Edgar Filing: TERAYON COMMUNICATION SYSTEMS

Prospectus Filed pursuant to Rule 424(b)(3)
Registration Statement No. 333-53694

TERAYON COMMUNICATION SYSTEMS, INC.

534,487 Shares

Common Stock

The Selling Stockholders: The selling stockholders identified in this
prospectus are selling 534,487 shares of our common
stock. We are not selling any shares of our common
stock under this prospectus and will not receive
any of the proceeds from the sale of shares by the
selling stockholders.

Offering Price: The selling stockholders may sell the shares of
common stock described in this prospectus in a
number of different ways and at varying prices. We
provide more information about how they may sell
their shares in the section titled "Plan of
Distribution" on page 22.

Trading Market: Our common stock is listed on the Nasdaq National
Market under the symbol "TERN." On January 11,
2001, the closing sale price of our common stock,
as reported on the Nasdaq National Market, was
$5.875.

Risks: Investing in our common stock involves a high
degree of risk. See "Risk Factors" beginning on
page 3.

The shares offered or sold under this prospectus have not been approved by
the SEC or any state securities commission, nor have these organizations
determined that this prospectus is accurate or complete. Any representation to
the contrary is a criminal offense.

The date of this prospectus is January 25, 2001

Terayon, TeraComm, TeraLink, TeraPro, TeraView, CherryPicker and the
Terayon logo are our trademarks. This prospectus also includes trade dress,
trade names and trademarks of other companies. Our use or display of other
parties' trademarks, trade dress or products is not intended to and does not
imply a relationship with the trademark or trade dress owners.

DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

We make "forward-looking statements" throughout this prospectus. Whenever
you read a statement that is not simply a statement of historical fact (such as
when we describe what we "believe," "expect" or "anticipate" will occur, and
other similar statements), you must remember that our expectations may not be
correct, even though we believe they are reasonable. We do not guarantee that
the transactions and events described in this prospectus will happen as
described (or that they will happen at all). You should read this prospectus
completely and with the understanding that actual future results may be
materially different from what we expect. We will not update these forward-
looking statements, even though our situation may change in the future. Whether
actual results will conform with our expectations and predictions is subject to
a number of risks and uncertainties including but not limited to:

. risks associated with the effect of economic conditions;

. future capital needs;

. our ability to identify, complete and integrate acquisitions
successfully;

. risks associated with retaining our significant customers;

. our strategies for reducing the costs of our products;

. our product development efforts;

. the impact of competition and technological change on us;

. industry trends and future growth in the markers for our products;

. the timing of our introduction of new products and the extent of the
deployment of our products by our customers;

. our dependence on industry trends and the future growth in the markets
for cable modem systems and other broadband access systems;

. the impact of legislation and regulation;

. the effect of GAAP accounting pronouncements on our recognition of
revenues;

. the loss of key employees; and

. the loss associated with future and pending litigation matters, as they
may arise.

You should read carefully the section of this prospectus under the heading
"Risk Factors" beginning on page 3. We assume no responsibility for updating
forward-looking information contained in this prospectus.

PROSPECTUS SUMMARY
The following is a summary of our business. You should carefully read the
section entitled "Risk Factors" in this prospectus, our Annual Report on
Form 10-K for the year ended December 31, 1999, as amended on Form 10-K/A filed
on April 28, 2000, our Quarterly Report on Form 10-Q for the quarter ended
September 30, 2000, as amended by the Form 10-Q/A filed with the SEC on November
15, 2000, our Report on Form 8-K filed with the SEC on July 18, 2000, our Report
on Form 8-K filed with the SEC on October 5, 2000, our Report on Form 8-K filed
with the SEC on October 23, 2000 and our Report on Form 8-K filed with the SEC
on January 9,2001 for more information on our business and the risks involved in
investing in our stock.

In addition to the historical information contained in this prospectus,
this prospectus contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Exchange Act of
1934. These statements may be identified by the use of words such as "expects,"
"anticipates," "intends," "plans" and similar expressions. The outcome of the
events described in these forward-looking statements is subject to risks and
actual results could differ materially. The sections entitled "Risk Factors"
beginning on page 3 of this prospectus, and "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and "Business" in our
Annual Report, Quarterly Report, Form 8-K filed in July 2000 and Forms 8-K filed
in October 2000 contain a discussion of some of the factors that could
contribute to those differences.

Terayon

Overview

We develop, market and sell broadband access systems that enable cable
operators and other providers of broadband access services to cost effectively
deploy reliable broadband access services over cable, copper wire utilizing
digital subscriber line technology (or DSL) and wireless systems. We have
substantial development and marketing resources focused on cable operators.
However, through internal development and recent acquisitions of complementary
technology and businesses, we also are focusing on service providers that offer
broadband access through existing copper wire infrastructures and wireless
systems.

In recent years, the volume of bandwidth-intensive data, voice and video
traffic across existing cable infrastructure, the Internet, corporate intranets
and other public networks has increased dramatically. International Data
Corporation estimates that the number of worldwide Internet users will increase
from approximately 200 million at the end of 2000 to more than one billion by
the end of 2005. IDC estimates that the number of homes in the United States
with broadband access will increase from two million at the end of 1999 to 20
million by the end of 2003. As a result of the rapid evolution of broadband
access, cable operators, providers of telephone services and other service
providers are providing a bundle of voice, data and video services to their
residential and commercial subscribers over existing and new infrastructures.

Our objective is to be the leading provider of broadband access systems to
providers of broadband services that use existing cable, copper wire (DSL) and
wireless networks to offer services to residential and commercial customers.
Key elements of our strategy include the following:

. build a complete portfolio of broadband products;

. supply leading broadband service providers worldwide;

. increase our presence in existing and new markets;

. extend technology leadership and advance industry standards; and

. provide superior customer support.

Our primary product is the TeraComm system, which is based on our patented
Synchronous Code Division Multiple Access or "S-CDMA" technology. Our S-CDMA
technology enables reliable two-way broadband data

communications over both pure coaxial and hybrid fiber/coax cable infrastructure
and is designed to enable cable operators to maximize the capacity and
reliability of broadband data services over any cable plant. In furtherance of
our strategy to provide a complete portfolio of broadband products, we have
recently completed several acquisitions of complementary broadband technologies,
including digital video management systems, DSL and wireless.

We sell our broadband access products to cable operators and other
providers of broadband access services through direct sales forces in North
America, South America, Europe and Asia. We also distribute our products via
distributors and systems integrators. Companies currently using or distributing
our TeraComm system include Rogers Communications, Inc., Shaw Communications,
Inc., TCA Cable TV, Inc. (a subsidiary of Cox Communications, Inc.), United Pan-
Europe Communications and Crossbeam Networks Corporation, a wholly owned
subsidiary of Sumitomo Corporation. Companies currently using our DSL products
include major ILEC's (Incumbent Local Exchange Carriers) in the United States,
including SBC, Bell Atlantic, Bell South, U.S. West and GTE.

Our company was incorporated in California in January 1993 and
reincorporated in Delaware in July 1998. Our executive offices are located at
2952 Bunker Hill Lane, Santa Clara, California 95054 and our telephone number is
(408) 727-4400. Our Web site is located at www.terayon.com. Information
contained on our Web site does not constitute part of this offering memorandum.

Recent Events

In December 2000, we acquired TrueChat, Inc., a company that develops
communication systems that enable multimedia teleconferencing and provides
increased control over teleconference parameters.

RISK FACTORS

You should carefully consider the risks described below before making an
investment decision. The risks and uncertainties described below are not the
only ones facing our company. Additional risks and uncertainties not presently
known to us or that we currently deem immaterial also may impair our business
operations. If any of the following risks actually occur, our business could be
harmed. In such case, the trading price of our common stock could decline, and
you may lose all or part of your investment.

We Have a Limited Operating History and a History of Losses.

We have a limited operating history, and it is difficult to predict our
future operating results. We began shipping products commercially in June 1997,
and we only have been shipping products in volume since the first quarter of
1998. As of September 30, 2000, we had an accumulated deficit of $ 237,624,000.
We believe that we will continue to experience net losses for the foreseeable
future. Most of our expenses are fixed in advance, and we generally are unable
to reduce our expenses significantly in the short term to compensate for any
unexpected delay or decrease in anticipated revenues. We expect to continue to
increase expenses for the foreseeable future to support increased sales and
marketing and technical support costs. Any significant delay in our anticipated
revenues or commercialization of new products would harm our business. The
revenue and profit potential of our business and our industry are unproven. We
had negative gross margins from our inception until the fourth quarter of 1998,
and any future revenue growth may not result in positive gross margins or
operating profits in future periods.

Our Operating Results May Fluctuate.

