DSP (DSPG) 10-Q 2002 Q1 Quarterly report

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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 March 31, 2002

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 0-23006

DSP GROUP, INC.
(Exact name of registrant as specified in its charter)

Delaware	94-2683643
(State or other jurisdiction of incorporation or organization)	(I.R.S. employer identification number)
3120 Scott Boulevard, Santa Clara, California	95054
(Address of Principal Executive Offices)	(Zip Code)

Registrant's telephone number, including area code:(408) 986-4300

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

As of May 1, 2002, there were 27,024,308 shares of Common Stock ($.001 par value per share) outstanding.

INDEX

DSP GROUP, INC.

		Page No.
PART I.    FINANCIAL INFORMATION
Item 1.	Financial Statements (Unaudited)
	Condensed consolidated balance sheets— March 31, 2002 and December 31, 2001	3
	Condensed consolidated statements of income— Three months ended March 31, 2002 and 2001	4
	Condensed consolidated statements of cash flows— Three months ended March 31, 2002 and 2001	5
	Condensed consolidated statements of stockholders' equity— Three months ended March 31, 2002 and 2001	6
	Notes to condensed consolidated financial statements— March 31, 2002	7
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	13
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	21
PART II.    OTHER INFORMATION
Item 1.	Legal Proceedings	22
Item 2.	Changes in Securities and Use of Proceeds	22
Item 3.	Defaults upon Senior Securities	22
Item 4.	Submission of Matters to a Vote of Security Holders	22
Item 5.	Other Information	22
Item 6.	Exhibits and Reports on Form 8-K	22
SIGNATURES		23

PART 1.    FINANCIAL INFORMATION

ITEM 1.    FINANCIAL STATEMENTS

DSP GROUP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(US dollars in thousands)

		March 31, 2002			December 31, 2001
		(Unaudited)			(Audited)
Assets
Current assets:
	Cash and cash equivalents	$	28,307		$	39,146
	Marketable securities and short term bank deposits		68,274			70,893
	Trade receivables, net		17,779			14,430
	Deferred income taxes		2,338			2,338
	Other accounts receivable and prepaid expenses		1,097			1,866
	Inventories		2,549			2,098
Total current assets			120,344			130,771
Property and equipment, at cost:			23,889			23,508
	Less accumulated depreciation and amortization		(16,801	)		(15,919	)
			7,088			7,589
Long term assets:
	Long term marketable securities		154,493			139,752
	Other investments		17,580			25,536
	Other assets, net		6,484			6,419
	Severance pay fund		2,413			2,312
Total long term assets			180,970			174,019
Total assets		$	308,402		$	312,379
Liabilities and stockholders' equity
	Current liabilities:
	Trade payables	$	9,190		$	5,830
	Other current liabilities		16,328			17,613
Total current liabilities			25,518			23,443
Long term liabilities
	Accrued severance pay		2,444			2,418
	Deferred income taxes		3,835			7,541
Commitments and contingencies
Stockholders' equity:
	Common stock		27			27
	Additional paid-in capital		155,969			155,969
	Treasury stock		(5,962	)		(8,623	)
	Accumulated other comprehensive income (loss)		(3,685	)		2,652
	Retained earnings		130,256			128,952
Total stockholders' equity			276,605			278,977
Total liabilities and stockholders' equity		$	308,402		$	312,379

Note: The balance sheet at December 31, 2001 has been derived from the audited financial statements at that date.

See notes to condensed consolidated financial statements.

3

DSP GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(US dollars in thousands, except per share amounts)

		Three Months Ended March 31,
		2002			2001
Revenues:
	Product sales	$	20,585		$	18,048
	Software licensing, royalties and other		4,637			6,126
Total revenues			25,222			24,174
Cost of revenues:
	Product sales		12,459			9,683
	Software licensing, royalties and other		464			324
Total cost of revenues			12,923			10,007
Gross profit			12,299			14,167
Operating expenses:
	Research and development, net		6,554			6,272
	Sales and marketing		2,639			2,735
	General and administrative		1,623			1,696
	Aborted offering expenses and other		865			—
Total operating expenses			11,681			10,703
Operating income			618			3,464
Financial and other income (expense):
	Interest and other income		2,682			3,467
	Interest and other expense		(55	)		(84	)
	Equity in earnings of affiliates		—			105
	Minority interest in losses of subsidiary		—			173
Income before taxes on income			3,245			7,125
Taxes on income			(555	)		(1,463	)
Net income		$	2,690		$	5,662
Net earnings per share:
	Basic	$	0.10		$	0.21
	Diluted	$	0.10		$	0.21
Shares used in per share computations:
	Basic		26,951			26,415
	Diluted		28,059			27,438

See notes to condensed consolidated financial statements.

4

DSP GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(US dollars in thousands)

		Three Months Ended March 31,
		2002			2001
Net cash provided by operating activities		$	2,364		$	4,205
Investing activities
	Purchase of held to maturity marketable securities and bank deposits		(29,990	)		(17,409	)
	Proceeds from sales and maturity of held to maturity marketable securities and bank deposits		17,893			50,423
	Purchases of property and equipment		(381	)		(1,389	)
	Proceeds from sale of property and equipment		—			97
	Investment in available for sale marketable securities		(2,000	)		—
Net cash provided by (used in) investing activities			(14,478	)		31,722
Financial activities
Issuance of Common Stock for cash upon exercise of options and employee stock purchase plan			1,275			1,192
Net cash provided by financing activities			1,275			1,192
Increase (decrease) in cash and cash equivalents		$	(10,839	)	$	37,119
	Non-cash investing and financing information:
	Acquisition of VoicePump shares in exchange of issuance of Common Stock	$	—		$	3,651

See notes to condensed consolidated financial statements.

