10-K 1 mrv-20121231x10k.htm 10-K MRV-2012.12.31-10K
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

________________________
FORM 10-K
________________________
(Mark One)
 
 
x
 
Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended December 31, 2012
OR
o
 
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from                                         t o                                         


Commission file number: 001-11174
 
MRV COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
Delaware
06-1340090
(State or other jurisdiction of
(I.R.S. employer
incorporation or organization)
identification no.)

20415 Nordhoff Street, Chatsworth, CA 91311
(Address of principal executive offices, zip code)

(818) 773-0900
(Registrant's telephone number, including area code)


Securities registered pursuant to Section 12(b) of the Exchange Act: None
Securities registered pursuant to Section 12(g) of the Exchange Act: Common Stock, $0.0017 par value
Indicate by check mark whether the Registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act. Yes o No x
Indicate by check mark whether the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the 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, whether the Registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files.) Yes x    No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§232.405) 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 the definitions of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):


Large accelerated filer o
 
Accelerated filer x
 
Non-accelerated filer o
(Do not check if a smaller reporting company)
 
Smaller reporting company o
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes o    No x
The aggregate market value of the Registrant's Common Stock held by non-affiliates based upon the closing price of a share of the Registrant's Common Stock on June 30, 2012 as reported on the OTC QB was $96,850,142. The number of shares of Common Stock, $0.0017 par value, outstanding as of March 28, 2013 — 7,544,246.

DOCUMENTS INCORPORATED BY REFERENCE
If the Registrant files a definitive Proxy Statement relating to its next Annual Meeting of Stockholders on or prior to 120 days after the end of the fiscal year for which this report relates, portions of the Proxy Statement will be incorporated by reference into Part III of this Annual Report on Form 10-K where indicated. However, if this Proxy Statement is not filed within that time period, we will file an amendment to this Annual Report with the Securities and Exchange Commission within 120 days after the end of the fiscal year to which this report relates.



MRV Communications, Inc.

Annual Report on Form 10-K

For the Year Ended December 31, 2012
 
Table of Contents

 
 
 
 
 
 
Page
Number
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 



PART I


Item 1.    Business.
Company Background
MRV, through our business units, is a global provider of optical communications network infrastructure equipment and services to a broad range of telecom concerns, including multinational telecommunications operators, local municipalities, cable multiple system operators ("MSOs"), corporate and consumer high speed Internet service providers, content delivery network operators, and data storage and cloud computing providers. As a single source of multi-layer products that enable network convergence focusing on Internet Protocol ("IP"), Ethernet and optical technologies and infrastructure management equipment and services, we can provide our customers with integrated network management, cost effective equipment, and network integration services expertise. MRV can also help our customers effectively manage all aspects of their evolving network architecture.
MRV was organized in July 1988 as MRV Technologies, Inc., a California corporation. In April 1992, we reincorporated in Delaware and changed the company name to MRV Communications, Inc.
We operate in two reporting segments. Our Network Equipment segment includes two business units: our Optical Communications Systems division ("OCS"), and Appointech, Inc. ("Appointech"). Our Network Integration segment includes one business unit: Tecnonet S.p.A. ("Tecnonet").
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Network Equipment:
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Optical Communications Network Infrastructure Equipment and Services: We serve as an end-to-end provider of optical communications network infrastructure equipment and services.
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OCS is based in the United States and provides solutions that enable access, transport, aggregation, and management of various communications traffic for fixed line, cable, content delivery, cloud-based and mobile communications networks leveraging both direct and channel sales through third party channel partners. As of December 31, 2012, OCS had 265 employees.
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Appointech is based in Taiwan and provides high quality designs and cost-effective manufacturing capabilities of fiber optic modules for the fiber-optic communication industry. As of December 31, 2012, Appointech had 12 employees.
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Optical Carrier Ethernet Access and Aggregation: Our significant global expertise includes a best-in-class portfolio providing flexible, cost effective, and complete solutions serving various business Ethernet and mobile backhaul services markets. We are recognized as a leader in innovative carrier-Ethernet demarcation and aggregation devices for service providers worldwide. We have a long history of supplying integrated access solutions to the fiber optic and Ethernet markets. Our Metro Ethernet solution enables service providers to deliver carrier-class optical transport and carrier-Ethernet services to businesses over all fiber infrastructures. Our portfolio is supported by our innovative network provisioning and management software solutions which enable efficient and effective network optimization.
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Optical Transport and Wave Division Multiplexing ("WDM"): For over 20 years, we have been providing innovative and award winning optical transport solutions to the market. From simple media conversion to high-end reconfigurable optical add-drop multiplexer ("ROADM") optical transport, we have been delivering solutions for a broad range of optical communications applications serving content delivery networks ("CDNs"), data centers, internet exchanges, enterprises, carriers and service providers, and education and government entities. Our optical transport solutions address the rapidly increasing demand for transport capacity, multiple services and end-to-end management to the network edge. We are a leader in critical high density, low power optical transport solutions.
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Network Infrastructure management: Our infrastructure management solutions complement our optical communications products and enable focused solutions for network monitoring and lab automation for equipment manufacturers, large networks, and network solutions providers. Our test management and automation products are designed to increase the efficiency in the test lab environment, enabling more tests in less time with fewer resources. Remote control and management of cable topologies, lab