Our quarterly revenues are likely to fluctuate significantly in the future
due to a number of factors, many of which are outside our control. Factors that
could affect our revenues include the following:

. variations in the timing of orders and shipments of our products;

. variations in the size of the orders by our customers;

. new product introductions by competitors;

. delays in our introduction of new products;

. delays in our receipt of orders forecasted by our customers;

. delays by our customers in the completion of upgrades to their cable
infrastructure;

. variations in capital spending budgets of broadband access service
providers;

. adoption of industry standards and the inclusion in or compatibility
of our technology with any such standards; and

. delays in obtaining regulatory approval for commercial deployment of
cable modem systems.

Our expenses generally will vary from quarter to quarter depending on the
level of actual and anticipated business activities. Research and development
expenses will vary as we begin development of new products and as our
development programs move to wafer fabrication and prototype development, which
results in higher engineering expenses.

A variety of factors affect our gross margin, including the following:

. the sales mix of our products;

. the volume of products manufactured;

. the type of distribution channel through which we sell our products;

. the average selling prices or "ASPs" of our products; and

. the effectiveness of our cost reduction measures.

We anticipate that unit ASPs of our products will decline in the future.
This could cause a decrease in the gross margins for these products. In
addition, the maturity of TeraComm system deployments affects our gross margin.
New deployments of the TeraComm system involve the sale of headend equipment
(which has higher margins) and generally involve smaller quantities of product.
New deployments typically are sold at higher margins than the larger volume
sales of product associated with more mature deployments of the TeraComm system.
The sales mix of TeraLink 1000 Master Controllers, TeraLink Gateways and TeraPro
cable modems also affects our gross margin. The TeraPro cable modems have
significantly lower margins than the TeraLink 1000 Master Controller and
TeraLink Gateway headend products. We expect to achieve significantly lower
margins on the TeraPro cable modems for the foreseeable future. Further, we
expect that sales of TeraPro cable modems will continue to constitute a
significant portion of our revenues for the foreseeable future.

We also anticipate that our operating results will be impacted by sales,
gross profit and operating expenses of acquired companies. The impact of these
factors on our operating results will vary as we acquire additional companies.

We Are Dependent on a Small Number of Customers.

Three customers (two of which are related parties) accounted for
approximately 50% of our revenues for the quarter ended September 30, 2000. We
believe that a substantial majority of our revenues will continue to be derived
from sales to a relatively small number of customers for the foreseeable future.
In addition, we believe that sales to these customers will be focused on a
limited number of projects.

The cable industry is undergoing significant consolidation in North America
and internationally, and a limited number of cable operators controls an
increasing number of cable systems. Currently, ten cable operators in the
United States own and operate facilities passing approximately 86% of total
homes passed. In addition, the North American DSL market is concentrated with
the major ILECs, constituting a significant percentage of the market. As a
result, our sales will be largely dependent upon product acceptance by the
leading broadband service providers. Currently, the timing and size of each
customer's order is critical to our operating results. Our major customers are
likely to have significant negotiating leverage and may attempt to change the
terms, including pricing, upon which we do business with them. These customers
also may require longer payment terms than we anticipate, which could require us
to raise additional capital to meet our working capital requirements.

Acquisitions Could Result In Dilution, Operating Difficulties and Other Adverse
Consequences.

We have acquired ten businesses since September 1999: Imedia Corporation in
September 1999; Radwiz Ltd. in November 1999; Telegate Ltd. in January 2000;
Access Network Electronics Division of Tyco Electronics Corporation in April
2000; ComBox Ltd. in April 2000; some assets of Internet Telecom Ltd. in April
2000; Ultracom Communication Holdings (1995) Ltd. in April 2000; Mainsail
Networks, Inc. in September 2000; Digital Transmission Equipment in September
2000; and TrueChat, Inc. in December 2000. If appropriate opportunities present
themselves, we intend to acquire additional businesses, technologies, services
or products that we believe are strategic. The process of integrating any
acquired business into our business and operations is risky and may create
unforeseen operating difficulties and expenditures. The areas in which we may
face difficulties include:

. diversion of management time (both ours and that of the acquired
companies) during the period of negotiation through closing and after
closing from the ongoing development of our businesses, issues of
integration and future products;

. decline in employee morale and retention issues resulting from changes
in compensation, reporting relationships, future prospects or the
direction of the business;

. the need to integrate each company's accounting, management
information, human resource and other administrative systems to permit
effective management, and the lack of control if this integration is
delayed or not implemented; and

. the need to implement controls, procedures and policies appropriate
for a larger public group of companies that prior to acquisition had
been smaller, private companies.

We have very limited experience in managing this integration process.
Moreover, the anticipated benefits of any or all of these completed or pending
acquisitions may not be realized.

Future acquisitions could result in potentially dilutive issuances of
equity securities, the incurrence of additional debt, contingent liabilities or
amortization expenses related to goodwill and other intangible assets, any of
which could harm our business. Future acquisitions also could require us to
obtain additional equity or debt financing, which may not be available on
favorable terms or at all.

The Sales Cycle for Our Products Is Lengthy.

The sales cycle associated with our products typically is lengthy, often
lasting six months to a year. Our customers typically conduct significant
technical evaluations of competing technologies prior to the commitment of
capital and other resources. In addition, purchasing decisions may be delayed
because of our customers' internal budget approval procedures. Sales also
generally are subject to customer trials, which typically last three months.
Because of the lengthy sales cycle and the large size of customers' orders, if
orders forecasted for a specific customer for a particular quarter do not occur
in that quarter, our operating results for that quarter could suffer.

There Are Many Risks Associated with Our Participation in the Establishment of
Advanced Physical Layer Specifications to Be Added to DOCSIS.

In November 1998, CableLabs selected us to co-author DOCSIS 1.2 (Data Over
Cable Service Interface Specifications), an enhanced version of the DOCSIS cable
modem specification based in part on our S-CDMA technology. In September 1999,
CableLabs indicated that it intended to proceed with the advanced physical layer
("PHY") work on two parallel tracks: one for the development of a prototype
based on our S-CDMA technology and one for the inclusion of Advanced TDMA
technology (Time Division Multiple Access), as proposed by other companies. In
February 2000, CableLabs further clarified the status of the advanced PHY
project regarding a separate release that will include TDMA technologies. In
addition, CableLabs reiterated that it is continuing to work with us on the
development of a DOCSIS specification that could include our S-CDMA technology.
To that end, CableLabs has requested that we submit a prototype of a DOCSIS
system that incorporates an S-CDMA advanced PHY capability for testing.
CableLabs has stated that if the testing of this prototype reveals that the S-
CDMA advanced PHY works as claimed (including proper backwards compatibility and
coexistence with the other aspects of DOCSIS), and if the costs for adding S-
CDMA to DOCSIS products are in line with estimates, then it is likely, but not
certain, that S-CDMA advanced PHY capabilities will be included in a future
version of the DOCSIS specification. The prototype we submit to CableLabs may
fail to demonstrate the level of performance that CableLabs seeks; even if it
does meet performance expectations there can be no guarantee that CableLabs will
incorporate the technology into a future version of DOCSIS specifications. In
addition, if CableLabs does proceed to include S-CDMA in a future DOCSIS
specification, there can be no guarantee that the DOCSIS S-CDMA specification
will be the same as the specification we incorporated in the prototype submitted
for tests, which may require us to further develop our prototype.

Our future revenues and operating results are likely to suffer if S-CDMA is
not included in a future release of DOCSIS. We also may incur substantial
additional research and development expenditures to adapt our specifications to
the version adopted by CableLabs. CableLabs has not established a schedule for
adding the S-CDMA capabilities to the DOCSIS specifications. Delays in the
establishment of a final specification for S-CDMA in DOCSIS could harm our plans
to sell DOCSIS compatible modems and headend equipment. In particular, if the

final DOCSIS S-CDMA specification is not approved prior to the time when we are
ready to ship DOCSIS products with S-CDMA features included, then we may be
required to delay the introduction of those products until the DOCSIS S-CDMA
specification is released or to introduce the S-CDMA features as proprietary
enhancements to a standard DOCSIS product. Either one of these events could
harm revenues and operating results.

We have already given CableLabs assurances that we will contribute some
aspects of our proprietary S-CDMA technology to a royalty-free intellectual
property pool, if S-CDMA is included in a future version of DOCSIS
specifications. This royalty-free pool has been established by CableLabs to
facilitate the participation of as many vendors as possible in providing
equipment that is compatible with the DOCSIS specifications. As a result, any
of our competitors who join the DOCSIS intellectual property pool would have
access to some aspects of our technology and would not be required to pay us
any royalties or other compensation. If a competitor is able to duplicate the
functionality and capabilities of our technology, we could lose some or all of
the time-to-market advantage we might otherwise have, which could harm our
future revenues and operating results.

