Company provides service enabling network software for wireless, wireline and Internet communication services known as Signalware. Signalware call control products interconnect the complex circuit switching, database and messaging systems and manage vital number, routing and billing information that form the backbone of today's global public networks, primarily through Signaling System Number 7 ("SS7"). SS7 is a widely used set of signaling standards and protocols for communications networks worldwide. Signalware enables communication service providers to offer intelligent network ("IN") services, such as global roaming, prepaid calling, caller ID and voice and text messaging. Signalware products are also embedded in a range of packet softswitching products, which enable voice and data networks to interoperate, or converge, allowing service providers to offer such converged network services as voice over the Internet and Internet call waiting. Ulticom's Nexworx product initiative is designed to move service control into the hands of subscribers, so that businesses or consumers can access network resources to create and customize their communication services. Ulticom had an initial public offering of its common stock in April, 2000, and its common stock is listed on the NASDAQ National Market System under the symbol ULCM. The Company holds approximately 75% of Ulticom's outstanding common stock. The Company markets other telecommunications products and services, including products that are integrated with its systems and products that work in combination with other systems to provide advanced telecommunications services, such as automatic call distribution and messaging systems for telephone answering service bureaus, and intelligent IP gateways for wireless roaming and Voice over Internet Protocol ("VoIP") applications. The Company also engages in venture capital investment and capital market activities for its own account. - 2 - Throughout this document, references are made to technologies, features, capabilities, capacities and specifications in conjunction with the Company's products and technological resources. Such references do not necessarily apply to all product lines, models and system configurations. The Company was incorporated in the State of New York in October 1984. Its headquarters are located at 170 Crossways Park Drive, Woodbury, New York 11797, where its telephone number is (516) 677-7200. THE COMPANY'S PRODUCTS Enhanced Services Platforms The market for network-based ESP systems and software has grown rapidly over the past several years. The Company believes that a number of factors have contributed to this growth, including the heightened emphasis among wireless and wireline telecommunications network operators on offering new services for revenue-generation, competitive differentiation, and customer retention, the increasing public awareness and acceptance of multimedia messaging services, the expanding availability of call answering services, and the growing use of wireless communications services, which almost universally offer a mailbox-based call answering service, as well as text-based services such as SMS. The Company's primary focus has been on supplying carrier grade large-capacity ESP systems and software, which are marketed primarily under the names Access NP and TRILOGUE INfinity, to wireless and wireline telecommunications network operators. These organizations benefit from the ability to offer their customers, often on a subscription or pay-per-use basis, a variety of revenue-generating services provided by the Company's systems, such as automated call answering, voice and fax messaging, unified messaging (voice, fax and email in a single mailbox, media conversion such as email to voice and visual mailbox presentation), prepaid services, wireless data and Internet-based services such as Internet messaging, short text messaging, wireless Internet access and associated services, IVR, call screening, personal number service, one-touch call return, wireless instant messaging, wireless music infotainment services, location-based services, and voice-controlled services, such as voice-controlled dialing, voice-controlled Web browsing, voice portal, and voice-controlled messaging. With call answering and voice and fax messaging, telecommunications service providers benefit not only from service subscription fees, but also from traffic revenue generated by the increase in billable completed calls. In addition, these services improve overall network efficiency by reducing congestion from repeated unbillable busy/no-answer calls, and foster customer loyalty which results in overall reduction in churn. Wireless telecommunications service providers are almost universally adding voicemail and SMS to their service offerings, and often as part of their basic service package, not only because of these benefits, but also because wireless voicemail messaging services directly increase billable airtime by stimulating outbound calls and wireless - 3 - short messaging services increase billable transactions by stimulating person-to-person messaging and information retrieval. The Company's carrier grade ESP systems and software have been designed and packaged to meet the capacity, reliability, availability, scalability, maintainability, network and OMAP (Operations, Maintenance, Administration, and Provisioning) interfaces and physical requirements of large telecommunications network operators. The systems are offered in a variety of sizes and configurations and can be clustered for larger capacity installations. The systems also offer redundancy of critical components, so that no single failure will interrupt the service. The Company's platforms are available in both centralized and widely distributed configurations, and maintain their integrity as a single system in distributed configurations. The Company's distributed architecture incorporates VoIP and Wide Area Networking ("WAN") technologies to reduce the cost of long distance message transmissions, message retrievals, voice signature transmissions, and prepaid service database inquiries. This architecture utilizes lower cost packet-switched networks, such as IP-networks, rather than more costly, traditional circuit-switched methods, to reduce the network operators' cost of operation. The Company's systems also incorporate components that are compatible with the IN and AIN protocols for Intelligent Peripherals, permitting the Company's network operator customers to develop and deploy services based on the overall IN/AIN architecture. In addition, when the system is configured as a Service Node ("SN"), it enables customers to offer IN/AIN-based services such as personal number, call screening/caller introduction, one-touch call return and prepaid calling services. The incorporation of IN and AIN-related software also allows a customer, which has not yet implemented intelligent network infrastructure, to purchase an ESP system from the Company with the confidence that it contains a built-in migration path to IN/AIN standards, should the network operator decide to implement IN/AIN infrastructure in the future. The Company's platforms incorporate both company-developed and third-party-developed software, and third-party and company-designed hardware, in an open, standards-based system architecture. The systems support a wide variety of digital telephony and IP interfaces and signaling systems, enabling them to adapt to a variety of different network environments and IN/AIN applications, and provide a "universal port" -- a single port that supports multiple applications and services at any time during a single call. The Company has also introduced Internet messaging capabilities, enabling end-users to access their voice, fax and email messages from anywhere in the world via the Internet. Business Intelligence Through Intelligent Recording Traditionally, analog tape recorders, alone or coupled with a variety of other special purpose devices, have been utilized for communications monitoring, recording and related applications. The limited capacity and processing capability inherent in these systems have imposed constraints on organizations that process large amounts of multimedia information from - 4 - multiple channels and that need to store the processed information for long periods while keeping it available for rapid retrieval. The Infosys Intelligent Recording systems interface with a variety of telecommunications channels and automatically acquire and collect multimedia communications. Most importantly, they also enable users to adapt efficiently to the emergence of new telecommunications technologies, such as digital transmission and enhanced signaling systems, for which analog, tape recorder-based equipment was not designed. From a collection standpoint, the systems provide a number of advantages over analog, tape recorder-based systems, including improvements in capacity, reliability, accuracy, processing efficiency and archiving and retrieval capabilities. Once the information has been collected and recorded in a digital form, a variety of processing and analysis tools can be applied to sort out information and to provide end users with actionable information. This process delivers to the end user business intelligence about the enterprise customers and/or operations which helps the enterprise improve it's competitiveness and effectiveness. The Company's Ultra line of multiple channel, multimedia digital recording systems are marketed primarily to call centers and CRM applications. Ultra systems provide computer-telephony integration enabled recording, including integration with major PBX/ACDs, middleware products and CRM applications. The computer-telephony integration connection allows the customer to easily search calls through database queries. In addition, selective recording is possible through time-driven schedules or event triggers. Ultra systems support high volume of simultaneous playbacks over the telephone or through LANs, WANs, and the Internet. Immediate access to recordings is possible through advanced optical disk technology and jukeboxes. The Ultra product supports three business applications: transaction recording, for customers that need to capture specific voice and data calls for long term storage and/or access by large number of users; agent performance management, for customers that track the performance and quality of service of their agents and provide them with training and incentive programs for improvement; and customer experience monitoring, for enterprises that monitor their customers' experience while interacting over the phone, email and the Internet. The InfoGate product targets the public networks market, providing monitoring interfaces to a variety of wireline, wireless and IP networks for traffic monitoring and law enforcement compliance applications. InfoGate allows access to specific calls routed via public networks through interfaces to network switches from vendors such as Alcatel, Ericsson, Lucent, Nokia, Nortel, Siemens and many others. InfoGate also supports interfaces to packet data networks such as the Internet and general packet radio services. The Reliant product provides legal interception and surveillance solutions for law enforcement and government agencies. The Reliant product design is based on open system architecture and client/server concepts, and supports a broad range of multimedia monitoring capabilities. Reliant's capabilities include the recording, processing and retrieval of analog audio signals, such as telephone and radio channels; analog facsimile and modem communications; digital audio and data signals, including ISDN, T1 and E1; and telephony signaling, including Pulse Dialing, DTMF, Calling Line Identification and Call Progress Tones (such as busy, - 5 - no-answer and ringback). Reliant systems simultaneously process incoming signals over multiple channels, apply digital signal processing technologies and use magnetic and optical disks for temporary and long-term digital storage. The systems also enable users to transmit multimedia information among multiple sites over communication links. Reliant is designed to support various communications links, including T1, E1, ISDN, dial-up telephone lines (over modems), satellite links and TCP/IP over Ethernet (with routers). The Company offers Reliant systems in a range of configurations, which share substantially the same hardware, software and user interface. The Reliant systems' multimedia server can be configured in a variety of models to support a range of applications, including large, fixed-site audio monitoring platforms. Moreover, several Reliant multimedia servers may be networked for increased capacity or to satisfy redundancy requirements. The Loronix product line of digital video monitoring systems is marketed to a variety of organizations that require the capture and analysis of video information recorded from CCTV cameras. Traditionally, such systems utilized analog, VCR-based equipment to archive recorded video images. The Company's digital video technology offers several advantages over analog equipment, including faster search and retrieval, and the ability to monitor and control from a remote location. Target markets include, among others, retail, where recorded video from stores is used for improving operations efficiency primarily through reduced theft, transportation, where recorded video is used mainly for public safety, and gaming, where video recording is regulated. Service Enabling Network Software The Company's Ulticom subsidiary provides service enabling network software for wireless, wireline and Internet communication services known as Signalware. Signalware call control products interconnect the complex circuit switching, database and messaging systems and manage vital number, routing and billing information that form the backbone of today's global public networks, primarily through SS7. Signalware provides many of the features that are crucial to the connectivity of communication networks and the rapid delivery of revenue generating services, including: open standards, service reliability, high performance, scalability and global interoperability. It also plays a key role in the convergence of disparate networks by providing a means to bridge circuit and packet technology. Signalware is used to build a wide range of IN services and services for converged networks, and is embedded in several firms' packet softswitching products. Signalware is sold in packages that offer specific features and functionality. Signalware works with multiple SS7 networks, supports a wide variety of SS7 protocol elements and enables analog or digital wireline and wireless transmissions. Signalware packages can be configured for use in single or multiple computing configurations for fault resiliency and reliability. Signalware products also provide a means to separate the signaling function from the application development environment, which provides greater flexibility in configuring services. Signalware customers include equipment manufacturers, such as Alcatel, Ericsson and Siemens, application - 6 - developers such as Logica and Sonus and service providers such as Level (3) and MCI Worldcom. Ulticom also continues to develop its Nexworx service control product initiative. Currently, this technology combines the key attributes of Signalware to create a platform that enables service creation both inside and outside of traditional telephone networks. Nexworx is designed to move service control into the hands of subscribers, so that businesses and consumers can access network resources to create and customize their communication services. The network interfaces that are provided by Nexworx, combined with private databases, browser enabled appliances, personal computers or wireless devices, puts the subscriber in control, creating a new Programmable Network. Examples of services that can be developed using Nexworx include web-based call forwarding, call screening, instant conferencing, messaging services, reminder services, click-to-dial services, location sensitive directory assistance and personal 800 number service. Other Telecommunications Products and Services The Company's other telecommunications products and services are developed and marketed through subsidiaries in the United States and internationally. These include automatic call distribution and messaging systems for telephone answering service bureaus and other organizations, and intelligent IP gateways for wireless roaming and VoIP applications. ACQUISITIONS During the year ended January 31, 2001, the Company, in exchange for its common shares, acquired several companies in the telecommunications and business intelligence industries having products and resources complementary to those of the Company. See Note 8 to the Company's consolidated financial statements included elsewhere in this report. Products of the acquired companies are included in the descriptions of the Company's products set forth above. MARKETS, SALES AND MARKETING The Company's ESP systems and software are marketed by the Company throughout the world, with its own direct sales force as well as local distributors, and in cooperation with a number of leading international vendors of telecommunications infrastructure equipment. The Company is the market share leader in providing large capacity messaging systems for wireless and wireline telecommunications network operators around the world. More than 360 wireless and wireline telecommunications network operators in more than 100 countries, including the majority of the 20 largest telephone companies in the world, have selected the Company's platforms to provide enhanced telecommunications services to their - 7 - public customers. Major network operators using the Company's ESP systems include, among others, AT&T (USA), BellSouth (USA), British Telecom (UK), Deutsche Telekom (Germany and other European countries), KDDI (Japan), MCI Worldcom (USA), NTT (Japan), Orange (UK), Pacific Century CyberWorks (Hong Kong), SBC Communications (USA), SFR Cegetel (France), SingTel (Singapore), Sprint (USA), Telecom Italia (Italy), Telmex (Mexico), Telstra (Australia), Verizon (USA) and Vodafone (multiple European countries). The Company provides its customers, through its Medalist plan, with programs of marketing consultation, seminars and materials designed to assist them in marketing enhanced telecommunications services, and also undertakes to play an ongoing supporting role in their business and market planning processes. The Company's Ultra, InfoGate, Reliant and Loronix systems are marketed by the Company worldwide through its direct sales force and, where appropriate, through agents, distributors and system integrators. Primary target markets for the Ultra Series include call centers and enterprises with CRM applications. The InfoGate target markets are the network operators and public networks switch vendors. The Reliant systems are sold primarily to the law enforcement and government markets. The Loronix systems are sold primarily to retail, transportation, gaming, corporate and government markets. Major enterprises using Infosys' products include, among others, Barclays Bank, Fidelity, Hewitt Bank, HSBC, Midland Bank, and TIAA-CREF in the financial sector; Ameritech, NTT Docomo (Japan), Orange (UK) and Sprint in the service provider sector; equipment vendors such as Ericsson and Lucent; corporate and retail entities such as Cisco, Fedex, Intel, Target and Tiffany, and government agencies in over 40 countries worldwide. Ulticom's Signalware products are used by over 50 customers and are deployed in more than 90 countries. Ulticom markets its products and services primarily through its direct sales organization and through key relationships with customers such as telecommunications equipment manufacturers and application developers. These customers include Signalware within their products and sell them as an integrated solution to service providers. The service providers, in turn, install the solution in their communication networks and then offer the service enabled by such a solution to their subscribers. Signalware customers include equipment manufacturers, such as Alcatel, Ericsson and Siemens, application developers such as Logica and Sonus and service providers such as Level (3) and MCI Worldcom. Ulticom actively participates in industry activities to define the technology to facilitate the convergence of telephony networks with the Internet. It is a founding member, along with British Telecom, Microsoft, Nortel and Siemens, of The Parlay Group, an industry consortium to specify an open interface to enable secure public access to core capabilities of voice and data networks. Ulticom also is a founding member of JAIN, the Java API Integrated Networks industry initiative to define common interfaces between IN and SS7 environments so that services and protocols can run anywhere in the network. In addition, Ulticom has worked with the Internet Engineering Task Force to develop a set of signaling transport standards called - 8 - SIGTRAN to enable communication service providers to more easily implement services that span existing circuit-switched networks and packet networks using IP. TECHNOLOGIES The Company's research and development efforts focus particularly on the design of very large, high throughput systems, digital signal processing technologies for voice, image, video, and data communications, development of various network and OMAP interfaces, and application development. The Company's products use advanced technologies in the areas of digital signal processing, VoIP, facsimile protocols, networking interfaces, databases, data networking, multi-processor computer architecture and real-time software design. The Company uses its proprietary technology and expertise in the development of software products, solutions and applications within the IN and AIN environment. The Company's products are based upon flexible system architectures specifically designed to handle multiple channel, multimedia communication and processing applications. The Company's products employ open system, modular architectures, which use distributed processors, rather than one large central processor, as well as multiple storage devices and data networking. The product design is intended to be readily adaptable to the usage and capacity requirements of the individual end-user. The product architectures also allow the Company to add enhancements and new technologies to its systems without rendering existing products obsolete. The Company's distributed architecture incorporates VoIP and WAN technologies to reduce the cost of long distance message transmissions, message retrievals, voice signature transmissions, and prepaid service database inquiries. This architecture utilizes lower cost IP-based packet-switched networks rather than more costly, traditional circuit-switched methods, to reduce the network operators' cost of operation. The Company has developed or integrated third-party interfaces for its products to most circuit-switched and IP networks used around the world, including digital interfaces, such as T1, E1 and ISDN, SS7, IP, and VoIP, designed to encompass both basic network connectivity and the IN/AIN capabilities of Intelligent Peripherals and Service Nodes. The Company has also developed Internet Protocols, including WAP, cHTML, VPIM, POP3, IMAP4, HTTP and HTML. The Company has implemented facsimile communication and intercept protocols for Group 3 facsimile. Certain of the Company's products incorporate LAN and WAN technologies used for the transfer of digitized voice, fax, video, and modem information, as well as for the transfer of data among various network elements. The Company utilizes state-of-the-art mass storage technologies in many of its products. A variable number of disks may be configured in a disk array to serve large numbers of users and to provide full or partial disk redundancy for critical applications. Special algorithms utilized by the Company to handle optical disks within a number of jukebox devices include automatic channel-to-disk allocation, automatic retrieval of multimedia information from any disk located in the jukeboxes and redundant archiving on two or more cartridges simultaneously. - 9 - RESEARCH AND DEVELOPMENT Because of the continuing technological changes that characterize the telecommunications and computer industries, the Company's success will depend, to a considerable extent, upon its ability to continue to develop competitive products through its research and development efforts. The Company currently employs more than 2,500 scientists, engineers and technicians in its research and development efforts, with broad experience in the areas of digital signal processing, computer architecture, telephony, IP, data networking, multi-processing, databases, real-time software design and application software design, among others. A portion of the Company's research and development operations benefit from financial incentives provided by government instrumentalities to promote research and development activities, including its research and development activities situated in Israel. The cost of such efforts will be affected by the continued availability of funding under such programs. During the past fiscal year, the Company's research and development activities included projects submitted for partial funding under a program administered by the Office of the Chief Scientist of the Ministry of Industry and Trade of the State of Israel, under which reimbursement of a portion of the Company's research and development expenditures will be made subject to final approval of project budgets. The percentage of the Company's total research and development expenditures reimbursed under these programs has declined in recent years, and will continue to decline with the growth in the Company's overall operations, the increasing amount of research and development conducted by the Company at locations other than those in which reimbursement programs are available to it, and general reductions in program budgets. The Company pays royalties on its sales of certain products developed in part with funding supplied under such programs. Permission from the government of Israel is required for the Company to manufacture outside of Israel products resulting from research and development activities funded under such programs, or to transfer outside of Israel related technology rights, and in order to obtain such permission the Company may be required to increase the royalties to the applicable funding agencies and/or repay certain amounts received as reimbursement of research and development costs. See "Business--Licenses and Royalties" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." - 10 - PATENTS AND INTELLECTUAL PROPERTY RIGHTS The Company holds a number of United States and foreign patents. While the Company files patent applications periodically, no assurance can be given that patents will be issued on the basis of such applications or that, if patents are issued, the claims allowed will be sufficiently broad to protect the Company's technology. In addition, no assurance can be given that any patents issued to the Company will not be challenged, invalidated or circumvented or that the rights granted under the patents will provide significant benefits to the Company. In order to safeguard its unpatented proprietary know-how, trade secrets and technology, the Company relies primarily upon trade secret protection and non-disclosure provisions in agreements with employees and others having access to confidential information. There can be no assurance that these measures will adequately protect the Company from disclosure or misappropriation of its proprietary information. The Company and its customers from time to time receive communications from third parties, including some of the Company's competitors, alleging infringement by the Company of such parties' patent rights. While such communications are common in the computer and telecommunications industries and the Company has in the past been able to obtain any necessary licenses on commercially reasonable terms, there can be no assurance that the Company would prevail in any litigation to enjoin the Company from selling certain of its products on the basis of such alleged infringement, or that the Company would be able to license any valid patents on reasonable terms. In January 2000, the Company and Lucent Technologies, Inc. ("Lucent") entered into a non-exclusive cross-licensing arrangement covering current and certain future patents issued to the Company and its affiliates and a portfolio of current and certain future patents in the area of telecommunications technology issued to Lucent and its affiliates. LICENSES AND ROYALTIES The Company licenses certain technology, know-how and related rights for use in the manufacture and marketing of its products, and pays royalties to third-parties under such licenses and under other agreements. The Company believes that its rights under such licenses and other agreements are sufficient for the manufacturing and marketing of its products and, in the case of licenses, extend for periods at least equal to the estimated useful lives of the related technology and know-how. The Company currently pays royalties on a substantial portion of its product sales. The royalties vary in amount based upon the revenues attributable to the various components of such products. - 11 - INTERNATIONAL SALES The Company sells a significant amount of its products outside of North America. International sales and marketing efforts may be adversely affected by a number of factors, including the need for export licenses; instability in international trading relations; currency fluctuations; and additional costs of marketing, service and support due to lack of proximity with the end-users. In certain cases, the Company's contracts are denominated in local currencies, and as such, the Company may be adversely affected by fluctuations in those currencies. International sales of certain systems manufactured by the Company also are subject to a variety of legal restrictions governing the export of such products. For additional information regarding foreign operations, see Note 19 of Notes to Consolidated Financial Statements and "Management's Discussion and Analysis of Financial Condition and Results of Operations - Certain Trends and Uncertainties" appearing elsewhere in this report. BACKLOG At January 31, 2001, the backlog of the Company amounted to approximately $319,857,000. Substantially all of the backlog is expected to be delivered within the next 12 months. SERVICE AND SUPPORT The Company has a strong commitment to provide product service and support to its customers and emphasizes such commitment in its marketing. Because of the intensity of use of systems by telecommunications network operators and other customers of the Company's products, and their low tolerance for down-time, the Company is required to make a greater commitment to service and support of systems used by these customers, and such commitment increases operating costs. The Company's general warranty policy is to replace or repair any component that fails during a specified warranty period. Broader warranty and service coverage is provided in many cases, and is sometimes made available to customers on a contractual basis for an additional charge. The Company provides technical assistance from several locations around the world. Technical support is available for the Company's customers 24 hours-a-day, seven days-a-week. - 12 - COMPETITION The Company faces strong competition in the markets for all of its products. The market for ESP systems is highly competitive, and includes numerous products offering a broad range of features and capacities. The primary competitors are suppliers of turnkey ESP systems and software, and indirect competitors that supply certain components to systems integrators. Many of the Company's competitors specialize in a subset of the Company's portfolio of services. Direct and/or indirect competitors include, among others, ADC, Boston Communications, Cap Gemini, Cisco, CMG, Ericsson, Glenayre, IBM, InterVoice-Brite, Logica, Lucent, Motorola, Nokia, Openwave, Sema, Tecnomen, Telcordia, and Unisys. Competitors of the Company that manufacture other telecommunications equipment may derive a competitive advantage in selling ESP systems to customers that are purchasing or have previously purchased other compatible equipment from such manufacturers. Indirect competition is provided by messaging and other enhanced communications products employed at end-user sites as an alternative to the use of services available through telecommunications network operators. This "enterprise based equipment" includes a broad range of products, such as stand-alone voicemail systems, answering machines, telephone handsets with voice-activated dialing and other enhanced services capabilities, products offering "call processing" services that are supplied with voicemail features or integrated with other voicemail systems, as well as personal computer modems and add-on cards and software designed to furnish enhanced communications capabilities. The Company believes that competition in the sale of ESP systems is based on a number of factors, the most important of which are product features and functionality, system capacity and reliability, marketing and distribution capability and price. Other important competitive factors include service and support and the capability to integrate systems with a variety of telecom networks, IP networks and Operation and Support Systems (OSS). The Company believes that the range of capabilities provided by, and the ease of use of, its systems compare favorably with other products currently being marketed, and that its ESP systems are the leading systems designed specifically for telecommunications network operators. The Company anticipates that a number of its direct and indirect competitors will be introducing new or improved ESP systems during the next several years. The market in which Ultra products are sold is highly competitive. Primary competitors include ASC, Atis, e-Talk, Eyretel, Lernout & Hauspie, Nice, Racal, TEAC and Witness. The InfoGate product is sold to switch vendors and public networks. Some of the switch vendors that have developed competitive offerings include Lucent, Nokia, Nortel, and Siemens. Other competitors include ADC, Atis, and ETI. The Company is aware of a number of manufacturers of products that compete with the Reliant product line including Applied Signal, Atis, ETI, GTE, Harris, JSI, Nice, and Raytheon. Competition also has been provided by manufacturers and integrators of custom designed computer and telecommunications systems in response to - 13 - particular government procurements in specific markets where they have entrenched customer relationships. The Loronix product line's primary competitor is Nice. The government market in general is highly competitive and difficult to penetrate, and the Company may be at a competitive disadvantage in respect of certain customers and market segments as a result of its small size in relation to other potential vendors and the existence of entrenched customer relationships with other vendors. Competitors for Ulticom's present and planned future products include a number of companies ranging from SS7 software stack providers, such as ADC NewNet and Trillium Digital Systems, to vendors of communication and network infrastructure equipment, such as Compaq and Hewlett Packard's Agilent Group. Many of the Company's present and potential competitors are considerably larger than the Company, are more established, have a larger installed base of customers and have greater financial, technical, marketing and other resources. MANUFACTURING AND SOURCES OF SUPPLIES The Company's manufacturing operations consist primarily of final assembly and testing, involving the application of extensive testing and quality control procedures to materials, components, subassemblies and systems. The Company uses third-parties to perform printed circuit board assembly, component testing and sheet metal fabrication. Although the Company generally uses standard parts and components in its products, certain components are presently available only from a limited number of sources. To date, the Company has been able to obtain adequate supplies of all components in a timely manner from existing sources or, when necessary, from alternative sources. However, the inability to obtain sufficient quantities of components or to locate alternative sources of supply if and as required in the future, would adversely affect the Company's operations. The Company maintains organization-wide quality assurance procedures, coordinating the quality control activities of the Company's research and development, manufacturing and service departments. The Company's primary manufacturing and research and development facilities have received certification to Quality Standard ISO 9001. CAPITAL MARKET ACTIVITIES The Company organized a subsidiary, CTI Capital Corp. ("CTI Capital"), that directly and through a subsidiary in Israel, Comverse Investments Ltd., seeks to identify and implement suitable investments for the Company, and engages in portfolio investment and capital market activities, including venture capital investments directly and indirectly through private equity funds, primarily in Israel. Through a joint venture formed by CTI Capital in partnership with Quantum Industrial Holdings Ltd., an investment company managed by Soros Fund Management LLC., the Company invests venture capital in high technology firms, and engages in other - 14 - investment activities. Comverse also engages in direct strategic and capital management investment activities for its own account. OPERATIONS IN ISRAEL A substantial portion of the Company's research and development and manufacturing operations are located in Israel and, accordingly, may be affected by economic, political and military conditions in that country. To date, the Company's operations have not been materially affected by armed conflict in the Middle East, but no assurances can be given that escalation of hostilities in the future might not have a negative impact on the Company's business. Israel is a member of the United Nations, the International Monetary Fund, the International Bank for Reconstruction and Development, and the International Finance Corporation, and is a signatory to the General Agreement on Tariffs and Trade, which provides for reciprocal lowering of trade barriers among its members. In addition, Israel has been granted preferences under the Generalized System of Preferences from the United States, Australia, Canada, and Japan. These preferences allow Israel to export the products covered by such programs either duty-free or at reduced tariffs. Israel and the European Union are parties to a Free Trade Agreement pursuant to which, subject to rules of origin, Israel's industrial exports to the European Union are exempt from customs duties and other non-tariff barriers and import restrictions. Israel also has an agreement with the United States to establish a Free Trade Area ("FTA") which is intended ultimately to eliminate all tariff and certain non-tariff barriers on most trade between the two countries. Under the FTA agreement, most products received immediate duty-free status in 1985, and all tariffs have since been eliminated. In 1993, Israel entered into an agreement with the European Free Trade Association ("EFTA"), which includes Austria, Finland, Iceland, Liechtenstein, Norway and Switzerland, that established a free-trade zone between Israel and EFTA nations exempting manufactured goods and some agricultural goods and processed foods from customs duties, while reducing duties on other goods. The end of the Cold War has also enabled Israel to establish commercial and trade relations with a number of nations, including Russia, China, India, Turkey and the nations of Eastern Europe, with whom Israel had not previously had such relations. The Company's business is also dependent to some extent on trading relationships between Israel and other countries. Certain of the Company's products incorporate components imported into Israel from the United States and other countries and most of the Company's products are sold outside of Israel. Accordingly, the Company's operations would be adversely affected if major hostilities involving Israel should occur or if trade between Israel and its current trading partners were interrupted or curtailed. The Company benefits from various policies of the Government of Israel, including reduced taxation and special subsidy programs, designed to stimulate economic activity, particularly high technology industry, in that country. As a condition of its receipt of funds for various research and development projects conducted under - 15 - programs sponsored by the Government of Israel, the Company has agreed that products resulting from these projects may not be manufactured, nor may the technology developed in the projects be transferred, outside of Israel without government consent. Israel's economy has in the past, from time to time, been subject to significant inflation. This inflation in the past, and the associated increases in salaries that are linked by Israeli law to increases in the consumer price index, have increased the cost of the Company's operations in Israel, and salary costs have further increased as a result of the growing competition for qualified scientific, engineering and technical personnel in Israel. The increases in costs in recent periods have not, in each instance, been offset by proportional devaluation of the Israeli shekel against the U.S. dollar, and accordingly have had a negative impact on the Company's overall results of operations. The results of operations of the Company have been favorably affected by participation in Israeli Government programs related to research and development, as well as utilization of certain tax incentives and other incentives available under applicable Israeli laws and regulations, some of which have been reduced, discontinued or otherwise modified in recent years. In addition, the Company's ability to obtain benefits under various discretionary funding programs has declined and may continue to decline as its internal financial and operational resources increase relative to other applicants. The results of operations of the Company could be adversely affected if these programs were further reduced or eliminated and not replaced with equivalent programs or if its ability to participate in these programs were to be reduced significantly. EMPLOYEES At January 31, 2001, the Company employed approximately 6,370 individuals, of whom approximately 76% are scientists, engineers and technicians engaged in research and development, marketing and support activities. The Company is not a party to any collective bargaining or other agreement with any labor organization; however, certain provisions of the collective bargaining agreements between the Histadrut (General Federation of Labor in Israel) and the Coordinating Bureau of Economic Organizations (including the Industrialists' Association) are applicable to the Company's Israeli employees by order of the Israeli Ministry of Labor. Israeli law generally requires the payment by employers of severance pay upon the death of an employee, his retirement or upon termination of his employment, and the Company provides for such payment obligations through monthly contributions to an insurance fund. Israeli employees and employers are required to pay pre-determined sums to the National Insurance Institute, which payment covers medical and other benefits similar to the benefits provided by the United States Social Security Administration. - 16 - The continuing success of the Company will depend, to a considerable extent, on the contributions of its senior management and key employees, many of whom would be difficult to replace, and on the Company's ability to attract and retain qualified employees in all areas of its business. Competition for such personnel is intense, particularly in the computer and telecommunications industries. In order to attract and retain talented personnel, and to provide incentives for their performance, the Company has emphasized the award of stock options as an important element of its compensation program, including options to purchase shares in certain of the Company's subsidiaries, and provides cash bonuses based on several parameters, including the profitability of the recipients' respective business units. ITEM 2. PROPERTIES. As of January 31, 2001, the Company leased an aggregate of approximately 2,479,000 square feet of office space and manufacturing and related facilities for its operations worldwide, including approximately 1,591,000 square feet in Tel Aviv, Israel, approximately 367,000 square feet in Wakefield, Massachusetts, approximately 77,000 square feet in Andover, Massachusetts, approximately 47,000 square feet in Woodbury, New York, approximately 85,000 square feet in Mt. Laurel, New Jersey, approximately 23,000 square feet in Irvine, California, approximately 15,000 square feet in Durango, Colorado, and an aggregate of approximately 274,000 square feet at various other locations in the United States, Europe, the Far East, Australia, Latin America and Africa. The aggregate base monthly rent for the facilities under lease at January 31, 2001 was approximately $2,990,000, and all of such leases are subject to various pass-throughs and escalation adjustments. In September, 1999, the Company acquired approximately 423,000 square feet of unimproved land in Ra'anana, Israel, with a view to the future consolidation and construction of facilities for its Israeli operations. The Company believes that its facilities currently under lease are adequate for its current operations, and that additional facilities can be acquired or developed to provide for such future expansion of the Company's operations as may be warranted. ITEM 3. LEGAL PROCEEDINGS. The Company from time to time is subject to claims in legal proceedings arising in the ordinary course of its business. There are currently no such claims that individually or in the aggregate are believed by management to pose any material risk to its business or financial condition. - 17 - ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matters were submitted to a vote of security holders during the fourth quarter of the last fiscal year. - 18 - PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Common Stock trades on the NASDAQ National Market System under the symbol CMVT. The following table sets forth the range of closing prices of the Common Stock as reported on NASDAQ for the past two fiscal years. All prices have been adjusted to reflect the three-for-two stock split, effected in the form of a stock dividend, distributed on April 15, 1999, and the two-for-one stock split, effected in the form of a stock dividend, distributed on April 3, 2000. Year Fiscal Quarter Low High 1999 2/1/99 - 4/30/99 21.81 33.06 5/1/99 - 7/31/99 30.69 40.69 8/1/99 -10/31/99 33.59 56.75 11/1/99 - 1/31/00 54.81 76.97 2000 2/1/00 - 4/30/00 68.06 119.69 5/1/00 - 7/31/00 65.25 102.75 8/1/00 -10/31/00 76.06 114.81 11/1/00 - 1/31/01 86.19 121.63 There were 2,011 holders of record of Common Stock at April 23, 2001. Such record holders include a number of holders who are nominees for an undetermined number of beneficial owners. The Company believes that the number of beneficial owners of the shares of Common Stock outstanding at such date was approximately 30,000. The Company has not declared or paid any cash dividends on its equity securities and does not expect to pay any cash dividends in the foreseeable future, but rather intends to retain its earnings to finance the development and growth of the Company's business. Any future determination as to the declaration and payment of dividends will be made by the Board of Directors in its discretion, and will depend upon the Company's earnings, financial condition, capital requirements and other relevant factors. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." The following is a summary of the transactions during the year ended January 31, 2001 involving a sale of the Company's securities which were not registered under the Securities Act of 1933 (the "Securities Act"): On November 22, 2000 and December 12, 2000, the Company completed a private placement under Section 4(2) of the Securities Act of $600 million aggregate principal amount of - 19 - 1.50% Senior Convertible Debentures due 2008 (the "Convertible Debentures") to Lehman Brothers Inc. (the "Initial Purchaser"). The Convertible Debentures are convertible into shares of Common Stock at any time prior to redemption or maturity, at a conversion price of $116.325 per share (equal to a conversion rate of 8.5966 shares per $1,000 principal amount of Convertible Debentures), subject to adjustment under certain circumstances. The Convertible Debentures were originally issued by the Company to the Initial Purchaser at a price of 98.125% of their principal amount, and were subsequently sold by the Initial Purchaser to "qualified institutional buyers" in transactions exempt from registration pursuant to Rule 144A under the Securities Act. The Company subsequently filed a Registration Statement on Form S-3 covering the Convertible Debentures and the underlying Common Stock. On August 30, 2000, the Company acquired all of the outstanding capital stock of Exalink Ltd. ("Exalink"), a company in Israel specializing in router-based wireless application protocol gateways and application software for the delivery of Internet-based services to wireless devices, in exchange for the issuance of 5,261,211 shares of Common Stock to the former Exalink shareholders and the assumption by the Company of Exalink's outstanding options. The sales of Common Stock in connection with this transaction were exempt from registration pursuant to Regulation S under the Securities Act and Section 4(2) of the Securities Act. The Company subsequently filed a Registration Statement on Form S-3 covering the resale of the Common Stock issued in connection with this transaction. On August 8, 2000, the Company acquired all of the outstanding capital stock of Gaya Software Industries Ltd. ("Gaya"), a company in Israel specializing in software-based intelligent Internet protocol gateways and voice-over-Internet-protocol technology, in exchange for the issuance of 283,758 shares of the Company's Common Stock to the former Gaya shareholders and the assumption by the Company of Gaya's outstanding options and warrants. The sales of Common Stock in connection with this transaction were exempt from registration pursuant to Regulation S under the Securities Act. The Company subsequently filed a Registration Statement on Form S-3 covering the resale of the Common Stock issued in connection with this transaction. On July 31, 2000, the Company acquired all of the outstanding shares of Syborg Informationsysteme GmbH ("Syborg"), a German company that develops software-based digital voice and Internet recording and workforce management systems, in exchange for the issuance of 201,251 shares of the Company's Common Stock to the former Syborg shareholders. The sales of Common Stock in connection with this transaction were exempt from registration pursuant to Regulation S under the Securities Act. The Company subsequently filed a Registration Statement on Form S-3 covering the resale of the Common Stock issued in connection with this transaction. - 20 - ITEM 6. SELECTED FINANCIAL DATA. The following tables present selected consolidated financial data for the Company for each of the years in the two years ended December 31, 1997, the one month period ended January 31, 1998, and the years ended January 31, 1999, 2000 and 2001. Such information has been derived from the Company's audited consolidated financial statements and should be read in conjunction with the Company's consolidated financial statements and the notes to the consolidated financial statements included elsewhere in this report. All financial information presented herein has been retroactively adjusted for the January 1998 merger with Boston Technology, Inc. ("Boston") and the July 2000 merger with Loronix Information Systems, Inc. ("Loronix") to account for those transactions as pooling of interests. All per share data has been restated to reflect a three-for-two stock split effected as a 50% stock dividend to shareholders of record on March 31, 1999, distributed on April 15, 1999, and a two-for-one stock split effected as a 100% stock dividend to shareholders of record on March 27, 2000, distributed on April 3, 2000.

