10-K 1 t62382_10k.htm FORM 10-K t62382_10k.htm


UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 

 
Form 10-K

x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
 
For the fiscal year ended December 31, 2007
   
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
   
 
For the transition period from                      to
 
Commission File Number 0-22190
 

 
Verso Technologies, Inc.
(Exact Name of Registrant as Specified in Its Charter)
 
Minnesota
41-1484525
(State or Other Jurisdiction of
(I.R.S. Employer
Incorporation or Organization)
Identification No.)

400 Galleria Parkway
Suite 200
Atlanta, GA 30339
(Address of Principal Executive Offices)
 
678-589-3500
(Registrant’s Telephone Number, Including Area Code)
 
Securities registered pursuant to Section 12(b) of the Act: common stock, $0.01 par value per share, registered on The Nasdaq Capital Market.
 
Securities registered pursuant to Section 12(g) of the Act: None.
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act of 1933.  Yes  o    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Securities Exchange Act of 1934.    Yes  o    No  x

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

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

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

Large Accelerated filer  o
Accelerated Filer  o
Non-accelerated Filer  o
Smaller Reporting Company  x
 

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

As of June 30, 2007, the aggregate market value of the voting and non-voting common equity held by non-affiliates, based upon the last reported sale price of such common equity of the registrant as of such date as reported by the Nasdaq Stock Market, was $38,462,368.
 
As of April  15, 2008, 93,300,591 shares of common stock of the registrant were outstanding.
 
DOCUMENTS INCORPORATED BY REFERENCE: The information required by Part III of this Annual Report on Form 10-K is incorporated by reference to the registrant's definitive proxy statment to be filed with the Securities and Exchange Commission pursuant to regulation 14A not later than 120 days after the end of the fiscal year covered by this Annual Report on Form 10-K.





PART I

Note Regarding Forward-Looking Statements
 
Certain statements contained in this Annual Report on Form 10-K (this “Annual Report”), including, without limitation, in the sections herein titled “Business” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” or incorporated herein by reference, that are not statements of historical facts are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. The words “believe,” “expect,” “anticipate,” “intend,” “will” and similar expressions are examples of words that identify forward-looking statements. Forward-looking statements include, without limitation, statements regarding our future financial position, business strategy and expected cost savings. These forward-looking statements are based on our current beliefs, as well as assumptions we have made based upon information currently available to us.
 
Each forward-looking statement reflects our current view of future events and is subject to risks, uncertainties and other factors that could cause actual results to differ materially from any results expressed or implied by our forward-looking statements. Important factors that could cause actual results to differ materially from the results expressed or implied by any forward-looking statements include: the volatility of the price of our common stock, par value $0.01 per share (the “Common Stock”); our ability to fund future growth; our ability to become profitable; our ability to maintain the listing of the Common Stock on The Nasdaq Capital Market; our ability to attract and retain qualified personnel; general economic conditions of the telecommunications market; market demand for and market acceptance of our products; legal claims against us, including, but not limited to, claims of patent infringement; our ability to protect our intellectual property; defects in our products; our obligations to indemnify our customers; our exposure to risks inherent in international operations; our dependence on contract manufacturers and suppliers; general economic and business conditions; other risks and uncertainties included in the section of this Annual Report titled “Risk Factors”; and other factors disclosed in our other filings made with the Securities and Exchange Commission (the “SEC”).
 
All forward-looking statements relating to the matters described in this Annual Report and attributable to us or to persons acting on our behalf are expressly qualified in their entirety by such factors. We have no obligation to publicly update or revise these forward-looking statements to reflect new information, future events, or otherwise, except as required by applicable federal securities laws, and we caution you not to place undue reliance on these forward-looking statements.

Item 1.                  Business

General
 
Verso Technologies, Inc., a Minnesota corporation (the “Company” or “we”), is a global technology provider of next generation network solutions offering a core-to-edge product portfolio for telecommunications service providers and enterprise organizations. We have an integrated portfolio of Internet Protocol (“IP”) based products and other products that include the brands AccessGate®, Clarent®, iMarc®, I-Master®, NetPerformer®, NetSpective®, Telemate.Net®, and Verilink® and in late 2007 certain of our products were branded VCLEAR™ to designate them as “pure IP-based” next generation products. Our core focus, provided by our Technologies Group, is on three market segments: (i) Mobile Backhaul – an end-to-end cellular network bandwidth optimization solution that helps network operators expand and migrate wireless services, improve reliability and control operating costs; (ii) Softswitch/Gateway – a pure IP platform that enables profitable end-to-end IP communications over wireline, wireless, terrestrial and satellite links, which is also interoperable with legacy architectures to deliver a seamless, profitable Voice over Internet Protocol (“VoIP”) migration path; and (iii) Integrated Access Devices (“IAD”)– an ideal access platform that provides integrated multi-service connectivity, aggregation and compression to efficiently enable digital convergence, toll bypass, video and conferencing. Also through our Technologies Group, we offer Network Monitoring and Security, which minimizes communications costs and monitors and controls employee productivity and computer usage through sophisticated software products that provide monitoring, reporting, and filtering functions.

We also sell services, provided by our Outsourcing Group (formerly known as the Advanced Applications Services Group), which enables our customers to reduce overhead and operating expenses. These services include outsourced technical support, application installation, and training to both customers of the Technologies Group and outside customers.

Our customers include the following entities or certain of their affiliates: AT&T Inc., Alcatel-Lucent, Avaya, Hughes Network Systems, Interlink Communications, ND SatCom, Nortel Networks, Veraz Networks, Inc., Verizon Communications, Inc., and ViaSat Inc. For our service provider customers, we offer an end-to-end, convergence architecture that provides the technology infrastructure as well as applications needed to accelerate a service provider's time-to-revenue for new services over different access mediums. For enterprise customers, we offer hardware and software solutions that help organizations enhance productivity, reduce network costs and comply with regulatory requirements. We have installations in more than 95 countries and our products are sold either through our direct sales organization or through a well established network of domestic and international partners. Our channel partners include AT&T, Alcatel-Lucent, Avaya, Hughes Network Systems, Interlink Communication Systems, Nortel, and ViaSat.
 
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We are located at 400 Galleria Parkway, Suite 200, Atlanta, Georgia 30339, and our telephone number at that location is (678) 589-3500. We maintain a worldwide web address at www.verso.com. Our annual, quarterly and current reports, and amendments thereto, which we file with, or furnish to, the SEC, are available free of charge in the investors section of our website at www.verso.com. Such reports and amendments are available on our website as soon as reasonably practical after we have filed such reports with, or furnished such reports to, the SEC.

Technologies Group

The Technologies Group develops softswitch, software and hardware-based converged packet solutions that use next generation protocols such as VoIP, VoIP based access products, VoIP based applications and server devices that provide multiplexing and transport of voice and data services, as well as other advanced protocols for specialized applications such as a Global System for Mobile Communication (“GSM”) and Code Division Multiple Access (“CDMA”) backhaul and voice/data over satellite transmissions. The Technologies Group focuses on the VoIP, GSM, pre-paid, post-paid, and integrated access device sectors of the communications industry. The group’s solutions enable service providers to rapidly deploy highly efficient converged communication networks which are more cost-effective to operate and which enhance revenues by supporting innovative, higher margin services. The Technologies Group differentiates its solutions portfolio from those of our competitors by providing complete, end-to-end, bundled solutions that range from the central core to the edge of the network, as well as offering applications that generate and enhance revenues. The Technologies group has four business units which comprise its total business.
 
Softswitch/Gateway Business
 
A softswitch is used to control connections at the junction point between circuit and packet networks and takes care of functions such as billing, call routing, signaling, call services as well as connecting different types of digital media streams together to create an end-to-end path for voice and data. Customers deploy softswitches to replace legacy technology, to build out new networks, and to increase capacity in existing markets. Traditional softswitching connects and converts public switched telephone networks (“PSTN”) to VoIP networks. Verso’s softswitching technology has been designed and built from inception to be a pure, end-to-end, IP-based switching solution that we refer to as an “IP Pure Switch.”
 
In the first quarter of 2003, we acquired substantially all of the operating assets of Clarent Corporation (“Clarent”), a pioneer in packet-based technology. The acquisition included Clarent’s softswitch and NetPerformer® network optimization product lines. The Clarent softswitching technology became the core of our Softswitch/Gateway business unit. Today, the former Clarent product line supports a variety of diverse business applications from Voice over Broadband (“VoBB”) enterprise managed services and retail calling cards to wholesale IP telephony, IP network clearing services, international long distance and residential dial tone services. The NetPerformer technology became the core of our Backhaul business, discussed below. (See “Mobile Backhaul Business”)

On April 17, 2007, we acquired Sentito Networks, Inc. (“Sentito”), a provider of media and signaling gateway equipment to the telecommunications market, by means of the merger of SN Acquisition Corporation, a wholly-owned subsidiary, into Sentito pursuant to an Agreement and Plan of Merger, dated as of April 4, 2007 (the “Sentito Acquisition”). The acquisition of this technology lowered our product cost for our softswitch solution. As the Sentito gateway is fully integrated into our softswitch, it will provide us with a proprietary integrated gateway within our softswitch solution.

Within our softswitch/gateway business we provide an enhanced services solution under the brand name I-Master. In August 2004, we began working with WSECI, Inc., formerly known as Jacksonville Technology Associates, Inc. (“WSECI”), to resell WSECI’s open and next generation based pre-paid and post-paid I-Master® solution. This solution is scalable to Tier I and Tier II carriers and is compatible with other equipment provider’s technologies, including our technologies, and as such, presents a larger market opportunity for us. In March 2005, we acquired substantially all the operating assets of WSECI. This type of pre-paid and value-added application often represents the greatest potential for immediate revenue to our customer. These applications are often sold within the context of a softswitch solution; however, our applications are compatible with all leading softswitches in the market. As the telecommunications business becomes more and more software-centric, these kinds of applications are leading the way as competitive realities drive wireless vendors and software developers to create more cohesiveness among services, service management, and operations.

Mobile Backhaul Business
 
Mobile backhaul, or compression technology, allows a service provider to optimize and reduce the cost of existing bandwidth. This is desirable due to the high cost of deploying new bandwidth. Products are utilized by operators in emerging markets who desire to provide basic service to new subscribers, and by developed market operators who desire bandwidth optimization to handle the growth in demand and use of video, voice, and data over wireless networks. Customers deploy this technology when they are expanding an existing network, building out a next-generation network, or simply endeavoring to lower operating costs. NetPerformer and AccessGate comprise our mobile backhaul product lines. There are two primary market forces at work driving demand in this business: (1) growth in wireless GSM subscribers worldwide, and (2) growth in bandwidth requirements to service customers who are using more bandwidth intensive services such as voice, video, and data. GSM is the most popular standard for mobile phones in the world with an estimated 82% of the world market. It is used by an estimated 2 billion people in 212 countries and territories according to the GSM Association. Verso’s products are compatible with other standards; however, the majority of the Company’s backhaul business to date has been to GSM-oriented customers.
 
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Our Mobile Backhaul business was created with the acquisition of the NetPerformer technology from Clarent Corporation in 2003. The NetPerformer’s network optimization and compression devices enable multi-site enterprises to lower communications costs, alleviate bandwidth constraints, reduce network complexity and extend telecom services to remote locations with poor or nonexistent telecom infrastructures. This versatile line of products enables information technology managers to integrate mission critical networks and applications across their enterprise. In addition, NetPerformer products enable enterprises to dramatically reduce telecom costs by eliminating monthly fees associated with tie lines that link remote offices to corporate headquarters and eliminating the toll charges on inter-office long distance calls.
 
On December 21, 2007, our wholly-owned subsidiary, Verso Backhaul Solutions, Inc. (“Verso Backhaul”) purchased the AccessGate® cellular backhaul optimization product line (“AccessGate”) from NMS Communications Corp. (the “AccessGate Acquisition”).  We believe that the AccessGate acquisition has consolidated that market segment and made Verso a leading provider of mobile backhaul solutions worldwide. In January of 2008, we combined management of the AccessGate and Net Performer backhaul optimization operations into our consolidated Mobile Backhaul product business unit.
 
Integrated Access Business
 
An Integrated Access Device (“IAD”) is a customer premises equipment device (“CPE”) that provides access to wide area networks and the internet. Specifically, it aggregates multiple channels of information including voice and data across a single shared access link to a carrier or service provider Point of Presence, or “PoP”. The access link may be a T-1 line, a Digital Subscriber Line (“DSL”) connection, a cable network, a broadband wireless link, or a metro-Ethernet connection.

Our Access products and product families under the Verilink and iMarc brand names address issues and applications faced by both wireline and wireless communications carriers and enterprises. The products utilized by wireline carriers are typically deployed in either (i) the “last mile” of their networks to enable the delivery of telecommunications services to end users, both business and residential customers, or (ii) in their internal corporate networks providing the communications connectivity within the corporation. The products utilized by the enterprise customers typically are deployed as access devices connecting the corporation’s offices to the telecommunications network. Our primary products in this group are the Verilink 8000 Series, the WANsuite family, the Shark family and the iMarc family.
 
On June 16, 2006, we acquired the outstanding equity interests of Winslow Asset Holdings, LLC (now known as Verso Verilink) from Winslow Asset Group, LLC (the “Verilink Acquisition”). Winslow Asset Holdings, LLC had earlier acquired substantially all of the business assets of Verilink Corporation and Larscom Incorporated (together, the “Verilink Sellers”), other than the accounts receivable and certain fixed assets of the Verilink Sellers which were transferred to Winslow Asset Group, LLC.  As a result of our equity purchase, we acquired the Verilink Sellers’ business of developing, manufacturing, marketing and selling broadband access solutions for computer networks.
 
On December 29, 2006, we purchased certain assets of Paradyne Networks, Inc. related to the business of manufacturing, selling and supporting the iMarc product line (the “iMarc Acquisition”).  The iMarc product line is a family of asynchronous transfer mode (“ATM”) devices, IP service units, and branch monitors that provides intelligent demarcation between carrier and enterprise networks, allowing for easier management. The iMarc and Verilink businesses are now combined into our Integrated Access Device products group.
 
Network Monitoring and Security Business
 
As companies endeavor to drive productivity, it has become increasingly important to minimize communications costs and monitor and control employee productivity and computer usage through sophisticated software products which provide monitoring, reporting, and filtering functions. We address this market demand through our Telemate and NetSpective products, which provide call accounting, content management, and web filtering technology to a wide array of primarily North American enterprise customers.
 
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In November of 2001, we acquired Telemate.net, which consisted of the TeleMate call accounting technology and the NetSpective content management and web filtering technology. Our TeleMate® call accounting solution is a comprehensive, easy-to-use reporting tool used to facilitate the migration to next generation VoIP networks. The TeleMate product helps enterprises minimize voice communications costs, simplify capacity planning, and monitor employee productivity. Additionally, the TeleMate product measures resource utilization, provides reports for internal departmental charge-back or client billing, and handles dozens of other control reporting tasks. Our NetSpective® content management and web filtering solution enables enterprises to monitor, filter, and/or report on usage of critical IP network resources. With a comprehensive set of feature functionality that tracks Internet activity and detects usage of a variety of web-based applications, including peer-to-peer, instant messaging, online chat and streaming media, the NetSpective product helps enterprises, governments, schools and libraries maintain control of critical network resources and facilitate compliance with filtering and communications tracking regulations.
 
For the year ended December 31, 2007, revenue from the Technologies Group was $43.4 million, or 86%, of our consolidated revenue. Summarized financial information for the Technologies Group is set forth in Note 17 to the consolidated financial statements for the year ended December 31, 2007, which statements are contained elsewhere in this Annual Report.
 
Verso Outsourcing

Our second business segment is Verso Outsourcing, which consists of our technical assistance center, providing support for our technical applications and services to outside customers as well as the customers of our Technologies Group.

Verso Outsourcing delivers full-service, custom technical support to customers that want to ensure satisfaction with each end-user technology interaction, and supports all of our product lines. This allows us to better leverage resources while ensuring the highest level of customer support. It delivers 24 x 7 help desk support, Tier I, II and III product support, “insourcing”, on-site deployment services, hardware and software training, and project management resources.
 
In 2007, Verso Outsourcing completed a comprehensive business analysis covering all business processes, procedures, and systems with the objective of identifying and implementing the appropriate scalable platform in anticipation of rapid growth. Further, in late 2007, the Verso Outsourcing business was provided with its own distinct corporate identity and web presence, and was given the resources to launch an aggressive business development campaign.
 
For the year ended December 31, 2007, revenue from the Verso Outsourcing Group was $7.3 million, or 14%, of our consolidated revenue summarized financial information for the Verso Outsourcing Group is set forth in Note 17 to the consolidated financial statements for the year ended December 31, 2007, which statements are contained elsewhere in this Annual Report.
 
Technologies Group: Market

General

As the global business environment becomes increasingly competitive, enterprises and government entities of all kinds are driven by a common desire to lower operational costs, enhance revenue from new service offerings, improve productivity, increase customer retention, enhance service quality, and speed time to market. Many enterprises depend on a robust technology infrastructure to help them achieve these business goals. Burdened by the high costs of continuing to build, manage and maintain separate voice, video, and data networks, service providers have begun to combine voice, video, and data services onto converged IP-based network infrastructures that leverage the low cost delivery of IP networks while delivering the high reliability and voice quality standards of the circuit-switched, PSTN. These infrastructures are enabling service providers to launch new innovative services which provide important market share opportunities and enhance their revenue potential. These new applications are driving widespread adoption of converged packet-based technology among Tier I service providers in developed markets like North America and Europe, as well as in emerging market carriers in Asia-Pacific and elsewhere around the developing world. Many emerging markets could not deploy a financially feasible network without the efficiencies provided by advanced technology. As a result, enterprises and other customers are migrating their legacy voice and data systems into single converged networks that enable more efficient use of resources and easier integration of distributed, disparate resources, including applications, equipment, and people. Emerging market operators are utilizing the technology as a primary communications infrastructure. Deregulation and privatization of the global telecommunications industry continues to drive demand for converged packet-based technology for small, emerging, international service providers who are not encumbered by large, legacy time division multiplexing networks. More flexible and more agile than larger carriers, these emerging service providers are opening up large, previously untapped markets such as Africa, the Middle East, and India, driving much of the worldwide VoIP spending as they launch traditional voice services through a variety of wholesale and retail business models. As this adoption of VoIP technology continues, so does demand for new IP-centric tools that enable businesses to manage and enhance the performance, utilization, and efficiency of evolving communication infrastructures.
 
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The primary markets for the Technologies Group consists of carriers, operators, government entities, and enterprises that need products and services in the following four market segments: VoIP, GSM, IAD, and Internet usage applications. The VoIP segment is characterized by operators and enterprises of all sizes and is being driven by deregulation and service providers’ desire to lower operating costs as well as deploy value-added applications over wireless broadband, virtual private network (“VPN”), and Worldwide interoperability for Microwave Access (“WiMAX”) networks. The market for wireless GSM technology is the largest market for handsets, especially in foreign and developing countries (estimated at 82% global market share). Our NetPerformer and AccessGate 2G/2.5G wireless optimization backhaul technologies lower the cost for operators by increasing the service provider’s bandwidth and increasing its efficiency. These solutions also facilitate deployment of new voice and data services while minimizing associated additions or changes to existing physical network infrastructure. Pre-paid solutions include applications such as traditional telephony, pre-paid data services over networks such as DSL, cable, and broadband wireless. The pre-paid segment is ideal for emerging markets where credit is not readily available to consumers but demand for communication products is growing rapidly as cost efficiencies create demand by making communications affordable to the end user and profitable for the operator. Sales in the VoIP, GSM, and pre-paid segments are achieved through our network of distributors and Original Equipment Manufacturer (“OEM”) partners in conjunction with our internal sales teams. The market for IADs is characterized by small and medium sized enterprises that are looking to optimize their voice and data networks. Sales of the Technologies Group IAD products are achieved through resellers or carrier partners as part of an integrated solution to their end customers. Demand is driven by end users desire to lower telecommunications operating costs. Our IAD business falls into three segments: bandwidth aggregation, service assurance, and converged access. In the bandwidth aggregation segment, market demand is shifting towards integrated solutions which incorporate Channel Service Units/Data Service Units (“CSU/DSU”) functionality such as IADs, access routers and new generation multiplexers. With this evolution in the market, the IAD product mix is positioned to transition from legacy stand-alone CSU/DSU toward integrated, next-generation access products. In the service assurance segment, we design, manufacture, and sell products that compute quality of service metrics at various levels of the network including the physical, network, and application (e.g. VoIP) levels. This product is a passive device that resides in the network as a probe or it is installed at an enterprise demarcation point and provides the wide area network (“WAN”) interface connection to the service provider network. In the converged access segment, we design, manufacture, and sell products that connect to the WAN to provide high-speed connectivity to end user businesses for the delivery of converged voice, video, and data applications. These products are commonly deployed at enterprise locations including main office, branch offices and remote offices, as well as the small office/home office. Our Network Monitoring and Security business enjoys a broad client base consisting of federal, state, and local governments, educational institutions, and business enterprises. The market is primarily domestic.

Technologies Group: Products and Solutions

Softswitch Solutions
 
Edge C5 Softswitch Solution

Our Edge Class 5 (“C5”) Softswitch Solution enables traditional and alternative telecommunications service providers to deliver residential and advanced enterprise managed services over the “last mile” of any IP communications network, opening the door to new business and revenue opportunities. The solution supports IP connectivity via H.323 (packet-based multimedia communications systems), media gateway control protocol (“MGCP”), and session initiation protocol (“SIP”) for interoperability with a wide range of access gateways as well as customer premises gateways (“CPGs”),  IP handsets, and carrier networks.  Additionally, our products support VoIP over newer access technologies such as broadband cable, xDSL and broadband wireless such as WiMAX technologies. The components of this VCLEAR™-brand solution include: C5 Call Manager; C4 Call Manager; Command Center; Element Management System; BHG Media Gateways; Border Agent; and VoIP CPGs.