We believe the addition of advanced upstream PHY capabilities to DOCSIS
will increase the overall market for DOCSIS-compatible products, and as such
will result in increased competition in the cable modem market. This competition
could come from existing competitors or from new competitors who enter the
market as a result of the enhancements to the specifications. This increased
competition is likely to result in lower ASPs of cable modem systems and could
harm revenues and gross margins. Because our competitors will be able to
incorporate some aspects of our technology into their products, our current
customers may choose alternate suppliers or choose to purchase DOCSIS-compliant
cable modems with advanced PHY capabilities from multiple suppliers. We may be
unable to produce DOCSIS compliant cable modems with advanced PHY capabilities
more quickly or at lower cost than our competitors. The inclusion of our S-CDMA
technology in future DOCSIS specification could result in increased competition
for the services of our existing employees who have experience with S-CDMA. The
loss of these employees to one or more competitors could harm our business.

DOCSIS standards have not yet been accepted in Europe and Asia. An
alternate standard for cable modem systems, called the EuroModem standard, or
DAVIC/DVB, has been formalized, and some European cable system operators have
embraced it. We intend to develop and sell products that comply with the
EuroModem standard and to pursue having portions of our S-CDMA technology
included in a future version of the EuroModem standard. We may be unsuccessful
in these efforts.

We Need to Develop New Products in Order to Remain Competitive.

Our future success will depend in part on our ability to develop, introduce
and market new products in a timely manner. We also must respond to competitive
pressures, evolving industry standards and technological advances. Our current
S-CDMA products are not DOCSIS-compliant. We are currently developing a
prototype of a DOCSIS system that incorporates an S-CDMA advanced PHY capability
for testing and eventual inclusion in the DOCSIS standard. There is no
guarantee that we will be successful in developing the prototype or that the
prototype, if successfully developed, will be included in a future release of
the DOCSIS standard. We anticipate that during the year 2001, existing or
potential customers may delay purchases of our TeraComm system in order to
purchase systems that comply with the DOCSIS standard. In addition, potential
new customers could decide to purchase DOCSIS-compliant products from one or
more of our competitors rather than from us. As a result, our product sales may
be lower than we anticipate. In order to promote sales of our current products,
we may be required to reduce our prices for sales to existing customers. This
would harm our operating results and gross margin.

As a result of the inclusion of TDMA technology in the new DOCSIS version
announced by CableLabs in February 2000, we will have to incorporate advanced
TDMA technology into our DOCSIS-compliant products. If we are unable to do this
effectively, or in a timely manner, we will lose some or all of the time-to-
market advantage we might otherwise have had.

Our future success will also depend on our ability to develop and market
products for broadband applications over DSL and wireless networks. The markets
for these broadband applications are also subject to evolving standards, such as
NEBS compliance in the North American DSL market, and technological advances in
these arenas. There is no guarantee that we will be successful in developing
products that are compliant with these standards or that we will be successful
in keeping pace with future technological advances in this arena.

Average Selling Prices of Broadband Access Equipment Typically Decrease.

The broadband access systems market has been characterized by erosion of
average selling prices. We expect this to continue. This erosion is due to a
number of factors, including competition, rapid technological change and price
performance enhancements. The ASPs for our products may be lower than expected
as a result of competitive pricing pressures, our promotional programs and
customers who negotiate price reductions in exchange for longer term purchase
commitments. We anticipate that ASPs and gross margins for our products will
decrease over product life cycles. In addition, we believe that the widespread
adoption of industry standards is likely to further erode ASPs, particularly for
cable modems and other similar consumer premise equipment. It is likely that
the widespread adoption of industry standards will result in increased retail
distribution of cable modems and other similar consumer premise equipment,
which could put further price pressure on our products. Decreasing ASPs could
result in decreased revenue even if the number of units sold increases. As a
result, we may experience substantial period-to-period fluctuations in future
operating results due to ASP erosion. Therefore, we must continue to develop
and introduce on a timely basis next- generation products with enhanced
functionalities that can be sold at higher gross margins. Our failure to do
this could cause our revenues and gross margin to decline.

We Must Achieve Cost Reductions.

Certain of our competitors currently offer products at prices lower than
ours. Market acceptance of our products will depend in part on reductions in the
unit cost of our products. We expect that as headend equipment becomes more
widely deployed, the price of cable modems and other similar consumer premise
equipment will decline. In particular, we believe that the widespread adoption
of industry standards such as DOCSIS will cause increased price competition for
consumer premise equipment. However, we may be unable to reduce the cost of our
products sufficiently to enable us to compete with other suppliers. Our cost
reduction efforts may not allow us to keep pace with competitive pricing
pressures or lead to gross margin improvement.

Some of our competitors are larger and manufacture products in
significantly greater quantities than we intend to for the foreseeable future.
Consequently, these competitors have more leverage in obtaining favorable
pricing from suppliers and manufacturers. In order to remain competitive, we
must significantly reduce the cost of manufacturing our cable modems through
design and engineering changes. We may not be successful in redesigning our
products. Even if we are successful, our redesign may be delayed or may contain
significant errors and product defects. In addition, any redesign may not result
in sufficient cost reductions to allow us to significantly reduce the list price
of our products or improve our gross margin. Reductions in our manufacturing
costs will require us to use more highly integrated components in future
products and may require us to enter into high volume or long-term purchase or
manufacturing agreements. Volume purchase or manufacturing agreements may not be
available on acceptable terms. We could incur expenses without related revenues
if we enter into a high volume or long-term purchase or manufacturing agreement
and then decide that we cannot use the products or services offered by such
agreement.

We Must Keep Pace with Rapid Technological Change to Remain Competitive.

The markets for our products are characterized by rapid technological
change, evolving industry standards, changes in end-user requirements and
frequent new product introductions and enhancements. Our future success will
depend upon our ability to enhance our existing products and to develop and
introduce new products that achieve market acceptance. Providers of broadband
access services may adopt alternative technologies or they may deploy
alternative services that are incompatible with our products.

The demand for broadband access services has resulted in the development of
several competing modulation technologies. For example, some of our cable
products utilize a modulation technology known as S-CDMA, while several of our
competitors utilize modulation technologies known as TDMA and Frequency Division
Multiple Access or "FDMA." Our headend equipment and cable modem products
currently are not interoperable with the headend equipment and modems of other
suppliers of broadband access products. As a result, potential customers who
wish to purchase broadband access products from multiple suppliers may be
reluctant to purchase our products. Although our technology may be incorporated
into a future version of a DOCSIS specification or another industry standard, we
cannot be certain that major cable operators will adopt these standards. Major
cable operators may not adopt products or technologies based on our current
proprietary S-CDMA technology or on any future industry

standard S-CDMA technology. Further, major cable operators may adopt products or
standards technologies based on competing modulation technologies. If
competitors using other modulation technologies can incorporate functionality
and capabilities currently found in S-CDMA, the value of our S-CDMA technology
would be diminished.

Broadband Access Services Have Not Achieved Widespread Market Acceptance, and
Many Competing Technologies Exist.

Our success will depend upon the widespread commercial acceptance of
broadband access services by service providers and end users of broadband access
services. The market for these services is not fully developed. We cannot
accurately predict the future growth rate or the ultimate size of the market for
broadband access services. Potential users of our products may have concerns
regarding the security, reliability, cost, ease of installation and use and
capability of broadband access services in general.

The market for our products may be impacted by the development of other
technologies that enable the provisioning of broadband access services and the
deployment of services over other media. Widespread acceptance of other
technologies or deployment of services over media not supported by our products
could materially limit acceptance of our broadband access systems. Broadband
access services based on our products and technology may fail to gain widespread
commercial acceptance by providers of broadband access services and end users.
In addition, we only recently began to offer products based on alternate
technologies such as DSL. We may not be successful in marketing and selling
these products.

We Need to Develop Additional Distribution Channels.

We presently market our TeraComm system to cable operators and systems
integrators. We believe that much of the North American cable modem market may
shift to a retail distribution model. Accordingly, we may need to redirect our
future marketing efforts to sell our cable modems directly to retail
distributors and end users. This shift would require us to establish new
distribution channels for our products.

We May Be Unable to Establish These Additional Distribution Channels.