Transition Year Ended Period Ended Year Ended December 31, January 31, January 31, ---------------------- ------------ ---------------------------------- 1996(1)(4) 1997(2)(4) 1998 1999(4) 2000(4) 2001 (In thousands, except per share data) Statement of Operations Data: Sales $400,555 $498,343 $ 14,401 $708,805 $909,667 $1,225,058 Cost of sales 175,484 209,325 21,146(3) 288,113 352,748 460,630 Research and development, net 67,209 98,152 13,481 134,201 169,816 232,198 Selling, general and administrative 96,685 142,055 51,892(3) 157,106 193,996 259,607 Royalties and license fees 10,443 12,325 520 16,552 18,841 22,028 Merger expenses -- -- 41,877 -- 2,016 15,971 Interest and other income, net 2,674 4,957 175 8,315 16,595 33,339 Income (loss) before income tax provision 53,499 41,443 (114,340) 121,148 188,845 267,963 Income tax provision 10,331 9,430 867 11,783 15,698 18,827 -------- -------- --------- -------- -------- ---------- Net income (loss) $ 43,168 $ 32,013 $(115,207) $109,365 $173,147 $ 249,136 ======== ======== ========= ======== ======== ========== Earnings (loss) per share - diluted $ 0.34 $ 0.23 $ (0.89) $ 0.75 $ 1.08 $ 1.39 ======== ======== ========= ======== ======== ========== Weighted average number of common and common equivalent shares outstanding - diluted 134,952 139,702 130,060 145,439 178,986 189,964

