10-K/A

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

     

FORM 10-K/A

Amendment No.1
(Amending Item 15 of Part IV)

(Mark One) x	ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
	For the year ended December 31, 2003
	OR
o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
	THE SECURITIES EXCHANGE ACT OF 1934

Commission File No. 0-30821

TELECOMMUNICATION SYSTEMS, INC.

(Exact name of registrant as specified in its charter)

Maryland (State or Other Jurisdiction of Incorporation or Organization	52-1526369 (I.R.S. Employer Identification No.)
275 West Street, Annapolis, MD (Address of principal executive offices)	21401 (Zip Code)

(410) 263-7616
(Registrant’s telephone number, including area code)

     Securities registered pursuant to Section 12(b) of the Act: None.

     Securities registered pursuant to Section 12(g) of the Act: Class A common stock, par value $0.01 per share

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

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

     Indicate by check mark whether the registrant is an accelerated filer, as defined by Securities Exchange Act Rule 12 b-2: Yes o No x

     As of June 30, 2003, the aggregate market value of the Class A common stock held by non-affiliates, as reported on the NASDAQ National Market, was approximately $36,176,088.*

     As of January 31, 2004 there were 23,833,724 shares of Class A common stock and 9,232,918 shares of Class B common stock outstanding.

* Excludes 3,507,613 shares of Class A common stock deemed to be held by officers and directors and stockholders whose ownership exceeds ten percent of the shares outstanding at June 30, 2003. Exclusion of shares held by any person should not be construed to indicate that such person possess the power, direct or indirect, to direct or cause the direction of the management or policies of the registrant, or that such person is controlled by or under common control with the registrant.

DOCUMENTS INCORPORATED BY REFERENCE

     None.

Explanatory Note

     This Amendment No. 1 on Form 10-K/A (the “Amendment”) is being filed to amend Part IV, Item 15 of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2003, filed on February 24, 2004 (the “Original 10-K”). Exhibit 23.1 (Consent of Ernst & Young LLP) to the Original 10-K was incorrect. This Amendment amends and restates Exhibit 23.1 in its entirety. This Amendment does not otherwise alter or amend any exhibits to or disclosures set forth in the Original 10-K. Item 15 of Part IV has been reproduced in its entirety in this Amendment in accordance with the requirements of Rule 12b-15 promulgated under the Securities Exchange Act of 1934, as amended, but this Amendment does not reflect any changes to the financial statements, financial statement schedules or reports on Form 8-K included in the Original 10-K.

Part IV

Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K

Financial Statements

Report of Independent Auditors	F-1
Consolidated Balance Sheets as of December 31, 2003 and 2002	F-2
Consolidated Statements of Operations for each of the three years in the period ended December 31, 2003	F-3
Consolidated Statements of Stockholders’ Equity for each of the three years in the period ended December 31, 2003	F-4
Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 2003	F-5
Notes to Consolidated Financial Statements	F-6

Financial Statement Schedules

     All financial statement schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required pursuant to the instructions to Item 8 or are inapplicable and therefore have been omitted.

Exhibits

     The exhibits are listed in the Exhibit Index immediately preceding the exhibits.

Reports on Form 8-K

     On April 24, 2003, we filed a Form 8-K attaching a press release relating to the Registrant’s financial results for the quarter ended March 31, 2003.

     On July 25, 2003, we filed a Form 8-K attaching a press release relating to the Registrant’s financial results for the quarter ended June 30, 2003.

     On October 23, 2003, we filed a Form 8-K attaching a press release relating to the Registrant’s financial results for the quarter ended September 30, 2003.

     On December 23, 2003, we filed a Form 8-K attaching a press release announcing a definitive purchase agreement to acquire the Enterprise Mobility Solutions business unit of Aether Systems, Inc.

     On January 23, 2004, we filed a Form 8-K attaching a press release announcing that we had consummated the purchase of the Enterprise Mobility Solutions business unit of Aether Systems, Inc.

     On February 12, 2004, we filed a Form 8-K attaching a press release relating to the Registrant’s financial results for the quarter and fiscal year ended December 31, 2003.

2

Report of Independent Auditors

The Board of Directors and Stockholders
TeleCommunication Systems, Inc.

     We have audited the accompanying consolidated balance sheets of TeleCommunication Systems, Inc. as of December 31, 2003 and 2002, and the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2003. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

     We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

     In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of TeleCommunication Systems, Inc. at December 31, 2003 and 2002, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States.

/s/ Ernst & Young LLP

Baltimore, Maryland

January 30, 2004

F-1

TeleCommunication Systems, Inc.

Consolidated Balance Sheets

(amounts in thousands, except share data)

				December 31,			December 31,
				2003			2002
Assets
	Current assets:
		Cash and cash equivalents		$	18,785		$	27,402
		Accounts receivable			20,601			22,911
		Unbilled receivables, less allowance of $393 in 2003 and $360 in 2002			8,469			6,987
		Other current assets			2,366			1,675
			Total current assets		50,221			58,975
	Property and equipment, net of accumulated depreciation and amortization of $20,925 in 2003 and $14,125 in 2002				11,449			11,814
	Software development costs, net of accumulated amortization of $754 in 2003 and $1,347 in 2002				518			7,688
	Other assets				3,092			1,987
			Total assets	$	65,280		$	80,464
Liabilities and stockholders’ equity
	Current liabilities:
		Accounts payable and accrued expenses		$	8,817		$	16,274
		Accrued payroll and related liabilities			3,331			3,395
		Deferred revenue			1,683			2,846
		Current portion of notes payable			5,698			1,767
		Current portion of capital lease obligations			2,154			3,003
			Total current liabilities		21,683			27,285
	Capital lease obligations and notes payable, less current portion				6,746			5,543
	Stockholders’ equity:
		Class A Common Stock; $0.01 par value:
			Authorized shares — 225,000,000; issued and outstanding shares of 22,062,974 in 2003 and 19,632,123 in 2002		221			196
		Class B Common Stock; $0.01 par value:
			Authorized shares — 75,000,000; issued and outstanding shares of 9,363,688 in 2003 and 9,890,960 in 2002		94			99
		Deferred compensation			(1,399	)		—
		Additional paid-in capital			169,256			165,176
		Accumulated deficit			(131,321	)		(117,835	)
			Total stockholders’ equity		36,851			47,636
			Total liabilities and stockholders’ equity	$	65,280		$	80,464

See accompanying Notes to Consolidated Financial Statements.

F-2

TeleCommunication Systems, Inc.

Consolidated Statements of Operations

(amounts in thousands, except per share data)

					Year ended December 31,
					2003			2002			2003
Revenue
	Network software:
		Network software licenses			$	9,164		$	16,552		$	9,059
		Network software services				5,513			10,576			11,424
	Network software total					14,677			27,128			20,483
	Service bureau					34,081			23,881			16,775
	Network solutions					43,307			41,036			32,294
				Total revenue		92,065			92,045			69,552
Operating costs and expenses
	Direct cost of network software					6,458			13,112			9,507
	Direct cost of service bureau					16,231			13,468			6,289
	Direct cost of network solutions					28,492			30,371			24,280
	Research and development					16,932			17,047			18,083
	Sales and marketing					8,917			10,029			13,826
	General and administrative					11,251			12,235			14,325
	Non-cash stock compensation expense					1,501			1,554			2,587
	Depreciation and amortization of property and equipment					6,612			6,156			4,550
	Amortization of software development costs					9,035			4,831			4,946
	Amortization of goodwill and other intangible assets					531			553			9,226
	Write-off of acquired in-process research and development					—			—			9,700
	Impairment of goodwill and other intangible assets					—			—			43,000
			Total operating costs and expenses			105,960			109,356			160,319
Loss from operations						(13,895	)		(17,311	)		(90,767	)
Interest expense						(1,088	)		(897	)		(684	)
Interest and other income, net						1,497			370			1,968
Net loss					$	(13,486	)	$	(17,838	)	$	(89,483	)
Loss per share — basic and diluted					$	(0.45	)	$	(0.61	)	$	(3.16	)
Weighted average shares outstanding — basic and diluted						29,796			29,149			28,297

See accompanying Notes to Consolidated Financial Statements.