5

DSP GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(UNAUDITED)
(US dollars in thousands)

Three Months Ended March 31, 2002	Number of Common Shares	Common Stock		Additional Paid-In Capital		Treasury Stock			Retained Earnings			Other Comprehensive Income (Loss)			Total Stockholders' Equity
Balance at December 31, 2001	26,873	$	27	$	155,969	$	(8,623	)	$	128,952		$	2,652		$	278,977
Net income	—		—		—		—			2,690			—			2,690
Unrealized loss on available for sale marketable securities, net	—		—		—		—			—			(6,152	)		(6,152	)
Unrealized loss from hedging activities	—		—		—		—			—			(185	)		(185	)
Total comprehensive income	—		—		—		—			—			(6,337	)		(3,647	)
Issuance of Treasury Stock upon exercise of stock options	87		—		—		586			(157	)		—			429
Issuance of Treasury Stock upon purchase of ESPP shares	25		—		—		2,075			(1,229	)		—			846
Balance at March 31, 2002	26,985	$	27	$	155,969	$	(5,962	)	$	130,256		$	(3,685	)	$	276,605
Three Months Ended March 31, 2001
Balance at December 31, 2000	26,248	$	27	$	151,787	$	(19,940	)	$	114,291		$	—		$	246,165
Net income	—		—		—		—			5,662			—			5,662
Unrealized loss on available for sale marketable securities	—		—		—		—			—			(62	)		(62	)
Unrealized loss from hedging activities	—		—		—		—			—			(20	)		(20	)
Total comprehensive income	—		—		—		—			—			(82	)		5,580
Issue of Common Stock in acquisition of VoicePump	161		—		3,651		—			—			—			3,651
Issuance of Treasury Stock upon exercise of stock options	82		—		—		1,980			(1,169	)		—			811
Issuance of Treasury Stock upon purchase of ESPP shares	29		—		—		702			(321	)		—			381
Balance at March 31, 2001	26,520	$	27	$	155,438	$	(17,258	)	$	118,463		$	(82	)	$	256,588

See notes to condensed consolidated financial statements.

6

DSP GROUP, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2002
(UNAUDITED)

NOTE A—BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three months ended March 31, 2002, are not necessarily indicative of the results that may be expected for the year ended December 31, 2002. For further information, reference is made to the consolidated financial statements and footnotes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2001.

VoicePump, Inc.: VoicePump, Inc. ("VoicePump") is a U.S. corporation primarily engaged in the design, research, development and marketing of software applications for Voice over DSL (VoDSL) and Voice over Internet Protocol (VoIP). In March 2000, the Company acquired (1) approximately 1,960,250 shares of Common Stock of VoicePump from certain shareholders in exchange for approximately 261,000 shares of its Common Stock and a nominal amount of cash (to pay for fractional shares) and (2) approximately 1,027,397 shares of VoicePump common stock directly from VoicePump together with warrants to purchase up to 1,027,397 shares of VoicePump Common Stock at an exercise price of $4.866 per share within two years (of the issuance of the warrant) and up to 1,027,397 additional shares at an exercise price of $4.866 per share within three years (of the issuance of the warrant) for $5,000,000. In March 2001, the Company exercised its option and acquired the remaining shares of VoicePump (1,210,750 shares), in exchange for 161,433 shares of the Company's Common Stock, as provided in the original stock purchase agreement, executed on March 22, 2000. As a result of the purchase of the remaining equity, VoicePump became a wholly-owned subsidiary of the Company and part of the Company's U.S.-based broadband products, and has continued to focus on the development of its VP100 family of products. The Company's current investment in VoicePump included the excess of its purchase price over the net assets acquired (approximately $5,804,000 as of December 31, 2001), which was attributed to goodwill (the goodwill was amortized until December 31, 2001- for more information about goodwill amortization, see Note J- Change in Accounting for Goodwill and Certain Other Intangibles), and recorded in "Other assets, net" on the consolidated balance sheets.

The condensed consolidated statements of income for the three months ended March 31, 2001 include the minority interest in our equity investment in VoicePump in the amount of $173,000.

NOTE B—INVENTORIES

Inventories are stated at the lower of cost or market value. Cost is determined using the average cost method. The Company periodically evaluates the quantities on hand relative to current and historical selling prices and historical and projected sales volume. Based on these evaluations, provisions are

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made in each period to write inventory down to its net realizable value. Inventories are composed of the following (in thousands):

	March 31, 2002		December 31, 2001
Work-in-process	$	1,582	$	853
Finished goods		967		1,245
	$	2,549	$	2,098

NOTE C—NET EARNINGS PER SHARE

Basic net earnings per share is computed based on the weighted average number of shares of common stock outstanding during the period. For the same periods, diluted net earnings per share further includes the effect of dilutive stock options outstanding during the period, all in accordance with SFAS No. 128, "Earnings per Share". The following table sets forth the computation of basic and diluted net earnings per share (in thousands, except per share amounts):

		Three Months Ended March 31,
		2002		2001
Numerator:
	Net Income	$	2,690	$	5,662
Denominator:
Weighted average number of shares of common stock outstanding during the period used to compute basic earning per share			26,951		26,415
Incremental shares attributable to exercise of outstanding options (assuming proceeds would be used to purchase treasury stock)			1,108		1,023
Weighted average number of shares of common stock used to compute diluted earnings per share			28,059		27,438
Basic net earnings per share		$	0.10	$	0.21
Diluted net earnings per share		$	0.10	$	0.21

NOTE D—INVESTMENTS

The following is a summary of the held-to-maturity securities and short term bank deposits (in thousands):

	Amortized Cost				Unrealized Gains (Losses)						Estimated Fair Value
	March 31 2002		December 31 2001		March 31 2002			December 31 2001			March 31 2002		December 31 2001
Obligations of states and political subdivisions	$	73,443	$	63,190	$	(876	)	$	(205	)	$	72,567	$	62,985
Corporate obligations		149,324		147,455		405			1,712			149,729		149,167
	$	222,767	$	210,645	$	(471	)	$	1,507		$	222,296	$	212,152

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The amortized cost of held-to-maturity debt and securities at March 31, 2002, by contractual maturities, are shown below (in thousands):

	Amortized Cost		Estimated Fair Value
Due in one year or less	$	68,274	$	69,073
Due after one year		154,493		153,223
	$	222,767	$	222,296

NOTE E—INCOME TAXES

The effective tax rate used in computing the provision for income taxes is based on projected fiscal year income before taxes, including estimated income by tax jurisdiction. The difference between the effective tax rate and the statutory rate is due primarily to foreign tax holiday and tax exempt income in Israel.

NOTE F—SIGNIFICANT CUSTOMERS

Product sales to one distributor accounted for 59% and 49% of total revenues for the three months ended March 31, 2002 and 2001, respectively. The loss of one or more major distributors or customers could have a material adverse effect on the Company's business, financial condition and results of operations.

NOTE G—OTHER INVESTMENTS

Other investments are comprised of:

AudioCodes, Ltd.:    AudioCodes, Ltd. ("AudioCodes") is an Israeli corporation primarily engaged in design, research, development, manufacturing and marketing of hardware and software products that enable simultaneous transmission of voice and data over networks such as the Internet, ATM and Frame Relay.