If we do establish them, we may be unable to hire the additional personnel
necessary to foster and enhance such distribution channels. In addition, if the
cable modem market shifts to a retail distribution model, we may not
successfully establish a retail distribution presence. To the extent that large
consumer electronics companies enter the cable modem market, their well-
established retail distribution capabilities would provide them with a
significant competitive advantage. We may be unable to market effectively to
broadband access service providers. Our growth and future success will be
substantially dependent upon our ability to convince providers of broadband
access services to adopt our technologies, purchase our products and effectively
market our products to end users. Our potential customers are likely to prefer
purchasing products from established manufacturing companies that can
demonstrate the capability to supply large volumes of products on short notice.
In addition, many of our potential customers may be reluctant to adopt
technologies that have not gained acceptance among other providers of similar
services. This reluctance could result in lengthy product testing and
acceptance cycles for our products. Consequently, the impediments to our
initial sales may be even greater than those to later sales.

No established distribution network in the cable modem industry exists that
would provide us with easy access to smaller or geographically diverse cable
operators. Therefore, our initial sales to larger, more established cable
operators are critical to our business. Although we intend to establish
strategic relationships with leading distributors worldwide, we may not succeed
in establishing these relationships. Even if we do establish these
relationships, the distributors may not succeed in marketing our products to
cable operators. Some of our competitors have already established relationships
with certain cable operators. These established relationships may further limit
our ability to sell products to those cable operators. We do not have long,
well-established relationships with those cable operators. If we were to sell
our products to those cable operators, it would likely not be based on long-term
contracts and those customers would be able to terminate their relationships
with us at any time.

In addition, one or more of our current customers could cancel its
relationship with us at any time. We have recently begun marketing and selling
our products to providers of DSL and wireless broadband services and thus we
have very limited experience. We do not have long, well-established
relationships with these providers, and we may not be successful in establishing
these relationships.

We Are Dependent on Broadband Service Providers Choosing to Offer Additional
Services to Their Customers.

We depend on cable operators to purchase our cable modem systems and to
provide our cable modems to end users. Cable operators have a limited amount of
available bandwidth over which they can offer robust data services, and they may
not choose to provide these data services to their customers. If cable
operators choose to provide these services, we also will depend upon them to
market these services to cable customers, to install our equipment and to
provide support to end users. In addition, we will be highly dependent on cable
operators to continue to maintain their cable infrastructure in a manner that
allows us to provide consistently high performance and reliable services. Our
success also will depend upon the acceptance of our products by other providers
of services to the cable industry, such as Excite@Home's @Home Network and Road
Runner, a joint venture between MediaOne Group, Inc. and Time Warner Cable.
Sales of our DSL and wireless products are also dependent on service providers
choosing to purchase our products and to provide additional services to their
end users.

Sales of Our Cable Products Are Dependent on the Cable Industry Upgrading to
Two-Way Cable Infrastructure.

Demand for our products will depend, to a significant degree, upon the
magnitude and timing of capital spending by cable operators for implementation
of access systems for data transmission over cable networks. This involves the
enabling of two-way transmission over existing coaxial cable networks and the
eventual upgrade to HFC in areas of higher penetration of data services. If
cable operators fail to complete these upgrades of their cable infrastructures
in a timely and satisfactory manner, the market for our products could be
limited. In addition, few businesses in the United States currently have cable
access. Cable operators may not choose to upgrade existing residential cable
systems or to install new cable systems to serve business locations.

The success and future growth of our business will be subject to economic
and other factors affecting the cable television industry generally,
particularly its ability to finance substantial capital expenditures. Capital
spending levels in the cable industry in the United States have fluctuated
significantly in the past, and we believe that such fluctuations will occur in
the future. The capital spending patterns of cable operators are dependent on a
variety of factors, including the following:

. the availability of financing;

. cable operators' annual budget cycles, as well as the typical
reduction in upgrade projects during the winter months;

. the status of federal, local and foreign government regulation and
deregulation of the telecommunications industry;

. overall demand for cable services;

. competitive pressures (including the availability of alternative data
transmission and access technologies);

. discretionary consumer spending patterns; and

. general economic conditions.

In recent periods, the United States cable market has been characterized by
the acquisition of smaller and independent cable operators by large cable
operators. We cannot predict the effect, if any, that consolidation in the

United States cable industry will have on overall capital spending patterns by
cable operators. The effect on our business of further industry consolidation
also is uncertain.

Supply of Our Products May Be Limited by Our Ability to Forecast Demand
Accurately.

The emerging nature of the broadband access services market makes it
difficult for us to accurately forecast demand for our products. Our inability
to accurately forecast the actual demand for our products could result in
supply, manufacturing or testing capacity constraints. These constraints could
result in delays in the delivery of our products or the loss of existing or
potential customers, either of which could have a negative impact on our
business, operating results or financial condition. In addition, we had
unconditional purchase obligations of approximately $300,100,000 as of September
30, 2000, primarily to purchase minimum quantities of materials and components
used to manufacture our products. We must fulfill these obligations even if
demand for our products is lower than we anticipate.

We Are Dependent on Key Third-Party Suppliers.

We manufacture all of our products using components or subassemblies
procured from third-party suppliers. Some of these components are available from
a single source and others are available from limited sources. All of our sales
are from products containing one or more components that are available only from
single supply sources. In addition, some of the components are custom parts
produced to our specifications. For example, we currently rely on Philips
Semiconductors, Inc. to supply a custom ASIC that is used in our products. Other
components, such as the radio frequency tuner and some surface acoustic wave
filters, are procured from sole source suppliers. Any interruption in the
operations of vendors of sole source parts could adversely affect our ability to
meet our scheduled product deliveries to customers. We are dependent on
semiconductor manufacturers and are affected by worldwide conditions in the
semiconductor market. If we are unable to obtain a sufficient supply of
components from our current sources, we could experience difficulties in
obtaining alternative sources or in altering product designs to use alternative
components. Resulting delays or reductions in product shipments could damage
customer relationships. Further, a significant increase in the price of one or
more of these components could harm our gross margin or operating results.

Shortages in Supplies of Components May Impair Our Ability to Meet Customer
Demands.

Due to increasing demand for electronic and communications equipment, the
worldwide market for component parts is currently constrained. Delays in key
component or product deliveries may occur due to shortages resulting from a
limited number of suppliers, the financial or other difficulties of such
suppliers or a limitation in component product availability. Due to these
current market conditions, we face the risk of possible shortages of certain key
components that could result in product performance shortfalls and reduced
control over or delay in delivery schedules, manufacturing capability, quality
and costs, all of which could impair our ability to produce enough product to
meet our customer demand. In addition, in order to fulfill demand for our
products, we may have to purchase these components on the spot market at a price
that may be higher than we have experienced in the past.

Although we work closely with our suppliers to avoid these types of
shortages, there can be no assurance that we will not encounter these problems
in the future. While our suppliers have performed effectively and been
relatively flexible to date, we believe that we will be faced with the following
challenges going forward:

. new markets in which we participate may grow quickly and consume
component capacity; and

. as we continue to acquire companies and new technologies, we are
dependent, at least initially, on unfamiliar supply chains or
relatively small supply partners.

Manufacturing capacity and component supply constraints could be
significant issues for us. If we were unable to obtain adequate quantities of
significant component materials on a timely basis, our business and our customer
relationships would be adversely affected. If we are unable to satisfy our
customers' demand, our customers could decide to purchase products from our
competitors. Inability to meet demand, or a decision by one or more of our
customers to purchase from our competitors, could harm our operating results.

10.

We May Be Unable to Migrate to New Semiconductor Process Technologies
Successfully or on a Timely Basis.

Our future success will depend in part upon our ability to develop products
that utilize new semiconductor process technologies. These technologies change
rapidly and require us to spend significant amounts on research and development.
We continuously evaluate the benefits of redesigning our integrated circuits
using smaller geometry process technologies to improve performance and reduce
costs. The transition of our products to integrated circuits with increasingly
smaller geometries will be important to our competitive position. Other
companies have experienced difficulty in migrating to new semiconductor
processes and, consequently, have suffered reduced yields, delays in product
deliveries and increased expense levels. Moreover, we depend on our
relationship with our third-party manufacturers to migrate to smaller geometry
processes successfully.

Our Ability to Directly Control Product Delivery Schedules and Product Quality
Is Dependent on Third-Party Contract Manufacturers.

Most of our products are assembled and tested by contract manufacturers
using testing equipment that we provide. As a result of our dependence on these
contract manufacturers for assembly and testing of our products, we do not
directly control product delivery schedules or product quality. Any product
shortages or quality assurance problems could increase the costs of manufacture,
assembly or testing of our products. In addition, as manufacturing volume
increases, we will need to procure and assemble additional testing equipment and
provide it to our contract manufacturers. The production and assembly of testing
equipment typically requires significant time. We could experience significant
delays in the shipment of our products if we are unable to provide this testing
equipment to our contract manufacturers in a timely manner.

There Are Many Risks Associated with International Operations.