In 2005, we introduced the Edge C5 Call Manager versions 3.3 and 3.4, which further expanded our opportunity at the network edge by providing key features such as hotline, limiting simultaneous calls, private networking configurations, distinctive music on hold, do not disturb, anonymous call rejection, simultaneous ring, video edge device support, SIP and GR303 access gateways, topology hiding, local number portability, E911, lawful intercept and a radius interface to authentication, authorization and accounting servers such as I-Master. These newly-introduced features expanded the opportunity to create new revenue enhancing opportunities for customers as well as allowed them to comply with the emerging VoIP regulatory requirements. These features are further discussed in the section of this Annual Report titled “Business - Research and Development.” In 2005, we deployed softswitch solutions in several emerging markets, including Slovenia, Africa, and India.

In 2006, we enhanced the Edge C5 solution with the following: a Back Office component, IP Centrex, a wholesale reporting module, enhanced software interactive voice response (“IVR”) capabilities, and the introduction of IBM platform support. The Back Office component offers customers integrated provisioning, management, reporting and automated billing for VoBB as well as wholesale peering business markets. An integrated wholesale reporting module enables our peering customers to offer their wholesalers as well as virtual wholesalers the ability to monitor and manage their traffic being offloaded and terminated into their networks. A hosted IP Centrex optional component that is integrated with the Class 5 Call Manager and Back Office components offers a feature set that meets the needs of small office/home office (“SOHO”) users and small business customers. We also enhanced our software based IVR and pre-paid application through support of dual tone multi-frequency (“DTMF”) handling using named events as defined by Internet Engineering Task Force (“IETF”) RFC 2833. This enabled us to offer a scalable IVR system for the support of multiple services such as VoBB and pre-paid calling. We signed a teaming agreement with IBM in 2006. As part of this relationship, we obtained certification  for our C5 product for VoBB overlay solutions as well as wholesale peering on the IBM BladeCenter platforms running on Linux.
 
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In 2007, enhancements to Verso’s Edge C5 VoBB application, MetroNet, were focused on improving customers’ return on investment through enhancements to both solution turn-up and expansion. The MetroNet offering was restructured so that customer expansions resulted in a zero down-time between 2,500 and 100,000 subscriber solutions. In addition, in 2007, Verso developed a legal intercept solution with Verint System, Inc.’s StarGate mediation solution within the scope of the Communications Assistance for Law Enforcement Act (“CALEA”), an Act passed by the US Congress to facilitate the wiretapping of digital telecommunications switches.
 
 C4 Softswitch Solution

Our Class 4 (“C4”) Softswitch Solution seamlessly facilitates migration to VoIP, allowing carriers to preserve and leverage existing telecom investments to realize lower operating costs and lower overall total cost of ownership. A significantly more cost-effective and scalable alternative to traditional tandem circuit switches, this Unix-based, software-centric, modular tandem trunking solution enables wholesale transport and termination of voice traffic over global IP networks. The components of this solution include: C4 Call Manager; Command Center; Element Management System; SS7 Signaling; BHG Media Gateways; and Connect.
 
In 2005, we introduced C4 Call Manager version 2.1, which further expanded our opportunity in this market by providing key features such as local number portability, E911, private networking configurations, a radius interface to authentication, authorization and administration via the I-Master.
 
In 2006, we enhanced the C4 Call Manager with support of SIP and ISUP (integrated digital service network user parts) transport within SIP or SIP-T (session initiation protocol for telephones). These enhancements enable the C4 to interoperate as a stand-alone component with any Class 5 softswitch or VoIP based feature server enabling Signaling System 7 (“SS7”), Primary Rate Interface (“PRI”), and CAS/MFCR2 Time Division Multiplex (“TDM”) connectivity. Like the edge solution, the C4 solution was validated on the IBM BladeCenter solution on Linux.

In 2007, we introduced CarrierNet, a next generation C4 media gateway offering. CarrierNet is targeted to customers who require small to high density TDM to VoIP (SIP, SIP-T, or H.323) solution either for legacy PSTN access for their pure VoIP services (e.g. voice over broadband class 5 service, IP Centrex, hosted Private Branch Exchange (“PBX”) services) or for a wholesale traffic offering. The following capabilities were developed with CarrierNet: STM-1 and DS-3 TDM media gateway interfaces for Verso’s BHG2500 media gateway product line; a solution carefully packaged to minimize costly rack space requiring only 4 rack units for support of 4,032 DS0s of TDM to VoIP capacity; support for remote SS7 signaling backhaul using standards based SIGTRAN technology; and advanced routing features, including Telephone Number Mapping (“ENUM”), answer seizure ratio (ASR) based routing, least-cost based routing, and source trunk group based routing.
 
I-Master Pre-paid, Rating and Billing Platform

Our I-Master® Pre-paid, Rating and Billing Solution enables service providers and carriers to launch multiple voice and next generation revenue generating services while maintaining the revenue assurance associated with a pre-paid model. This solution also enables a significant level of personalization to the end user. Personal preferences are stored and used to enhance the end user’s experience which increases customer retention for the service provider. This pre-paid solution is based on open standards, meaning that it can integrate with our softswitch products and also with many other next generation equipment providers’ technologies, including the technologies of Cisco Systems, Inc., MetaSwitch (a division of Data Connection Ltd.), Nortel, and Veraz Networks, Inc. The I-Master solution is compatible with the technologies of other equipment providers and is scalable to Tier I and Tier II carriers. The solution also offers real-time authentication for revenue enhancing voice and data services, including calling, additional real-time authentication for Internet and virtual private network access via Asymmetric DSL (“ADSL”) and dial-up, and pre-paid broadband access.

In 2006, we added a number of rating features to I-Master to support the competitive North American pre-paid market. These include disconnect rate plans and global rate management tools. We executed a reseller agreement with one of the world’s leading providers of telecommunication systems which enables the provider to offer a product that provides real-time rating for cellular, data, VoBB, Wi-Fi, WiMAX and calling cards.
 
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In 2007, we introduced market leading feature bundling capabilities to I-Master with feature based account management. This capability allows our customers to differentiate account attributes such as rate plans, service charges, and “roll-over rules” by feature inside of a single customer account. Features include black list, white list, friends and family plans, international calling, and Internet based data. This capability enables our customers to create and offer unique bundled service offerings using a revenue assurance method (i.e. pre-paid). I-Master also introduced the following enhancements: friends and family feature offering, black and white list support limiting an account to only place calls to allowed phone numbers, advanced Internet data rating with support for both directional and data volume, basic invoice generation and management for post-paid, context sensitive on-line help, revenue prediction tools advising our customers of the revenue impacts of a rating change (e.g. rate plan modification, addition or deletion of  a service charge), and overload protection and optimized application and batch job handling to improve overall performance and reliability.

Mobile Backhaul Solutions
 
NetPerformer® Integrated Access VoIP Routers

Our NetPerformer® line of access compression devices enables multi-site enterprises to lower communications costs, alleviate bandwidth constraints, reduce network complexity and extend telecom services to remote locations with poor or nonexistent telecom infrastructures. This versatile line of products enables information technology managers to integrate mission critical networks and applications across their enterprise. In addition, NetPerformer products enable enterprises to dramatically reduce telecom costs by eliminating monthly fees associated with tie lines that link remote offices to corporate headquarters and eliminating the toll charges on inter-office long distance calls.

In 2005, we released our GSM A.bis/A.ter bandwidth optimization solution for the NetPerformer platform offering cellular backhaul optimization. This solution provides GSM network operators with a new way to reduce their operating costs by providing bandwidth optimization for their entire GSM backhaul network, including the data portion. The NetPerformer platform offers multiple connectivity options, including IP, easily integrating with any existing network infrastructure. NetPerformer’s GSM A.bis/A.ter option converts TDM voice and data traffic channels to a more efficient packet-based format, which results in better bandwidth utilization without any GSM transcoding that would impact the voice quality. While optimizing the bandwidth required for GSM A.bis/A.ter up to 2:1 or greater, the NetPerformer product also provides a convergence path for GSM 3G using a common network infrastructure. This reduces the cost of the introduction of both technologies and reduces the recurring costs of the facilities serving sites that are migrating to 3G.

In 2006, we continued to enhance the GSM backhaul solution.  We developed new 1U high equipment, SDM-9210 for interconnection into the base transceiver station (“BTS”). It provides high reliability features like E1 bypass in case of failure as well as 1:1 redundancy. Additional improvements include a high precision clock compliant with the G.823 PDH standard which enables quality handover in high density urban areas. We introduced a high density chassis SDM-9600 with the SDM-9606 hot-swappable blades. The fully loaded chassis supports up to 30 T1/E1s. A new set of digital signal processors (“DSPs”) has been deployed that, in conjunction with several software enhancements, has improved the performance in General Packet Radio Service/Enhanced Data Rates for GSM Evolution (“GPRS/EDGE”) support and enabled a reduction of the overall latency of the solution. Other software enhancements include SS7 call setup detection and message transfer part – layer 2 (“MTP2”) spoofing for improved compression efficiency in digital current multiplication equipment (“DCME”) applications. We developed a number of features related to better operation over satellite networks, including features developed in connection with partnerships with particular satellite equipment vendors.

In 2007, we completed the launch of the SDM-9210 GSM backhaul product, a 1U remote site unit with special features like Precision Clock, optional integrated GPS Receiver, and a special E1/T1 bypass interface for improved reliability and simplified redundancy. We also launched the SDM-9600 High Density Chassis with the 9620 blade. This carrier class unit is based on the Advanced TCA chassis and can support up to five hot swappable blades with a maximum capacity of 80 x T1/E1s, 10 x 10/100/1000 Mbps Eth and five serial ports.  In order to better support ATC applications, we developed a new PTT interface card that can be installed in the SDM-9220 or SDM-9230.  In addition, we converted all NetPerformer products to be compliant with the requirements of the European Union’s Restriction on the Use of Certain Hazardous Substances in Electrical and Electronic Equipment Directive (“RoHS”).

In the software area in 2007, we accomplished the following: support of all the new hardware; V.22, V.22 bis and V.23 modem support in pass through mode (Digital Circuit Multiplication Equipment, or “DCME”); BRI links establishment on demand (NASA project); Ericsson WAP support (DCME); V.110 support for the A interface (GSM Backhaul); GSM Quality of Service (“QoS”) improvements including distinctive priorities between signaling, voice and GPRS/EDGE; and adding Carrier Class Features such as troubleshooting tools, improved alarms, and statistics. We also completed major lab interoperability tests were completed with Alcatel-Lucent and ZTE.
 
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AccessGate® Integrated Access VoIP Routers

Our AccessGate® line of products is a wireless backhaul optimization system that utilizes patented technology to improve the efficiency of wireless networks. The technology allows mobile operator customers to carry up to twice as much voice and data traffic over backhaul connections in GSM networks, thereby reducing their backhaul expenses without compromising voice or data quality and freeing up capacity for the delivery of new services. Mobile operators have deployed AccessGate solutions to address business and technical challenges in their GSM networks, facilitate a transition to 2G/3G converged networks and/or IP-based Radio Access Network (“RAN”) backhaul. Key features of our AccessGate solution include low-latency A.bis, A.ter, Gb,and Iub compression that reduces the amount of bandwidth required to transport GSM voice and data traffic with less than 10 milliseconds of latency; low-latency statistical multiplexing that aggregates GSM 2G, 2.5G, 3G, GSM, TDMA, CDMA and/or enhanced data GSM environment (EDGE) voice and data traffic onto the same T1 or E1 line connection, eliminating the need for multiple connections for the roll-out of advanced technologies; dynamic adaptation to changing networks that simplifies management and reduces operating costs by efficiently utilizing existing bandwidth as traffic patterns change on hybrid 2G, 2.5G and 3G networks; and software upgrades that allow our customers to utilize AccessGate in both traditional TDM-based backhaul networks and next-generation IP and ATM based backhaul networks. As part of our Mobile Backhaul business unit, AccessGate will augment and expand the capabilities of the NetPerformer product line.

The AccessGate line is deployed worldwide in over 29 mobile operator networks and has experienced solid revenue growth leading up to our acquisition of the business from NMS Communications in December, 2007. The products are well positioned in emerging markets such as CIS/Russia, Latin America, Africa, India and Asia-Pacific and are particularly well suited for satellite connected sites.

In 2007, the AccessGate 2516 platform was introduced. The AG2516 model is specifically target to deployments that serve 16 T1/ET1 service ports for optimized delivery over Ethernet IP backhaul. This density and configuration is well suited as a hubbing platform or a switching center system for IP satellite systems. The AccessGate 2516 is a carrier-class platform that optimizes backhaul connections from multiple AccessGate cell site devices.

In addition, in 2007, expanded support for BSS systems, Gb interface, optimization of CDMA backhaul, and expanded Key Performance Indicators ("KPI’s" ) were released across all AccessGate platforms.

Integrated Access Devices
 
Verso Verilink® Integrated Access Devices
 
In the second quarter of 2006, we acquired the outstanding equity interests of Verso Verilink which had previously acquired substantially all of the business assets of Verilink Corporation and Larscom Incorporated. Verso Verilink provides next-generation broadband access products and services which support the delivery of voice, video, and data services over converged access networks and enable the smooth migration from present TDM-based networks to IP-based networking. Verso Verilink develops, manufactures, and markets IADs, optical access products, and bandwidth aggregation solutions which are sold to service providers, enterprise customers, and OEM partners.  The products are deployed worldwide as targeted solutions for applications involving VoIP, voice over ATM (“VoATM”), voice over DSL (“VoDSL”), wireless backhaul aggregation, Frame Relay service transport, point-to-point broadband services, service inter-working, and the migration of networks from traditional TDM-based access to IP/Ethernet. Our customers for this business include Inter-exchange carriers (“IXCs”), incumbent local exchange carriers (“ILECs”), independent operating companies (“IOCs”), competitive local exchange carriers (“CLECs”), international post, telephone, and telegraph companies, wireless service providers, equipment vendors, Fortune 500 companies, small to mid-sized business customers, and various local, state, and federal government agencies.
 
8000 Series IAD Product Family
 
The 8000 Series IAD product family enables carriers to deliver high quality voice and data services to small and medium-sized businesses over any access technology (T1/E1 or xDSL). We offer an industry leading software configurable device for TDM, ATM, and IP transports which equips service providers with a “future proof” solution and a solid migration path to VoIP. The devices can move from one protocol application to another by changing the configuration of the unit.
 
In 2007, the 8000 series IAD was enhanced to comply with the European Union’s RoHS requirements. The product also completed interoperability certification with Broadsoft and Metaswitch enabling a greater sales reach for this product from a VoIP perspective. Lastly, this product was integrated with Occam’s Broadband Loop Carrier offering a joint solution for the North American market.
 
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WANsuite® Product Family
 
The WANsuite® product family is a suite of software programmable, intelligent integrated access devices that target customer premises applications for last mile or network edge communications. The WANsuite platform supports copper-based transmission services for 56/64kbps, T1, E1 and SHDSL, and includes software support for TDM, ATM, Frame Relay and IP services and applications. The WANsuite product line combines integrated CSU/DSU, bridging and routing, probe and network monitoring capabilities. WANsuite products also utilize an embedded web server to provide an innovative user interface that aligns with the Internet for ease-of-use by service providers and end users. Among the key WANsuite features are a powerful web interface for simplified configuration, automatic protection switching (“APS”), performance monitoring and diagnostics for all service layers, and access routing, bridging, and switching for Frame Relay, ATM, Ethernet and IP applications.
 
In 2007, the WANSuite introduced 4-wire G.SHDSL version that can serve as an E1 replacement technology for tier 1 international carriers.
 
Shark®  Product Family
 
The XSP 100 Shark® product is the industry’s first OSMINE (Operations Systems Modifications for the Integration of Network Elements) -compliant IAD, terminating up to two T1 of bandwidth to deliver voice, high-speed data, Internet access and networking connections to end customers over a single network connection. The Shark is equipped with ports for up to 24 FXS lines, includes DSX/CSU functionality, 10/100 Base-T and serial Ethernet interfaces, Frame Relay Assembler/Disassembler and a digital cross connect system. The Shark works with a variety of management systems, including HTTP, CLI, SNMP, or TL1, and can be configured remotely or through a local craft port on the chassis.

In 2007, enhancements the Shark introduced a voice wiretap offering that is used with tier 1 carrier next generation broadband offerings

iMarc® IP Service Units
 
The iMarc® IP service unit monitors provide intelligent demarcation between carrier and enterprise networks, allowing service level management and end-to-end network monitoring. This provides carriers the critical ability to monitor and manage compliance of service level agreements to enterprise customers, which ensures that quality of service is delivered. The iMarc provides monitoring capabilities at the physical, network, and application levels. Metrics can be viewed either from the device or through an element management system that interfaces to the iMarc using Simple Network Management Protocol (“SNMP”). As a result, iMarc solutions enable new services to be deployed faster, existing services to remain reliable, and inactive services to be restored more quickly.
 
In 2007, VoIP application server level monitoring was developed in the product and tested by a tier 1 carrier. Metrics measured and calculated by the device include call quality parameters such as delay, jitter, packet loss, and voice quality. The iMarc also maintains real-time and detailed information on all calls currently being passed through the device. This product is targeted for North American as well as International carriers offering them the ability to support strict service level agreements (“SLAs”) as well providing them the ability to pro-actively monitor and manage their VoIP based offerings.
 
Network Management and Security

TeleMate® Call Accounting Software

Our Network Monitoring and Security business includes the TeleMate® call accounting solution. This application is a comprehensive, easy-to-use reporting tool used to facilitate the migration to next generation VoIP networks. TeleMate helps enterprises minimize voice communications costs, simplify capacity planning, and monitor employee productivity. Additionally, TeleMate measures resource utilization, provides reports for internal departmental charge-back or client billing, and handles dozens of other control reporting tasks.

NetSpective® Content Management and Web Filtering Solution

Our NetSpective® content management and web filtering solution is a network security application, enabling enterprises to monitor, filter, and/or report on usage of critical IP network resources. With a comprehensive set of feature functionality that tracks Internet activity and detects usage of a variety of web-based applications, including peer-to-peer, instant messaging, online chat and streaming media, NetSpective helps enterprises, governments, schools and libraries maintain control of critical network resources and facilitate compliance with filtering and communications tracking regulations.
 
In 2004, we launched our NetAuditor® product for reporting and analysis of our NetSpective product in addition to analysis of log files from Cisco Systems, Inc.’s PIX firewalls; Check Point Software Technologies Ltd.’s Firewall NG; Novell, Inc.’s Boarder Manager; Symantec Corp.’s Enterprise Firewall; Juniper Networks, Inc.’s NetScreen; and Microsoft Corp.’s ISA Proxy.
 
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Professional Services
 
Our Professional Services are tailored to help our customers launch and expand networks more efficiently and rapidly within the areas of GSM optimization, VoIP, Pre-paid and IADs. These services are unique to the access equipment industry and serve as a differentiator compared to other access companies. Customers consider the availability of the services to be a key enabler in the deployment of managed bundled services. The Professional Services program features a comprehensive set of support services geared to assist carriers in the design, planning, deployment, and on-going support of their communications service offerings. The Professional Services group partners with the carrier from the initial design and planning stage through the equipment delivery, installation, configuration, and service turn-up stages. From an on-going support standpoint, the program’s key network operations activities include maintenance services, returned material authorizations, and equipment inventory management.
 
Customers

In 2007, the primary base of customers for the Technologies Group consisted of large, domestic, and international Tier I telecommunications carriers, emerging international service providers, domestic rural carriers, federal, state, and local governments, small, medium and large enterprises, educational institutions, and Internet service providers (“ISPs”). In 2006, we made a strategic decision to sell to larger customers and to close larger individual carrier sales by bundling our products into packaged solutions, a strategy that has resulted in agreements and sales with larger partners. We are in active negotiations with additional partners to form similar relationships and expect that these will drive sales and greater long-term opportunities. We are attempting to leverage our distribution network and worldwide installed base of customers towards sales of our newest solutions. In addition, we continue to build a select, efficient network of larger distributors that include OEM partners in a continued effort to grow the business.
 
We continue to seek to expand our largely indirect domestic and international distribution channel. In 2007, OEM, marketing and sales agreements covering our softswitch/gateway and mobile backhaul solutions were signed with Hughes Network Systems, Nortel, and others after these customers completed interoperability and other testing procedures to validate our products. Additionally, the acquisition of the Verilink business and the iMarc product lines in 2007, which created our Integrated Access Device business, delivered an installed base with two large North American customers. We are pursuing additional revenue opportunities with these customers as they continue to upgrade and expand their networks. Our IAD products continued to generate demand from large domestic and international carriers as well as smaller carriers and enterprises in 2007.  Most of our sales to smaller carriers and enterprises are processed through several well established distribution channels.

Our Network Monitoring and Security software solutions are used by several thousand large to mid-size enterprises as well as federal, state, and local government agencies and educational institutions to manage communication costs and network efficiency, enforce network policy, and protect their networks.

The business focus of Verso Outsourcing is onsite installation and training, remote upgrades, and 24x7 support for enterprises. Customers are primarily organizations that install and support advanced software applications and terminals that are connected via telecommunications networks.  The business mix of Verso Outsourcing consists of 50% technical support, 40% outsourced software installations and training, and 10% project management.

For each of the years ended December 31, 2007 and 2006, we had one customer that individually accounted for greater than 10% of our total revenue.

Sales and Marketing

Our overall marketing strategy is to achieve broader market penetration of our solutions in three primary ways: expanding international and domestic distribution; pursuing new markets and customers, including IP telephony service providers and pre-paid service bureaus; and selling new, next generation communication solutions to our current base of customers.

In 2007, we continued to focus our distribution strategy on select larger distributors with a global footprint who have a strong presence in the specific product markets corresponding to our respective products. Prior to the establishment of our Integrated Access Device business through the acquisition of the Verilink and iMarc product families, our sales were primarily international. With these acquisitions, our technology product sales in 2007 were balanced between international (43%) and domestic (57%) customers as depicted in the chart below.

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GRAPHIC
Our goal in 2008 is to continue to build on our indirect distribution channel which includes developing and securing additional OEM partnerships and developing key distribution relationships centered on specific products and select, high growth geographic regions. In order to further this goal in North America and strengthen our position domestically, we formed the Global Accounts Team which is focused on enhancing relationships with large domestic customers.