The Company currently owns approximately 4.5 million of AudioCodes shares, which represents approximately 11% of its outstanding shares. Since April 1, 2001, the Company has ceased to have a representative on the AudioCodes' Board of Directors, and was not involved in any way in AudioCodes' policy making processes. Therefore, since April 1, 2001, the Company has not had a significant influence over the operating and financial policies of AudioCodes and thus stopped accounting for this investment under the equity method of accounting. As of April 1, 2001, the carrying amount of the Company's investment in AudioCodes, under the equity method of accounting, amounted to $20.5 million. As of April 1, 2001, the Company's investment in AudioCodes was reclassified as available-for-sale marketable securities in accordance with SFAS 115 "Accounting for Certain Investments in Debt and Equity Securities". Securities available for sale are carried at fair value, with any unrealized gains and losses, net of income taxes, reported as a separate component of stockholders' equity—"Accumulated other comprehensive income". As of March 31, 2002, the fair market value of the Company's investment in AudioCodes was approximately $15.1 million. The Company's consolidated balance sheets as of March 31, 2002 include unrealized loss on available-for-sale marketable securities of $5.4 million, net of unrealized tax expenses of $2.0 million, for its investment in AudioCodes. The Company's equity in the net income of AudioCodes was $105,000 in the first quarter of 2001

Tomen Corporation.:    In September 2000, the Company invested approximately $485,000 (50.0 million Yen) in shares of its Japanese distributor's parent company, Tomen Corporation, as part of a long strategic relationship. Tomen's shares are traded on the Japanese stock exchange, and are recorded at

9

fair market value as available-for-sale marketable securities in accordance with SFAS 115 "Accounting for Certain Investments in Debt and Equity Securities".

As of March 31, 2002, and as of March 31, 2001, the fair market value of the Company's investment in Tomen was approximately $344,000 and $423,000, respectively.The condensed consolidated balance sheets as of March 31, 2002 and as of March 31, 2001, include unrealized loss on available-for-sale marketable securities of $141,000 and $62,000, respectively.

Tower Semiconductor.:    Tower Semiconductor Ltd. is an independent wafer manufacturer, strategically focused on advanced Flash memory and CMOS Image Sensor technologies. Tower provides manufacturing and turnkey services for integrated circuits (IC) on silicon wafers in geometries from 1.0 to 0.35 micron, using its advanced technological capabilities and the proprietary designs of its customers.

In January, 2002 DSP Group Ltd., an Israeli company and a wholly-owned subsidiary of the Company, invested in common stock of Tower Semiconductor Ltd. for a total consideration of $2,000,000, which was recorded at fair market value as available-for-sale marketable securities in accordance with SFAS 115 "Accounting for Certain Investments in Debt and Equity Securities".

As of March 31, 2002, the fair market value of the Company's investment in Tower was approximately $2,104,000.

The condensed consolidated balance sheets as of March 31, 2002 include unrealized gain on available-for-sale marketable securities of approximately $104,000.

NOTE H—DERIVATIVE INSTRUMENTS

SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities", requires companies to recognize all of its derivative instruments as either assets or liabilities in the statement of financial position at fair value.

For derivative instruments that are designated and qualify as a cash flow hedge (i.e., hedging the exposure to variability in expected future cash flows that is attributable to a particular risk), the effective portion of the gain or loss on the derivative instrument is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. The remaining gain or loss on the derivative instrument in excess of the cumulative change in the present value of future cash flows of the hedged item, if any, is recognized in current earnings during the period of change. For derivative instruments not designated as hedging instruments, the gain or loss is recognized in current earnings during the period of change.

To protect against the increase in value of forecasted foreign currency cash flows resulting from salary payments in New Israeli Shekels (NIS) during the year, the Company has instituted a foreign currency cash flow hedging program. The Company hedges portions of the anticipated payroll of its Israeli subsidiary denominated in NIS for a period of two to ten months with forward contracts.

These forward contracts are designated as cash flow hedges, as defined by SFAS No. 133 and are all effective as hedges of these expenses.

As of March 31, 2002, the Company recorded a comprehensive loss of $216,000 derived from its forward contracts with respect to anticipated payroll payments expected during the next twelve months.

NOTE I—CONTINGENCIES

The Company is involved in certain claims arising in the normal course of business, including claims that it may be infringing patent rights owned by third parties. The Company is unable to foresee the extent to which these matters will be pursued by the claimants or to predict with certainty the eventual

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outcome. However, the Company believes that the ultimate resolution of these matters will not have a material adverse effect on its financial position, results of operations, or cash flows.

NOTE J—CHANGE IN ACCOUNTING FOR GOODWILL AND CERTAIN OTHER INTANGIBLES

Effective July 1, 2001, the Company adopted certain provisions of SFAS No. 141, and effective January 1, 2002, the Company adopted the full provisions of SFAS No. 141 and SFAS No. 142. SFAS No. 141 requires business combinations initiated after June 30, 2001 to be accounted for using the purchase method of accounting, and broadens the criteria for recording intangible assets apart from goodwill. SFAS No. 142 requires that purchased goodwill and certain indefinite-lived intangibles no longer be amortized, but instead be tested for impairment at least annually.

SFAS No. 142 prescribes a two-phase process for impairment testing of goodwill. The first phase, required to be completed by June 30, 2002, screens for impairment; while the second phase (if necessary), required to be completed by December 31, 2002, measures the impairment. The Company completed its first phase of impairment analysis during the current quarter and found no instances of impairment of its recorded goodwill; accordingly, the second testing phase, absent future indicators of impairment, is not necessary during 2002. In accordance with SFAS No. 142, the effect of this accounting change is reflected prospectively. Supplemental comparative disclosure as if the change had been retroactively applied to the prior year period is as follows (in thousands, except per share amounts):

		Three Months Ended March 31,
		2002		2001
Net income:
	Reported net income	$	2,690	$	5,662
	Goodwill amortization		—		189
Adjusted net income		$	2,690	$	5,851
Basic net earning per share:
	Reported net earning per share	$	0.10	$	0.21
	Goodwill amortization		—		0.01
Adjusted basic net earning per share		$	0.10	$	0.22
Diluted net earning per share:
	Reported net earning per share	$	0.10	$	0.21
	Goodwill amortization		—		—
Adjusted diluted net earning per share		$	0.10	$	0.21

NOTE K—ABORTED OFFERING EXPENSE AND OTHER

In the first quarter of 2002, we recorded two unusual expense items amounting to approximately $865,000. An expense of approximately $767,000 was recorded relating to the aborted offering expenses for an initial public offering of our IP cores licensing business, which did not occurred. These expenses were comprised mainly of legal and accounting services rendered in 2001. Additionally, an expense of approximately $98,000 was recorded reflecting the write-off of all of our investment in Messagebay, a private company that develops both turnkey and customized software that enable two way voice, video, and animated messaging for web applications and wireless devices.

