UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark one)

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

For the quarterly period ended September 30, 2005

OR

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

For the transition period from to

Commission file number: 000-27127

iBasis, Inc.

(Exact name of registrant as specified in its charter)

Delaware

(State or other jurisdiction of incorporation or
organization)

04-3332534

(I.R.S. Employer Identification No.)

20 Second Avenue, Burlington, MA 01803

(Address of executive offices, including zip code)

(781) 505-7500

(Registrant’s telephone number, including area code)

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

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o No ý

As of October 31, 2005, there were 101,225,775 shares of the Registrant’s Common Stock, par value $0.001 per share, outstanding.

iBASIS, INC.
Index

PART I — FINANCIAL INFORMATION
Item 1 -	Condensed Consolidated Financial Statements
	Condensed Consolidated Balance Sheets at September 30, 2005 and December 31, 2004 (unaudited)
	Condensed Consolidated Statements of Operations for the Three Months Ended September 30, 2005 and 2004 (unaudited)
	Condensed Consolidated Statements of Operations for the Nine Months Ended September 30, 2005 and 2004 (unaudited)
	Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2005 and 2004 (unaudited)
	Condensed Notes to Consolidated Financial Statements (unaudited)
Item 2 —	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3 —	Quantitative and Qualitative Disclosures About Market Risk
Item 4 —	Controls and Procedures
PART II — OTHER INFORMATION
Item 1 —	Legal Proceedings
Item 4 —	Submission of Matters to a Vote of Security Holders
Item 6 —	Exhibits
	Signature
	Certifications

Part I – Financial Information

Item 1. Financial Statements

iBasis, Inc.

Condensed Consolidated Balance Sheets

(unaudited)

	September 30, 2005			December 31, 2004
	(in thousands, except per share data)
Assets
Cash and cash equivalents	$	19,935		$	20,928
Short-term marketable investments	23,375			17,897
Accounts receivable, net of allowance for doubtful accounts of $2,257 and $3,391, respectively	43,723			34,133
Prepaid expenses and other current assets	3,179			2,420
Total current assets	90,212			75,378

Property and equipment, at cost:
Network equipment	59,938			74,768
Equipment under capital lease	4,152			5,632
Computer software	10,516			10,006
Leasehold improvements	6,692			6,437
Furniture and fixtures	1,061			1,075
	82,359			97,918
Less: Accumulated depreciation and amortization	(70,338		)	(86,057		)
Property and equipment, net	12,021			11,861

Deferred debt financing costs, net	—			177
Other assets	365			360
Total assets	$	102,598		$	87,776
Liabilities and Stockholders’ Equity (Deficit)
Accounts payable	$	27,545		$	24,340
Accrued expenses	20,731			12,186
Deferred revenue	8,442			6,303
Current portion of long-term debt	1,370			1,775
Total current liabilities	58,088			44,604

Long term debt, net of current portion	1,997			65,933
Other long term liabilities	1,016			1,132

Stockholders’ equity (deficit):
Common stock, $0.001 par value, authorized – 170,000 shares; issued – 102,359 and 64,778 shares, respectively	102			65
Treasury stock; 1,135 shares at cost	(341		)	(341		)
Additional paid-in capital	473,803			406,137
Accumulated other comprehensive loss	(28		)	(12		)
Accumulated deficit	(432,039		)	(429,742		)
Total stockholders’ equity (deficit)	41,497			(23,893		)
Total liabilities and stockholders’ equity (deficit)	$	102,598		$	87,776

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

iBasis, Inc.
Condensed Consolidated Statements of Operations
(unaudited)

	Three Months Ended September 30,
	2005			2004
	(in thousands, except per share data)
Net revenue	$	94,644		$	70,359
Costs and operating expenses:
Data communications and telecommunications (excluding depreciation and amortization)	83,143			60,037
Research and development	3,076			3,585
Selling and marketing	2,999			2,308
General and administrative	4,102			3,702
Depreciation and amortization	1,682			2,141
Total cost and operating expenses	95,002			71,773

Loss from operations	(358		)	(1,414		)

Interest income	294			13
Interest expense	(128		)	(1,441		)
Other expenses, net	(40		)	(71		)
Foreign exchange loss, net	(174		)	222
Debt conversion premium and transaction costs	(1,314		)	—
Debt refinancing-related transaction costs	—			(205		)
Loss from continuing operations	(1,720		)	(2,896		)

Income from discontinued operations	—			1,861

Net loss	$	(1,720	)	$	(1,035	)

Net (loss) income per share:
Continuing operations	$	(0.02	)	$	(0.06	)
Discontinued operations	—			0.04
Net loss per share	$	(0.02	)	$	(0.02	)

Weighted average common shares outstanding:
Basic and Diluted	88,924			47,884

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

iBasis, Inc.
Condensed Consolidated Statements of Operations
(unaudited)

	Nine Months Ended September 30,
	2005			2004
	(in thousands, except per share data)
Net revenue	$	277,897		$	188,542
Costs and operating expenses:
Data communications and telecommunications (excluding depreciation and amortization)	241,318			160,693
Research and development	9,334			10,665
Selling and marketing	8,592			6,440
General and administrative	11,161			10,001
Depreciation and amortization	5,128			8,452
Total cost and operating expenses	275,533			196,251

Income (loss) from operations	2,364			(7,709		)

Interest income	758			418
Interest expense	(2,490		)	(2,989		)
Other expenses, net	(200		)	(156		)
Foreign exchange (loss) gain, net	(754		)	302
Loss on non-marketable long-term security	—			(5,000		)
Debt conversion premium and transaction costs	(1,975		)	—
Debt refinancing-related charges:
Transaction costs	—			(2,159		)
Additional interest, net	—			(481		)
Loss from continuing operations	(2,297		)	(18,151		)

Income from discontinued operations	—			1,861


Net loss	$	(2,297	)	$	(16,290	)

Net (loss) income per share:
Continuing operations	$	(0.03	)	$	(0.39	)
Discontinued operations	—			0.04
Net loss per share	$	(0.03	)	$	(0.35	)

Weighted average common shares outstanding:
Basic and Diluted	73,300			46,411

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

iBasis, Inc.
Condensed Consolidated Statements of Cash Flows
(unaudited)

	Nine Months Ended September 30,
	2005			2004
	(in thousands)
Cash flows from operating activities:
Loss from continuing operations	$	(2,297	)	$	(18,151	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Depreciation and amortization	5,128			8,452
Amortization of deferred debt financing costs	177			198
Amortization of discount on short-term marketable investments	(115		)	—
Bad debt expense	600			154
Non-cash debt conversion premium	115			—
Impairment of investment in long-term non-marketable security	—			5,000
Fair value of warrant issued in debt refinancing	—			2,140
Changes in assets and liabilities:
Accounts receivable	(10,190		)	(7,702		)
Prepaid expenses and other current assets	(759		)	(978		)
Other assets	(5		)	315
Accounts payable	3,027			3,318
Accrued expenses	10,405			2,481
Deferred revenue	2,139			4,682
Other long term liabilities	(116		)	(1,670		)
Net cash provided by (used in) operating activities	8,109			(1,761		)

Cash flows from investing activities:
Purchases of property and equipment	(2,723		)	(1,058		)
Purchases of available-for-sale short-term marketable investments	(21,295		)	—
Maturities of available-for-sale short-term marketable investments	15,916			—
Proceeds from earn-out receivable related to sale of Speech Solutions Business	—			1,108
Proceeds from receipt of escrow receivable related to sale of Speech Solutions Business	—			1,500
Net cash (used in) provided by investing activities	(8,102		)	1,550

Cash flows from financing activities:
Bank borrowings	—			4,600
Repayments of bank borrowings	—			(6,900		)
Proceeds from private equity placement	—			31,500
Private equity placement transaction costs	—			(1,045		)
Proceeds from issuance of 8% Secured Convertible Notes	—			29,000
Prepayment of 11½% Senior Secured Notes	—			(25,175		)
Payments of principal on capital lease obligations	(889		)	(1,856		)
Redemption of 5¾% Convertible Subordinated Notes	(895		)	—
Debt conversion premium	(1,860		)	—
Debt refinancing transaction costs	—			(1,984		)
Proceeds from exercise of warrants	2,422			1,091
Proceeds from exercises of common stock options	222			297
Net cash (used in) provided by financing activities	(1,000		)	29,528
Net (decrease) increase in cash and cash equivalents	(993		)	29,317
Cash and cash equivalents, beginning of period	20,928			17,270
Cash and cash equivalents, end of period	$	19,935		$	46,587

Supplemental disclosure of cash flow information:
Cash paid during the period for interest	$	2,539		$	6,388

Supplemental disclosure of non-cash financing activities:
Conversion of debt to common stock:
Conversion of 6¾% Convertible Subordinated Notes to common stock	$	35,944		$	35
Conversion of 8% Secured Convertible Notes to common stock	$	29,000		$	—
Private equity placement:
Fair value of warrant issued for partial payment of investment banking services	$	—		$	2,808
Debt refinancing:
Fair value of warrant issued	$	—		$	2,140
Reduction of accrued interest on 11½% Senior Secured Notes	$	—		$	(1,659
Investment banking services paid in shares of common stock	$	—		$	175
Equipment acquired under capital lease obligations	$	2,387		$	1,765
Termination of contingent liabilities relating to discontinued operations	$	—		$	1,861

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

iBasis, Inc.
Condensed Notes to Consolidated Financial Statements

(1) Business and Presentation

Business

We are a leading provider of international communications services and a provider of retail prepaid calling services. Our continuing operations consist of our Voice-Over-Internet-Protocol, or VoIP, trading business (“Trading”), in which we connect buyers and sellers of international telecommunications services, and our retail services business (“Retail”). In the Trading business we receive voice traffic from buyers — originating carriers who are interconnected to our network via VoIP or traditional TDM connections, and we route the traffic over the Internet to sellers — local carriers in the destination countries with whom we have established termination agreements. We use proprietary, patent-pending technology to automate the selection of routes and termination partners based on a variety of performance, quality, and business metrics. We offer this trading service on a wholesale basis to carriers, telephony resellers and other service providers worldwide, and have termination agreements with local service providers in North America, Europe, Asia, the Middle East, Latin America, Africa and Australia.

Our Retail business was launched during the third quarter of 2003, with the introduction of our retail prepaid calling cards which are marketed through distributors primarily to ethnic communities within major metropolitan markets in the U.S. Our retail prepaid calling card business leverages our existing international VoIP network and termination agreements and typically has a faster cash collection cycle than the VoIP trading business. In September 2004, we launched a prepaid calling service, Pingo, offered directly to consumers through an eCommerce web interface, which we have included in our Retail business segment. Revenues from our Pingo services was not material in 2004 or the first nine months of 2005.

Presentation

The unaudited condensed consolidated financial statements presented herein have been prepared by us and, in the opinion of management, reflect all adjustments of a normal recurring nature necessary for a fair presentation. Interim results are not necessarily indicative of results for a full year.

The unaudited condensed consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in the annual financial statements prepared in accordance with generally accepted accounting principles have been omitted pursuant to those rules and regulations, but we believe that the disclosures are adequate to make the information presented not misleading. The condensed consolidated financial statements and notes included herein should be read in conjunction with the consolidated financial statements and notes in our Annual Report on Form 10-K for the year ended December 31, 2004.