Our sales and marketing organization is responsible for building sales distribution channels, including OEM relationships, promoting brand awareness, product marketing, identifying key markets, and developing innovative products and services to meet the evolving demands of the marketplace. Another objective of the marketing effort is to stimulate the demand for products and services through a broad range of marketing, communications, and public relations activities. Primary communication vehicles include channel promotions, marketing communications, trade shows, media outreach efforts, trade analyst relationships, corporate promotions, and websites.

In the Technologies Group, sales are accomplished primarily through an indirect channel, and to a lesser degree, a direct sales force. There are approximately 31 sales and sales support personnel located throughout the United States, Canada, Mexico, the United Kingdom, India, Belgium, Italy, South Africa, China, Singapore, and the United Arab Emirates. The sales force is primarily responsible for cultivating strong relationships with systems integrators and distributors throughout the world and supporting them in the sales process. We have approximately 50 contracted resellers. In the Verso Outsourcing group, sales are accomplished through direct sales methods.

Competition

The markets for our products are highly competitive. We believe that one of our competitive strengths is our ability to offer an end-to-end solution with global support that leverages the synergy of our product lines. Through both internal development efforts and strategic acquisitions, we continue to add intellectual property and innovative, patented technologies that deliver greater value to our worldwide base of customers.
 
Technologies Group

The markets for our softswitch/gateway, mobile backhaul, integrated access device, and network monitoring and security businesses, are intensely competitive. These markets are subject to rapid technological change and are often significantly impacted by new product introductions and/or market entrants.

In the market for our softswitch/gateway solutions, which includes the Clarent family, our primary sources of competition include Class 4 and Class 5 solution providers, vendors of networking and telecommunications equipment, and telephony applications companies that bundle their offering with third-party equipment. Some competitors, especially networking and telecommunications equipment vendors, such as Alcatel-Lucent, Cisco Systems, Inc., Huawei Technologies, Nortel Networks, and Siemens AG, have significantly greater financial resources and broader customer relationships than we do. Other companies are focusing on market opportunities similar to ours, including iSoftel Ltd, MERA Systems, Inc, Sonus Networks, Veraz Networks, and Voiceware Systems Corporation.
 
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Our pre-paid product line competes with MIND CTI Ltd, Provo Pre-paid, Pactolus Communications Software Corporation,  and Portal Software, Inc.

Our Mobile Backhaul product lines, which include the AccessGate and NetPerformer families, compete with the products of telecommunications equipment manufacturers such as Alcatel-Lucent, Avaya, Celtro, Inc, Cisco Systems, Inc., ECI Telecom Ltd, Ericsson, Fujitsu Limited, Huawei, Memotec, NEC, Nortel, RAD Data Communications, Siemens, Toshiba Corporation, and Turin Networks.

Our Network Monitoring and Security products, which include the Telemate and NetSpective brands, compete with a number of products from companies such as 8e6 Technologies, Cisco, ISI Telemanagement Solutions, Inc,  MicroTel International, Inc., MTS IntegraTRAK , SurfControl PLC, St. Bernard Software, Inc., Veramark Technologies, and WebTrends Corporation

The Company’s integrated access products, which include the Verilink and iMarc families, compete with products from Alcatel-Lucent, ADTRAN, Cisco, Fluke Systems, Huawei Technologies, and Turin Networks.

Verso Outsourcing

Verso Outsourcing is in a highly competitive market and competes with companies that provide integrated, multi-channel customer contact centers, including APAC Customer Services, Inc., ClientLogic Corporation, Convergys Corporation, and CITEL Corporation. Certain companies do not use outsourced solutions, opting instead to provide their solution with “in-house” personnel and systems, which is a competitive factor for Verso Outsourcing and its competitors alike.

Intellectual Property Rights

We regard our copyrights, trade secrets and other intellectual property as critical to our success. Unauthorized use of our intellectual property by third parties may damage our brands and our reputation. We rely on trademark and copyright law, trade secret protection, and confidentiality, license and other agreements with our employees, customers, partners and others to protect our intellectual property rights. Despite precautions, it may be possible for third parties to obtain and use our intellectual property without our authorization. Furthermore, the validity, enforceability, and scope of protection of intellectual property in Internet-related industries are still evolving. The laws of some foreign countries do not protect intellectual property to the same extent as do the laws of the United States.

We cannot be certain that our services and the finished products that we deliver do not or will not infringe valid patents, copyrights, trademarks or other intellectual property rights held by third parties. We may be subject to legal proceedings and claims from time to time relating to our intellectual property other than in the ordinary course of business. Successful infringement claims against us may result in substantial monetary liability or may materially disrupt the conduct of our business.

On September 18, 2001, U.S. Patent No. 6,292,801 was issued to Telemate.Net, which we acquired in November 2001 by means of a merger. The patent covers technology developed by Telemate.Net for tracking PBX, VoIP and IP traffic from a variety of network sources and correlating communications activity with a database of user accounts. The patented techniques are employed in several of Telemate.Net’s products, including Telemate.Net’s call accounting and NetSpective Internet access management solutions.
 
On February 12, 2003, pursuant to our acquisition of substantially all of the operating assets of Clarent on such date, we acquired the following U.S. Patents: Dynamic Forward Error Correction Algorithm for Internet Telephone, No. 6,167,060, issued on December 26, 2000;  System and Method for Real-Time Data and Voice Transmission over an Internet Network, No. 6,477,164, issued on November 5, 2002; Internet Telephone System with Dynamically Varying Codec, No. 6,356,545, issued on March 12, 2002; and System and Method for Roaming Billing, No. 6,453,030, issued on September 17, 2002. In addition, Patent No. 6,982,985 was issued on January 3, 2006 for Interaction of VoIP Calls and Cellular Networks. This patent was based on an application filed by Clarent and obtained by us in connection with the acquisition of substantially all of Clarent’s operating assets. We also have several patent applications pending relating to our VoIP products and other product lines.

In connection with the Verilink Acquisition, Verso Verilink owns the rights to twelve U.S. patents, six U.S. patent applications, and numerous registered U.S. and international trademarks. In connection with the iMarc acquisition, we acquired four U.S. patents and the registered U.S. trademark for iMarc. In our acquisition of Sentito Networks, Inc. on April 17, 2007, we acquired the rights to one U.S. patent, one U.S. patent application, and three registered U.S. trademarks. Under the AccessGate Acquisition, we acquired the rights to one U.S. patent, six U.S. patent applications, and the registered U.S. trademark for AccessGate.

On January 24, 2008, Verso Verilink and Verso collectively entered into a Patent Purchase Agreement, effective as of January 23, 2008 (the “Patent Agreement”), with Vrs. Systems Mgmt. Limited Liability Company (“Vrs. Systems”), pursuant to which Verso Verilink and Verso have agreed to sell to Vrs. Systems certain patents and patent applications which are not necessary for the operation of our business (the “Patents”) for a gross purchase price of $900,000.  The sale of the Patents is subject to the consent of our lenders and the satisfaction or waiver of certain other customary conditions.  Pursuant to the Patent Agreement, Vrs. Systems shall grant to Verso and its subsidiaries upon the closing of the sale a fully paid, non-exclusive, license to use the Patents in the manufacture and sale of their products. As of the date of this filing, the sale of the Patents has not been completed as all closing conditions have not been met.
 
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We may explore other means of monetizing our patent resources, including entering into cooperative agreements and license agreements with third parties.

Research and Development

We believe that one of our competitive strengths is synergy across our product lines. This synergy enables us to accelerate the development and delivery of new technologies and products and expand into new markets. Through both internal development efforts and strategic acquisitions, we continue to add intellectual property and innovative, patented technologies that deliver greater value to our worldwide base of customers. Our research and development expenses totaled $7.9 million for the year ended December 31, 2007.

In the Technologies Group, the research and development initiatives have centered on introducing product features targeted towards increasing our customer’s revenue creation opportunities as well as extending the market reach and life of our products through the introduction of additional applications.
 
Softswitch/Gateway
 
In 2005, we introduced key enhancements to the C5 Call Manager based on market trends and key customer requirements. The newly-introduced features expanded our opportunity at the network edge with features such as hotline, distinctive music on hold, limiting simultaneous calls from groups of edge devices, do not disturb, anonymous call rejection, simultaneous ring, video edge device support, SIP and GR303 access gateways integration, topology hiding, a radius interface to authentication, authorization and accounting servers such as I-Master, private networking configurations as well as producing features needed by its customer base for regulatory compliance such as local number portability, E911, and lawful intercept.

In 2005, we introduced key enhancements to our C4 Call Manager providing regulatory compliance features such as local number portability and E911 as well as features to support private networking configurations, a radius interface to authentication, authorization and accounting servers such as I-Master and M2UA SS7 tunneling over IP.
 
In 2005, we integrated the I-Master application into our Class 4 and Class 5 softswitch and added multiple rating features to the I-Master solution. In 2006, we added a number of rating features to I-Master to support the competitive North American pre-paid market.  These include disconnect rate plans and global rate management tools.

In 2006, we focused on enhancing our bundled solution through the addition of optional components as well as features targeted towards the VoIP overlay market. We enhanced the value proposition offered to our customers with the introduction of a Back Office component and IP Centrex application. Our wholesale peering solution was enhanced with the addition of a reporting module enabling the service providers as well as their customers (e.g. wholesalers and virtual wholesalers) web-based access to real time traffic statistics, call detail records, as well as consumption reports. We also enhanced our software based IVR and pre-paid application through support of DTMF handling using named events as defined by the IETF RFC 2833. This enables us to offer a scalable IVR system through software as opposed to hardware for the support of multiple services such as VoBB and pre-paid calling. We signed a teaming agreement with IBM in 2006 which includes certification of its edge solution for VoBB overlay solutions as well as wholesale peering on the IBM BladeCenter platforms running on Linux.

In 2006, the C4 Call Manager was enhanced with support of SIP and ISUP transport within SIP or SIP-T. These enhancements enable the C4 to interoperate as a standalone component with any Class 5 softswitch or VoIP based feature server enabling Signaling System 7 (“SS7”), PRI, CAS/MFCR2 TDM connectivity. Similar to the edge solution, the PSTN access solution was validated on the IBM BladeCenter solution on Linux.
 
In 2007, enhancements to our Edge C5 voice over Broadband (VoBB) application, which we branded “MetroNet”, were focused on improving customers’ return on investment through enhancements to both solution turn-up and expansion. The MetroNet offering was restructured so that customer expansions resulted in a zero down-time between 2,500 and 100,000 subscriber solutions. In addition, in 2007, Verso developed a legal intercept/CALEA based solution with Verint System, Inc.’s mediation solution, StarGate.
 
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In 2007, we introduced CarrierNet, a next generation C4 media gateway offering. CarrierNet is targeted to customers who require small to high density TDM to VoIP (SIP, SIP-T, or H.323) solution either for legacy PSTN access for their pure VoIP services (e.g. voice over broadband class 5 service, IP Centrex, hosted PBX services) or for a wholesale traffic offering.  The following capabilities were developed with CarrierNet: STM-1 and DS-3 TDM media gateway interfaces for Verso’s BHG2500 media gateway product line; a solution carefully packaged to minimize costly rack space requiring only 4 rack units for support of 4,032 DS0s of TDM to VoIP capacity; support for remote SS7 signaling backhaul using standards based SIGTRAN technology; and advanced routing features, including ENUM, answer seizure ratio (ASR) based routing, least-cost based routing, and source trunk group based routing.

These key enhancements to the distributed softswitch, comprised of the Class 5 Call Manager and Class 4 Call Manager, enable service providers to increase top line consumer revenues through enhanced service offerings while simultaneously increasing bottom line profitability by reducing operational expenses within the service provider network.

In 2007, we enhanced our element management solution (“CEMS”) which is provided with all softswitch solutions. The enhancements include historical and real-time traffic monitoring from a system as well as total network perspective, alarm viewer and e-mail notification support, and alarm generation based on user defined low call processing (ASR).

In 2007, we introduced market leading feature bundling capabilities to I-Master with feature based account management. This capability allows our customers to differentiate account attributes such as rate plans, service charges, and “roll-over rules” by feature inside of a single customer account. Features include black list, white list, friends and family plans, international calling, and Internet based data. This capability enables our customers to create and offer unique bundled service offerings using a revenue assurance method (i.e. pre-paid). I-Master also introduced the following enhancements: friends and family feature offering, black and white list support limiting an account to only place calls to allowed phone numbers, advanced Internet data rating with support for both directional and data volume, basic invoice generation and management for post-paid, context sensitive on-line help, revenue prediction tools advising Verso’s customers of the revenue impacts of a rating change (e.g. rate plan modification, addition or deletion of  a service charge), and overload protection and optimized application and batch job handling to improve overall performance and reliability.
 
Mobile Backhaul

In 2006, we launched two new products to be used mainly in GSM backhauling and DCME solutions. The SDM-9210 is a compact, 1 rack mount unit high device used for interconnection to the BTS. It provides high reliability features such as E1 bypass, 1:1 redundancy, and an optional high precision clock compliant with the G.823 PDH standard which is necessary to enable quality handover in high density urban areas.  The SDM-9600 is a high density chassis that has been introduced with the SDM-9606 hot-swappable blade. The fully loaded chassis supports up to 30 T1/E1s. A new set of DSPs has been deployed to improve the performance in GPRS/EDGE support and enable a reduction of overall latency. Other software enhancements include SS7 call setup detection for improved compression efficiency in DCME applications and features related to better operation over satellite networks, including specific features developed in connection with partnerships with particular satellite equipment vendors.

In 2007, we completed the launch of the SDM-9210 GSM backhaul product, a 1U remote site unit with special features like Precision Clock, optional integrated GPS Receiver, and a special E1/T1 bypass interface for improved reliability and simplified redundancy. We also launched the SDM-9600 High Density Chassis with the 9620 blade. This carrier class unit is based on the Advanced TCA chassis and can support up to five hot swappable blades with a maximum capacity of 80 x T1/E1s, 10 x 10/100/1000 Mbps Eth and five serial ports.  In order to better support ATC applications, we developed a new PTT interface card that can be installed in the SDM-9220 or SDM-9230.  In addition, we converted all NetPerformer products to be RoHS compliant.

In 2007 we enhanced the software of NetPerformer. We accomplished the following: support of all the new hardware; V.22, V.22 bis and V.23 modem support in pass through mode (DCME); BRI links establishment on demand (NASA project); Ericsson WAP support (DCME); V.110 support for the A interface (GSM Backhaul); GSM QoS improvements including distinctive priorities between signaling, voice and GPRS/EDGE; and adding Carrier Class Features such as troubleshooting tools, improved alarms, and statistics. We also completed major lab interoperability tests were completed with Alcatel-Lucent and ZTE.

In 2007, the AccessGate 2516 platform was introduced.  The AG2516 model is specifically targeted to deployments that serve 16 T1/ET1 service ports for optimized delivery over Ethernet IP backhaul. This density and configuration is well suited as a hubbing platform or a switching center system for IP satellite systems.  The AccessGate 2516 is a carrier-class platform that optimizes backhaul connections from multiple AccessGate cell site devices. In addition, in 2007, expanded support for BSS systems, Gb interface, optimization of CDMA backhaul, and expanded Key Performance Indicators (KPI’s) were released across all AccessGate platforms.

Integrated Access Devices

In 2006, we began an integration strategy for the Verso Verilink VoIP IAD products and the NetPerformer product family. To meet the European Union’s RoHS directive, Verso Verilink also performed a redesign of its 8000 and WanSuite products. In addition, 4 wire SHDSL was added to the WanSuite family for extended reach capabilities.
 
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In 2007, the 8000 series IAD completed interoperability certification with Broadsoft and Metaswitch enabling a greater sales reach for this product from a VoIP perspective.  This product was also integrated with Occam’s Broadband Loop Carrier offering a joint solution for the North American market.  In 2007, the WANSuite introduced 4-wire G.SHDSL version that can serve as an E1 replacement technology for Tier I international carriers and the Shark introduced a voice wiretap offering that is used with Tier I carrier next generation broadband offerings.
 
In 2007, VoIP application server level monitoring was developed in iMarc product and tested by a tier 1 carrier. Metrics measured and calculated by the device include call quality parameters such as delay, jitter, packet loss, and voice quality. The iMarc also maintains real-time and detailed information on all calls currently being handled passed through the device. This product is targeted for North American as well as International carriers offering them the ability to support strict service level agreements (SLAs) as well providing them the ability to  pro-actively monitor and manage their VoIP based offerings.
 
Network Monitoring and Security

In 2005, we launched our NetSpective C-Class and M-Class products targeting wireline carriers as well as mobile carriers. These NEBS-3/ETSI compatible products enable carriers to screen out web traffic such as Skype™, instant messaging and other peer-to-peer applications that consume substantial bandwidth on carrier networks.

In 2007, Telemate tailored a number of IP listening solutions, targeting who we believe are the top four leading providers of next generation enterprise phone systems, namely Avaya, Cisco, Nortel, and Seimens. Our solutions are designed to interface with these systems and collect their call streams. This initiative is intended to grow our market share with those leaders. Additionally, we extended the reach of NetSpective beyond the internal network, to external remote users. This additional capability allows the user to synchronize external users’ notebooks and outside systems with the policies of the home office for computer and internet usage. Further, we developed a “micro-update” for signature updates. This allows us to identify unknown content within minutes despite being a passive device. This allows us to accomplish this task without putting additional burden on the filtering technology which would otherwise require an increase in the size of the customer’s hardware. By “offloading” to our hosted environment, which involves an investment in hardware on our part, we make our product more user-friendly and efficient for our customers and potential customers.

Employees

As of December 31, 2007, we had 261 domestic employees, including 98 employees located at our headquarters in Atlanta, Georgia (56 of whom work in the Verso Outsourcing group); 32 employees at the our facility in Littleton, Colorado; 47 employees at our facility in Madison, Alabama; 12 employees at our office in Rockville, Maryland; 10 employees in Framingham, Massachusetts; 4 employees at our office in Jacksonville, Florida; 37 employees of the Verso Outsourcing group located throughout the country; and 21 other employees located throughout the United States. As of December 31, 2007, we had 53 international employees, 41 of whom are located at our NetPerformer/AccessGate facility in Montreal, Canada, and 12 of whom conduct our sales efforts throughout the rest of the world.
 
Background

We were incorporated in Minnesota on March 20, 1984. Until 2001, we historically operated a value-added reseller (“VAR”) business and an associated network performance management consulting and integration practice. We also operated a Hospitality Services Group (“HSG”), which provided technology solutions to lodging, restaurant, and energy management customers. Over the years, our operations moved away from these lines of business and now focus on the products and services offered by the Technologies Group and the Outsourcing group. During the last seven years, our business developed as described below.

Early in 2000, our Board of Directors (the “Board”) decided to explore the sale of all or a portion of HSG, which consisted of our lodging business, our restaurant solutions business and our energy management business. Subsequently, the operations of HSG were classified as discontinued operations, and each of the operating units of HSG was sold between late 2000 and early 2001. The sale of these operating units included all of the operations of (i) Sulcus Hospitality Technologies Corp., which we acquired in 1999, and (ii) Encore Systems, Inc., Global Systems and Support, Inc. and Five Star Systems, Inc. (collectively, the "Encore Group"), which we acquired in 1998, except for the customer response center services.

In September 2000, we acquired Cereus Technology Partners, Inc. (“Cereus”) in a merger transaction. Cereus provided end-to-end business and business-to-business technology solutions, including e-business strategy, network consulting and hosting and application integration. In connection with the acquisition of Cereus, we changed our name to “Verso Technologies, Inc.”

In November 2000, we acquired MessageClick, Inc. (“MessageClick”) in a merger transaction. The acquisition of MessageClick provided us with a proprietary unified communications application delivered as an application service provider. In the second quarter of 2001, we decided to discontinue offering the MessageClick application and to refocus the development of the MessageClick application to be offered as a licensed software product. We since focused our overall strategy on pursuing the market for next generation communications and, therefore, the development of the MessageClick application as a licensed product is dormant.
 
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In July 2001, we acquired all of the outstanding capital stock of NACT Telecommunications, Inc., now known as Provo Pre-paid (Delaware) Corp. (“NACT”). Our acquisition of NACT in July 2001 was our first significant investment in proprietary communications products. The acquisition of NACT and its portfolio of products and services allowed us to begin to offer proprietary, integrated, switching solutions for communications service providers seeking turn-key, pre-paid telecommunications solutions. The acquisition of NACT was funded by a $15 million investment by Telemate.Net, as contemplated by our merger agreement with Telemate.Net. On January 21, 2005, we sold substantially all of the operating assets of the NACT business. In connection with the sale, “NACT Telecommunications, Inc.” changed its name to “Provo Pre-paid (Delaware) Corp.”

On November 16, 2001, we acquired Telemate.Net by means of a merger, pursuant to which Telemate.Net became a wholly-owned subsidiary. Telemate.Net develops proprietary Internet access, voice and IP network usage management, and intelligence applications that enable businesses to monitor, analyze, and manage the use of their internal network resources. As a result of the acquisition of Telemate.Net, we added next generation applications and application development competencies to our solutions portfolio.

During the quarter ended December 31, 2001, and in keeping with our focus on providing next generation communications solutions, we determined that our VAR business and associated network performance management consulting and integration practice were not strategic to our ongoing objectives and, therefore, decided to discontinue capital and human resource investment in these businesses. Accordingly, we elected to report our VAR and associated consulting and integration operations as discontinued operations by early adoption of Statement of Financial Accounting Standards (“SFAS”) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”), which is intended to allow a company to more clearly communicate a change in its business that results from a decision to dispose of non-strategic operations.

On October 1, 2002, we purchased a 51% interest in Shanghai BeTrue Infotech Co., Ltd. (“BeTrue”) for $100,000, with $50,000 paid at closing, $25,000 paid on December 30, 2002, and $25,000 paid on March 30, 2003. Upon closing the transaction, we contributed to the joint venture certain next generation communication equipment and software valued at approximately $236,000 and $50,000, respectively. Additionally, we contributed to BeTrue $25,000 on December 30, 2002, and $25,000 on March 30, 2003. The remaining 49% interest in BeTrue is owned by Shanghai Tangsheng Investments & Development Co. Ltd. (“Shanghai Tangsheng”). BeTrue provides VoIP and satellite network solutions, including systems integration, project implementation, technical support, consulting and training to leading telecommunications companies in China and the Asia-Pacific region.  The Company plans to leverage BeTrue’s sales channels and support infrastructure capabilities, including pre- and post- sales support. Due to shared decision-making between ourselves and Shanghai Tangsheng, the results for BeTrue are reported as an equity investment rather than consolidated in our results.

