10-Q 1 a09-4918_110q.htm 10-Q

Table of Contents

 

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 


 

(Mark One)

 

x

 

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

 

 

 

For the quarterly period ended December 31, 2008

 

 

 

OR

 

 

 

o

 

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

 

For the transition period from                        to

 

Commission file number: 000-30863

 


 

 

NETWORK ENGINES, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

04-3064173

(State or other jurisdiction of

 

(I.R.S. Employer

incorporation)

 

Identification No.)

 

 

 

25 Dan Road, Canton, MA

 

02021

(Address of principal executive
offices)

 

(Zip Code)

 

(781) 332-1000

(Registrant’s telephone number, including area code)

 

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

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer  o  Accelerated filer  x  Non-accelerated filer  o  Smaller reporting company  o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)               Yes o  No x

 

As of February 5, 2009, there were 43,183,595 shares of the registrant’s Common Stock, par value $.01 per share, outstanding.

 

 

 



Table of Contents

 

NETWORK ENGINES, INC.

 

INDEX

 

 

 

PAGE
NUMBER

 

 

 

PART I. FINANCIAL INFORMATION

 

 

 

 

 

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

 

1

 

 

 

CONDENSED CONSOLIDATED BALANCE SHEETS

 

1

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

 

2

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

3

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

4

 

 

 

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

 

12

 

 

 

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

20

 

 

 

ITEM 4. CONTROLS AND PROCEDURES

 

20

 

 

 

PART II. OTHER INFORMATION

 

 

 

 

 

ITEM 1. LEGAL PROCEEDINGS

 

21

 

 

 

ITEM 1A. RISK FACTORS

 

21

 

 

 

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

33

 

 

 

ITEM 6. EXHIBITS

 

33

 

 

 

SIGNATURES

 

34

 



Table of Contents

 

PART I. FINANCIAL INFORMATION

 

ITEM I. FINANCIAL STATEMENTS

 

NETWORK ENGINES, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

(unaudited)

 

 

 

December 31,
2008

 

September 30,
2008

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash

 

$

13,160

 

$

10,003

 

Restricted cash

 

47

 

47

 

Accounts receivable, net of allowances of $130 and $122 at December 31, 2008 and September 30, 2008, respectively

 

24,481

 

26,403

 

Income tax receivable

 

729

 

2,585

 

Inventories

 

18,047

 

21,380

 

Prepaid expenses and other current assets

 

2,768

 

2,009

 

 

 

 

 

 

 

Total current assets

 

59,232

 

62,427

 

 

 

 

 

 

 

Property and equipment, net

 

1,495

 

1,549

 

Intangible asset, net

 

9,445

 

9,884

 

Contingently returnable acquisition consideration

 

4,022

 

4,022

 

Other assets

 

193

 

183

 

 

 

 

 

 

 

Total assets

 

$

74,387

 

$

78,065

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

8,252

 

$

11,745

 

Accrued compensation and other related benefits

 

1,526

 

1,327

 

Other accrued expenses

 

2,656

 

3,222

 

Deferred revenue

 

5,220

 

5,173

 

 

 

 

 

 

 

Total current liabilities

 

17,654

 

21,467

 

 

 

 

 

 

 

Deferred revenue, net of current portion

 

2,586

 

2,246

 

 

 

 

 

 

 

Total liabilities

 

20,240

 

23,713

 

 

 

 

 

 

 

Commitments and contingencies (Note 9)

 

 

 

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Preferred stock, $0.01 par value, 5,000,000 authorized, and no shares issued and outstanding

 

 

 

Common stock, $0.01 par value, 100,000,000 shares authorized; 47,002,254 and 46,753,826 shares issued; 43,183,595 and 43,285,167 shares outstanding at December 31, 2008 and September 30, 2008, respectively

 

470

 

468

 

Additional paid-in capital

 

195,653

 

195,228

 

Accumulated deficit

 

(138,038

)

(137,572

)

Treasury stock, at cost, 3,818,659 and 3,468,659 shares at December 31, 2008 and September 30, 2008, respectively

 

(3,938

)

(3,772

)

Total stockholders’ equity

 

54,147

 

54,352

 

Total liabilities and stockholders’ equity

 

$

74,387

 

$

78,065

 

 

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

 

1



Table of Contents

 

NETWORK ENGINES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

(unaudited)

 

 

 

Three months ended
December 31,

 

 

 

2008

 

2007

 

 

 

 

 

 

 

Net revenues

 

$

37,235

 

$

54,340

 

 

 

 

 

 

 

Cost of revenues

 

31,627

 

44,600

 

 

 

 

 

 

 

Gross profit

 

5,608

 

9,740

 

 

 

 

 

 

 

Operating expenses:

 

 

 

 

 

Research and development

 

1,442

 

2,370

 

Selling and marketing

 

2,177

 

3,117

 

General and administrative

 

2,075

 

2,645

 

Amortization of intangible asset

 

439

 

420

 

 

 

 

 

 

 

Total operating expenses

 

6,133

 

8,552

 

 

 

 

 

 

 

(Loss) income from operations

 

(525

)

1,188

 

Interest and other income, net

 

59

 

124

 

 

 

 

 

 

 

(Loss) income before income taxes

 

(466

)

1,312

 

Provision for income taxes

 

 

71

 

 

 

 

 

 

 

Net (loss) income

 

$

(466

)

$

1,241

 

 

 

 

 

 

 

Net (loss) income per share – basic and diluted

 

$

(0.01

)

$

0.03

 

 

 

 

 

 

 

Shares used in computing basic net (loss) income per share

 

43,137

 

43,656

 

Shares used in computing diluted net (loss) income per share

 

43,137

 

44,021

 

 

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

 

2



Table of Contents

 

NETWORK ENGINES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(unaudited)

 

 

 

Three months ended
December 31,

 

 

 

2008

 

2007

 

 

 

 

 

 

 

Cash flows from operating activities:

 

 

 

 

 

Net (loss) income

 

$

(466

)

$

1,241

 

Adjustments to reconcile net (loss) income to net cash provided by (used in) operating activities:

 

 

 

 

 

Depreciation and amortization

 

672

 

773

 

Provision for doubtful accounts

 

25

 

89

 

Stock-based compensation

 

339

 

587

 

Changes in operating assets and liabilities, net of effects of acquisition:

 

 

 

 

 

Accounts receivable

 

1,896

 

540

 

Income tax receivable

 

1,856

 

 

Inventories

 

3,332

 

(2,563

)

Prepaid expenses and other assets

 

(769

)

(644

)

Accounts payable

 

(3,493

)

(1,079

)

Accrued expenses

 

(359

)

(2,567

)

Deferred revenue

 

387

 

880

 

 

 

 

 

 

 

Net cash provided by (used in) operating activities

 

3,420

 

(2,743

)

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Acquisition and related costs, net of cash assumed

 

 

(29,413

)

Contingently returnable acquisition payment

 

 

(4,220

)

Purchases of property and equipment

 

(178

)

(62

)

Changes in other assets

 

 

140

 

 

 

 

 

 

 

Net cash used in investing activities

 

(178

)

(33,555

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Purchase of treasury stock

 

(166

)

 

Proceeds from issuance of common stock

 

89

 

115

 

Payments on capital lease obligation

 

(8

)

(5

)

 

 

 

 

 

 

Net cash (used in) provided by financing activities

 

(85

)

110

 

 

 

 

 

 

 

Effect of exchange rate differences on cash

 

 

(29

)

Net increase (decrease) in cash and cash equivalents

 

3,157

 

(36,217

)

Cash and cash equivalents, beginning of period

 

10,003

 

44,403

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

 

$

13,160

 

$

8,186

 

 

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

 

3



Table of Contents

 

NETWORK ENGINES, INC.

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

1.  Basis of Presentation

 

The accompanying condensed consolidated financial statements have been prepared by Network Engines, Inc. (“Network Engines” or the “Company”) in accordance with accounting principles generally accepted in the United States of America and pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”).  Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations.  The year-end condensed consolidated balance sheet data was derived from audited financial statements, but does not include all year-end disclosures required by accounting principles generally accepted in the United States of America.  These financial statements should be read in conjunction with the audited financial statements and the accompanying notes included in the Company’s 2008 Annual Report on Form 10-K (the “2008 Form 10-K”) filed by the Company with the SEC.

 

The information furnished reflects all adjustments, which, in the opinion of management, are of a normal recurring nature and are considered necessary for a fair statement of results for the interim periods.  It should also be noted that results for the interim periods are not necessarily indicative of the results expected for the full year or any future period.

 

The preparation of these condensed consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  The most significant estimates reflected in these financial statements include allowance for doubtful accounts, inventory valuation, valuation of deferred tax assets, valuation of intangible assets, warranty reserves and stock-based compensation.  Actual results could differ from those estimates.

 

2.  Significant Accounting Policies

 

Recent Accounting Pronouncements

 

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standard No. 157, “Fair Value Measurements” (“FAS 157”).  This statement addresses how companies should measure fair value when they are required to use a fair value measure for recognition or disclosure purposes under accounting principles generally accepted in the United States of America.  In February 2008, the FASB issued FASB Staff Position No. 157-1, “Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under Statement 13” (“FSP 157-1”).  FSP 157-1 amends FAS 157 to remove certain leasing transactions from its scope. In February 2008, the FASB issued FASB Staff Position No. 157-2, “Effective Date of FASB Statement No. 157” (“FSP 157-2”).  FSP 157-2 defers the effective date of FAS 157 for non-financial assets and liabilities which are recognized or disclosed at fair value on a non-recurring basis to the beginning of the Company’s fiscal year that begins after November 15, 2008.  In October 2008, the FASB issued FASB Staff Position No. 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset is Not Active” (“FSP 157-3”).  FSP 157-3 clarifies the application of FAS 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active.

 

FAS 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (“exit price”) in an orderly transaction between market participants at the measurement date.  FAS 157 requires disclosures that categorize assets and liabilities which are recognized or disclosed at fair value into one of three different levels depending on the assumptions (“inputs”) used in the valuation.  In the fair value hierarchy, Level 1 provides the most reliable measure of fair value, while Level 3 generally requires significant management judgment.  Financial assets and liabilities are classified in their entirety based on the lowest level of input significant to the fair value measurement.  The FAS 157 fair value hierarchy is defined as follows:

 

·                  Level 1 – Valuations are based on unadjusted quoted prices in active markets that are accessible at the measurement date for identical assets or liabilities.

 

4



Table of Contents

 

NETWORK ENGINES, INC.

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

·                  Level 2 – Valuations are based on quoted prices for similar assets or liabilities in active markets, or quoted prices for identical or similar assets or liabilities in markets that are not active for which significant inputs are observable, either directly or indirectly.

·                  Level 3 – Valuations are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement.  Inputs reflect management’s best estimates regarding the assumptions that market participants would use in valuing the asset or liability at the measurement date.

 

The Company adopted FAS 157, as it applies to financial assets and liabilities and nonfinancial assets and liabilities which are recognized or disclosed at fair value on a recurring basis (at least annually), as of October 1, 2008, and this adoption did not have any impact on the Company’s financial position, results of operations or cash flows.  The Company had no assets or liabilities recorded at fair value based on Level 1, Level 2 or Level 3 inputs as of the adoption date, October 1, 2008, or at any time during the three month period ended December 31, 2008.  However, the Company may acquire assets or incur liabilities in future periods for which fair value measurement under FAS 157 may be required.  The Company is in the process of evaluating whether the adoption of FSP 157-2 (as it relates to the effective date of FAS 157 for non-financial assets and liabilities which are recognized or disclosed at fair value on a non-recurring basis) will have a material impact on its financial position, results of operations or cash flows.