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devices, and power distribution optimize the lab for responsiveness and help our customers get the most effective use of capital expenditures.
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Network Integration:
◦
With best-in-class equipment, hardware and software offerings, the Network Integration segment provides end-to-end solutions including consulting, installation and support and managed services for fixed line, cable and mobile communications networks. Our Network Integration subsidiary, Tecnonet, is an Italian supplier of a wide range of communications equipment from leading global manufacturers, as well as telecommunications solutions and services, including network infrastructure, unified communications, mobility and wireless, network security, cloud computing services, managed call center services, network integration, and optimization serving the Italian market. As of December 31, 2012, Tecnonet had 131 full-time employees and 81 temporary employees.
On December 2, 2011, we announced that we entered into a stock purchase agreement with CES Holding SA, as purchaser, represented for purpose of the agreement by Vinci Capital Switzerland SA, for the sale of our former wholly-owned Swiss subsidiary, CES Creative Electronic Systems SA ("CES"). The sale of CES was subject to stockholder approval, which was not obtained prior to year end, and accordingly, CES is reported as a continuing operation as of December 31, 2011. The stockholder approval was obtained on January 9, 2012 and the sale was completed on March 29, 2012.
On October 12, 2012, we sold all of the issued and outstanding capital stock of our former wholly-owned operating subsidiary, Alcadon-MRV AB ("Alcadon").
On October 16, 2012, we sold all of the issued and outstanding capital stock of our former wholly-owned operating subsidiary, Pedrena Enterprises B.V. ("Pedrena"). Pedrena is the parent company of Interdata, and Interdata in turn is the parent company of J3TEL.
The historical financial results of each of CES, Alcadon, and Pedrena prior to the date of sale have been reclassified as discontinued operations for all periods presented. The historical financial information in this Form 10-K prior to the disposition of each of these entities has been reclassified to reflect these entities as discontinued operations for all periods presented. Cash flows from discontinued operations are presented combined with the cash flows from continuing operations in the accompanying Statement of Cash Flows.
Industry Background
Network Equipment

Telecommunications networks are evolving to support the increasing demand for mobile and high-bandwidth applications such as mobile video services, Internet Protocol video services, or "IP-video," peer-to-peer networking, and content-rich, transactional websites. The growth in these applications and services is driving the need for flexible service capability and additional bandwidth capacity in many portions of the world's networks. To meet this demand, our customers are upgrading their systems with new optical communications solutions and products to broaden service offering capability and management while increasing capacity and efficiency focusing on lower total cost of ownership of their access and transport.
Through our global MRV-branded OCS business unit and our Network Integration business unit in Italy, we provide a broad array of product and service offerings, including integrated secure network equipment and services connecting legacy and digital data, voice and video within buildings, across private networks and in metropolitan networks. OCS products enable the delivery of Optical Transport and Carrier Ethernet services over any fiber infrastructure, facilitating network transformation and increasing efficiency, while reducing complexity and costs. As a pioneer and technological leader for over 20 years, OCS has established a reputation for high quality and is an established brand among multinational and regional telecommunications service providers, wireless backhaul operators, CDNs, MSOs and enterprises in the government, finance, military, transportation and utility sectors. OCS's product portfolio of Optical Transport and carrier-grade Ethernet platforms places it at the nexus of two important trends in networking today: the convergence of optical and packet-based networking and the extension of fiber-based networking technologies closer to the end user for data intensive applications. OCS's feature-rich, networking equipment enables communication service providers ("CSPs") to offer converged next generation networking services for their customers while preserving the value of their existing network equipment. As a result of its tenure in the industry and the depth of knowledge of its engineers, OCS has built strong relationships with its customers, many of whom rely upon OCS engineers early in their network build-out plans.

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We believe the long-term growth of Metro Ethernet and the demand for our optical products will be fueled by the increasing demand for more bandwidth capacity, higher connection speeds, and more service flexibility. The massive proliferation of video media creation and sharing, the shift to mobile computing and the rise of cloud-based services and remote data storage networks are collectively driving exponential growth in bandwidth consumption.