On February 12, 2003, we acquired substantially all operating assets and related liabilities of Clarent Corporation. The assets purchased from Clarent Corporation included the following key products: next generation switching and call control software; high density media gateways; multi-service access devices, signaling and announcement servers; network management systems; and high demand telephony applications based on packet-switched technology. Specifically, we acquired the Clarent Softswitch and NetPerformer products in connection with this acquisition.
 
On September 26, 2003, we acquired MCK Communications, Inc., now known as Needham (Delaware) Corp. (“MCK”), by means of a merger, pursuant to which MCK became a wholly-owned subsidiary.  MCK provided products that deliver distributed voice communications by enabling businesses to extend the functionality and applications of their business telephone systems from the main office to outlying offices, remote call centers, teleworkers and mobile employees over public and private networks. On January 21, 2005, we sold substantially all of the operating assets of the MCK business, including (i) the assets which allow legacy digital business telephone handsets to be used in a voice network using public/private IP-based, circuit-switched, frame relay or wireless technology network, and (ii) the products that enable call recording of legacy business telephone systems in non-packet environments. In connection with the sale, “MCK Communications, Inc.” changed its name to “Needham (Delaware) Corp.”
 
On March 31, 2005, we acquired substantially all of the operating assets of WSECI, a provider of an Internet protocol-based applications platform which enables the deployment of multiple voice and next generation services to the carrier market.
 
On October 11, 2005, we affected a 1-for-5 reverse stock split of the outstanding Common Stock, pursuant to which every one share of Common Stock issued and outstanding was automatically reclassified and converted into one-fifth of a share of Common Stock (the “Reverse Split”).

On June 16, 2006, we acquired the outstanding equity interests of Winslow Asset Holdings, LLC (now known as Verso Verilink, LLC) from Winslow Asset Group, LLC (the “Verilink Acquisition”). Winslow Asset Holdings, LLC had earlier acquired substantially all of the business assets of Verilink Corporation and Larscom Incorporated (together, the “Verilink Sellers”), other than the accounts receivable and certain fixed assets of the Verilink Sellers which were transferred to Winslow Asset Group, LLC. As a result of our equity purchase, we acquired the Verilink Sellers’ business of developing, manufacturing, marketing and selling broadband access solutions for computer networks.
 
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On December 29, 2006, we purchased certain assets from, and assumed certain liabilities of Paradyne Networks, Inc. relating to its business of manufacturing, selling and supporting the iMarc product line, a family of ATM devices, IP service units, and branch monitors that provides intelligent demarcation between carrier and enterprise networks, allowing for easier management.
 
On April 17, 2007, we acquired Sentito Networks, Inc. (“Sentito”), a provider of media and signaling gateway equipment to the telecommunications market, by means of merger between SN Acquisition Corporation, our wholly-owned subsidiary, into Sentito, pursuant to an Agreement and Plan of Merger, dated as of April 4, 2007 (the “Sentito Acquisition”).
 
On December 21, 2007, Verso Backhaul acquired certain assets from and assumed certain liabilities of NMS Communications Corp. relating to its business of manufacturing, selling and supporting the AccessGate product line. AccessGate is a cellular backhaul optimization product line. In January of 2008, we combined management of the AccessGate and Net Performer backhaul optimization operations into a single business unit.
 
Item 1A.               Risk Factors
 
Our independent auditors have expressed doubt about our ability to continue as a going concern.
 
In their report dated April 15, 2008, our independent auditors stated that our financial statements for the years ended December 31, 2007 and 2006 were prepared assuming that we would continue as a going concern. However, our independent auditors raised substantial doubt about our ability to continue as a going concern due to our recurring losses from operations, operating cash flow deficiencies, significant debt obligations which become due and payable during 2008 and our limited capital resouces. Our future success and ability to continue as a going concern is contingent upon, among other things, the ability to achieve and mantain satisfactory levels of profitable operations, obtain and maintain adequate levels of debt and equity financing for expansion and to meet our obligations, and provide sufficient cash from operations to meet current and future obligations.
 
The Common Stock may be delisted from The Nasdaq Capital Market.

The Common Stock is currently quoted on The Nasdaq Capital Market. We must satisfy certain minimum listing maintenance requirements to maintain such quotation, including a series of financial tests relating to shareholders equity or net income or market value, public float, number of market makers and shareholders, market capitalization, and maintaining a minimum bid price of $1.00 per share for the Common Stock. In the past, we have experienced periods in which the minimum bid price for the Common Stock fell below $1.00 per share.

On June 26, 2007, The Nasdaq Stock Market, LLC notified us that for the last 30 consecutive business days the bid price for the Common Stock had closed below the minimum $1.00 per share requirement for continued inclusion of the common stock on The Nasdaq Capital Market as required by Marketplace Rule 4310(c)(4) (the “Rule”). In accordance with Marketplace Rule 4310(c)(8)(D), we had 180 calendar days, or until December 24, 2007, to regain compliance with the Rule. On December 27, 2007, The Nasdaq Stock Market, LLC notified us that we did not regain compliance with the Rule by December 24, 2007 and that, on December 24, 2007, we met all initial inclusion criteria for The Nasdaq Capital Market set forth in Rule, except for the bid price requirement.  Accordingly, pursuant to Marketplace Rule 4310(c)(8)(D), we have an additional 180 calendar days, or until June 24, 2008, to regain compliance with the Rule. We may regain compliance with the Rule if the bid price of the Common Stock closes at $1.00 per share or more for a minimum of ten (10) consecutive business days. If we do not regain compliance with the Rule prior to June 24, 2008, then The Nasdaq Stock Market, LLC will notify us that the Common Stock will be delisted.

If the Common Stock is delisted from The Nasdaq Capital Market, then the Common Stock may trade on the Over-the-Counter-Bulletin Board, which is viewed by most investors as a less desirable and less liquid market place. Delisting from The Nasdaq Capital Market could make trading the Common Stock more difficult for our investors, leading to declines in share price. Delisting of the Common Stock would also make it more difficult and expensive for us to raise additional capital. Furthermore, delisting of the Common Stock is an event of default under our credit facility with our primary lender, under our outstanding 6.75% senior unsecured convertible debentures and, through certain cross default provisions, the Loan and Security Agreement we entered into with Clarent Corporation in connection with our acquisition of substantially all of the business assets, and certain related liabilities, of Clarent Corporation on February 12, 2003.

If we do not repay our indebtedness to Clarent Corporation, we will be in default under our Loan and Security Agreement with Clarent Corporation, and as a result of cross-default provisions, certain of our other secured and unsecured indebtedness.
 
Our approximately $3.7 million debt to Clarent Corporation pursuant to our Loan and Security Agreement with Clarent Corporation was due and payable on February 15, 2008.  On that date, we entered into an amendment to such Loan and Security Agreement with Clarent Corporation’s liquidating trustee that provided that the outstanding principal amount and all accrued and unpaid interest thereon was due and payable by March 3, 2008 unless we paid approximately $730,000 in accrued unpaid capitalized interest by such date.  We paid the $730,000 to Clarent Corporation on February 29, 2008.  As a result, the $3.0 million principal amount remaining outstanding will be due and payable within three (3) business days of August 12, 2008.  As part of the amendment, we have agreed to pay interest monthly on the unpaid principal amount at a rate of 8% per annum.    If we do not pay the amounts due under the Loan and Security Agreement when they are due, then we will be in default under the Loan and Security Agreement and, through certain cross-default provisions, we will be in default under our outstanding unsecured convertible debentures and our credit facility with our senior lender.
 
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We have significant debt obligations which become due in 2008.
 
We have significant short-term debt obligations which become payable during the remainder of 2008 in the aggregate amount of approximately $18.0 million. These obligations include payments under our Loan and Security Agreement with Clarent Corporation, our outstanding unsecured convertible debentures and our credit facility with our senior lender.  Our ability to satisfy these debt obligations depends on our financial and operating performance, which is subject to prevailing economic and competitive industry conditions and to certain financial, business and other factors beyond our control.  We may not be able to generate cash flows from our operating activities sufficient to permit us to satisfy these debt obligations.  If our cash flows are insufficient to satisfy these debt obligations, then we may be forced to seek additional capital, sell assets or restructure or refinance our debt.  If our cash flows are insufficient to satisfy these debt obligations and we are unable to raise sufficient funds from alternative measures, then we will not be able to satisfy our short-term debt obligations.
 
The price of the Common Stock has been volatile.

The stock market in general and the market for technology companies in particular, has experienced extreme volatility that has often been unrelated to the operating performance of particular companies. From September 4, 2003 to April 10, 2008, the per share closing price of our Common Stock on The Nasdaq Capital Market (formerly known as The Nasdaq SmallCap Market) fluctuated from a high of $25.35 to a low of $0.10. We believe that the volatility of the price of the Common Stock does not solely relate to our performance and is broadly consistent with volatility experienced in our industry. Fluctuations may result from, among other reasons, responses to operating results, announcements by competitors, regulatory changes, economic changes, market valuation of technology firms and general market conditions.
 
In addition, in order to respond to competitive developments, we may from time to time make pricing, service or marketing decisions that could harm our business. Also, our operating results in one or more future quarters may fall below the expectations of securities analysts and investors. In either case, the trading price of the Common Stock would likely decline.
 
The trading price of the Common Stock could continue to be subject to wide fluctuations in response to these or other factors, many of which are beyond our control. If the market price of the Common Stock decreases, then shareholders may not be able to sell their shares of Common Stock at a profit.
 
We may be unable to fund future growth.

Our business strategy calls for growth internally as well as through acquisitions. We have invested substantial funds in our sales and marketing efforts in order to grow revenues. This strategy to increase sales and marketing resources as well as other strategies for growth internally which we may implement now or in the future will require funding for additional personnel, capital expenditures and other expenses, as well as for working capital purposes. Financing may not be available to us on favorable terms or at all. If adequate funds are not available on acceptable terms, then we may not be able to meet our business objectives for expansion. This, in turn, could harm our business, results of operations and financial condition. In addition, if we raise additional funds through the issuance of equity or convertible debt securities, then the percentage ownership of our shareholders will be reduced, and any new securities could have rights, preferences and privileges senior to those of the Common Stock. Furthermore, if we raise capital or acquire businesses by incurring indebtedness, then we will become subject to the risks associated with indebtedness, including interest rate fluctuations and any financial or other covenants that our lender may require. Moreover, if our strategy to invest in our sales and marketing efforts in order to grow revenues does not produce the desired result, then we will have incurred significant expenses which we may or may not have obtained adequate funding to cover.
 
We have a history of losses and may not be profitable in the future.
 
We have a history of net losses, including net losses of $27.0 million for the 2007 fiscal year, $17.8 million for the 2006 fiscal year, $20.1 million for the 2005 fiscal year, $38.8 million for the 2004 fiscal year, $18.3 million for the 2003 fiscal year, $2.7 million for the 2002 fiscal year and $147.6 million for the 2001 fiscal year. As of December 31, 2007, we had an accumulated deficit of $376.8 million. Further, developing our business strategy and expanding our services will require significant additional capital and other expenditures. Accordingly, if we are not able to increase our revenue, then we may never generate sufficient revenues to achieve or sustain profitability.

We have significant market overhang which could adversely affect the trading price of the Common Stock.
 
As of April 15, 2008, we had (i) 93.3 million shares of Common Stock outstanding, (ii) approximately 7.2 million shares of Common Stock issuable upon exercise of outstanding options, (iii) approximately 24.1 million shares of Common Stock issuable upon exercise of outstanding warrants and (iv) approximately 4.7 million shares of Common Stock issuable upon conversion of the principal amount of its outstanding convertible debentures. If all the outstanding options, warrants, and convertible debentures were exercised or converted, as applicable, by their holders, then approximately an additional 129.3 million shares of Common Stock would be outstanding. This would represent an approximate 45% increase in our outstanding Common Stock. The convertible debentures are convertible, and a vast majority of the outstanding options and warrants are exercisable, at prices currently above the public trading prices of the Common Stock. However, in the event that even a portion of these outstanding options and warrants were to be exercised, or a portion of the convertible debentures were to be converted, the resulting dilution could depress the trading price of the Common Stock. We have registered all of the potential dilutive shares of Common Stock for resale pursuant to registration statements filed with the SEC. If a significant portion of these shares are sold in the public marketplace by the selling shareholders identified in these registration statements, then such sales could also have a severe and adverse material affect on the trading price of the Common Stock.
 
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Our growth could be limited if we are unable to attract and retain qualified personnel.
 
We believe that our success depends largely on our ability to attract and retain highly skilled and qualified technical, managerial, and marketing personnel. Competition for highly skilled engineering, sales, marketing, and support personnel is intense because there is a limited number of people available with the necessary technical skills and an understanding of the markets which we serve. Workforce reductions by us during recent years may adversely affect our ability to retain our current employees and recruit new employees. The inability to hire or retain qualified personnel could hinder our ability to implement our business strategy and harm our business.

We are exposed to the general condition of the telecommunications market.
 
Our business is subject to global economic conditions, and in particular, market conditions in the telecommunications industry. Our operations could be adversely affected if capital spending from telecommunications service providers does not grow or declines. If global economic conditions worsen, or if the prolonged slowdown in the telecommunications industry continues, then we may experience adverse operating results.

Our need to invest in research and development could harm our operating results.
 
Our industry is characterized by the need for continued investment in research and development. If we fail to invest sufficiently in research and development, then our products could become less attractive to potential customers, which could have a material adverse effect on our results of operations and financial condition. As a result of our need to maintain or increase its spending levels in this area, our operating results could be materially harmed if our net sales fall below expectations. In addition, as a result of the need for research and development and technological innovation, our operating costs may increase in the future.

The market for converged communications solutions is still in its infancy and rapidly evolving. If this market does not develop and grow as expected, then it could have a material adverse effect on our business.
 
While we believe there is a significant growth opportunity in providing converged communications solutions to customers, there can be no assurances that this technology will be widely accepted or that a viable market for our products will fully develop or be sustainable. If this market does not develop, or develops more slowly than expected, then we may not be able to sell our products in significant volume, or at all. Due to the intense competition in this market and the recent introduction of this technology, there can be no assurance that we will succeed in this evolving marketplace.

Intellectual property infringement claims against us, even without merit, could require us to enter into costly licensing agreements or deprive us of the technology we need.
 
Our industry is technology intensive. As the number of competitors in our target markets increases and the functionality of the products produced by such competitors further overlaps, third parties may claim that the technology we develop or license infringes their proprietary rights. Any claims against us or any of our subsidiaries may affect our business, results of operations and financial conditions. Any infringement claims, even those without merit, could require us to pay damages or settlement amounts or could require us to develop non-infringing technology or enter into costly royalty or licensing agreements to avoid service implementation delays. Any litigation or potential litigation could result in product delays, increased costs or both. In addition, the cost of litigation and the resulting distraction of our management resources could have a material adverse effect on our results of operations and financial condition. If successful, a claim of product infringement could deprive us of the technology we need altogether.

Failure to protect our intellectual property rights could have a material adverse effect on our business.

Our success depends in part upon the protection of our proprietary application software and hardware products. We have taken steps that we believe are adequate to establish, protect, and enforce our intellectual property rights. We cannot provide assurance that these efforts will be adequate. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy or otherwise obtain rights to use our products or technology.
 
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We have pending several patent applications related to our products. There can be no assurance that these patents will be issued. Even if these patents are issued, the limited legal protection afforded by patent, trademark, trade secret, and copyright laws may not be sufficient to protect our proprietary rights to the intellectual property covered by these patents.
 
Furthermore, the laws of many foreign countries in which we do business do not protect intellectual property rights to the same extent or in the same manner as do the laws of the United States. In addition, it is necessary to file for patent and trademark protection in foreign countries in order to obtain legal protection in those countries. We have made such filings only on a limited basis.  These efforts may not be sufficient and additional filings may be cost prohibitive. Additionally, even if our domestic and international efforts are successful, our competitors may independently develop non-infringing technologies that are substantially similar or superior to our technologies.
 
If our products contain defects, then our sales are likely to suffer, and we may be exposed to legal claims.

Our business strategy calls for the development of new products and product enhancements which may from time to time contain defects or result in failures that we did not detect or anticipate when introducing such products or enhancements to the market. In addition, the markets in which our products are used are characterized by a wide variety of standard and non-standard configurations and by errors, failures, and bugs in third-party platforms that can impede proper operation of our products. Despite product testing, defects may still be discovered in some new products or enhancements after the products or enhancements are delivered to customers. The occurrence of these defects could result in product returns, adverse publicity, loss of or delays in market acceptance of our products, delays or cessation of service to our customers or legal claims by our customers against us.

To the extent that contractual provisions that limit the Company’s exposure to legal claims are unenforceable or are not included in contracts or such claims are not covered by insurance, a successful products liability claim could have a material adverse effect on the Company’s business, results of operations and financial condition.
 
We may be obligated to indemnify customers who purchase equipment from us against claims of patent infringement.
 
In the course of our business, we may sell certain equipment and license software to our customers, and in connection with such sale and license, may agree to indemnify these customers from claims made against them by third parties for patent infringement related to such equipment and software.  If we are required to make any payments in respect of these indemnification obligations, then it could have a material adverse effect on our business, results of operations and financial condition.

Our focus on emerging markets could make achievement of our sales goals more difficult.

We focus a large part of our sales efforts on emerging markets, including Africa, India, Latin America, and the Middle East. These markets can be more volatile and less predictable than more developed markets. In addition, there is limited history and thus a level of uncertainty for demand for communications products in these markets and both service providers and end users tend to have less capital to spend on communications products.  These elements could impact our ability to meet our sales objectives.

Sales to customers based outside the United States have accounted for a significant portion of our revenues, which exposes us to risks inherent in international operations.

International sales represented 43% of the revenues for the Technologies Group for the year ended December 31, 2007 and 49% of the revenues for such group for the year ended December 31, 2006. Furthermore, we expect sales to international markets to increase as a percentage of revenues in the future. International sales are subject to a number of risks, including changes in foreign government regulations, laws, and communications standards; export license requirements; currency fluctuations, tariffs and taxes; other trade barriers; difficulty in collecting accounts receivable; longer accounts receivable collection cycles; difficulty in managing across disparate geographic areas; difficulties in hiring qualified local personnel; difficulties associated with enforcing agreements and collecting receivables through foreign legal systems; expenses associated with localizing products for foreign markets; and political and economic instability, including disruptions of cash flow and normal business operations that may result from terrorist attacks or armed conflict.

If the relative value of the U.S. dollar in comparison to the currency of our foreign customers should increase, then the resulting effective price increase of our products to these foreign customers could result in decreased sales. In addition, to the extent that general economic downturns in particular countries or regions impact our customers, the ability of these customers to purchase our products could be adversely affected especially for some of the more significant projects. Payment cycles for international customers can be longer than those for customers in the United States. The foreign markets for our products may develop more slowly than currently anticipated. Also, our ability to expand the sale of certain of our products internationally is limited by the necessity of obtaining regulatory approval in new countries. We anticipate that our non-Canadian, foreign sales will generally be invoiced in U.S. dollars, and do not currently plan to engage in foreign currency hedging transactions. As we expand our international operations, however, we may allow payment in foreign currencies, and exposure to losses in foreign currency transactions may increase. We may choose to limit any currency exposure through the purchase of forward foreign exchange contracts or other hedging strategies. Our future currency hedging strategies if employed may not be successful.
 
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Our dependence on contract manufacturers and suppliers could result in product delivery delays.

We currently use contract manufacturers to manufacture a significant portion of our NetPerformer, AccessGate, and Verilink hardware products. Our reliance on contract manufacturers involves a number of risks, including the absence of adequate capacity, the unavailability of, or interruptions in access to necessary manufacturing processes and reduced control over delivery schedules. If our contract manufacturers are unable or unwilling to continue manufacturing our products and components in required volumes on the required time schedule, then we will have to identify one or more acceptable alternatives. The use of new manufacturers may cause significant interruptions in supply if the new manufacturers have difficulty manufacturing products to our specifications. Further, the introduction of new manufacturers may increase the variance in the quality of our products. In addition, we rely upon third-party suppliers of specialty components and intellectual property used in our products. It is possible that a component needed to complete the manufacture of our products may not be available at acceptable prices or on a timely basis, if at all. Inadequate supplies of components, or the loss of intellectual property rights, could affect our ability to deliver products to our customers. Any significant interruption in the supply of our products would result in the reduction of product sales to customers, which in turn could permanently harm our reputation in the industry.

We may be subject to litigation.

We may be subject to claims involving how we conduct our business or the market for or issuance of the Common Stock or other securities. Any such claims against us may affect our business, results of operations and financial conditions. Such claims, including those without merit, could require us to pay damages or settlement amounts and would require a substantial amount of time and attention from our senior management as well as considerable legal expenses. Although we do not anticipate that our activities would warrant such claims, there can be no assurances that such claims will not be made.

We derive a substantial amount of our revenues from channel distribution partners and such revenues may decline significantly if any major partner cancels or delays a purchase of our products.

We use an indirect sales model to derive a substantial portion of our revenue. Failure to generate revenue as expected from this channel could have a material adverse effect on our results of operations and financial condition.

No channel partner or distributor is obligated to purchase additional products or services from us. Accordingly, present and future partners may terminate their purchasing arrangements with us or significantly reduce or delay their orders. Any termination, change, reduction, or delay in orders could have a material adverse effect on our results of operations and financial condition. In addition, we currently have varying distribution, marketing and development arrangements with our partners. There is no assurance that we will continue to enjoy the support and cooperation that we have historically experienced from these parties or their associated distribution channels. Also, there is no certainty that these parties will continue to offer our products in their sales portfolio. It is possible that these vendors may seek to offer broader product lines and solutions that are competitive with our products. In addition, they may change their distribution models which could negatively impact our revenues. Furthermore, we must correctly anticipate the price, performance and functionality requirements of these partners and must successfully develop products that meet end user requirements and make these products available on a timely basis and in sufficient quantities in order to sustain and grow our business.