 

The Company adopted FASB Statement of Financial Accounting Standard No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an amendment of FASB Statement No. 115” (“FAS 159”) as of October 1, 2008.  This statement permits entities to choose to measure many financial instruments and certain other items at fair value at specified election dates.  Subsequent unrealized gains and losses on items for which the fair value option has been elected will be reported in earnings.  The adoption of FAS 159 did not have any impact on the Company’s financial position, results of operations or cash flows, as the Company did not elect to measure any items at fair value as of the adoption date.

 

In December 2007, the FASB issued Statement of Financial Accounting Standard No. 141(R), “Business Combinations” (“FAS 141R”).  This Statement replaced Statement of Financial Accounting Standard No. 141 to improve the relevance, representational faithfulness, and comparability of the information that a reporting entity provides in its financial reports about a business combination and its effects.  FAS 141R establishes principles and requirements for how the acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree, recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination.  FAS 141R is effective for business combinations on a prospective basis for which the acquisition date is on or after the beginning of the Company’s first annual reporting period beginning on or after December 15, 2008.

 

In April 2008, the FASB issued FASB Staff Position No. FAS 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP 142-3”).  FSP 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under Statement of Financial Accounting Standard No. 142, “Goodwill and Other Intangible Assets” (“FAS 142”).  This change is intended to improve the consistency between the useful life of a recognized intangible asset under FAS 142 and the period of expected cash flows used to measure the fair value of the asset under FAS 141R and other generally accepted accounting principles.  The requirement for determining useful lives must be applied prospectively to intangible assets acquired after the effective date and the disclosure requirements must be applied prospectively to all intangible assets recognized as of, and subsequent to, the effective date.  FSP 142-3 is effective as of the beginning of the Company’s fiscal year that begins after December 15, 2008.  The Company is in the process of evaluating whether the adoption of FSP 142-3 will have a material impact on its financial position or results of operations.

 

Cash, Cash Equivalents, Short-Term Investments and Restricted Cash

 

The Company did not hold any cash equivalents or short-term investments as of December 31 or September 30, 2008.  At December 31, 2008 and September 30, 2008, $47,000 of cash was restricted and pledged as collateral for a letter of credit related to the lease of one of the Company’s office facilities.

 

5



Table of Contents

 

NETWORK ENGINES, INC.

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

Comprehensive Income (Loss)

 

During each period presented, comprehensive income (loss) was equal to net income (loss).

 

Significant Customers

 

The following table summarizes those customers which accounted for greater than 10% of the Company’s net revenues or accounts receivable:

 

 

 

Net Revenues for the three

 

Accounts Receivable at

 

 

 

months ended December 31,

 

December 31,

 

September 30,

 

 

 

2008

 

2007

 

2008

 

2008

 

EMC Corporation

 

33

%

38

%

23

%

30

%

Tektronix, Inc.

 

14

%

13

%

17

%

17

%

 

3. Business Combination

 

On October 11, 2007, in order to increase the Company’s presence in the application platform marketplace, the Company acquired all of the equity of Alliance Systems, Inc. (“Alliance Systems”), a privately held corporation located in Plano, Texas, which provided application platforms and related equipment supporting carrier communications and enterprise communications solutions.  For further information on the acquisition, refer to the Company’s Annual Report on Form 10-K for the year ended September 30, 2008.

 

The acquisition was structured to include a downward adjustment to the purchase price based on the net working capital of Alliance Systems as of October 11, 2007, as defined in the merger agreement, and therefore approximately $4.0 million of the cash paid is contingently returnable to the Company upon resolution of this provision.  As a result, the amount of contingently returnable consideration has been excluded from the allocation of the purchase price to the net assets acquired until such time that this amount is no longer contingently returnable.  When the contingencies are resolved, any portion of the $4.0 million which is not returned to the Company will be reclassified as additional goodwill.  If additional goodwill is recorded in a future period, it will then be subject to review for impairment annually as of the fiscal year end date, and more frequently if certain indicators are present.

 

4.  Stock-Based Compensation

 

Stock-based compensation expense is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the employee’s requisite service period (generally the vesting period of the equity award).

 

The following table presents stock-based employee compensation expense included in the Company’s unaudited condensed consolidated statements of operations (in thousands):

 

 

 

Three months ended
December 31,

 

 

 

2008

 

2007

 

 

 

 

 

 

 

Cost of revenues

 

$

35

 

$

54

 

Research and development

 

84

 

250

 

Selling and marketing

 

61

 

95

 

General and administrative

 

159

 

188

 

Total stock-based compensation expense

 

$

339

 

$

587

 

 

The Company estimates the fair value of stock options using the Black-Scholes valuation model.  This valuation model takes into account the exercise price of the award, as well as a variety of significant assumptions.  These assumptions include the expected term, the expected volatility of the Company’s common stock over the expected term, the risk-free interest rate over the expected term, and the Company’s expected annual dividend yield.

 

6



Table of Contents

 

NETWORK ENGINES, INC.

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

The Company believes that the valuation technique and the approach utilized to develop the underlying assumptions are appropriate in calculating the fair values of the Company’s stock options granted during the three months ended December 31, 2008 and 2007.  Estimates of fair value are not intended to predict the value ultimately realized by persons who receive equity awards.  In determining the amount of expense to be recorded, judgment is also required to estimate forfeitures of the awards based on the probability of employees completing the required service period.  Historical forfeitures are used as a starting point for developing the estimate of future forfeitures.

 

Assumptions used to determine the fair value of options granted during the three months ended December 31, 2008 and 2007, using the Black-Scholes valuation model, were:

 

 

 

Three months ended December 31,

 

 

 

2008

 

2007

 

 

 

 

 

 

 

Expected term (1)

 

4.75 to 5.50 years

 

6.06 to 6.25 years

 

Expected volatility factor (2)

 

66.82% to 69.73%

 

59.05%

 

Risk-free interest rate (3)

 

1.55% to 1.72%

 

4.13%

 

Expected annual dividend yield

 

 

 

 


(1)

For grants issued prior to January 1, 2008, expected term was determined as the midpoint between the vesting date and the end of the contractual term, also known as the “simplified method” for estimating expected term described by Staff Accounting Bulletin No. 107 (“SAB 107”). For grants issued on or after January 1, 2008, expected term was determined based on analysis of the Company’s historical exercise and post-vesting cancellation activity.

 

 

(2)

The expected volatility for each grant was estimated based on a weighted average of the historical volatility of the Company’s common stock.

 

 

(3)

The risk-free interest rate for each grant was based on the U.S. Treasury yield curve in effect at the time of grant for a period equal to the expected term of the stock option.

 

Stock-based compensation expense related to the Company’s Employee Stock Purchase Plan is determined based on the discount of 15% from the per share market price on the close of the purchase period.

 

A summary of the Company’s stock option activity for the three months ended December 31, 2008 is as follows:

 

 

 

Three months ended December 31, 2008

 

 

 

Number of
Options

 

Weighted
Average
Exercise Price

 

Weighted
Average Remaining
Contractual
Term (in years)

 

 

 

 

 

 

 

 

 

Outstanding at September 30, 2008

 

7,483,042

 

$

2.35

 

 

 

Granted

 

1,047,500

 

$

0.39

 

 

 

Exercised

 

 

$

 

 

 

Forfeited

 

(136,784

)

$

2.11

 

 

 

Expired

 

(157,152

)

$

2.02

 

 

 

Outstanding at December 31, 2008

 

8,236,606

 

$

2.11

 

7.08

 

Exercisable at December 31, 2008

 

4,696,193

 

$

2.66

 

5.80

 

 

All stock options granted during the three months ended December 31, 2008 were granted with exercise prices equal to the fair market value of the Company’s common stock on the grant date and had a weighted average grant date fair value of $0.23.

 

At December 31, 2008, unrecognized compensation expense related to non-vested stock options was $2,254,000, which is expected to be recognized over a weighted average period of 2.68 years.

 

7



Table of Contents

 

NETWORK ENGINES, INC.

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

5.  Net (Loss) Income Per Share

 

Basic net (loss) income per share is computed by dividing the net (loss) income for the period by the weighted average number of shares of common stock outstanding during the period.  Diluted net (loss) income per share is computed by dividing the net (loss) income for the period by the weighted average number of shares of common stock and potential common stock, if dilutive, outstanding during the period.  Potential common stock includes incremental shares of common stock issuable upon the exercise of stock options, calculated using the treasury stock method.  For periods in which the Company incurs a net loss, diluted net loss per share is the same as basic net loss per share because the inclusion of these common stock equivalents would be anti-dilutive.

 

The following table sets forth the computation of basic and diluted net (loss) income per share as well as the weighted average potential common stock excluded from the calculation of net (loss) income per share because their inclusion would be anti-dilutive (in thousands, except per share data):

 

 

 

Three months ended
December 31,

 

 

 

2008

 

2007

 

Numerator:

 

 

 

 

 

Net (loss) income

 

$

(466

)

$

1,241

 

 

 

 

 

 

 

Denominator:

 

 

 

 

 

Shares used in computing basic net (loss) income per share

 

43,137

 

43,656

 

Common stock equivalents from employee stock options

 

 

365

 

 

 

 

 

 

 

Shares used in computing diluted net (loss) income per share

 

43,137

 

44,021

 

 

 

 

 

 

 

Net (loss) income per share:

 

 

 

 

 

Basic

 

$

(0.01

)

$

0.03

 

Diluted

 

$

(0.01

)

$

0.03

 

 

 

 

 

 

 

Anti-dilutive potential common stock equivalents excluded from the calculation of net (loss) income per share:

 

 

 

 

 

Options to purchase common stock

 

7,524

 

6,547

 

 

6.  Intangible Asset

 

The Company recorded an intangible asset as the result of its acquisition of Alliance Systems (see Note 3 above).  The acquired intangible asset is customer relationships, which is being amortized over 17 years, which is the estimated period of economic benefit expected to be received.  The following table presents the intangible asset balances as of December 31, 2008 and September 30, 2008 (in thousands):

 

 

 

December 31, 2008

 

September 30, 2008

 

 

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Net Book
Value

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Net Book
Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer relationships

 

$

11,775

 

$

2,330

 

$

9,445

 

$

11,775

 

$

1,891

 

$

9,884

 

 

Amortization expense for the three months ended December 31, 2008 was $439,000.  The estimated future amortization expense for the intangible asset as of December 31, 2008 by fiscal year is $1,317,000 for the remainder of 2009, $1,554,000 for 2010, $1,330,000 for 2011, $1,119,000 for 2012, $868,000 for 2013 and $3,257,000 thereafter.

 

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NETWORK ENGINES, INC.

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

The Company reviews long-lived assets, including definite-lived intangible assets, to determine if any adverse conditions exist that would indicate impairment.  Factors that could lead to an impairment of acquired customer relationships include a worsening in customer attrition rates compared to historical attrition rates, or lower than initially anticipated cash flows associated with customer relationships.  The Company assesses the recoverability of long-lived assets based on the projected undiscounted future cash flows estimated to be generated over the asset’s remaining life.  The amount of impairment, if any, is measured based on the excess of the carrying value over fair value.  Fair value is generally calculated as the present value of estimated future cash flows using a risk-adjusted discount rate, which requires significant management judgment with respect to revenue and expense growth rates, and the selection and use of an appropriate discount rate.