F-3

TeleCommunication Systems, Inc.

Consolidated Statements of Stockholders’ Equity

(amounts in thousands, except share data)

	Class A		Class B						Additional
	Common		Common			Deferred			Paid-in		Accumulated
	Stock		Stock			Compensation			Capital		Deficit			Total
Balance at January 1, 2001	$	137	$	108		$	—		$	94,418	$	(10,514	)	$	84,149
Options exercised for the purchase of 510,494 shares of Class A Common Stock		5		—			—			387		—			392
Issuance of 102,699 shares of Class A Common Stock under Employee Stock Purchase Plan		1		—						274					275
Issuance of 3,597,520 shares of Class A Common Stock for the acquisition of Xypoint		36		—			—			56,625		—			56,661
Issuance of stock options to purchase 656,990 shares of Class A Common Stock for the acquisition of Xypoint		—		—			—			7,860		—			7,860
Issuance of 53,264 shares of Class A Common Stock for an acquired company		1		—			—			409		—			410
Issuance of stock options to purchase 5,554 shares of Class A Common Stock for an acquired company		—		—			—			10		—			10
Stock compensation expense for issuance of Class A Common Stock options at below fair market value		—		—			—			2,587		—			2,587
Conversion of Class B Common Stock into Class A Common Stock — 194,083 shares		2		(2	)		—			—		—			—
Net loss for 2001		—		—			—			—		(89,483	)		(89,483	)
Balance at December 31, 2001		182		106			—			162,570		(99,997	)		62,861
Options exercised for the purchase of 415,713 shares of Class A Common Stock		4		—			—			372		—			376
Issuance of 116,141 shares of Class A Common Stock under Employee Stock Purchase Plan		1					—			216		—			217
Stock compensation expense for issuance of Class A Common Stock options at below fair market value		—		—			—			1,554		—			1,554
Issuance of 232,210 shares of Class A Common Stock for the acquisition of Otelnet		2		—			—			259		—			261
Issuance of stock options to purchase 125,000 shares of Class A Common Stock for non-employee services		—		—			—			205		—			205
Conversion of Class B Common Stock into Class A Common Stock — 702,628 shares		7		(7	)		—			—		—			—
Net loss for 2002		—		—			—			—		(17,838	)		(17,838	)
Balance at December 31, 2002		196		99			—			165,176		(117,835	)		47,636
Options exercised for the purchase of 735,151 shares of Class A Common Stock		7		—			—			919		—			926
Issuance of 91,243 shares of Class A Common Stock under Employee Stock Purchase Plan		1		—			—			142		—			143
Issuance of 1,077,250 shares of restricted Class A Common Stock to directors and key executives		11		—			(1,890	)		1,879		—			—
Amortization of deferred compensation expense		—		—			491			—		—			491
Conversion of 527,272 shares of Class B Common Stock to Class A Common Stock		5		(5	)		—			—		—			—
Stock compensation expense for issuance of Class A Common Stock options at below fair market value		—		—			—			1,010		—			1,010
Stock compensation expense for options issued to non-employees for service		—		—			—			131		—			131
Net loss for 2003		—		—			—			—		(13,486	)		(13,486	)
Balance at December 31, 2003	$	221	$	94		$	(1,399	)	$	169,256	$	(131,321	)	$	36,851

See accompanying Notes to Consolidated Financial Statements.

F-4

TeleCommunication Systems, Inc.

Consolidated Statements of Cash Flows

(amounts in thousands)

			Year ended December 31,
			2003			2002			2001
Operating activities:
Net loss			$	(13,486	)	$	(17,838	)	$	(89,483	)
Adjustments to reconcile net loss to net cash used in operating activities:
	Depreciation and amortization of property and equipment			6,612			6,156			4,550
	Amortization of software development costs			9,035			4,831			4,946
	Non-cash compensation expense for employees			1,501			1,759			2,587
	Amortization of goodwill and other intangible assets			531			553			9,226
	Write-off of acquired in-process research and development			—			—			9,700
	Impairment of goodwill and other intangible assets			—			—			43,000
	Other non-cash expenses included in net loss			403			—			—
	State of Maryland loan forgiveness			(100	)		(100	)		—
	Changes in operating assets and liabilities:
		Accounts receivable		2,310			(8,658	)		95
		Unbilled receivables, net		(1,482	)		(1,990	)		1,434
		Other current assets		(705	)		31			41
		Accounts payable and accrued expenses		(7,457	)		3,878			3,092
		Accrued payroll and related liabilities		(64	)		(65	)		(1,052	)
		Deferred revenue		(1,163	)		564			134
Net cash used in operating activities				(4,065	)		(10,879	)		(11,730	)
Investing activities:
Purchases of property and equipment				(5,951	)		(4,907	)		(6,082	)
Capitalized software development costs				(1,865	)		(4,801	)		(3,613	)
Change in restricted cash				—			—			1,431
Acquisitions, net of cash acquired				—			(303	)		(3,029	)
Funding of notes receivable from employees				—			—			(3,411	)
Payments on notes receivable from employees				14			3,507			1,336
Change in other assets				(1,635	)		(146	)		304
Net cash used in investing activities				(9,437	)		(6,650	)		(13,064	)
Financing activities:
Payments on capital lease obligations				(3,058	)		(3,656	)		(2,603	)
Payment on note payable to related party				—			—			(1,426	)
Payments on long-term debt				(2,392	)		(200	)		—
Proceeds from long-term debt				9,266			5,266			300
Proceeds from sale-leaseback of equipment				—			—			4,667
Proceeds from exercise of employee stock options and sale of stock				1,069			593			667
Net cash provided by financing activities				4,885			2,003			1,605
Net decrease in cash				(8,617	)		(15,526	)		(23,189	)
Cash and cash equivalents at the beginning of the year				27,402			42,928			66,117
Cash and cash equivalents at the end of the year			$	18,785		$	27,402		$	42,928

See accompanying Notes to Consolidated Financial Statements.

F-5

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements

(amounts in thousands, except share data)

1. Significant Accounting Policies

Description of Business

     We operate three interrelated business units providing location and text messaging software to wireless carriers, enhanced 9-1-1 public safety services for wireless carriers, and highly reliable and secure network integration services and communications systems for government customers.

     Our Network Software products enable wireless carriers to deliver short text messages, location information, Internet content, alerts and privacy information and other enhanced communication services to and from wireless phones. We earn network software revenue through the sale of licenses, deployment and customization fees and maintenance fees. Pricing is generally based on the volume of capacity bought from us by the carrier.

     Our Service Bureau offerings include our E9-1-1 application, hosted Position Determining Entity (PDE) software and Message Distribution Center applications. We deliver our E9-1-1 and hosted messaging services via our carrier grade network operations centers, using a service bureau business model. As a service bureau we allow customers to acquire use of our software functionality through network connections to and from our facilities and to pay us monthly based on service coverage volume, generally measured by number of subscribers, cell cites, or call center circuits, or by message volume.

     Our Network Solutions segment designs, produces, installs and operates wireless and data network communication systems, including our SwiftLink® compact deployable products, and high speed, satellite, Internet protocol solutions principally for government customer enterprise networks. We have been performing contract task orders for federal defense customers for more than 15 years.

     As set forth in Note 22, Subsequent Events, the Company acquired the Enterprise Mobility Solutions division of Aether Systems, Inc. on January 13, 2004, with an effective date of January 1, 2004.