Our inability to develop and maintain relationships with key technology suppliers could harm our ability to sustain and grow our business.
 
Our success depends to a significant degree upon our continued relationships with leading technology suppliers. The standards for telephony equipment and data networks are evolving, and our products may not be compatible with new technology standards that may emerge. If we are unable to provide our customers with interoperable solutions, then they may make purchases from vendors who provide the requisite product interoperability. This could have a material adverse effect on our results of operations and financial condition.

Compliance or the failure to comply with current and future environmental regulations could cause us significant expense.

We are subject to a variety of federal, state, local, and foreign environmental regulations. If we fail to comply with any present and future regulations, we could be subject to future liabilities, the suspension of production or a prohibition on the sale of our products. In addition, such regulations could require us to incur other significant expenses to comply with environmental regulations, including expenses associated with the redesign of any non-compliant product. From time to time new regulations are enacted, and it is difficult to anticipate how such regulations will be implemented and enforced. For example, in 2003 the European Union enacted the Restriction on the Use of Certain Hazardous Substances in Electrical and Electronic Equipment Directive (“RoHS”) and the Waste Electrica and Electronic Equipment Directive (“WEEE”), for implementation in European Union member states. Similar legislation is currently in force or is being considered in the United States, as well as other countries, such as Japan and China. The failure to comply with any of such regulatory requirements or contractual obligations could result in the Company being liable for costs, fines, penalties and third-party claims, and could jeopardize our ability to conduct business in the jurisdictions where these regulations apply.
 
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We may be required to pay liquidated damages to certain of our investors under certain circumstances.

Pursuant to the registration rights agreements we have entered into with the investors who purchased our securities in a private placement transaction conducted in January and February 2007, we agreed to pay to such investors certain liquidated damages in the event we do not meet certain of our obligations under such registration rights agreements. The registration statement filed on behalf of the investors was declared effective by the SEC on June 14, 2007. If this registration statement ceases to remain continuously effective or the investors are not permitted to use the prospectus of which such registration statement is a part as required by the registration rights agreements for more than fifteen (15) consecutive calendar days or more than an aggregate of twenty (20) calendar days during any twelve (12)–month period, then on the date of such event and each monthly anniversary of such date until we are able to cure such event, we will be required to pay to the investors a cash payment equal to 1.5% of the aggregate purchase price paid by such investors for the securities purchased by them in the private placement; however, the maximum aggregate liquidated damages we may be obligated to pay may not exceed $1,200,000. If we are unable to satisfy our obligations under such registration rights agreements and we are obligated to pay liquidated damages, it may have a materially adverse effect on our cash flow and results of operations.

Item 2.                  Properties

We are headquartered in Atlanta, Georgia, where we lease 49,000 square feet of space, 24,600 of which is used for our corporate offices, the Telemate.Net operations, and our Outsourcing group. We are obligated to pay rent on this space of approximately $116,000 per month, plus a share of operating expenses, through January 2010.  We have subleased 24,400 square feet of space in the Atlanta facility for $18,613 per month from January 2006 through July 2006, $33,224 per month from August 2006 through July 2007, $33,896 per month from August 2007 through July 2008, $34,568 per month from August 2008 through July 2009, and $35,260 from August 2009 though the end of the lease on January 31, 2010. Further, we are also obligated through January 2010 to pay rent of $30,000 per month with respect to an additional 13,000 square feet of space in the Atlanta facility, the cost of which is included in discontinued operations. We have subleased 13,000 square feet of this space for $20,000 per month through January 2010.

Verso Verilink leases 43,750 square feet of office, manufacturing, and warehouse space in Madison, Alabama.  We use this space for manufacturing and shipping functions related to the Verilink, NetPerformer, and iMarc product lines. We are obligated to pay $17,038 in monthly rent under this lease through June 30, 2006 and $17,552 in monthly rent from July 1, 2006 through the expiration of the lease term on June 30, 2010.

In connection with our disposition of the NACT business, NACT assigned to the purchaser thereof all of NACT’s interest in a lease for approximately 40,000 square feet of office space in Provo, Utah, which had been used to operate the NACT business, formerly a component of our Technologies Group.  The purchaser has agreed to pay all amounts owed under the lease; however, NACT’s payment obligations under the lease have not been terminated and our guaranty of such obligations remains in place. The lease expires in December 2009, and the rent there under is $51,600 per month.

 Verso Canada leases approximately 18,400 square feet of office and laboratory space in Brossard, Quebec, Canada for research and development operations related to the NetPerformer products. Verso Canada entered into a Lease Amending and Extension Agreement on November 29, 2006 extending the lease term from December 1, 2006 through November 30, 2009 at a base rent of 17,665 Canadian dollars per month plus a proportionate share of operating expenses and taxes for the building.

We lease 23,000 square feet of space in Littleton, Colorado which is used primarily for research and development for our softswitch products and technical and administrative support for the softswitch and Verilink products. Pursuant to this lease, we are obligated to pay rent of $27,135 per month plus a share of operating expenses through January 2009.

We lease 1,623 square feet of space in Jacksonville, Florida for research and development in connection with the I-Master application.  The monthly rent under this lease is $2,055 plus operating expenses from April 2008 through March 2009.

We lease 4,557 square feet of space in Rockville, Maryland for research and development of products.  The monthly base rent under this lease is $8,924.13 during 2008, $9,191.82 during 2009, and $9,467.57 during 2010.
 
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We lease 4,342 square feet of space in Southborough, Massachusetts for research and development of our AccessGate products.  The monthly base rent under this lease is $7,598.50 from April 2008 through March 2009, $7,960.33 from April 2009 through March 2010, and $8,322.17 from April 2010 through March 2011.

We believe that our leased facilities are adequate to meet our current needs and that additional facilities are available to us to meet our expansion needs for the foreseeable future.

 Item 3.                 Legal Proceedings

From time to time, we are involved in litigation with customers, vendors, suppliers and others in the ordinary course of business, and a number of such claims may exist at any given time. All such existing proceedings are not expected to have a material adverse impact on our results of operations or financial condition. In addition, we or our subsidiaries are a party to the proceedings discussed below.

In December 2001, a complaint was filed in the Southern District of New York seeking an unspecified amount of damages on behalf of an alleged class of persons who purchased shares of MCK’s common stock between the date of MCK’s initial public offering and December 6, 2000. The complaint named as defendants MCK and certain of its former officers and other parties as underwriters of its initial public offering (the “MCK defendants”). The plaintiffs allege, among other things, that MCK’s prospectus, contained in the Registration Statement on Form S-1 filed with the SEC, was materially false and misleading because it failed to disclose that the investment banks which underwrote MCK’s initial public offering of securities and others received undisclosed and excessive brokerage commissions, and required investors to agree to buy shares of securities after the initial public offering was completed at predetermined prices as a precondition to obtaining initial public offering allocations. The plaintiffs further allege that these actions artificially inflated the price of MCK’s common stock after the initial public offering. This case is one of many with substantially similar allegations known as the “Laddering Cases” filed before the Southern District of New York against a variety of unrelated issuers (the “Issuers”), directors and officers (the “Laddering Directors and Officers”) and underwriters (the “Underwriters”), and have been consolidated for pre-trial purposes before one judge to assist with administration. A motion to dismiss addressing issues common to the companies and individuals who have been sued in these actions was filed in July 2002. After a hearing on the motion to dismiss, the court, on February 19, 2003, denied dismissal of the claims against MCK as well as other Issuers. Although MCK believes that the claims asserted are without merit, MCK and other Issuers have negotiated a tentative settlement with the plaintiffs. The terms of the tentative settlement agreement provide, among other things, that (i) the insurers of the Issuers will deliver a surety undertaking in the amount of $1 billion payable to the plaintiffs to settle the actions against all Issuers and the Laddering Directors and Officers; (ii) each Issuer will assign to a litigation trust, for the benefit of the plaintiffs, any claims it may have against its Underwriters in the initial public offering for excess compensation in the form of fees or commissions paid to such Underwriters by their customers for allocation of initial public offering shares; (iii) the plaintiffs will release all claims against the Issuers and the Laddering Directors and Officers asserted or which could have been asserted in the actions arising out of the factual allegations of the amended complaints; and (iv) appropriate releases and bar orders and, if necessary, judgment reductions, will be entered to preclude the Underwriters and any non-settling defendants from recovering any amounts from the settling Issuers or the Laddering Directors and Officers by way of contribution or indemnification. Prior to the Company’s acquisition of MCK, MCK’s board of directors voted to approve the tentative settlement.  On February 15, 2005, the judge presiding over the Laddering Cases granted preliminary approval of the proposed settlement, subject to some changes, which were subsequently submitted.  The judge issued an order on August 31, 2005, further approving modifications to the settlement and certifying the class.  Notice of the settlement has been distributed to the settlement class members.  The deadline for filing objections to the settlement was March 24, 2006, and a fairness hearing was held April 26, 2006.  On December 5, 2006, the U.S. Court of Appeals for the Second Circuit issued a ruling reversing class certification for purposes of the litigation.  The plaintiffs petitioned for rehearing and rehearing en banc, and the Second Circuit Court denied the request on April 9, 2007. Because the settlement as agreed was not viable without the class certification, the parties stipulated to its termination without prejudicing their ability to apply to the court regarding a future settlement.  The plaintiffs filed Second Amended Complaints in six issuer “focus” cases on August 14, 2007, and have moved for class certification in those cases. The six issuer focus defendants have moved to dismiss the Second Amended Complaints, which motion the court granted in part and denied in part on March 26, 2008.  All other cases, including the MCK case, have been stayed until further order of the court.  No provision was recorded for this matter in the financial statements of MCK prepared prior to our acquisition of MCK because MCK believed that its portion of the proposed settlement would be paid by its insurance carrier. We agree with MCK’s treatment of this matter.

Needham (Nevada) Corp., a direct subsidiary of MCK and, hence, an indirect subsidiary of the Company (“MCK Nevada”) was named a defendant in a lawsuit filed in Norfolk County, Massachusetts by Entrata Communications, Inc. (“Entrata”) in 2002 (the “Entrata Litigation”). The case arose out of a dispute between Entrata and one of its largest shareholders, Superwire.com, Inc. (“Superwire”). Pursuant to a contract with Entrata, MCK Nevada was obligated to pay Entrata $750,000 in early 2002. In order to take advantage of a $100,000 discount offered for early payment, MCK Nevada paid $650,000 in November 2001 in full satisfaction of its contractual obligations. The funds were placed in escrow with Superwire’s California law firm, Jeffers, Shaff & Falk, LLP (“JSF”) which agreed not to disburse the funds until the dispute between Entrata and Superwire had been resolved. Nevertheless, Entrata contends that it never received the funds from MCK Nevada and that the funds were diverted to Superwire and JSF.  In the Entrata Litigation, Entrata sought to recover from both MCK Nevada and Superwire the $750,000 that MCK Nevada would have owed in 2002. MCK Nevada asserted counterclaims against Entrata and cross-claims against Superwire for fraud and breach of contract. MCK Nevada added JSF and two of its partners, Barry D. Falk and Mark R. Ziebell, as third-party defendants.
 
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On August 18, 2003, Entrata entered Chapter 7 bankruptcy proceedings pursuant to the United States Bankruptcy Code. Entrata did not pursue the Entrata Litigation after entering bankruptcy and the court dismissed the lawsuit for failure to prosecute on September 7, 2005.  On October 18, 2006, Entrata filed a motion for relief from dismissal.  The court granted the motion which revived the case.

On May 25, 2007, Entrata filed a motion for partial summary judgment asking the court to award damages against MCK Nevada of $750,000 plus 12% prejudgment interest since February 1, 2002, and approximately $79,000 in attorneys’ fees.  The court allowed the motion on August 6, 2007. On March 20, 2008, the court granted Entrata’s motion for final judgment against MCK Nevada for the judgment amount.

On February 22, 2008, Michael Daly, the Chapter 7 bankruptcy trustee for Entrata (the “Trustee”), filed a complaint in Norfolk County, Massachusetts (the “Trustee Litigation”) against the Company and Citel Technologies, Inc. (“Citel”) claiming that Citel and the Company were liable to Entrata for monies owed by MCK Nevada in the Entrata Litigation because Citel and the Company allegedly assumed the liability of MCK and because of a fraudulent transfer of the assets of MCK Nevada by the Company to Citel. On January 21, 2005, Citel purchased a substantial portion of the assets of MCK Nevada, MCK and certain related subsidiaries from the Company and its related subsidiaries under an Asset Purchase Agreement (the “Citel APA”).  The Trustee also filed a motion for a temporary restraining order against the Company and Citel asking the court to enjoin each such entity from transferring or disposing of any of its property of any kind other than in the ordinary course of business.  At a hearing held on March 7, 2008, the court ruled against the Trustee on the motion for injunction as it related to Citel.  The court delayed deciding on the motion for injunction as it related to the Company so that the Company and Entrata could first engage in discussions to settle the dispute.

On March 12, 2008, the Company received notice of claim for indemnification from Citel alleging that the Company and the other sellers were obligated under the Citel APA to indemnify Citel against the claims asserted against it in the Trustee Litigation.

On March 25, 2008 (the “Agreement Date”), the Company, MCK Nevada, the Trustee and Citel entered into a Settlement and Release (the “Settlement Agreement”) covering both the Entrata Litigation and the Trustee Litigation.  Under the Settlement Agreement, the Company agreed to pay the Trustee $100,000 in cash by May 1, 2008 and to issue to the Trustee shares of Common Stock having an aggregate value of $250,000 based on the mean average closing price of the Common Stock for the ten consecutive trading days prior to the Agreement Date (the “Trustee Shares”).  In addition, MCK Nevada agreed to assign to the Trustee MCK Nevada’s claims in the Entrata Litigation against Superwire, JSF, Barry D. Falk, and Mark R. Zeibel (the “Assigned Claims”).  In the Settlement Agreement, the Trustee granted to the Company and MCK Nevada and MCK Nevada and the Company granted to the Trustee mutual general releases. In addition, Citel, the Company, MCK Nevada, and the Trustee each granted mutual limited releases to the other parties relating to the claims of the releasing parties arising from the Entrata Litigation and the Trustee Litigation. The Settlement Agreement specifies that certain conditions subsequent must be satisfied in order for the releases to remain effective. The conditions subsequent include (i) approval of the Settlement Agreement by the bankruptcy court in the Entrata bankruptcy; (ii) the Company paying Entrata the $100,000 cash settlement amount by May 1, 2008; (iii) the Company not entering bankruptcy, ceasing operations, or becoming subject to liquidation, receivership or a proceeding to restructure its debt during the period beginning on the Agreement Date until the later of 91 days after the payment of the $100,000 or the date that is 30 days after the Trustee Shares may be sold under a registration statement or under Rule 144 of the Securities Act; and (iv) the Trustee Shares being sellable under an effective registration statement or under Rule 144 of the Securities Act on or before Oct. 31, 2008.  If the condition requiring approval by the bankruptcy court fails, the Settlement Agreement becomes null and void and the releases are revoked.  If any of the other conditions fail, the Trustee can elect to revoke the releases.  If the Trustee makes this election, the Company becomes indebted to Entrata in the amount of $750,000 plus 12% interest on such amount from the Agreement Date less (i) the amount of the cash payment if the payment was made, (ii) a credit for the Trustee Shares not returned by the Trustee to the Company, and (iii) the amount recovered by Entrata from the Assigned Claims net of costs and expenses incurred by Entrata in the Entrata Litigation, the Trustee Litigation, and the pursuit of the Assigned Claims.  The Company, the Trustee, and Citel agreed in the Settlement Agreement to file a stipulation for dismissal without prejudice with regard to the Trustee Action.  Entrata and MCK Nevada agreed to file a motion in the Entrata Litigation to vacate the judgment against MCK Nevada and to dismiss without prejudice the claims between MCK Nevada and Entrata in the action.  If the conditions precedent noted above are not met, the parties have the ability to reinstate the dismissed claims at their option.

Item 4.                  Submission of Matters to a Vote of Security Holders

Our Annual Meeting of Shareholders was held on December 18, 2007 in Atlanta, Georgia (the “Meeting”).  At the Meeting, our shareholders voted on the following proposals:
 
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(1)
to elect a board of eight directors to serve until our next annual meeting of shareholders and until their successors are elected and qualified or until their earlier death, resignation, removal or disqualification;

(2)
to approve an amendment to our amended and restated articles of incorporation, as amended, to increase the number of authorized shares of the Common Stock from 120,000,000 shares to 200,000,000 shares;

(3)
to approve the Verso Technologies, Inc. 2007 Stock Incentive Plan;

(4)
to approve the potential issuance of more than 20% of the outstanding shares of Common Stock for the purposes of complying with the rules governing The Nasdaq Stock Market LLC;

(5)
to approve an amendment to the option exchange program previously approved by our shareholders at the Company’s 2006 Annual Meeting of Shareholders; and

(6)
to ratify the appointment of Tauber & Balser, P.C. as our independent registered public accountants for the year ending December 31, 2007.
 
Each of the foregoing proposals was approved by the shareholders at the Meeting.

The results of the vote on Proposal 1 were as follows:

Director Nominee
 
For
   
Withheld Authority
 
Mark H. Dunaway
    44,349,576       1,374,907  
E. Kenneth Greenwald
    44,534,809       1,189,674  
Gary H. Heck
    38,225,281       7,499,202  
James R. Kanely
    44,310,831       1,413,652  
Amy L. Newmark
    32,932,865       12,791,618  
Steven A. Odom
    44,106,899       1,617,584  
James A. Verbrugge
    44,529,912       1,194,571  
William J. West
    44,538,958       1,185,525  

There were no abstentions or broker non-votes with respect to the election of any of the director nominees listed above.

The results of the votes on Proposals 2 through 7 were as follows:

Proposal
 
Votes For
   
Votes
Against
   
Votes
Abstained
   
Broker
Non-Votes
 
Proposal 2
    32,168,174       12,715,856       841,310       0  
Proposal 3
    24,020,298       2,347,918       175,738       19,181,391  
Proposal 4
    17,411,008       8,862,031       270,915       19,181,391  
Proposal 5
    24,142,357       1,999,391       402,207       19,181,390  
Proposal 6
    44,884,463       691,900       148,978       0  

The foregoing proposals were set forth and described in our Notice of Annual Meeting of Shareholders and Proxy Statement dated November 9, 2007.

Item 4.5               Executive Officers

The following table sets forth the name of each executive officer of the Company, the office held by such officer and the age, as of March 31, 2008, of such officer.
 
Name
Age
 
Position
Mark H. Dunaway
62
 
Chief Executive Officer, President and Chief Operating Officer
Martin D. Kidder
44
 
Chief Financial Officer and Secretary
 
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Certain additional information concerning the individuals named above is set forth below:
 
Mark H. Dunaway has served as a Chief Executive Officer since April 14, 2008, as a director of the Company since June 1, 2005 and as President and Chief Operating Officer of the Company since July 1, 2007.  Mr. Dunaway also served as a member of the Audit Committee from June 1, 2005 until July 1, 2007 and as a member of the Governance and Nominating Committee and the Customer Relations Committee from February 14, 2007 until July 1, 2007.  From October 2004 to June 2007, he served as Chairman and Chief Executive Officer of Composite Materials Technology, LLC, a provider of engineering products.  From July 2001 to September 2004, he was a partner in Criterion Partners, LLC, a private investment company.  From July 1993 to June 2001, he served as Chairman and Chief Executive Officer for PNI Technologies, a wireless network company.  From March 1986 to June 1993, he served as owner of Dunaway Enterprises investing in start-up companies, as President of North American Operations for British Telecom and as a consultant to Cable and Wireless.  From September 1981 to February 1986, he served as Chairman and Chief Executive Officer for A Beeper/A Cellular Company, a national wireless company.  From July 1979 to August 1981, he served as President of Answer Page.
 
Martin D. Kidder has served as Chief Financial Officer of the Company since November 1, 2006. From June 2004 to October 2006, he served as Corporate Controller of CipherTrust, Inc., a global provider of messaging security products that merged in August 2006 with Secure Computing Corporation. From August 2003 to June 2004, Mr. Kidder served as Controller of GE Energy Company’s Network Reliability Products and Services and Rentals businesses. From October 2001 to August 2003, he served as Controller of Glenayre Technologies, Inc., a global provider of next generation messaging solutions and enhanced services for wireless and wireline carriers and MSO/cable operators. From May 1992 to April 2001, Mr. Kidder served as Vice President and Controller of World Access.

There are no family relationships among any of the executive officers or directors of the Company. No arrangement or understanding exists between any director and any other person pursuant to which any director was selected to serve as a director. To the best of the Company’s knowledge, (i) there are no material proceedings to which any director of the Company is a party, or has a material interest, adverse to the Company; and (ii) there have been no events under any bankruptcy act, no criminal proceedings and no judgments or injunctions that are material to the evaluation of the ability or integrity of any of the directors during the past five years.
 
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PART II

Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market Information

The Common Stock is currently traded on The Nasdaq Capital Market under the symbol “VRSO.” Prior to September 13, 2002, the Common Stock was traded on the Nasdaq National Market under the same symbol, and from February 17, 2000 to October 1, 2000, the Common Stock was traded on The Nasdaq National Market under the symbol “ELTX.” Prior to February 17, 2000, the Common Stock was traded on The Nasdaq Capital Market under the same symbol. The following table sets forth the quarterly high and low bid prices for the Common Stock for the periods indicated below, as reported by The Nasdaq Capital Market. The stock prices set forth below do not include adjustments for retail mark-ups, markdowns or commissions, and represent inter-dealer prices and do not necessarily represent actual transactions.

The Board amended the Company’s Articles of Incorporation effective October 11, 2005 to provide for the conversion of, every one share of Common Stock issued and outstanding into one-fifth of a share of Common Stock (the “Reverse Split”).   All per share information in this document has been adjusted to reflect the Reverse Split.

Year ended December 31, 2007:
 
High
   
Low
 
             
First Quarter
  $ 1.43     $ 0.86  
Second Quarter
    1.08       0.78  
Third Quarter
    0.99       0.60  
Fourth Quarter
    0.70       0.27  


Year ended December 31, 2006:
 
High
   
Low
 
             
First Quarter
  $ 1.89     $ 0.85  
Second Quarter
    1.69       0.89  
Third Quarter
    1.15       0.80  
Fourth Quarter
    1.52       0.85  

As of April  14, 2008, there were approximately 648 holders of record of the Common Stock.