 

7.  Inventories

 

Inventories consisted of the following (in thousands):

 

 

 

December 31, 2008

 

September 30, 2008

 

 

 

 

 

 

 

Raw materials

 

$

11,547

 

$

13,402

 

Work in process

 

1,496

 

1,442

 

Finished goods

 

5,004

 

6,536

 

 

 

 

 

 

 

Total

 

$

18,047

 

$

21,380

 

 

8.  Equity

 

On June 12, 2008, the Board of Directors of the Company authorized the repurchase of up to $5 million of its common stock through a share repurchase program.  As authorized by the program, shares may be purchased in the open market or through privately negotiated transactions, in a manner consistent with applicable securities laws and regulations.  This stock repurchase program does not obligate the Company to acquire any specific number of shares, does not have an expiration date, and may be terminated at any time by the Company’s Board of Directors.  All repurchases are expected to be funded from the Company’s current cash balances or from cash generated from operations.  To facilitate repurchases of shares under this program, the Company established a Rule 10b5-1 plan intended to comply with the requirements of Rule 10b5-1 and Rule 10b-18 under the Securities Exchange Act of 1934.  A Rule 10b5-1 plan permits the repurchase of shares by a company at times when it otherwise might be prevented from doing so under insider trading laws or because of company blackout periods, provided that the plan is adopted when the company is not aware of material non-public information.  Pursuant to the plan, a broker designated by the Company has the authority to repurchase shares, in accordance with the terms of the plan, without further direction from the Company.  The amount and timing of specific repurchases are subject to the terms of the plan and market conditions.  During the three months ended December 31, 2008, the Company repurchased 350,000 shares of its common stock at an average cost of $0.47 per share.  From the inception of the share repurchase program through December 31, 2008, the Company had repurchased 1,256,801 shares of its common stock at an average cost of $0.88 per share.  Upon the expiration of the 10b5-1 plan on November 7, 2008, the Company suspended repurchases of its common stock.  The Company may resume repurchases under the program at any time at the discretion of management.  As of December 31, 2008, the maximum dollar value that may yet be used for purchases under the program was $3,900,000.

 

9.  Commitments and Contingencies

 

  Guarantees and Indemnifications

 

Acquisition-related indemnifications – When, as part of an acquisition, the Company acquires all the stock of a company, the Company assumes liabilities for certain events or circumstances that took place prior to the date of acquisition.  The maximum potential amount of future payments the Company could be required to make for such obligations is undeterminable.  Although certain provisions of the agreements remain in effect indefinitely, the Company believes that the probability of receiving a claim related to acquisitions other than Alliance Systems is unlikely.  As a result, the Company had not recorded any liabilities for such indemnification clauses as of December 31, 2008.  As of December 31, 2008, the Company had received one claim related to the Alliance Systems acquisition, for which

 

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NETWORK ENGINES, INC.

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

the Company paid a settlement of $88,000 during the fiscal year ended September 30, 2008.  A second claim was brought in January 2009 by Cordsen Engineering GmbH (“Cordsen”), a former customer of Alliance Systems, alleging that certain products that Cordsen purchased from Alliance Systems (prior to the Company’s acquisition of Alliance Systems) were defective and did not meet Cordsen’s desired specifications. Cordsen alleges that by virtue of the Company’s acquisition of Alliance Systems in October 2007, the Company became the assignee of Alliance Systems’ agreement with Cordsen.  The Alliance Systems selling stockholders have agreed with the Company to undertake the defense of the action insofar as it relates to activities that occurred principally before the Company acquired Alliance Systems, and have agreed to bear any costs associated with this action.  The Company believes this claim is without merit.  The Company is unable to predict the ultimate outcome of this claim and is unable to estimate the amount of any potential loss it might incur as a result of this claim, and therefore no amounts have been accrued relating to this claim as of December 31, 2008.  With regard to any claims which the Company has received or may receive in the future related to the Alliance Systems acquisition, the Company intends to pursue reimbursement from the former shareholders of Alliance Systems for any losses incurred by the Company as a result of such claims, pursuant to the terms of the Alliance Systems merger agreement.

 

The Company enters into standard indemnification agreements in the ordinary course of its business.  Pursuant to these agreements, the Company indemnifies, holds harmless, and agrees to reimburse the indemnified party for losses suffered or incurred by the indemnified party, generally its business partners or customers, in connection with any patent, copyright, trademark, trade secret or other intellectual property infringement claim by any third party with respect to its products.  The term of these indemnification agreements is generally perpetual.  The Company has never incurred costs to defend lawsuits or settle claims related to these indemnification agreements.  As a result, the Company believes the estimated fair value of these agreements is minimal.  Accordingly, the Company has no liabilities recorded for these indemnifications as of December 31, 2008.

 

Product warranties – The Company offers and fulfills standard warranty services on its application platform solutions.  Warranty terms vary in duration depending upon the product sold, but generally provide for the repair or replacement of any defective products for periods of up to 36 months after shipment.  Based upon historical experience and expectation of future conditions, the Company reserves for the estimated costs to fulfill customer warranty obligations upon the recognition of the related revenue.  The following table presents changes in the Company’s product warranty liability for the three months ended December 31, 2008 and 2007 (in thousands):

 

 

 

Three months ended
December 31,

 

 

 

2008

 

2007

 

 

 

 

 

 

 

Beginning balance

 

$

931

 

$

1,046

 

Acquisitions

 

 

70

 

Accruals for warranties issued

 

334

 

520

 

Fulfillment of warranties during the period

 

(388

)

(619

)

Ending balance

 

$

877

 

$

1,017

 

 

Contingencies

 

Initial Public Offering Lawsuit

 

On or about December 3, 2001, a putative class action lawsuit was filed in the United States District Court for the Southern District of New York against the Company, Lawrence A. Genovesi (the Company’s former Chairman and Chief Executive Officer), Douglas G. Bryant (the Company’s Chief Financial Officer), and several underwriters of the Company’s initial public offering.  The suit alleges, inter alia, that the defendants violated the federal securities laws by issuing and selling securities pursuant to the Company’s initial public offering in July 2000 (“IPO”) without disclosing to investors that the underwriter defendants had solicited and received excessive and undisclosed commissions from certain investors.  The suit seeks damages and certification of a plaintiff class consisting of all persons who acquired shares of the Company’s common stock between July 13, 2000 and December 6, 2000.

 

In October 2002, Lawrence A. Genovesi and Douglas G. Bryant were dismissed from this case without prejudice.  On December 5, 2006, the United States Court of Appeals for the Second Circuit overturned the District Court’s certification of a plaintiff class.  On April 6, 2007, the Second Circuit denied plaintiffs’ petition for rehearing, but clarified that the plaintiffs may seek to certify a more limited class in the District Court.  On September 27, 2007, plaintiffs filed a motion for class certification in certain designated “focus cases” in the District

 

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Table of Contents

 

NETWORK ENGINES, INC.

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

Court.  That motion has since been withdrawn.  On November 13, 2007, the issuer defendants in certain designated “focus cases” filed a motion to dismiss the second consolidated amended class action complaints that were filed in those cases.  On March 26, 2008, the District Court issued an Opinion and Order denying, in large part, the motions to dismiss the amended complaints in the “focus cases.”  The Company is unable to predict the outcome of this suit and as a result, no amounts have been accrued as of December 31, 2008.

 

10. Line of Credit

 

On October 11, 2007, the Company entered into a Loan and Security Agreement with Silicon Valley Bank (the “Bank”).  The term of this agreement was for one year, ending on October 9, 2008.  The Loan Agreement provided the Company with a $15 million revolving loan facility.  The interest rate on this line was equal to one quarter of a point (.25%) below the current prime rate with interest payable monthly.

 

On August 5, 2008, the Company and the Bank entered into the First Loan Modification Agreement (the “Modification Agreement”).  The Modification Agreement amended the Loan Agreement to extend its term to August 5, 2010, and to change the amount of the revolving loan facility to $10 million.  The Modification Agreement did not change the interest rate on the line.  The Company opted to lower the amount of the revolving loan facility from $15 million to $10 million in order to better reflect its potential borrowing needs and to reduce the fees it incurs to maintain the loan facility.  As of February 9, 2009, the Company had not drawn on this line of credit.

 

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Table of Contents

 

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

 

Special Note Regarding Forward-Looking Statements

 

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, that involve risks and uncertainties.  All statements other than statements of historical information provided herein are forward-looking statements and may contain projections related to financial results, economic conditions, trends and known uncertainties.  Our actual results could differ materially from those discussed in the forward-looking statements as a result of a number of factors, which include those discussed in this section and in Part II, Item 1A, Risk Factors, of this report and the risks discussed in our other filings with the Securities and Exchange Commission (the “SEC”).  Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management’s analysis, judgment, belief or expectation only as of the date hereof.  We undertake no obligation to publicly reissue these forward-looking statements to reflect events or circumstances that arise after the date hereof.

 

The following discussion and analysis should be read in conjunction with the condensed consolidated financial statements and the notes thereto included in Item 1 in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the fiscal year ended September 30, 2008 filed by us with the SEC.

 

Overview

 

We develop and manufacture application platform solutions that enable leading original equipment manufacturers, or OEMs, independent software vendors, or ISVs, and service providers to deliver their software applications in the form of a network-ready device.  Application platforms are pre-configured network infrastructure devices designed to optimally deliver specific software application functionality, ease deployment, improve integration and manageability, accelerate time to market and increase the security of that software application in a customer’s network.  We offer application platform customers an extensive suite of services associated with the design, development, manufacturing, brand fulfillment and post-sale support of these devices.  We produce, brand and fulfill devices branded for our customers, and derive our revenues primarily from the sale of value-added hardware platforms to these customers. Our customers subsequently resell and support the platforms under their own brands to their customer bases.

 

Critical Accounting Policies and Estimates

 

Our discussion and analysis of financial condition and results of operations are based upon our condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America.  In preparing these financial statements, we have made estimates and judgments in determining certain amounts included in the financial statements.  We base our estimates and judgments on historical experience and other assumptions that we believe to be reasonable under the circumstances.  Actual results may differ from these estimates under different assumptions or conditions.  There have been no changes to our critical accounting policies since September 30, 2008.

 

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Table of Contents

 

Results of Operations

 

Three months ended December 31, 2008 compared to the three months ended December 31, 2007

 

The following table summarizes financial data for the periods indicated, in thousands and as a percentage of net revenues, and provides the changes in thousands and percentages:

 

 

 

Three months ended December 31,

 

 

 

2008

 

2007

 

Increase (Decrease)

 

 

 

Dollars

 

% of Net
Revenues

 

Dollars

 

% of Net
Revenues

 

Dollars

 

Percentage

 

Net revenues

 

$

37,235

 

100.0

%

$

54,340

 

100.0

%

$

(17,105

)

(31.5

)%

Gross profit

 

5,608

 

15.1

%

9,740

 

17.9

%

(4,132

)

(42.4

)%

Operating expenses

 

6,133

 

16.5

%

8,552

 

15.7

%

(2,419

)

(28.3

)%

(Loss) income from operations

 

(525

)

(1.4

)%

1,188

 

2.2

%

(1,713

)

 

Net (loss) income

 

$

(466

)

(1.3

)%

$

1,241

 

2.3

%

$

(1,707

)

 

 

Net Revenues

 

Our revenues are derived primarily from sales of application platform solutions and related maintenance services to our OEM, ISV and service provider customers.

 

Our net revenues decreased for the three months ended December 31, 2008, as compared to the three months ended December 31, 2007, primarily due to decreases in sales volumes, which were significantly impacted by negative global economic conditions.  In addition, two customers who have reduced or ceased their purchases from us, one because it was acquired by a larger company and one because it changed its business model, accounted for approximately $3.7 million of the decrease in net revenues.  Also contributing to the decrease was the fact that the three month period ended December 31, 2007 included the results of operations of the former German subsidiary of Alliance Systems, which we sold in February 2008.  Furthermore, we ceased sales of military and government products during the three month period ended June 30, 2008.  Net revenues from the German subsidiary and from sales of military and government products totaled approximately $1.9 million during the three month period ended December 31, 2007.

 

Gross Profit

 

Gross profit represents net revenues recognized less the cost of revenues.  Cost of revenues includes cost of materials, warranty costs, inventory write-downs, shipping and handling costs, customer support costs and manufacturing costs.  Manufacturing costs are primarily comprised of compensation, contract labor costs and, when applicable, contract manufacturing costs.