In a report issued on February 6, 2013, Cisco Systems, Inc. ("Cisco") estimated that two-thirds of the world's mobile data traffic will be video by 2017. The report also noted that mobile video is projected to increase 16-fold between 2012 and 2017, accounting for over 66% of total mobile data traffic by the end of the forecast period. To deliver this bandwidth, CSPs are upgrading their network access infrastructure. Further fueling this investment is the growing competition among wireless service providers, wireline telecom providers, and cable/MSOs to penetrate each other's incumbent markets. Global telecom services continue to be the largest portion of information technology ("IT") spending. Gartner, Inc., a market research company in the telecommunications industry, forecasts that of the estimated $3.7 trillion in total worldwide IT spending in 2013, telecommunications services are expected to represent $1.701 trillion, a rise of 2.4% over the $1.661 trillion in 2012.

To improve network capacity and provide the packet-level intelligence needed in the wireless and wireline last mile, CSPs are converging historically separate Ethernet and optical transport network technologies. Ethernet technology has long been deployed within enterprises. Over the past several years “Carrier-grade” Ethernet has been implemented by CSPs in wide area networks ("WANs") as a result of improved quality-of-service, reliability and inclusion of features traditionally found in SONET or ATM based equipment. By keeping traffic packetized, CSPs provide customers with improved network utilization and value-added managed services in addition to raw transport or bandwidth. Ethernet access devices, such as those offered by OCS, provide CSPs a scalable and cost effective way to improve traffic handling within the access network and demarcation points while grooming the traffic being routed into the core network. By managing traffic effectively at the edge of the network, service providers can reduce the number of core router ports needed, leading to significant cost savings. The Ethernet access device market is projected to reach $1.7 billion in 2016, with a compound annual growth rate ("CAGR") from 2010-2015 of 10%, a CAGR higher than overall telecom capital expenditures.

Similarly, Optical Transport technology, historically deployed deep within the core of CSPs' networks, has been pushed out to the metro and access areas of the network, reflecting both the increased need for bandwidth and the improved price-performance characteristics of optical networking gear. Optical Transport refers to the transmission of data signals through a fiber optic cable. One of the more common techniques utilized for Optical Transport optimization is WDM. Multiple wavelengths are combined, or multiplexed, utilizing different wavelengths of light as individual communications transport channels, and passed through a single optical fiber. To more efficiently utilize the fiber infrastructure, CSPs have increased, and continue to increase, the transmission speeds (from 1G to 10GE to 40GE and soon to 100GE), narrow the channel spacing (reducing the space between wavelengths) and packetize the transmitted traffic. The convergence of WDM Optical Transport with the Carrier Ethernet standard is creating a substantial opportunity for equipment vendors with expertise in both domains.

By combining Ethernet with Optical Transport networking technology, CSPs create flexible, high capacity access and transport networks that provide the packet-level intelligence necessary to improve the utilization of their networks and provide value-added managed services and service visibility to their customers in addition to raw transport or bandwidth. According to an Infonetics Research report issued in September 2012, the Carrier Ethernet access market is forecast to grow from $0.8 billion in 2011 to $1.7 billion in 2016, a 10% CAGR, while the Optical WDM market is expected to grow from $8.1 billion in 2011 to $13.7 billion in 2016, an 11% CAGR.

Mobility continues to be an influential theme within communications, as the number of connected devices rises and the usage of such devices expands. According to Cisco's Visual Networking Index ("VNI") published on February 6, 2013, by the end of 2013, the number of mobile-connected devices will exceed the number of people on earth, and by 2017 there will be nearly 1.4 mobile devices per capita. There will be over 10 billion mobile-connected devices in 2017, including machine-to-machine ("M2M") modules-exceeding the world's population at that time (7.6 billion). Moreover, new data-enabled mobile computing devices such as laptops, tablets, and smart phones carry a much higher usage profile and require faster access speeds compared with legacy devices. Consumer video content sharing and the rise of mobile oriented online services and cloud-based services are driving mobile data traffic. According to Cisco's VNI, global mobile data traffic will increase 13-fold between 2012 and 2017. Mobile data traffic will grow at a CAGR of 66% from 2012 to 2017, reaching 11.2 exabytes per month by 2017. The use of fiber as a backhaul medium is increasing due to its advantages of high speed throughput and long transport distance. Currently, however, over 50% of the mobile sites in North America are backhauled using T1 lines over copper wire, which was

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adequate for voice traffic but is insufficient to support growing mobile data traffic. CSPs such as Verizon are leveraging their fiber-to-the-premise (FiOS) broadband build out to upgrade their mobile backhaul.