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NOTE L—NEW ACCOUNTING PRONOUNCEMENTS

In August 2001, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS No. 144"), which addresses financial accounting and reporting for the impairment or disposal of long-lived assets and superseded SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of". SFAS No. 144 applies to all long-lived assets (including discontinued operations) and consequently amends APB Opinion No. 30, "Reporting the Results of Operations for a Disposal of a Segment of a Business". SFAS No. 144 develops one accounting model for long-lived assets that are to be disposed of by a sale. SFAS No. 144 requires that long-lived assets that are to be disposed of by a sale be measured at the lower of book value or fair value less this cost of sell. SFAS No. 144 is effective for fiscal years beginning after December 15, 2001, with earlier application encouraged. The Company adopted SFAS No. 144 as of January 1, 2002. The Company does not expect that the adoption of SFAS No. 144 will have a significant impact, if any, on the Company's financial position and results of operations.

NOTE M—SUBSEQUENT EVENT

On April 4, 2002, the Company, Ceva, Inc., one of its wholly-owned subsidiaries ("Ceva") and Parthus Technologies plc ("Parthus") entered into a combination agreement (the "Combination Agreement") pursuant to which Parthus and the Company agreed to affect a combination of the DSP cores licensing business of the Company with Parthus, whereby, immediately after the Company contributing its DSP cores licensing business and operations and the related assets and liabilities of such business and operations to Ceva (the "Separation"), Parthus will be acquired by Ceva in exchange for the Common Stock of Ceva (the "Combination"). The new combined company will be called ParthusCeva, Inc. ("ParthusCeva").

Subject to obtaining a ruling from the U.S. Internal Revenue Services that the Separation and distribution of Ceva Common Stock to the Company's stockholders will be a tax-free reorganization and the approval of the Combination by the shareholders of Parthus, the Company will distribute on a pro rata basis 100% of the Ceva Common Stock it holds to its stockholders. Immediately following the Separation and pursuant to the Combination, Ceva will issue its Common Stock to the shareholders of Parthus and Parthus will become a wholly-owned subsidiary of Ceva. As a result of these transactions, the stockholders of the Company will hold shares representing approximately 50.1% of the Common Stock of ParthusCeva and the former shareholders of Parthus will hold shares representing approximately 49.9% of the Common Stock of ParthusCeva.

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ITEM 2.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

RESULTS OF OPERATIONS

Total Revenues.    Our total revenues were $25.2 million in the first quarter of 2002, as compared to $24.2 million in the first quarter of 2001. The slight increase in the first quarter of 2002, as compared to the same period in 2001 was primarily due to our increased revenues from product sales offset by decreased revenues from licensing and royalties. Product sales increased primarily due to strong demand for our 900 MHz and 2.4 GHz Narrowband products, especially in Japan. Our licensing and royalty revenues decreased to $4.6 million for the first quarter of 2002, as compared to $6.1 million for the same period of 2001 due to (i) only one new license contract being included in the sales of the first quarter of 2002, as compared to two new license contracts being included in the sales of the first quarter of 2001, (ii) a decrease in royalty revenues relating to a decrease in the number of units shipped by our licensees and (iii) a lower rate of per unit royalties.

In 2001 and the first quarter of 2002, we witnessed a challenging environment in the telecommunication and semiconductors industries, resulting in longer sales cycles and delays in the purchase decision-making processes of potential customers for our DSP core technology. This resulted in fewer number of new license agreements being executed in 2001 and in the first quarter of 2002, as compared to 2000, and limited business visibility for future license agreements.

Export sales, primarily consisting of Integrated Digital Telephony (IDT) speech processors shipped to manufacturers in Europe and Asia, including Japan, as well as license fees on DSP cores to foreign customers, represented 96% of our total revenues for the three months ended March 31, 2002, as compared to 88% of our total revenues for the three months ended March 31, 2001. The increase in export sales in the first quarter of 2002 as compared to the first quarter of 2001 was primarily due to higher sales to the Japanese market (especially IDT product sales) offset by lower sales to the American market (especially in our licensing activities). All export sales are denominated in U.S. dollars.

Significant Customers.    Revenues from one distributor, Tomen Electronics, accounted for 59% and 49% of our total revenues for the three months ended March 31, 2002 and 2001, respectively. The increase in the first quarter of 2002 as compared to the first quarter of 2001 was primarily due to a higher volume of sales in Japan. The loss of Tomen Electronics or one or more of our other major distributors or customers could harm our business, financial condition and results of operations.

Gross Profit.    Gross profit as a percentage of total revenues decreased to 49% in the first quarter of 2002 from 59% in the first quarter of 2001. The decrease in gross profits was partly due to a decrease in license revenues, which typically generate significantly higher gross profits than product revenues, as a percentage of total revenues. In addition, product gross profits as a percentage of product sales decreased to 39% in the first quarter of 2002 from 46% in the first quarter of 2001, primarily due to lower margins on cordless telephony products, whose share of total revenues increased substantially in the first qurter of 2002, as compared to the first quarter of 2001. We managed to partially offset the continued decline in average selling prices of cordless telephony products with a decrease in manufacturing costs, partially due to technological improvements.

Research and Development Expenses.    Our research and development expenses increased to $6.6 million in the first quarter of 2002 from $6.3 million in the first quarter of 2001. The slight increase was primarily attributed to higher levels of semiconductor mask expenses due to the introduction of new products, offset by lower labor expenses of our research and development employees employed in our Israeli subsidiary due to a decrease in the value of NIS in comparison to the United States dollar. Our research and development expenses as a percentage of total revenues were 26% for the three months ended March 31, 2002 and 2001.

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Sales and Marketing Expenses.    Our sales and marketing expenses decreased slightly to $2.6 million in the first quarter of 2002 from $2.7 million in the first quarter of 2001. Our sales and marketing expenses as a percentage of total revenues were 10% in the three months ended March 31, 2002 and 11% in the three months ended March 31, 2001.