 

Gross profit as a percentage of net revenue decreased for the three months ended December 31, 2008, as compared to the three months ended December 31, 2007.  The decrease from the prior year was primarily due to an increase in inventory write-downs, and the fact that manufacturing costs remained relatively constant from the prior year relative to the decrease in net revenues.  These factors were partially offset by decreases in cost of materials and warranty costs as a percentage of net revenues.

 

Gross profit is affected by customer and product mix, component material costs, pricing and the volume of orders as well as by the mix of product manufactured internally compared to product manufactured by a contract manufacturer, which carries higher manufacturing costs.

 

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Table of Contents

 

Operating Expenses

 

The following table presents operating expenses during the periods indicated, in thousands and as a percentage of net revenues, and provides the changes in thousands and percentages:

 

 

 

Three months ended December 31,

 

 

 

2008

 

2007

 

Increase (Decrease)

 

 

 

Dollars

 

% of Net
Revenues

 

Dollars

 

% of Net
Revenues

 

Dollars

 

Percentage

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

Research and development

 

$

1,442

 

3.9

%

$

2,370

 

4.3

%

$

(928

)

(39.2

)%

Selling and marketing

 

2,177

 

5.8

%

3,117

 

5.7

%

(940

)

(30.2

)%

General and administrative

 

2,075

 

5.6

%

2,645

 

4.9

%

(570

)

(21.6

)%

Amortization of intangible asset

 

439

 

1.2

%

420

 

0.8

%

19

 

4.5

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses

 

$

6,133

 

16.5

%

$

8,552

 

15.7

%

$

(2,419

)

(28.3

)%

 

Research and Development

 

Research and development expenses consist primarily of salaries and related expenses for personnel engaged in research and development, fees paid to consultants and outside service providers, material costs for prototype and test units and other expenses related to the design, development, testing and enhancements of our application platform solutions.  We expense all of our research and development costs as they are incurred.  The following table summarizes the most significant components of research and development expense for the periods indicated, in thousands and as a percentage of total research and development expense, and provides the changes in thousands and percentages:

 

 

 

Three months ended December 31,

 

 

 

2008

 

2007

 

Increase (Decrease)

 

 

 

Dollars

 

% of
Expense
Category

 

Dollars

 

% of
Expense
Category

 

Dollars

 

Percentage

 

Research and development:

 

 

 

 

 

 

 

 

 

 

 

 

 

Compensation and related expenses

 

$

970

 

67.3

%

$

1,521

 

64.2

%

$

(551

)

(36.2

)%

Stock-based compensation

 

84

 

5.8

%

250

 

10.6

%

(166

)

(66.4

)%

Prototype

 

140

 

9.7

%

122

 

5.1

%

18

 

14.8

%

Consulting and professional services

 

92

 

6.4

%

265

 

11.2

%

(173

)

(65.3

)%

Other

 

156

 

10.8

%

212

 

8.9

%

(56

)

(26.4

)%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total research and development

 

$

1,442

 

100

%

$

2,370

 

100

%

$

(928

)

(39.2

)%

 

Research and development expenses decreased in the three months ended December 31, 2008, as compared to the three months ended December 31, 2007, primarily due to decreases in compensation and related expenses, stock-based compensation and consulting and professional services expenses.  Compensation and related expenses and stock-based compensation expenses decreased primarily due to a decrease in research and development headcount from 45 at December 31, 2007 to 34 at December 31, 2008.  Because our consulting and professional services expenses relating to research and development are project driven, the timing of these expenditures can vary.

 

Our application platform development strategy emphasizes the utilization of standard component technologies, which utilize off-the-shelf components.  However, we expect that in some cases, significant development efforts will be required to fulfill our current and potential customers’ needs using customized platforms.  We expect that prototype and consulting and professional services costs will be variable and could fluctuate depending on the timing and magnitude of our development projects.

 

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Table of Contents

 

Selling and Marketing

 

Selling and marketing expenses consist primarily of salaries and commissions for personnel engaged in sales and marketing, and costs associated with our marketing programs, which include costs associated with our attendance at trade shows, public relations, product literature costs, web site enhancements, and travel.  The following table summarizes the most significant components of selling and marketing expense for the periods indicated, in thousands and as a percentage of total selling and marketing expense, and provides the changes in thousands and percentages:

 

 

 

Three months ended December 31,

 

 

 

2008

 

2007

 

Increase (Decrease)

 

 

 

Dollars

 

% of
Expense
Category

 

Dollars

 

% of
Expense
Category

 

Dollars

 

Percentage

 

Selling and marketing:

 

 

 

 

 

 

 

 

 

 

 

 

 

Compensation and related expenses

 

$

1,565

 

71.9

%

$

2,336

 

74.9

%

$

(771

)

(33.0

)%

Stock-based compensation

 

61

 

2.8

%

95

 

3.1

%

(34

)

(35.8

)%

Marketing programs

 

171

 

7.8

%

112

 

3.6

%

59

 

52.7

%

Travel

 

109

 

5.0

%

197

 

6.3

%

(88

)

(44.7

)%

Consulting and professional services

 

34

 

1.6

%

68

 

2.2

%

(34

)

(50.0

)%

Other

 

237

 

10.9

%

309

 

9.9

%

(72

)

(23.3

)%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total selling and marketing

 

$

2,177

 

100

%

$

3,117

 

100

%

$

(940

)

(30.2

)%

 

Selling and marketing expenses decreased in the three months ended December 31, 2008, as compared to the three months ended December 31, 2007, primarily due to decreases in compensation and related expenses.  Compensation and related expenses decreased primarily due to a decrease in selling and marketing headcount from 62 as of December 31, 2007, to 46 as of December 31, 2008, and due to lower variable compensation, which was directly related to the decreases in net revenues and net income (loss).

 

We believe that we must target our selling and marketing efforts on OEMs, ISVs and service providers in order to enhance our position as a leading provider of application platform solutions.

 

General and Administrative

 

General and administrative expenses consist primarily of salaries and other related costs for executive, finance, information technology and human resources personnel; professional services, which include legal, accounting, audit and tax fees; and director and officer insurance.  The following table summarizes the most significant components of general and administrative expense for the periods indicated, in thousands and as a percentage of total general and administrative expense, and provides the changes in thousands and percentages:

 

 

 

Three months ended December 31,

 

 

 

2008

 

2007

 

Increase (Decrease)

 

 

 

Dollars

 

% of
Expense
Category

 

Dollars

 

% of
Expense
Category

 

Dollars

 

Percentage

 

General and administrative:

 

 

 

 

 

 

 

 

 

 

 

 

 

Compensation and related expenses

 

$

1,062

 

51.2

%

$

1,319

 

49.9

%

$

(257

)

(19.5

)%

Stock-based compensation

 

159

 

7.7

%

188

 

7.1

%

(29

)

(15.4

)%

Consulting and professional services

 

465

 

22.4

%

655

 

24.8

%

(190

)

(29.0

)%

Director and officer insurance

 

55

 

2.6

%

64

 

2.4

%

(9

)

(14.1

)%

Other

 

334

 

16.1

%

419

 

15.8

%

(85

)

(20.3

)%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total general and administrative

 

$

2,075

 

100

%

$

2,645

 

100

%

$

(570

)

(21.6

)%

 

General and administrative expenses decreased in the three months ended December 31, 2008, as compared to the three months ended December 31, 2007, primarily due to decreases in compensation and related expenses and consulting and professional services expenses.  Compensation and related expenses decreased primarily due to a decrease in general and administrative headcount from 44 as of December 31, 2007, to 39 as of December 31, 2008,

 

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Table of Contents

 

and due to lower variable compensation, which was directly related to the decreases in net revenues and net income (loss).  The decrease in consulting and professional services expenses was primarily due to costs related to the acquisition and integration of Alliance Systems incurred during the three months ended December 31, 2007, which did not recur during the three months ended December 31, 2008.

 

Amortization of Intangible Asset

 

Amortization of the intangible asset increased by $19,000 for the three months ended December 31, 2008, as compared to the three months ended December 31, 2007.  The increase was primarily due to the fact that amortization of the intangible asset, which was recorded as the result of the acquisition of Alliance Systems on October 11, 2007, began during the quarter ended December 31, 2007, while the three month period ended December 31, 2008 included one full quarter of amortization expense.

 

Interest and Other Income, net

 

Interest and other income, net, decreased to $59,000 for the three months ended December 31, 2008 from $124,000 for the three months ended December 31, 2007.  This decrease was primarily due to lower interest income, attributable to lower interest rates on the cash balances held by us during the three months ended December 31, 2008, as compared to the three months ended December 31, 2007.

 

Liquidity and Capital Resources

 

The following table summarizes cash flow activities, in thousands, for the periods indicated:

 

 

 

Three months ended
December 31,

 

 

 

2008

 

2007

 

 

 

 

 

 

 

Net (loss) income

 

$

(466

)

$

1,241

 

Non-cash adjustments to net (loss) income

 

1,036

 

1,449

 

Changes in working capital

 

2,850

 

(5,433

)

 

 

 

 

 

 

Cash provided by (used in) operating activities

 

3,420

 

(2,743

)

 

 

 

 

 

 

Cash used in investing activities

 

(178

)

(33,555

)

Cash (used in) provided by financing activities

 

(85

)

110

 

Effect of exchange rate differences on cash

 

 

(29

)

 

 

 

 

 

 

Increase (decrease) in cash and cash equivalents

 

3,157

 

(36,217

)

Beginning cash and cash equivalents

 

10,003

 

44,403

 

 

 

 

 

 

 

Ending cash and cash equivalents

 

$

13,160

 

$

8,186

 

 

Operating Activities

 

Cash provided by operating activities during the three months ended December 31, 2008 was primarily the result of net cash provided by changes in working capital and the impact of non-cash adjustments to net loss, partially offset by the net loss for the period.  Changes in working capital were primarily driven by differences in the timing and magnitude of cash receipts, cash disbursements, inventory receipts and invoicing to customers.  The change in accounts receivable was also related to collections of payments from customers, as well as the fact that revenues for the three months ended December 31, 2008 were lower than revenues for the three months ended September 30, 2008.  The change in inventories was also related to the depletion of inventories on hand and lower purchases during the three months ended December 31, 2008 compared to the three months ended September 30, 2008, which was also related to the downward trend in revenues.  Changes in working capital during the three months ended December 31, 2008 also included the receipt of $1.9 million of income tax refunds related to taxes paid by Alliance Systems in prior years.

 

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Cash used in operating activities of $2.7 million for the three months ended December 31, 2007 was the result of net cash used by changes in working capital, primarily related to increased purchases of inventory and the use of cash to settle accounts payable and accrued expenses, partially offset by the impact of net income and non-cash adjustments to net income.

 

Investing Activities

 

Cash used in investing activities during the three months ended December 31, 2008 related to the use of approximately $178,000 of cash for purchases of property and equipment.  Cash used in investing activities during the three months ended December 31, 2007 primarily related to the use of $33.6 million of cash for the acquisition of Alliance Systems.

 

Financing Activities

 

Cash used in financing activities during the three months ended December 31, 2008 consisted primarily of $166,000 used to repurchase shares of our common stock, partially offset by the receipt of $89,000 as the result of purchases under the Employee Stock Purchase Plan.  Cash provided by financing activities during the three months ended December 31, 2007 consisted primarily of the receipt of $115,000 as the result of stock option exercises and purchases under the Employee Stock Purchase Plan.

 

Cash inflows from purchases under the Employee Stock Purchase Plan and from stock option exercises may also occur in the remainder of fiscal year 2009; however, we cannot predict the magnitude of the cash inflows, given the volatility of capital markets.