Sales to customers outside of the United States accounted for approximately
84% of our revenues in 1999 and approximately 74% of our revenues in 1998. We
expect sales to customers outside of the United States to continue to represent
a significant percentage of our revenues for the foreseeable future.
International sales are subject to a number of risks, including the following:

. changes in foreign government regulations and communications
standards;

. export license requirements, tariffs and taxes;

. other trade barriers;

. difficulty in protecting intellectual property;

. difficulty in collecting accounts receivable;

. difficulty in managing foreign operations; and

. political and economic instability.

If our customers are affected by currency devaluations or general economic
crises, such as the recent economic crisis affecting many Asian and Latin
American economies, their ability to purchase our products could be reduced
significantly. Payment cycles for international customers typically are longer
than those for customers in the United States. Foreign markets for our products
may develop more slowly than currently anticipated. Foreign countries may
decide not to construct cable infrastructure or may prohibit, terminate or delay
the construction of new cable plants for a variety of reasons. These reasons
include environmental issues, economic downturns, the availability of favorable
pricing for other communications services or the availability and cost of
related equipment. Any action like this by foreign countries would reduce the
market for our products.

11.

We anticipate that our foreign sales generally will be invoiced in U.S.
dollars, and we currently do not plan to engage in foreign currency hedging
transactions. However, as we commence and expand our international operations,
we may be paid in foreign currencies and exposure to losses in foreign currency
transactions may increase. We may choose to limit our exposure by the purchase
of forward foreign exchange contracts or through similar hedging strategies. No
currency hedging strategy can fully protect against exchange-related losses. In
addition, if the relative value of the U.S. dollar in comparison to the currency
of our foreign customers should increase, the resulting effective price increase
of our products to those foreign customers could result in decreased sales.

We May Be Unable to Provide Adequate Customer Support.

Our ability to achieve our planned sales growth and retain current and
future customers will depend in part upon the quality of our customer support
operations. Our customers generally require significant support and training
with respect to our broadband access systems, particularly in the initial
deployment and implementation stages. To date our sales have been concentrated
in a small number of customers. We have limited experience with widespread
deployment of our products to a diverse customer base. We may not have adequate
personnel to provide the levels of support that our customers may require during
initial product deployment or on an ongoing basis. Our inability to provide
sufficient support to our customers could delay or prevent the successful
deployment of our products. In addition, our failure to provide adequate support
could harm our reputation and relationship with our customers and could prevent
us from gaining new customers.

Our Industry Is Highly Competitive with Many Established Competitors.

The market for broadband access systems is extremely competitive and is
characterized by rapid technological change. Our direct competitors in the
cable access systems arena include Cisco Systems, Com21, General Instrument,
Matsushita Electric Industrial (which markets products under the brand name
"Panasonic"), Motorola, Nortel Networks, Vyyo, Thomson Consumer Electronics
(which markets products under the brand name "RCA"), Samsung, Scientific-
Atlanta, Sony, 3Com, Toshiba and Zenith Electronics. We also compete with
companies that develop integrated circuits for broadband access products, such
as Broadcom, Conexant and Texas Instruments. We also sell products that compete
with existing data access and transmission systems utilizing the
telecommunications networks, such as those of 3Com. Additionally, our
controller and headend system products face intense competition from well-
established companies such as Cisco, Nortel and 3Com. In addition, we compete
with companies in the DSL arena such as ECI, Charles Industries, Pairgain,
Copper Mountain, Accelerated Networks, Integral Access and VINA Technologies.
As standards, such as DOCSIS, are developed for broadband access systems, other
companies may enter the broadband access systems market. The principal
competitive factors in our market include the following:

. product performance, features and reliability; price;

. size and stability of operations;

. breadth of product line;

. sales and distribution capability;

. technical support and service;

. relationships with providers of broadband access services; and

. compliance with industry standards.

Some of these factors are outside of our control. The existing conditions
in the broadband access market could change rapidly and significantly as a
result of technological advancements. The development and market acceptance of
alternative technologies could decrease the demand for our products or render
them obsolete. Our

12.

competitors may introduce broadband access products that are less costly,
provide superior performance or achieve greater market acceptance than our
products.

Many of our current and potential competitors have significantly greater
financial, technical, marketing, distribution, customer support and other
resources, as well as greater name recognition and access to customers than we
do. The anticipated widespread adoption of DOCSIS and other industry standards
is likely to cause increased worldwide price competition, particularly in the
North American market. The adoption of DOCSIS and these other standards also
could result in lower sales of our TeraComm system, including the higher margin
headend products. Any increased price competition or reduction in sales of our
headend products would result in downward pressure on our gross margin. We
cannot accurately predict how the competitive pressures that we face will affect
our business.

Our Business Is Dependent on the Internet and the Development of the Internet
Infrastructure.

Our success will depend in large part on increased use of the Internet to
increase the need for high speed broadband access networks. Critical issues
concerning the commercial use of the Internet remain largely unresolved and are
likely to affect the development of the market for our products. These issues
include security, reliability, cost, ease of access and quality of service. Our
success also will depend on the growth of the use of the Internet by businesses,
particularly for applications that utilize multimedia content and thus require
high bandwidth. The recent growth in the use of the Internet has caused
frequent periods of performance degradation. This has required the upgrade of
routers, telecommunications links and other components forming the
infrastructure of the Internet by Internet service providers and other
organizations with links to the Internet. Any perceived degradation in the
performance of the Internet as a whole could undermine the benefits of our
products. Potentially increased performance provided by our products and the
products of others ultimately is limited by and reliant upon the speed and
reliability of the Internet backbone itself. Consequently, the emergence and
growth of the market for our products will depend on improvements being made to
the entire Internet infrastructure to alleviate overloading and congestion.

Our Failure to Manage Growth Could Adversely Affect Us.

The growth of our business has placed, and is expected to continue to
place, a significant strain on our limited personnel, management and other
resources. Our management, personnel, systems, procedures and controls may be
inadequate to support our existing and future operations. To manage any future
growth effectively, we will need to attract, train, motivate, manage and retain
employees successfully, to integrate new employees into our overall operations
and to continue to improve our operational, financial and management systems.

We Are Dependent on Key Personnel.

Due to the specialized nature of our business, we are highly dependent on
the continued service of, and on the ability to attract and retain qualified
engineering, sales, marketing and senior management personnel. The competition
for personnel is intense. The loss of any of these individuals, particularly our
Chairman, President and Chief Technical Officer, Shlomo Rakib, and our Chief
Executive Officer, Zaki Rakib, would harm our business. In addition, if we are
unable to hire additional qualified personnel as needed, we may be unable to
adequately manage and complete our existing sales commitments and to bid for and
execute additional sales. Further, we must train and manage our growing employee
base, which is likely to require increased levels of responsibility for both
existing and new management personnel. Our current management personnel and
systems may be inadequate, and we may fail to assimilate new employees
successfully.

Highly skilled employees with the education and training that we require,
especially employees with significant experience and expertise in both data
networking and radio frequency design, are in high demand. We may not be able
to continue to attract and retain the qualified personnel necessary for the
development of our business. We do not have "key person" insurance coverage for
the loss of any of our employees. Any officer or employee of our company can
terminate his or her relationship with us at any time. Our employees generally
are not bound by non-competition agreements with us.

13.

Our Business Is Subject to the Risks of Product Returns, Product Liability and
Product Defects.

Products as complex as ours frequently contain undetected errors or
failures, especially when first introduced or when new versions are released.
Despite testing, errors may occur. The occurrence of errors could result in
product returns and other losses to our company or our customers. This
occurrence also could result in the loss of or delay in market acceptance of our
products. Due to the recent introduction of our products, we have limited
experience with the problems that could arise with this generation of products.
However, the limitation of liability provision contained in our purchase
agreements may not be effective as a result of federal, state or local laws or
ordinances or unfavorable judicial decisions in the United States or other
countries. We have not experienced any product liability claims to date, but the
sale and support of our products entails the risk of such claims. In addition,
any failure by our products to properly perform could result in claims against
us by our customers. We maintain insurance to protect against certain claims
associated with the use of our products, but our insurance coverage may not
adequately cover any claim asserted against us. In addition, even claims that
ultimately are unsuccessful could result in our expenditure of funds in
litigation and management time and resources.

We May Be Unable to Adequately Protect or Enforce Our Intellectual Property
Rights.