Network Integration

According to the Assinform, a national association of IT companies in Italy, the Italian Information and Communication Technology ("ICT") market is comprised of two major segments: (i) the IT segment, which includes IT services, software, technical assistance and hardware, and (ii) the telecommunication segment, which includes mobile and fixed phone services. The value of the overall Italian ICT market reached €58.1 billion in 2011, representing a negative CAGR of - 3.0% for the period 2009 through 2011. The IT segment of the ICT market has three sub-segments: (i) services, (ii) software, and (iii) hardware and technical assistance. Our European business unit competes only in the IT services market. The Italian IT services market amounted to €8.2 billion in 2011, representing 46% of overall IT spending. As measured by end-user spending, IT development, integration and management services represented approximately €6.3 billion (or 76%) of the total €8.2 billion IT services market in 2011. This portion of the Italian IT services market is expected to be €7.1 billion by 2015, representing a CAGR of 2.6% for the period 2010 through 2015. The volume of IT projects is expected to increase during the period 2011 through 2015, even though pricing during the same period is forecast to be flat.
The major carriers we serve within the Italian ICT market are engaged in significant contracts with the Italian government to provide support and expand and modernize the Italian communication infrastructure. Due to the life cycle of these government contracts, companies, such as MRV, that partner with these major carriers require a significant commitment of working capital to fund these projects to maturity. The market is highly competitive and price sensitive requiring businesses to operate with a highly efficient support structure.
Markets Served
MRV primarily serves the following markets:
Telecommunications Service Providers
Our telecommunications service provider customer base includes international, national and regional telecommunications carriers, both wireline and wireless. Telecommunications service providers are under increasing competitive pressure, primarily from emerging competitors that offer similar services at competitive prices. Additionally, as the Internet has become ubiquitous and the consumers significantly more mobile, providers of content delivery and cloud-based services are driving the need for more flexible high bandwidth applications. Our products and services enable both established and emerging telecommunications service providers to transition their existing network infrastructures to deliver a broader mix of higher bandwidth services to consumers and enterprises. We provide products that enable telecommunications service providers to support consumer demand for video delivery, broadband data and video and wireless broadband services. Additionally, we enable these telecommunications service providers to sell wholesale services to each other thereby building wider network access for the end user.
Cable Operators/Multiple System Operators
Our customers include leading cable and multiple system operators in the United States and internationally. These customers rely upon us for a wide range of products including Carrier-grade, optical Ethernet transport and switching equipment. Our networking products allow our cable operator customers to integrate voice, video and data applications over a converged packet-optical infrastructure. This enables our customers to grow bandwidth capacity and lower the operational expense of supporting disparate networks. By enabling this network convergence, cable operators can expand their end user offerings to include high-value service bundles. Our products support key cable applications including broadcast video, Voice over Internet Protocol ("VoIP"), video on demand, broadband data services and services for enterprises.
Network Equipment Manufacturers
Our network equipment manufacturer customers incorporate our infrastructure management and automation products to increase the efficiency in the test lab environment enabling more tests in less time with fewer resources and with added flexibility.
Enterprise/Educational Institutions
Our enterprise customers include small to large commercial organizations from every industry with IT requirements, including end users in the healthcare, financial, retail, industrial and technology industries, as well as

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schools and universities. We offer equipment and services focused on key enterprise applications including data center connectivity, local area network ("LAN") consolidation and storage extension for business continuance and disaster recovery. Our products enable inter-site connectivity between data centers, sales offices, manufacturing plants, and research and development centers, using private fiber infrastructure or external service provider networks. We also enable our enterprise customers to meet increasing demand for high availability, globalization, and the spread of IT to distributed branches, by preventing unexpected downtime and improving the safety, security and availability of their IT infrastructure.

Government

Our government customers include federal, state and local agencies in the United States and internationally. Our customers include domestic and international defense agencies, public administrations and municipalities. Our solutions are used to provide high bandwidth, managed and flexible connectivity within their networks and to their end users.

Major Customers

As of December 31, 2012 and 2011, amounts due from Telecom Italia S.p.A. and FastWeb S.p.A., Network Integration segment customers, exceeded 10% of our gross accounts receivables. Revenue from FastWeb S.p.A., a Network Integration segment customer, exceeded 10% of our revenue in both 2012 and 2011.