 

On June 12, 2008, our Board of Directors authorized the repurchase of up to $5 million of our common stock through a share repurchase program.  As authorized by the program, shares may be purchased in the open market or through privately negotiated transactions, in a manner consistent with applicable securities laws and regulations.  This stock repurchase program does not obligate us to acquire any specific number of shares and may be terminated at any time.  All repurchases are expected to be funded from our current cash balances or from cash generated from operations.  To facilitate repurchases of shares under this program, we established a Rule 10b5-1 plan intended to comply with the requirements of Rule 10b5-1 and Rule 10b-18 under the Securities Exchange Act of 1934.  A Rule 10b5-1 plan permits the repurchase of shares by a company at times when it otherwise might be prevented from doing so under insider trading laws or because of company blackout periods, provided that the plan is adopted when the company is not aware of material non-public information.  Pursuant to the plan, a broker designated by us has the authority to repurchase shares, in accordance with the terms of the plan, without further direction from us.  The amount and timing of specific repurchases are subject to the terms of the plan and market conditions.  During the three months ended December 31, 2008, we repurchased 350,000 shares of our common stock at an average cost of $0.47 per share.  From the inception of the share repurchase program through December 31, 2008, we had repurchased 1,256,801 shares of our common stock at an average cost of $0.88 per share.  Upon the expiration of the 10b5-1 plan on November 7, 2008, we suspended repurchases of our common stock.  We may resume repurchases under the program at any time at the discretion of management.  As of December 31, 2008, the maximum dollar value that may yet be used for purchases under the program was $3,900,000.

 

Our future liquidity and capital requirements will depend upon numerous factors, including:

 

·                  the timing and size of orders from our customers;

 

·                  the timeliness of receipts of payments from our customers;

 

·                  our ability to enter into partnerships with OEMs, ISVs and service providers;

 

·                  the level of success of our customers in selling systems that include our application platform solutions;

 

·                  the costs and timing of product engineering efforts and the success of these efforts; and

 

·                  market developments.

 

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We believe that our available cash resources and cash that we expect to generate from sales of our products and services will be sufficient to meet our operating and capital requirements through at least the next twelve months.

 

In the event that our available cash resources and the Silicon Valley Bank line of credit are not sufficient, or if an event of default occurs, such as failure to achieve certain financial covenants, that limits our ability to borrow under the line of credit, we may need to raise additional funds.  We may in the future seek to raise additional funds through borrowings, public or private equity financings or from other sources.  There can be no assurance that additional financing will be available at all or, if available, will be on terms acceptable to us.  Additional equity financings could result in dilution to our shareholders.  If additional financing is needed and is not available on acceptable terms, we may need to reduce our operating expenses and scale back our operations.

 

Contractual Obligations and Commitments

 

During the three months ended December 31, 2008, there were no material changes to our contractual obligations and commitments as disclosed in our annual report on Form 10-K for the year ended September 30, 2008.

 

Off-Balance Sheet Arrangements

 

We have not created, and are not party to, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating parts of our business that are not consolidated into our financial statements.  We have not entered into any transactions with unconsolidated entities whereby the Company has subordinated retained interests, derivative instruments or other contingent arrangements that expose the Company to material continuing risks, contingent liabilities, or any other obligation under a variable interest in an unconsolidated entity that provides financing, liquidity, market risk or credit risk support to the Company.

 

Recent Accounting Pronouncements

 

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standard No. 157, “Fair Value Measurements” (“FAS 157”).  This statement addresses how companies should measure fair value when they are required to use a fair value measure for recognition or disclosure purposes under accounting principles generally accepted in the United States of America.  In February 2008, the FASB issued FASB Staff Position No. 157-1, “Application of FASB Statement No. 157 to FASB Statement No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under Statement 13” (“FSP 157-1”).  FSP 157-1 amends FAS 157 to remove certain leasing transactions from its scope. In February 2008, the FASB issued FASB Staff Position No. 157-2, “Effective Date of FASB Statement No. 157” (“FSP 157-2”).  FSP 157-2 defers the effective date of FAS 157 for non-financial assets and liabilities which are recognized or disclosed at fair value on a non-recurring basis to the beginning of our fiscal year that begins after November 15, 2008.  In October 2008, the FASB issued FASB Staff Position No. 157-3, “Determining the Fair Value of a Financial Asset When the Market for That Asset is Not Active” (“FSP 157-3”).  FSP 157-3 clarifies the application of FAS 157 in a market that is not active and provides an example to illustrate key considerations in determining the fair value of a financial asset when the market for that financial asset is not active.

 

FAS 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability (“exit price”) in an orderly transaction between market participants at the measurement date.  FAS 157 requires disclosures that categorize assets and liabilities which are recognized or disclosed at fair value into one of three different levels depending on the assumptions (“inputs”) used in the valuation.  In the fair value hierarchy, Level 1 provides the most reliable measure of fair value, while Level 3 generally requires significant management judgment.  Financial assets and liabilities are classified in their entirety based on the lowest level of input significant to the fair value measurement.  The FAS 157 fair value hierarchy is defined as follows:

 

·                  Level 1 – Valuations are based on unadjusted quoted prices in active markets that are accessible at the measurement date for identical assets or liabilities.

·                  Level 2 – Valuations are based on quoted prices for similar assets or liabilities in active markets, or quoted prices for identical or similar assets or liabilities in markets that are not active for which significant inputs are observable, either directly or indirectly.

 

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·                  Level 3 – Valuations are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement.  Inputs reflect management’s best estimates regarding the assumptions that market participants would use in valuing the asset or liability at the measurement date.

 

We adopted FAS 157, as it applies to financial assets and liabilities and nonfinancial assets and liabilities which are recognized or disclosed at fair value on a recurring basis (at least annually), as of October 1, 2008, and this adoption did not have any impact on our financial position, results of operations or cash flows.  We had no assets or liabilities recorded at fair value based on Level 1, Level 2 or Level 3 inputs as of the adoption date, October 1, 2008, or at any time during the three month period ended December 31, 2008.  However, we may acquire assets or incur liabilities in future periods for which fair value measurement under FAS 157 may be required.  We are in the process of evaluating whether the adoption of FSP 157-2 (as it relates to the effective date of FAS 157 for non-financial assets and liabilities which are recognized or disclosed at fair value on a non-recurring basis) will have a material impact on our financial position, results of operations or cash flows.

 

We adopted FASB Statement of Financial Accounting Standard No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an amendment of FASB Statement No. 115” (“FAS 159”) as of October 1, 2008.  This statement permits entities to choose to measure many financial instruments and certain other items at fair value at specified election dates.  Subsequent unrealized gains and losses on items for which the fair value option has been elected will be reported in earnings.  The adoption of FAS 159 did not have any impact on our financial position, results of operations or cash flows, as we did not elect to measure any items at fair value as of the adoption date.

 

In December 2007, the FASB issued Statement of Financial Accounting Standard No. 141(R), “Business Combinations” (“FAS 141R”).  This Statement replaced Statement of Financial Accounting Standard No. 141 to improve the relevance, representational faithfulness, and comparability of the information that a reporting entity provides in its financial reports about a business combination and its effects.  FAS 141R establishes principles and requirements for how the acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquiree, recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination.  FAS 141R is effective for business combinations on a prospective basis for which the acquisition date is on or after the beginning of our first annual reporting period beginning on or after December 15, 2008.

 

In April 2008, the FASB issued FASB Staff Position No. FAS 142-3, “Determination of the Useful Life of Intangible Assets” (“FSP 142-3”).  FSP 142-3 amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under Statement of Financial Accounting Standard No. 142, “Goodwill and Other Intangible Assets” (“FAS 142”).  This change is intended to improve the consistency between the useful life of a recognized intangible asset under FAS 142 and the period of expected cash flows used to measure the fair value of the asset under FAS 141R and other generally accepted accounting principles.  The requirement for determining useful lives must be applied prospectively to intangible assets acquired after the effective date and the disclosure requirements must be applied prospectively to all intangible assets recognized as of, and subsequent to, the effective date.  FSP 142-3 is effective as of the beginning of our fiscal year that begins after December 15, 2008.  We are in the process of evaluating whether the adoption of FSP 142-3 will have a material impact on our financial position or results of operations.

 

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ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

We do not engage in any foreign currency hedging transactions and therefore do not believe we are subject to material exchange rate risk.  We are not currently exposed to market risk related to changes in interest rates.  In the past, we have invested excess cash balances in cash equivalents and short-term investments, and if we were to do so in the future, we believe that the effect, if any, of reasonably possible near-term changes in interest rates on our financial position, results of operations and cash flows would not be material.  In addition, a hypothetical 10% increase or decrease in interest rates would not have a material adverse effect on our financial condition.

 

ITEM 4.    CONTROLS AND PROCEDURES

 

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act) as of December 31, 2008.  Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of December 31, 2008, our disclosure controls and procedures (1) were designed to effectively accumulate and communicate information to the Company’s management, as appropriate, to allow timely decisions regarding required disclosure and (2) were effective, in that they provide reasonable assurance that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.

 

During the three months ended December 31, 2008, no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) occurred that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II—OTHER INFORMATION

 

ITEM 1.     LEGAL PROCEEDINGS

 

Initial Public Offering Lawsuit

 

On or about December 3, 2001, a putative class action lawsuit was filed in the United States District Court for the Southern District of New York against us, Lawrence A. Genovesi (our former Chairman and Chief Executive Officer), Douglas G. Bryant (our Chief Financial Officer), and several underwriters of our initial public offering.  The suit alleges, inter alia, that the defendants violated the federal securities laws by issuing and selling securities pursuant to our initial public offering in July 2000 (“IPO”) without disclosing to investors that the underwriter defendants had solicited and received excessive and undisclosed commissions from certain investors.  The suit seeks damages and certification of a plaintiff class consisting of all persons who acquired shares of our common stock between July 13, 2000 and December 6, 2000.

 

In October 2002, Lawrence A. Genovesi and Douglas G. Bryant were dismissed from this case without prejudice.  On December 5, 2006, the United States Court of Appeals for the Second Circuit overturned the District Court’s certification of a plaintiff class.  On April 6, 2007, the Second Circuit denied plaintiffs’ petition for rehearing, but clarified that the plaintiffs may seek to certify a more limited class in the District Court.  On September 27, 2007, plaintiffs filed a motion for class certification in certain designated “focus cases” in the District Court.  That motion has since been withdrawn.  On November 13, 2007, the issuer defendants in certain designated “focus cases” filed a motion to dismiss the second consolidated amended class action complaints that were filed in those cases.  On March 26, 2008, the District Court issued an Opinion and Order denying, in large part, the motions to dismiss the amended complaints in the “focus cases.”  We are unable to predict the outcome of this suit and as a result, no amounts have been accrued as of December 31, 2008.

 

Customer Claim

 

On January 20, 2009, a lawsuit was filed in the United States District Court for the Eastern District of Texas against us and several other co-defendants.  The suit, filed by Cordsen Engineering GmbH (“Cordsen”), a former customer of Alliance Systems, alleges breach of contract and other claims with regard to certain products that Cordsen purchased from Alliance Systems (prior to our acquisition of Alliance Systems) and which Cordsen alleges did not meet its desired specifications. Cordsen alleges that by virtue of our acquisition of Alliance Systems in October 2007, we became the assignee of Alliance Systems’ agreement with Cordsen.  The Alliance Systems selling stockholders have agreed with us to undertake the defense of the action insofar as it relates to activities that occurred principally before we acquired Alliance Systems, and have agreed to bear any costs associated with this action.  We believe this claim is without merit.  We are unable to predict the ultimate outcome of this claim and are unable to estimate the amount of any potential loss we might incur as a result of this claim, and therefore no amounts have been accrued relating to this claim as of December 31, 2008.  With regard to this claim, the Company intends to pursue reimbursement from the former shareholders of Alliance Systems for any losses incurred by the Company, pursuant to the terms of the Alliance Systems merger agreement.