Certain reclassifications have been made to previously reported financial data to conform to the 2005 presentation. Beginning in the three months ended June 30, 2005, we began to separately report foreign exchange gain and losses, on a comparative basis, as they have become material. Previously, foreign exchange gains and losses were included in general and administrative expenses.

(2) Net loss per share

Basic and diluted net loss per common share are determined by dividing net loss by the weighted average common shares outstanding during the period. Basic net loss per share and diluted net loss per share are the same for all periods presented, as outstanding common stock options, common shares to be issued upon conversion of the Company’s convertible notes and warrants to purchase common shares are anti-dilutive.

The following table summarizes common shares that have been excluded from the computation of diluted weighted average common shares for the periods presented:

	Three and Nine Months Ended September 30,
	2005	2004
	(in thousands)
Outstanding stock options	6,260	6,806
Shares issuable upon conversion of the 6¾% Convertible Subordinated Notes	—	20,135
Shares issuable upon conversion of the 8% Secured Convertible Notes	—	15,676
Shares issuable upon conversion of the 5¾% Convertible Subordinated Notes	—	10
Warrants to purchase common shares	7,360	10,146
Total	13,620	52,773

(3) Stock Based Compensation

We account for stock-based compensation in accordance with Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” using the intrinsic-value method. In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 123R, Share-Based Payment (SFAS No. 123R). This Statement is a revision of SFAS 123, Accounting for Stock-Based Compensation, and supercedes APB Opinion No. 25. SFAS No. 123R requires entities to recognize stock compensation expense for awards of equity instruments to employees based on the grant-date fair value of those awards. In April 2005, the Securities and Exchange Commission amended the compliance date for adoption of SFAS No. 123R. The new rule extends the required adoption of SFAS No. 123R for companies with calendar fiscal years to the first quarter of 2006. SFAS No. 123R is effective for us beginning in the first quarter of 2006. We expect to adopt SFAS No. 123R using the Statement’s modified prospective application method. Adoption of SFAS No. 123R is expected to increase our stock compensation expense. We are currently in the process of evaluating the impact and implementation of SFAS No. 123R.

At September 30, 2005, we had one stock-based employee compensation plan. The following table illustrates the effect on net income or net loss, and net income or net loss per share, if we had applied the fair value recognition provisions of SFAS No. 123.

	Three Months Ended September 30,						Nine Months Ended September 30,
	2005			2004			2005			2004
	(in thousands, except per share data)
Net loss:
As reported	$	(1,720	)	$	(1,035	)	$	(2,297	)	$	(16,290	)

Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards	(280		)	(432		)	(1,410		)	(2,072		)
Net loss - pro forma	$	(2,000	)	$	(1,467	)	$	(3,707	)	$	(18,362	)

Net loss per share:
As reported - basic & diluted	$	(0.02	)	$	(0.02	)	$	(0.03	)	$	(0.35	)
Pro forma - basic & diluted	$	(0.02	)	$	(0.03	)	$	(0.05	)	$	(0.40	)

We estimate the fair value of our stock-based awards to employees using the Black-Scholes option pricing model. The Black-Scholes model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, the Black-Scholes model required the input of highly subjective assumptions including the expected stock price volatility. Because stock-based awards to employees have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in our opinion, the existing models do not necessarily provide a reliable single measure of the fair value of stock-based awards to employees. The fair value of stock-based awards to employees was estimated assuming no expected dividends and the following weighted average assumptions.

	Three Months Ended September 30,						Nine Months Ended September 30,
	2005			2004			2005			2004
Risk free interest rate	4.00		%	3.38		%	3.88		%	3.29		%
Dividend yield	0.00		%	0.00		%	0.00		%	0.00		%
Expected life	5 years			5 years			5 years			5 years
Volatility	120		%	133		%	124		%	136		%
Fair value of options granted	$	2.34		$	1.86		$	2.16		$	1.79

(4) Business Segment Information

Beginning in the second quarter of 2004, our recently created operating segment, retail prepaid calling card services and other enhanced services (“Retail”) became a reportable business segment, in addition to our international wholesale VoIP services (“Trading”). Since the second quarter of 2004, revenue from our Retail business has exceeded 10% of total net revenue.

Our Trading business consists of international long distance services we provide using VoIP. We offer these services on a wholesale basis through our worldwide network to carriers, telephony resellers and others around the world by operating through various service agreements with local service providers in North America, Europe, Asia, the Middle East, Latin America, Africa and Australia.

Our Retail business consists of our retail prepaid calling card services, and Pingo, a prepaid calling service sold to consumers through an eCommerce interface. To date, we have marketed our retail prepaid calling card services primarily to ethnic communities within major domestic markets through distributors. Launched in the third quarter of 2004, Pingo revenues were not material for the three and nine months ended September 30, 2005.

We use net revenue and gross margin, which is net revenue less data communications and telecommunications costs, as the basis for measuring profit or loss and making decisions on our Trading and Retail businesses. We do not allocate our research and development expenses, selling and marketing expenses, general and administrative expenses and depreciation and amortization between Trading and Retail.

Operating results, excluding interest income and expense and other income and expense, for our two business segments are as follows:

	Three Months Ended September 30, 2005
	(In thousands)
	Trading		Retail		Total
Net revenue	$	77,060	$	17,584	$	94,644
Data communications and telecommunication costs (excluding depreciation and amortization)	68,268		14,875		83,143
Gross margin	$	8,792	$	2,709	11,501

Research and development expenses					3,076
Selling and marketing expenses					2,999
General and administrative expenses					4,102
Depreciation and amortization					1,682
Loss from operations					$	(358	)

	Three Months Ended September 30, 2004
	(In thousands)
	Trading		Retail		Total
Net revenue	$	58,598	$	11,761	$	70,359
Data communications and telecommunication costs (excluding depreciation and amortization)	50,054		9,983		60,037
Gross margin	$	8,544	$	1,778	10,322

Research and development expenses					3,585
Selling and marketing expenses					2,308
General and administrative expenses					3,702
Depreciation and amortization					2,141
Loss from operations					$	(1,414	)

	Nine Months Ended September 30, 2005
	(In thousands)
	Trading		Retail		Total
Net revenue	$	225,536	$	52,361	$	277,897
Data communications and telecommunication costs (excluding depreciation and amortization)	197,799		43,519		241,318
Gross margin	$	27,737	$	8,842	36,579

Research and development expenses					9,334
Selling and marketing expenses					8,592
General and administrative expenses					11,161
Depreciation and amortization					5,128
Income from operations					$	2,364

	Nine Months Ended September 30, 2004
	(In thousands)
	Trading		Retail		Total
Net revenue	$	165,292	$	23,250	$	188,542
Data communications and telecommunication costs (excluding depreciation and amortization)	141,504		19,189		160,693
Gross margin	$	23,788	$	4,061	27,849

Research and development expenses					10,665
Selling and marketing expenses					6,440
General and administrative expenses					10,001
Depreciation and amortization					8,452
Loss from operations					$	(7,709	)

	As of September 30, 2005
	(In thousands)
	Trading		Retail		Total
Segment assets	$	35,664	$	8,059	$	43,723

Non-segment assets					58,875
Total assets					$	102,598

(5) Accrued Restructuring Costs

During 2001 and 2002, the Company announced restructuring plans to better align the organization with its corporate strategy and recorded a charge to its Statements of Operations in those periods in accordance with the criteria set forth in EITF 94-3 and SEC Staff Accounting Bulletin 100. The restructuring included the write-off of property and equipment, the termination of certain contractual obligations, exiting certain leased facilities and the reduction in the Company’s workforce resulting in employee benefit costs.

As of September 30, 2005, the balance in accrued restructuring costs consisted of costs accrued for certain leased facilities obligations. In the three months ended September 30, 2005, the Company took a charge of $0.1 million as a result of a change in estimate relating to future sublease assumptions.

A summary of the accrued restructuring costs for the nine months ended September 30, 2005 is as follows:


(In thousands)	Leased Facility Obligations
2002 Restructuring Charge:
Accrual as of December 31, 2004	$	1,691
Payments	(366		)
Change in estimates	135
Accrual as of September 30, 2005	$	1,460

Current portion	$	444
Long-term portion	1,016
Total	$	1,460

(6) Long-Term Debt

Long-term debt consists of the following:

	September 30, 2005		December 31, 2004
	(In thousands)
6¾% Convertible Subordinated Notes	$	—	$	35,944
8% Secured Convertible Notes	—		29,000
5¾% Convertible Subordinated Notes	—		895
Capital lease obligations	3,367		1,869
Total long term debt	3,367		67,708

Less-current portion	1,370		1,775
Long term debt, net of current portion	$	1,997	$	65,933

From mid-August 2005 through early September 2005, all of our remaining $32,599,000 of 6¾% Convertible Subordinated Notes due June 2009 were converted to shares of our common stock at the stated conversion price of $1.85 per share. In mid-August 2005, we had announced our intention to redeem all of these outstanding notes for cash at the face value of the notes, plus accrued interest, with a planned redemption date of September 6, 2005. Holders of these notes had the option to convert their notes to our common stock at the stated conversion price of $1.85 per share up to the day preceding the planned redemption date. The Company was not required to pay any accrued interest upon conversion of these notes.

In July 2005, we negotiated the early conversion of the remaining $19,900,000 of our 8% Secured Convertible Notes due June 2007 into 10.8 million shares of common stock at the stated conversion price of $1.85 per share. We paid a total premium of $1,194,000 in cash to the noteholders to encourage the early conversion of these notes. In addition, transactions costs associated with this early conversion were $0.1 million and consisted primarily of investment banker fees.

In June 2005, we negotiated (i) the early conversion of $9,100,000 of our 8% Secured Convertible Notes due June 2007 into 4.9 million shares of common stock at the stated conversion price of $1.85 per common share and (ii) the early conversion of $2,000,000 of our 6 ¾% Convertible Subordinated Notes due June 2009 into 1.1 million shares of common stock at the stated conversion price of $1.85 per common share. We paid a total of $661,000 in premiums to the noteholders to encourage the early conversion of these notes, of which $546,000 was paid in cash and the remaining amount was paid in the form of 43,736 shares of the Company’s common stock that had a fair value of $115,000. In addition, $1,150,000 of our 6 ¾% Convertible Subordinated Notes due June 2009 voluntarily converted into 0.6 million shares of common stock at the conversion price of $1.85 per share. In total, $12,250,000 of notes were converted into 6.6 million shares of common stock.

In the first quarter of 2005, holders of $0.2 million of 6¾% Convertible Subordinated Notes due June 2009 voluntarily converted their notes into 105,405 shares of common stock at the conversion price of $1.85 per share. In January 2005, holders of certain warrants which we issued in 2003 in connection with an exchange of debt, exercised their warrants for 1,400,000 shares of common stock at an exercise price of $0.65 per share, resulting in total proceeds to us of $0.9 million.

At September 30, 2005 and December 31, 2004, we had $2.3 million and $3.0 million, respectively, in letters of credit outstanding under our bank line of credit. We had no other borrowings outstanding under our bank line of credit at September 30, 2005 or December 31, 2004.

In the three months ended September 30, 2005, we entered into a capital lease agreement, with a three year term, to finance $1.1 million in equipment purchases for The iBasis Network.