Products and Services

We provide integrated secure network equipment and services connecting analog and digital data, voice, and video within buildings and across private networks located in multiple buildings such as college and corporate environments, and in metropolitan and regional long-haul networks. Our products and services include:
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Optical Transport products;
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Carrier Ethernet products;
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Network management products;
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Infrastructure management products; and
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Network integration and services.
Optical Transport Products
Optical Transport refers to the transmission of data signals through a fiber optic cable. One of the more common techniques utilized for Optical Transport optimization is WDM. Multiple wavelengths are combined, or multiplexed, utilizing different wavelengths of light as individual communications transport channels, and passed through a single optical fiber. MRV's Optical Transport portfolio addresses the rapidly increasing demand for transport capacity, multiple services and end-to-end management to the network optical edge enabling access, metro and long-haul optical communications. With the integration of WDM and Ethernet packet functionality, MRV is delivering advanced packet-optical transport solutions. MRV’s best-of-breed optical transport proposition provides a scalable and flexible Optical Transport solution with a robust and simplified system architecture that provides entry level access platforms to high-end solutions that can support up to a 160 wavelengths for a maximum transport capacity of 6.4 Tbps per fiber pair.
LambdaDriverTM is OCS’s premiere optical transport system for building high-performance enterprise access, metropolitan carrier and long haul transport networks. The LambdaDriver is a multi-functional, compact, modular WDM system that supports both dense and coarse WDM technology. LambdaDriver also serves as a packet optical transport system by integrating Carrier Ethernet connection-oriented services and ROADM for automated optical mesh topologies with wavelength-level switching. The LambdaDriver series can support data rates from 8 Mbps up to 40 Gbps with future upgrade-path to 100 Gbps.

The Fiber DriverTM optical multi-service product line provides a full range of services demarcation, media conversion, signal repeating and fiber-optimization solutions, including coarse and dense WDM capabilities. Both managed and unmanaged solutions are available, including rack-mount, modular systems and desktop systems. The Fiber Driver line includes several families of products with the flexibility for any type of optical or copper technology, covering virtually every protocol in use in networking today. With very low power consumption, the Fiber Driver optical

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multiservice platform consumes 20% - 30% less power than competing optical transport systems. In testing against industry power efficiency standards, the Fiber Driver achieves excellent ratings, making it one of the highest efficiency optical networking systems on the market.
Carrier Ethernet Products
Carrier Ethernet service growth is driven by the fact that many service providers and organizations seek to reduce their network costs and improve their service flexibility. Customers and service providers get a better per-bit cost for Ethernet services and enjoy the scalability over fiber optic network. The maturity of carrier Ethernet technology and massive infrastructure changes from legacy to next generation packet network requires highly intelligent demarcation and first mile aggregation equipment to serve both wireline and wireless/mobile services.
Our OptiSwitchTM family is an award-winning line of compact Carrier Ethernet switching platforms that range from the OptiSwitch 9000 metro Ethernet aggregation products to the OS900 demarcation series. OptiSwitch products offer service providers a full suite of carrier-grade Ethernet services along with high-availability, enhanced quality of service, security, time-division multiplexing circuit emulation and Ethernet operation, administration and maintenance ("OAM") support. This full suite of OAM tools creates flexible service awareness and rigid service level agreements ("SLAs"). OptiSwitch products meet IEEE, ITU, IETF industry standards and MEF specifications, offering complete control to simplify deployment and management while maintaining full interoperability and visibility into customer and provider networks.
Network Management
Service delivery infrastructure is transforming from the way services are provisioned for faster connectivity to more intelligent service awareness and control. MRV's Pro-Vision™, is a carrier-class service provisioning and management solution providing multi-layer application level visibility, intelligence and control. Pro-Vision provides real-time insights into higher layers that identifies applications, usage and trends and enables revenue generating services business models for service providers to differentiate and increase revenue. It provides a suite of applications and tools to create, provision, and fully manage large-scale Carrier Ethernet 2.0 network deployments powered by our OptiSwitch™, LambdaDriver™ and FiberDriver™ product families. Pro-Vision's state-of-the-art product suite is comprised of end-to-end service provisioning, powerful performance monitoring, including real-time and historical performance statistics collection for service, bandwidth utilization, and quality of service management. Pro-Vision offers a web-based customer portal that allows per customer monitor real-time service performance and SLA verification. Pro-Vision provides per-service fault detection, multi-user security levels, and site-wide maintenance. It supports a secured Web services-based northbound interface for interconnection with service provider and equipment vendor operations/business support systems ("OSS/BSS"). Pro-Vision is deployed by major Tier-1 carriers and service providers and enables large scale deployments with automated zero-touch provisioning along with rapid turn-up and service provisioning for reduced operational expense. Pro-Vision supports the software defined networking ("SDN") architecture enabling application awareness, control and intelligence to the applications with Open API and MRV's powerful MasterOS™ operating system software.
Infrastructure Management Products
Our Media Cross Connect™ ("MCC") family of products provides Layer 1 protocol-independent, transparent switching at speeds up to 10.7 Gbps. It supports a wide range of interface types enabling customized solutions for test lab or data center testing. Once wired to the various devices and test equipment, the MCC provides remote reconfiguration of test topologies. Capital expenses can be reduced by sharing expensive test equipment among users. As the cornerstone of full test automation, the MCC offers operational efficiency with the reduction of test time, minimized configuration errors and simplified yet accurate repeatability of tests.
Out-of-band LX Series
An out-of-band network leveraging our LX product line provides secure remote service port access and remote power control to devices in an organization's networks and infrastructures, including data centers, remote sites, and test labs. Rich security and management features are supported, in addition to distributed clustering, sophisticated automation capabilities, very strong encryption, and security certifications.
Network Integration and Services
We believe that pre-sales engineering and post-sales support services help reduce cost of ownership, support business goals and promote customer loyalty. Accordingly, we provide a broad range of service offerings including pre-sale network design, consultation, site-surveys, on-site installation, network integration, technical assistance, and