 

ITEM 1A. RISK FACTORS

 

The risks and uncertainties described below are not the only ones we are faced with.  Additional risks and uncertainties not presently known to us, or that are currently deemed immaterial, may also impair our business operations.  If any of the following risks actually occur, our financial condition and operating results could be materially adversely affected.  Subsequent to the previous disclosure of risk factors in Item 1A of Part I of our most recent Annual Report on Form 10-K for the fiscal year ended September 30, 2008, there have been no significant changes in our risk factors.

 

Risks of dependence on one strategic partner.

 

We derive a significant portion of our revenues from sales of application platform solutions directly to EMC and our revenues may decline significantly if this customer reduces, cancels or delays purchases of our products, terminates its relationship with us or exercises certain of its contractual rights.

 

For the three months ended December 31, 2008 and 2007, sales directly to EMC, our largest customer, accounted for 33% and 38%, of our total net revenues, respectively.  These sales are primarily attributable to one product pursuant to a non-exclusive contract.  Although this concentration has decreased as a result of our acquisition of Alliance Systems, we anticipate that our future operating results will continue to depend heavily on sales to, and our relationship with, this customer.  Accordingly, the success of our business will depend, in large

 

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part, on this customer’s willingness to continue to utilize our application platform solutions in its existing and future products.  Further, our financial success is dependent upon the future success of the products we sell to this customer and the continued growth of this customer, whose industry has a history of rapid technological change, short product lifecycles, consolidation and pricing and margin pressures.  Advances in hard drive storage capacity could also result in lower sales volumes to this customer.  A significant reduction in sales to this customer, or significant pricing and additional margin pressures exerted on us by this customer, would have a material adverse effect on our results of operations.  In addition, if this customer delays or cancels purchases of our products, our operating results would be harmed and we may be unable to accurately predict revenues, profitability and cash flows.

 

Under the terms of our non-exclusive contract, this customer has the right to enter into agreements with third parties for similar products, is not obligated to purchase any minimum quantity of products from us and may choose to stop purchasing from us at any time, with or without cause.  In addition, this customer may terminate the agreement in the event that we attempt to assign our rights under the agreement to another party without this customer’s prior approval.  Furthermore, in the event that we default on certain portions of the agreement, this customer has the right to manufacture certain products in exchange for a mutually agreeable royalty fee.  If any of these events were to occur, or if this customer were to delay or discontinue purchases of our products as a result of dissatisfaction or otherwise, our revenues and operating results would be materially adversely affected, our reputation in the industry might suffer, and we may be unable to accurately predict revenues, profitability and cash flows.

 

Risks related to business strategy.

 

Our future success is dependent upon our ability to generate significant revenues from application platform development relationships.

 

We believe we must diversify our revenues and a major component of our business strategy is to form application platform development relationships with new OEMs, ISVs and service providers.  Under this strategy, we work with our customers to develop an application platform branded with their name.  The customers then perform all of the selling and marketing efforts related to sales of their branded appliance.

 

There are multiple risks associated with this strategy including:

 

·                  the expenditure of significant product development costs, which if not recovered through application platform sales could negatively affect our operating results;

 

·                  a significant reliance on our customers’ application software products, which could be technologically inferior to competitive products and result in limitations on our application platform sales, causing our revenues and operating results to suffer;

 

·                  our customers will most likely continue selling their software products as separate products in addition to selling them in the form of an application platform, which will require us to effectively communicate the benefits of delivering their software in the form of an application platform;

 

·                  our reliance on our customers to perform all of the selling and marketing efforts associated with further sales of the application platform solution we develop with them;

 

·                  continued consolidation within the data storage, network security, carrier communications and enterprise communications industries that results in existing customers being acquired by other companies;

 

·                  our ability to leverage strategic relationships to obtain new sales leads;

 

·                  our ability to provide our customers with high quality application platform solutions at competitive prices; and

 

·                  there is no guarantee that design wins will become actual orders and sales.  A “design win’’ occurs when a customer or prospective customer notifies us that we have been selected to integrate the customer’s application.  There can be delays of several months or more between the design win and

 

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when a customer initiates actual orders.  The design win may never become an actual order or sale.  Further, if the customer’s plans change, we may commit significant resources to design wins that do not result in actual orders.

 

Additionally, our future success will depend on our ability to establish relationships with new customers while expanding sales of application platform solutions to our existing customers.  If these customers are unsuccessful in their marketing and sales efforts, or if we are unable to expand our sales to existing customers and develop relationships with new customers, our revenues and operating results could suffer.

 

We may not be able to effectively commercialize our application platform solutions or may be at a competitive disadvantage if we cannot license or integrate third-party applications that are essential for the functionality of certain platforms.

 

We believe our success will depend on our ability to license or integrate certain applications from third-parties that would be incorporated in certain of our application platform solutions.  Because we do not currently know with certainty which of these prospective technologies will be desired in the marketplace, we may incorrectly invest in development or prioritize our efforts to integrate these technologies in our application platforms.  Additionally, even if we correctly focus our efforts, there can be no assurance that we will select the preferred provider of these technologies, the third-party provider will be committed to the relationship and integration of their technology, or that they will license their technology to us without obtaining significant certification or training, which could be costly and time consuming.  If we are unable to successfully integrate the correct third-party technologies in a timely manner, our application platform solutions may be inferior to other competitive products in the marketplace, which may adversely affect the results of our operations and our ability to grow our business.

 

Our business could be harmed if we fail to adequately integrate new technologies into our application platform solutions or if we invest in technologies that do not result in the desired effects on our current and/or future product offerings.

 

As part of our strategy, we review opportunities to incorporate products and technologies that could be required in order to add new customers, retain existing customers, expand the breadth of product offerings or enhance our technical capabilities.  Investing in new technologies presents numerous risks, including:

 

·                  we may experience difficulties integrating new technologies into our current or future products;

 

·                  our new products may be delayed because selected new technologies themselves are delayed or have defects and/or performance limitations;

 

·                  we may incorporate technologies that do not result in the desired improvements to our current and/or future application platform products;

 

·                  we may incorporate new technologies that either may not be desired by our customers or may not be compatible with our customers’ existing technology;

 

·                  new technologies are unproven and could contain latent defects, which could result in high product failures; and

 

·                  we could find that the new products and/or technologies that we choose to incorporate into our products are technologically inferior to those utilized by our competitors.

 

If we are unable to adequately integrate new technologies into our application platform products or if we invest in technologies that do not result in the desired effects on our current and/or future product offerings, our business could be harmed and operating results could suffer.

 

Risks related to the application platform markets.

 

If application platforms are not increasingly adopted as a solution to meet a significant portion of companies’ software application needs, the market for application platform solutions may not grow, which could negatively impact our revenues.

 

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We expect that all of our future revenues will come from sales of application platform solutions and related services.  As a result, we are substantially dependent on the growing use of application platforms to meet businesses’ software application needs.  Our revenues may not grow and the market price of our common stock could decline if the application platform market does not grow as rapidly as we expect.

 

Our expectations for the growth of the application platform market may not be fulfilled if customers continue to use general-purpose servers or proprietary platforms.  The role of our products could, for example, be limited if general-purpose servers out-perform application platforms, provide more capabilities and/or flexibility than application platforms or are offered at a lower cost.  This could force us to lower the prices of our application platform solutions or could result in fewer sales of these products, which would negatively impact our revenues and decrease our gross profits.

 

The products that we sell are subject to rapid technological change and our sales will suffer if these products are rendered obsolete by new technologies.

 

The markets we serve are characterized by rapid technological change, frequent new product introductions and enhancements, potentially short product lifecycles, changes in customer demands and evolving industry standards.  In the application platform market, we attempt to mitigate these risks by utilizing standards-based hardware platforms and by maintaining an adequate knowledge base of available technologies.  However, the application platform solutions that we sell could be rendered obsolete if products based on new technologies are introduced or new industry standards emerge and we are not able to incorporate these technological changes into our products.  In addition, we depend on third parties for the base hardware of our application platforms and we are at risk if these third parties do not integrate new technologies.  Releasing new products and services prematurely may result in quality problems, and delays may result in loss of customer confidence and market share.  We may be unable to develop new products and services or achieve and maintain market acceptance of them once they have come to market.  Furthermore, when we do introduce new or enhanced products and services, we may be unable to manage the transition from the older products and services to minimize disruption in customer ordering patterns, avoid excessive inventories of older products and deliver enough new products and services to meet customer demand.

 

To remain competitive in the application platform market, we must successfully identify new product opportunities and partners and develop and bring new products to market in a timely and cost-effective manner.  Our failure to select the appropriate partners and keep pace with rapid industry, technology or market changes could have a material adverse effect on our business, results of operations or financial condition.

 

Risks related to financial results.

 

We have a history of losses and may continue to experience losses in the future, which could cause the market price of our common stock to decline.

 

In the past, we have incurred significant net losses and could incur net losses in the future.  At December 31, 2008 and September 30, 2008, our accumulated deficit was $138 million.  We believe that any future growth will require us to incur significant engineering, selling and marketing and administrative expenses.  As a result, we will need to generate significant revenues to achieve and sustain profitability.  If we do not achieve and sustain profitability, the market price for our common stock may decline.  Even if we achieve sustained profitability there can be no guarantee that our stock price will increase.

 

We may not be able to borrow funds under our credit facility or secure future financing if there is a material adverse change in our business.

 

In connection with our October 2007 acquisition of Alliance Systems, we entered into an agreement with Silicon Valley Bank to provide for a line of credit.  We view this line of credit as a source of available liquidity to fund fluctuations in our working capital requirements.  This facility contains various conditions, covenants and representations with which we must be in compliance in order to borrow funds.  However, if we wish to borrow under this facility in the future, there can be no assurance that we will be in compliance with these conditions, covenants and representations.  In addition, this line of credit facility with Silicon Valley Bank expires on August 5, 2010.  After that, we may need to secure new financing to continue funding fluctuations in our working capital requirements.  However, we may not be able to secure new financing, or financing on favorable terms, if we

 

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experience a significant adverse change in our business.  As of February 9, 2009, we had not drawn on this line of credit.

 

If our estimates or judgments relating to our critical accounting policies are based on assumptions that change or prove to be incorrect, our operating results could fall below expectations of securities analysts and investors, resulting in a decline in our stock price.

 

Our discussion and analysis of financial condition and results of operations is based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America.  The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes.  On an ongoing basis, we evaluate significant estimates used in preparing our consolidated financial statements, including those related to:

 

·                  revenue recognition;

 

·                  collectibility of accounts receivable;

 

·                  inventory write-downs;

 

·                  stock-based compensation;

 

·                  valuation of intangible assets;

 

·                  warranty reserves; and

 

·                  realization of deferred tax assets.

 

We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, as provided in our discussion and analysis of financial condition and results of operations, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.  Actual results may differ from these and other estimates if our assumptions change or if actual circumstances differ from those in our assumptions, which could cause our operating results to fall below the expectations of securities analysts and investors, resulting in a decline in our stock price.

 

Our quarterly revenues and operating results may also fluctuate for various reasons, which could cause our operating results to fall below expectations and thus impact the market price of our common stock.