     Use of Estimates. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts and related disclosures. Actual results could differ from those estimates.

     Principles of Consolidation. The accompanying financial statements include the accounts of our wholly owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

     Reclassifications. We have reclassified certain prior-year amounts for comparative purposes. These reclassifications did not affect our results of operations for the years presented.

     Cash and Cash Equivalents. Cash and cash equivalents include cash and highly liquid investments with a maturity of three months or less when purchased. Cash equivalents are reported at fair value, which approximates cost.

     Allowances for Doubtful Accounts Receivable. We use estimates to determine the amount of the allowance for doubtful accounts necessary to reduce accounts receivable and unbilled receivables to their expected net realizable value. We estimate the amount of the required allowance by reviewing the status of significant past-due receivables and by establishing general provisions for estimated losses by analyzing current and historical bad debt trends. Actual collection experience has not varied significantly from our estimates, due primarily to credit and collection policies and the financial strength of our customers. Receivables that are ultimately deemed uncollectible are charged-off as a reduction of receivables and the allowance for doubtful accounts.

     Property and Equipment. Property and equipment is stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method based on the estimated useful lives of equipment, generally five years for furniture and fixtures and three years for computer equipment, software and vehicles. Amortization of leasehold improvements is provided using the straight-line method over the lesser of the useful life of the asset or the remaining term of the lease. Assets held under capital leases are stated at the lesser of

F-6

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

the present value of future minimum lease payments or the fair value of the property at the inception of the lease. The assets recorded under capital leases are amortized over the lesser of the lease term or the estimated useful life of the assets in a manner consistent with our depreciation policy for owned assets.

     Software Development Costs. Costs of developing software products incurred prior to confirming technological feasibility are accounted for as research and development expense and expensed as incurred. These costs are incurred to enhance existing packaged software products as well as to create new software products, and primarily include personnel costs and costs associated with using third party laboratory and testing resources.

     Costs incurred for the development of computer software that will be sold, leased or otherwise marketed are capitalized when technological feasibility has been established. For new products, technological feasibility is established when an operative version of the computer software product is completed in the same software language as the product to be ultimately marketed, performs all the major functions planned for the product, and has successfully completed initial customer testing. Technological feasibility for enhancements to an existing product is established when a detail program design is completed. Costs that are capitalized include direct labor, related overhead and other direct costs. These capitalized costs are subject to an ongoing assessment of recoverability based upon anticipated future revenue and changes in hardware and software technologies. Unamortized capitalized software development costs determined to be in excess of net realizable value of the product are expensed immediately as additional amortization.

     Amortization of capitalized software development costs begins when the product is available for general release. Amortization is computed on a product-by-product basis using the straight-line method over the product’s estimated useful life, which is not to exceed three years. Amortization is also computed using the ratio that current revenue for the product bears to the total of current and anticipated future revenue for that product. If this revenue curve method results in amortization greater than the amount computed using the straight-line method, amortization is recorded at that greater amount.

     As of June 30, 2003, it was determined that the expected margins from selling developed versions of certain software products over their remaining useful lives was less than their remaining book value plus costs to complete. Therefore, we recorded additional amortization of $7,000 for the quarter ended June 30, 2003. This change in estimate gave consideration to the low level of license revenues earned during the second quarter of 2003 from these products and revised estimates of future revenues net of costs to complete.

     Revenue Recognition. Revenue is generated from our three segments as described below and as discussed more fully in Note 19.

     Network Software Revenue. We license packaged network software principally for use in the wireless telecommunications industry. These licenses typically contain multiple elements. In addition to the product license, elements may include installation, integration services, hardware and maintenance. The total arrangement fee is allocated among each element based on vendor-specific objective evidence of the relative fair value of each of the elements. Fair value is generally determined based on the price charged when the element is sold separately. In the absence of evidence of fair value of a delivered element, revenue is allocated first to the undelivered elements based on fair value and the residual revenue to the delivered elements. The software licenses are generally perpetual licenses for a specified number of users that allow for the purchase of annual maintenance at a specified rate. All fees are recognized as revenue when four criteria are met. These four criteria are (i) evidence of an arrangement (ii) delivery of the software has occurred, (iii) the fee is fixed or determinable and (iv) the fee is probable of collection. Software license fees billed and not recognized as revenue are included in deferred revenue.

     Software licenses include a 90-day warranty for defects. We have not incurred significant warranty costs on any software product to date, and no costs are currently accrued upon recording the related revenue.

F-7

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

     Our network software services revenue is derived primarily from maintenance fees for packaged software products, and fees from development, implementation and maintenance of custom applications.

     Software maintenance fees include telephone support, bug fixes, and rights to software upgrades on a when-and-if-available basis. These fees are collected in advance and recognized ratably over the annual maintenance period. Unrecognized maintenance fees are included in deferred revenue.

     Fees from the development and implementation of custom applications are generally performed under time and materials and fixed fee contracts. Professional services that are provided under long-term fixed fee contracts to develop and implement customized applications are recognized using the percentage-of-completion method. These contracts generally allow for monthly billing or billing upon achieving certain specified milestones. Progress to completion is generally measured using costs incurred compared to estimated total costs. Any estimated losses under long-term contracts are recognized in their entirety at the date that they become evident.

     Our direct cost of network software consists primarily of compensation, benefits, purchased equipment, third-party software and travel expenses incurred when providing our services.

     Service Bureau Revenue. Our service bureau offerings include our E9-1-1 application, hosted Position Determining Entity (PDE) software and Message Distribution Center applications. Revenue from our service bureau offerings consists of monthly recurring service fees and is recognized in the month earned. E9-1-1 and PDE service fees are primarily dependent on either the number of subscribers the carrier covers, Public Service Answering Points (PSAPs) served or cell sites that provide E9-1-1 services for the carrier. As the carrier’s number of subscribers, PSAPs, or cell sites increases, the monthly recurring service fees increase. Message Distribution Center revenue is priced based on the volume of messaging traffic handled each month.

     Our direct cost of service bureau consists primarily of compensation, benefits, maintenance fees related to purchased equipment, and third-party software and travel expenses incurred when providing our services, as well as the cost of our network operations centers circuits for connectivity to carrier customers and local governments’ PSAPs.

     Network Solutions Revenue. Network solutions revenue is generated from the design, development and deployment of information processing and communication systems primarily for government enterprises. These services are provided under time and materials contracts, cost plus fee contracts, or fixed price contracts. Revenue is recognized under time and materials contracts and cost plus fee contracts as billable costs are incurred. Fixed price contracts are accounted for using the percentage-of-completion method, measured either by total costs incurred as a percentage of total estimated costs at the completion of the contract, or direct labor hours incurred compared to estimated total direct labor hours for projects for which third-party hardware represents a significant portion of the total estimated costs. These contracts generally allow for monthly billing or billing upon achieving certain specified milestones. Any estimated losses on contracts are recognized in their entirety at the date that they become evident.

     Our direct cost of network solutions consists of compensation, benefits, travel and the costs of third party consultants as well as purchased equipment components. Federal government contract costs, including allocated indirect expenses, are subject to audit and adjustment by the Defense Contract Audit Agency. Contract revenue under these contracts is recorded at estimated net realizable amounts. Adjustments to recorded revenue upon the completion of audits have been insignificant.

     Advertising Costs. Advertising is expensed as incurred. Advertising expense totaled $98, $68 and $379 for the years ended December 31, 2003, 2002 and 2001, respectively.

     Capitalized Interest. Total interest incurred was $1,088, $1,164, and $684 for the years ended December 31, 2003, 2002, and 2001, respectively. Approximately $267 of total interest incurred was capitalized

F-8

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

as a component of software development costs during the year ended December 31, 2002. No interest was capitalized during the years ended December 31, 2003 or 2001.