December 31, January 31, ------------------------ -------------------------------------------------------- 1996(5)(6) 1997(6)(7) 1998 1999(6) 2000(6) 2001 (In thousands) Balance Sheet Data: Working capital $342,139 $402,901 $280,793 $ 712,165 $ 858,304 $1,860,379 Total assets 533,847 636,342 527,652 1,042,959 1,372,847 2,625,264 Long-term debt, including current portion 117,605 142,790 124,257 416,327 308,082 906,723 Stockholders' equity 302,477 357,514 231,390 390,855 724,839 1,236,165

(1) Includes results for Boston for its fiscal year ended January 31. (2) Includes results for Boston for the 11 months ended December 31, 1997. (3) Includes approximately $7.8 million in cost of sales and $36.1 million in selling, general and administrative expenses relating to charges as a result of the merger with Boston. (4) Includes the results of Loronix for its fiscal year ended December 31. (5) Includes amounts for Boston as of its fiscal year ended January 31. (6) Includes amounts for Loronix as of its fiscal year ended December 31. (7) Includes amounts for Boston as of December 31, 1997. - 21 - ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. RESULTS OF OPERATIONS INTRODUCTION In July 2000, Comverse acquired all of the outstanding stock of Loronix Information Systems, Inc., a Nevada corporation ("Loronix"), in a transaction accounted for as a pooling of interests. The Company's financial statements for the years ended January 31, 2000 and 1999 include the operations of Loronix for the years ended December 31, 1999 and 1998, respectively. Cost of sales include material costs, subcontractor costs, salary and related benefits for the operations and service departments, depreciation and amortization of equipment used in the operations and service departments, amortization of capitalized software costs, travel costs and an overhead allocation. Research and development costs include salary and related benefits as well as travel, depreciation and amortization of research and development equipment, an overhead allocation, as well as other costs associated with research and development activities. Selling, general and administrative costs include salary and related benefits, travel, depreciation and amortization, marketing and promotional materials, recruiting expenses, professional fees, facility costs, as well as other costs associated with sales, marketing, finance and administrative departments. Year Ended January 31, 2001 Compared to Year Ended January 31, 2000 Sales. Sales for the fiscal year ended January 31, 2001 ("fiscal 2000") increased by approximately $315.4 million, or 35%, compared to the year ended January 31, 2000 ("fiscal 1999"). This increase is primarily attributable to an increase in sales of ESP products of approximately $277.2 million. Such increase was principally due to increased sales to European and American customers. In addition, sales of business intelligence recording products and service enabling network software products increased by approximately $23.8 million and $18.7 million, respectively. Cost of Sales. Cost of sales for fiscal 2000 increased by approximately $107.9 million, or 31%, as compared to fiscal 1999. The increase in cost of sales is primarily attributable to (i) increased materials and production costs of approximately $62.3 million due to the increase in sales, (ii) increased personnel-related costs of approximately $30.3 million due to hiring of additional personnel and increased compensation and benefits for existing personnel, (iii) increased travel-related costs of approximately $7.1 million and (iv) an increase in depreciation and amortization costs of approximately $4.3 million. Gross margins increased from approximately 61% in fiscal 1999 to approximately 62% in fiscal 2000. Selling, General and Administrative Expenses. Selling, general and administrative expenses for fiscal 2000 increased by approximately $65.6 million, or 34%, compared to fiscal 1999, and as a percentage of sales was approximately 21% in both fiscal 1999 and fiscal 2000. The increase was primarily due to hiring of additional personnel and increased compensation and benefits for existing personnel to support the increased level of sales during fiscal 2000. - 22 - Research and Development. Net research and development expenses for fiscal 2000 increased by approximately $62.4 million, or 37%, compared to fiscal 1999 due to overall growth of research and development operations and the initiation of significant new research and development projects. The increase was primarily due to hiring of additional personnel and increased compensation and benefits for existing personnel to support the higher volume of research and development activities. Royalties and License Fees. Royalties and license fees for fiscal 2000 increased by approximately $3.2 million, or 17%, compared to fiscal 1999. The increase was primarily a result of the growth in sales of royalty bearing products. Merger Expenses. In February 1999, the Company acquired all of the outstanding stock of Amarex Technology, Inc., a company that develops software-based applications for the telephone network operator and call center markets. In August 1999, the Company acquired all of the outstanding stock of InTouch Systems, Inc., a company that develops and markets a suite of intelligent voice-controlled software applications. In July 2000, the Company acquired all of the outstanding stock of Loronix, a company that develops software-based digital video recording and management systems, and all of the outstanding stock of Syborg Informationsysteme GmBH, a company that develops software-based digital voice and internet recording and workforce management systems. In August 2000, the Company acquired all of the outstanding stock of Gaya Software Industries Ltd., a company specializing in software-based intelligent IP gateways and voice-over-IP technology, and all of the outstanding stock of Exalink Ltd., a company specializing in protocol gateways and applications software for the delivery of Internet-based services to all types of wireless devices. These business combinations were accounted for as pooling of interests. In connection with the above acquisitions, the Company has charged to operations approximately $2.0 million and $16.0 million in fiscal 1999 and fiscal 2000, respectively, for merger related charges. Such charges relate to the following: Asset write-downs and impairments In connection with the acquisitions in fiscal 2000, certain assets became impaired due to the existence of duplicative technology, property and equipment and inventory of the merged companies. Accordingly, these assets were written down to their net realizable value at the time of the mergers and a charge of approximately $7.4 million was charged to operations. Professional fees and other direct merger expenses In connection with the acquisitions in fiscal 1999 and fiscal 2000, the Company recorded a charge of approximately $2.0 million and $8.6 million, respectively, for professional fees to lawyers, investment bankers and accountants, as well as other direct merger costs in connection with the mergers, such as printing costs and filing fees. - 23 - Interest and Other Income, Net. Interest and other income, net, for fiscal 2000 increased by approximately $16.7 million as compared to fiscal 1999. The principal reasons for the increase are increased interest and dividend income of approximately $26.7 million, a change in foreign currency gains/losses of approximately $8.8 million and a decrease in interest expense of approximately $1.4 million. These increases were partially offset by an increase in net realized losses and write-downs on the Company's investments and the equity in the earnings of affiliates of approximately $20.7 million. In November and December 2000 the Company issued $600 million convertible senior debentures with the interest income earned on the proceeds of such debentures adding to the increase in interest and dividend income in fiscal 2000. The decrease in interest expense is primarily a result of the inclusion in fiscal 1999 of the Company's 5-3/4% convertible subordinated debentures redeemed in October 1999. Income Tax Provision. Provision for income taxes increased from fiscal 1999 to fiscal 2000 by approximately $3.1 million, or 20%, due to increased pre-tax income. The Company's overall effective tax rate decreased from approximately 8% during fiscal 1999 to approximately 7% in fiscal 2000. The Company's overall rate of tax is reduced significantly by the tax benefits associated with qualified activities of certain of its Israeli subsidiaries, which are entitled to favorable income tax rates under a program of the Israeli Government for "Approved Enterprise" investments in that country. Net Income. Net income increased by approximately $76.0 million, or 44%, in fiscal 2000 compared to fiscal 1999, while as a percentage of sales increased from approximately 19% in fiscal 1999 to approximately 20% in fiscal 2000. The increase resulted primarily from the factors described above. Year Ended January 31, 2000 Compared to Year Ended January 31, 1999 Sales. Sales for fiscal 1999 increased by approximately $200.9 million, or 28%, compared to fiscal year ended January 31, 1999 ("fiscal 1998"). This increase is primarily attributable to an increase in sales of ESP products of approximately $161.5 million. Such increase was principally due to increased sales to European customers. In addition, sales of business intelligence recording products and service enabling network software products increased by approximately $31.3 million and $6.3 million, respectively. Cost of Sales. Cost of sales for fiscal 1999 increased by approximately $64.6 million, or 22%, as compared to fiscal 1998. The increase in cost of sales is primarily attributable to increased materials and production costs of approximately $40 million due to the increase in sales and increased personnel-related costs of approximately $23 million due to hiring of additional personnel and increased compensation and benefits for existing personnel. Gross margins increased from approximately 59% in fiscal 1998 to approximately 61% in fiscal 1999. Selling, General and Administrative Expenses. Selling, general and administrative expenses for fiscal 1999 increased by approximately $36.9 million, or 23%, compared to fiscal 1998, but as a percentage of sales decreased from approximately 22% in fiscal 1998 to approximately 21% in fiscal 1999. The increase was primarily due to hiring of additional - 24 - personnel and increased compensation and benefits for existing personnel to support the increased level of sales during fiscal 1999. Research and Development. Net research and development expenses for fiscal 1999 increased by approximately $35.6 million, or 27%, compared to fiscal 1998 due to overall growth of research and development operations and the initiation of significant new research and development projects. The increase was primarily due to hiring of additional personnel and increased compensation and benefits for existing personnel to support the higher volume of research and development activities. Royalties and License Fees. Royalties and license fees for fiscal 1999 increased by approximately $2.3 million, or 14%, compared to fiscal 1998. The increase was primarily a result of the growth in sales of royalty bearing products. Interest and Other Income, Net. Interest and other income, net, for fiscal 1999 increased by approximately $8.3 million as compared to fiscal 1998. The principal reasons for the increase are increased interest and dividend income of approximately $11.3 million and increased realized gains on the Company's investments of approximately $11.2 million. These increases were partially offset by increased interest expense of approximately $3.3 million and a change in foreign currency gains/losses of approximately $12.3 million. The increase in interest and dividend income and interest expense is primarily a result of the inclusion for a full year in fiscal 1999 of the Company's $300 million convertible subordinated debentures issued in June 1998. Income Tax Provision. Provision for income taxes increased from fiscal 1998 to fiscal 1999 by approximately $3.9 million, or 33%, due to increased pre-tax income. The Company's overall effective tax rate decreased from approximately 10% during fiscal 1998 to approximately 8% in fiscal 1999. The Company's overall rate of tax is reduced significantly by the tax benefits associated with qualified activities of certain of its Israeli subsidiaries, which are entitled to favorable income tax rates under a program of the Israeli Government for "Approved Enterprise" investments in that country. Net Income. Net income increased by approximately $63.8 million, or 58%, in fiscal 1999 compared to fiscal 1998, while as a percentage of sales increased from approximately 15% in fiscal 1998 to approximately 19% in fiscal 1999. The increase resulted primarily from the factors described above. LIQUIDITY AND CAPITAL RESOURCES The Company's working capital at January 31, 2001 and 2000 was approximately $1,860.4 million and $858.3 million, respectively. Operations for fiscal 2000, fiscal 1999 and fiscal 1998, after adding back non-cash items, provided cash of approximately $309.7 million, $208.1 million and $131.5 million, respectively. During such years, other changes in working capital used cash of approximately $65.2 million, - 25 - $30.8 million and $27.8 million, respectively, resulting in cash being provided by operating activities of approximately $244.5 million, $177.4 million and $103.6 million, respectively. Investment activities for fiscal 2000, fiscal 1999 and fiscal 1998 used cash of approximately $207.3 million, $475.7 million and $10.5 million, respectively. These amounts include (i) additions to property, plant and equipment in fiscal 2000, fiscal 1999 and fiscal 1998 of approximately $97.3 million, $85.6 million and $25.6 million, respectively; (ii) maturities and sales (purchases) of bank time deposits and investments, net, of approximately ($94.5) million, ($377.6) million and $24.3 million, respectively; and (iii) capitalization of software development costs of approximately $15.5 million, $12.5 million and $9.1 million, respectively. The property additions in each of fiscal 2000 and fiscal 1999 include the increase of the Company's fixtures and equipment as a result of the growth of the Company and in fiscal 1999 the purchase of land by the Company of approximately $25.8 million for future construction purposes. In addition, in each of fiscal 2000 and fiscal 1999 the Company increased the amount of its bank time deposits and investments to better utilize the net proceeds of the 2000 and 1998 issuances of convertible debentures. Financing activities for fiscal 2000, fiscal 1999 and fiscal 1998 provided cash of approximately $894.1 million, $53.6 million and $308.3 million, respectively. These amounts include (i) the net proceeds from the issuance of convertible debentures in fiscal 2000 and fiscal 1998 of approximately $588.4 million and $292.7 million, respectively; (ii) proceeds from the issuance of common stock in connection with the exercise of stock options, warrants and employee stock purchase plan of approximately $111.4 million, $50.6 million and $36.2 million, respectively; (iii) net proceeds (repayments) of bank loans and other debt of approximately ($0.9) million, $3.1 million and ($20.6) million, respectively; and (iv) net proceeds from the issuance of common stock of a subsidiary in connection with public offerings in fiscal 2000 of approximately $195.2 million. In November 2000, the Company issued $500 million aggregate principal amount of its 1.50% convertible senior debentures due December 2005. In December 2000, the Company issued an additional $100 million aggregate principal amount of its 1.50% convertible senior debentures due December 2005 as a result of the initial purchaser exercising in full their over-allotment option. As of January 31, 2001, the Company had outstanding convertible debentures of $900 million. The Company believes that its existing working capital, together with funds generated from operations, will be sufficient to provide for its planned operations for the foreseeable future. The Company regularly examines opportunities for strategic acquisitions of other companies or lines of business and anticipates that it may from time to time issue additional debt and/or equity securities either as direct consideration for such acquisitions or to raise additional funds to be used (in whole or in part) in payment for acquired securities or assets. The issuance of such securities could be expected to have a dilutive impact on the Company's shareholders, - 26 - and there can be no assurance as to whether or when any acquired business would contribute positive operating results commensurate with the associated investment. The Company's liquidity and capital resources have not been, and are not anticipated to be, materially affected by restrictions pertaining to the ability of its foreign subsidiaries to pay dividends or by withholding taxes associated with any such dividend payments. CERTAIN TRENDS AND UNCERTAINTIES The Company's future operating results and financial condition may be adversely affected should current conditions of general economic weakness continue. Revenues from the Company's business intelligence products are currently being adversely affected by reductions in capital expenditures by end-users. The Company's revenues from telecommunications systems and software may be adversely affected by the slowdown in infrastructure purchases by telecommunications services providers exhibited in recent periods, and by declines in technology expenditures in general, if such conditions continue. In addition, the severe recent decline in the public trading prices of equity securities, particularly in the technology and telecommunications sectors, and potential corresponding decline in values of privately-held companies and venture capital funds in which the Company has invested, may adversely affect the Company's financial results and costs of operations. The Company has benefited from the growth in its business and capital base over the past several years to make significant investment in its operations and infrastructure, the development of new products and technologies and its expansion into new lines of business intended to enhance its opportunities for future growth and profitability. The Company intends to continue to make significant investment in the growth of its business, and to examine opportunities for additional growth through acquisitions and strategic investments. These activities involve significant expenditures and obligations that cannot readily be curtailed or reduced if anticipated growth in demand for the associated products does not materialize or is delayed. The impact of these decisions on future profitability cannot be predicted with assurance, and the Company's commitment to growth may increase its vulnerability to downturns in its markets, technology changes and shifts in competitive conditions. The telecommunications industry has been particularly affected by worldwide conditions of economic weakness. Telecommunications services providers have announced reductions in actual or planned future expenditures to expand or replace infrastructure equipment and delays or reductions in the deployment of services, and a large number of telecommunications equipment providers have announced reductions in projected revenues and deterioration in projected operating results. While the Company's revenues and net income have continued to grow in recent periods, the continuation and/or exacerbation of those conditions may have an adverse effect on the Company's future results. In addition to loss of potential revenue, weakness in the telecommunications industry may affect the Company's business by increasing the risks of credit or business failures of suppliers, customers or distributors, by customer requirements for vendor financing, by delays in customer payments, and by price reductions instituted by competitors to retain market share. - 27 - The telecommunications industry is subject to rapid technological change. The introduction of new technologies in the telecommunications market and new alternatives for the delivery of services are having, and can be expected to continue to have, a profound effect on competitive conditions in the market and the success of market participants, including the Company. The Company's continued success will depend on its ability to correctly anticipate technological trends in its industries, to react quickly and effectively to such trends and to enhance its existing products and to introduce new products on a timely and cost-effective basis. The Company's products involve sophisticated hardware and software technology that performs critical functions to highly demanding standards. There can be no assurance that the Company's current or future products will not develop operational problems, which could have a material adverse effect on the Company. The telecommunications industry is undergoing significant change as a result of deregulation and privatization worldwide, reducing restrictions on competition in the industry. Unforeseen changes in the regulatory environment may have an impact on the Company's revenues and/or costs in any given part of the world. The worldwide ESP system industry is already highly competitive and the Company expects competition to intensify. The Company believes that existing competitors will continue to present substantial competition, and that other companies, many with considerably greater financial, marketing and sales resources than the Company, may enter the ESP system markets. Moreover, as the Company enters into new markets as a result of its own research and development efforts or acquisitions, it is likely to encounter new competitors. The market for telecommunications monitoring systems is also in a period of significant transition. Budgetary constraints, uncertainties resulting from the introduction of new technologies in the telecommunications environment and shifts in the pattern of government expenditures resulting from geopolitical events have increased uncertainties in the market, resulting in certain instances in the attenuation of government procurement programs beyond their originally expected performance periods and an increased incidence of delay, cancellation or reduction of planned projects. Sales of the Company's business intelligence systems to customers in the private sector have been and may continue to be affected by general economic conditions and delays in planned capital expenditures by enterprise customers. Competitive conditions in this sector have also been affected by the increasing use by certain potential government customers of their own internal development resources rather than outside vendors to provide certain technical solutions. In addition, a number of established government contractors, particularly developers and integrators of technology products, have taken steps to redirect their marketing strategies and product plans in reaction to cut-backs in their traditional areas of focus, resulting in an increase in the number of competitors and the range of products offered in response to particular requests for proposals. The lack of predictability in the timing and scope of government procurements have similarly made planning decisions more difficult and have increased the associated risks. The Company has historically derived a significant portion of its sales and operating profit from contracts for large system installations with major customers. The Company continues to emphasize large capacity systems in its product development and marketing - 28 - strategies. Contracts for large installations typically involve a lengthy and complex bidding and selection process, and the ability of the Company to obtain particular contracts is inherently difficult to predict. The Company believes that opportunities for large installations will continue to grow in both its commercial and government markets, and intends to continue to expand its research and development, manufacturing, sales and marketing and product support capabilities in anticipation of such growth. However, the timing and scope of these opportunities and the pricing and margins associated with any eventual contract award are difficult to forecast, and may vary substantially from transaction to transaction. The Company's future operating results may accordingly exhibit a higher degree of volatility than the operating results of other companies in its industries that have adopted different strategies, and than the Company has experienced in prior periods. The degree of dependence by the Company on large system orders, and the investment required to enable the Company to perform such orders, without assurance of continuing order flow from the same customers and predictability of gross margins on any future orders, increase the risk associated with its business. The Company has significantly increased its expenditures in all areas of its operations during recent periods, including the areas of research and development and marketing and sales. The Company's costs of operations have been affected by increases in the cost of its operations in Israel, resulting both from appreciation of the Israeli shekel relative to the United