 

Our quarterly revenues and operating results are difficult to predict and may fluctuate significantly from quarter to quarter.  None of our customers are obligated to purchase any quantity of our products in the future nor are they obligated to meet forecasts of their product needs.  Our operating expense levels are based in part on expectations of future revenues and gross profits, which are partially dependent on our customers’ ability to accurately forecast and communicate their future product needs.  If revenues or gross profits in a particular quarter do not meet expectations, operating results could suffer and the market price of our common stock could decline.  Factors affecting quarterly operating results include:

 

·                  the degree to which our customers are successful in reselling application platform solutions to their end customers;

 

·                  our customers’ consumption of their existing inventories of our products;

 

·                  the variability of orders we receive from customers who do not provide us with sales forecasts;

 

·                  the product mix of our sales;

 

·                  the timing of new product introductions by our customers;

 

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·                  the availability and/or price of products from suppliers;

 

·                  the loss of key suppliers or customers;

 

·                  price competition;

 

·                  costs associated with our introduction of new application platform solutions and the market acceptance of those products; and

 

·                  the mix of product manufactured internally and by our contract manufacturer.

 

If the products and services that we sell become more commoditized and competition in the data storage, network security, carrier communications and enterprise communications markets continues to increase, then our gross profit as a percentage of net revenues may decrease and our operating results may suffer.

 

Products and services in the data storage, network security, carrier communications and enterprise communications markets may be subject to further commoditization as these industries continue to mature and other businesses introduce additional competing products and services.  Our gross profit as a percentage of revenues for our products may decrease in response to changes in our product mix, competitive pricing pressures, or new product introductions into these markets.  If we are unable to offset decreases in our gross profits as a percentage of revenues by increasing our sales volumes, or by decreasing our product costs, our operating results will decline.  Changes in the mix of sales of our products, including the mix of higher margin products sold in smaller quantities and lower margin products sold in larger quantities, could adversely affect our operating results for future quarters.  To maintain our gross profits, we also must continue to reduce the manufacturing cost of our application platform solutions.  Our efforts to produce higher margin application platform solutions, continue to improve our application platform solutions and produce new application platform solutions may make it difficult to reduce our manufacturing cost per product.  Further, utilization of a contract manufacturer to produce a portion of our customer requirements for certain application platform solutions may not allow us to reduce our cost per product.  If we fail to respond adequately to pricing pressures, to competitive products with improved performance or to developments with respect to the other factors on which we compete, we could lose customers or orders.  If we are unable to offset decreases in the prices we are able to charge our customers and/or our gross margin percentage with increased sales volumes, our business will suffer.

 

An intangible asset represents a significant portion of our assets, and any impairment of the intangible asset would adversely impact our operating results.

 

At December 31, 2008, the carrying value of our intangible asset, which consists of customer relationships associated with our acquisition of Alliance Systems, was approximately $9.4 million, net of accumulated amortization.  We will continue to incur non-cash charges relating to the amortization of our intangible asset over its remaining useful life.  Future determinations of significant write-offs of the intangible asset resulting from an impairment test or any accelerated amortization of the intangible asset could have a significant impact on our operating results and affect our ability to achieve or maintain profitability.  Although we do not believe that any impairment of the intangible asset exists at this time, in the event that any indicators of possible impairment exist, we may record charges which could have a material adverse effect on our results of operations.  Such indicators include, but are not limited to, a worsening in customer attrition rates compared to historical attrition rates, or lower than initially anticipated cash flows associated with customer relationships.

 

Our acquisition of Alliance Systems was structured to include a downward adjustment to the purchase price based on the net working capital of Alliance Systems as of October 11, 2007, as defined in the merger agreement, and therefore approximately $4.0 million of the cash paid is contingently returnable to us upon resolution of this provision.  As a result, the amount of contingently returnable consideration has been excluded from the allocation of the purchase price to the net assets acquired until such time that this amount is no longer contingently returnable.  When the contingencies are resolved, any portion of the $4.0 million which is not returned to us will be reclassified as additional goodwill.  If additional goodwill is recorded in a future period, it will then be subject to review for impairment annually as of the fiscal year end date, and more frequently if certain indicators are present.  If an impairment charge is recorded in the future, it would negatively impact our operating results.

 

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Risks related to competition.

 

Competition in the application platform market is significant and if we fail to compete effectively, our financial results will suffer.

 

In the application platform market, we face significant competition from a number of different types of companies.  Our competitors include companies who market general-purpose servers, server virtualization software, specific-purpose servers and application platforms as well as companies that sell custom integration services utilizing hardware produced by other companies.  Many of these companies are larger than we are and have greater financial resources and name recognition than we do, as well as significant distribution capabilities and larger, more established service organizations to support their products.  Our larger competitors may be able to leverage their existing resources, including their extensive distribution capabilities and service organizations, to provide a wider offering of products and services and higher levels of support on a more cost-effective basis than we can.  We expect competition in the application platform market to increase significantly as more companies enter the market and as our existing competitors continue to improve the performance of their current products and to introduce new products and technologies.  Such increased competition could adversely affect sales of our current and future products.  In addition, competing companies may be able to undertake more extensive promotional activities, adopt more aggressive pricing policies and offer more attractive terms to their customers than we can.  If our competitors provide lower cost products with greater functionality or support than our application platform solutions, or if some of their products are comparable to ours and are offered as part of a range of products that is broader than ours, our application platform solutions could become undesirable.

 

Even if the functionality of competing products is equivalent to ours, we face a risk that a significant number of customers would elect to pay a premium for similar functionality from a larger vendor rather than purchase products from us.  We attempt to differentiate ourselves from our competition by offering a wide variety of software integration, branding, supply-chain management, engineering, support, logistics and fulfillment services.  If we are unable to effectively differentiate ourselves from our competition, we may be forced to offer price reductions to maintain relationships with certain customers.  As a result, our revenues may not increase and may decline, and our gross margins may decline.  Furthermore, increased competition could lead to higher selling expenses which would negatively affect our business and future operating results.

 

Risks related to marketing and sales efforts and customer service.

 

We need to effectively manage our sales and marketing operations to increase market awareness and sales of our products and to promote our brand recognition.  If we fail to do so, our growth will be limited.

 

Although we currently have a relatively small sales and marketing organization, we must continue to increase market awareness and sales of our products and promote our brand in the marketplace.  We believe that to compete successfully we will need OEMs, ISVs and service providers to recognize us as a top-tier provider of application platform solutions and services.  If we are unable to increase market awareness and promote ourselves as a leading provider of application platform solutions with our available resources, we may be unable to develop new customer relationships or expand our product and service offerings with existing customers.

 

If we are unable to effectively manage our customer service and support activities, we may not be able to retain our existing customers or attract new customers.

 

We need to effectively manage our customer support operations to ensure that we maintain good relationships with our customers.  We believe that providing a level of high quality customer support will be a key differentiator for our product offerings and may require more technically qualified staff which could be more costly.  If we are unable to provide this higher level of service we may be unable to successfully attract and retain customers.

 

If our customer support organization is unsuccessful in maintaining good customer relationships, we may lose customers to our competitors and our reputation in the market could be damaged.  As a result, we may lose revenues and our business could suffer.  Furthermore, the costs of providing this service could be higher than we expect, which could adversely affect our operating results.

 

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Risks related to product manufacturing.

 

Our dependence on sole source and limited source suppliers for key application platform components makes us susceptible to supply shortages and potential quality issues that could prevent us from shipping customer orders on time, or at all, and could result in lost sales and customers.

 

We depend upon single source and limited source suppliers for our industry standard processors, main logic boards, telephony boards, certain disk drives, hardware platforms and power supplies as well as certain of our chassis and sheet metal parts.  Additionally, we depend on limited sources to supply certain other industry standard and customized components.  We have in the past experienced, and may in the future experience, shortages of or difficulties in acquiring components in the quantities and of the quality needed to produce our application platform solutions.  Shortages in supply or quality issues related to these key components for an extended time would cause delays in the production of our application platform solutions, prevent us from satisfying our contractual obligations and meeting customer expectations, and result in lost sales and customers.  If we are unable to buy components in the quantities and of the quality that we need on a timely basis or at acceptable prices, we will not be able to manufacture and deliver our application platform solutions on a timely or cost effective basis to our customers, and our competitive position, reputation, business, financial condition and results of operations could be seriously harmed.  If we are able to secure other sources of supply for such components, our costs to purchase such components could increase, which would negatively impact our gross margins.  A significant portion of our components are purchased from suppliers located in China.  Recently, several factories in China have closed without notice.  If a factory which supplies parts to us closes with little or no notice, we could experience shortages and difficulties in locating alternative sources of supply.

 

If our application platform solutions fail to perform properly and conform to specifications, our customers may demand refunds, assert claims for damages or terminate existing relationships with us, and our reputation and operating results may suffer materially.

 

Because application platform solutions are complex, they could contain errors that can be detected at any point in a product’s lifecycle.  If flaws in design, production, assembly or testing of our products (by us or our suppliers) were to occur, we could experience a rate of failure in our products that could result in substantial repair, replacement or service costs and potential damage to our reputation.  In addition, because our solutions are combined with products from other vendors, should problems occur, it might be difficult to identify the source of the problem.  Continued improvement in manufacturing capabilities, control of material and manufacturing quality and costs, and product testing are critical factors in our future growth.  There can be no assurance that our efforts to monitor, develop, modify and implement appropriate test and manufacturing processes for our products will be sufficient to permit us to avoid a rate of failure in our products that results in substantial delays in shipment, significant repair or replacement costs or potential damage to our reputation, any of which could have a material adverse effect on our business, results of operations or financial condition.

 

In the past, we have discovered errors in some of our application platform solutions and have experienced delays in the shipment of our products during the period required to correct these errors or we have had to replace defective products that were already shipped.  Errors in our application platform solutions may be found in the future and any of these errors could be significant.  Significant errors, including those discussed above, may result in:

 

·                  the loss of or delay in market acceptance and sales of our application platform solutions;

 

·                  diversion of engineering resources;

 

·                  increased manufacturing costs;

 

·                  the loss of customers;

 

·                  injury to our reputation and other customer relations problems; and

 

·                  increased maintenance and warranty costs.

 

Any of these problems could harm our business and future operating results.  Product errors or delays could be material, including any product errors or delays associated with the introduction of new products or versions of

 

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existing products.  If our application platform solutions fail to conform to warranted specifications, customers could demand a refund for the purchase price and assert claims for damages.

 

Moreover, because our application platform solutions may be used in connection with critical computing systems services, including providing security to protect valuable information, we may receive significant liability claims if they do not work properly.  While our agreements with customers typically contain provisions intended to limit our exposure to liability claims, these limitations do not preclude all potential claims.  Liability claims could exceed our insurance coverage and require us to spend significant time and money in litigation or to pay significant damages.  Any claims for damages, even if unsuccessful, could seriously damage our reputation and business.

 

If we do not accurately forecast our application platform materials requirements, our business and operating results could be adversely affected.

 

We use rolling forecasts based on anticipated product orders to determine our application platform component requirements.  Lead times for materials and components that we order vary significantly depending on variables such as specific supplier requirements, contract terms and current market demand for those components.  In addition, a variety of factors, including the timing of product releases, potential delays or cancellations of orders, the timing of large orders and the unproven acceptance of new products in the market make it difficult to predict product orders.  As a result, our materials requirement forecasts may not be accurate.  If we overestimate our materials requirements, we may have excess inventory, which would increase costs and negatively impact our cash position.  Our agreements with certain customers provide us with protections related to inventory purchased in accordance with the terms of these agreements; however, these protections may not be sufficient to prevent certain losses as a result of excess or obsolete inventory.  If we underestimate our materials requirements, we may have inadequate inventory, which could interrupt our manufacturing and delay delivery of our application platform solutions to customers, resulting in a loss of sales or customers.  Any of these occurrences would negatively impact our business and operating results.

 

Other risks related to our business.

 

Our operating results would suffer if we, our customers, or other third-party software providers from whom we license technology, were subject to an infringement claim that resulted in protracted litigation, the award of significant damages against us or the payment of substantial ongoing royalties.