General and Administrative Expenses.    Our general and administrative expenses were $1.6 million in the three months ended March 31, 2002, as compared to $1.7 million in the three months ended March 31, 2001. These expenses in the first quarter of 2002 as a percentage of total revenues decreased to 6%, as compared to 7% in the first quarter of 2001.

Unusual items.    In the first quarter of 2002, we recorded two unusual expense items amounting to approximately $865,000. An expense of approximately $767,000 was recorded relating to the planning for an initial public offering of our DSP cores licensing business, which did not occurred. These expenses were comprised mainly of legal and accounting services rendered in 2001. Additionally, an expense of approximately $98,000 was recorded reflecting the write-off of all of our investment in Messagebay, a private company that develops both turnkey and customized software that enable two way voice, video, and animated messaging for web applications and wireless devices.

Interest and Other Income (Expense).    Interest and other income and interest and other expenses, net, for the three months ended March 31, 2002 decreased to $2.6 million from $3.4 million for the three months ended March 31, 2001. The decrease was primarily due to the overall lower market interest rates in the three months ended March 31, 2002, offset by higher levels of cash, cash equivalents, marketable securities and short term bank deposits during the same period.

Equity in Earnings of Affiliate.    Since April 1, 2001, we no longer had significant influence over the operating and financial policies of AudioCodes and thus stopped accounting for this investment under the equity method of accounting. Our equity in the net income of AudioCodes was $105,000 in the three months ended March 31, 2001.

Minority Interest in Losses of Subsidiary.    We included in our condensed consolidated statements of income for the three months ended March 31, 2001, an amount of $173,000 for our minority interest in VoicePump's losses.

Provision for Income Taxes.    In 2002 and 2001, we benefited for federal and state tax purposes from foreign tax holiday and tax exempt income in Israel.

LIQUIDITY AND CAPITAL RESOURCES

Operating Activities.    During the three months ended March 31, 2002, we generated $2.4 million of cash from our operating activities, as compared to $4.2 million during the three months ended March 31, 2001. This decrease was mainly due to lower net income in the three months ended March 31, 2002.

Investing Activities.    We invest excess cash in short-term bank deposits and marketable securities of varying maturity, depending on our projected cash needs for operations, capital expenditures and other business purposes. During the first three months of 2002, we purchased $30.0 million of investments classified as short-term and long-term bank deposits and held-to-maturity marketable securities, as compared to $17.4 million during the first three months of 2001. During the same periods, $17.9 million and $50.4 million, respectively, of investments classified as held-to-maturity marketable securities matured. Additionally, in anticipation of our cash contribution of $40 million to Ceva, Inc., one of our subsidiaries, in connection with the spin-off, we are currently building this cash reserve to be set aside for Ceva. Accordingly, our income from investing acitivites for future quarters may decrease as a result. See Note M to the notes to the condensed consolidated financial statements for more information about the spin-off.

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Our capital equipment purchases for the first three months of 2002, consisting primarily of research and development software and computers, totaled $0.4 million, as compared to $1.4 million for the first three months of 2001. In addition, during the three months ended March 31, 2002, we invested $2.0 million in an independent wafer manufacturer company, Tower Semiconductor Ltd., and the investment was recorded as available-for-sale marketable securities in accordance with SFAS 115 "Accounting for Certain Investments in Debt and Equity Securities" and included in our consolidated balance sheets under "Other assets".

Financing Activities.    During the three months ended March 31, 2002, we received $1.3 million upon the exercise of employee stock options and through purchases pursuant to our employee stock purchase plan, as compared to $1.2 million during the three months ended March 31, 2001.

At March 31, 2002, our principal source of liquidity consisted of cash and cash equivalent deposits totaling $28.3 million and marketable securities and short-term cash deposits of $222.8 million. Our working capital at March 31, 2002 was $94.8 million.

We believe that our current cash, cash equivalent, cash deposits and marketable securities will be sufficient to meet our cash requirements through at least the next twelve months.

In addition, as part of our business strategy, we occasionally evaluate potential acquisitions of businesses, products and technologies. Accordingly, a portion of our available cash may be used at any time for the acquisition of complementary products or businesses. Such potential transactions may require substantial capital resources, which may require us to seek additional debt or equity financing. We cannot assure you that we will consummate any such transactions. Furthermore, we cannot assure you that additional financing will be available to us in any required time frame on commercially reasonable terms, if at all. See "Factors Affecting Future Operating Results—There are Risks Associated with our Acquisition Strategy" for more detailed information.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk.    It is our policy not to enter into interest rate derivative financial instruments, except for hedging of foreign currency exposures discussed below. We do not currently have any significant interest rate exposure since we do not have any financial obligation and our financial assets are measured on a held to maturity basis.

Foreign Currency Exchange Rate Risk.    As a significant part of our sales and expenses are denominated in U.S. dollars, we have experienced only insignificant foreign exchange gains and losses to date, and do not expect to incur significant gains and losses in 2002. However, due to the recent increase in the volatility of the exchange rate of the NIS versus U.S. dollar, we decided to hedge part of the risk of a devaluation of the NIS which could have an adverse effect on the expenses that we incur in the State of Israel. For example, to protect against the increase in value of forecasted foreign currency cash flows resulting from salary payments during the year, we instituted a foreign currency cash flow hedging program. At the end of first quarter of year 2001, we entered into forward contracts to hedge a portion of the anticipated NIS payroll of our Israeli subsidiary for a period of two to ten months. These contracts are designated as cash flow hedges, as defined by SFAS No. 133, and are all effective as hedges of these expenses. As of March 31, 2002, we recorded a comprehensive loss of $216,000 derived from our forward contracts with respect to anticipated payroll payments expected in the year 2002. Such amounts will be recorded in earnings in 2002.

European Monetary Union.    Within Europe, the European Economic and Monetary Union (the "EMU") introduced a new currency, the euro, on January 1, 1999. Since January 1, 2002, all EMU countries have been operating with the euro as their single currency. We assessed the effect the euro formation has on our internal systems and the sale of our products and determined that the cost

15

related to the euro conversion had no substantial effect on our financial condition and results of operations.

FACTORS AFFECTING FUTURE OPERATING RESULTS

This Form 10-Q contains forward-looking statements concerning our future products, expenses, revenue, liquidity and cash needs as well as our plans and strategies. These forward-looking statements are based on current expectations and we assume no obligation to update this information. Numerous factors could cause our actual results to differ significantly from the results described in these forward-looking statements, including the following risk factors.