States dollar in certain periods and devaluation of the Israeli shekel at rates insufficient to offset cost increases in others, and from increases in the cost of attracting and retaining qualified scientific, engineering and technical personnel in Israel, where the demand for such personnel has grown rapidly with the expansion of high technology industries in that country. Continuation of such trends could have a material adverse effect on the Company's future results of operations. A significant portion of the Company's research and development and manufacturing operations are located in Israel. The Company's historical operating results reflect substantial benefits it has received from programs sponsored by the Israeli government for the support of research and development, as well as tax moratoriums and favorable tax rates associated with investments in approved projects ("Approved Enterprises") in Israel. To be eligible for these programs and tax benefits, the Company must continue to meet conditions, including making specified investments in fixed assets and financing a percentage of investments with share capital. If the Company fails to meet such conditions in the future, the tax benefits would be canceled and the Company could be required to refund the tax benefits already received. These programs and tax benefits may not be continued in the future at the current levels or at any level, and the availability of such benefits may be affected by budgetary constraints resulting from adverse economic conditions. The Israeli government has reduced the benefits available under some of these programs in recent years, and Israeli government authorities have indicated that the government may further reduce or eliminate some of these benefits in the future. The Company currently pays royalties, of between 3% and 5% (or 6% under certain circumstances) of associated product revenues (including service and other related revenues), to the Government of Israel for repayment of benefits received under a conditional grant program administered by the Office of the Chief Scientist of the Ministry of Industry and Trade, a program in which the Company has regularly participated and under which it continues to - 29 - receive significant benefits through reimbursement of up to 50% of qualified research and development expenditures. Such royalty payments are required to be made until the government has been reimbursed the amounts received by the Company plus, for amounts received under projects approved by the Office of the Chief Scientist after January 1, 1999, interest on such amount at a rate equal to the 12-month LIBOR rate in effect at the time of approval. In addition, permission from the Government of Israel is required for the Company to manufacture outside of Israel products resulting from research and development activities funded under these programs, or to transfer outside of Israel related technology rights. In order to obtain such permission, the Company may be required to increase the royalties to the applicable funding agencies and/or repay certain amounts received as reimbursement of research and development costs. The Israeli authorities have also indicated that this funding program will be further reduced significantly or eliminated in the future, particularly for larger companies such as the Company. The termination or reduction of these programs could adversely affect the Company's operating results. The Israeli government has also shortened the period of the tax moratorium applicable to Approved Enterprises from four years to two years. Although this change has not affected the tax status of the Company's projects that were eligible for the moratorium prior to 1997, it applies to subsequent "Approved Enterprise" projects. Recently, the government announced a proposal to impose additional limitations on the tax benefits associated with Approved Enterprise projects for certain categories of taxpayers, which would include the Company, although it has not submitted legislation to the Israeli Parliament. If further changes in the law or government policies regarding those programs were to result in their termination or adverse modification, or if the Company were to become unable to participate in, or take advantage of, those programs, the cost of the Company's operations in Israel would increase and there could be a material adverse effect on the Company's operations and financial results. To the extent that the Company increases its activities outside Israel, which could result from, among other things, future acquisitions, such increased activities will not be eligible for programs sponsored by Israel. The Company currently derives a significant portion of its total sales from customers outside of the United States. International transactions involve particular risks, including political decisions affecting tariffs and trade conditions, rapid and unforeseen changes in economic conditions in individual countries, turbulence in foreign currency and credit markets, and increased costs resulting from lack of proximity to the customer. Volatility in international currency exchange rates may have a significant impact on the Company's operating results. The risk of currency instability is increased by prevailing conditions of economic weakness in a number of world markets, and the potential for recession. The Company has, and anticipates that it will continue to receive, significant contracts denominated in foreign (primarily Western European) currencies. As a result of the unpredictable timing of purchase orders and payments under such contracts and other factors, it is often not practicable for the Company to effectively hedge the risk of significant changes in currency rates during the contract period. Since it is the Company's practice to hedge the exchange rate risks associated with contracts denominated in foreign currencies only to a limited extent, if at all, its operating results have been and may in the future be negatively affected to a material extent by the impact of currency fluctuations. Operating results may also be affected by the cost of such hedging activities that the Company does undertake. - 30 - The Company holds a large proportion of its net assets in cash equivalents and short-term investments, including a variety of public and private debt and equity instruments, and has made significant venture capital investments, both directly and through private investment funds. Such investments subject the Company to the risks inherent in the capital markets generally, and to the performance of other businesses over which it has no direct control. Given the relatively high proportion of the Company's liquid assets relative to its overall size, the results of its operations in the future will reflect, to a greater extent than in the past, the results of the Company's capital management and investment activities and the risks associated with those activities. Declines in the public equity markets have caused, and may be expected to continue to cause, the Company to experience realized and unrealized investment losses. In addition, while the Company's interest and other income has benefited from the positive spread between the fixed interest it pays on its outstanding indebtedness and interest earned on the investment of its cash balances, reduction in prevailing interest rates due to economic conditions or government policies can be expected to have an adverse impact on the Company's results of operations. The Company has benefited from the long-term rise in the public trading price of its shares in various ways, including its ability to use equity incentive arrangements as a means of attracting and retaining the highly qualified employees necessary for the growth of its business and its ability to raise capital on relatively attractive conditions. The recent decline in the price of the Company's shares, and the overall decline in equity prices generally, and in the shares of technology companies in particular, can be expected to make it more difficult for the Company to rely on equity incentive arrangements as a means to recruit and retain talented employees, and may limit the ability of the Company to raise capital on terms as advantageous to the Company as in the past. The trading price of the Company's shares may be affected by the factors noted above as well as prevailing economic and financial trends and conditions in the public securities markets. Share prices of companies in technology-related industries, such as the Company, tend to exhibit a high degree of volatility. The announcement of financial results that fall short of the results anticipated by the public markets could have an immediate and significant effect on the trading price of the Company's shares in any given period. Such shortfalls may result from events that are beyond the Company's immediate control, can be unpredictable and, since a significant proportion of the Company's sales during each fiscal quarter tend to occur in the latter stages of the quarter, may not be discernible until the end of a financial reporting period. These factors may contribute to the volatility of the trading value of its shares regardless of the Company's long-term prospects. The trading price of the Company's shares may also be affected by developments, including reported financial results and fluctuations in trading prices of the shares of other publicly-held companies in the telecommunications equipment industry in general, and the Company's business segments in particular, which may not have any direct relationship with the Company's business or prospects. - 31 - EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS In 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 133 "Accounting for Derivative Instruments and Hedging Activities" which was subsequently amended by SFAS Nos. 137 and 138 (collectively "SFAS 133"). SFAS 133 establishes accounting and reporting standards for derivative instruments, including certain derivatives embedded in other contracts, and hedging activities and requires that an entity recognize all derivatives as either assets or liabilities and measure those instruments at fair value. Under SFAS 133, certain contracts that were not formerly considered derivatives may now meet the definition of a derivative. SFAS 133 is effective for all fiscal quarters of fiscal years beginning after June 15, 2000. The Company will adopt SFAS 133 effective February 1, 2001. The adoption of SFAS 133 will not have a material effect on the Company's operations or financial position. FORWARD-LOOKING STATEMENTS From time to time, the Company makes forward-looking statements. Forward-looking statements include financial projections, statements of plans and objectives for future operations, statements of future economic performance, and statements of assumptions relating thereto. The Company may include forward-looking statements in its periodic reports to the Securities and Exchange Commission on Forms 10-K, 10-Q, and 8-K, in its annual report to shareholders, in its proxy statements, in its press releases, in other written materials, and in statements made by employees to analysts, investors, representatives of the media, and others. By their very nature, forward-looking statements are subject to uncertainties, both general and specific, and risks exist that predictions, forecasts, projections and other forward-looking statements will not be achieved. Actual results may differ materially due to a variety of factors, including without limitation those discussed under "Certain Trends and Uncertainties" and elsewhere in this report. Investors and others should carefully consider these and other uncertainties and events, whether or not the statements are described as forward-looking. Forward-looking statements made by the Company are intended to apply only at the time they are made, unless explicitly stated to the contrary. Moreover, whether or not stated in connection with a forward-looking statement, the Company undertakes no obligation to correct or update a forward-looking statement should the Company later become aware that it is not likely to be achieved. If the Company were in any particular instance to update or correct a forward-looking statement, investors and others should not conclude that the Company will make additional updates or corrections thereafter. - 32 - ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The Company is exposed to market risk from changes in foreign currency exchange rates, interest rates and equity trading prices, which could impact its results of operations and financial condition. The Company manages its exposure to these market risks through its regular operating and financing activities and, when deemed appropriate, through the use of derivative financial instruments. The Company from time to time uses foreign currency exchange contracts and other derivative instruments to reduce its exposure to the risk that the eventual net cash inflows and outflows resulting from the sale of products to foreign customers will be adversely affected by changes in exchange rates. The use of these derivative financial instruments allows the Company to reduce its exposure to exchange rate movements, since the gains and losses on these contracts substantially offset losses and gains on the assets, liabilities and transactions being hedged. In many instances, the Company elects not to hedge these transactions. Management does not expect any significant changes in the strategies it employs to manage such exposure in the near future. As of January 31, 2001, the Company had no material outstanding foreign currency exchange contracts. Various financial instruments held by the Company are sensitive to changes in interest rates. Interest rate changes would result in gains or losses in the market value of the Company's investments in debt securities due to differences between the market interest rates and rates at the inception of these financial instruments. Neither a 100 basis point increase nor decrease from current interest rates would have a material effect on the Company's financial position, results of operations or cash flows. Equity investments held by the Company are subject to equity price risks. Neither a 10% increase nor decrease in equity prices would have a material effect on the Company's financial position, results of operations or cash flows. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The financial information required by Item 8 is included elsewhere in this report. See Part IV, Item 14. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not applicable. - 33 - PART III The information required by Part III is omitted pursuant to instruction G(3). - 34 - PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. Page(s) ------- (a) Documents filed as part of this report. (1) Financial Statements. Index to Consolidated Financial Statements F-1 Independent Auditors' Report F-2 Consolidated Balance Sheets as of January 31, 2000 and 2001 F-3 Consolidated Statements of Income for the Years Ended January 31, 1999, 2000 and 2001 F-4 Consolidated Statements of Stockholders' Equity for the Years Ended January 31, 1999, 2000 and 2001 F-5 Consolidated Statements of Cash Flows for the Years Ended January 31, 1999, 2000 and 2001 F-6 Notes to Consolidated Financial Statements F-7 (2) Financial Statement Schedules. None (3) Exhibits. The Index of Exhibits commences on the following page. Exhibits numbered 10.1 through 10.3 and 10.5 through 10.8 comprise material compensatory plans and arrangements of the registrant. - 35 - Exhibits No. Description --- ----------- 3 Articles of Incorporation and By-Laws: 3.1* Certificate of Incorporation. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 3.2* Certificate of Amendment of Certificate of Incorporation effective February 26, 1993. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 3.3* Certificate of Amendment of Certificate of Incorporation effective January 12, 1995. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) 3.4* Certificate of Amendment of Certificate of Incorporation dated October 18, 1999. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 2000.) 3.5 Certificate of Amendment of Certificate of Incorporation dated September 19, 2000. 3.6* By-Laws, as amended. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 4 Instruments defining the rights of security holders including indentures: 4.1* Excerpts from Certificate of Incorporation. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Exchange Act of 1933, Registration No. 33-9147.) 4.2* Excerpt from Certificate of Amendment of Certificate of Incorporation effective February 26, 1993. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 4.3* Excerpt from Certificate of Amendment of Certificate of Incorporation effective January 12, 1995. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1994.) - 36 - 4.4* Excerpts from By-Laws, as amended. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 4.5* Specimen stock certificate. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1992.) 4.6* Indenture dated as of June 30, 1998 from Comverse Technology, Inc. to The Chase Manhattan Bank, Trustee. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed July 2, 1998.) 4.7* Specimen 4 1/2% Convertible Subordinated Debenture due 2005. (Incorporated by reference to the Registrant's Current Report on Form 8-K under the Securities Exchange Act of 1934 filed July 2, 1998.) 4.8* Indenture dated as of November 22, 2000 from Comverse Technology, Inc. to The Chase Manhattan Bank, Trustee. (Incorporated by reference to the Registrant's Registration Statement on Form S-3 under the Securities Act of 1933, Registration No. 333-55526.) 4.9* Specimen 1 1/2% Convertible Senior Debenture Due 2005. (Incorporated by reference to the Registrant's Registration Statement on Form S-3 under the Securities Act of 1933, Registration No. 333-55526.) 10 Material contracts: 10.1* Form of Stock Option Agreement pertaining to shares of certain subsidiaries of Comverse Technology, Inc. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1993.) 10.2* Form of Incentive Stock Option Agreement. (Incorporated by reference to the Registrant's Registration Statement on Form S-1 under the Securities Act of 1933, Registration No. 33-9147.) 10.3* Form of Stock Option Agreement for options other than Incentive Stock Options. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 10.4* Form of Indemnity Agreement between Comverse Technology, Inc. and its Officers and Directors. (Incorporated by reference to the Registrant's Annual Report on Form 10-K under the Securities Exchange Act of 1934 for the year ended December 31, 1987.) 10.5* 1997 Employee Stock Purchase Plan, as amended. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held October 8, 1999.) 10.6* 1997 Stock Incentive Compensation Plan. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held January 13, 1998.) - 37 - 10.7* 1999 Stock Incentive Compensation Plan. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held October 8, 1999.) 10.8* 2000 Stock Incentive Compensation Plan. (Incorporated by reference to the Definitive Proxy Materials for the Registrant's Annual Meeting of Stockholders held September 15, 2000.) 10.9* Memorandum of Agreement dated November 22, 1995 between Boston Technology, Inc. and AT&T. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1996, confidential treatment requested as to certain portions.) 10.10* Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1991.) 10.11* First Amendment dated as of March 31, 1993 to Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Quarterly Report of Boston Technology, Inc. on Form 10-Q under the Securities Exchange Act of 1934 for the quarter ended October 31, 1993.) 10.12* Second Amendment dated as of August 31, 1994 to Lease dated November 5, 1990 between Boston Technology, Inc. and Wakefield Park Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1995.) 10.13* License Agreement dated January 22, 1990 between Boston Technology, Inc. and Dytel Corporation. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1990.) 10.14* Settlement Agreement dated December 28, 1993 between the Boston Technology, Inc. and Theis Research, Inc. and Peter F. Theis. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1994.) 10.15* Lease dated June 7, 1996 between Boston Technology, Inc. and WBAM Limited Partnership. (Incorporated by reference to the Annual Report of Boston Technology, Inc. on Form 10-K under the Securities Exchange Act of 1934 for the year ended January 31, 1997.) 21 Subsidiaries of Registrant. 23 Consent of Deloitte & Touche LLP ---------- * Incorporated by reference. - 38 - COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS -------------------------------------------------------------------------------- Page Independent Auditors' Report F-2 Consolidated Balance Sheets as of January 31, 2000 and 2001 F-3 Consolidated Statements of Income for the Years Ended January 31, 1999, 2000 and 2001 F-4 Consolidated Statements of Stockholders' Equity for the Years Ended January 31, 1999, 2000 and 2001 F-5 Consolidated Statements of Cash Flows for the Years Ended January 31, 1999, 2000 and 2001 F-6 Notes to Consolidated Financial Statements F-7 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of Comverse Technology, Inc. Woodbury, New York We have audited the accompanying consolidated balance sheets of Comverse Technology, Inc. and subsidiaries (the "Company") as of January 31, 2000 and 2001, and the related consolidated statements of income, stockholders' equity and cash flows for each of the three years in the period ended January 31, 2001. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits 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, such consolidated financial statements present fairly, in all material respects, the financial position of Comverse Technology, Inc. and subsidiaries as of January 31, 2000 and 2001, and the results of their operations and their cash flows for each of the three years in the period ended January 31, 2001 in conformity with accounting principles generally accepted in the United States of America. /S/ Deloitte & Touche LLP New York, New York March 8, 2001 F-2 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS JANUARY 31, 2000 AND 2001 (In thousands, except share data) -------------------------------------------------------------------------------- ASSETS 2000 2001 ------ ---- ---- CURRENT ASSETS: Cash and cash equivalents $ 342,535 $1,275,105 Bank time deposits 9,800 3,000 Short-term investments 429,254 457,735 Accounts receivable, net 266,203 359,317 Inventories 101,728 115,799 Prepaid expenses and other current assets 41,243 64,729 ---------- ---------- TOTAL CURRENT ASSETS 1,190,763 2,275,685 PROPERTY AND EQUIPMENT, net 126,101 183,444 INVESTMENTS 19,749 96,870 OTHER ASSETS 36,234 69,265 ---------- ---------- TOTAL ASSETS $1,372,847 $2,625,264 ========== ========== -------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY 2000 2001 ------------------------------------ ---- ---- CURRENT LIABILITIES: Accounts payable and accrued expenses $ 235,860 $ 288,921 Bank loans 1,160 4,066 Advance payments from customers 94,777 122,175 Other current liabilities 662 144 ---------- ---------- TOTAL CURRENT LIABILITIES 332,459 415,306 CONVERTIBLE DEBENTURES 300,000 900,000 LIABILITY FOR SEVERANCE PAY 6,185 7,924 OTHER LIABILITIES 9,364 12,404 ---------- ---------- TOTAL LIABILITIES 648,008 1,335,634 ---------- ---------- MINORITY INTEREST -- 53,465 ---------- ---------- COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Preferred stock, $0.01 par value--authorized, 2,500,000 shares; issued, none Common stock, $0.10 par value - authorized, 600,000,000 shares; issued and outstanding, 155,776,298 and 168,643,623 shares 15,577 16,864 Additional paid-in capital 424,075 692,014 Retained earnings 282,764 520,144 Accumulated other comprehensive income 2,423 7,143 ---------- ---------- TOTAL STOCKHOLDERS' EQUITY 724,839 1,236,165 ---------- ---------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $1,372,847 $2,625,264 ========== ========== See notes to consolidated financial statements. F-3 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME YEARS ENDED JANUARY 31, 1999, 2000 AND 2001 (In thousands, except per share data) -------------------------------------------------------------------------------- January 31, January 31, January 31, 1999 2000 2001 ---- ---- ---- Sales $708,805 $909,667 $1,225,058 Cost of sales 288,113 352,748 460,630 -------- -------- ---------- Gross margin 420,692 556,919 764,428 Operating expenses: Research and development, net 134,201 169,816 232,198 Selling, general and administrative 157,106 193,996 259,607 Royalties and license fees 16,552 18,841 22,028 Merger expenses -- 2,016 15,971 -------- -------- ---------- Income from operations 112,833 172,250 234,624 Interest and other income, net 8,315 16,595 33,339 -------- -------- ---------- Income before income tax provision 121,148 188,845 267,963 Income tax provision 11,783 15,698 18,827 -------- -------- ---------- Net income $109,365 $173,147 $ 249,136 ======== ======== ========== Earnings per share: Basic $ 0.81 $ 1.19 $ 1.54 ======== ======== ========== Diluted $ 0.75 $ 1.08 $ 1.39 ======== ======== ========== See notes to consolidated financial statements. F-4 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY YEARS ENDED JANUARY 31, 1999, 2000 AND 2001 (In thousands, except share data)