     Impairment of Long-Lived Assets. Long-lived assets, including intangible assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset or group of assets may not be fully recoverable. If an impairment indicator is present, we evaluate recoverability by a comparison of the carrying amount of the assets to future undiscounted net cash flows that we expect to generate from these assets. If the assets are impaired, we recognize an impairment charge equal to the amount by which the carrying amount exceeds the fair value of the assets. Fair value is generally determined by estimates of discounted cash flows. The discount rate used in any estimate of discounted cash flows would be the rate required for a similar investment of like risk. Assets to be disposed of are reported at the lower of carrying values or fair values, less estimated costs of disposal.

     Stock-Based Compensation. We have two stock-based employee compensation plans, which are described more fully in Note 14. We record compensation expense for all stock-based compensation plans using the intrinsic value method prescribed by Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB No. 25) and related interpretations. Under APB No. 25, compensation expense is recorded over the vesting period to the extent that the fair value of the underlying stock on the date of grant exceeds the exercise or acquisition price of the stock or stock-based award. The following table illustrates the effect on net loss attributable to common stockholders and loss per common share if we had applied the fair value recognition provisions of Financial Accounting Standards Board Statement No. 123, Accounting for Stock-Based Compensation (Statement No. 123), to stock-based employee compensation.

		For the years ended
		December 31,
		2003			2002			2001
Net loss attributable to common stockholders, as reported		$	(13,486	)	$	(17,838	)	$	(89,483	)
Add: Stock-based employee compensation expense included in reported net loss			1,501			1,554			2,587
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards			(5,102	)		(6,794	)		(6,377	)
Pro forma net loss per share attributable to common stockholders		$	(17,087	)	$	(23,078	)	$	(93,273	)
Loss per share-basic and diluted:
	As reported	$	(0.45	)	$	(0.61	)	$	(3.16	)
	Pro forma	$	(0.57	)	$	(0.79	)	$	(3.30	)

     In making the pro forma estimates of stock compensation expense, we were required by generally accepted accounting principles to use an option-pricing model, and we selected the Black-Scholes model. The Black-Scholes option-pricing model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including our expected stock price volatility. Because our stock-based awards have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect our fair value estimate, in our opinion, this model does not provide a reliable single measure of the fair value of our stock-based awards. In calculating the fair value of our stock options using Black-Scholes, we assumed that the expected life was 5 years for options granted to employees and 3 years for options granted to non-employees, that the risk free interest rate was 3% for 2003 and 2002, respectively, and 5.5% for 2001 and that there was no dividend yield. We also assumed that the expected

F-9

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

volatility of our stock was 124% for options granted in 2003, 139% for options granted in 2002, and 164% for options granted in 2001.

     We occasionally grant options or warrants to acquire our Class A Common Stock to consultants or advisors. We record compensation expense in an amount equal to the fair value of the services we receive from the outside consultant or advisor if the fair value of the services received is more reliably determinable than the fair value of the options granted, determined using an option-pricing model. We measure the fair value of the equity instruments issued to a non-employee on the earlier of the performance commitment date or the date the services required under the arrangement have been completed. Estimated amounts of expense are recognized as the advisor performs under the arrangement. Those estimates are adjusted on the final measurement date.

     Hedging and Derivative Activities. During 2002, we entered into a foreign currency forward contract to protect against the potential reduction in value of foreign currency cash flows from a long-term contract denominated in a foreign currency. These derivative instruments classified as cash flow hedges expired in 2003.

     We recognize all of our derivative instruments as either assets or liabilities at their fair value. The accounting for changes in the fair value of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship, and further, on the type of the hedging relationship. For our cash flow hedge related to our long-term contract denominated in a foreign currency, the effective portion of the gain or loss on the derivative instrument was reported as a component of other comprehensive income and reclassified into revenue in the same period or periods during which the hedged transaction affected earnings. The remaining gain or loss in excess of the cumulative change in the present value of future cash flows of the hedged item, if any, was recognized in other income or expense in current earnings in the period of change.

     Recent Accounting Pronouncements. In January 2003, the Financial Accounting Standards Board issued Interpretation No. 46, Consolidation of Variable Interest Entities. The FASB in 2003 also issued various interpretive releases related to the adoption of Interpretation No. 46. The objective of Interpretation No. 46 is to improve financial reporting by companies involved with variable interest entities. It requires variable interest entities to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity’s activities or is entitled to receive a majority of the entity’s residual returns or both. We currently do not have any interests in variable interest entities and, therefore, the adoption of Interpretation No. 46 during 2003 did not have an impact on our financial position or results of operations.

     The Emerging Issues Task Force of the FASB has issued EITF Issue No. 00-21, Accounting for Revenue Arrangements with Multiple Deliverables, which addresses arrangements which may involve the delivery or performance of multiple products, services, and/or rights to use assets, and for which performance may occur at different points in time or over different periods of time. EITF Issue No. 00-21 also addresses whether the different revenue generating activities, or deliverables, are sufficiently separable, and whether there exists sufficient evidence of their fair values to separately account for some or all of the deliverables. The guidance applies to all contractual arrangements requiring performance of multiple revenue-generating activities not within the scope of higher-level authoritative literature. EITF Issue No. 00-21 is effective for all revenue arrangements entered into in fiscal periods beginning after June 15, 2003, with early adoption permitted. We adopted this guidance prospectively for all revenue arrangements entered into after January 1, 2003, and upon adoption, there was no effect on reported operating results.

     Income Taxes. Income tax amounts and balances are accounted for using the liability method of accounting for income taxes and deferred income tax assets and liabilities are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse.

F-10

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

2. Loss Per Common Share

		Year ended December 31,
		2003			2002			2001
		(share data in thousands)
Numerator:
	Net loss attributable to common stockholders	$	(13,486	)	$	(17,838	)	$	(89,483	)
Denominator:
	Denominator for basic and diluted loss per common share — weighted-average shares		29,796			29,149			28,297
Loss per common share — basic and diluted		$	(0.45	)	$	(0.61	)	$	(3.16	)

     Basic loss per common share is based upon the average number of shares of common stock outstanding during the period. Because we incurred a net loss in 2003, 2002 and 2001, potentially dilutive securities were excluded from the computation because the result would be anti-dilutive. These potentially dilutive securities consist of stock options and restricted stock, as summarized in Note 14.

3. Supplemental Disclosure of Cash Flow Information

     Property and equipment acquired under capital leases totaled $568, $174, and $7,593 during the years ended December 31, 2003, 2002, and 2001, respectively.

     Interest paid totaled $918, $1,164, and $767 during the years ended December 31, 2003, 2002, and 2001, respectively.

4. Unbilled Receivables

     Unbilled receivables consisted of the following at December 31:

	2003		2002
Amounts billable at specified milestones, less allowance for doubtful accounts	$	8,174	$	6,507
Contract retentions		100		138
Rate variances and costs and estimated earnings in advance of billings		195		342
	$	8,469	$	6,987

     Substantially all unbilled receivables are expected to be collected within twelve months.

5. Property and Equipment

     Property and equipment consisted of the following at December 31:

	2003			2002
Computer equipment	$	19,325		$	17,597
Computer software		7,693			4,061
Furniture and fixtures		2,447			2,467
Leasehold improvements		1,802			1,675
Land		1,000			—
Vehicles		107			139
		32,374			25,939
Less: accumulated depreciation and amortization		(20,925	)		(14,125	)
	$	11,449		$	11,814

F-11

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

6. Line of Credit

     We maintain a $15,000 line of credit with a bank that expires in April 2006. The credit agreement allows us to borrow up to 80% of outstanding receivables less than 90 days old, and amounts borrowed bear interest at the prime rate plus 1.0% or prime plus 1.25% for equipment loans under the line, with a floor prime rate of 4.25%. Under the term of the line of credit, we borrowed $2,500 as a term loan maturing in 36 months at a rate of 5.5%. At December 31, 2003, there were no other amounts outstanding under the line.