(7) Contingencies

In addition to litigation that we have initiated or responded to in the ordinary course of business, we are currently party to the following potentially material legal proceedings:

Beginning July 11, 2001, we were served with several class action complaints that were filed in the United States District Court for the Southern District of New York against us and several of our officers, directors, and former officers and directors, as well as against the investment banking firms that underwrote our November 10, 1999 initial public offering of the common stock and our March 9, 2000 secondary offering of the common stock. The complaints were filed on behalf of persons who purchased the common stock during different time periods, all beginning on or after November 10, 1999 and ending on or before December 6, 2000.

The complaints are similar to each other and to hundreds of other complaints filed against other issuers and their underwriters, and allege violations of the Securities Act of 1933 and the Securities Exchange Act of 1934 primarily based on the assertion that there was undisclosed compensation received by our underwriters in connection with our public offerings and that there were understandings with customers to make purchases in the aftermarket. The plaintiffs have sought an undetermined amount of monetary damages in relation to these claims. On September 4, 2001, the cases against us were consolidated. On October 9, 2002, the individual defendants were dismissed from the litigation by stipulation and without prejudice.

On June 11, 2004, we and the individual defendants, as well as many other issuers named as defendants in the class action proceeding, entered into an agreement-in-principle to settle this matter, and on June 14, 2004, this settlement was presented to the court. The court has preliminarily approved the settlement. Once the notice has been mailed, there will be an objection period, followed by a hearing for final approval of the settlement. Although we believe that we and the individual defendants have meritorious defenses to the claims made in the complaints, in deciding to pursue settlement, we considered, among other factors, the substantial costs and the diversion of our management’s attention and resources that would be required by litigation.

Pursuant to the terms of the proposed settlement, in exchange for a termination and release of all claims against us and the individual defendants and certain protections against third-party claims, we will assign to the plaintiffs certain claims we may have as an issuer against the underwriters, and our insurance carriers, along with the insurance carriers of the other issuers, will ensure a floor of $1 billion for any underwriter-plaintiff settlement. Although the financial effect of the settlement on us will not be material, our insurance carriers’ exposure in this connection will range from zero to a few hundred thousand dollars, and will be reduced proportionately by any amounts recovered by plaintiffs directly from the underwriters.

We cannot assure you that the settlement which has been finalized will be accepted by the court, or that we will be fully covered by collateral or related claims from underwriters, and that we would be successful in resulting litigation. In addition, even though we have insurance and contractual protections that could cover some or all of the potential damages in these cases, or amounts that we might have to pay in settlement of these cases, an adverse resolution of one or more of these lawsuits could have a material adverse affect on our financial position and results of operations in the period in which the lawsuits are resolved. We are not presently able to estimate potential losses, if any, related to the lawsuits.

We are also party to suits for collection, related commercial disputes, claims by former employees, claims related to certain taxes, claims from carriers and foreign service partners over reconciliation of payments for circuits, Internet bandwidth and/or access to the public switched telephone network, and claims from estates of bankrupt companies alleging that we received preferential payments from such companies prior to their bankruptcy filings. Our employees have also been named in proceedings arising out of business activities in foreign countries. We intend to prosecute vigorously claims that we have brought and employ all available defenses in contesting claims against us, or our employees. Nevertheless, in deciding whether to pursue settlement, we will consider, among other factors, the substantial costs and the diversion of management’s attention and resources that would be required in litigation. In light of such costs, we have settled various and in some cases similar matters on what we believe have been favorable terms which did not have a material impact our financial position, results of operations, or cash flows. The results or failure of any suit may have a material adverse affect on our business.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Form 10-Q, including without limitation Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains “forward-looking statements” within the meaning of Section 27A of the Securities Act and Section 21E of the Securities Exchange Act of 194, as amended (the “Exchange Act”). We intend the forward-looking statements to be covered by the safe harbor for forward-looking statements in such sections of the Exchange Act. These forward-looking statements include, without limitation, statements about our market opportunity, strategies, competition, expected activities, expected profitability and investments as we pursue our business plan, and the adequacy of our available cash resources. These forward-looking statements are usually accompanied by words such as “believe,” “anticipate,” “plan,” “seek,” “expect,” “intend” and similar expressions. The forward-looking information is based on various factors and was derived using numerous assumptions.

Forward-looking statements necessarily involve risks and uncertainties, and our actual results could differ materially from those anticipated in the forward-looking statements due to a number of factors, including those set forth below under “Risk Factors” and elsewhere in this report. The factors set forth below under “Risk Factors” and other cautionary statements made in this Form 10-Q should be read and understood as being applicable to all related forward-looking statements wherever they appear herein. The forward-looking statements contained in this Form 10-Q represent our judgment as of September 30, 2005. We caution readers not to place undue reliance on such statements. Except as required by law, we undertake no obligation to update publicly any forward-looking statements for any reason, even if new information becomes available or other events occur in the future.

Overview

We are a leading provider of international communications services and a provider of retail prepaid calling services. Our continuing operations consist of our Voice-Over-Internet-Protocol, or VoIP, trading business (“Trading”), in which we connect buyers and sellers of international telecommunications services, and our retail services business (“Retail”). In the Trading business we receive voice traffic from buyers-originating carriers who are interconnected to our network via VoIP or traditional TDM connections, and we route the traffic over the Internet to sellers-local carriers in the destination countries with whom we have established termination agreements. We use proprietary, patent-pending technology to automate the selection of routes and termination partners based on a variety of performance, quality, and business metrics. We offer this trading service on a wholesale basis to carriers, telephony resellers and other service providers worldwide and have termination agreements with local service providers in North America, Europe, Asia, the Middle East, Latin America, Africa and Australia.

Our Retail business was launched during the third quarter of 2003, with the introduction of our retail prepaid calling cards which are marketed through distributors primarily to ethnic communities within major metropolitan markets in the U.S. Our retail prepaid calling card business leverages our existing international VoIP network and termination agreements and has the potential to deliver higher margins than those typically achieved in the VoIP trading business. In addition, the retail prepaid calling card business typically has a faster cash collection cycle than the VoIP trading business. In September 2004, we launched a prepaid calling service, Pingo, offered directly to consumers through an eCommerce web interface, which we have included in our Retail business segment. Revenues from our Pingo services were not material in 2004 or the first nine months of 2005.

We continue to expand our market share in VoIP Trading services by expanding our customer base and by introducing cost-effective solutions for our customers to interconnect with our network. Recently, we expanded our DirectVoIP offering with DirectVoIP Broadband, which addresses interconnection requirements that are specific to the growing consumer VoIP market, which we believe offers significant growth potential for us. In addition, we continue to increase the traffic we terminate to mobile phones, which generally delivers higher average revenue per minute and margins than typical fixed-line traffic.

We believe both business segments will benefit from our recently launched PremiumCertified international routing product. PremiumCertified is designed to enhance our ability to compete for retail international traffic from existing customers as well as from mobile operators and emerging consumer VoIP providers. PremiumCertified features routes to more than 500 destinations that are actively monitored and managed to deliver a level of quality that is equal to or exceeds the highest industry benchmarks for retail quality.

Our current plans include:

• expanding our market share for our Retail calling services;

• increasing revenues generated from retail VoIP customers and mobile phone terminations;

• increasing our customer base by introducing cost-effective solutions to interconnect with our network;

• continued use of our switchless architecture, which eliminates the need for costly traditional telecommunication infrastructure;

• continued monitoring of accounts receivable and management of credit exposure; and

• control of operating expenses and capital expenditures.

We anticipate that the September 30, 2005 balance of $43.3 million in cash, cash equivalents and short-term marketable investments, together with cash flow generated from operations, will be sufficient to fund our operations and capital expenditures requirements for at least the next twelve months.

The following discussion and analysis of our financial condition and results of operations for the three and nine months ended September 30, 2005 and 2004 should be read in conjunction with the unaudited condensed consolidated financial statements and footnotes for the three months ended September 30, 2005 included herein, and the year ended December 31, 2004, included in our Annual Report on Form 10-K.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our condensed consolidated financial statements. The preparation of these financial statements and related disclosures in conformity with accounting principles generally accepted in the United States of America requires us to make judgments, assumptions and estimates that affect the reported amounts of assets, liabilities, revenue and expenses and disclose contingent assets and liabilities. We base our accounting estimates on historical experience and other factors that we consider reasonable under the circumstances. However, actual results may differ from these estimates. To the extent there are material differences between our estimates and the actual results, our future financial condition and results of operations will be affected. The following is a summary of our critical accounting policies and estimates.

Revenue Recognition. For our VoIP Trading business, our revenue transactions are derived from the resale of international minutes of calling time. We recognize revenue in the period the service is provided, net of revenue reserves for potential billing disputes. Such disputes can result from disagreements with customers regarding the duration, destination or rates charged for each call. For our retail prepaid calling card business, revenue is deferred upon activation of the cards and is recognized as the prepaid calling card balances are reduced based upon minute usage and service charges. Revenue from both the resale of minutes as well as the usage of the prepaid calling cards is recognized when all of the following criteria are met: persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the seller’s price to the buyer is fixed or determinable and collectibility is reasonably assured.

Short-term Marketable Investments. Our investments are classified as available-for-sale, carried at fair value and consist of securities that are readily convertible into cash, including government securities and commercial paper, with original maturities at the date of acquisition ranging from 90 days to one year.

Short-term marketable investments consist of:

	September 30, 2005					December 31, 2004
	(In thousands)
	Fair Value		Unrealized Gain (Loss)			Fair Value		Unrealized Gain (Loss)
Government securities	$	13,159	$	(14	)	$	7,728	$	(7	)
Commercial paper and corporate bonds	10,216		(14		)	10,169		(5		)
Total	$	23,375	$	(28	)	$	17,897	$	(12	)

The net unrealized loss of $28,000 as of September 30, 2005 on our short-term marketable investments in government securities, commercial paper and corporate bonds was caused by interest rate increases. Because we have the ability and intent to hold these investments until a recovery of fair value, which may be maturity, we do not consider these investments to be other-than-temporarily impaired at September 30, 2005 due to the short-term duration and insignificant severity of the impairment. As of September 30, 2005 and December 31, 2004, the unrealized loss on our short-term marketable securities is the only difference between reported net income or loss and total comprehensive loss.

Allowance for Doubtful Accounts. We perform ongoing credit evaluations of our customers and adjust credit limits based upon payment history and the customer’s current credit worthiness, as determined by our review of their current credit information. We continuously monitor collections and payments from our customers and maintain a provision for estimated credit losses based upon our historical experience and any specific customer collection issues that we have identified. We have been able to mitigate our credit

risk, in part, by using reciprocal arrangements with customers, who are also iBasis suppliers, to offset our outstanding receivables. A majority of our accounts receivable are from international carriers.

Impairment of Long Lived Assets. Our long lived assets consist primarily of property and equipment. We have assessed the realizability of these assets and determined that there was no asset impairment as of September 30, 2005 for these assets. Any future impairment would not impact cash flow but would result in an additional charge in our statement of operations.

Restructuring Charges. During 2002 and 2001, we recorded significant charges to operations in connection with our restructuring programs. The related reserves reflect estimates, including those pertaining to severance costs and facility exit costs. We assess the reserve requirements to complete each restructuring program at the end of each reporting period. Actual experience may be different from these estimates. We had no restructuring charges in the three months ended September 30, 2005 and 2004. In the three months ended September 30, 2005, the Company took a charge of $0.1 million as a result of a change in estimate relating to future sublease assumptions.