------------------------------------------------------------------------------------------------------------------------------------ Accumulated Other Comprehensive Income Common Stock ----------------------- ------------------------- Additional Unrealized Cumulative Total Number of Par Paid-in Retained Gains Translation Stockholders' Shares Value Capital Earnings (Losses) Adjustment Equity BALANCE, JANUARY 31, 1998 131,961,174 $ 13,196 $ 225,707 $ 2,709 $ 641 $ 489 $ 242,742 Comprehensive income: Net income 109,365 Unrealized gain on available-for- sale securities 2,874 Translation adjustment (367) Total comprehensive income 111,872 Warrant exercise 1,299,000 130 (130) -- Common stock issued for employee stock purchase plan 210,666 21 2,277 2,298 Exercise of stock options 5,792,064 579 33,364 33,943 ---------------------------------------------------------------------------------------------------------------------------------- BALANCE, JANUARY 31, 1999 139,262,904 13,926 261,218 112,074 3,515 122 390,855 Comprehensive income: Net income 173,147 Unrealized (loss) on available-for-sale securities (397) Translation adjustment (817) Total comprehensive income 171,933 Warrant exercises 1,746,635 175 (175) -- Common stock issued for acquisitions 1,371,216 137 930 1,067 Retained earnings of acquired companies (2,457) (2,457) Common stock issued for employee stock purchase plan 377,016 38 5,514 5,552 Exercise of stock options 5,477,611 547 44,464 45,011 Conversion of debentures 7,540,916 754 112,079 112,833 Tax benefit of dispositions of stock options 45 45 ---------------------------------------------------------------------------------------------------------------------------------- BALANCE, JANUARY 31, 2000 155,776,298 15,577 424,075 282,764 3,118 (695) 724,839 Comprehensive income: Net income 249,136 Unrealized gain on available-for-sale securities 4,408 Translation adjustment 312 Total comprehensive income 253,856 Change in year-end of pooled company (705) (705) Common stock issued for acquisitions 5,746,220 575 10,498 11,073 Retained earnings of acquired companies (11,051) (11,051) Common stock issued for employee stock purchase plan 131,452 13 9,842 9,855 Exercise of stock options 6,989,653 699 100,840 101,539 Issuance of subsidiary shares 145,958 145,958 Tax benefit of dispositions of stock options 801 801 ---------------------------------------------------------------------------------------------------------------------------------- BALANCE, JANUARY 31, 2001 168,643,623 $ 16,864 $ 692,014 $520,144 $7,526 $(383) $1,236,165 ============ ========= ========= ======== ====== ===== ========== See notes to consolidated financial statements.