We rely on a combination of patent, trade secret, copyright and trademark
laws and contractual restrictions to establish and protect proprietary rights in
our products. Our pending patent applications may not be granted. Even if they
are granted, the claims covered by the patents may be reduced from those
included in our applications. Any patent might be subject to challenge in court
and, whether or not challenged, might not be broad enough to prevent third
parties from developing equivalent technologies or products without taking a
license from us. We have entered into confidentiality and invention assignment
agreements with our employees, and we enter into non-disclosure agreements with
some of our suppliers, distributors and appropriate customers so as to limit
access to and disclosure of our proprietary information. These statutory and
contractual arrangements may not prove sufficient to prevent misappropriation of
our technology or to deter independent third-party development of similar
technologies. In addition, the laws of some foreign countries might not protect
our products or intellectual property rights to the same extent as do the laws
of the United States. Protection of our intellectual property might not be
available in every country in which our products might be manufactured, marketed
or sold.

In November 1998, CableLabs selected us to co-author DOCSIS 1.2, an
enhanced version of the DOCSIS cable modem specification based in part on our S-
CDMA technology. In September 1999, CableLabs indicated that it intended to
proceed with the advanced PHY work on two parallel tracks: one for the
development of a prototype based on our S-CDMA technology and one for the
inclusion of Advanced TDMA technology, as proposed by other companies. In
February 2000, CableLabs further clarified the status of the advanced PHY
project regarding a separate release that will include TDMA technologies. In
addition, CableLabs reiterated that it is continuing to work with us on the
development of a DOCSIS specification that could include our S-CDMA technology.
To that end, we have indicated to CableLabs that we would contribute some
aspects of our S-CDMA technology to the DOCSIS intellectual property pool if and
when a DOCSIS specification is approved that includes our S-CDMA technology.

We would contribute our technology pursuant to a license agreement with
CableLabs that we would execute at that time, and which contains the terms that
CableLabs has established for the inclusion of any intellectual property from
any source in the DOCSIS specifications. Under the terms of the proposed
license agreement, we would grant to CableLabs a royalty-free license for those
aspects of our S-CDMA technology that are essential for compliance with the
DOCSIS cable modem standard. So-called "implementation know how" is not covered
by this license-only those aspects of the technology that are essential to
implementing a compliant product. CableLabs would have the right to extend
royalty-free sublicenses to companies that wish to build DOCSIS-compatible
products. These sublicenses would allow participating companies to utilize and
incorporate the essential portions of the S-CDMA technology on a royalty-free
basis for the limited use of making and selling products or systems that comply
with the DOCSIS cable modem specification. We have already joined the DOCSIS
intellectual property pool and, as a result, we have a royalty-free sublicense
that allows us to ship DOCSIS-compatible products which contain intellectual
property submitted by other companies. The scope of this license would not
extend to the use of the S-CDMA technology in other areas; only for products
that comply with the DOCSIS specifications. As a result, any of our competitors
who join or have joined the DOCSIS intellectual property pool will have access
to some aspects of our technology without being required to pay us any royalties
or other compensation. If and when we submit S-CDMA to the DOCSIS Intellectual
Property pool, we are in no way restricted from entering into royalty-bearing

14.

license agreements with companies that wish to use the S-CDMA technology for
purposes other than implementing DOCSIS compatible products, or that do not wish
to enter into the DOCSIS intellectual property pool. Further, some of our
competitors have been successful in reverse engineering the technology of other
companies, and the inclusion of S-CDMA in a future DOCSIS specification would
expose some aspects of our technology to those competitors. DOCSIS
specifications are available on an open basis once they are approved, not only
to companies that are members of the DOCSIS IP Pool. If a competitor is able to
duplicate the functionality and capabilities of our technology, we could lose
all or some of the time-to-market advantage we might otherwise have. Under the
terms of the proposed license agreement, if we sue certain parties to the
proposed license agreement on claims of infringement of any copyright or patent
right or misappropriation of any trade secret, those parties may terminate our
license to the patents or copyrights they contributed to the DOCSIS intellectual
property pool. If a termination like this were to occur, we would continue to
have access to some aspects of the DOCSIS intellectual property pool, but we
would not be able to develop products that fully comply with the DOCSIS cable
modem specification. Also, even if we were to be removed from the IP pool, we
would not be prevented from developing and selling products that fully comply
with the DOCSIS specifications, but we would not be able to do this with the
benefit of a royalty-free license, which would increase the cost of our
products, assuming we were able to obtain a license agreement for the required
technology. Because of these terms, we may find it difficult to enforce our
intellectual property rights against certain companies, even in areas that are
not directly related to DOCSIS specifications and products.

We anticipate that developers of cable modems increasingly will be subject
to infringement claims as the number of products and competitors in our industry
segment grows. We have received letters from two individuals claiming that our
technology infringes patents held by these individuals. We have reviewed the
allegations made by these individuals and, after consulting with our patent
counsel, we do not believe that our technology infringes any valid claim of
these individuals' patents. If the issues are submitted to a court, the court
could find that our products infringe these patents. In addition, these
individuals may continue to assert infringement. If we are found to have
infringed these individuals' patents, we could be subject to substantial damages
and/or an injunction preventing us from conducting our business. In addition,
other third parties may assert infringement claims against us in the future. An
infringement claim, whether meritorious or not, could be time-consuming, result
in costly litigation, cause product shipment delays or require us to enter into
royalty or licensing agreements. These royalty or licensing agreements may not
be available on terms acceptable to us or at all. Litigation also may be
necessary to enforce our intellectual property rights.

We pursue the registration of our trademarks in the United States and have
applications pending to register several of our trademarks. However, the laws
of certain foreign countries might not protect our products or intellectual
property rights to the same extent as the laws of the United States. This means
that effective trademark, copyright, trade secret and patent protection might
not be available in every country in which our products might be manufactured,
marketed or sold.

Our Business Is Subject to Communications Industry Regulations.

Our business and our customers are subject to varying degrees of federal,
state and local regulation. The jurisdiction of the Federal Communications
Commission extends to the communications industry, including our broadband
access products. The FCC has promulgated regulations that, among other things,
set installation and equipment standards for communications systems. Although
FCC regulations and other governmental regulations have not materially
restricted our operations to date, future regulations applicable to our business
or our customers could be adopted by the FCC or other regulatory bodies. For
example, FCC regulatory policies affecting the availability of cable services
and other terms on which cable companies conduct their business may impede our
penetration of certain markets. In addition, regulation of cable television
rates may affect the speed at which cable operators upgrade their cable
infrastructures to two-way HFC. In addition, the increasing demand for
communications systems has exerted pressure on regulatory bodies worldwide to
adopt new standards for such products and services. This process generally
involves extensive investigation of and deliberation over competing
technologies. The delays inherent in this governmental approval process have in
the past, and may in the future, cause the cancellation, postponement or
rescheduling of the installation of communications systems by our customers.

If other countries begin to regulate the cable modem industry more heavily
or introduce standards or specifications with which our products do not comply,
we will be unable to offer products in those countries until

15.

our products comply with those standards or specifications. In addition, we may
have to incur substantial costs to comply with those standards or
specifications. For instance, should the Digital Audio Visual Counsel ("DAVIC")
standards for ATM-based digital video be established internationally, we will
need to conform our cable modems to compete. Further, many countries do not have
regulations for installation of cable modem systems or for upgrading existing
cable network systems to accommodate our products. Whether we currently operate
in a country without these regulations or enter into the market in a country
where these regulations do not exist, new regulations could be proposed at any
time. The imposition of regulations like this could place limitations on a
country's cable operators' ability to upgrade to support our products. Cable
operators in these countries may not be able to comply with these regulations,
and compliance with these regulations may require a long, costly process. For
example, we experienced delays in product shipments to a customer in Brazil due
to delays in certain regulatory approvals in Brazil. Similar delays could occur
in other countries in which we market or plan to market our products. In
addition, our customers in certain parts of Asia, such as Japan, are required to
obtain licenses prior to selling our products, and delays in obtaining required
licenses could harm our ability to sell products to these customers.

Our Business Is Subject to Other Regulatory Approvals and Certifications.

In the United States, in addition to complying with FCC regulations, our
products are required to meet certain safety requirements. For example, we are
required to have our products certified by Underwriters Laboratory in order to
meet federal requirements relating to electrical appliances to be used inside
the home. Outside the United States, our products are subject to the regulatory
requirements of each country in which the products are manufactured or sold.
These requirements are likely to vary widely. We may be unable to obtain on a
timely basis or at all the regulatory approvals that may be required for the
manufacture, marketing and sale of our products. In addition to regulatory
compliance, some cable industry participants may require certification of
compatibility.

We Are Vulnerable to Earthquakes and Other Natural Disasters.

The facility housing our corporate headquarters, the majority of our
research and development activities and our in-house manufacturing operations is
located in an area of California known for seismic activity. In addition, the
operations of some of our key suppliers are also located in this area and in
other areas know for seismic activity, such as Taiwan. An earthquake, or other
significant natural disaster, could result in an interruption in our business or
that of one or more of our key suppliers. Such an interruption could harm our
operating results.