We have never declared or paid cash dividends on the Common Stock. We currently intend to retain any earnings for use in our operations and do not anticipate paying cash dividends on the Common Stock in the foreseeable future. In addition, our credit facility with Laurus Master Fund, Ltd. (“Laurus”), our primary lender, and the terms of our outstanding 6.75% senior unsecured convertible debentures prohibit the payment of cash dividends on the Common Stock.
 
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Item 6.                  Selected Financial Data

The following selected financial data should be read in conjunction with our financial statements and related notes thereto, set forth in Item 15 hereof, and “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” set forth in Item 7 hereof. The statement of operations data and the balance sheet data have been derived from our audited consolidated financial statements. The historical results are not necessarily indicative of future results. All amounts are in thousands except per share data.

   
Years Ended December 31,
 
   
2007 (2)
   
2006 (3)
   
2005 (4)
   
2004 (5)
   
2003 (6)
 
                               
Statement of Operations Data (1):
                             
Revenue
  $ 50,635     $ 42,530     $ 32,873     $ 32,263     $ 38,139  
Loss from continuing operations
    (26,699 )     (17,776 )     (19,494 )     (18,770 )     (4,215 )
Loss from continuing operations per
                                       
common share -- basic and diluted
    (0.47 )     (0.51 )     (0.72 )     (0.70 )     (0.20 )
 
Balance Sheet Data:
                                       
Total assets (7)
    34,263       36,849       28,098       33,429       63,252  
Long-term liabilities, net of
                                       
current portion
  $ 3,527     $ 12,634     $ 10,222     $ 4,401     $ 9,102  

 (1)
Includes the continuing operations of assets acquired by the Company from Clarent Corporation since its acquisition on February 12, 2003, the continuing operations of substantially all the operating assets of WSECI beginning October 1, 2004, the continuing operations of substantially all of the operating assets of Verilink Corporation since its acquisition on June 16, 2006, the continuing operations of Sentito Corporation since its acquisition on April 17, 2007 and the continuing operations of the AccessGate division assets acquired from MNS Communications Corp. on December 21, 2007
   
(2)
The fiscal year 2007 loss from continuing operations includes $2.0 million of intangibles amortization, a $2.3 million impairment charge for acquired technology, a $2.9 million write-down of goodwill and $4.1 million in non-cash interest related to the amortization of the discount on notes payable and convertible subordinated debentures and loan fees.
   
(3)
The fiscal year 2006 loss from continuing operations includes $1.1 million of intangibles amortization and $3.9 million in non-cash interest related to the amortization of the discount on notes payable and convertible subordinated debentures and loan fees.
   
(4)
The fiscal year 2005 loss from continuing operations includes $809,000 of intangibles amortization, $7,000 in amortization of deferred compensation, $2.9 million in non-cash interest related to the amortization of the discount on notes payable and convertible subordinated debentures and loan fees and $2.6 million of reorganization costs – loss on sublease.
   
(5)
The fiscal year 2004 loss from continuing operations includes $514,000 of intangibles amortization, $435,000 in amortization of deferred compensation and $517,000 in non-cash interest related to the amortization of the discount on notes payable and convertible subordinated debentures and loan fees.
   
(6)
The fiscal year 2003 loss from continuing operations includes $407,000 of intangibles amortization, $780,000 in amortization of deferred compensation and $561,000 in non-cash interest related to the amortization of the discount on notes payable and convertible subordinated debentures and loan fees.
   
 (7)
Includes $2.1 million and $3.4 million of notes receivable as of December 31, 2006 and 2005, respectively, related to the sale of assets of discontinued operations.  Includes $9.0 million and $33.4 million of assets of discontinued operations, as of December 31, 2004 and 2003, respectively.  The assets of discontinued operations as of December 31, 2004 were reduced by the loss on disposal of discontinued operations totaling $14.8 million.
 
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Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

We are a global technology company providing next generation communications network solutions offering a core-to-edge product portfolio to service providers and enterprises. Our product offerings include WiMAX, cellular backhaul, VoBB, VoIP, IAD, and internet usage solutions which are enabled by our hardware and software. These products enable customers to reduce communication costs, generate additional revenue, secure and optimize network bandwidth. We manufacture, deliver, and support these hardware, software, and service solutions primarily to wireline, cellular, wireless and satellite carriers and other customers. Our solutions are used by companies in several industries, government and government related businesses, including mission critical satellite and wireless communications of all kinds. Our technologies optimize bandwidth for customers using proprietary and other technology utilizing the latest industry protocols such as internet protocol multimedia subsystem (“IMS”), VoIP, VoBB as well as other advanced protocols.  We own open and scalable solutions that are compatible with industry standards.

Our operations include two separate business segments: (i) the Technologies Group, which includes our softswitching, I-Master, NetPerformer, Telemate.Net, Verso Verilink, Sentito and AccessGate divisions; and (ii) the Verso Outsourcing Group, which includes our technical applications support group and customer care center. The Technologies Group includes domestic and international sales of hardware and software, integration, applications and technical training and support.  The Technologies Group offers software-based solutions (which include hardware) for customers seeking to build converged packet-based voice and data networks.  In addition, the Technologies Group offers software-based solutions for internet access and usage management that include call accounting and usage reporting for internet protocol network devices.  In 2006, the Technologies Group added the product suites from the Verilink Acquisition and the iMarc Acquisition (each defined below). These products provide access, multiplexing and transport of voice and data services and enhanced the Company’s technology offerings, and delivered two Tier 1 North American customers. The Verso Outsourcing Group includes outsourced technical application services and application installation and training services to both customers of the Technologies Group and outside customers.

Since 2001, the Company has been selling products to the carrier market and focusing its strategic direction on developing and marketing next generation communications products.  Our current business was built on acquisitions made by us by leveraging the economic downturn in the telecommunications area.  In the first quarter of 2003, we acquired substantially all of the operating assets of Clarent Corporation, which provided us with VoIP technologies primarily serving international markets and significantly increased our market share in the worldwide softswitch market.

Our strategy through 2003 was to add next generation communications products to our suite of products through strategic acquisitions and to leverage these operations through cost reductions to enhance cash flow.  With the acquisition of substantially all of the operating assets of Clarent Corporation, we moved our growth strategy toward international markets.  International revenue increased from 0% of our consolidated revenues in 2002 to 53% of our consolidated revenues for 2005.  As the acquisition of substantially all of the operating assets of Clarent Corporation was funded primarily by short-term seller financing, generating cash flow from operations during 2003 was required to meet the debt repayment obligations.  As such, we leveraged our combined operations, reducing sales, general and administrative costs (as compared to costs prior to the acquisition), while preserving the research and development expenditures which are vital to our long-term growth and viability.

In 2004, we began moving toward an open standards platform.  In 2004 and 2005, we significantly increased our expenditures for research and development and sales and marketing to focus on long-term sustainable revenue growth.  In the first quarter of 2004, we completed a private placement raising approximately $16.5 million, net of expenses, to fund the increased research and development efforts and expanded sales and marketing programs.  In the first quarter of 2005, we completed a private placement of senior unsecured convertible debentures raising an additional $12.8 million.  As expected, these additional expenditures significantly increased the operating loss from continuing operations in 2005 and 2004 as compared to 2003.

In January 2005, we sold substantially all of the operating assets of our NACT and MCK businesses to better focus our capital and management resources on areas which we believe have greater potential given our strategy to focus on next generation network and solutions.  In addition, we disposed of our NACT business because we wanted to move toward an open-standards, pre-paid next generation solution that could better address growing market opportunities and enable us to offer a competitive product for Tier 1 and Tier 2 carriers.  We believe that the I-Master platform, which we acquired in March 2005 after forming a strategic partnership with WSECI in the latter half of 2004, permits us to offer a more robust next generation solution.  Further, we disposed of our MCK business because we intend to focus on next generation solutions for service providers and the products of the MCK business did not fit that profile.  The operations of the NACT and MCK businesses have been reclassified as discontinued operations in our consolidated financial statements.
 
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On June 16, 2006, we acquired all of the outstanding equity interests (the “Verilink Acquisition”) of Winslow Asset Holdings, LLC (“Holdings”), now known as Verso Verilink, LLC from Winslow Asset Group, LLC (“Group”) pursuant to that certain Securities Purchase Agreement dated as of June 15, 2006 among Verso, Holdings and Group. At the time of the Acquisition, Holdings’ assets  consisted of substantially all of the business assets of Verilink Corporation and Larscom Incorporated (together, the “Verilink Sellers”), other than the accounts receivable and certain fixed assets of the Verilink Sellers which were transferred to Group prior to the Acquisition. Holdings’ assets were used by the Verilink Sellers in their business of developing, manufacturing, marketing and selling broadband access solutions for computer networks.
 
On December 29, 2006, we,purchased certain assets of Paradyne Networks, Inc. related to the business of manufacturing, selling and supporting the iMarc product line (the “iMarc Acquisition”).  The iMarc product line is a family of ATM devices, IP service units, and branch monitors that provides intelligent demarcation between carrier and enterprise networks, allowing for easier management. The iMarc product line is complementary to the Verilink product line and is being integrated into the Verilink business.
 
On April 17, 2007, we acquired Sentito Networks, Inc. (“Sentito”), a provider of media and signaling gateway equipment to the telecommunications market, by means of the merger of SN Acquisition Corporation, a wholly-owned subsidiary, into Sentito pursuant to an Agreement and Plan of Merger, dated as of April 4, 2007 (the “Sentito Acquisition”). The acquisition of this technology lowered our product cost for our softswitch solution. As the Sentito gateway is fully integrated into our softswitch, it will provide us with a proprietary integrated gateway within our softswitch solution.
 
On December 21, 2007, we purchased the AccessGate® cellular backhaul optimization product line (“AccessGate”) from NMS Communications Corp. (the “AccessGate Acquisition”), which we believe has consolidated that market segment and made Verso a leading provider of mobile backhaul solutions worldwide. We transferred the assets and liabilities acquired in the AccessGate Acquisition to our Mobile Backhaul subsidiary and in January of 2008, we combined management of the AccessGate and Net Performer backhaul optimization operations into the consolidated Mobile Backhaul product business unit.
 
On October 11, 2005, we affected the Reverse Split of the outstanding Common Stock, pursuant to which every five (5) shares of common stock outstanding on such date were converted into one (1) share of common stock.  The Reverse Split enabled us to regain compliance with the minimum bid price requirement for continued inclusion on the Nasdaq Capital Market.

The consolidated financial statements include the accounts of the Company and our wholly-owned subsidiaries. We do not engage in off-balance sheet activities and therefore none are disclosed in the financial statements.  We believe that the foregoing events significantly affect the comparability of our results of operations from year to year.  You should read the following discussion of our results of operations and financial condition in conjunction with our consolidated financial statements and related notes thereto included in Item 15 of this Annual Report.
 
Explanatory Paragraph in Report of Our Independent Registered Public Accounting Firm
 
Our independent auditors have included an explanatory paragraph in their most recent report dated April 15, 2008, stating that our audited financial statements for the year ending December 31, 2007 were prepared assuming that we will continue as a going concern. However, they note that we have recurring losses from operations, past history of operating cash flow deficiencies, significant debt obligations which are due and payable during 2008 and limited capital resources which raise substantial doubt about our ability to continue as a going concern.
 
Although we agree that the explanatory paragraph is applicable when the objective test is applied, we believe that if we can successfully implement our business plan in the next fiscal year and reach cash flow positive and raise sufficient equity/debt financing, future audit reports might be issued without this explanatory paragraph. Until such time, however, our going concern paragraph may be viewed by some shareholders and investors as an indication of financial instability, and it may impair our ability to raise capital. For additional disclosure, see Liquidity and Capital Resources.
 
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Results of Operations

Fiscal Year 2007 Compared with Fiscal Year 2006

For the year ended December 31, 2007, our net loss totaled $27.0 million, or $0.47 per share, compared with a net loss of $17.8 million, or $0.51 per share, for the same period in 2006. The 2007 results included $751,000 in reorganization costs, a $350,000 accrual for a legal settlement, an impairment charge of acquired technologies of $2.3 million and a write-down of goodwill of $2.9 million.  The 2006 results included $674,000 in reorganization costs.

Continuing Operations

For the year ended December 31, 2007, our net loss from continuing operations totaled $26.7 million, or $0.47 per share, compared with a net loss of $17.8 million, or $0.51 per share, for 2006. The 2007 results included $751,000 in reorganization costs, an impairment charge of acquired technologies of $2.3 million and a write-down of goodwill of $2.9 million and the 2006 results included $674,000 in reorganization costs.
 
Total revenue was $50.6 million for the year ended December 31, 2007, reflecting a 19% increase from 2006. Product revenue increased $8.0 million, or 29%, from $27.9 million in 2006 to $35.9 million in 2007.  The increase in product revenue for the Technologies Group was attributable to a full year’s worth of product revenue from the Verilink and iMarc product lines in 2007 and an increase in revenue associated with the I-Master product.  These increases were partially offset by declines in the sales of our other products.

Services revenue was $14.7 million for the each of the years ended December 31, 2007 and 2006.  An increase in services revenue for the Technologies Group of $112,000 was due to a full year of professional services from the Verilink professional services group.  The increase was offset by declines in revenue for other Technologies Group services.  Services revenue for Verso Outsourcing declined $65,000 or 1%, for the year ended December 31, 2007.

Gross profit decreased by $978,000 for the year ended December 31, 2007, and was 32% of revenue in 2007, compared with 40% of revenue for 2006. The decline in gross margin percentage was primarily attributable to a write-down of intangible assets from the Sentito acquisition of $2.3 million and decreased margins in certain Technologies Group product lines.  Excluding the write-down of intangible assets, gross margin percentage would have been 36% of revenue in 2007. The lower margin in the Technologies Group is primarily a result of the lower margins from the hardware-based Verilink product suite.  The decline in the margin for the Technologies Group was offset by an increase in margins for Verso Outsourcing which increased from 16% in 2006 to 22% in 2007.  The increase in Verso Outsourcing Group’s gross margin is due to a change in revenue mix.

Total operating expenses incurred in continuing operations for the year ended December 31, 2007 were $36.3 million, an increase of $7.0 million, or 24%, compared to the same period in 2006.  As a percentage of revenue, operating expenses from continuing operations were 72% during the year ended December 31, 2007, up from 69% for the same period in 2006.  The increase is primarily attributable to the following items: increases due to the write-down of goodwill of $2.9 million, $2.3 million in general and administrative expenses, $824,000 in depreciation and amortization expense and $695,000 in sales and marketing expenses.

The increase in general and administrative expenses for the year ended December 31, 2007 is due mainly to increases in salaries, wages and employee benefits expense of $713,000, bad debt expense of $631,000, stock based compensation of $498,000, and rent expense of $292,000.  Most of these increases are due to a full-year of expenses in 2007 from the Verilink acquisition.

The increase in depreciation and amortization expense is comprised of an increase in amortization of $1.1 million offset by a decrease in depreciation expense of $218,000.  The increase in amortization is related to the amortization of Verilink and Sentito intangibles. The decrease in depreciation expense is related to lower capital expenditures during 2007 as well as fully-depreciated assets.
 
The increase in sales and marketing expense in 2007 is due to increases in salaries, wages and other employee related costs of $1.0 million and travel expenses of $254,000.  These increases were primarily due to the increase in headcount from the Verilink and Sentito acquisitions.  The increases were offset by decreases in general offices expenses of $312,000, contract labor of $175,000 and professional fees of $75,000.

In the third quarter of 2007, the Company initiated certain restructuring plans to improve operational efficiencies and financial performance and eliminated nine positions held by employees. As a result of these actions we recorded reorganization costs of $362,000 during the quarter ended September 30, 2007, which included severance and compensation costs of $275,000 and $87,000 related to the closing of an office location in Acton, Massachusetts.  In the second quarter of 2007, the Company terminated a senior executive. As a result of this action, we recorded reorganization costs of $389,000 representing our severance obligation. In the fourth quarter of 2006, the Company terminated a senior executive.  As a result of this action, the Company recorded reorganization costs of $674,000 during the year ended December 31, 2006.
 
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In the second quarter of 2005, the Company entered into a sublease agreement with an unrelated party to sublease excess office space at the Company’s facility in Atlanta, Georgia.  The excess space arose primarily due to reductions in corporate staffing over the prior year.  As a result of the sublease, the Company recorded an accrual of $1.7 million, equaling the difference between the remaining payments due on this lease ($3.3 million) and the amounts to be paid by the sublessor ($1.6 million).  The Company recorded reorganization costs of $2.6 million during the year ended December 31, 2005, which included the $1.7 million difference between the lease and the sublease for the entire remaining term, as well as write-offs for furniture and leasehold improvements. The Company expects to save approximately $1.6 million over the remaining term of the original lease, which expires January 31, 2010.

Other expense was $305,000 during the year ended December 31, 2007, compared with $22,000 for the same period in 2006.  The increase in expense is primarily due to loss on extinguishment of debt of $283,000.

Equity in loss of investment was $139,000 during the year ended December 31, 2007, compared to equity in loss of investment of $1,000 in 2006.  These amounts represent the Company’s portion of BeTrue’s income for each of these years.  Due to the shared decision-making between the Company and its equity partner, the results of BeTrue are treated as an equity investment rather than being consolidated.

Net interest expense was $6.1 million during the year ended December 31, 2007, an increase of $522,000 compared to the same period in 2006.  Included in net interest expenses was amortization of loan fees and discount on convertible debentures which were $4.1 million for the year ended December 31, 2007 as compared to $3.9 million for the year ended December 31, 2006.  The increase in the interest expenses was primarily attributable to interest and amortization of the loan costs and fees associated with the new credit facility with Laurus (see Note 6 – Financing Arrangements in the Notes to the Consolidated Financial Statements).
 
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Business Unit Performance

   
Technologies
   
Verso
             
(Dollars in thousands)
 
Group
   
Outsourcing Group
   
Consolidated
 
                                     
For the Year Ended
                                   
           December 31,
 
2007
   
2006
   
2007
   
2006
   
2007
   
2006
 
Revenue
  $ 43,352     $ 35,182     $ 7,283     $ 7,348     $ 50,635     $ 42,530  
                                                 
Gross profit
    14,614       16,023       1,575       1,144       16,189       17,167  
Gross margin
    34 %     46 %     22 %     16 %     32 %     40 %
General and administrative
    4,395       3,107       111       452       4,506       3,559  
Sales and marketing
    8,482       7,905       403       329       8,885       8,234  
Research and development
    7,814       7,507       -       -       7,814       7,507  
                                                 
(Loss) contribution
                                               
before unallocated items
  $ (6,077 )   $ (2,496 )   $ 1,061     $ 363       (5,016 )     (2,133 )
                                                 
Unallocated items:
                                               
Corporate general and administrative
                                    8,511       7,094  
Corporate research and development
                                    132       298  
Depreciation and amortization
                                    2,754       1,930  
Write down of goodwill
                                    2,945       -  
Reorganization costs
                                    751       674  
Operating loss
                                    (20,109 )     (12,129 )
Other
                                    (6,590 )     (5,647 )
Loss from continuing operations before income taxes
                                  $ (26,699 )   $ (17,776 )

Technologies Group

Total revenue from the Company’s Technologies Group was $43.3 million in the year ended December 31, 2007, a 23% increase from the same period in 2006.   The increase in product revenue in the Technologies Group was primarily attributable to a full year of operational results in 2007 from the Verilink acquisition which occurred on June 16, 2006, and an increase in revenue associated with the I-Master products partially offset by declines in the sales of the Company’s other products.

Gross profit decreased by $1.4 million in the year ended December 31, 2007, and was 34% of revenue, a decrease from 46% of revenue in the same period in 2006.  The decrease in gross profit dollars is primarily attributable to the $2.3 million impairment of technology from the Sentito acquisition and also to lower margins from the largely hardware-based Verilink product.

Allocated operating expenses incurred by the Technologies Group for the year ended December 31, 2007 were $20.7 million, an increase of $2.2 million, or 12%, compared to the same period in 2006. As a percent of revenue, operating expenses for the Technologies Group were 48% during the year ended December 31, 2007, down from 53% during the same period in 2006.  The decrease in the percentage is primarily attributable to the higher revenue.

 The increase in general and administrative expenses is due primarily to the inclusion of Verilink operations for a full fiscal year in 2007.  The increase in research and development costs is primarily attributable to the inclusion of Verilink engineering in 2007, the addition of the Sentito engineering team as well as ongoing development costs for the NetPerformer product.

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Verso Outsourcing Group

Total revenue for the Company’s Verso Outsourcing Group was $7.3 million for each of the years ended December 31, 2007 and 2006.
 
Gross profit increased by $431,000, or 37%, in the year ended December 31, 2007, and was 22% of revenue, compared with 16% of revenue in the same period in 2006.  The increase in gross profit dollars and gross margin percentage are due to changes in customer/service mix.
 
Allocated operating expenses incurred in the Verso Outsourcing Group for the year ended December 31, 2007 were $514,000, a decrease of $267,000, or 34%, compared to the same period in 2006.  The decrease in general and administrative expenses primarily relates to a decrease in personnel and related costs .

Discontinued Operations

In 2007, we recognized an operating loss in discontinued operations of $350,000 relating to settlement of the Entrata Litigation  (see Item 3 – Legal Proceedings).

Summary operating results of the discontinued operations (in thousands) are as follows:
 
   
For the year ended December 31,
 
   
2007
   
2006
 
             
Revenue
  $ -     $ -  
Gross (loss) profit
    -       -  
Operating loss
    (350 )     -  
Loss from discontinued operations
  $ (350 )   $ -  

Critical Accounting Policies

The preparation of financial statements and related disclosures in conformity with U.S. generally accepted accounting principles requires management to make judgments, assumptions and estimates that affect the amounts reported in the consolidated financial statements and accompanying notes.  Factors that could affect the Company’s future operating results and cause actual results to vary from expectations include, but are not limited to, lower than anticipated growth from existing customers, an inability to attract new customers, an inability to successfully integrate acquisitions and technology changes, or a decline in the financial stability of the Company’s customers.  Negative developments in these or other risk factors could have a material adverse affect on the Company’s financial position and results of operations.