F-5 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED JANUARY 31, 1999, 2000 AND 2001 (In thousands)

------------------------------------------------------------------------------------------------------------ January 31, January 31, January 31, 1999 2000 2001 ---- ---- ---- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 109,365 $ 173,147 $ 249,136 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 22,106 34,969 53,196 Asset write-downs and impairments -- -- 7,399 Changes in assets and liabilities: Accounts receivable (112,456) (68,024) (92,039) Inventories 15,723 (53,085) (16,915) Prepaid expenses and other current assets (5,735) (3,055) (22,464) Accounts payable and accrued expenses 58,789 49,117 52,165 Advance payments from customers 16,371 48,114 26,325 Liability for severance pay (143) 1,847 1,729 Other (398) (5,680) (14,041) --------- --------- ----------- NET CASH PROVIDED BY OPERATING ACTIVITIES 103,622 177,350 244,491 --------- --------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Maturities and sales (purchases) of bank time deposits and investments, net 24,257 (377,613) (94,452) Purchase of property and equipment (25,632) (85,638) (97,337) Capitalization of software development costs (9,120) (12,482) (15,489) --------- --------- ----------- NET CASH USED IN INVESTING ACTIVITIES (10,495) (475,733) (207,278) --------- --------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Net proceeds from issuance of debentures 292,672 -- 588,429 Proceeds from issuance of common stock in connection with exercise of stock options, warrants, and employee stock purchase plan 36,241 50,563 111,394 Proceeds from issuance of common stock of subsidiary -- -- 195,231 Net proceeds (repayments) of bank loans and other debt (20,645) 3,064 (943) --------- --------- ----------- NET CASH PROVIDED BY FINANCING ACTIVITIES 308,268 53,627 894,111 --------- --------- ----------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 401,395 (244,756) 931,324 CASH ACQUIRED IN POOLING OF INTERESTS TRANSACTIONS -- 1,707 1,246 CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 184,189 585,584 342,535 --------- --------- ----------- CASH AND CASH EQUIVALENTS, END OF YEAR $ 585,584 $ 342,535 $ 1,275,105 ========= ========= =========== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the year for interest $ 14,169 $ 20,329 $ 14,665 ========= ========= =========== Cash paid during the year for income taxes $ 2,453 $ 708 $ 4,393 ========= ========= ===========

See notes to consolidated financial statements. F-6 COMVERSE TECHNOLOGY, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED JANUARY 31, 1999, 2000 AND 2001 -------------------------------------------------------------------------------- 1. ORGANIZATION AND BUSINESS Comverse Technology, Inc. ("CTI" and, together with its subsidiaries, the "Company") was organized as a New York corporation in October 1984. The Company is engaged in the design, development, manufacture, marketing and support of special purpose computer and telecommunications systems and software for multimedia communications and information processing applications. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation - The consolidated financial statements include the accounts of Comverse and its wholly-owned and majority-owned subsidiaries. All material intercompany balances and transactions have been eliminated. Cash, Cash Equivalents and Bank Time Deposits - The Company considers all highly liquid investments purchased with original maturities of three months or less to be cash equivalents. Bank deposits with maturities in excess of three months are classified as bank time deposits. Short-Term Investments - The Company classifies all of its short-term investments (including U.S. treasury bills) as available-for-sale, accounted for at fair value, with resulting unrealized gains or losses reported as a separate component of stockholders' equity, on a net-of-tax basis. Concentration of Credit Risk - Financial instruments which potentially expose the Company to concentration of credit risk, consist primarily of cash investments and accounts receivable. The Company places its cash investments with high-credit quality financial institutions and currently invests primarily in bank time deposits, money market funds placed with major banks and financial institutions, corporate commercial paper, corporate medium-term notes, and U.S. government obligations. Accounts receivable are generally diversified due to the number of commercial and government entities comprising the Company's customer base and their dispersion across many geographical regions. As of January 31, 2000 and 2001, the Company's allowance for doubtful accounts was approximately $29,319,000 and $23,755,000, respectively. The Company believes no significant concentration of credit risk exists with respect to these cash investments and accounts receivable. Inventories - Inventories are stated at the lower of cost or market. Cost is determined by the first-in, first-out method. Property and Equipment - Property and equipment are carried at cost less accumulated depreciation and amortization. The Company depreciates its property and equipment on a straight-line basis over periods ranging from three to seven years. Leasehold improvements are amortized over the shorter of their estimated useful lives or the related lease term. The cost of maintenance and repairs is charged to operations as incurred. Significant renewals and betterments are capitalized. Income Taxes - The Company accounts for income taxes using the asset and liability method. Under this method, deferred tax assets and liabilities are determined based on differences between F-7 financial reporting and tax bases of assets and liabilities, and are measured using the enacted tax rates and laws that are expected to be in effect when the differences are expected to reverse. Revenue and Expense Recognition - Revenue is generally recognized at the time of shipment for sales of systems which do not require significant customization to be performed by the Company and collection of the resulting receivable is deemed probable by the Company. The Company's systems are generally a bundled hardware and software solution that are shipped together. The Company generally has no obligations to customers after the date products are shipped, except for product warranties. The Company generally warranties its products for one year after sale. A provision for estimated warranty costs is recorded at the time of sale. Customers may also purchase separate maintenance contracts, which generally consist of bug-fixing and telephone access to Company technical personnel, but in certain circumstances may also include the right to receive unspecified product updates, upgrades and enhancements. Revenue from these services is recognized ratably over the contract period. Revenues from certain development contracts are recognized under the percentage-of-completion method on the basis of physical completion to date or using actual costs incurred to total expected costs under the contract. Revisions in estimates of costs and profits are reflected in the accounting period in which the facts that require the revision become known. At the time a loss on a contract is known, the entire amount of the estimated loss is accrued. Amounts received from customers in excess of revenues earned under the percentage-of-completion method are recorded as advance payments from customers. Related contract costs include all direct material and labor costs and those indirect costs related to contract performance, and are included in cost of sales in the consolidated statements of income. Expenses incurred in connection with research and development activities, other than certain software development costs that are capitalized, and selling, general and administrative expenses are charged to operations as incurred. Software Development Costs - Software development costs are capitalized upon the establishment of technological feasibility and are amortized over the estimated useful life of the software, which to date has been four years or less. Amortization begins in the period in which the related product is available for general release to customers. Amortization expenses amounted to $3,649,000, $6,304,000 and $7,203,000 for the years ended January 31, 1999, 2000 and 2001, respectively. Functional Currency and Foreign Currency Transaction Gains and Losses - The United States dollar (the "dollar") is the functional currency of the major portion of the Company's foreign operations. Most of the Company's sales, and materials purchased for manufacturing, are denominated in or linked to the dollar. Certain operating costs, principally salaries, of foreign operations are denominated in local currencies. In those instances where a foreign subsidiary has a functional currency other than the dollar, the Company records any necessary foreign currency translation adjustment, reflected in stockholders' equity, at the end of each reporting period. Net gains (losses) from foreign currency transactions, included in the consolidated statements of income, approximated $2,847,000, $(9,422,000) and $(646,000) for the years ended January 31, 1999, 2000 and 2001, respectively. The Company occasionally enters into foreign exchange forward contracts and options on foreign currencies. The purpose of the Company's foreign currency hedging activities is to protect the Company from the risk that the eventual dollar cash flows resulting from the sale of products to international customers will be adversely affected by changes in exchange rates. Any gain or loss F-8 on a foreign exchange contract which hedges a firm commitment is deferred until the underlying transaction is realized, at which time it is included in the consolidated statement of income. The Company may also purchase foreign exchange options which permit, but do not require, the Company to exchange foreign currencies at a future date with another party at a contracted exchange rate. To finance premiums paid on such options, from time to time the Company may also write offsetting options at exercise prices which limit, but do not eliminate, the effect of purchased options as a hedge. As of January 31, 2000 and 2001, the Company had no material outstanding foreign exchange contracts. Other Assets - Licenses of patent rights and acquired "know-how" are recorded at cost and amortized using the straight-line method over the estimated useful lives of the related technology, not exceeding five years. Goodwill and other intangible assets associated with acquired subsidiaries are amortized over periods ranging from five to twelve years. Debt issue costs are amortized using the effective interest method over the term of the related debt. Long-Lived Assets - The Company reviews for the impairment of long-lived assets and certain identifiable intangibles whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. An impairment loss would be recognized when estimated future cash flows expected to result from the use of the asset and its eventual disposition are less than its carrying amount. Pervasiveness of Estimates - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Reclassifications - Certain prior year amounts have been reclassified to conform to the manner of presentation in the current year. 3. RESEARCH AND DEVELOPMENT A significant portion of the Company's research and development operations are located in Israel where the Company derives substantial benefits from participation in programs sponsored by the Government of Israel for the support of research and development activities conducted in that country. The Company's research and development activities include projects partially funded by the Office of the Chief Scientist of the Ministry of Industry and Trade of the State of Israel (the "OCS") under which the funding organization reimburses a portion of the Company's research and development expenditures under approved project budgets. The Company is currently involved in several ongoing research and development projects supported by the OCS. The Company accrues royalties to the OCS for the sale of products incorporating technology developed in these projects. In addition, under the terms of the applicable funding agreements, products resulting from projects funded by the OCS may not be manufactured outside of Israel without government approval. The amounts reimbursed by the OCS for the years ended January 31, 1999, 2000 and 2001 were $16,732,000, $16,797,000 and $21,508,000, respectively. F-9 4. SHORT-TERM INVESTMENTS The Company classifies all of its short-term investments as available-for-sale securities. The following is a summary of available-for-sale securities as of January 31, 2001:

Gross Gross Estimated Unrealized Unrealized Fair Cost Gains Losses Value ---------------------------------------------- (In thousands) Corporate debt securities $339,182 $ 462 $ 4,360 $335,284 U.S. Government bonds 18,003 674 -- 18,677 U.S. Government agency bonds 60,050 7 9 60,048 -------- ------- -------- -------- Total debt securities 417,235 1,143 4,369 414,009 -------- ------- -------- -------- Common stock 28,072 10,561 -- 38,633 Mutual funds investing in U.S. government and agencies obligations 1,863 85 -- 1,948 Preferred stock 2,863 282 -- 3,145 -------- ------- -------- -------- Total equity securities 32,798 10,928 -- 43,726 -------- ------- -------- -------- $450,033 $12,071 $ 4,369 $457,735 ======== ======= ======== ========

The following is a summary of available-for-sale securities as of January 31, 2000:

Gross Gross Estimated Unrealized Unrealized Fair Cost Gains Losses Value ---------------------------------------------- (In thousands) Corporate debt securities $397,325 $ 478 $ 668 $397,135 U.S. Government agency bonds 8,096 -- 604 7,492 -------- ------ -------- -------- Total debt securities 405,421 478 1,272 404,627 -------- ------ -------- -------- Common stock 14,336 5,010 1,670 17,676 Mutual funds investing in U.S. government and agencies obligations 1,878 -- 45 1,833 Preferred stock 4,211 1,565 658 5,118 -------- ------ -------- -------- Total equity securities 20,425 6,575 2,373 24,627 -------- ------ -------- -------- $425,846 $7,053 $ 3,645 $429,254 ======== ====== ======== ========