 

Substantial litigation regarding intellectual property rights exists in the technology industry.  We expect that application platform solutions may be subject to third-party infringement claims as the number of competitors in the industry segment grows and the functionality of products in different industry segments overlap.  In the past we have received claims from third parties that our application platform solutions infringed their intellectual property rights.  We do not believe that our application platform solutions employ technology that infringes the proprietary rights of any third parties.  We are also not aware of any claims made against any of our customers related to their infringement of the proprietary rights of other parties in relation to products that include our application platform solutions.  Other parties may make claims against us that, with or without merit, could:

 

·                  be time consuming for us to address;

 

·                  require us to enter into royalty or licensing agreements;

 

·                  result in costly litigation, including potential liability for damages;

 

·                  divert our management’s attention and resources; and

 

·                  cause product shipment delays.

 

In addition, other parties may make claims against our customers, or third-party software providers related to products that are incorporated into our application platform solutions.  Our business could be adversely affected if such claims resulted in the inability of our customers to continue producing the infringing product, or if we are unable to cost effectively continue licensing the third-party software.

 

If we fail to retain and attract appropriate levels of qualified employees and members of senior management, we may not be able to successfully execute our business strategy.

 

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Our success depends in large part on our ability to retain and attract highly skilled engineering, sales, marketing, customer service and managerial personnel.  If we are unable to attract a sufficient number of qualified personnel, we may not be able to meet key objectives such as developing, upgrading, or enhancing our products in a timely manner, which could negatively impact our business and could hinder any future growth.

 

If we fail to maintain an effective system of internal controls, we may not be able to accurately report our financial results.  As a result, current and potential stockholders could lose confidence in our financial reporting, which could have a negative market reaction.

 

Section 404 of the Sarbanes-Oxley Act of 2002 requires our management to report on, and our independent registered public accounting firm to attest to, the effectiveness of our internal control over financial reporting.  We have an ongoing program to perform the system and process evaluation and testing necessary to comply with these requirements.  As a result, we have incurred expenses and have devoted additional management resources to Section 404 compliance.  Effective internal controls are necessary for us to provide reliable financial reports.  If we cannot provide reliable financial reports, our business and operating results could be harmed.

 

Class action lawsuits have been filed against us, our board of directors, our former chairman and certain of our executive officers and other lawsuits may be instituted against us from time to time.

 

In December 2001, a class action lawsuit relating to our initial public offering was filed against us, our chairman, one of our executive officers and the underwriters of our initial public offering.  For more information on lawsuits, see “Part II, Item 1 – Legal Proceedings.”  We are currently attempting to settle the lawsuit filed against us related to our initial public offering.  We are unable to predict the effects on our financial condition or business of the lawsuit related to our initial public offering or other lawsuits that may arise from time to time.  While we maintain certain insurance coverage, there can be no assurance that claims against us will not result in substantial monetary damages in excess of such insurance coverage.  This class action lawsuit, or any future lawsuits, could cause our director and officer insurance premiums to increase and could affect our ability to obtain director and officer insurance coverage, which would negatively affect our business.  In addition, we have expended, and may in the future expend, significant resources to defend such claims.  This class action lawsuit, or other similar lawsuits that may arise from time to time, could negatively impact both our financial condition and the market price of our common stock and could result in management devoting a substantial portion of their time to these lawsuits, which could adversely affect the operation of our business.

 

If either of the sites of our manufacturing operations were to experience a significant disruption in its operations, it would have a material adverse effect on our financial condition and results of our operations.

 

Our manufacturing facilities and headquarters are concentrated in two locations.  If the operations in either facility were disrupted as a result of a natural disaster, fire, power or other utility outage, work stoppage or other similar event, our business could be seriously harmed for a period of at least one quarter as a result of interruptions or delays in our manufacturing, engineering, or post-sales support operations.

 

The market price for our common stock may be particularly volatile, and our stockholders may be unable to resell their shares at a profit.

 

The market price of our common stock has been subject to significant fluctuations and may continue to fluctuate or decline.  During the fiscal year ended September 30, 2008, the closing price of our common stock ranged from a low of $0.55 to a high of $2.12, and during the three months ended December 31, 2008, from a low of $0.29 to a high of $0.57.  The market for technology stocks has been extremely volatile and frequently reaches levels that bear no relationship to the past or present operating performance of those companies.  General economic conditions, such as recession or interest rate or currency rate fluctuations in the United States or abroad, could negatively affect the market price of our common stock.  For example, the recent uncertainty related to deteriorating global economic conditions has negatively impacted the market price of our common stock.  In addition, our operating results may be below the expectations of securities analysts and investors.  If this were to occur, the market price of our common stock may decrease significantly.  In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation has often been instituted against such companies.  Such litigation could result in substantial cost and a diversion of management’s attention and resources.

 

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Any decline in the market price of our common stock or negative market conditions could adversely affect our ability to raise additional capital, to complete future acquisitions of or investments in other businesses and to attract and retain qualified technical and sales and marketing personnel.

 

If the market price of our common stock is not quoted on a national exchange, our ability to raise future capital may be hindered and the market price of our common stock may be negatively impacted.

 

Subsequent to June 30, 2008, at certain times, the market price of our common stock has been less than $1.00 per share.  If we are unable to meet the stock price listing requirements of NASDAQ, our common stock could be de-listed from the NASDAQ Global Market.  On September 29, 2008, we received notification from NASDAQ that during the preceding 30 consecutive trading days, the closing bid price of our common stock was below the $1.00 minimum bid price per share required for continued listing on the NASDAQ Global Market under NASDAQ Marketplace Rule 4450(a)(5).  In accordance with NASDAQ Marketplace Rule 4450(e)(2), NASDAQ provides issuers 180 calendar days to regain compliance with the minimum bid price requirement by maintaining a closing bid price of $1.00 per share or higher for a minimum of 10 consecutive trading days.  On October 22, 2008, NASDAQ notified us that it had suspended enforcement of the minimum bid price rule for three months.  On December 23, 2008, NASDAQ notified us that it had further suspended enforcement of the minimum bid price rule and that this rule was scheduled to be reinstated on April 20, 2009.  As a result, we will have until approximately October 2, 2009 (subject to the determination of NASDAQ) to regain compliance with the minimum bid price requirement.  NASDAQ may, in its discretion, require that our common stock maintain a bid price in excess of $1.00 for a period in excess of 10 business days, but generally no more than 20 business days, before determining that we have demonstrated the ability to maintain long-term compliance.  If we are unsuccessful in meeting the minimum bid price requirement during the compliance period, NASDAQ will provide notice to us that our common stock will be delisted from the NASDAQ Global Market.  If we receive such a notice, we may appeal the staff determination to the NASDAQ Listing Qualifications Panel.  We may also apply to transfer our common stock to the NASDAQ Capital Market if we satisfy all criteria for initial listing on the NASDAQ Capital Market, other than compliance with the minimum bid price requirement.  If such application to the NASDAQ Capital Market is approved, then we will have an additional 180-day compliance period in order to regain compliance with the minimum bid price requirement while listed on the NASDAQ Capital Market.

 

If our common stock were de-listed from the NASDAQ Global Market, among other things, this could result in a number of negative implications, including reduced liquidity in our common stock as a result of the loss of market efficiencies associated with NASDAQ and the loss of federal preemption of state securities laws, as well as the potential loss of confidence by suppliers, customers and employees, the loss of institutional investor interest, fewer business development opportunities and greater difficulty in obtaining financing.

 

A continued or prolonged downturn in the economy could have a material adverse effect on our financial performance and other aspects of our business.

 

The current downturn in the economy, and any further slowdown in future periods, could adversely affect our business in ways that we are unable to fully anticipate.  Tightening credit markets may negatively impact operations by affecting solvency of customers, suppliers and other business partners, or the ability of our customers to obtain credit to finance purchases of our products and services, which in turn could lead to increased difficulty in collecting accounts receivable.  Tightening credit markets may also negatively impact our ability to borrow funds, if needed, either under our line of credit with Silicon Valley Bank or from other sources.  In addition, government responses to the disruptions in the financial markets may not stabilize the markets or increase liquidity or the availability of credit for us or our customers.  A widespread reduction of global business activity could cause customers to reduce capital expenditures, put increased pricing pressure on our products and services, and subject us, our suppliers and our customers to interest rate risks and tax changes that could impact our financial strength.  These and other economic factors could have a material adverse effect on our financial condition, operating results and liquidity.

 

We have anti-takeover defenses that could delay or prevent an acquisition and could adversely affect the market price of our common stock.

 

Our Board of Directors has the authority to issue up to 5,000,000 shares of preferred stock and, without any further vote or action on the part of the stockholders, to determine the price, rights, preferences, privileges and restrictions of the preferred stock.  This preferred stock, if issued, might have preference over the rights of the holders of common stock and could adversely affect the market price of our common stock.  The issuance of this

 

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preferred stock may make it more difficult for a third party to acquire us or to acquire a majority of our outstanding voting stock.  We currently have no plans to issue preferred stock.

 

In addition, provisions of our second amended and restated certificate of incorporation and our second amended and restated by-laws may deter an unsolicited offer to purchase us.  These provisions, coupled with the provisions of the Delaware General Corporation Law, may delay or impede a merger, tender offer or proxy contest involving us.  For example, our Board of Directors is divided into three classes, only one of which is elected at each annual meeting.  These factors may further delay or prevent a change of control of our business.

 

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ITEM 2.     UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

The following table presents information regarding the Company’s repurchases of its common stock during the quarter ended December 31, 2008.

 

Issuer Purchases of Equity Securities

 

Month

 

Number of 
Shares 
Purchased 
as 
Part of Publicly 
Announced 
Program (1)

 

Average 
Price Paid 
Per Share

 

Maximum Dollar Value 
that May Yet Be Used 
for Purchases Under the 
Program

 

October 2008

 

287,500

 

$

0.48

 

$

3,930,000

 

November 2008

 

62,500

 

$

0.46

 

$

3,900,000

 

December 2008

 

 

 

 

Total

 

350,000

 

$

0.47

 

$

3,900,000

 

 


(1)          All of the shares of common stock set forth in this column were purchased pursuant to a publicly announced program as described in footnote 2 below.

(2)          On June 12, 2008, the Company announced that its Board of Directors had authorized the repurchase of up to $5 million of its common stock through a share repurchase program.  The program does not have an expiration date.  All repurchases described in the table above were effected pursuant to a written Rule 10b5-1 trading plan.  From the program’s inception through December 31, 2008, the Company had repurchased 1,256,801 shares at an average cost of $0.88 per share.  Upon the expiration of the 10b5-1 plan on November 7, 2008, the Company suspended repurchases of its common stock.  The Company may resume repurchases under the program at any time at the discretion of management.

 

ITEM 6.     EXHIBITS

 

(a)    Exhibits

 

The exhibits which are filed with this report or which are incorporated by reference are set forth in the Exhibit Index hereto.

 

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SIGNATURES

 

Pursuant to the requirements 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.

 

 

NETWORK ENGINES, INC.

 

 

Date: February 9, 2009

 

/s/ Gregory A. Shortell

 

 

 

 

 

Gregory A. Shortell

 

 

President and Chief Executive Officer

 

 

(Principal Executive Officer)

 

 

 

 

 

 

 

 

/s/ Douglas G. Bryant

 

 

 

 

 

Douglas G. Bryant

 

 

Chief Financial Officer, Treasurer and Secretary

 

 

(Principal Financial Officer and Principal Accounting Officer)

 

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EXHIBIT INDEX

 

Exhibit No.

 

Exhibit

 

 

 

31.1

 

Certification of Gregory A. Shortell, the Chief Executive Officer of the Company, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

 

31.2

 

Certification of Douglas G. Bryant, the Chief Financial Officer of the Company, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

 

32.1

 

Certification of Gregory A. Shortell, the Chief Executive Officer of the Company, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

32.2

 

Certification of Douglas G. Bryant, the Chief Financial Officer of the Company, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.