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specialist support. Post-sales support includes in-warranty as well as out-of-warranty repair and on-site maintenance. Our services include a choice of technical support services including around-the-clock response and managing services for fixed line, cable and mobile communications networks. We provide network system design, integration and distribution services that primarily based on products manufactured by third-party vendors. These services are provided by our Italian subsidiary.
Worldwide Sales and Marketing
As of December 31, 2012, our worldwide sales and marketing organization consisted of 87 employees, including sales representatives, technical support and management. We have field sales offices in more than 12 countries involved in the sales and distribution of our products, providing system installation, technical support, and follow-up services to end users of our products. Through the field sales offices, we sell our products and services both directly and through channel partners with support from their sales forces. Our channel partners include distributors, value-added resellers and system integrators. Outside the United States, we conduct operations in Argentina, Australia, Germany, Israel, Italy, the Netherlands, Russia, Thailand, the Philippines, Poland, Taiwan, and the United Kingdom.
Additionally, our Italian subsidiary sells and markets products manufactured by third-party vendors, supplied as part of our network integration and distribution services. They provide system design, network integration and post-sales support. These services enhance our ability to penetrate targeted vertical and regional markets. We believe that collaborating with successful third-party vendors in certain areas helps to provide growth opportunities beyond the targeted applications of our product lines.
We employ various methods, such as public relations, advertising, and trade shows in an effort to build awareness of our products and to establish our corporate MRV brand name, as well that of our Italian operating subsidiary, Tecnonet. We conduct our public relations activities both internally and through relationships with outside agencies. We focus on major public relations activities concentrated around new product introductions, corporate partnerships and other events of interest to the market. We supplement our public relations through media advertising programs, including electronic media and attendance at various trade shows worldwide throughout the year.
Competition
The communications equipment industry is intensely competitive. We compete directly with a number of established and emerging networking companies. Most of our competition in the Network Integration segment comes from other regional service providers in Italy such as Italtel S.p.A., Alpitel S.p.A., Maticmind S.p.A., NextiraOne Italia S.r.l., and Lutch S.p.A.
Our direct competitors in networking products, switches, routers and media converters generally include: ADVA Optical Networking, Alcatel-Lucent, Adtran, BATM Advanced Communications, BTI Systems, Inc., Canoga Perkins Corp., Ciena Corporation, Cisco Systems, Inc., Cyan, ECI Telecom Ltd., Ekinops, Ericsson, Extreme Networks, Fujitsu Limited, Huawei Technologies Ltd., Nokia Siemens Networks BV, Omnitron Systems Technology, Inc., Optelian, Inc., RAD Data Communications, Ltd., Tellabs, Inc., Transition Networks, Inc. and Transmode.
Many of our larger competitors offer customers a broader product line, which provides a more comprehensive networking solution than we provide. Accordingly, in certain regional markets we have collaborated with other vendors in an effort to enhance our overall capability in providing products and services.
We believe the principal competitive factors in the markets in which we compete include:
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Product performance, features, quality and price;
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A comprehensive range of complementary products and services;
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Customer service and technical support;
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Lead and delivery times;
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Timeliness of new product introductions;
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Global presence, including distribution network;
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Conformance to standards; and
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Brand name recognition.