During the year ended January 31, 2001, the gross realized gains on sales of securities totaled approximately $9,905,000, and the gross realized losses totaled approximately $8,394,000. During the year ended January 31, 2000, the gross realized gains on sales of securities totaled F-10 approximately $11,652,000, and the gross realized losses totaled approximately $4,613,000. During the year ended January 31, 1999, the gross realized gains on sales of securities totaled approximately $1,358,000, and the gross realized losses totaled approximately $5,472,000. The basis on which cost was determined in computing realized gain or loss is by the first-in, first-out method. The amortized cost and estimated fair value of debt securities at January 31, 2001, by contractual maturity, are as follows: Estimated Cost Fair Value ---- ---------- (In thousands) Due in one year or less $321,834 $319,764 Due after one year through three years 87,284 85,665 Due after three years 8,117 8,580 -------- -------- $417,235 $414,009 ======== ======== 5. INVENTORIES Inventories consist of: January 31, ----------- 2000 2001 ---- ---- (In thousands) Raw materials $ 41,391 $ 49,014 Work in process 29,790 27,423 Finished goods 30,547 39,362 -------- -------- $101,728 $115,799 ======== ======== 6. PROPERTY AND EQUIPMENT Property and equipment consists of: F-11 January 31, 2000 2001 ---- ---- (In thousands) Fixtures and equipment $ 166,966 $ 242,922 Land 26,029 27,569 Software 18,315 24,293 Transportation vehicles 1,597 1,263 Leasehold improvements 7,640 11,832 --------- --------- 220,547 307,879 Less accumulated depreciation and amortization (94,446) (124,435) --------- --------- $ 126,101 $ 183,444 ========= ========= F-12 7. OTHER ASSETS Other assets consist of: January 31, 2000 2001 ---- ---- (In thousands) Software development costs, net of accumulated amortization of $21,628 and $25,959 $22,230 $28,325 Debt issue costs, net of accumulated amortization of $1,404 and $3,157 5,703 15,784 Other assets 8,301 25,156 ------- ------- $36,234 $69,265 ======= ======= 8. BUSINESS COMBINATIONS In July 2000, the Company acquired all of the outstanding stock of Loronix Information Systems, Inc. ("Loronix"), a company that develops software-based digital video recording and management systems for 1,994,806 shares of the Company's common stock and the assumption of options to purchase 370,101 shares of the Company's common stock. The combination was accounted for as a pooling of interests. For the six months ended June 30, 2000, Loronix had sales of approximately $18.1 million and a net loss, including merger related expenses, of approximately $2.3 million. The table below sets forth the separate and combined results of Comverse and Loronix for the fiscal years ended January 31, 1999 and 2000: CTI Loronix Combined --- ------- -------- (In thousands, except per share data amounts) January 31, 1999 Sales $696,094 $ 12,711 $708,805 Net income (loss) $111,527 $ (2,162) $109,365 Earnings per share - diluted $ 0.78 $ 0.75 January 31, 2000 Sales $872,190 $ 37,477 $909,667 Net income $170,261 $ 2,886 $173,147 Earnings per share - diluted $ 1.07 $ 1.08 The consolidated statement of income data combines the historical statement of income data of the Company for the fiscal years ended January 31, 1999 and 2000 with the historical statement of income data of Loronix for the fiscal years ended December 31, 1998 and 1999, respectively. Loronix's net loss for the period from July 1, 2000 through July 31, 2000 of approximately $705,000 has been excluded from the Company's consolidated statement of income for the year F-13 ended January 31, 2001 as a result of conforming fiscal years and has been included as an adjustment to retained earnings. In July 2000, the Company acquired all of the outstanding stock of Syborg Informationsysteme GmbH, ("Syborg") a company that develops software-based digital voice and internet recording and workforce management systems, for 201,251 shares of the Company's common stock. The combination was accounted for as a pooling of interests. The Company did not restate prior financial statements for this acquisition due to immateriality and recorded the book value of the net assets of Syborg of approximately $(475,000) in the statement of stockholders' equity. In August 2000, the Company acquired all of the outstanding stock of Exalink Ltd., ("Exalink") a company specializing in router-based protocol gateways and applications software for the delivery of Internet-based services to all types of wireless devices, for 5,261,211 shares of the Company's common stock and the assumption of options and warrants to purchase 810,377 shares of the Company's common stock. The combination was accounted for as a pooling of interests. The Company did not restate prior financial statements for this acquisition due to immateriality and recorded the book value of the net assets of Exalink of approximately $(973,000) in the statement of stockholders' equity. In August 2000, the Company acquired all of the outstanding stock of Gaya Software Industries Ltd., ("Gaya") a company specializing in software-based intelligent internet protocol ("IP") gateways and voice-over-IP technology, for 283,758 shares of the Company's common stock and the assumption of options and warrants to purchase 10,505 shares of the Company's common stock. The combination was accounted for as a pooling of interests. The Company did not restate prior financial statements for this acquisition due to immateriality and recorded the book value of the net assets of Gaya of approximately $1,470,000 in the statement of stockholders' equity. In August 1999, the Company acquired all of the outstanding stock of InTouch Systems, Inc., ("InTouch") a company that develops and markets a suite of intelligent voice-controlled software applications, for 679,202 shares of the Company's common stock and the assumption of options to purchase 79,122 shares of the Company's common stock. The combination was accounted for as a pooling of interests. The Company did not restate prior financial statements for this acquisition due to immateriality and recorded the book value of the net assets of InTouch of $(1,122,000) in the statement of stockholders' equity. In February 1999, the Company acquired all of the outstanding stock of Amarex Technology, Inc., ("Amarex"), a company that develops software-based applications for the telephone network operator and call center markets, for 692,014 shares of the Company's common stock and the assumption of options and warrants to purchase 239,286 shares of the Company's common stock. The combination was accounted for as a pooling of interests. The Company did not restate prior financial statements for this acquisition due to immateriality and recorded the book value of the net assets of Amarex of $(268,000) in the statement of stockholders' equity. In connection with the above acquisitions, the Company has charged $2,016,000 and $15,971,000, respectively, to operations in the years ended January 31, 2000 and 2001 for merger related charges. Such charges relate to the following: Asset write-downs and impairments (In thousands) Inventory $3,685 Property and equipment 1,528 Capitalized software costs 2,186 ------ Total asset write-downs and impairments $7,399 ====== F-14 In connection with the acquisitions in the year ended January 31, 2001, certain assets became impaired due to the existence of duplicative technology, property and equipment and inventory of the merged companies. Accordingly, these assets were written down to their net realizable value at the time of the merger. Professional fees and other direct merger expenses In connection with the acquisitions in the years ended in January 31, 2000 and 2001, the Company recorded a charge of $2,016,000 and $8,572,000, respectively, for professional fees to lawyers, investment bankers and accountants, as well as other direct merger costs in connection with the mergers, such as printing costs and filing fees. 9. ACCOUNTS PAYABLE AND ACCRUED EXPENSES Accounts payable and accrued expenses consist of: January 31, 2000 2001 ---- ---- (In thousands) Accounts payable $ 76,546 $ 87,999 Accrued salaries 29,890 37,479 Accrued vacation 13,568 18,940 Accrued royalties 26,567 40,670 Other accrued expenses 89,289 103,833 -------- -------- $235,860 $288,921 ======== ======== F-15 10. CONVERTIBLE DEBENTURES In November 2000, the Company issued $500,000,000 aggregate principal amount of its 1.50% convertible senior debentures due December 2005 (the "Debentures"). In December 2000, the Company issued an additional $100,000,000 of the Debentures as a result of the initial purchaser exercising in full their over-allotment option. The Debentures are unsecured senior obligations of the Company ranking equally with all of the Company's existing and future unsecured senior indebtedness and are senior in right of payment to any of the Company's existing and future subordinated indebtedness. The Debentures are convertible, at the option of the holders, into shares of the Company's common stock at a conversion price of $116.325 per share, subject to adjustment in certain events; and are subject to redemption at any time on or after December 1, 2003, in whole or in part, at the option of the Company, at redemption prices (expressed as percentages of the principal amount) of 100.375% if redeemed during the twelve-month period beginning December 1, 2003, and 100% of the principal amount if redeemed thereafter. The Debenture holders may require the Company to repurchase the Debentures at par in the event that the common stock ceases to be publicly traded and, in certain instances, upon a change in control of the Company. Upon the occurrence of a change in control, instead of paying the repurchase price in cash, the Company may pay the repurchase price in common stock. In June 1998, the Company issued $300,000,000 of convertible subordinated debentures bearing interest at 4.50% per annum, payable semi-annually. The debentures mature on July 1, 2005. The debentures are convertible into shares of the Company's common stock at a conversion price of $21.50 per share, subject to adjustment in certain events. The debentures are subordinated in right of payment to all existing and future senior indebtedness of the Company. The debentures are redeemable at the option of the Company, in whole or in part, at prices decreasing from 101.8% of the principal amount on July 10, 2001 to par on July 10, 2003. The debenture holders may require the Company to repurchase the debentures at par in the event that the common stock ceases to be publicly traded and, in certain instances, upon a change in control of the Company. In October 1996, the Company issued $115,000,000 of convertible subordinated debentures bearing interest at 5.75% per annum, payable semi-annually. In October 1999, the Company called these debentures for redemption. The debentures were converted into 7,540,916 shares of common stock. 11. LIABILITY FOR SEVERANCE PAY Liability for severance pay consists of the Company's unfunded liability for severance pay to employees of certain foreign subsidiaries and accrued severance to the Company's chief executive officer. Under Israeli law, the Company is obligated to make severance payments to employees of its Israeli subsidiaries on the basis of each individual's current salary and length of employment. These liabilities are currently provided primarily by premiums paid by the Company to insurance providers. The Company is obligated under an agreement with its chief executive officer to provide a severance payment upon the termination of his employment with the Company. Approximately $1,925,000 and $2,270,000 has been accrued as of January 31, 2000 and 2001, respectively, relating to this liability. F-16 12. COMMON STOCK Stock Splits - On April 15, 1999, the Company effected a three-for-two stock split by paying a 50% stock dividend to stockholders of record on March 31, 1999. On April 3, 2000, the Company effected a two-for-one stock split by paying a 100% stock dividend to shareholders of record on March 27, 2000. All share and per share information has been retroactively restated in the consolidated financial statements to reflect these splits. Increase in Authorized Common Shares - At the Annual Meeting of Shareholders held on October 8, 1999, the Company's shareholders approved an amendment to the Company's Certificate of Incorporation to increase from 100,000,000 to 300,000,000 the aggregate number of authorized common shares of the Company. At the Annual Meeting of Shareholders held on September 15, 2000, the Company's shareholders approved an amendment to the Company's Certificate of Incorporation to increase from 300,000,000 to 600,000,000 the aggregate number of authorized common shares of the Company. Issuance of Subsidiary Stock - In April 2000, a subsidiary of the Company, Ulticom, Inc. ("Ulticom"), issued 4,887,500 shares of its common stock in an initial public offering. As a result of the initial public offering, the Company's ownership interest in Ulticom was reduced to 80.4%. Proceeds from the offering, based on the offering price of $13.00 per share, totaled approximately $58,062,000, net of offering expenses. In October 2000, Ulticom issued an additional 2,843,375 shares of its common stock in a public offering. As a result of the public offering, the Company's ownership interest in Ulticom was reduced to 74.5%. Proceeds from the offering, based on the offering price of $50.00 per share, totaled approximately $137,169,000, net of offering expenses. The Company recorded a gain of approximately $145,854,000 which was recorded as an increase in stockholders' equity as a result of these issuances. 13. STOCK OPTIONS Employee Stock Options - At January 31, 2001, 26,163,560 shares of common stock were reserved for issuance upon the exercise of options then outstanding and 507,856 shares were available for future grant under Comverse's Stock Option Plans, under which options may be granted to key employees, directors, and other persons rendering services to the Company. Options which are designated as "incentive stock options" under the option plans may be granted with an exercise price not less than the fair market value of the underlying shares at the date of grant and are subject to certain quantity and other limitations specified in Section 422 of the Internal Revenue Code. Options which are not intended to qualify as incentive stock options may be granted at any price, but not less than the par value of the underlying shares, and without restriction as to amount. The options and the underlying shares are subject to adjustment in accordance with the terms of the plans in the event of stock dividends, recapitalizations and similar transactions. The right to exercise the options generally vests in increments over periods of up to four years from the date of grant or the date of commencement of the grantee's employment with the Company, up to a maximum term of ten years for all options granted. The changes in the number of options were as follows: F-17

Year Ended January 31, ------------------------------------------- 1999 2000 2001 ---- ---- ---- Outstanding at beginning of year 25,184,797 21,243,496 23,810,758 Options from pooling of interests transactions -- 224,758 820,882 Granted during the year 2,788,526 8,589,990 9,306,315 Exercised during the year (5,792,064) (5,477,611) (6,989,653) Canceled, terminated and expired (937,763) (769,875) (784,742) ----------- ----------- ----------- Outstanding at end of year 21,243,496 23,810,758 26,163,560 =========== =========== ===========

At January 31, 2001, options to purchase an aggregate of 6,980,474 shares were vested and currently exercisable under the option plans and options to purchase an additional 19,183,086 shares vest at various dates extending through the year 2004. Weighted average option exercise price information was as follows: Year Ended January 31, -------------------------- 1999 2000 2001 ---- ---- ---- Outstanding at beginning of year $ 8.64 $ 9.59 $22.14 Assumed from pooling of interests -- 3.16 3.21 Granted during the year 10.53 43.98 84.83 Exercised during the year 5.87 8.23 14.45 Canceled, terminated and expired 10.38 11.96 31.01 Exercisable at year end 6.87 9.05 14.73 F-18 Significant option groups outstanding at January 31, 2001 and related weighted average price and life information were as follows:

Weighted Average Weighted Weighted Range of Number Remaining Average Number Average Exercise Price Outstanding Contractual Life Exercise Price Exercisable Exercise Price -------------- ----------- ---------------- -------------- ----------- -------------- $0.01-$10.42 8,137,870 6.77 $ 9.04 4,825,923 $ 8.87 $10.71-$46.50 8,678,003 8.15 37.90 2,120,646 27.50 $48.22-$84.74 404,526 8.89 66.87 33,905 49.58 $85.00-$119.69 8,943,161 9.77 85.52 -- -- --------- ---- --------- --------- --------- 26,163,560 8.28 $ 45.65 6,980,474 $ 14.73 ========== ==== ========= ========= =========

The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related interpretations in accounting for its option plans. Accordingly, as all options have been granted at exercise prices equal to fair market value on the date of grant, no compensation expense has been recognized by the Company in connection with its stock-based compensation plans. Had compensation cost for the Company's stock option plans been determined based upon the fair value at the grant date for awards under these plans consistent with the methodology prescribed under Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation", the Company's net income and earnings per share would have been reduced by approximately $29,261,000, $45,239,000 and $87,112,000 or $0.20, $0.27 and $0.47 per diluted share for the years ended January 31, 1999, 2000 and 2001, respectively. The weighted average fair value of the options granted for the years ended January 31, 1999, 2000 and 2001, respectively, is estimated at $5.51, $21.54 and $50.38 on the date of grant (using the Black-Scholes option pricing model) with the following weighted average assumptions for the years ended January 31, 1999, 2000 and 2001, respectively: volatility of 56%, 56% and 65%; risk-free interest rate of 4.7%, 5.9% and 5.5%; and an expected life of 5.0, 4.1 and 4.9 years. Options on Subsidiary Shares - In accordance with the requirements of his employment agreement, the chief executive officer of the Company holds options to acquire up to 7.5% of the shares of certain subsidiaries, other than Comverse Network Systems, Inc. In addition, the Company has granted options to certain other employees to acquire shares of certain subsidiaries, other than Comverse Network Systems, Inc. Such option issuances are not tied to the performance of the subsidiaries, but are intended to incentivize employees in the units for which they have direct responsibility. The portion of the shares of the subsidiaries upon which such options have been granted varies among the subsidiaries affected, not exceeding in any instance 20% of the shares outstanding assuming exercise in full. The options have terms of up to 15 years and become exercisable and vest over various periods ranging up to seven years from the date of initial grant. The exercise price of each option is equal to the higher of the book value of the underlying shares at the date of grant or the fair market value of such shares at that date determined on the basis of an arms'-length transaction with a third party or, if no such transactions have occurred, on a reasonable basis as determined by a committee of the Board of Directors. F-19 14. WARRANTS In November 1995, the Company entered into an agreement to supply its products to a customer. Pursuant to this agreement, the Company issued warrants to purchase shares of its common stock at an exercise price of $7.18 per share. The warrants vest in five equal annual increments, commencing with the first anniversary of the date of grant, and remain exercisable for 30 months after first becoming exercisable. As of January 31, 2001, warrants to purchase 1,914,432 shares are outstanding and exercisable. In February 2001 all such warrants were exercised. 15. EMPLOYEE STOCK PURCHASE PLAN Under the 1997 Employee Stock Purchase Plan ("ESPP"), all employees who had completed three months of employment are entitled, through payroll deductions of amounts up to 10% of their base salary, to purchase shares of the Company's common stock at 85% of the lesser of the market price at the offering commencement date or the offering termination date. The number of shares available under the ESPP is 2,000,000, of which 719,134 had been issued as of January 31, 2001. 16. EARNINGS PER SHARE ("EPS") Basic earnings per share is determined by using the weighted average number of shares of common stock outstanding during each period. Diluted earnings per share further assumes the issuance of common shares for all dilutive potential common shares outstanding. The calculation for earnings per share for the years ended January 31, 1999, 2000 and 2001 was as follows:

January 31, 1999 January 31, 2000 January 31, 2001 ----------------------------- ------------------------------ ----------------------------- Per Share Per Share Per Share Income Shares Amount Income Shares Amount Income Shares Amount (In thousands, except per share data) Basic EPS Net Income $109,365 134,389 $0.81 $173,147 145,889 $1.19 $249,136 161,496 $1.54 ===== ===== ===== Effect of Dilutive Securities Options and warrants 11,050 13,905 14,514 Convertible debentures 19,399 19,192 14,552 13,954 -------- ------- ----- -------- ------- ----- -------- ------- ----- Diluted EPS $109,365 145,439 $0.75 $192,546 178,986 $1.08 $263,688 189,964 $1.39 ======== ======= ===== ======== ======= ====== ======== ======= =====