A summary of the Company’s critical accounting policies follows:

Revenue Recognition
 
The Company recognizes revenue when persuasive evidence of an agreement exists, delivery has occurred, the fee is fixed and determinable, and collection of the resulting receivable is reasonably assured.  The determination of whether the collectibility is reasonably assured is based upon an assessment of the creditworthiness of the customers. In instances where the collection of a receivable is not reasonably assured, the revenue and related costs are deferred.
 
Deferred revenue generally represents amounts collected for which revenue has not yet been recognized. It is principally comprised of deferred maintenance revenue.
 
The Company recognizes revenue in accordance with Staff Accounting Bulletin (“SAB”) No. 101, “Revenue Recognition in Financial Statements” as updated by SAB No. 104 and in accordance with Emerging Issues Task Force (“EITF”) 00-21, “Revenue Arrangements with Multiple Deliverables”, Statement of Position (“SOP”) No. 97-2, “Software Revenue Recognition” (“SOP No. 97-2”) and SOP No. 98-9, “Software Revenue Recognition with Respect to Certain Transactions” (“SOP No. 98-9”).
 
SOP No. 97-2 generally requires revenue earned on software arrangements involving multiple elements to be allocated to each element based on the relative fair values of the elements. The fair value of an element must be based on the evidence that is specific to the vendor. License revenue allocated to software products generally is recognized upon delivery of the products or deferred and recognized in future periods to the extent that an arrangement includes one or more elements to be delivered at a future date and for which fair values have not been established. Revenue allocated to maintenance is recognized ratably over the maintenance term which is typically twelve months and revenue allocated to training and other service elements, such as implementation and training, are recognized as the services are performed.
 
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Under SOP No. 98-9 if evidence of fair value of all undelivered elements exists but evidence does not exist for one or more delivered elements, then revenue is recognized using the residual method. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the arrangement fee is allocated to the delivered element and recognized as revenue.

As a consequence of the acquisition of the business assets of the Verilink Sellers on June 16, 2006, the Company now has certain distributors who have the right to return product for stock rotation purposes. Every quarter, stock rotation rights are limited to a percentage of invoiced sales to the distributor in the prior quarter. The percentage of sales used to determine the stock rotation right is based upon the terms of the executed distributor agreements with the Company. The Company reduces revenue and maintains a reserve for an estimate of potential stock rotation returns related to the current period product revenue. Management analyzes historical returns, channel inventory levels, current economic trends and changes in customer demand for the Company’s products when evaluating the adequacy of the reserve for stock rotation returns.

  The Company routinely analyzes and establishes, as necessary, reserves at the time of shipment for product returns and allowances and warranty costs.

Allowance for Doubtful Accounts

The Company is required to estimate the collectibility of its trade receivables.  Considerable judgment is required in assessing the ultimate realization of these receivables, including the creditworthiness of each customer. The evaluation is based on credit information and collection history concerning the customer up and through the determination date.  The Company determines the allowance for doubtful accounts based on a specific review of outstanding customer balances and a general reserve based upon aging of customer accounts and write-off history.

Inventory Obsolescence
 
The Company is required to state its inventories at the lower of cost or market. In assessing the ultimate realization of inventories, the Company makes judgments as to future demand requirements and compares that with the current and committed inventory levels. The Company has recorded changes in net realizable values in recent periods due to the impact of current and future technology trends and changes in strategic direction, such as discontinuances of product lines, as well as, changes in market conditions due to changes in demand requirements. Estimates of the future demand for inventory are based on historical usage for different products, as well as estimates of inventory required to fulfill maintenance requirements for products previously sold. It is possible that changes in the net realizable value of inventory may continue to occur in the future due to the current market conditions.

Liabilities of Discontinued Operations

In January 2005, the Company disposed of substantially all of the operating assets of its NACT and MCK businesses.  As a result of these sales, certain liabilities of MCK are now classified as discontinued operations.  Offsetting these liabilities is a receivable of $359,000 related to a sublease for which all the lease payments have been made by the company.

During 2001, the Company initiated certain restructuring plans and discontinued operations of its VAR business.  In conjunction with these restructuring plans, the Company established a restructuring reserve account for the estimated costs related to the plans.  These costs primarily related to facilities closings, severance costs and other business exiting costs.  For the facilities closings cost, a reserve was established for all remaining lease payments due on buildings and equipment that were no longer being utilized in continuing operations, less assumptions for subleases.  The accrual for one of the leases with total payments remaining through January 31, 2010 of $1.2 million is offset by sublease receipts totaling $722,000 through the end of the lease term and assumes an amount of $240,000 for the extension of one of the subleases through the end of the lease term.

As of December 31, 2007, the Company had a remaining balance of approximately $1.7 million in liabilities of discontinued operations. The Company currently believes that this remaining balance is sufficient to cover estimated future obligations associated with the restructurings; however, changes in these estimates could occur based on changes in the financial condition of the subleases.

Deferred Tax Asset Valuation Allowance

The Company currently has significant deferred tax assets, which are subject to periodic recoverability assessment.  Realization of the Company’s deferred tax assets is principally dependant upon achievement of projected future taxable income.  The Company’s judgments regarding future profitability may change due to market conditions, its ability to continue to successfully execute its strategic plan and other factors.  These changes, if any, may require possible material adjustments to these deferred tax asset balances.  Due to the uncertainty of the Company’s ability to recognize the entire tax benefit of the deferred tax assets, the Company has established an offsetting provision.
 
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Litigation and Related Contingencies

The Company is subject to proceedings, lawsuits and other claims related to labor, product and other matters.  The Company is required to assess the likelihood of any adverse judgments or outcomes to these matters, as well as, potential ranges of probable losses.  A determination of the amount of reserves required, if any, for these contingencies is made by the Company with assistance of its legal counsel after careful analysis of each individual issue based upon the then-current facts and circumstances and discussions with legal counsel.  The required reserves may change in the future due to new developments in each matter or changes in approach such as a change in settlement strategy in dealing with these matters.

Goodwill, Intangible Assets and Long-Lived Assets

Goodwill represents the excess of costs over fair value of assets of businesses acquired.  Goodwill and intangible assets acquired in a purchase business combination and determined to have an indefinite useful life are not amortized, but instead are tested for impairment at least annually in accordance with provisions of SFAS No. 142.  Significant estimates are made with respect to the impairment testing.  SFAS No. 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 144.

In accordance with SFAS No. 144, long-lived assets, such as property, plant and equipment and purchased assets subject to amortization are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset may not be recoverable.  Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to estimated undiscounted future cash flows expected to be generated by the asset.  If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized by the amount by which the carrying amount of the asset exceeds the fair value of the asset.  Significant estimates are made with respect to recoverability and fair value assessments.

Liquidity and Capital Resources

Summary
 
Liquidity is the measurement of the Company’s ability to have adequate cash or access to cash at all times in order to meet financial obligations when due, as well as to fund corporate expansion and other activities.  Historically, the Company has met its liquidity requirements through a combination of cash provided by debt from third party lenders, issuances of debt and equity securities, purchases of other businesses and the sale of discontinued businesses.

At December 31, 2007, the Company had a negative working capital position (excess of current liabilities over current assets) of $12,200,000 compared to negative working capital position of $38,000 at December 31, 2006. The Company’s cash and restricted cash totaled $3,002,000 at December 31, 2007, and $2,175,000 at December 31, 2006. Total long-term debt, net of discount and current-portion, was $2,858,000 at December 31, 2007 and $11,500,000 at December 31, 2006.
 
On September 20, 2006, the Company entered into a Security Agreement (the “Security Agreement”) with Laurus which provides for a three-year, $14.0 million revolving credit facility (the “Credit Facility”). The Credit Facility with Laurus replaced the Company’s prior $10.0 million credit facility (the “Silicon Credit Agreement”) with Silicon Valley Bank (“Silicon”).  When the Company entered into the Security Agreement, the Silicon Credit Agreement was terminated.

Our Credit Facility with Laurus consists of two tranches: (i) an $8.0 million tranche, the availability of which is subject to a borrowing base (“Tranche A”) and (ii) a $6.0 million tranche (“Tranche B”), which is not subject to a borrowing base.  Borrowings under the credit facility shall be made first under Tranche B to the extent of availability there under and then under Tranche A to the extent of availability there under. Borrowing ability under Tranche A is determined pursuant to a formula which is based on the value of our eligible accounts receivables and inventory. Borrowings under Tranche A accrue interest at a rate of prime rate plus 2%, provided that the interest rate shall not be less than 9%. The interest rates were 9.25% and 10.25% at December 31, 2007 and 2006, respectively.  As of December 31, 2007, maximum borrowings under Tranche B were limited to $3.9 million due to scheduled availability reductions of $187,500 per month beginning in February 2007.  Borrowings under Tranche B accrue interest at a fixed rate of 15%.
 
As of December 31, 2007 and 2006, the Company had outstanding borrowings under Tranche A of $6,189,000 and $2,883,000, respectively, and under Tranche B of $3,937,000 and $5,000,000, respectively. The remaining borrowing availability under the credit facility at December 31, 2007 was $561,000 under Tranche A and there were no amounts available under Tranche B.

On February 12, 2003, the Company acquired substantially all the business assets and assumed certain related liabilities of Clarent Corporation for $9,800,000 in notes. At December 31, 2007, a $3,000,000 secured note due February 12, 2008 remains outstanding which bears interest at 5% per annum. The assets the Company purchased from Clarent Corporation secure the note.
 
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On February 15, 2008, the note was amended.  The amendment extends the initial date on which the principal amount of the loan, and all accrued and unpaid interest thereon, was due from February 12, 2008 to March 3, 2008.  However, the Amendment provides that if $728,558 of the outstanding principal amount of such loan, which represents all of the unpaid capitalized interest as of February 15, 2008, is paid on or before March 3, 2008, then the outstanding principal amount of the loan and all accrued and unpaid interest thereon shall be due and payable within three business days of August 12, 2008 rather than on March 3, 2008. The Company made the payment of the $728,558 prior to March 3, 2008, thus extending the due date to within 3 business days of August 12, 2008.
 
The Amendment requires that the Company pay interest on a monthly basis on the outstanding principal amount of the loan at a rate of 8% per annum or the maximum rate permissible by law, whichever is less, until such time as the loan is paid in full.  In connection with the Amendment, the Company was required to pay Clarent an amendment fee of $50,000.
 
On February 4, 2005, the Company completed a private placement of senior unsecured convertible debentures and warrants pursuant to a securities purchase agreement with certain institutional investors. The Company issued $13,500,000 of senior unsecured convertible debentures, Series A warrants exercisable for 2,200,000 shares of the Company’s common stock and Series B warrants exercisable for 2,000,000 shares of the Company’s common stock. The senior unsecured convertible debentures bear interest at 6.75% per annum and are due February 2009 and are convertible into approximately 5,400,000 shares of the Company’s common stock at an initial conversion price of $2.50 per share, subject to anti-dilution adjustments and certain limitations. Interest is payable on a quarterly basis and principal became payable on a quarterly basis beginning August 2006. The Series A warrants issued in connection with the private placement are exercisable for a period of five years commencing on February 4, 2005 and at an exercise price of $3.60 per share. The Series B warrants issued in connection with the private placement were exercisable for a period of 90 days, commencing on June 16, 2005 and had an exercise price of $3.90 per share. The Series B warrants expired in September 2005. The Company received net proceeds of approximately $12,500,000, including $1,600,000 in restricted cash, net of expenses.
 
On February 17, 2006, the Company issued, in a private placement, 5,400,000 shares of its common stock and warrants to purchase 5,400,000 shares of its common stock for an aggregate purchase price of approximately $7,100,000, or $1.30 per share. The warrants issued in connection with the private placement are exercisable, after six months, for a period of five years and at an exercise price of $1.56 per share. The Company received proceeds from the private placement of approximately $6,800,000, net of expenses.

On January 30, February 2, February 5, and February 9, 2007, we issued 2,000,000, 2,000,000, 250,000, and 750,000 shares of our common stock, respectively, and warrants to purchase 1,080,000, 1,080,000, 135,000, and 405,000 shares of our common stock, respectively, in a private placement transaction for an aggregate purchase price of approximately $5,000,000, or $1.00 per share. The warrants issued in connection with the private placement are exercisable for a period of five years at an exercise price of $1.25 per share. We received proceeds from the private placement of these securities of approximately $4,297,000, net of expenses.

On September 5, September 6, and September 10, 2007, we issued 4,417,640, 2,608,692 and 71,428 shares of our common stock, respectively, and warrants to purchase 3,313,230, 2,104,954, and 53,571 shares of our common stock, respectively, in a private placement transaction for an aggregate purchase price of approximately $4,850,000, or $0.68 per share. The warrants issued in connection with the private placement are exercisable beginning March 6, 2008 for a period of five years at an exercise price of $0.90 per share. We received proceeds from the private placement of approximately $4,547,000, net of expenses.

On February 19, and February 21, 2008, we issued 1,381,200 and 2,114,000 shares of our common stock, respectively, and warrants to purchase 1,381,200 and 2,114,000 shares of our common stock, respectively, in a private placement transaction for an aggregate purchase price of approximately $802,000, or an average price of $0.23 per share. The warrants issued in connection with the private placement are exercisable for a period of five years at an average exercise price of $0.28 per share. We received proceeds from the private placement of approximately $750,000, net of expenses.

On June 30, 2006 in connection with the completion of the admission of Citel U.K.’s entire issued share capital to AIM, the Company and Citel amended the original $3.0 million note receivable such that the principal balance of the note became due and payable as follows: $870,000 to be paid within one business day of such admission; followed by 6 monthly installments of $75,000 commencing 12 months from the date of Admission; and all remaining outstanding principal and accrued interest under this note will be due from Citel on January 21, 2008. In July 2006, the Company received the $870,000 as contemplated by the amendment to the note.
 
On May 25, 2007, we entered into an agreement with CITEL and Citel PLC pursuant to which CITEL prepaid the Note, by making an immediate cash payment to us of approximately $1.9 million. In addition, Citel PLC was required to issue to us 62,424 shares of Citel PLC’s capital stock (the “Citel Shares”), which Citel Shares had a market value of approximately $70,000 as of May 24, 2007 and, based upon representations made by CITEL to us, are fully tradable on the AIM market of the London Stock Exchange. We agreed not to sell or transfer the Citel Shares prior to January 21, 2008, the original maturity date of the Note. Upon receipt of the prepayment and the Citel Shares, we canceled the Note and released our security interest in the collateral securing the Note. Prior to entering into this agreement, approximately $2.2 million of principal and interest was outstanding under the Note. We recognized a loss of approximately $231,000 associated with the write-off of interest arising from the prepayment transaction. As of December 31, 2007, the Citel Shares had an approximate market value of $13,300.  We recognized an additional loss of $56,700 due to this decline in value.
 
37


 
On July 18, 2006, the Company entered into an agreement (the “CM Agreement”) with CM Solutions, Inc. (“CM”), the Company’s contract manufacturer of its Verilink and iMarc product lines. Pursuant to the CM Agreement, CM has purchased certain electrical components valued at $2.0 million from the Company for use in the manufacture of finished goods to be purchased by the Company.  In addition, the Company has agreed to assign to CM an additional amount of unused electrical components valued at $2.0 million for which title will remain with the Company.  The Company has an obligation under the CM Agreement to purchase during the first two years, products assembled by CM using electrical components valued at $2.0 million (the “Assembled Products”).  Furthermore, the Company has agreed to submit purchase orders to CM in a minimum amount of $2.0 million per quarter for the three years subsequent to the execution of the CM Agreement or until the obligation to purchase the Assembled Products has been satisfied. Should the Company not meet this minimum purchase commitment it could be subject to, in any quarter, up to $25,000 in penalties. To date, the Company has not incurred any such penalties.

In connection with executing the CM Agreement, the Company and CM entered into a three-year Manufacturing Agreement which sets forth the terms and conditions under which CM shall manufacture the Assembled Products.  As of December 31, 2007, CM had used $1,792,000 of electrical components in the manufacture of the Assembled Products, reducing the outstanding commitment to utilize $2.0 million of electrical components in the first two years of the agreements to approximately $208,000 which reduced the inventory currently assigned to CM to approximately $208,000.  The remaining assigned inventory is reflected as inventory on the balance sheet as of December 31, 2007. The assigned inventory is not eligible for inclusion in the borrowing base under our Credit Facility with Laurus.
 
38

 
Cash Flow

Cash used in the Company’s continuing operations in the year ended December 31, 2007 totaled approximately $9.9 million compared with cash used by continuing operations of $9.0 million for 2006.  Cash used in continuing operations in 2007 is comprised of net loss of $26.7 million reduced by non-cash charges totaling $16.6 million and changes in current operating assets and liabilities of $244,000. Non-cash adjustments consist of depreciation and amortization of $6.0 million, amortization of loan fees and discount on convertible subordinated debentures of $4.1 million, goodwill write-down of $2.9 million, stock-based compensation expense of $1.3 million, and provision for doubtful accounts of $1.1 million. Cash used in continuing operations in 2006 was comprised of net loss of $17.8 million reduced by non-cash charges totaling $8.7 million and changes in current operating assets and liabilities of $76,000. Non-cash adjustments consisted of depreciation and amortization of $2.6 million, amortization of loan fees and discount on convertible subordinated debentures of $3.9 million, stock-based compensation expense of $930,000, provision for doubtful accounts of $513,000 and non-cash interest expense of $675,000.

Cash used in the Company’s discontinued operations in the years ended December 31, 2007, totaled $158,000 compared with $1.3 million for 2006.

Cash used in investing activities for continuing operations totaled approximately $726,000 in the year ended December 31, 2007, compared to cash provided by investing activities for continuing operations of $1.1 million in the year ended December 31, 2006.  During the year ended December 31, 2007 restricted cash decreased by $697,000 compared to a decrease of $615,000 for 2006.  The Company spent $312,000 and $351,000 on capital expenditures in the years ended December 31, 2007 and 2006, respectively.  In 2007, the Company received cash of $1.6 million in the Sentito acquisition and expended cash of $1.8 million in the iMarc acquisition and $850,000 in the AccessGate acquisition.  In 2006, the Company spent $338,000 related to the acquisition of Verilink and $1.0 million on the iMarc acquisition.

Cash provided by investing activities for discontinued operations totaled approximately $1.9 million and $1.4 million in the years ended December 31, 2007 and 2006, respectively. The Company received $1.9 million and $1.4 million from payments on notes receivable during the years ended December 31, 2007 and 2006, respectively.

Cash provided by financing activities totaled approximately $10.4 million in the year ended December 31, 2007, compared to $10.0 million for 2006.  In 2007 net proceeds from private placements of $8.8 million and net borrowings under the Company’s line of credit  of $2.2 million, were offset by payments of $844,000 on notes payable. In 2006 net proceeds from a private placement of $6.7 million and net borrowings under the Company’s line of credit  of $6.6 million were offset by payments of $2.3 million  on the Company’s 7.5% convertible debentures and debt issuance costs of $1.1 million.
 
39


Contractual Obligations and Commercial Commitments

The following summarizes the Company’s future contractual obligations at December 31, 2007 (in thousands):

   
Payments Due By Period
 
Contractual Obligations
 
Total
   
Less
than 1
year
   
1-3 years
   
4-5
years
   
After 5
years
 
Credit facility
  $ 10,128     $ 8,440     $ 1,688     $ -     $ -  
Notes payable
    3,000       3,000       -       -       -  
Senior unsecured convertible debentures
    8,719       5,906       2,813               -  
Operating Leases:
                                       
Continuing operations
    4,697       2,340       2,357       -       -  
Discontinued operations
    811       385       426       -       -  
                                         
Total contractual cash obligations
  $ 27,355     $ 20,071     $ 7,284     $ -     $ -  
 
The foregoing table excludes interest expense and sublease rentals and assumes that leases are not renewed.  The Company remains a guarantor on a lease through December 2009 used in the operations of the NACT business, which the Company sold in January 2005.  The total commitment related to this lease is approximately $1.3 million.
 
Sources of Cash
 
For 2008, the Company expects that its primary sources of cash will be from issuances of equity or debt securities, cash on hand, borrowings under its credit facility with Laurus and other sources.  The Company expects that its current operations will not generate positive income from operations before interest, taxes, depreciation and amortization (EBITDA) for the first six months of 2008 but should generate positive EBITDA during the last six months of 2008. The Company is currently working on several initiatives to reduce the cash used in continuing operations and to ensure that it has sufficient liquidity to cover its needs for the next twelve months. However, there is no guarantee that the Company will be successful in obtaining the financing required to fund its capital needs.

On February 19, and February 21, 2008, we issued 1,381,200 and 2,114,000 shares of our common stock, respectively, and warrants to purchase 1,381,200 and 2,114,000 shares of our common stock, respectively, in a private placement transaction for an aggregate purchase price of approximately $802,000, or an average price of $0.23 per share. The warrants issued in connection with the private placement are exercisable for a period of five years at an average exercise price of $0.28 per share. We received proceeds from the private placement of approximately $750,000, net of expenses.

On September 5, September 6, and September 10, 2007, we issued 4,417,640, 2,608,692 and 71,428 shares of our common stock, respectively, and warrants to purchase 3,313,230, 2,104,954, and 53,571 shares of our common stock, respectively, in a private placement transaction for an aggregate purchase price of approximately $4,850,000, or $0.68 per share. The warrants issued in connection with the private placement are exercisable beginning March 6, 2008 for a period of five years at an exercise price of $0.90 per share. We received proceeds from the private placement of approximately $4,547,000, net of expenses.

On January 30, February 2, February 5, and February 9, 2007, we issued 2,000,000, 2,000,000, 250,000, and 750,000 shares of our common stock, respectively, and warrants to purchase 1,080,000, 1,080,000, 135,000, and 405,000 shares of our common stock, respectively, in a private placement transaction for an aggregate purchase price of approximately $5,000,000, or $1.00 per share. The warrants issued in connection with the private placement are exercisable for a period of five years at an exercise price of $1.25 per share. We received proceeds from the private placement of these securities of approximately $4,297,000, net of expenses.