Income Taxes. We have net deferred tax assets related to net operating loss carryforwards and tax temporary differences that expire at various dates through 2024. Significant judgment is required in determining our provision for income taxes, the carrying value of deferred tax assets and liabilities and the valuation allowance recorded against net deferred tax assets. Factors such as future reversals of deferred tax assets and liabilities, projected future taxable income, changes in enacted tax rates and the period over which our deferred tax assets will be recoverable are considered in making these determinations. We evaluate the realizability of our deferred tax assets quarterly and we may reverse a portion, or all of our net deferred tax asset in future periods. If this occurs, a tax benefit would be recorded for financial reporting purposes. Our deferred tax asset, subject to a 100% valuation allowance, was approximately $109.7 million as of December 31, 2004.

Results from Continuing Operations

The following table sets forth for the periods indicated the principal items included in the Consolidated Statement of Operations as a percentage of net revenue.

	Three Months Ended September 30,				Nine Months Ended September 30,
	2005		2004		2005		2004
Net revenue	100.0	%	100.0	%	100.0	%	100.0	%
Costs and operating expenses:
Datacommunications and telecommunications	87.8		85.3		86.8		85.2
Research and development	3.3		5.1		3.4		5.7
Selling and marketing	3.2		3.3		3.1		3.4
General and administrative	4.3		5.3		4.0		5.3
Depreciation and amortization	1.8		3.0		1.8		4.5
Total costs and operating expenses	100.4		102.0		99.1		104.1

(Loss) income from operations	(0.4	)	(2.0	)	0.9		(4.1	)

Interest income	0.3		—		0.3		0.2
Interest expense	(0.1	)	(2.0	)	(0.9	)	(1.6	)
Other expenses, net	—		(0.1	)	(0.1	)	(0.1	)
Foreign exchange (loss) gain, net	(0.2	)	0.3		(0.3	)	0.2
Debt conversion premium and transaction costs	(1.4	)	—		(0.7	)	—
Loss on non-marketable long-term security	—		—		—		(2.7	)
Refinancing-related charges:
Transaction costs	—		—		—		(1.2	)
Additional interest, net	—		(0.3	)	—		(0.3	)
Loss from continuing operations	(1.8	)	(4.1	)	(0.8.	)	(9.6	)

Income from discontinued operations	—		2.6		—		1.0
Net loss	(1.8	)%	(1.5	)%	(0.8	)%	(8.6	)%

Three Months Ended September 30, 2005 Compared to September 30, 2004

Net revenue. Our primary source of revenue is the fees that we charge customers for completing voice and fax calls over our network. Revenue is dependent on the volume of voice and fax traffic carried over our network and revenue from the sale of our prepaid calling services. Our VoIP Trading revenue is dependent on the volume of voice and fax traffic carried over our network, which is measured in minutes. We charge our customers fees, per minute of traffic, that are dependent on the length and destination of the call and recognize this revenue in the period in which the call is completed. Our average revenue per minute is based upon our total net

revenue divided by the number of minutes of traffic over our network for the applicable period. Average revenue per minute is a key telecommunications industry financial measurement. We believe this measurement is useful in understanding our financial performance, as well as industry trends. Although the long distance telecommunications industry has been experiencing declining prices in recent years, due to the effects of deregulation and increased competition, our average revenue per minute can fluctuate from period to period as a result of shifts in traffic over our network to higher priced, or lower priced, destinations.

Our total net revenue increased by approximately $24.3 million, or 35%, to $94.6 million for 2005 from $70.3 million for 2004. Traffic carried over our network increased 53% to approximately 2.0 billion minutes for 2005 from 1.3 billion minutes for 2004 and our average revenue per minute was 4.8 cents per minute in 2005 compared to 5.5 cents per minute in 2004. Trading revenue increased $18.5 million, or 32%, to $77.1 million for 2005 from $58.6 million in 2004. Retail revenues increased $5.8 million, or 50%, to $17.6 million in 2005 from $11.8 million in 2004. This increase reflects the growth we have achieved with our retail prepaid calling card services, which we introduced in the third quarter of 2003. Revenue from our Pingo calling services, which we launched in September 2004, was not material in the three months ended September 30, 2005.

Sequentially, total net revenue in the three months ended September 30, 2005 was essentially the same as the preceding quarter. Trading revenue declined by $0.7 million for the three months ended September 30, 2005 compared to the three months ended June 30, 2005. The decline was in large part a result of lower China-originated revenue which offset an increase in revenue from consumer VoIP customers. Retail revenue increased $0.7 million in the three months ended September 30, 2005 compared to the preceding quarter. The increase in Retail revenue reflected in large part an increase in new brands during the current quarter.

Data communications and telecommunications costs. Data communications and telecommunications costs are composed primarily of termination and circuit costs. Termination costs are paid to local service providers to terminate voice and fax calls received from our network. Terminating costs are negotiated with the local service provider. Should competition cause a decrease in the prices we charge our customers and, as a result, a decrease in our profit margins, our contracts, in some cases, provide us with the flexibility to renegotiate the per-minute termination fees. Circuit costs include charges for Internet access at our Internet Central Offices, fees for the connections between our Internet Central Offices and our customers and/or service provider partners, facilities charges for overseas Internet access and phone lines to the primary telecommunications carriers in particular countries, and charges for the limited number of dedicated international private line circuits we use. For our Retail calling services, these costs also include the cost of local and toll free access charges.

Data communications and telecommunications expenses increased by $23.1 million, or 39%, to $83.1 million for 2005 from $60.0 million for 2004, in line with our growth in total net revenue. Data communications and telecommunications expenses were $68.2 million and $14.9 million for our Trading and Retail business segments, respectively, in 2005, compared to $50.0 million and $10.0 million for our Trading and Retail business segments, respectively, in 2004. The increase in data communications and telecommunications expense primarily reflects the increase in traffic, as discussed above. The largest component of this expense, termination costs, increased to $81.5 million for 2005 from $58.4 million for 2004, while circuit costs were $1.6 million for 2005, the same amount as 2004. As a percentage of total net revenue, data communications and telecommunications expenses increased to 87.8% for 2005 from 85.3% in 2004.

Gross margin Total gross margin (net revenue less data communications and telecommunications costs) declined to 12.2% of total net revenue in 2005, compared to 14.7% of total net revenue in 2004. Trading gross margin was 11.4% of Trading revenue in 2005, compared to 14.6% in 2004. The lower Trading gross margin was a result of a combination of a decline in higher margin China revenue and an increase in lower margin Latin American revenue. Retail gross margin was 15.4% of Retail revenue in 2005, compared to 15.1% in 2004.

Sequentially, total gross margin declined to 12.2% of total revenue from 13.4% of total revenue in the preceding quarter. Trading gross margin declined to 11.4% from 11.9% in the preceding quarter primarily as a result of the decline in higher margin China revenue. Retail gross margin declined to 15.4%, from 20.4% in the preceding quarter, primarily as a result of the introduction of aggressively priced cards in the current period.

Research and development expenses. Research and development expenses include the expenses associated with developing, operating, supporting and expanding our international and domestic network, expenses for improving and operating our global network operations centers, salaries, and payroll taxes and benefits paid for employees directly involved in the development and operation of our global network operations centers and the rest of our network. Also included in this category are research and development expenses that consist primarily of expenses incurred in enhancing, developing, updating and supporting our network and our proprietary software applications.

Research and development expenses decreased $0.5 million to $3.1 million for 2005 from $3.6 million for 2004. The decrease in research and development expenses is due to greater operational efficiencies supporting the iBasis Network, including reduced network hardware and software maintenance costs. As a percentage of net revenue, research and development expenses decreased to 3.3% for 2005 from 5.1% for 2004.

Selling and marketing expenses. Selling and marketing expenses include expenses relating to the salaries, payroll taxes, benefits and commissions that we pay for sales personnel and the expenses associated with the development and implementation of our promotion and marketing campaigns.

Selling and marketing expenses increased by $0.7 million, to $3.0 million in 2005, from $2.3 million in 2004. The increase in expenses primarily relates to additional investments we have made in sales and marketing to support our rapidly expanding Retail business, including marketing and promotional costs. As a percentage of net revenue, selling and marketing expenses decreased to 3.2% for 2005 from 3.3% for 2004.

General and administrative expenses. General and administrative expenses include salaries, payroll taxes and benefits, and related costs for general corporate functions, including executive management, finance and administration, legal and regulatory, facilities, information technology and human resources.

General and administrative expenses increased by $0.4 million to $4.1 million for 2005 from $3.7 million for 2004. The increase in expenses primarily relates to higher professional fees and an increase of $0.3 million to our reserve for uncollectible accounts receivable. As a percentage of net revenue, general and administrative expenses decreased to 4.3% for 2005 and 5.3% for 2004.

Depreciation and amortization expenses. Depreciation and amortization expenses decreased by $0.4 million to $1.7 million for 2005 from $2.1 million for 2004. This decrease was primarily due to certain equipment being fully depreciated. As a percentage of net revenue, depreciation and amortization expenses decreased to 1.8% for 2005 from 3.0% for 2004.

Interest income. Interest income was $294,000 and $13,000 for 2005 and 2004, respectively. The increase primarily reflects the income earned on the proceeds from our private equity placement in September 2004, which have been invested in short-term marketable securities.

Interest expense. As a result of our bond conversions of the remaining $19.9 million of 8% Secured Convertible Notes due June 2007 and the remaining $32.6 million of 6¾% Convertible Subordinated Notes due June 2009, we had no bond interest expense in the three months ended September 30, 2005. Interest expense in the 2005 period related to equipment leases. Interest expense in 2004 included interest on both our 8% Secured Convertible Notes due June 2007 and our 6 ¾% Convertible Subordinated Notes due June 2009.

Other expenses, net. Other expenses, net were $40,000 and $71,000 in 2005 and 2004, respectively, and relate mostly to state excise, use and franchise taxes.

Foreign exchange loss(gain), net Foreign exchange loss was $174,000 in 2005, compared to a gain of $222,000 in 2004. The foreign exchange loss primarily reflects the effect of the weakening Euro on our Euro-denominated accounts receivable. We began separately reporting foreign exchange gain and losses in 2005 as they have become material. We have reclassified prior year amounts to conform to the current year presentation.

Debt conversion premium and transaction costs The debt conversion premium of $1,194,000 reflects cash payments made to certain noteholders in July 2005 in negotiated agreements to encourage early conversion of $19.9 million of our 8% Secured Convertible Notes due June 2007. In addition, transaction costs were approximately $120,000 and were primarily for investment banking fees.

Refinancing-related charges In June 2004, we completed a refinancing of our existing bond debt. Transaction costs associated with the debt refinancing for the three months ended September 30, 2004 were $0.2 million.

Income taxes. We have not recorded an income tax benefit for the losses associated with our operating losses in 2005 or 2004 as we believe that it is more likely than not that these benefits will not be realized.

Net loss. Net loss was $1.7 million in 2005, compared to a net loss of $1.0 million in 2004. The net loss in 2005 included a debt conversion premiums and transaction costs of $1.3 million. In 2004, the net loss was net of income from discontinued operations of $1.9 million.