Our Indebtedness Could Adversely Affect our Financial Condition; We May Incur
Substantially More Debt.

After issuing the Convertible Notes, we had approximately $500.9 million of
indebtedness outstanding. Our high level of indebtedness could have important
consequences to you. For example, it could:

. make it more difficult for us to satisfy our obligations with respect
to our indebtedness;

. increase our vulnerability to general adverse economic and industry
conditions;

. limit our ability to obtain additional financing;

. require the dedication of a substantial portion of our cash flow from
operations to the payment of principal of, and interest on, our
indebtedness, thereby reducing the availability of such cash flow to
fund our growth strategy, working capital, capital expenditures and
other general corporate purposes;

. limit our flexibility in planning for, or reacting to, changes in our
business and the industry; and

. place us at a competitive disadvantage relative to our competitors
with less debt.

We may incur substantial additional debt in the future. The terms of our
outstanding debt do not fully prohibit us from doing so. If new debt is added
to our current levels, the related risks described above could intensify.

16.

Our Stock Price Has Been and Is Likely to Continue To Be Volatile.

The trading price of our common stock has been and is likely to be highly
volatile. Our stock price could be subject to wide fluctuations in response to
a variety of factors, including the following:

. actual or anticipated variations in quarterly operating results;

. announcements of technological innovations;

. new products or services offered by us or our competitors;

. changes in financial estimates by securities analysts;

. conditions or trends in the broadband access services industry;

. changes in the economic performance and/or market valuations of
Internet, online service or broadband access service industries;

. changes in the economic performance and/or market valuations of other
Internet, online service or broadband access service companies;

. our announcement of significant acquisitions, strategic partnerships,
joint ventures or capital commitments;

. adoption of industry standards and the inclusion of or compatibility
of our technology with such standards;

. adverse or unfavorable publicity regarding us or our products;

. additions or departures of key personnel;

. sales of common stock; and

. other events or factors that may be beyond our control.

In addition, the stock markets in general, and the Nasdaq National Market
and the market for broadband access services and technology companies in
particular, have experienced extreme price and volume volatility and a
significant cumulative decline in recent weeks and months. This volatility and
decline has affected many companies irrespective of or disproportionately to the
operating performance of these companies. Our stock price has declined
significantly in recent weeks and months and these broad market and industry
factors may materially adversely further affect the market price of our common
stock, regardless of our actual operating performance.

On April 13, 2000, a lawsuit against us and certain of our officers and
directors, entitled Birnbaum v. Terayon Comm. Systems, Inc., was filed in the
United States District Court for the Central District of California. The
plaintiff purports to be suing on behalf of a class of stockholders who
purchased or committed to purchase our securities during the period from
February 2, 2000 to April 11, 2000. The complaint alleges that the defendants
violated the federal securities laws by issuing materially false and misleading
statements and failing to disclose material information regarding our
technology. Several other lawsuits similar to the Birnbaum suit have since been
filed. The lawsuits seek an unspecified amount of damages, in addition to other
forms of relief. On August 24, 2000, the lawsuits against us and other named
individual defendants were consolidated in the U.S. District Court of the
Northern District of California and lead plaintiffs and plaintiffs' counsel was
appointed pursuant to the private securities litigation Reform Act. On
September 21, 2000, plaintiffs filed a Consolidated Class Action Complaint for
violation of federal securities laws. The consolidated complaint contains
allegations nearly identical to the Birnbaum suit. Defendants filed a motion to
dismiss the consolidated complaint on October 30, 2000, and plaintiffs filed an
opposition. Defendants filed a reply in support of their motion to dismiss on
December 22, 2000. The

17.

hearing on this motion is currently scheduled for January 8, 2001. We consider
the lawsuits to be without merit and we intend to defend vigorously against
these allegations.

USE OF PROCEEDS

We will not receive any of the proceeds from the sale of the shares of
common stock offered by the selling stockholders.

DIVIDEND POLICY

We have never declared or paid any cash dividends on our capital stock. We
intend to retain any future earnings to support operations and to finance the
growth and development of our business and we do not anticipate paying cash
dividends for the foreseeable future.

WHERE YOU CAN GET MORE INFORMATION

We are a reporting company and file annual, quarterly and current reports,
proxy statements and other information with the SEC. You may read and copy
these reports, proxy statements and other information at the SEC's public
reference rooms at Room 1024, 450 Fifth Street, N.W., Washington, D.C., as well
as at the SEC's regional offices at 500 West Madison Street, Suite 1400,
Chicago, Illinois 60661 and 7 World Trade Center, Suite 1300, New York, NY
10048. You can request copies of these documents by writing to the SEC and
paying a fee for the copying cost. Please call the SEC at 1-800-SEC-0330 for
more information about the operation of the public reference rooms. Our SEC
filings are also available at the SEC's web site at "http://www.sec.gov." In
addition, you can read and copy our SEC filings at the office of the National
Association of Securities Dealers, Inc. at 1735 "K" Street, Washington, D.C.
20006.

The SEC allows us to "incorporate by reference" information that we file
with them, which means that we can disclose important information to you by
referring you to those documents. The information incorporated by reference is
an important part of this prospectus, and information that we file later with
the SEC will automatically update and supersede this information. We incorporate
by reference the documents listed below and any future filings we will make with
the SEC under Section 13(a), 13(c), 14 or 15(d) of the Securities Exchange Act
of 1934:

. Annual Report on Form 10-K for the year ended December 31, 1999, as
amended on Form 10-K/A filed on April 28, 2000;

. Quarterly Report on Form 10-Q for the quarter ended March 30, 2000;

. Quarterly Report on Form 10-Q for the quarter ended June 30, 2000;

. Quarterly Report on Form 10-Q for the quarter ended September 30,
2000, as amended on Form 10-Q/A filed on November 15, 2000;

. Current Report on Form 8-K filed on May 3, 2000, as amended on Form
8-K/A on May 8, 2000 and as amended on Form 8-K/A on June 29, 2000;

. Current Report on Form 8-K filed on July 18, 2000;

. Current Report on Form 8-K filed on October 5, 2000, as amended on
Form 8-K/A filed on October 18, 2000;

. Current Report on Form 8-K filed on October 23, 2000;

. Current Report on Form 8-K filed on January 9, 2001; and

18.

. The description of the common stock contained in our Registration
Statement on Form 8-A, as filed on July 20, 1998 with the SEC.

You may request a copy of these filings at no cost, by writing or
telephoning us at the following address:

Terayon Communication Systems, Inc.
2952 Bunker Hill Lane
Santa Clara, CA 95054
(408) 727-4400

This prospectus is part of a Registration Statement we filed with the SEC.
You should rely only on the information incorporated by reference or provided in
this prospectus and the Registration Statement. We have authorized no one to
provide you with different information. You should not assume that the
information in this prospectus is accurate as of any date other than the date on
the front of the document.

19.

SELLING STOCKHOLDERS

In our acquisition of TrueChat, Inc. which we consummated in December 2000,
we issued to all of the selling stockholders shares of our common stock, and we
agreed to register all of those shares for resale. We also agreed to use
reasonable efforts to keep the registration statement effective until December
22, 2001. Our registration of the shares of common stock does not necessarily
mean that the selling stockholders will sell all or any of the shares.

The following table sets forth certain information regarding the beneficial
ownership of the common stock, as of January 12, 2001, by each of the selling
stockholders.

The information provided in the table below with respect to each selling
stockholder has been obtained from that selling stockholder. Except as
otherwise disclosed below, none of the selling stockholders has, or within the
past three years has had, any position, office or other material relationship
with us. Because the selling stockholders may sell all or some portion of the
shares of common stock beneficially owned by them, we cannot estimate the number
of shares of common stock that will be beneficially owned by the selling
stockholders after this offering. In addition, the selling stockholders may
have sold, transferred or otherwise disposed of, or may sell, transfer or
otherwise dispose of, at any time or from time to time since the date on which
they provided the information regarding the shares of common stock beneficially
owned by them, all or a portion of the shares of common stock beneficially owned
by them in transactions exempt from the registration requirements of the
Securities Act of 1933.

Beneficial ownership is determined in accordance with Rule 13d-3(d)
promulgated by the Commission under the Securities Exchange Act of 1934. Unless
otherwise noted, each person or group identified possesses sole voting and
investment power with respect to shares, subject to community property laws
where applicable. None of the share amounts set forth below represents more
than 1% of our outstanding stock as of January 12, 2001 adjusted as required by
rules promulgated by the SEC.