7. Long-Term Debt

     Long-term debt consists of the following at December 31:

	2003			2002
Note payable dated September 25, 2002, due March 31, 2004, and bearing interest at 7.75% per annum. The note requires monthly installments of principal and interest of $84 through February 28, 2004. The note is secured by the accounts receivable of one customer	$	1,605		$	2,432
Note payable dated December 20, 2002, due June 30, 2004, and bearing interest at 7.75% per annum. The note requires monthly installments of principal and interest of $84 through May 31, 2004. The note is secured by the accounts receivable of one customer		1,802			2,634
Note payable dated January 16, 2003, due February 16, 2008, and bearing interest at 6.0% per annum. The note requires monthly installments of principal and interest of $0.3 through January 16, 2008.		15			—
Note payable dated June 16, 2003, due October 31, 2005, and bearing interest at 7.75% per annum. The note requires monthly installments of principal and interest of $106 through September 30, 2005. The note is secured by the accounts receivable of one customer		2,072			—
Note payable dated September 26, 2003, due April 30, 2005, and bearing interest at 7.75% per annum. The note requires monthly installments of principal and interest of $83 through February 28, 2005 and a final payment of $1,481 on March 31, 2005. The note is secured by the accounts receivable of one customer		2,446			—
Note payable dated December 1, 2003, due July 1, 2005, and bearing interest at 6.0% per annum. The note requires monthly installments of principal and interest of $87 through June 1, 2005. The note is secured by property and equipment		1,500			—
Note payable dated December 30, 2003, due January 2, 2007, and bearing interest at 5.5% per annum. The note requires monthly installments of principal and interest of $76 through December 1, 2006. The note is secured by property and equipment		2,500			—
State of Maryland loan-to-grant dated May 10, 2001, due January 1, 2004, and bearing interest at 5% per annum. The loan becomes a grant in $100 increments plus a pro rata share of the accrued interest, based on employment levels at annual milestones. At the time of the loan, $100 was immediately converted to a grant. In February 2002 and 2003, $100 of the principal and the pro rata share of the interest was forgiven. The remaining balance of $100 outstanding as of December 31, 2003 was forgiven on January 26, 2004. The loan is secured by a letter of credit in favor of the State of Maryland		100			200
Total		12,040			5,266
Less: current portion		(5,698	)		(1,767	)
	$	6,342		$	3,499

F-12

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

     Aggregate maturities of debt at December 31, 2003, are as follows:

2004		$	5,698
2005			5,500
2006			837
2007			5
	Total	$	12,040

8. Capital Leases

     We lease certain furniture and equipment under capital leases. Property and equipment included the following amounts for capital leases at December 31:

	2003			2002
Computer equipment	$	5,724		$	9,814
Computer software		857			1,149
Furniture and fixtures		775			1,064
Leasehold improvements		102			243
Vehicles		—			71
		7,458			12,341
Less: accumulated amortization		(4,901	)		(7,512	)
	$	2,557		$	4,829

     Amortization of leased assets is included in depreciation and amortization expense.

     Future minimum payments under capital lease obligations consisted of the following at December 31, 2003:

2004		$	2,303
2005			222
2006			164
	Total minimum lease payments		2,689
Less: amounts representing interest			(132	)
Present value of net minimum lease payments (including current portion of $2,154)		$	2,557

9. Common Stock

     Our Class A common stockholders are entitled to one vote for each share of stock held for all matters submitted to a vote of stockholders. Our Class B stockholders are entitled to three votes for each share owned.

10. Fair Value of Financial Instruments

     The fair value of our cash and cash equivalents, long-term debt and derivative instruments approximates their respective carrying values as of December 31, 2003 and 2002.

     We used the following methods and assumptions to estimate the fair value of each class of financial instruments:

     Cash and cash equivalents: The carrying amounts approximate fair value because of the short maturity of these instruments.

     Long-term debt: The fair value of our long-term debt obligations was estimated by discounting the future cash flows at rates available to us for similar borrowings.

F-13

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

     Derivative instruments: The fair value of our foreign currency forward contracts was determined based on quoted market prices.

11. Income Taxes

     Significant components of the benefit for income taxes attributable to loss before income taxes for the years ended December 31 are as follows:

			2003		2002		2001
Current:
	State and local		$	—	$	—	$	—
	Federal			—		—		—
				—		—		—
Deferred:
	State and local			—		—		—
	Federal			—		—		—
				—		—		—
		Total	$	—	$	—	$	—

     Significant components of our deferred tax assets and liabilities at December 31 consisted of:

				2003			2002
Deferred tax assets:
	Reserves and accrued expenses			$	765		$	521
	Deferred revenue				34			394
	Depreciation				986			—
	Charitable contributions				116			94
	Net operating loss carry forward				32,018			30,483
			Total deferred tax assets		33,919			31,492
Deferred tax liabilities:
	Capitalized software development costs				(200	)		(2,921	)
	Depreciation				—			(136	)
			Total deferred tax liabilities		(200	)		(3,057	)
		Net deferred tax asset			33,719			28,435
Valuation allowance for net deferred tax asset					(33,719	)		(28,435	)
Net deferred tax asset				$	—		$	—

     At December 31, 2003, we had U.S. federal net operating loss carryforwards for income tax purposes of approximately $83,046, which includes $34,600 acquired upon the acquisition of Xypoint. The net operating loss carryforwards from Xypoint will begin to expire in 2016. The remaining net operating loss carryforwards will expire from 2019 through 2023. The amount available to be used in any given year may be limited by operation of certain provisions of the Internal Revenue Code. We have state net operating loss carryforwards available, the utilization of which may be similarly limited.

F-14

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

     The reconciliation of the reported income tax benefit to the amount that would result by applying the U.S. federal statutory rate of 34% to net loss for the year ended December 31 is as follows:

		2003			2002			2001
Income tax benefit at statutory rate		$	(4,585	)	$	(6,065	)	$	(30,424	)
State tax benefit			(556	)		(631	)		(956	)
Change in State tax rate			(414	)		—			—
Non-deductible items			430			703			22,316
Other			(159	)		(109	)		246
Change in valuation allowance			5,284			6,102			8,818
	Total	$	—		$	—		$	—

12. Acquisitions

     Xypoint Corporation. We completed the purchase of Xypoint Corporation (“Xypoint”) for aggregate consideration of $69,005 on January 19, 2001. Xypoint is a leading provider of E9-1-1 services to wireless carriers and focuses its business on wireless technology that identifies and makes use of information as to a wireless user’s location. The acquisition was accounted for under the purchase method of accounting. Our results of operations include the results of Xypoint commencing January 19, 2001.

     We issued 3,597,520 shares of Class A Common Stock, valued at $15.75 per share, the average market price per share of our Class A Common Stock in a range of two trading days before and after November 15, 2000, the announcement date of the acquisition. In addition, we issued 656,990 options and warrants to purchase shares of Class A Common Stock in exchange for all options and warrants to purchase shares of Xypoint common stock or convertible preferred stock. The fair value of the options and warrants was estimated using the Black-Scholes option-pricing model. In estimating this value, we assumed that the risk free interest rate was 5.80%, the dividend yield was 0%, the expected life of vested options and warrants was one to two years, and the expected volatility of our common stock was 60%.