Nine Months Ended September 30, 2005 Compared to September 30, 2004

Net revenue. Our total net revenue increased by approximately $89.4 million, or 47%, to $277.9 million for 2005 from $188.5 million for 2004. Traffic carried over our network increased 61% to approximately 5.5 billion minutes for 2005 from 3.4 billion minutes for 2004 and our average revenue per minute was 5.0 cents per minute in 2005 compared to 5.5 cents per minute in 2004. Trading revenue increased $60.2 million, or 36%, to $225.5 million for 2005 from $165.3 million in 2004. Retail revenues increased $29.1 million, or 125%, to $52.4 million in 2005 from $23.3 million in 2004. This increase reflects the growth we have achieved with our retail prepaid calling card services, which we introduced in the third quarter of 2003. Revenue from our Pingo calling services, which we launched in September 2004, was not material for the nine months ended September 30, 2005.

Data communications and telecommunications costs. Data communications and telecommunications costs increased by $80.6 million, or 50%, to $241.3 million for 2005 from $160.7 million for 2004, in line with our growth in total net revenue. Data communications and telecommunications expenses were $197.8 million and $43.5 million for our Trading and Retail business segments, respectively, in 2005, compared to $141.5 million and $19.2 million for our Trading and Retail business segments, respectively, in 2004. The increase in data communications and telecommunications expense primarily reflects the increase in traffic, as discussed above. The largest component of this expense, termination costs, increased to $236.3 million for 2005 from $156.5 million for 2004, while circuit costs increased to $5.0 million for 2005 from $4.2 million for 2004. As a percentage of total net revenue, data communications and telecommunications expenses increased to 86.8% for 2005 from 85.2% in 2004.

Gross margin Total gross margin declined to 13.2% of total net revenue in 2005, compared to 14.8% of total net revenue in 2004. Trading gross margin was 12.3% of Trading revenue in 2005, compared to 14.4% in 2004. Retail gross margin was 16.9% of Retail revenue in 2005, compared to 17.5% in 2004.

Research and development expenses. Research and development expenses decreased $1.3 million to $9.3 million for 2005 from $10.6 million for 2004. The decrease in research and development expenses is due to greater operational efficiencies supporting the iBasis Network, including reduced network hardware and software maintenance costs. As a percentage of net revenue, research and development expenses decreased to 3.4% for 2005 from 5.7% for 2004.

Selling and marketing expenses. Selling and marketing expenses increased by $2.2 million, to $8.6 million in 2005, from $6.4 million in 2004. The increase in expenses primarily relates to additional investments we have made in sales and marketing to support our rapidly expanding Retail business, including marketing and promotional costs. As a percentage of net revenue, selling and marketing expenses decreased to 3.1% for 2005 from 3.4% for 2004.

General and administrative expenses. General and administrative expenses increased by $1.2 million to $11.2 million for 2005 from $10.0 million for 2004. The increase in expenses primarily relates to higher professional fees and an increase of $0.6 million to our reserve for uncollectible accounts receivable. As a percentage of net revenue, general and administrative expenses decreased to 4.0% for 2005 and 5.3% for 2004.

Depreciation and amortization expenses. Depreciation and amortization expenses decreased by $3.3 million to $5.1 million for 2005 from $8.4 million for 2004. This decrease was primarily due to certain equipment being fully depreciated. As a percentage of net revenue, depreciation and amortization expenses decreased to 1.8% for 2005 from 4.5% for 2004.

Interest income. Interest income was $0.8 million and $0.4 million for 2005 and 2004, respectively. The increase primarily reflects the income earned on the proceeds from our private equity placement in September 2004, which have been invested in short-term marketable securities.

Interest expense. Interest expense was $2.5 million in 2005, compared to $3.0 million in 2004, and primarily consisted of interest on our 6¾% Convertible Subordinated Notes due June 2009 and our 8% Secured Convertible Notes due June 2007 for the first six months of 2005. As a result of our bond conversions of the remaining $19.9 million of 8% Secured Convertible Notes due June 2007 and the remaining $32.6 million of 6¾% Convertible Subordinated Notes due June 2009, we had no bond interest expense in the three months ended September 30, 2005.

Other expenses, net. Other expenses, net were $200,000 and $156,000 in 2005 and 2004, respectively, and relate mostly to state excise, use and franchise taxes.

Foreign exchange loss(gain), net Foreign exchange loss was $754,000 in 2005, compared to a gain of $302,000 in 2004. The increase in foreign exchange loss primarily reflects the effect of the weakening Euro on our Euro-denominated accounts receivable. We have reclassified prior year amounts to conform to the current year presentation.

Debt conversion premium and transaction costs The debt conversion premiums of $1,855,000 reflects payments made to certain noteholders in June and July in negotiated agreements to encourage early conversion of $29.0 of our 8% Secured Convertible Notes due June 2007 and $2.0 million of our 6¾% Convertible Subordinated Notes due June 2009. Of the total payment, $1,740,000 was paid in cash and the balance was paid in the form of 43,736 shares of iBasis common stock with a fair value of $115,000. In addition, transactions costs were approximately $120,000 and consisted of investment banking and legal fees.

Refinancing-related charges In June 2004, we completed a refinancing of our existing bond debt. Transaction costs associated with the debt refinancing totaled $2.2 million and were largely comprised of investment banking services, legal and audit fees. As part of that refinancing, we issued warrants to purchase 5.2 million shares of iBasis common stock, at $1.85 per common share, which were valued at $2.1 million and classified as additional interest. In addition, future interest of $1.6 million on the 11½% Senior Secured Notes, which had originally been charged to the gain on bond exchanges in 2003, was reversed and netted against additional interest as a result of the prepayment of these notes in the debt refinancing.

Net loss. Net loss was $2.3 million in 2005, compared to a net loss of $16.3 million in 2004. The net loss in 2005 included debt conversion premium payments and transaction costs of $2.0 million. In 2004, the net loss included refinancing-related charges of $2.4 million and a $5.0 million loss on a non-marketable long-term security.

Liquidity and Capital Resources

Our principal capital and liquidity needs historically have related to the development of our network infrastructure, our sales and marketing activities, research and development expenses, and general capital needs. Our working capital needs have been met, in large part, from the net proceeds from our public and private offerings of common stock and issuances of convertible debt. In addition, we have also met our capital needs through vendor capital leases and other equipment financings.

Net cash provided by operating activities for the nine months ended September 30, 2005 was $8.1 million, compared to net cash used of $1.8 million for the same period in 2004. The net cash provided by operating activities in 2005 was largely a result of our income from operations of $2.4 million, before depreciation charges of $5.1 million. Cash used in operating activities in 2004 of $1.8 million was primarily the result of the net loss of $16.3 million, less non-cash charges of $15.6 million.

Net cash used in investing activities of $8.1 million for the nine months ended September 30, 2005 includes $2.7 million for purchases of equipment to support the expansion of the iBasis Network. In addition, we used $21.3 million for purchases of short-term available-for-sale marketable investments and received proceeds of $15.9 million from the maturities of short-term marketable investments. Cash provided by investing activities in the nine months ended September 30, 2004 of $1.5 million relates to the proceeds from an earn-out receivable and escrow payment of $1.1 million and $1.5 million, respectively, relating to the sale of our former Speech Solutions Business, less $1.1 million in purchases of equipment.

During the three months ended September 30, 2005, we completed the process of eliminating our long-term bond debt through a series of debt conversion transactions. In June 2005, we negotiated (i) the early conversion of $9,100,000 of our 8% Secured Convertible Notes due June 2007 into 4.9 million shares of common stock at the conversion price of $1.85 per common share and (ii) the early conversion of $2,000,000 of our 6 ¾% Convertible Subordinated Notes due June 2009 into 1.1 million shares of common stock at the conversion price of $1.85 per common share. We paid a total of $661,000 in premiums to the noteholders to encourage the early conversion of these notes, of which $546,000 was paid in cash and the remaining $115,000 was paid in the form of 43,736 shares of the Company’s common stock with a fair value of $115,000. In addition, $1,150,000 of our 6 ¾% Convertible Subordinated Notes due June 2009 voluntarily converted into 0.6 million shares of common stock at the conversion price of $1.85 per share. In total, $12,250,000 of notes were converted into 6.6 million shares of common stock.

Net cash used in financing activities was $1.0 million for the nine months ended September 30, 2005. Cash used in financing activities in 2005 included debt conversion premium payments of $1.9 million, $0.9 million for repayment of the remaining 5¾% Convertible Subordinated Notes due March 2005 and payments of capital lease obligations of $0.9 million. In addition, we received proceeds of $2.4 million from the exercise of 2.2 million warrant shares to purchase our common stock during the nine months ended September 30, 2005. Cash provided by financing activities in the nine months ended September 30, 2004 included $30.5 million in net proceeds from the sale of common stock in a private equity placement, an additional $3.8 million resulting from the prepayment of all $25.2 million of 11½% Secured Convertible Notes due January 2005 and the issuance of $29.0 million of new 8% Secured Convertible Notes due June 2007. Transaction costs associated with the debt refinancing were $2.0 million and capital lease payments were $1.9 million and we repaid $2.3 million in bank borrowings. In addition, we received proceeds from warrant exercises of $1.1 million in 2004.

We had no borrowings under our $15.0 million bank line of credit at September 30, 2005 or December 31, 2004. We had issued outstanding letters of credit of $2.3 million and $3.0 million at September 30, 2005 and December 31, 2004, respectively.

In October 2005, the Company announced a program to repurchase up to $5.0 million of its common stock. The stock repurchases under this program may be made over the next year through open market and privately negotiated transactions at times and in such amounts as the Company’s management deems appropriate. The stock repurchase program may be limited or terminated at any point in time. As of November 10, 2005, the Company had repurchased 52,900 shares of its common stock at a total cost of approximately $97,000.

Off-Balance Sheet Arrangements

Under accounting principles generally accepted in the U.S., certain obligations and commitments are not required to be included in the consolidated balance sheets and statements of operations. These obligations and commitments, while entered into in the normal course of business, may have a material impact on liquidity. We do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As such, we are not exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships.

Contractual Obligations

The following table summarizes our future contractual obligations as of September 30, 2005:

	Payment Due Dates
	Total		Less than 1 Year		1 to 2 Years		2 to 3 Years		3 to 5 Years		After 5 Years
	(In thousands)
Capital lease obligations	$	3,367	$	1,370	$	1,310	$	687	$	—	$	—
Operating leases	9,571		2,759		2,091		1,939		2,494		288
Total	$	12,938	$	4,129	$	3,401	$	2,626	$	2,494	$	288

Future Accounting Pronouncements

In April 2005, the Securities and Exchange Commission announced a new rule that amends the compliance date for adoption of Statement of Financial Accounting Standards No. 123R, Share-Based Payment (“SFAS No. 123R”). The new rule extends the required adoption of SFAS No. 123R for companies with calendar fiscal years to the first quarter of 2006. SFAS No. 123R focuses primarily on accounting for transactions in which an entity obtains employee services in share-based payment transactions. The Statement requires entities to recognize stock compensation expense for awards of equity instruments to employees based on the grant-date fair value of those awards (with limited exceptions).

We expect to adopt SFAS No. 123R using the Statement’s modified prospective application method. Adoption of SFAS No. 123R is expected to increase our stock compensation expense. We are currently in the process of evaluating the impact and implementation of SFAS No. 123R.