Number of Shares Being Shares Held in
Selling Stockholder Shares Offered Escrow
-------------------------------------- -------------------- -------------------- -----------------------

William Schleyer 80,746 80,746 8,172
David Fellows 80,933 80,933 8,191
YAS Corporation 80,975 80,975 8,195
P. Eric Krauss 18,910 18,910 1,914
Frank Christofferson 74,452 74,452 49,566
Edward Miller 52,617 52,617 4,775
Laurie Priddy 20,641 20,641 2,089
Eric Kirsten 20,641 20,641 2,089
So Vang 11,795 11,795 1,194
Jeffrey Turner 36,012 36,012 20,652
Gregory Leibold 19,245 19,245 10,326
Carl Christofferson 13,518 13,518 6,195
Ronald Cooper 2,730 2,730 276
CableLabs** 5,897 5,897 0
Arlis Dodson 5,438 5,438 0
Jeffrey George 4,901 4,901 0
Brenda Roth 2,562 2,562 0
Elizabeth Weeks 1,894 1,894 0
TWB Investment Partenership 580 580 0

* 49,428 shares of our common stock are held in the name of Embassy & Co.
pursuant to an Indemnification Escrow Agreement with William Schleyer, David
Fellows, YAS Corporation, Frank Christofferson, Edward Miller, P. Eric Krauss,
Laurie Priddy, Eric Kirsten, So Vang, Jeffrey Turner, Gregory Leibold, Carl
Christofferson and Ronald Cooper. 74,206 shares of our common stock are held in
the name of Embassy & Co. pursuant to a Retention Escrow Agreement with Frank
Christofferson, Jeffrey Turner, Gregory Leibold and Carl Christofferson.

20.

** CableLabs has a material relationship with us. Our relationship with
CableLabs is described in the Risk Factor titled "There Are Many Risks
Associated with Our Participation in the Establishment of Advanced Physical
Layer Specifications to Be Added to DOCSIS" on page 5.

21.

PLAN OF DISTRIBUTION

The shares of common stock may be sold from time to time by the selling
stockholders in one or more transactions at fixed prices, at market prices at
the time of sale, at varying prices determined at the time of sale or at
negotiated prices. As used in this prospectus, "selling stockholders" includes
donees, pledgees, transferees and other successors in interest selling shares
received from a selling stockholder after the date of this prospectus as a gift,
pledge, partnership distribution or other non-sale transfer. Upon receiving
notice from a selling stockholder that a donee, pledgee, transferee or other
successor in interest intends to sell more than 500 shares, we will file a
supplement to this prospectus. The selling stockholders may offer their shares
of common stock in one or more of the following transactions:

. on any national securities exchange or quotation service on which the
common stock may be listed or quoted at the time of sale, including
the Nasdaq National Market;

. in the over-the-counter market;

. in private transactions;

. through options;

. by pledge to secure debts and other obligations; or

. a combination of any of the above transactions.

If required, we will distribute a supplement to this prospectus to describe
material changes in the terms of the offering.

The shares of common stock described in this prospectus may be sold from
time to time directly by the selling stockholders. Alternatively, the selling
stockholders may from time to time offer shares of common stock to or through
underwriters, broker/dealers or agents. The selling stockholders and any
underwriters, broker/dealers or agents that participate in the distribution of
the shares of common stock may be deemed to be "underwriters" within the meaning
of the Securities Act of 1933. Any profits on the resale of shares of common
stock and any compensation received by any underwriter, broker/dealer or agent
may be deemed to be underwriting discounts and commissions under the Securities
Act of 1933. We have agreed to indemnify each selling stockholder against
certain liabilities, including liabilities arising under the Securities Act of
1933. The selling stockholders may agree to indemnify any agent, dealer or
broker-dealer that participates in the sale of shares of common stock described
in this prospectus against certain liabilities, including liabilities arising
under the Securities Act of 1933.

Any shares covered by this prospectus that qualify for sale pursuant to
Rule 144 under the Securities Act of 1933 may be sold under Rule 144 rather than
pursuant to this prospectus. The selling stockholders may not sell all of the
shares they hold. The selling stockholders may transfer, devise or gift such
shares by other means not described in this prospectus.

To comply with the securities laws of certain jurisdictions, the common
stock must be offered or sold only through registered or licensed brokers or
dealers. In addition, in certain jurisdictions, the shares of common stock may
not be offered or sold unless they have been registered or qualified for sale or
an exemption is available and complied with.

Under the Securities Exchange Act of 1934, any person engaged in a
distribution of the common stock may not simultaneously engage in market-making
activities with respect to the common stock for five business days prior to the
start of the distribution. In addition, each selling stockholder and any other
person participating in a distribution will be subject to the Securities
Exchange Act of 1934, which may limit the timing of purchases and sales of
common stock by the selling stockholders or any such other person. These
factors may affect the marketability of the common stock and the ability of
brokers or dealers to engage in market-making activities.

22.

All expenses of this registration, estimated at approximately $501.08,
will be paid by us. These expenses include the SEC's filing fees and fees under
state securities or "blue sky" laws.

23.

LEGAL MATTERS

For the purpose of this offering, Cooley Godward LLP, San Francisco,
California, is giving an opinion as to the validity of the common stock offered
by this prospectus.

EXPERTS

Ernst & Young LLP, independent auditors, have audited our consolidated
financial statements and schedule included in our Annual Report on Form 10-K, as
amended on Form 10-K/A, for the year ended December 31, 1999, as set forth in
their reports, which are incorporated by reference in the prospectus and
elsewhere in the registration statement. Our financial statements and schedule
are incorporated by reference in reliance on Ernst & Young LLP's report, given
on their authority as experts in accounting and auditing.

The financial statements of Mainsail Networks, Inc., appearing in Terayon
Communication Systems, Inc.'s Current Report on Form 8-K/A filed October 18,
2000, have been audited by Ernst & Young LLP, independent auditors, as set forth
in their report thereon included therein and incorporated herein by reference.
Mainsail Networks, Inc.'s financial statements included in Terayon Communication
Systems, Inc.'s Current Report on Form 8-K/A filed October 18, 2000 are
incorporated by reference in reliance on Ernst & Young LLP's report, given on
the authority of such firm as experts in accounting and auditing.

The audited historical statements of assets acquired and liabilities
assumed and of net sales and direct costs and operating expenses of the Access
Network Electronics business of Tyco Electronics Corporation as of and for the
year ended June 30, 1999, incorporated in this Registration Statement by
reference to the Current Report on Form 8-K/A of Terayon Communication Systems,
Inc. filed June 29, 2000, have been so incorporated in reliance on the report
(which contains an explanatory paragraph relating to the limited presentation of
such statements, as discussed in Note 2 to the statements) of
PricewaterhouseCoopers LLP, independent accountants, given on the authority of
said firm as experts in auditing and accounting.

Kost, Forer and Gabbay, a member of Ernst and Young International,
independent auditors, have audited the financial statements of Telegate Ltd.
included in Terayon Communication Systems, Inc.'s Current Report on Form 8-K/A
filed June 29, 2000, as set forth in their report, which is incorporated by
reference in this prospectus and elsewhere in the Registration Statement.
Telegate Ltd.'s financial statements included in Terayon Communication Systems,
Inc.'s Current Report on Form 8-K/A filed June 29, 2000 are incorporated by
reference in reliance on Kost, Forer and Gabbay's report, given on their
authority as experts in accounting and auditing.

Kost, Forer and Gabbay, a member of Ernst and Young International,
independent auditors, have audited the consolidated financial statements of
ComBox Ltd. included in Terayon Communication Systems, Inc.'s Current Report on
Form 8-K/A filed June 29, 2000, as set forth in their report, which is
incorporated by reference in this prospectus and elsewhere in the Registration
Statement. ComBox Ltd.'s consolidated financial statements included in Terayon
Communication Systems, Inc.'s Current Report on Form 8-K/A filed June 29, 2000
are incorporated by reference in reliance on Kost, Forer and Gabbay's report,
given on their authority as experts in accounting and auditing.

We have not authorized any dealer, sales person or other person to give any
information or to make any representations other than those contained in this
prospectus or any prospectus supplement. You must not rely on any unauthorized
information. This prospectus is not an offer of these securities in any state
where an offer is not permitted. The information in this prospectus is current
as of January 25, 2001. You should not assume that this prospectus is accurate
as of any other date.

24.

TABLE OF CONTENTS PAGE

Forward-Looking Statements iv
Prospectus Summary 1
Risk Factors 3
Use of Proceeds 18
Dividend Policy 18
Where You Can Find More Information 18
Selling Stockholders 20
Plan of Distribution 22
Legal Matters 24
Experts 24

534,487 SHARES

COMMON STOCK

PROSPECTUS

TERAYON COMMUNICATION
SYSTEMS, INC.

January 25, 2001