Debentures convertible into 21,494,472 weighted average shares and 1,059,855 weighted average shares were outstanding as of January 31, 1999 and January 31, 2001, respectively, but were not included in the computation of diluted EPS because the effect of including them would not be dilutive. F-20 17. INTEREST AND OTHER INCOME, NET Interest and other income, net, consists of the following: Year Ended January 31, 1999 2000 2001 ---- ---- ---- (In thousands) Interest and dividend income $25,552 $36,872 $63,607 Interest expense (16,141) (19,423) (18,031) Other, net (1,096) (854) (12,237) -------- -------- -------- $8,315 $16,595 $33,339 ======== ======== ======== 18. INCOME TAXES The provision for income taxes consists of the following: Year Ended January 31, 1999 2000 2001 ---- ---- ---- (In thousands) Current: Federal $ -- $171 $1,507 State 127 769 844 Foreign 11,664 14,743 16,698 -------- -------- -------- 11,791 15,683 19,049 -------- -------- -------- Deferred (benefit): Federal (430) (49) (37) State 13 5 (88) Foreign 409 59 (97) -------- -------- -------- (8) 15 (222) -------- -------- -------- $11,783 $15,698 $18,827 ======== ======== ======== The reconciliation of the U.S. Federal statutory tax rate to the Company's effective tax rate is as follows: Year Ended January 31, 1999 2000 2001 ---- ---- ---- U.S. Federal statutory rate 35% 35% 35% Consolidated worldwide income in excess of U.S. income (38) (36) (38) Foreign income taxes 9 8 6 Other 4 1 4 --- --- --- Company's effective tax rate 10% 8% 7% === === === F-21 Deferred income taxes reflect the net tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes and (b) operating loss carryforwards. The tax effects of significant items comprising the Company's deferred tax asset and liability at January 31, 2000 and 2001 is as follows:

January 31, 2000 2001 ---- ---- (In thousands) Deferred tax liability: Expenses deductible for tax purposes and not for financial reporting purposes $ 722 $ -- Unrealized gain on available-for-sale securities 1,154 2,785 --------- --------- $ 1,876 $ 2,785 ========= ========= Deferred tax asset: Reserves not currently deductible $ 19,690 $ 14,173 Tax loss carryforwards 105,378 198,135 Inventory capitalization 504 512 --------- --------- 125,572 212,820 Less: valuation allowance (123,335) (209,452) --------- --------- Total deferred tax asset $ 2,237 $ 3,368 ========= =========

At January 31, 2001, the Company had net operating loss carryforwards for Federal income tax purposes of approximately $534.2 million, which begin to expire in 2012 through 2032. Income tax has not been provided on unrepatriated earnings of foreign subsidiaries as currently it is the intention of the Company to reinvest such foreign earnings in their operations. 19. BUSINESS SEGMENT INFORMATION The Company has historically operated its business based on different geographical regions. During the year ended January 31, 2000, the Company changed the manner in which it operates into its various product business units. The Company's reporting segments are as follows: Enhanced Services Platform Products - Enable telecommunications network operators to offer a variety of revenue-generating services, including a broad range of integrated messaging, information distribution and personal assistant services, such as call answering, voice mail, fax mail, unified messaging, pre-paid services, wireless data and Internet-based services. Service Enabling Network Software Products - Interconnect the complex circuit switching, database and messaging systems and manage the number, routing and billing information of communication networks. These products also enable voice and data networks to interoperate, or converge, allowing service providers to offer such converged network services as voice over the Internet and Internet call waiting. This segment represents the Company's Ulticom subsidiary. F-22 Business Intelligence Through Intelligent Recording Products - Support the voice, fax, data and video recording and analysis activities of call centers and a variety of other commercial and governmental organizations and supports the monitoring, recording, surveillance, and information gathering and analysis activities of law enforcement and intelligence agencies. All Other - Includes other miscellaneous operations. The table below presents information about operating income/loss and segment assets as of and for the years ended January 31, 2000 and 2001:

Service Enhanced Enabling Business Services Network Intelligence Platform Software Recording All Reconciling Consolidated Products Products Products Other Items Totals ------------------------------------------------------------------------------------------- (In thousands) Year Ended January 31, 2000 Sales $ 755,597 $ 25,831 $ 115,551 $ 19,494 $ (6,806) $ 909,667 Operating Income (Loss) $ 191,086 $ 2,809 $ (9,530) $ (2,043) $ (10,072) $ 172,250 Total Assets $ 694,872 $ 17,794 $ 99,183 $ 39,512 $ 521,486 $1,372,847 Year Ended January 31, 2001 Sales $1,032,860 $ 47,441 $ 139,252 $ 15,233 $ (9,728) $1,225,058 Operating Income (Loss) $ 251,748 $ 8,356 $ (5,963)(1) $ (1,955) $ (17,562)(2) $ 234,624 Total Assets $1,041,622 $232,187 $ 118,484 $ 80,571 $ 1,152,400 $2,625,264

(1) Operating income, excluding merger expenses of $10,909,000, would have been $4,946,000. (2) Includes merger related expenses of $5,062,000. Reconciling items consist of the following: Sales - elimination of intersegment revenues. Operating Income (Loss) - elimination of intersegment operating income and corporate operations. Total Assets - elimination of intersegment receivables and unallocated corporate assets. F-23 Historical operating information could not be reasonably restated for prior years based on the Company's new operating structure. Historical condensed operating information based on geographical regions for the year ended and January 31, 1999 was as follows:

United States Israel Other Eliminations Total ------ ------ ----- ------------ ----- (In thousands) Year Ended January 31, 1999 Sales $ 354,407 $ 407,809 $ 33,510 $(86,921) $ 708,805 Costs and expenses (379,890) (274,218) (31,009) 89,145 (595,972) --------- --------- -------- -------- --------- Operating income (loss) $ (25,483) $ 133,591 $ 2,501 $ 2,224 $ 112,833 ========= ========= ======== ======== =========

Sales by country, based on end-user location, as a percentage of total sales, for the years ended January 31, 1999, 2000 and 2001 were as follows: January 31, 1999 2000 2001 ---- ---- ---- United States 27% 24% 25% Germany 11 10 11 Other foreign 62 66 64 --- --- --- Total 100% 100% 100% === === === No customer accounted for 10% or more of sales for the years ended January 31, 1999, January 31, 2000 or January 31, 2001. Long-lived assets by country of domicile consist of: January 31, 2000 2001 ---- ---- (In thousands) United States $ 72,494 $182,473 Israel 95,275 142,569 Other 10,570 8,625 -------- -------- $178,339 $333,667 ======== ======== F-24 20. COMMITMENTS AND CONTINGENCIES Leases - The Company leases office, manufacturing, and warehouse space under non-cancelable operating leases. Rent expense for all leased premises approximated $15,168,000, $22,500,000 and $28,304,000 in the years ended January 31, 1999, 2000 and 2001, respectively. As of January 31, 2001, the minimum annual rent obligations of the Company were approximately as follows: Twelve Months Ended January 31, Amount ----------- (In thousands) -------------- 2002 $ 32,521 2003 32,005 2004 30,308 2005 28,305 2006 and thereafter 47,150 ----------- $ 170,289 =========== Employment Agreements - The Company is obligated under employment contracts with its chief executive officer to provide salary, bonuses, insurance and fringe benefits through January 31, 2004. Minimum salary payments under the contracts currently amount to $642,000 per year. The executive is entitled to annual bonuses equal to at least 2.75% of the Company's consolidated after-tax net income during each year, determined without regard to acquisition-related expenses and charges. Following termination or expiration of the term of employment, the executive is entitled to receive a severance payment equal to $124,025 times the number of years from the beginning of his employment with the Company, the amount of which payment increases at the rate of 10% per annum compounded for each year of employment following December 31, 2000, plus continued fringe benefits for three years and insurance coverage for up to 10 years. If the executive's employment is terminated by the Company without "cause", or by the executive for "good reason" (as those terms are defined in the agreement), the executive is entitled to additional payments attributable to the salary, bonus and the monetary equivalence of other benefits which he otherwise would have expected to receive for a period of three years or the balance of the agreement term, whichever is longer. If such termination occurs following a change in control of the Company, the required additional payment is three times the executive's annual salary and bonus, and the executive is additionally entitled to the accelerated vesting of all retirement benefits and stock options, and payments sufficient to reimburse any associated excise tax liability and income tax resulting from such reimbursement. The agreements also provide for the executive to receive options entitling him to purchase 7-1/2% of the equity of Comverse's subsidiaries, other than Comverse Network Systems, Inc., at prices equal to the higher of the book value of the underlying shares at the date of option grant or the fair market value of such shares at that date determined on the basis of an arms'-length transaction with a third party or, if no such transactions have occurred, on a reasonable basis as determined by the Board of Directors. These options, as well as any options granted the executive under the Company's stock option or stock incentive plans, become fully vested, exercisable and nonforfeitable in the event of a change in control of the Company, the termination of the executive's employment by the Company without cause or by the executive for good reason, or the executive's death or disability. Insurance benefits include life insurance providing cumulative death benefits of approximately $40,000,000, including amounts provided F-25 under a split dollar arrangement through which the Company is to be reimbursed premiums from the benefit payments or cash surrender value. Most other employment agreements of the Company are terminable with or without cause with prior notice of 90 days or less. In certain instances, the termination of employment agreements without cause entitles the employees to certain benefits, including acceleration of the vesting of stock options and severance payments of as much as one year's compensation. Licenses and Royalties - The Company licenses certain technology, "know-how" and related rights for use in the manufacture and marketing of its products, and pays royalties to third parties under such licenses and under other agreements entered into in connection with research and development financing. The Company currently pays royalties on a substantial portion of its product sales in varying amounts based upon the revenues attributed to the various components of such products. Royalties typically range up to 6% of net sales of the related products and, in the case of royalties due to government funding sources in respect of research and development projects, are required to be paid until the funding organization has received total royalties ranging from 100% to 150% of the amounts received by the Company under the approved project budgets. Dividend Restrictions - The ability of Comverse's Israeli subsidiaries to pay dividends is governed by Israeli law, which provides that cash dividends may be paid by an Israeli corporation only out of retained earnings as determined for statutory purposes in Israeli currency. In the event of a devaluation of the Israeli currency against the dollar, the amount in dollars available for payment of cash dividends out of prior years' earnings will decrease accordingly. Cash dividends paid by an Israeli corporation to United States residents are subject to withholding of Israeli income tax at source at a rate of up to 25%, depending on the particular facilities which have generated the earnings that are the source of the dividends. Investments - In 1997, wholly-owned subsidiaries of Comverse and Quantum Industrial Holdings Ltd. organized two new companies to make investments primarily relating to Israel, including investments in high technology ventures. Each participant committed a total of $37,500,000 to the capital of the new companies, for use as suitable investment opportunities are identified. Quantum Industrial Holdings Ltd. is the principal direct investment vehicle of the Quantum Group, a group of investment funds managed by Soros Fund Management LLC. As of January 31, 2000 and 2001, the Company has invested approximately $11,300,000 and $22,640,000 respectively, related to these ventures which are included in the caption "Investments" in the accompanying balance sheets. In addition, the Company has committed $28,035,000 to various companies, ventures and funds which may be called at the option of the investee. Guaranties - The Company has obtained bank guaranties primarily for performance of certain obligations under contracts with customers. These guaranties, which aggregated approximately $39,982,000 at January 31, 2001, are to be released by the Company's performance of specified contract milestones, which are scheduled to be completed primarily during 2001. Litigation - The Company is subject to certain legal actions arising in the normal course of business. After taking into consideration legal counsel's evaluation of such actions, management is of the opinion that their final resolution will not have any significant adverse effect upon the Company's financial position or results of operations. F-26 21. FAIR VALUE OF FINANCIAL INSTRUMENTS The estimated fair value amounts have been determined by the Company, using available market information and appropriate valuation methodologies. However, considerable judgment is necessarily required in interpreting market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.

January 31, ---------------------------------------------------------- 2000 2001 ---- ---- Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value ------ ---------- ------ ---------- (In thousands) Liabilities: Convertible debentures $300,000 $1,313,400 $900,000 $2,307,000 Off-balance sheet financial instruments: Foreign exchange forward contracts and options used for hedging purposes $ -- $ -- $ -- $ --

Cash and Cash Equivalents, Bank Time Deposits, Short-Term Investments, Accounts Receivable, Investments, and Accounts Payable - The carrying amounts of these items are a reasonable estimate of their fair value. Convertible Debentures and Foreign Exchange Forward Contracts - The fair value of these securities is estimated based on quoted market prices or recent sales for those or similar securities. The fair value estimates presented herein are based on pertinent information available to management as of January 31, 2001. Such amounts have not been comprehensively revalued for purposes of these financial statements since January 31, 2001, and current estimates of fair value may differ significantly from the amounts presented herein. 22. EFFECT OF NEW ACCOUNTING PRONOUNCEMENTS In 1998, the Financial Accounting Standards Board issued SFAS No. 133 "Accounting for Derivative Instruments and Hedging Activities" which was subsequently amended by SFAS Nos. 137 and 138 (collectively "SFAS 133"). SFAS 133 establishes accounting and reporting standards for derivative instruments, including certain derivatives embedded in other contracts, and hedging activities and requires that an entity recognize all derivatives as either assets or liabilities and measure those instruments at fair value. Under SFAS 133, certain contracts that were not formerly considered derivatives may now meet the definition of a derivative. SFAS 133 is effective for all fiscal quarters of fiscal years beginning after June 15, 2000. The Company will adopt SFAS 133 effective February 1, 2001. The adoption of SFAS 133 will not have a material effect on the Company's operations or financial position. F-27 23. QUARTERLY INFORMATION (UNAUDITED) The following table shows selected results of operations for each of the quarters during the years ended January 31, 2000 and 2001:

Fiscal Quarter Ended April 30, July 31, Oct. 31, Jan. 31, April 30, July 31, Oct. 31, Jan. 31 1999 1999 1999 2000 2000 2000 2000 2001 ---- ---- ---- ---- ---- ---- ---- ---- (In thousands, except per share amounts) Sales $207,897 $216,810 $232,893 $252,067 $268,469 $292,070 $317,966 $346,553 Gross profit 125,936 132,971 142,970 155,042 166,418 182,081 198,942 216,987 Net income 36,192 41,023 44,035 51,897 56,206 51,703 64,362 76,865 Diluted earnings per share $ 0.24 $ 0.26 $ 0.27 $ 0.30 $ 0.32 $ 0.30 $ 0.35 $ 0.41 ======== ======== ======== ======== ======== ======== ======== ========

F-28 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. COMVERSE TECHNOLOGY, INC. (Registrant) April 26, 2001 By: S/ Kobi Alexander ----------------------------------------- Kobi Alexander, Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. S/ Kobi Alexander April 26, 2001 ------------------------------------ Kobi Alexander, Chairman of the Board and Chief Executive Officer; Director S/ David Kreinberg April 26, 2001 ------------------------------------ David Kreinberg, Chief Financial Officer S / Zvi Alexander April 26, 2001 ------------------------------------ Zvi Alexander, Director S / Itsik Danziger April 26, 2001 ------------------------------------ Itsik Danziger, President; Director S / John H. Friedman April 26, 2001 ------------------------------------ John H. Friedman, Director S/ Francis E. Girard April 26, 2001 ------------------------------------ Francis E. Girard, Director S/ Sam Oolie April 26, 2001 ------------------------------------ Sam Oolie, Director S/ William F. Sorin April 26, 2001 ------------------------------------ William F. Sorin, Director S/ Shaula A. Yemini April 26, 2001 ------------------------------------ Dr. Shaula A. Yemini, Director