In May 2005, The FASB issued SFAS No. 154, Accounting Changes and Error Corrections – a replacement of APB Opinion No. 20 and FASB Statement No. 3. The statement defines accounting changes as a change in accounting principle, a change in accounting estimate or a change in the reporting entity. The statement applies to all voluntary changes in accounting principle and requires retrospective application to prior periods’ financial statements of changes in accounting principle unless it is impracticable to determine either the specific period or the effect of the cumulative change. Retrospective application of an accounting principle is defined as applying the principle to the prior accounting periods as if the accounting principle had always been used. Changes in accounting estimate are to be applied beginning in the period for which the change in estimate has occurred. The statement is effective for us beginning January 1, 2006.

Factors That May Affect Future Results and Financial Condition

RISK FACTORS

Any investment in our securities involves a high degree of risk. You should carefully consider the risks described below, which we believe are all the material risks to our business, together with the information contained elsewhere in this report, before you make a decision to invest in our company.

Risks Related to Our Company

A failure to obtain necessary additional capital in the future could jeopardize our operations.

We may need additional capital in the future to fund our operations, finance investments in equipment and corporate infrastructure, expand our network, increase the range of services we offer and respond to competitive pressures and perceived opportunities. We have had a history of negative cash flows from operations. Although we generated $8.1 million in cash flow from operations in the nine months ended September 30, 2005, our negative cash flow from operations was $7.2 million and $3.2 million in the years ended December 31, 2004 and 2003, respectively. Cash flow from operations and cash on hand may not be sufficient to cover our operating expenses, working capital, and capital investment needs. We may not be able to obtain additional financing on terms acceptable to us, if at all. If we raise additional funds by selling equity securities, the relative equity ownership of our existing investors could be diluted or the new investors could obtain terms more favorable than previous investors. A failure to obtain additional funding could prevent us from making expenditures that are needed to allow us to grow or maintain our operations.

Our financial condition, and the restrictive covenants contained in our credit facility may limit our ability to borrow additional funds or raise additional equity as may be required to fund our future operations.

We had a net loss of $2.3 million in the nine months ended September 30, 2005 and we incurred significant losses from continuing operations of $19.4 million and $10.9 million for the years ended December 31, 2004 and 2003, respectively. Moreover, the terms of our $15 million revolving credit facility and our debt exchange may limit our ability to, among other things:

• incur additional debt;

• pay cash dividends, redeem, retire or repurchase our stock or change our capital structure;

• acquire assets or businesses or make investments in other entities;

• enter into certain transactions with affiliates;

• merge or consolidate with other entities;

• sell or otherwise dispose of assets or use the proceeds from any asset sale or other disposition;

• create additional liens on our assets; or

• issue certain types of redeemable preferred stock.

Our available cash, cash equivalents and short-term marketable investments and the borrowing capacity under our credit facility may not be sufficient to fund our operating and capital expenditure requirements in the foreseeable future. Additionally, events such as our inability to maintain profitable operations, could adversely affect our liquidity and our ability to attract additional funding as required.

Investor interest in our Common Stock may be negatively affected by our continued trading on the Over-the-Counter Bulletin Board.

Since receiving a determination from the Nasdaq National Market on November 13, 2002 that shares of our common stock would no longer trade on the Nasdaq National Market because we failed to meet certain minimum listing requirements, our common stock began trading on the NASD-operated Over-the-Counter Bulletin Board. The Over-the-Counter Bulletin Board market is generally considered to be less efficient and not as liquid as the Nasdaq National Market (now known as the Nasdaq Stock Market). Trading in this market may decrease the market value and liquidity of our common stock, which could materially and adversely affect our ability to attract additional investment to finance our operations.

We have also learned that our common stock may be trading on the Berlin, Germany stock exchange, which we have not authorized. Such exchange has been rumored to allow “naked” short selling of stock, or otherwise not comply with exchange requirements that are customary in the U.S., and could thereby be detrimental to the value of our stock and our ability to attract investors.

Provisions of our governing documents and Delaware law could also discourage acquisition proposals or delay a change in control.

Our certificate of incorporation and by-laws contain anti-takeover provisions, including those listed below, that could make it more difficult for a third party to acquire control of our company, even if that change in control would be beneficial to stockholders:

• our board of directors has the authority to issue Common Stock and preferred stock, and to determine the price, rights and preferences of any new series of preferred stock, without stockholder approval;

• our board of directors is divided into three classes, each serving three-year terms;

• a supermajority of votes of our stockholders is required to amend key provisions of our certificate of incorporation and by-laws;

• our bylaws contain provisions limiting who can call special meetings of stockholders;

• our stockholders may not take action by written consent; and

• our stockholders must provide specified advance notice to nominate directors or submit stockholder proposals.

In addition, provisions of Delaware law and our stock option plan may also discourage, delay or prevent a change of control of our company or unsolicited acquisition proposals.

International governmental regulation and legal uncertainties and other laws could limit our ability to provide our services, make them more expensive, or subject us or our employees to legal or criminal liability.

Many countries currently prohibit or limit competition in the provision of traditional voice telephony services. In some of those countries, licensed telephony carriers as well as government regulators and law enforcement authorities have questioned our legal authority and/or the legal authority of our service partners or affiliated entities and employees to offer our services. We may face similar questions in additional countries. Our failure to qualify as a properly licensed service provider, or to comply with other foreign laws and regulations, could materially adversely affect our business, financial condition and results of operations, including subjecting us or our employees to taxes and criminal or other penalties and/or by precluding us from, or limiting us in, enforcing contracts in such jurisdictions.

It is also possible that countries may apply to our activities laws otherwise relating to services provided over the Internet, including laws governing:

• sales and other taxes, including payroll-withholding applications;

• user privacy;

• pricing controls and termination costs;

• characteristics and quality of products and services;

• qualification to do business;

• consumer protection;

• cross-border commerce, including laws that would impose tariffs, duties and other import restrictions;

• copyright, trademark and patent infringement; and

• claims based on the nature and content of Internet materials, including defamation, negligence and the failure to meet necessary obligations.

If foreign governments or other bodies begin to impose related restrictions on VoIP or our other services or otherwise enforce criminal or other laws against us, our affiliates or employees, such actions could have a material adverse effect on our operations.

The telecommunications industry is subject to domestic governmental regulation and legal uncertainties and other laws that could materially increase our costs and prevent us from executing our business plan.

We are not licensed to offer traditional telecommunications services in any U.S. state and we have not filed tariffs for any service at the Federal Communications Commission (FCC) or at any state regulatory commission.

Aspects of our operations may currently be, or become, subject to state or federal regulations governing licensing, universal service funding, access charges, advertising, disclosure of confidential communications or other information, excise taxes, transactions restricted by U.S. embargo and other reporting or compliance requirements.

While the FCC to date has maintained an informal policy that information service providers, including VoIP providers, are not telecommunications carriers for regulatory purposes, various entities have challenged this idea before the FCC and at various state government agencies. In 2004, the FCC ruled against AT&T, finding that certain traffic AT&T carried in part utilizing an Internet protocol format was nonetheless regulated telecommunications for which terminating access charges were due. The FCC has also found that AT&T’s prepaid calling cards, which AT&T had claimed as an enhanced, non-regulated offering, constituted traditional telecommunications for which universal service subsidies are due. In so doing, the FCC imposed such liability retroactively, and ruled that similarly situated carriers must also fulfill reporting and contribution requirements for universal service funding. The FCC is proceeding over several related Notices of Proposed Rulemakings or other petitions, on regulation of prepaid calling cards and the extent that Internet protocol capabilities insulate such offerings from traditional regulation, the extent to which wholesale and other VoIP offerings may be subject to access charges, and a proceeding covering IP-enabled services more generally. Adverse rulings or rulemakings could subject us to licensing requirements and additional fees and subsidies.

We believe that iBasis qualifies for the enhanced service provider (“ESP”) exemption for federal universal service fund contributions because it provides a VoIP information service. We have, nevertheless, while reserving rights to claim the ESP exemption, decided to contribute to the federal universal service fund as of January 1, 2005 on our interstate VoIP transport revenues.

The IRS and the U.S. Department of Treasury have issued a notice of proposed rulemaking suggesting that VoIP calls may be subject to a 3% federal excise tax which could effect our competitiveness.

We have offered our prepaid international calling card services on a wholesale basis to international carrier customers, and others, some of which provide these services to end-user customers, enabling them to call internationally over The iBasis Network from the U.S. We have participated in the selling and marketing of such cards on a retail basis. Further, we have also entered the retail market with a web-based prepaid card offering. Although the calling cards are not primarily used for domestic interstate or intrastate use, we have not blocked the ability to place such calls or required our wholesale customers or distributors to show evidence of their compliance with U.S. and state regulations. As a result, there may be domestic use of the cards. Because we provide services that are primarily wholesale and/or international and utilize VoIP technology, we do not believe that we are subject to federal or state telecommunications regulation for the possible uses of these services described here and, accordingly, we have not obtained state licenses, filed state or federal tariffs, posted bonds, or undertaken other possible compliance steps. We have also been questioned by regulators about our offerings. Under current standards or as-yet undetermined rules, the FCC and state regulatory authorities may not agree with our position. If they do not, we could become subject to regulation at the federal and state level for these services, and could become subject to licensing and bonding requirements, and federal and state fees and taxes, and other laws, all of which could materially affect our business.

We are also subject to federal and state laws and regulations regarding consumer protection, advertising, and disclosure regulations. These rules could substantially increase the cost of doing business domestically and in any particular state. Law enforcement authorities may utilize their powers under consumer protection laws against us in the event we do not meet legal requirements in that jurisdiction which could either increase costs or prevent us from doing business there.

The Telecommunications Act of 1996 requires that payphone service providers be compensated for all completed calls originating from payphones in the United States. When calling cards are used, the FCC’s prior rules required the first switch-based carrier to compensate the payphone service provider, but newly adopted rules require the last switched-based carrier to do so, and further require that all carriers in the call chain implement a call-tracking system, utilize it to identify such calls, provide an independent audit of the adequacy of such system, and provide a report on these matters to the FCC and others in the call chain. We maintain that as an international VoIP provider, we sell an information service. We therefore claim that we are not a “carrier” for regulatory purposes and, in any case, our Internet-based systems do not rely on traditional long distance switches.

Nonetheless, we have indirectly paid, and intend to continue paying, payphone service providers as part of our prepaid calling card business. To date, we have reimbursed certain of our toll-free access vendors - facilities-based long distance carriers from which we have received payphone calls that could be construed to be compensable under the payphone compensation rules - who have indeed paid payphone compensation for such calls. We have contracted with a clearinghouse to remit funds directly to payphone service providers for calls originating from payphones utilizing our prepaid calling cards. For all other types of traffic related to our

wholesale business, we believe that we are not responsible for payphone compensation, but rather that the carrier that precedes us is. In accordance therewith, for wholesale traffic, we seeking to apportion such responsibility by contract.

We are subject to other laws related to our business dealings that are not specifically related to telecommunications regulation. As an example, the Office of Foreign Asset Control of the U.S. Department of the Treasury, or OFAC, administers the United States’ sanctions against certain countries. OFAC rules restrict many business transactions with such countries and, in some cases, require that licenses be obtained for such transactions. We may currently, or in the future, transmit telecommunications between the U.S. and countries subject to U.S. sanctions regulations and undertake other transactions related to those services. We have undertaken such activities via our network or through various reciprocal traffic exchange agreements to which we are a party. We have received licenses from OFAC to send traffic to some countries and, if necessary, will remain in contact with OFAC with regard to other transactions. Failure to obtain proper authority could expose us to legal and criminal liability.