     The value allocated to projects identified as in-process research and development of Xypoint’s product suite was charged to expense immediately following completion of the acquisition. This write-off was necessary because the acquired in-process research and development had not yet reached technological feasibility and had no future alternative uses, and the related products under development had uncertain commercial viability. The nature of the efforts required to develop the purchased in-process research and development into commercially viable products principally related to the completion of all planning, designing, prototyping, verification and testing activities necessary to establish that the product could be produced to meet its design specifications, including functions, features and technical performance requirements.

     Goodwill was determined based on the residual difference between the amount of consideration paid and the values assigned to identifiable tangible and intangible net assets. See also Note 13 for a discussion of the 2001 impairment charge for acquired intangible assets.

     Open Telephone Network, Inc. On September 24, 2002, we acquired substantially all of the assets of Open Telephone Network, Inc. (Otelnet), a provider of real-time and on-demand alerting solutions of the wireless industry. Otelnet’s software platform integrates easily with existing carrier network elements and wireless portals, as well as our carrier software. Otelnet’s technology currently interoperates with our Wireless Internet Gateway^TM and our Voyager^TM platform.

F-15

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

13. Impairment of Goodwill and Other Intangibles

     During the quarter ended September 30, 2001, we performed an impairment assessment of the identifiable intangibles and goodwill principally recorded upon the acquisition of Xypoint. The assessment was performed as a result of the decision by management to discontinue the further development of certain products and unexpected competitive influences. Based on these factors, it was determined that our goodwill and other intangible assets may have become impaired by September 30, 2001. Accordingly, we performed an undiscounted cash flow analysis to determine whether an impairment existed. Because the estimated undiscounted cash flows for these segments was less than the carrying value of the net assets, we determined the fair value of the remaining net assets using a discounted cash flow analysis.

     As a result of the review, we determined that the carrying value of our goodwill and certain other intangible assets were not likely to be fully recoverable. Accordingly, at September 30, 2001, an impairment charge of $43,000 was recorded, which represented the difference between the carrying value and our estimate of the fair value of goodwill and other intangible assets. Approximately $39,139 of the impairment related to goodwill and the remaining $3,861 was for acquired technology assets.

14. Stock Compensation Plans

     Stock Options. We maintain a stock option plan that is administered by our Compensation Committee of our Board of Directors. The number of shares reserved for issuance under the plan is currently 15,904,110. Options granted under the plan vest over periods ranging from one to five years and expire 10 years from the date of grant.

     A summary of our stock option activity and related information consists of the following for the years ended December 31 (all share amounts in thousands):

		2003					2002					2001
					Weighted					Weighted					Weighted
					Average					Average					Average
		Number of			Exercise		Number of			Exercise		Number of			Exercise
		Options			Price		Options			Price		Options			Price
Outstanding, beginning of year			6,838		$	2.95		6,545		$	3.36		3,233		$	3.90
Granted			1,240			2.05		1,854			2.45		4,807			3.86
Exercised			(735	)		1.26		(416	)		0.89		(510	)		0.77
Forfeited			(1,195	)		2.83		(1,145	)		5.23		(985	)		8.54
Outstanding, end of year			6,148		$	2.95		6,838		$	2.95		6,545		$	3.36
	Exercisable, at end of year		2,736		$	3.05		2,442		$	2.64		1,554		$	2.39
Estimated weighted-average grant-date fair value of options granted during the year		$	1.72				$	2.15				$	3.61
Weighted-average remaining contractual life of options outstanding at end of year			7.7 years					7.6 years					7.7 years

F-16

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

     Exercise prices for options outstanding at December 31, 2003 ranged from $0.01 to $26.05 as follows (all share amounts in thousands):

									Weighted -
					Weighted-Average				Average
			Weighted-Average		Remaining				Exercise
			Exercise Prices of		Contractual Life of				Prices of
	Options		Options		Options		Options		Options
Exercise Prices	Outstanding		Outstanding		Outstanding (years)		Exercisable		Exercisable
$ 0.01 – $2.61		2,603	$	1.65		8.0		944	$	1.16
$ 2.61 – $5.21		2,862	$	3.20		7.4		1,394	$	3.16
$ 5.21 – $7.82		645	$	6.51		7.1		360	$	6.50
$ 7.82 – $10.42		7	$	9.60		6.9		7	$	9.60
$10.42 – $26.05		31	$	14.61		6.6		31	$	14.61

     Prior to our initial public offering in 2000, we granted incentive stock options to employees and directors to purchase 885,983 shares of Class A Common Stock. The options were granted at an exercise price less than the estimated market value of Class A Common Stock at the date of grant. Net loss includes $1,010, $1,554, and $2,587 of non-cash stock compensation expense related to these grants for the years ended December 31, 2003, 2002, 2001, respectively. We expect to record future stock compensation expense of $805 as a result of option grants that will be recognized over the remaining vesting period of two years.

     Restricted Stock Grants. In the second quarter of 2003, we issued 1,077,250 shares of restricted Class A Common Stock to directors and certain key executives. The restrictions expire at the end of one year for directors and in annual increments over three years for executives and are based on continued employment. Net loss for the year ended December 31, 2003, as reported, includes $491 of non-cash stock compensation expense related to such stock grants. We expect to record future stock compensation expense of $1,399 as a result of these restricted stock grants that will be recognized over the remaining vesting period for directors and executives.

     Employee Stock Purchase Plan. We have an employee stock purchase plan (the Plan) that gives all employees an opportunity to purchase shares of our Class A Common Stock. The Plan allows for the purchase of 684,932 shares of our Class A Common Stock at a discount of 15% of the fair market value. Option periods are generally three months in duration. As of December 31, 2003, 310,018 shares of Class A Common Stock have been issued under the Plan.

15. Operating Leases

     We lease certain office space and equipment under non-cancelable operating leases that expire on various dates through 2010. Future minimum payments under non-cancelable operating leases with initial terms of one year or more consisted of the following at December 31, 2003:

2004	$	2,780
2005		2,032
2006		1,468
2007		1,456
2008		1,377
2009 and beyond		2,368
	$	11,481

     Rent expense was $3,004, $3,258, and $2,607 for the years ended December 31, 2003, 2002, and 2001, respectively.

F-17

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

16. Retirement Plan

     We maintain a defined contribution benefit plan that covers substantially all employees who have attained age twenty-one. Participants may contribute from 1% to 15% of their annual compensation to the plan. On a discretionary basis, we may match contributions made by participants. All employer contributions vest over a six-year period. During 2003, 2002, and 2001, we made matching contributions of $0, $670, and $978, respectively.

17. Derivative and Hedging Activities

     In January 2002, we entered into a contract to sell products and services, which was denominated in British Pounds Sterling. Under the terms of this contract, we were paid in British Pounds Sterling, which exposed us to foreign currency exchange risk. In April 2002, we entered into several foreign currency forward and option contracts primarily to manage our foreign currency exchange risk. All of the contracts expired during the first quarter of 2003.

     The asset associated with the foreign currency forward contracts that met the criteria for hedge accounting treatment was valued at less than $1 as of December 31, 2002.

     The remaining portion of the foreign currency option contracts did not meet the criteria for hedge accounting treatment. These foreign currency options were entered into for speculative purposes. Therefore, the expense related to the change in fair market value of these derivatives of $17 and $445 for the years ended December 31, 2003 and 2002, respectively, is included in other income. The liability of $394 associated with this derivative is included in accounts payable and accrued expenses as of December 31, 2002.

18. Concentrations of Credit Risk and Major Customers

     Financial instruments that potentially subject us to significant concentrations of credit risk consist primarily of accounts receivable and unbilled receivables. Those customers that comprised 10% or more of our revenues are summarized in the following table.