Our Quarterly Operating Results May Fluctuate Significantly.    Our quarterly results of operations may vary significantly in the future for a variety of reasons, including the following:

•

fluctuations in volume and timing of product orders;



•

level of per-unit royalties;



•

changes in demand for our products due to seasonal customer buying patterns and other factors;



•

timing of new product introductions by us or our customers, licensees or competitors;



•

changes in the mix of products sold by us or our competitors;



•

fluctuations in the level of sales by original equipment manufacturers (OEMs) and other vendors of products incorporating our products; and



•

general economic conditions, including the changing economic conditions in the United States.

Each of the above factors is difficult to forecast and could harm our business, financial condition and results of operations. Through 2002, we expect that revenues from our DSP core designs and TrueSpeech algorithms will be derived more from license fees than per unit royalties. The uncertain timing of these license fees has caused, and may continue to cause, quarterly fluctuations in our operating results. Our per unit royalties from licenses are dependent upon the success of our OEM licensees in introducing products utilizing our technology and the success of those OEM products in the marketplace. Per unit royalties from TrueSpeech licensees have not been significant to date, and we do not expect them to increase significantly in the future.

Furthermore, 2001 was a challenging year for the telecommunication and semiconductors industries, thereby resulting in longer sales cycles and delays in the purchase decision-making process of potential customers for our DSP Core technology. The longer sales cycles and various delays have further resulted in limited business visibility for completion of future license agreements. Accordingly, we may have difficulty in accurately forecasting our licensing revenues for any future quarter.

Our Average Selling Prices Continue to Decline.    Sales of our IDT products consisted of 80% of our total revenues in first quarter of 2002. However, we have experienced a decrease in the average selling prices of our IDT processors, which we have to date been able to partially offset on an annual basis through manufacturing cost reductions. However, we cannot guarantee that our on-going efforts will be successful or that they will keep pace with the anticipated, continuing decline in average selling prices of our IDT processors.

We Depend on the IDT Market Which is Highly Competitive.    Sales of IDT products comprise 80% of our product sales. Any adverse change in the digital IDT market or in our ability to compete and maintain our position in that market would harm our business, financial condition and results of operations. The IDT market and the markets for our products in general are extremely competitive and we expect that competition will only increase. Our existing and potential competitors in each of our markets include large and emerging domestic and foreign companies, many of which have significantly greater financial,

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technical, manufacturing, marketing, sale and distribution resources and management expertise than we do. It is possible that we may one day be unable to respond to increased price competition for IDT processors or other products through the introduction of new products or reduction of manufacturing costs. This inability would have a material adverse effect on our business, financial condition and results of operations. Likewise, any significant delays by us in developing, manufacturing or shipping new or enhanced products in this market also would have a material adverse effect on our business, financial condition and results of operations.

Despite the recent success of development and sales of our DSP Cores, our customers continue to request new technologies not currently owned by us, and we may not succeed in developing such technologies in a timely basis and in a cost-effective manner, which could affect our competitive position and results of operations.

We Depend on Foundries to Manufacture Our Integrated Circuit Products.    All of our integrated circuit products are manufactured by independent foundries. While these foundries have been able to adequately meet the demands of our increasing business, we are and will continue to be dependent upon these foundries to achieve acceptable manufacturing yields, quality levels and costs, and to allocate to us a sufficient portion of their foundry capacity to meet our needs in a timely manner. We currently do not have long-term supply contracts with any of these foundries. Therefore, they are not obligated to perform services or supply products to us for any specific period or in any specific quantities. To meet our increased wafer requirements, we have added additional independent foundries to manufacture our processors. Our reputation, competitive position and revenues could be harmed should any of these foundries fail to meet our request for products due to a shortage of production capacity, process difficulties, low yield rates or financial instability. For example, foundries in Taiwan produce a significant portion of our wafers. As a result, earthquakes, aftershocks or other natural disasters in Asia could preclude us from obtaining an adequate supply of wafers to fill customer orders and could harm our reputation, business, financial condition, and results of operations. Our business could also be harmed if one or more of the foundries terminates its relationship with us and we are unable to obtain satisfactory replacements to fulfill customer orders on a timely basis.

Furthermore, there are other significant risks associated with relying on these third-party foundries, including:

•

risks due to the fact that we have reduced control over production cost, delivery schedules and product quality;



•

less recourse if problems occur as the warranties on wafers or products supplied to us are limited; and



•

increased exposure to potential misappropriation of our intellectual property.

We May Need to Increase Our Research and Development Efforts to Remain Competitive.    The DSP Cores market is experiencing extensive efforts by some of our competitors to use new technologies to manipulate their chip designs to increase the parallel processing of the chips and/or designs they offer. For example, one such technology used is Very Long Instruction Word (VLIW), which some of our competitors possess elements of, but which we do not possess at the present time. If such technology continues to improve the programming processing of these chips, or if other new technologies are demanded by our customers, we may need to further our research and development to obtain such technologies or our failure to remain competitive could have an adverse effect on our results of operations. We spent $6.6 million, or 26% of our total revenues, in the first quarter of 2002, on research and development and expect to continue to invest heavily in this area. However, we cannot assure you that this or future expenditures will result in new and enhanced products or such products will be accepted in the market.

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We Depend on International Operations.    We are dependent on sales to customers outside the United States. We expect that international sales will continue to account for a significant portion of our net product and license sales for the foreseeable future. For example, export sales, primarily consisting of Integrated Digital Telephony (IDT) speech processors shipped to manufacturers in Europe and Asia, including Japan, as well as license fees on DSP core designs, represented 96% of our total revenues for the first quarter of 2002. As a result, the occurrence of any negative international political, economic or geographic events could result in significant revenue shortfalls. These shortfalls could cause our business, financial condition and results of operations to be harmed. Some of the risks of doing business internationally include:

•

unexpected changes in regulatory requirements;



•

fluctuations in the exchange rate for the United States dollar;



•

imposition of tariffs and other barriers and restrictions;



•

burdens of complying with a variety of foreign laws;



•

political and economic instability; and



•

changes in diplomatic and trade relationships.

We Rely on a Primary Distributor and the Failure of This Distributor to Perform as Expected Could Reduce Our Future Sales and Revenues.    We sell our products to customers primarily through distributors and OEMs. Particularly, revenues from one distributor, Tomen Electronics, accounted for 59% of our total revenues in the first quarter of 2002. Our future performance will depend, in part, on Tomen to continue to successfully market and sell our products. Furthermore, Tomen sells our products to a limited number of customers. One customer of Tomen, Kyushu Matsushita Electric Corp., Ltd, has continually accounted for a majority of Tomen's sales. Kyushu Matsushita Electric manufactures and markets Panasonic cordless telephones. The loss of Tomen as our distributor and our inability to obtain a satisfactory replacement in a timely manner may harm our sales and results of operations. Additionally, the loss of Kyushu Matsushita and Tomen's inability to thereafter effectively market our products may harm our sales and results of operations.