Risks Related to Our Operations

Our results of operations may fluctuate and the market price of our Common Stock may fall.

Our revenue and results of operations have fluctuated and will continue to fluctuate significantly from quarter to quarter in the future due to a number of factors, some of which are not in our control, including, among others:

• the amount of traffic we are able to sell to our customers, and their decisions on whether to route traffic over our network;

• increased competitive pricing pressure in the international long distance market;

• the percentage of traffic that we are able to carry over the Internet rather than over the more costly traditional public-switched telephone network;

• loss of arbitrage opportunities resulting from declines in international settlement rates or tariffs;

• our ability to negotiate lower termination fees charged by our local providers if our pricing deteriorates;

• our continuing ability to negotiate competitive costs to interconnect our network with those of other carriers and Internet backbone providers;

• fraudulently sent or received traffic which is unbillable, or which we may be liable;

• credit card fraud in connection with our web-based prepaid offering;

• capital expenditures required to expand or upgrade our network;

• changes in call volume among the countries to which we complete calls;

• the portion of our total traffic that we carry over more attractive routes could fall, independent of route-specific price, cost or volume changes;

• technical difficulties or failures of our network systems or third party delays in expansion or provisioning system components;

• our ability to manage distribution arrangements and provision of retail offerings, including card printing, marketing, usage tracking, web-based offerings and customer service requirements, and resolution of associated disputes;

• our ability to manage our traffic on a constant basis so that routes are profitable;

• our ability to collect from our customers; and

• currency fluctuations and restrictions in countries where we operate.

Because of these factors, you should not rely on quarter-to-quarter comparisons of our results of operations as an indication of our future performance. It is possible that, in future periods, our results of operations will be significantly lower than the estimates of public market analysts, investors or our own estimates. Such a discrepancy could cause the price of our common stock to decline significantly and adversely affect profitability.

We may never generate sufficient revenue and gross margin to become profitable if telecommunications carriers and other communications service providers or others are reluctant to use our services or do not use our services, including any new services, in sufficient volume.

If the market for VoIP telephony and new services does not develop as we expect, or develops more slowly than expected, our business, financial condition and results of operations will be materially and adversely affected.

Our customers may be reluctant to use our VoIP services for a number of reasons, including:

• perceptions that the quality of voice transmitted over the Internet is low;

• perceptions that VoIP is unreliable;

• our inability to deliver traffic over the Internet with significant cost advantages;

• development of their own capacity on routes served by us; and

• an increase in termination costs of international calls.

The growth of our core business depends on carriers and other communications service providers generating an increased volume of international voice and fax traffic and selecting our network to carry at least some of this traffic. Similarly, the growth of any retail services we offer depends on these factors as well as acceptance in the market of the brands that we service, including their respective rates, terms and conditions. If the volume of international voice and fax traffic and associated or other retail services fail to increase, or decrease, and these parties or other customers do not employ our network or otherwise use our services, our profitability will be materially and adversely affected.

We may not be able to collect amounts due to us from our customers and we may have to disgorge amounts already paid.

Some of our customers have closed their businesses or filed for bankruptcy owing us significant amounts for services we have provided to them in the past. Despite our efforts to collect these overdue funds, we may never be paid. The bankruptcy court may require us to continue to provide services to these companies during their reorganizations. Other customers may discontinue their use of our services at any time and without notice, or delay payments that are owed to us. Additionally, we may have difficulty in collecting amounts from them. Although we have internal credit risk policies to identify companies with poor credit histories, we may not effectively manage these policies and may provide services to companies that refuse to pay. The risk is even greater in foreign countries, where the legal and collection systems available may not be adequate or impartial for us to enforce the payment provisions of our contracts. Our cash reserves will be reduced and our results of operations will be materially adversely affected if we are unable to collect amounts from our customers.

We have received claims including lawsuits from estates of bankrupt companies alleging that we received preferential payments prior to bankruptcy filing. We may be required to return amounts received from bankrupt estates. We intend to employ all available defenses in contesting such claims or, in the alternative settle such claims. The results of any suit or settlement may have a material adverse affect on our business.

We may increase costs and risks in our business to the extent we rely on third parties.

Vendors. We rely upon third-party vendors to provide us with the equipment, software, circuits, and other facilities that we use to provide our services. For example, we purchase a substantial portion of our VoIP equipment from Cisco Systems. We may be forced to try to renegotiate terms with vendors for products or services that have become obsolete. Some vendors may be unwilling to renegotiate such contracts, which could affect our ability to continue to provide services and consequently render us unable to generate sufficient revenues for our business.

Parties that Maintain Phone and Data Lines and Other Telecommunications Services. Our business model depends on the availability of the Internet and traditional telephone networks to transmit voice and fax calls. Third parties maintain and own these networks, other components that comprise the Internet, and business relationships that allow telephone calls to be terminated over the public switched telephone network. Some of these third parties are telephone companies. They may increase their charges for using these lines at any time and thereby increase our expenses. They may also fail to maintain their lines properly, fail to maintain the ability to terminate calls, or otherwise disrupt our ability to provide service to our customers. Any such failure that leads to a material disruption of our ability to complete calls or provide other services could discourage our customers from using our network, which could adversely effect our profitability.

Local Communications Service Providers. We maintain relationships with local communications service providers in many countries, some of whom own the equipment that translates calls from traditional voice networks to the Internet, and vice versa. We rely upon these third parties both to provide lines over which we complete calls and to increase their capacity when necessary as the volume of our traffic increases. There is a risk that these third parties may be slow, or fail, to provide lines, which would affect our ability to complete calls to those destinations. We may not be able to continue our relationships with these local service providers on acceptable terms, if at all. Because we rely upon entering into relationships with local service providers to expand into additional countries, we may not be able to increase the number of countries to which we provide service. Finally, any technical difficulties that these providers suffer, or difficulties in their relationships with companies that manage the public switched telephone network, could affect our ability to transmit calls to the countries that those providers help serve.

Strategic Relationships. We depend in part on our strategic relationships to expand our distribution channels and develop and market our services. Strategic relationship partners may choose not to renew existing arrangements on commercially acceptable terms, if at

all. In general, if we lose these key strategic relationships, or if we fail to maintain or develop new relationships in the future, our ability to expand the scope and capacity of our network and services provided, and to maintain state-of-the-art technology, would be materially adversely affected.

Distributors of prepaid calling cards to retail outlets. We make arrangements with distributors to market and sell prepaid calling cards to retail outlets. In some cases, we rely on these distributors to print cards, prepare marketing material, activate accounts, track usage and other data, and remit payments collected from retailers. There is a risk that distributors will not properly perform these responsibilities, comply with legal requirements, or pay us monies when due. We may not have adequate contractual or credit protections against these risks. There is also a risk that we will be ineffective in our efforts to implement new systems, customer care and disclosure policies, and certain technical and business processes. The result of any attendant difficulties may have a material impact on our business.

We may not be able to succeed in the intensely competitive market for our Trading services.

We compete in our Trading business principally on quality of service and price. In recent years, prices for long distance telephone services have been declining as a result of deregulation and increased competition. We face competition from major telecommunications carriers, such as AT&T, British Telecom, Deutsche Telekom, MCI and Qwest, as well as new emerging carriers. We also compete with Internet protocol and other VoIP service providers who route traffic to destinations worldwide. Also, VoIP service providers that presently focus on retail customers may in the future enter the wholesale market and compete with us. If we can not offer competitive prices and quality of service our business could be materially adversely affected.

We may not be able to succeed in the intensely competitive market for prepaid calling services.

The market for prepaid calling services is extremely competitive. Hundreds of providers offer calling card products and services. We have relatively recently begun offering prepaid calling card and related web-based services and have little prior experience in these businesses. If we do not successfully maintain and expand our distribution channel and enter geographic markets in which our rates, fees, surcharges, country services, and our other products and service characteristics can successfully compete, our business could be materially adversely affected.

We are subject to downward pricing pressures and a continuing need to renegotiate overseas rates.

As a result of numerous factors, including increased competition and global deregulation of telecommunications services, prices for international long distance calls have been decreasing. This downward trend of prices to end-users has caused us to lower the prices we charge communications service providers and calling card distributors for call completion on our network. If this downward pricing pressure continues, we may not be able to offer VoIP services at costs lower than, or competitive with, the traditional voice network services with which we compete. Moreover, in order for us to lower our prices, we have to renegotiate rates with our overseas local service providers who complete calls for us. We may not be able to renegotiate these terms favorably enough, or fast enough, to allow us to continue to offer services in a particular country on a cost-effective basis. The continued downward pressure on prices and our failure to renegotiate favorable terms in a particular country could have a material adverse effect on our ability to operate our network and VoIP business profitably.

A variety of risks associated with our international operations could materially adversely affect our business.

Because we provide many of our services internationally, we are subject to additional risks related to operating in foreign countries. In particular, in order to provide services and operate facilities in some countries, we have established subsidiaries or other legal entities or may have forged relationships with service partners or entities set up by our employees. We also rely on our own employees to maintain certain functions of our Internet Central Offices and, in some cases, to deploy and operate our smaller Points of Presence installations. Associated risks include:

• unexpected changes in tariffs, trade barriers and regulatory requirements relating to Internet access or VoIP;

• economic weakness, including inflation, or political instability in particular foreign economies and markets;

• difficulty in collecting accounts receivable;

• tax, consumer protection, telecommunications, and other laws;

• compliance with tax, employment, securities, immigration, labor and other laws for employees living and traveling, or conducting business, abroad, which may subject them or us to criminal or civil penalties;

• foreign taxes including withholding of payroll taxes;

• foreign currency fluctuations, which could result in increased operating expenses and reduced revenues;

• unreliable government power to protect our rights and those of our employees;

• exposure to liability under the Foreign Corrupt Practices Act or similar laws in foreign countries;

• other obligations or restrictions, including, but not limited to, criminal penalties against us or our employees incident to doing business or operating a subsidiary or other entity in another country;

• individual criminal exposure of our employees, some of whom have been sought by law enforcement agencies abroad to answer for the activities of the Company;

• the personal safety of our employees and their families who at times have received threats of, or who may in any case be subject to, violence, and who may not be adequately protected by legal authorities or other means; and

• inadequate insurance coverage to address these risks.

These and other risks associated with our international operations may materially adversely affect our ability to attain or maintain profitable operations.

If we are not able to keep up with rapid technological change in a cost-effective way, the relative quality of our services could suffer.

The technology upon which our services depend is changing rapidly. Significant technological changes could render the hardware and software that we use obsolete, and competitors may begin to offer new services that we are unable to offer. If we are unable to respond successfully to these developments or do not respond in a cost-effective way, we may not be able to offer competitive services and our business results may suffer.

We may not be able to expand and upgrade our network adequately and cost-effectively to accommodate any future growth.

Our VoIP business requires that we handle a large number of international calls simultaneously. As we expand our operations, we expect to handle significantly more calls. If we do not expand and upgrade our hardware and software quickly enough, we will not have sufficient capacity to handle the increased traffic and growth in our operating performance would suffer as a result. Even with such expansion, we may be unable to manage new deployments or utilize them in a cost-effective manner. In addition to lost growth opportunities, any such failure could adversely affect customer confidence in The iBasis Network and could result in us losing business outright.