		% of Total Revenues
		For the year ended
		December 31,
Customer	Segment	2003			2002			2001
Federal Agencies	Network Solutions and Network Software		32	%		40	%		30	%
Customer A	Network Software and Service Bureau		17	%		15	%		14	%
Customer B	Network Software and Service Bureau		N/ A			10	%		N/ A

	As of December 31, 2003						As of December 31, 2002
	Accounts			Unbilled			Accounts			Unbilled
Customer	Receivable			Receivables			Receivable			Receivables
Federal Agencies		19	%		32	%		27	%		18	%
Customer A		30	%		6	%		18	%		11	%
Customer B		6	%		28	%		12	%		38	%
Customer C		11	%		12	%		N/A			10	%

19. Business and Geographic Segment Information

     Management evaluates company performance based on gross profit within three operating segments: network software, service bureau and network solutions. Gross profit is defined as revenue less direct cost of revenue, excluding the amortization of software development costs, which under accounting principles generally accepted in the United States, is considered in determining gross profit from software license revenues.

F-18

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

     Network Software — We develop packaged and custom network software including intelligent network products (TCS Xypoint® Location Platform products, Wireless Internet Gateway, Short Message Service Center and message notification applications) that enable the delivery of Internet content, short messages, and enhanced communication services to a wide variety of wireless devices, including phones, two-way pagers and personal digital assistants.

     Service Bureau — Our service bureau offerings include E9-1-1, hosted Position Determining Entity software, and Message Distribution Center applications. We also provide implementation, operation and maintenance services to support these applications.

     Network Solutions — Network solutions revenue is generated from the design, development and deployment of information processing and communication systems primarily for government enterprises.

     For the years ended December 31, 2003 and 2002, respectively, our total revenues include approximately $3,559 and $8,746 of revenues generated from customers outside of the United States.

     We do not maintain information regarding segment assets. Accordingly, asset information by reportable segment is not presented. The accounting policies used by our reportable segments are the same as those described in Note 1.

     The following table sets forth information on reportable segments:

			Year ended December 31,
			2003		2002		2001
Revenue:
Network software
	Network software licenses		$	9,164	$	16,552	$	9,059
	Network software services			5,513		10,576		11,424
Network software total				14,677		27,128		20,483
Service bureau				34,081		23,881		16,775
Network solutions				43,307		41,036		32,294
		Total revenue	$	92,065	$	92,045	$	69,552
Segment gross profit:
	Network software		$	8,219	$	14,016	$	10,976
	Service bureau			17,850		10,413		10,486
	Network solutions			14,815		10,665		8,014
		Total segment gross profit	$	40,884	$	35,094	$	29,476

F-19

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

     A reconciliation of segment gross profit for our three segments to net loss is as follows:

		Year ended December 31,
		2003			2002			2001
Total segment gross profit		$	40,884		$	35,094		$	29,476
	Research and development expense		(16,932	)		(17,047	)		(18,083	)
	Sales and marketing expense		(8,917	)		(10,029	)		(13,826	)
	General and administrative expense		(11,251	)		(12,235	)		(14,325	)
	Non-cash stock compensation expense		(1,501	)		(1,554	)		(2,587	)
	Depreciation and amortization of property and equipment		(6,612	)		(6,156	)		(4,550	)
	Amortization of software development costs		(9,035	)		(4,831	)		(4,946	)
	Amortization of goodwill and other intangibles		(531	)		(553	)		(9,226	)
	Acquired in-process research and development		—			—			(9,700	)
	Impairment of goodwill and other intangibles		—			—			(43,000	)
	Interest expense		(1,088	)		(897	)		(684	)
	Other income, net		1,497			370			1,968
Net Loss		$	(13,486	)	$	(17,838	)	$	(89,483	)

20. Quarterly Financial Information (unaudited)

     The following is a summary of the quarterly results of operations for the years ended December 31, 2003 and 2002. The quarterly information has not been audited, but in our opinion, includes all adjustments necessary for a fair presentation.

	2003
	Three months ended
	March 31			June 30			September 30		December 31
Revenue	$	19,292		$	20,080		$	28,247	$	24,446
Direct cost of revenue	$	11,051		$	11,805		$	16,425	$	11,900
Net (loss) income	$	(4,048	)	$	(11,392	)	$	506	$	1,448
(Loss) Earnings per common share — basic	$	(0.14	)	$	(0.38	)	$	0.02	$	0.05
(Loss) Earnings per common share —diluted	$	(0.14	)	$	(0.38	)	$	0.02	$	0.04

	2002
	Three months ended
	March 31			June 30			September 30			December 31
Revenue	$	16,850		$	23,932		$	23,245		$	28,018
Direct cost of revenue	$	10,285		$	16,333		$	13,078		$	17,285
Net loss	$	(7,306	)	$	(6,136	)	$	(2,559	)	$	(1,837	)
Loss per common share — basic and diluted	$	(0.25	)	$	(0.21	)	$	(0.09	)	$	(0.06	)

21. Commitments and Contingencies

     In November 2001, a shareholder class action lawsuit was filed against us, certain of our current officers and a director, and several investment banks that were the underwriters of our initial public offering (the “Underwriters”): Highstein v. Telecommunication Systems, Inc., et al., United States District Court for the Southern District of New York, Civil Action No.01-CV-9500. The plaintiffs seek an unspecified amount of damages. The lawsuit purports to be a class action suit filed on behalf of purchasers of our common stock during the period August 8, 2000 through December 6, 2000. The plaintiffs allege that the Underwriters agreed to allocate common stock offered for sale in our initial public offering to certain purchasers in exchange for

F-20

TeleCommunication Systems, Inc.

Notes to Consolidated Financial Statements — (Continued)

(amounts in thousands, except share data)

excessive and undisclosed commissions and agreements by those purchasers to make additional purchases of common stock in the aftermarket at pre-determined prices. The plaintiffs allege that all of the defendants violated Sections 11,12 and 15 of the Securities Act of 1933, as amended, and that the underwriters violated Section 10(b) of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated thereunder. The claims against us of violation of Rule 10b-5 have been dismissed with the plaintiffs having the right to re-plead. We intend to vigorously defend the lawsuit. We believe that more than 300 other companies have been named in nearly identical lawsuits that have been filed by some of the same law firms that represent the plaintiffs in the lawsuit against us.

     Although we cannot currently predict the ultimate outcome of this matter, we do not expect the resolution will have a material effect on our consolidated results of operations, financial position or cash flows.

22. Subsequent Events—Acquisition of Aether EMS and Related Financing.

     We acquired the Enterprise Mobility Solutions business unit of Aether Systems, Inc. on January 13, 2004, with an effective date of January 1, 2004. The Enterprise Mobility Solutions business unit provides wireless data and location-based solutions to approximately 1,200 large enterprise customers and 60,000 wireless data users, uniting messaging, synchronization and web technologies. These solutions include package and vehicle tracking, productivity tools, and the ability to capture digital signatures for proof of delivery to a growing installed base of logistics customers. The Enterprise Mobility Solutions business unit is a leading reseller of Blackberry devices and provides real-time financial market data to wireless device users under annual subscriber contracts.

     The purchase price for Aether EMS was $20,000, consisting of a cash payment of $18,000, a note payable on August 14, 2004 in the amount of $1,000 and 204,020 shares of our Class A Common Stock. In addition, we expect to incur approximately $2,500 of costs directly related to the acquisition, making the total cost of the acquisition approximately $22,500. Although we have not yet completed the analyses and asset valuations needed to allocate the purchase price to acquired assets and assumed liabilities, we expect to record goodwill and amortizable intangible assets in excess of $21,000 related to the acquisition.