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Product Development and Engineering
We believe that in order to maintain our technological competitiveness and to serve our customers better, we must enhance our existing products and continue to develop new products. Accordingly, our Network Equipment segment focuses a significant amount of resources on product development and engineering. Product development and engineering expenses were $15.3 million, $14.5 million, and $15.5 million for the years ended December 31, 2012, 2011, and 2010, respectively.
Financial information for each of the principal segments for revenue, measures of profit or loss and total assets, and breakdown by geographic regions, are included in Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations," and Item 8 "Financial Statements and Supplemental Data" of this Form 10-K.
Operations Manufacturing and Components
We outsource our board-level assembly and on some occasions, complete turnkey production, to independent contract manufacturers for our networking products, which include switches and optical transport platforms, remote device management products and networking physical infrastructure equipment. We believe outsourcing allows us to react more quickly to market demand, avoid the significant capital investment required to establish automated manufacturing and assembly facilities and concentrate resources on product design and development. Our in-house manufacturing operations for networking products primarily perform the functions of materials management, quality assurance, as well as inspection and final testing. Our manufacturing processes and procedures are generally ISO 9001 certified and so are those of our electronic manufacturing service providers.
Intellectual Property
To date, we have relied principally on a combination of patents, copyrights and trade secrets to protect proprietary technology. We have 17 U.S. patents and two foreign patents which expire between 2013 and 2026. In addition, we have four U.S. patent applications and one foreign patent application pending. However, we have not actively defended our patent portfolio in the past and do not consider our patents critical to our revenue stream. Our products rely principally on a combination of industry standard technology, our trade secrets, and software copyrights. Generally, we enter into confidentiality agreements with our employees and key suppliers and otherwise seek to limit access to and distribution of the source code to our software and other proprietary information. These steps may not be adequate to prevent misappropriation of our technologies, or a third party may independently develop technologies similar or superior to any that we possess.
Employees
As of December 31, 2012, MRV employed 414 full-time employees. Of these employees, 184 were in manufacturing, 90 were in product development and engineering, and 140 were in sales, marketing and general administration. Of these employees, 263 work in locations outside the United States.
We believe our employee relationships are satisfactory. We believe that our long-term success depends in part on our continued ability to recruit and retain qualified personnel. The risks associated with dependence on qualified personnel are more fully discussed under the heading "The loss of key management could negatively affect our business" in the "Risk Factors" section contained in Item 1A of this Form 10-K.
Revenue by Segment
Please refer to Note 14 Segment Reporting and Geographic Information of our Consolidated Financial Statements located in Item 8 of this Form 10-K for our revenue for the last three years by segment.

Internet Access to Our Financial Documents

We maintain a website at www.mrv.com. We make available on our website, free of charge, reports and proxy statements that we electronically file with or furnish to the SEC. We make the reports available on our website as soon as reasonably practicable after filing or furnishing such reports to the SEC. These reports include Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act. These reports are also available directly through the SEC's website at www.sec.gov.


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Item 1A.    Risk Factors.
The following risk factors and other information included in this Form 10-K should be carefully considered. The risks and uncertainties described below are not the only ones we face. Additional risks and uncertainties not presently known to us or which we currently deem immaterial also may impair our business operations. If any of the following risks occur, our business, financial condition, operating results, and cash flows could be materially adversely affected and the trading price of our Common Stock could decline.
We achieved profitability on a consolidated basis for the year ended December 31, 2012 but did not do so on a continuing operations basis, and may not achieve profitability in the future.
We did achieve profitability for the year ended December 31, 2012 on a consolidated basis due to the sale of certain of our subsidiaries, but did not do so on a continuing operations basis, and we expect to continue to incur significant product development, sales and marketing and general and administrative expenses, and costs related to improving manufacturing efficiency in the near term. As a result, we will need to continue our efforts to contain expense levels and increase revenue levels in an effort to achieve profitability in the future. We may not be successful in our efforts to contain expense levels and increase revenue levels, and we may not attain profitability on a sustained basis or at all.

Our operating results may be adversely impacted by worldwide economic and political uncertainties and specific conditions in the markets we address, including the cyclical nature of and volatility in the network equipment and network integration industries.

We operate in the network equipment and network integration industries. Our Network Integration business is concentrated in the Italian market, which has been experiencing a downturn for a significant period, and it is unknown when this market will recover, if at all. Our Network Equipment business is global, but has a significant presence in Europe which is also experiencing a downturn. Such downturns are characterized by decreases in product demand, excess customer inventories, and accelerated erosion of prices, and may be interspersed with, or followed by, significant and temporary increased demand in products. Further, these industries are cyclical and subject to rapid change and evolving industry standards. These factors could cause substantial fluctuations in our revenue, gross margins and results of operations, and may cause difficulty in predicting demand and short-term production needs. In addition, during these downturns some competitors become more aggressive in their pricing practices, which may adversely impact our product gross margins. Any downturns in the network equipment and network integration industries may be severe and prolonged or intermittent, and any failure to fully recover from downturns of these industries or the markets in which we operate could seriously impact our revenue and harm our business, financial condition and results of operations. The network equipment and network integration industries also periodically experience increased demand and production capacity constraints, which may affect our ability to ship products in a timely manner and may cause delivery time penalties. Accordingly, our operating results may vary significantly as a result of the general conditions in the network equipment and integration industries, which could cause large fluctuations in our stock price.