We may not be able to maintain our routing, reporting, and billing systems and related databases adequately and cost-effectively to accommodate our continuing needs.

Our business requires that we track enormous volumes of data so that we can manage traffic, margin, revenue, and customer accounts. We constantly measure and upgrade our technical capabilities, and develop new tools to address our needs. If we do not maintain these systems or modify them in an appropriate manner, or bill our customers properly, our business will be negatively affected.

We depend on our current personnel and may have difficulty attracting and retaining the skilled employees we need to execute our business plan.

Our future success will depend, in large part, on the continued service of our key management and technical personnel. If any of these individuals or others we employ are unable or unwilling to continue in their present positions, our business, financial condition and results of operations could suffer. We do not carry key person life insurance on our personnel.

We will need to retain skilled personnel to execute our plans.

Our future success will also depend on our ability to attract, retain and motivate highly skilled employees, particularly engineering and technical personnel. Past workforce reductions have resulted in reallocations of employee duties that could result in employee and contractor uncertainty and dissatisfaction. Reductions in our workforce or restrictions on salary increases or payment of bonuses may make it difficult to motivate and retain employees and contractors, which could affect our ability to deliver our services in a timely fashion and otherwise negatively affect our business.

If we are unable to protect our intellectual property, our competitive position would be adversely affected.

We rely on patent, trademark and copyright law, trade secret protection and confidentiality and/or license agreements with our employees, customers, partners and others to protect our intellectual property. Unauthorized third parties may copy our services or reverse engineer or obtain and use information that we regard as proprietary. End-user license provisions protecting against unauthorized use, copying, transfer and disclosure of any licensed program may be unenforceable under the laws of certain jurisdictions and foreign countries. We may seek to patent certain processes or equipment in the future. We do not know if any of our patent applications will be issued with the scope of the claims we seek, if at all. In addition, the laws of some foreign countries do not protect proprietary rights to the same extent as do the laws of the United States. Our means of protecting our proprietary rights in the United States or abroad may not be adequate and third parties may infringe or misappropriate our copyrights, trademarks and similar proprietary rights. If we fail to protect our intellectual property and proprietary rights, our business, financial condition and results of

operations would suffer.

We believe that we do not infringe upon the proprietary rights of any third party. Nonetheless, we have received claims that our products or brands, or those of our retail prepaid calling card distributors, infringe valid patents or trademarks. Such claims, even if resolved in our favor, could be substantial, and the litigation could divert management’s efforts. It is also possible that such claims might be asserted successfully against us in the future. Our ability to provide services depends on our freedom to operate. That is, we must ensure that we do not infringe upon the proprietary rights of others or have licensed all such rights. A party making an infringement claim could secure a substantial monetary award or obtain injunctive relief that could effectively block our ability to provide services in the United States or abroad.

We rely on a variety of technologies, primarily software, which is licensed from third parties.

Continued use of this technology by us requires that we purchase new or additional licenses from third parties. We may not be able to obtain those third-party licenses needed for our business or the third party technology licenses that we do have may not continue to be available to us on commercially reasonable terms or at all. The loss or inability to maintain or obtain upgrades to any of these technology licenses could result in delays or breakdowns in our ability to continue developing and providing our services or to enhance and upgrade our services.

We may undertake strategic acquisitions or dispositions that could damage our business.

We may acquire additional businesses and technologies that complement or augment our existing businesses, services and technologies. We may need to raise additional funds through public or private debt or equity financing to acquire any businesses, which may result in dilution for stockholders and the incurrence of indebtedness. We may not be able to operate acquired businesses profitably or otherwise implement our growth strategy successfully.

If we are unable to effectively integrate any newly acquired business into our overall business operations, our costs may increase and our business results may suffer significantly.

We may need to sell existing assets or businesses in the future to generate cash or focus our efforts in making our core Trading business profitable. As with many companies in the telecommunications sector that experienced rapid growth in recent years, we may need to reach profitability in one market before entering another. In the future, we may need to sell assets to cut costs or generate liquidity.

Risks Related to the Internet and Internet Telephony Industry

If the Internet infrastructure is not adequately maintained, we may be unable to maintain the quality of our services and provide them in a timely and consistent manner.

Our future success will depend upon the maintenance of the Internet infrastructure, including a reliable network backbone with the necessary speed, data capacity and security for providing reliability and timely Internet access and services. To the extent that the Internet continues to experience increased numbers of users, frequency of use or bandwidth requirements, the Internet may become congested and be unable to support the demands placed on it and its performance or reliability may decline thereby impairing our ability to complete calls and provide other services using the Internet at consistently high quality. The Internet has experienced a variety of outages and other delays as a result of failures of portions of its infrastructure or otherwise. Future outages or delays could adversely affect our ability to complete calls and provide other services. Moreover, critical issues concerning the commercial use of the Internet, including security, cost, ease of use and access, intellectual property ownership and other legal liability issues, remain unresolved and could materially and adversely affect both the growth of Internet usage generally and our business in particular. Finally, important opportunities to increase traffic on The iBasis Network will not be realized if the underlying infrastructure of the Internet does not continue to be expanded to more locations worldwide.

Network security breaches could adversely affect our operations.

We currently have practices, policies and procedures in place to ensure the integrity and security of our network. Nevertheless, from time to time we have experienced fraudulent activities whereby perpetrators have disguised themselves as our customers and transmitted traffic to us, or have disguised themselves as us and transmitted traffic to our communications service providers and other service providers for termination. While we have undertaken steps to thwart such fraud, including revamping our securities procedures and capabilities and alerting other members of the industry as well as law enforcement personnel, such actions may not be sufficient and financial exposure and reputational damage from fraudulent activities could materially adversely affect us.

Undetected defects in our technology could adversely affect our operations.

Our technology is complex and is susceptible to errors, defects or performance problems, commonly called “bugs”. Although we

regularly test our software and systems extensively, we can not ensure that our testing will detect every potential bug. Any such bug could materially adversely affect our business.

Our ability to provide our services using the Internet may be adversely affected by computer vandalism.

If the overall performance of the Internet is seriously downgraded by website attacks, failure of service attacks, or other acts of computer vandalism or virus infection, our ability to deliver our communication services over the Internet could be adversely impacted, which could cause us to have to increase the amount of traffic we have to carry over alternative networks, including the more costly public switched telephone network. In addition, traditional business interruption insurance may not cover losses we could incur because of any such disruption of the Internet. While some insurers are beginning to offer products purporting to cover these losses, we do not have any of this insurance at this time.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Our primary market risk exposure is related to interest rates and foreign currency exchange rates. To date, we have not engaged in trading market risk sensitive instruments or purchasing hedging instruments, whether interest rate, foreign currency exchange, commodity price or equity price risk. We have not purchased options or entered into swaps or forward or futures contracts.

Our investments in commercial paper and debt instruments are subject to interest rate risk, but due to the short-term nature of these investments, changes in interest rates would not have a material impact on their value at September 30, 2005. Our primary interest rate risk is the risk on borrowings under our line of credit agreements, which are subject to interest rates based on the bank’s prime rate. A change in the applicable interest rates would also affect the rate at which we could borrow funds or finance equipment purchases. Our capital lease obligations are fixed rate debt. A 10% change in interest rates would not have a material impact on interest expense associated with our line of credit agreement.

Although we conduct our business in various regions of the world, most of our revenues are denominated in U.S. dollars with the remaining being generally denominated in Euros or British Pounds. Thus, we are exposed to foreign currency exchange rate fluctuations as the financial results and balances of our foreign subsidiaries are translated into U.S. dollars. As exchange rates vary, these results, when translated, may vary from expectations and may adversely impact our results of operations and financial condition. Accordingly, if the dollar weakens relative to foreign currencies, particularly the Euro or British Pound, our foreign currency denominated revenues and expenses would increase when stated in U.S. dollars. Conversely, if the dollar strengthens, our foreign currency denominated revenues and expenses would decrease.

Item 4. Controls and Procedures

(a) Evaluation of disclosure controls and procedures.

As of September 30, 2005, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of its disclosure controls and procedures pursuant to Rule 13a – 15(b) promulgated under the Exchange Act. Based upon that evaluation, the Company’s management, including its Chief Executive Officer and its Chief Financial Officer, concluded that the Company’s disclosure controls and procedures are effective in ensuring that material information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, including ensuring that such material information is accumulated and communicated to the Company’s management, including the Company’s Chief Executive Officer and the Company’s Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.

(b) Changes in internal control over financial reporting.

As of September 30, 2005, our management, under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Rule 240.13a-15(e) and 240.15d-15(e) of the Securities Exchange Act of 1934.

During the third quarter, we discovered a deficiency in a prior upgrade of software relating to the reporting of retail prepaid revenue. The deficiency was corrected and did not have an effect on our third quarter financial results.

Part II — Other Information

Item 1 - Legal Proceedings

Please see Note 7 (Contingencies) of our Condensed Notes to Condensed Consolidated Financial Statements contained in this quarterly report on Form 10-Q for a description of legal proceedings.

Item 6 - Exhibits

(A)	Exhibits:

	31.1	Certificate of iBasis, Inc. Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

	31.2	Certificate of iBasis, Inc. Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

	32.1	Certificate of iBasis, Inc. Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

	32.2	Certificate of iBasis, Inc. Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

SIGNATURE

Pursuant to the requirements 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.

	iBasis, Inc.


November 14, 2005	By:	/s/ Richard Tennant
		Richard Tennant
		Vice President and Chief Financial Officer
		(Authorized Officer and
		Principal Accounting Officer)

Positive
Negative
Uncertain
Constraining
Legalese
Litigous
Readability	H.S. freshman Good

Ibasis Inactive 10-Q2005 Q3 Quarterly report

Content analysis

Washington, D.C. 20549

FORM 10-Q

(Mark one)

For the quarterly period ended September 30, 2005

OR

For the transition period from to

Commission file number: 000-27127

iBASIS, INC.
Index

Condensed Consolidated Balance Sheets

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

Critical Accounting Policies and Estimates

Contractual Obligations

RISK FACTORS

Risks Related to Our Company

Risks Related to Our Operations

Risks Related to the Internet and Internet Telephony Industry

Item 4. Controls and Procedures

Part II — Other Information

Item 1 - Legal Proceedings

Please see Note 7 (Contingencies) of our Condensed Notes to Condensed Consolidated Financial Statements contained in this quarterly report on Form 10-Q for a description of legal proceedings.

SIGNATURE

Ibasis Inactive 10-Q2005 Q3 Quarterly report

Content analysis

Washington, D.C. 20549

FORM 10-Q

(Mark one)

For the quarterly period ended September 30, 2005

OR

For the transition period from to

Commission file number: 000-27127

iBASIS, INC.Index

Condensed Consolidated Balance Sheets

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

Critical Accounting Policies and Estimates

Contractual Obligations

RISK FACTORS

Risks Related to Our Company

Risks Related to Our Operations

Risks Related to the Internet and Internet Telephony Industry

Item 4. Controls and Procedures

Part II — Other Information

Item 1 - Legal Proceedings

Please see Note 7 (Contingencies) of our Condensed Notes to Condensed Consolidated Financial Statements contained in this quarterly report on Form 10-Q for a description of legal proceedings.

SIGNATURE

iBASIS, INC.
Index