We Face Risks From Operating in Israel.    Our principal research and development facilities are located in the State of Israel and, as a result, at March 31, 2002, 160 of our 204 employees were located in Israel, including 101 out of 120 of our research and development personnel. In addition, although we are incorporated in Delaware, a majority of our directors and executive officers are residents of Israel. Although substantially all of our sales currently are being made to customers outside Israel, we are nonetheless directly influenced by the political, economic and military conditions affecting Israel. Any major hostilities involving Israel, or the interruption or curtailment of trade between Israel and its present trading partners, could significantly harm our business, operating results and financial condition.

Israel's economy has been subject to numerous destabilizing factors, including a period of rampant inflation in the early to mid-1980's, low foreign exchange reserves, fluctuations in world commodity prices, military conflicts and civil unrest. In addition, Israel and companies doing business with Israel have been the subject of an economic boycott by the Arab countries since Israel's establishment. Although they have not done so to date, these restrictive laws and policies may have an adverse impact on our operating results, financial condition or expansion of our business.

Since the establishment of the State of Israel in 1948, a state of hostility has existed, varying in degree and intensity, between Israel and the Arab countries. Although Israel has entered into various agreements with certain Arab countries and the Palestinian Authority, and various declarations have been signed in connection with efforts to resolve some of the economic and political problems in the Middle East, hostilities between Israel and some of its Arab neighbors have recently escalated and

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intensified. We cannot predict whether or in what manner these conflicts will be resolved. Our results of operations may be negatively affected by the obligation of key personnel to perform military service. In addition, certain of our officers and employees are currently obligated to perform annual reserve duty in the Israel Defense Forces and are subject to being called for active military duty at any time. Although we have operated effectively under these requirements since our inception, we cannot predict the effect of these obligations on the company in the future. Our operations could be disrupted by the absence, for a significant period, of one or more of our officers or key employees due to military service.

Moreover, part of our expenses in Israel are paid in Israeli currency, which subjects us to the risks of foreign currency fluctuations and to economic pressures resulting from Israel's general rate of inflation. While significant part of our sales and expenses are denominated in United States dollars, a portion of our expenses are denominated in new Israeli shekels. Our primary expenses paid in new Israeli shekels are employee salaries and lease payments on our Israeli facilities. As a result, an increase in the value of Israeli currency in comparison to the United States dollar could increase the cost of our technology development, research and development expenses and general and administrative expenses. We cannot assure you that currency fluctuations, changes in the rate of inflation in Israel or any of the other factors mentioned above will not have a material adverse effect on our business, financial condition and results of operations. From time to time, we use derivative instruments in order to minimize the effects of such developments, but our hedging positions may be partial, may not exist at all in the future or may not succeed to minimize our foreign currency fluctuation risks.

Any Future Profitability May Be Diminished If Tax Benefits from the State of Israel Are Reduced or Withheld.    We receive certain tax benefits in Israel, particularly as a result of the "Approved Enterprise" status of our facilities and programs. To be eligible for tax benefits, we must meet certain conditions, relating principally to adherence to the investment program filed with the Investment Center of the Israeli Ministry of Industry and Trade and to periodic reporting obligations. We believe that we will be able to continue to meet such conditions. Should we fail to meet such conditions in the future, however, we would be subject to corporate tax in Israel at the standard rate of 36%, and could be required to refund tax benefits already received. We cannot assure you that such grants and tax benefits will be continued in the future at their current levels or otherwise. The termination or reduction of certain programs and tax benefits (particularly benefits available to us as a result of the Approved Enterprise status of our facilities and programs) or a requirement to refund tax benefits already received may have a material adverse effect on our business, operating results and financial condition.

We Depend on OEMs and Their Suppliers to Obtain Required Complementary Components.    Some of the raw materials, components and subassemblies included in the products manufactured by our OEM customers, which also incorporate our products, are obtained from a limited group of suppliers. Supply disruptions, shortages or termination of any of these sources could have an adverse effect on our business and results of operations due to the delay or discontinuance of orders for our products by customers until those necessary components are available.

We Depend Upon the Adoption of Industry Standards that Use TrueSpeech Technology.    Our business is partially dependent upon the establishment of industry standards for digital speech compression based on TrueSpeech algorithms in the computer telephony and VoIP markets. The development of industry standards utilizing TrueSpeech algorithms would create an opportunity for us to develop and market speech co-processors that provide TrueSpeech solutions and enhance the performance and functionality of products incorporating these co-processors.

In February 1995, the International Telecommunications Union established G.723.1, which is predominately composed of a TrueSpeech algorithm, as the standard speech compression technology for use in video conferencing over public telephone lines. In March 1997, the International Multimedia Teleconferencing Consortium, a nonprofit industry group, recommended the use of G.723.1 as the

19

default audio coder for all voice transmissions over the Internet or for IP applications for H.323 conferencing products. If TrueSpeech algorithms are not adopted as the standard speech compression technology for different applications, the sales of our TrueSpeech products may not achieve anticipated levels. If new standards are developed based on technology we did not possess, our business could be harmed.

There Are Risks Associated with Our Acquisition Strategy.    We have pursued, and will continue to pursue, growth opportunities through internal development and acquisition of complementary businesses, products and technologies. We are unable to predict whether or when any other prospective acquisition will be completed. The process of integrating an acquired business may be prolonged due to unforeseen difficulties and may require a disproportionate amount of our resources and management's attention. We cannot assure you that we will be able to successfully identify suitable acquisition candidates, complete acquisitions, integrate acquired businesses into our operations, or expand into new markets. Further, once integrated, acquisitions may not achieve comparable levels of revenues, profitability or productivity as our existing business or otherwise perform as expected. The occurrence of any of these events could harm our business, financial condition or results of operations. Future acquisitions may require substantial capital resources, which may require us to seek additional debt or equity financing.