As previously mentioned, on September 20, 2006, the Company entered into a credit facility with Laurus which provides for a three-year, $14.0 million revolving credit facility. As of December 31, 2007, the Company had outstanding borrowings under Tranche A and Tranche B of $6,189,000 and $3,937,000, respectively. The remaining borrowing availability under the credit facility at December 31, 2007 was $561,000 under Tranche A and none under Tranche B.

Availability for borrowings under Tranche A of the Company’s credit facility with Laurus is subject to limitations as determined pursuant to a formula which is based on the value of the Company’s eligible accounts receivables and inventories.  If the Company does not have sufficient eligible accounts receivable and inventories to support the level of borrowings it may need, then the Company may be unable to draw on the credit facility to the extent necessary. To the extent the Company does not have borrowing availability under the credit facility, the Company may be required to obtain additional sources of capital, sell assets, obtain an amendment to the Security Agreement or otherwise restructure its outstanding indebtedness.
 
40

 
All borrowings must be approved by Laurus and may have to be approved by the holders of the secured note issued by the Company in connection with the acquisition of substantially all of the operating assets of Clarent Corporation, which note is due in 2008, and the holders of the $13,500,000 senior unsecured convertible debentures. If the Company is unable to obtain additional capital, sell assets, obtain an amendment to the Security Agreement or otherwise restructure its outstanding indebtedness, then the Company may not be able to meet its obligations.
 
The Company’s short-term cash needs are for working capital, including operating cash, capital expenditures, payments on the 6.75% senior unsecured convertible debentures of $5.9 million in the next twelve months (to the extent that the Company does not elect to make these payments in stock), payment on the secured note payable to Clarent Corporation of $3.0 million plus related interest, interest payments on debt outstanding, and payments related to discontinued operations as well as payments related to prospective businesses to be acquired, if any.  The Company expects to pay out approximately $2.9 million related to lease payments, net of sublease rental in the next twelve months.  In addition the Company has scheduled payments of approximately $2.3 million on Tranche B of the credit facility to be made in 2008.   Substantially all operating cash received by the Company is automatically applied to the outstanding balance of the Credit Facility as per the terms of our agreement with Laurus. The Company can borrow against the Credit Facility subject to maintenance of sufficient borrowing base as defined in the Credit Facility.
 
Based on the Company's financial plan for 2008, including the significant debt obligations which become due and payable during 2008, we will need to obtain additional equity or debt financing, or to be required to sell assets, to meet our debt obligations and fund our operational plans. There is no guarantee that the Company will be successful in obtaining the financing required to fund its capital needs.
 
The Company’s long-term cash needs are related to the costs of growing its current business as well as prospective businesses to be acquired, including capital expenditures and working capital. In addition, the Company will make required payments on its senior unsecured convertible debentures, to the extent that the Company does not elect to make these payments in stock, payments on Tranche B of its credit facility, and liabilities of discontinued operations. The Company expects to meet these cash needs through cash from operations, if any, cash on hand, borrowings under the credit facility or other debt facilities, if available, as well as through possible issuances of equity or debt securities. If sufficient borrowing capacity under a working capital line of credit is unavailable (or if the Company is unable to restructure its existing credit facility in the event that the Company requires additional borrowing capacity), or if the Company is otherwise unable to obtain additional capital or sell assets, then the Company may not be able to meet its obligations and growth plans.

41

 
Item 8.                  Financial Statements and Supplementary Data

The financial statements required to be filed with this Annual Report are filed under Item 15 hereof and are listed on the “Index to Consolidated Financial Statements” on page F-1 hereof.

Quarterly Financial Data (Unaudited)

The following table presents unaudited quarterly statements of operations data for each quarter of our last two completed fiscal years. The unaudited quarterly financial statements have been prepared on substantially the same basis as the audited financial statements contained elsewhere in this Annual Report. In the opinion of our management, the unaudited financial statements include all adjustments, consisting only of normal recurring adjustments that management considers to be necessary to fairly present this information when read in conjunction with our consolidated financial statements and related notes appearing elsewhere in this Annual Report. The results of operations for any quarter are not necessarily indicative of the results to be expected for any future period.

   
First
Quarter
   
Second
Quarter
   
Third
Quarter
   
Fourth
Quarter
   
Total Year
 
   
(In thousands, except per share amounts)
 
2007
                             
Revenue
  $ 12,485     $ 12,570     $ 13,136     $ 12,444     $ 50,635  
Gross profit
    4,538       4,386       5,021       2,244       16,189  
General and administrative
    2,952       3,062       3,442       3,561       13,017  
Sales and marketing
    2,345       2,448       2,062       2,031       8,886  
Research and development
    2,042       2,421       1,871       1,611       7,945  
Operating income (loss) from continuing operations
    (3,452 )     (4,645 )     (3,424 )     (8,588 )     (20,109 )
Income (loss) from continuing operations
    (5,019 )     (6,458 )     (5,007 )     (10,215 )     (26,699 )
Income (loss) from discontinued operations
    -       -       -       (350 )     (350 )
Net loss
  $ (5,019 )   $ (6,458 )   $ (5,007 )   $ (10,565 )   $ (27,049 )
                                         
Net loss per common share - basic and diluted: (1)
                                 
Loss from continuing operations
  $ (0.11 )   $ (0.12 )   $ (0.08 )   $ (0.19 )   $ (0.47 )
Loss from discontinued operations
    -       -       -       -       -  
Net loss per common share
  $ (0.11 )   $ (0.12 )   $ (0.08 )   $ (0.19 )   $ (0.47 )
                                         
2006
                                       
Revenue
  $ 6,788     $ 8,381     $ 13,352     $ 14,009     $ 42,530  
Gross profit
    2,841       3,347       5,076       5,903       17,167  
General and administrative
    2,433       2,211       2,743       3,266       10,653  
Sales and marketing
    1,774       1,801       2,430       2,229       8,234  
Research and development
    1,779       1,994       1,850       2,182       7,805  
Operating income (loss) from continuing operations
    (3,608 )     (3,061 )     (2,481 )     (2,979 )     (12,129 )
Income (loss) from continuing operations
    (4,940 )     (4,359 )     (4,122 )     (4,355 )     (17,776 )
Income (loss) from discontinued operations
    -       -       -       -       -  
Net loss
  $ (4,940 )   $ (4,359 )   $ (4,122 )   $ (4,355 )   $ (17,776 )
                                         
Net loss per common share - basic and diluted: (1)
                                 
Loss from continuing operations
  $ (0.17 )   $ (0.13 )   $ (0.11 )   $ (0.10 )   $ (0.51 )
Loss from discontinued operations
    -       -       -       -       -  
Net loss per common share
  $ (0.17 )   $ (0.13 )   $ (0.11 )   $ (0.10 )   $ (0.51 )

(1)
Per common share amounts for the quarters and full years have been calculated separately.  Accordingly, quarterly amounts may not add to the annual amounts because of differences in the weighted average common shares outstanding during each period.

42


Item 9.                  Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

None.

Item 9A(T).          Controls and Procedures

Evaluation of Controls and Procedures

Our Chief Executive Officer and Chief Financial Officer have evaluated our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) or 15d-15(e) of the Exchange Act), as of the end of the period covered by this Annual Report, as required by paragraph (b) of Rules 13a-15 or 15d-15 of the Exchange Act. Based on such evaluation, such officers have concluded that, as of the end of the period covered by this Annual Report, our disclosure controls and procedures are effective.

Management’s Annual Report on Internal Control Over Financial Reporting

The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act.  The Company’s internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.

All internal control systems, no matter how well designed, have inherent limitations.  Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.  Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.

Management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2007.  In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework.

Based on management’s assessment and those criteria, we identified certain deficiencies, none of which constituted a material weakness, that the Company has remediated, or is in the process of remediating.  Management believes that the Company maintained effective internal control over financial reporting as of December 31, 2007.

This Annual Report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting.  Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the SEC that permit the Company to provide only management’s report in this Annual Report.

Changes in Internal Control Over Financial Reporting

During the quarter ended December 31, 2007, there was not any change in our internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Rules 13a-15 or 15d-15 of the Exchange Act that has materially affected, or is reasonably likely to materially affect, our control over financial reporting.
 
Item 9B.               Other Information

On March 7, 2006, the Canada Revenue Agency (the “CRA”) notified 38098 Yukon Inc. (formerly known as MCK Telecommunications Inc.), a corporation organized under the laws of the Yukon Territory (“MCK Canada”') and an indirect wholly owned subsidiary of the Company, that the CRA had completed its international income tax audit of MCK Canada for the period from May 1, 1998 to April 30, 2000 (the “Audit”').  As a result of the Audit, the CRA has issued income tax reassessments to MCK Canada.  In addition, the Alberta Tax and Revenue Administration (the “ATR”') has issued reassessments for each year of the Audit.

The key issue under dispute in the audit is the valuation of certain intellectual property that was transferred from MCK Canada to its U.S. parent company, MCK Communications, Inc. (“MCK US”') in fiscal 1998.  MCK US consulted with outside valuation advisors to establish the value of the intellectual property transferred. The CRA and the ATR disagree with such value. The Company and its advisors disagree with the reassessments, and the Company has filed notices of objection with respect thereto with the CRA and the ATR and intends, if necessary, to exhaust all of its rights of appeal in connection therewith.

The Company estimates that, as of March 14, 2008, (i) the amount of taxes allegedly due in respect of the CRA reassessments was approximately U.S. $9.1 million (plus penalties and interest thereon of approximately U.S. $12.5 million); and (ii) the amount of taxes allegedly due in respect of the ATR reassessments was approximately U.S. $4.1 million (plus penalties and interest thereon of approximately U.S. $5.2 million). The Company has been advised by its Canadian and U.S. counsel that no such amounts should be collectible by the CRA or the ATR against the Company or any of its other subsidiaries (other than MCK Canada) and that the ability of the CRA and the ATR to collect such amounts should be limited to the assets of MCK Canada, which have little or no value. Accordingly, no provision for this matter has been recorded in the Company’s financial statements because the Company believes that it will not have a financial statement impact.
 
On March 20, 2008 we issued a warrant (the “Laurus Warrant”) to purchase 339,469 shares of our common stock to Laurus pursuant to the terms of our Credit Facility with Laurus.  The Laurus Warrant has a 5-year term and an exercise price of $0.91 per share.  The shares issuable upon exercise of the Laurus Warrant will be issued without registration under the Securities Act in reliance upon the exemption from registration set forth in Section 4(2) of the Securities Act and Regulation D promulgated thereunder (“Regulation D”).  We based such reliance upon representations made by Laurus regarding its investment intent, sophistication and status as an “accredited investor,” as defined in rule 501 of Regulation D, among other things.
 
On February 28, 2008, the Company received a letter from Mack Technologies, Inc. of Westford, MA ("Mack") asserting that Sentito Networks ("Sentito") owes Mack: (a) $149,000 for inventory puchased by Mack to manufacture products for Sentito that were never purchased by Sentito, and (b) $18,500 of accounts receiable for goods delievered by Mack to Sentito. These claims arise from the activities of Sentito prior to the Company's acquisition of Sentito in 2007. Mack threatened to take legal action if the accounts were not paid by March 15, 2008.
 
On November 19, 2007, the Company received a letter from Lydian Lawyers on behalf of Desco NV ("Desco") and Yves Desmet, a former officer of the Company. The letter demands payment to Desco of commissions in the amount of .67% of all of the Company's revenues (excluding certain amounts) for the third quarter of 2007 and October 2007 and of a termination fee of up to one year of salary and one year of commissions which Desco asserts are owed to it under certain management services agreements it alleges were assumed by the Company in connection with the Company's acquisition of substantially all of the assets of Clarent Corporation in 2003.
 
43

 
PART III

Item 10.                      Directors, Executive Officers and Corporate Governance

The information required by Item 10 of Form 10-K will be set forth in the Company’s Proxy Statement for the Annual Meeting of Shareholders to be held in 2007 (the “Proxy Statement”) under the captions titled “Proposal I: Election of Directors,” “Audit Committee Report,” “Corporate Governance” and “Section 16(a) Beneficial Ownership Reporting Compliance” and such information is incorporated herein by reference.

Item 11.                      Executive Compensation

The information required by Item 11 of Form 10-K will be set forth in the Proxy Statement under the caption titled “Executive Compensation” and such information is incorporated herein by reference.

Item 12.          Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information required by Item 12 of Form 10-K will be set forth in the Proxy Statement under the captions titled “Security Ownership of Certain Beneficial Owners and Management” and “Executive Compensation - Equity Compensation Plans” and such information is incorporated herein by reference.

Item 13.                      Certain Relationships and Related Transactions, and Director Independence

The information required by Item 13 of Form 10-K will be set forth in the Proxy Statement under the captions titled “Certain Relationships and Related Transactions” and “Proposal 1: Election of Directors” and such information is incorporated herein by reference.

Item 14.                      Principal Accountant Fees and Services

The information required by Item 14 of Form 10-K will be set forth in the Proxy Statement under the captions titled “Proposal 2: Ratification of Independent Public Accountants” and such information is incorporated herein by reference.
Item 15.                Exhibits and Financial Statement Schedules

Lists of certain documents filed herewith as part of this Annual Report may be found as follows:

(i)           A list of the consolidated financial statements required to be filed as a part of this Annual Report is shown in the “Index to Consolidated Financial Statements and Related Reports” on page F-1.

(ii)          Except for Financial Statement Schedule II, “Valuation and Qualifying Accounts,” which is filed herewith, the financial statement schedules required to be filed as a part of this Annual Report are omitted from this Annual Report because the information required by such schedules is either not applicable or is included in the consolidated financial statements and notes thereto, which statements and notes are listed on the “Index to Consolidated Financial Statements” on page F-1 and filed herewith.

(iii)         A list of the exhibits required by Item 601 of Regulation S-K to be filed as a part of this Annual Report is shown on the “Exhibit Index” filed herewith.
 
44

 
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND RELATED REPORTS
 
 
The following consolidated financial statements, financial statement schedule and report of independent registered public accounting firm are included herein on the pages indicated:
Page
 
Report of Independent Registered Public Accounting Firm
F-2
   
Consolidated Balance Sheets as of December 31, 2007 and 2006
F-3
   
Consolidated Statements of Operations for the years ended December 31, 2007 and 2006
F-4
   
Consolidated Statements of Shareholders' Equity (Deficit)  for the years ended December 31, 2007 and 2006
F-5
   
Consolidated Statements of Cash Flows for the years ended December 31, 2007 and 2006
F-6
   
Notes to Consolidated Financial Statements
F-8
   
Schedule II – Valuation and Qualifying Accounts
F-49



F-1

 
Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders
Verso Technologies, Inc.

We have audited the accompanying consolidated balance sheets of Verso Technologies, Inc. and subsidiaries (the “Company”) as of December 31, 2007 and 2006, and the related consolidated statements of operations, shareholders’ equity (deficit) and cash flows for the years then ended.  Our audit also included the financial statement schedule listed in the index appearing under Item 15. These financial statements and the financial statement schedule are the responsibility of the Company’s management.  Our responsibility is to express an opinion on these consolidated financial statements and the financial statement schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement.  The Company is not required to have, nor were we engaged to perform, an audit of their internal control over financial reporting.  Our audits included consideration of internal controls over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting.  Accordingly, we express no such opinion.  An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements.  An audit also includes assessing the accounting principles used and significant estimates made by management as well as evaluating the overall presentation of the consolidated financial statements.  We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Verso Technologies, Inc. and subsidiaries at December 31, 2007 and 2006, and the results of their operations and cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.  Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

The accompanying financial statements have been prepared assuming that the Company will continue as a going concern.  As discussed in Note 2 to the financial statements, the Company has suffered recurring losses from operations and has other indicators that raise substantial doubt about its ability to continue as a going concern.   Management’s plans in regard to these matters are also described in Note 2.   The financial statements do not include any adjustments that might result from the outcome of this uncertainty.
 

/s/ Tauber & Balser, P.C.
Atlanta, GA
April 15, 2008

F-2

 
VERSO TECHNOLOGIES, INC.
 
CONSOLIDATED BALANCE SHEETS
 
             
   
December 31,
 
December 31,
 
   
2007
   
2006
 
     (In thousands,   
   
except share data)
 
ASSETS:
 
Current assets:
           
Cash and cash equivalents
  $ 2,658     $ 1,134  
Restricted cash
    344       1,041  
Accounts receivable, net of allowance for doubtful accounts of $1,937 and $1,266,
         
respectively
    8,817       10,058  
Inventories
    6,615       7,184  
Other current assets
    2,496       1,757  
Current portion of note receivable
    -       324  
Total current assets
    20,930       21,498  
Property and equipment, net of accumulated depreciation and amortization of $4,900 and
       
$5,025, respectively
    1,524       1,807  
Loan issuance costs, net
    972       2,697  
Investment
    606       745  
Note receivable, net of current portion
    -       1,810  
Other intangibles, net of accumulated amortization of $4,848 and $2,821, respectively
    6,490       5,068  
Goodwill
    3,741       3,224  
Total assets
  $ 34,263     $ 36,849  
                 
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT):
 
Current liabilities:
               
Current portion of credit facility
  $ 8,440     $ 3,945  
Current portion of notes payable
    2,985       -  
Accounts payable
    3,993       2,665  
Accrued compensation
    1,995       2,268  
Accrued expenses
    4,215       3,592  
Purchase price payable for acquisition
    -       1,500  
Current portion of accrued loss on sublease
    483       465  
Current portion of liabilities of discontinued operations
    1,464       1,081  
Current portion of convertible subordinated debentures
    5,906       3,375  
Unearned revenue and customer deposits
    3,649       2,645  
Total current liabilities
    33,130       21,536  
Accrued loss on sublease, net of current portion
    456       773  
Credit facility, net of current portion
    1,688       3,938  
Liabilities of discontinued operations, net of current portion
    213       361  
Notes payable, net of current portion
    -       2,862  
Convertible subordinated debentures, net of current portion
    1,170       4,700  
Total liabilities
    36,657       34,170  
                 
Commitments and Contingencies
               
Shareholders' equity (deficit):
               
Preferred stock, no par value, 210,000 shares authorized and undesignated 164,766 shares
 
issued and none outstanding
    -       -  
Common stock, $.01 par value, authorized shares of 200,000,000 and 120,000,000;
       
72,820,515 and 41,691,911 shares issued and outstanding
    728       417  
Additional paid-in capital
    374,145       352,303  
Deferred compensation
    (245 )     -  
Accumulated deficit
    (376,816 )     (349,767 )
Accumulated other comprehensive loss - foreign currency translation
    (206 )     (274 )
Total shareholders' equity (deficit)
    (2,394 )     2,679  
Total liabilities and shareholders' equity (deficit)
  $ 34,263     $ 36,849  
 
 
The accompanying notes are an integral part of these consolidated financial statements.
F-3

 
VERSO TECHNOLOGIES, INC. AND SUBSIDIARIES
 
CONSOLIDATED STATEMENTS OF OPERATIONS
 
             
   
For the Years Ended December 31,
 
   
2007
   
2006
 
   
(In thousands, except share data)
 
Revenue:
           
Products
  $ 35,938     $ 27,880  
Services
    14,697       14,650  
Total revenue
    50,635       42,530  
                 
Cost of revenue:
               
Products:
               
Product costs
    20,099       14,367  
Impairment charge for acquired technology
    2,250       -  
Amortization of intangibles
    1,021       677  
Total cost of products
    23,370       15,044  
Services
    11,076       10,319  
Total cost of revenue
    34,446       25,363  
                 
Gross profit:
               
Products
    12,568       12,836  
Services
    3,621       4,331  
Total gross profit
    16,189       17,167  
                 
Operating expenses:
               
General and administrative
    13,017       10,653  
Sales and marketing
    8,886       8,234  
Research and development
    7,945       7,805  
Depreciation and amortization
    2,754       1,930  
Reorganization costs
    751       674  
Write-down of goodwill
    2,945       -  
Total operating expenses
    36,298       29,296  
Operating loss from continuing operations
    (20,109 )     (12,129 )
                 
Other expense, net:
               
Other expense
    (305 )     (22 )
Equity in loss of investment
    (139 )     (1 )
Interest expense, net, including $4,115 and $3,897 of amortization
         
of loan fees and discount on convertible debentures in each period,
         
respectively
    (6,146 )     (5,624 )
Other expense
    (6,590 )     (5,647 )
Loss from continuing operations before income taxes
    (26,699 )     (17,776 )
Income taxes
    -       -  
Loss from continuing operations
    (26,699 )     (17,776 )
                 
Discontinued Operations:
               
Loss from discontinued operations
    (350 )     -  
Net loss
  $ (27,049 )   $ (17,776 )
                 
Net loss per common share - basic and diluted:
               
Loss from continuing operations
  $ (0.47 )   $ (0.51 )
Loss from discontinued operations
    -       -  
Net loss per common share - basic and diluted:
  $ (0.47 )   $ (0.51 )
Weighted average shares outstanding - basic and diluted
    57,022,761       35,092,598  
 
 
The accompanying notes are an integral part of these consolidated financial statements.
F-4

 
VERSO TECHNOLOGIES, INC. AND SUBSIDIARIES
 
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
 
FOR THE YEARS ENDED DECEMBER 31, 2007 AND 2006
 
                                                             
                           
Additional
   
 
               
Foreign
       
   
Preferred Stock
 
Common Stock
   
Paid-in
   
Stock
   
Accumulated
   
Deferred
   
Currency
       
   
Shares
 
Amount
 
Shares
   
Amount
   
Capital
   
Payable
   
Deficit
   
Compensation
   
Translation
   
Total
 
   
(In thousands, except share data)
                               
BALANCES,
                                                           
January 1, 2006
    -     $ -       27,310,524     $ 273     $ 334,650     $ 67     $ (331,991 )   $ -     $ (160 )   $ 2,839  
                                                                                 
Comprehensive loss:
                                                                               
Net loss
    -       -       -       -       -       -       (17,776 )     -       -       (17,776 )
Foreign currency translation adjustment
    -       -       -       -       -       -       -       -       (114 )     (114 )
Comprehensive loss
                                                                            (17,890 )
                                                                                 
Issuance of shares in connection with