     To provide the necessary cash to complete the acquisition, on January 13, 2004 we issued to third parties for total cash proceeds of $21,000 (i) convertible subordinated debentures with a face value of $15,000, bearing interest at a stated rate of 3% per annum and due in lump sum on January 13, 2009 in cash or shares of common stock (ii) warrants to purchase 341,072 shares of our Class A Common Stock at an exercise price of $6.50 per share expiring in January 2007, and (iii) 1,364,288 shares of our Class A Common Stock. We determined that the value of the common stock that we issued was $7,640 based on the quoted closing price of our common stock on the issue date of $5.60. The value of the warrants was estimated to be $1,395, determined using the Black-Scholes option-pricing model. The convertible subordinated debenture provides for a contractual conversion price of $5.38 per share, and was estimated to have an issuance date beneficial conversion value of $3,662, which was recorded as additional paid-in capital. The resulting carrying value of the debt at January 13, 2004 of $9,943 is net of $5,057 of original issue discount that will be amortized to interest expense over its five-year term. The investors were also granted registration rights for their shares of our Class A Common Stock issued and potentially issuable upon the conversion or exercise of debt and warrants. These registration rights provide that the shares be registered within 100 days of the closing date. The investor has the right to impose a penalty of approximately $14,000 per day for every day beyond the 100-day period.

F-21

SIGNATURES

     Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

TeleCommunication Systems, Inc.
By:	/s/ MAURICE B. TOSÉ
	Maurice B. Tosé
	Chief Executive Officer, President and Chairman of the Board

     Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

Name	Title	Date
/s/ MAURICE B TOSÉ Maurice B. Tosé	Chief Executive Officer, President and Chairman of the Board (Principal Executive Officer)	February 27, 2004
/s/ THOMAS M. BRANDT, JR. Thomas M. Brandt, Jr.	Chief Financial Officer and Senior Vice President (Principal Financial Officer)	February 27, 2004
* Clyde A. Heintzelman	Director	February 27, 2004
* Richard A. Kozak	Director	February 27, 2004
* Weldon H. Latham	Director	February 27, 2004
* Byron F. Marchant	Director	February 27, 2004

* By Maurice B. Tosé as attorney-in-fact

EXHIBIT INDEX

Exhibit
Numbers	Description
10.48*	Restricted stock award certificate to Mr. Thomas M. Brandt, Jr.
10.49*	Restricted stock award certificate to Mr. Thomas M. Brandt, Jr.
10.50*	Restricted stock award certificate to Mr. Clyde A. Heintzelman.
10.51*	Restricted stock award certificate to Mr. Richard A. Kozak.
10.52*	Restricted stock award certificate to Mr. Weldon H. Latham.
10.53*	Restricted stock award certificate to Mr. Timothy J. Lorello.
10.54*	Restricted stock award certificate to Mr. Timothy J. Lorello.
10.55*	Restricted stock award certificate to Mr. Byron F. Marchant.
10.56*	Restricted stock award certificate to Mr. Drew A. Morin.
10.57*	Restricted stock award certificate to Mr. Drew A. Morin.
10.58*	Restricted stock award certificate to Mr. Maurice B. Tosé.
10.59*	Restricted stock award certificate to Mr. Maurice B. Tosé.
10.60*	Restricted stock award certificate to Mr. Kevin M. Webb.
10.61*	Restricted stock award certificate to Mr. Kevin M. Webb.
10.62*	Restricted stock award certificate to Mr. Richard A. Young.
10.63*	Restricted stock award certificate to Mr. Richard A. Young.
23.1	Consent of Ernst & Young LLP
31.1	Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2	Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1	Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2	Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.01*	Risk Factors Affecting Our Business and Future Results

* Previously filed as an exhibit to the Company’s Annual Report on Form 10-K for the year ended December 31, 2003 (File No. 000-30821).

EX-23.1

EXHIBIT 23.1

CONSENT OF INDEPENDENT AUDITORS

We consent to the incorporation by reference in the Registration Statement on Form S-3 and related Prospectus of TeleCommunication Systems, Inc. for the registration of 7,575,745 shares of its Class A common stock and the Registration Statements on Form S-8 Nos. 333-48026, 333-51656 and 333-66676 pertaining to the (i) TeleCommunication Systems, Inc. Amended and Restated 1997 Stock Incentive Plan; (ii) the TeleCommunication Systems, Inc. Employee Stock Purchase Plan; (iii) XYPOINT Corporation 2000 Stock Plan; (iv) XYPOINT Corporation 1997 Stock Plan, as amended; and (v) XYPOINT Corporation 1995 Stock Option Plan, of our report, dated January 30, 2004, with respect to the consolidated financial statements of TeleCommunication Systems, Inc. included in its Annual Report (Form 10-K, as amended) for the year ended December 31, 2003.

/s/ Ernst & Young LLP

Baltimore, Maryland
February 25, 2004

EX-31.1

Exhibit 31.1

CERTIFICATIONS

I, Maurice B. Tosé, certify that:

1.	I have reviewed this Amendment No. 1 on Form 10-K/A of TeleCommunication Systems, Inc. Annual Report on Form 10-K for the year ended December 31, 2003;
2.	Based on my knowledge, this Amendment No. 1 on Form 10-K/A does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3.	Based on my knowledge, the financial statements, and other financial information included in this Amendment No. 1 on Form 10-K/A, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4.	The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a)	designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b)	evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this Amendment No. 1 on Form 10-K/A (the “Evaluation Date”); and
c)	presented in this Amendment No. 1 on Form 10-K/A our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date.

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a)	all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
b)	any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls.

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

/s/ Maurice B. Tosé Maurice B. Tosé
Chief Executive Officer, President and
Chairman of the Board February 27, 2004   

EX-31.2

Exhibit 31.2

CERTIFICATIONS

I, Thomas M. Brandt, Jr., certify that:

1.	I have reviewed this Amendment No. 1 on Form 10-K/A of TeleCommunication Systems, Inc. Annual Report on Form 10-K for the year ended December 31, 2003;
2.	Based on my knowledge, this Amendment No. 1 on Form 10-K/A does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3.	Based on my knowledge, the financial statements, and other financial information included in this Amendment No. 1 on Form 10-K/A, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4.	The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

a)	designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b)	evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this Amendment No. 1 on Form 10-K/A (the “Evaluation Date”); and
c)	presented in this Amendment No. 1 on Form 10-K/A our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date.

5. The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a)	all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
b)	any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls.

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

/s/ Thomas M. Brandt, Jr. Thomas M. Brandt, Jr.
Sr. Vice President & CFO February 27, 2004  

EX-32.1

Exhibit 32.1

Certification of Principal Executive Officer
Pursuant to 18 U.S.C. 1350
(Section 906 of the Sarbanes-Oxley Act of 2002)

     I, Maurice B. Tosé, President and Chief Executive Officer (principal executive officer) of TeleCommunication Systems, Inc. (the “Registrant”), certify that to the best of my knowledge, based upon a review of this Amendment No. 1 on Form 10-K/A to the Annual Report on Form 10-K/A for the period ended December 31, 2003 of the Registrant (the “Report”):

     (1) The Report fully complies with the requirements of Section 13(a) of the Securities Exchange Act of 1934, as amended; and

     (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Registrant.

/s/ Maurice B. Tosé Maurice B. Tosé
Date: February 27, 2004

EX-32.2

Exhibit 32.2

Certification of Principal Financial Officer
Pursuant to 18 U.S.C. 1350
(Section 906 of the Sarbanes-Oxley Act of 2002)

     I, Thomas M. Brandt, Jr., Chief Financial Officer (principal financial officer) of TeleCommunication Systems, Inc. (the “Registrant”), certify that to the best of my knowledge, based upon a review of this Amendment No. 1 on Form 10-K/A to the Annual Report on Form 10-K/A for the period ended December 31, 2003 of the Registrant (the “Report”):

     (1) The Report fully complies with the requirements of Section 13(a) of the Securities Exchange Act of 1934, as amended; and

     (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Registrant.

/s/ Thomas M. Brandt, Jr. Thomas M. Brandt, Jr.
Date: February 27, 2004