Risks of Infringement of Intellectual Property Rights of Others.    As is typical in the semiconductor industry, we have been and may from time to time be notified of claims that we may be infringing patents or intellectual property rights owned by third parties. For example, AT&T has asserted that G.723.1, which is primarily composed of our TrueSpeech algorithm, includes certain elements covered by a patent held by AT&T. AT&T has requested that video conferencing manufacturers license the technology from AT&T and has sued Microsoft, one of our TrueSpeech licensees, for infringement. Other organizations including Agere, NTT and VoiceCraft have raised public claims that they also have patents related to the G.723.1 technology. If litigation becomes necessary to determine the validity of any third party claims, it could result in significant expense to us and could divert the efforts of our technical and management personnel, whether or not the litigation is determined in our favor.

If it appears necessary or desirable, we may try to obtain licenses for those patents or intellectual property rights that we are allegedly infringing. Although holders of these types of intellectual property rights commonly offer these licenses, we cannot assure you that licenses will be offered or that the terms of any offered licenses will be acceptable to us. Our failure to obtain a license for key intellectual property rights from a third party for technology used by us could cause us to incur substantial liabilities and to suspend the manufacturing of products utilizing the technology.

Alternatively, we could be required to expend significant resources to develop non-infringing technology. We cannot assure you that we would be successful in developing non-infringing technology.

Protection of Our Intellectual Property Rights is Limited.    Our success and ability to compete is in part dependent upon our internally developed technology and other proprietary rights, which we protect through a combination of copyright, trademark and trade secret laws, as well as through confidentiality agreements and licensing arrangements with our customers, suppliers, employees and consultants. In addition, we have filed a number of patents in the United States and in other foreign countries with respect to new or improved technology that we have developed. However, the status of any patent involves complex legal and factual questions, and the breadth of claims allowed is uncertain. Accordingly, we cannot assure you that any patent application filed by us will result in a patent being issued, or that the patents issued to us will not be infringed by others. Also, our competitors and potential competitors may develop products with similar technology or functionality as our products, or they may attempt to copy or reverse engineer aspects of our product line or to obtain and use information that we regard as proprietary. Moreover, the laws of certain countries in which our products are or may be developed, manufactured or sold, including Hong Kong, Japan and Taiwan, may not protect our products and intellectual property rights to the same extent as the laws of the

20

United States. Policing the unauthorized use of our products is difficult and may result in significant expense to us and could divert the efforts of our technical and management personnel. Even if we spend significant resources and efforts to protect our intellectual property, we cannot assure you that we will be able to prevent misappropriation of our technology. Use by others of our proprietary rights could materially harm our business and expensive litigation may be necessary in the future to enforce our intellectual property rights.

Terrorist Attacks and Threats or Actual War May Negatively Impact All Aspects of Our Operations, Revenues, Costs and Stock Price.    Recent terrorist attacks in the United States, as well as future events occurring in response or connection to them, including, without limitation, future terrorist attacks against United States targets, rumors or threats of war, actual conflicts involving the United States or its allies or military or trade disruptions impacting our domestic or foreign suppliers of merchandise, may impact our operations, including, among other things, causing delays or losses in the delivery of wafer supplies to us and decreased sales of our products. More generally, any of these events could cause consumer confidence and spending to decrease or result in increased volatility in the United States and worldwide financial markets and economy. They also could result in economic recession in the United States or abroad. Any of these occurrences could have a significant impact on our operating results, revenues and costs.

Our Stock Price May Be Volatile.    Announcements of developments related to our business, announcements by competitors, quarterly fluctuations in our financial results, changes in the general conditions of the highly dynamic industry in which we compete or the national economies in which we do business, and other factors could cause the price of our common stock to fluctuate, perhaps substantially. In addition, in recent years the stock market has experienced extreme price fluctuations, which have often been unrelated to the operating performance of affected companies. These factors and fluctuations could have a material adverse effect on the market price of our common stock.

Combination Agreement with Parthus Technologies plc.    On April 4, 2002, we entered into a Combination Agreement with Ceva, Inc. (one of our wholly-owned subsidiaries and to which we will be transferring our DSP cores licensing business) and Parthus Technologies plc. Pursuant to the agreement, the parties agreed to combine Parthus with Ceva in a merger of equals. The new combined company will be called ParthusCeva, Inc. Under the terms of the agreement, immediately following the transaction, our shareholders and the former shareholders of Parthus will own approximately 50.1% and 49.9% of ParthusCeva, respectively. Our board of directors and the board of directors of Parthus expect the merger to be completed by the end of the third quarter of 2002. However, the completion of the combination is still subject to many conditions and we cannot assure you that the intended combination will occur as scheduled, if at all. Moreover, the process of separating our DSP cores licensing business and transferring the same to Ceva and the combination of Parthus with Ceva may be prolonged due to unforeseen difficulties and may require a disproportionate amount of our resources and management's attention. Furthermore, even if the combination of Parthus with Ceva is completed, we cannot assure you that it will achieve the levels of revenues, profitability or productivity or otherwise perform as expected. All of the forward-looking statements made herein with respect to our business, results of operations and financial condition are necessarily colored by, and would be materially affected by, our transfer of our DSP cores licensing business to Ceva and the subsequent merger of Parthus with Ceva.

ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

See "Management's Discussion and Analysis of Financial Condition and Results of Operations—Quantitative and Qualitative Disclosures About Market Risk."

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PART II.    OTHER INFORMATION

ITEM 1.    LEGAL PROCEEDINGS

        None.

ITEM 2.    CHANGES IN SECURITIES AND USE OF PROCEEDS

        None.

ITEM 3.    DEFAULTS UPON SENIOR SECURITIES

        None.

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

        None.

ITEM 5.    OTHER INFORMATION

        None.

ITEM 6.    EXHIBITS AND REPORTS ON FORM 8-K

(a)

Exhibits: None.



(b)

Reports on Form 8-K.



(1)

The Company filed a Form 8-K on March 15, 2002 confirming that it was in preliminary discussions with Parthus Technologies plc regarding a potential combination of Parthus' business and its DSP cores licensing business.

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SIGNATURES

        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.

	DSP GROUP, INC. (Registrant)
Date: May 15, 2002	By:	/s/ MOSHE ZELNIKMoshe Zelnik, Vice President of Finance, Chief Financial Officer and Secretary (Principal Financial Officer and Principal Accounting Officer)

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QuickLinks

INDEX

PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS

DSP GROUP, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (US dollars in thousands)
DSP GROUP, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED) (US dollars in thousands, except per share amounts)
DSP GROUP, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (US dollars in thousands)
DSP GROUP, INC. CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (UNAUDITED) (US dollars in thousands)
DSP GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS March 31, 2002 (UNAUDITED)

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
ITEM 5. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

SIGNATURES