Many other factors have the potential to significantly impact our business, such as concerns about inflation and deflation, deterioration in credit availability due to economic downturns or instability on a local or global level, volatility in energy costs, decreased consumer confidence, reduced corporate profits and capital spending, adverse business conditions and liquidity concerns in the communications markets, reduced availability of insurance coverage or reduced ability to pay claims by insurance carriers, international conflicts and terrorist and military activity, and the impact of natural disasters and public health emergencies. These conditions may make it extremely difficult for our customers, our vendors and us to accurately forecast and plan future business activities, and they could cause U.S. and foreign businesses to reduce spending on our products and services, which would delay and lengthen sales cycles. Furthermore, during challenging economic times our customers may face issues gaining timely access to sufficient credit or could even need to file for bankruptcy. Either of these circumstances could result in an impairment of their ability to make timely payments to us. If these circumstances were to occur, we may be required to increase our allowance for doubtful accounts. Historically, our business does not come from the end customer directly, and we have experienced growth patterns that are different than what the end demand might be, particularly during periods of high volatility. This can manifest itself in periods of growth in excess of our customers' growth followed by periods of under-shipment before the volatility abates as our customers adjust their inventory levels. Given recent economic conditions it is possible that any correlation will continue to be less predictable and will result in increased volatility in our operating results and stock price. We cannot predict the timing, strength or duration of any economic slowdown or recovery, worldwide, in the network equipment and integration industries or in the markets in which we operate. If the economy or the markets in which we operate deviate from present levels or deteriorate, we may record additional charges related

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to restructuring costs and the impairment of goodwill and long-lived assets, and our business, financial condition and results of operations may be materially and adversely affected. Additionally, the combination of our lengthy sales to delivery cycle coupled with challenging macroeconomic conditions could have a synergistic negative impact on the results of our operations. The impact of market volatility is not limited to revenue but may also affect our product gross margins and other financial metrics. Such impact could be manifested in, but not limited to, factors such as fixed cost overhead absorption.

A few customers account for a substantial portion of our sales, increasing both our dependence on a few revenue sources and the risk that our operations will suffer materially if a significant customer stops ordering from us or substantially reduces its business with us.

One customer of the Network Integration segment accounted for 29%, 28% and 28% of total revenue for the years ended December 31, 2012, 2011 and 2010, respectively. The same customer in the Network Integration segment accounted for 21% and 14% of accounts receivable as of December 31, 2012 and 2011, respectively. Another customer of the Network Integration segment accounted for 9% and 30% of accounts receivable as of December 31, 2012 and 2011, respectively. While our financial performance benefited from substantial sales to these customers, because of the magnitude of sales to the customers, our results would suffer if we were to lose their business. Additionally, if those customers, or other significant customers, made substantial reductions in orders or stopped paying their invoices when due, our results of operations would suffer unless we were able to replace the orders or collect on the payments due. Both customers are major telecom companies operating predominately in Italy.

Our quarterly operating results are subject to significant fluctuations, and you should not rely on them as an indication of our future performance. Our operating results could fluctuate significantly from quarter to quarter and year to year.

Our operating results for a particular quarter are difficult to predict. Our revenue, gross margins and operating results could fluctuate substantially from quarter to quarter and from year to year as a whole, and within our business segments. This could result from any one or a combination of factors such as:

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the cancellation or postponement of orders from one period to the next;
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the timing and amount of significant orders;
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the mix in any period of higher and lower margin products and services;
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software, hardware or other errors in the products we sell requiring replacements or increased warranty reserves;
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charges for excess or obsolete inventory;
•
our annual reviews of other intangibles that may lead to impairment charges;
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the ability of our suppliers to produce and deliver components and parts, including sole or limited source components, in a timely manner, in the quantity and quality desired and at the prices we have budgeted;
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readiness of customer sites for installation;
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political stability in the areas of the world in which we operate;
•
price reductions that we make, such as marketing decisions that we have made in the past to reduce the price for our products in an effort to secure new customers or to provide competitive bulk discounts;
•
decreases in average selling prices of our products which result from factors such as overcapacity and market conditions, the introduction of new and more technologically advanced products, and increased sales discounts;
•
the relative success of our efforts to continually reduce product manufacturing costs;
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our introduction of new products, with initial sales at relatively small volumes with resulting higher production costs, and the rate of market acceptance of the products;
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delays or reductions in customer purchases of our products in anticipation of the introduction of new and enhanced products by us or our competitors;
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the timing of capital spending of our customers;
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currency fluctuations;
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the ability of our customers to pay for our products;
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general economic conditions; and
•
changes in conditions specific to our business segments.
Moreover, the volume and timing of orders we receive during a quarter are difficult to forecast. Customers often view the purchase of our products as a significant and strategic decision. As a result, customers typically expend significant effort in evaluating, testing and qualifying our products and our manufacturing process. This customer

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evaluation and qualification process frequently results in a lengthy initial sales cycle of up to one year or more. We may also expend significant management effort, increase manufacturing capacity and order long lead-time components or materials prior to receiving an order. Further, our customers encounter uncertain and changing demand for their products. Customers generally order based on their forecasts. If demand falls below these forecasts or if customers do not control inventories effectively, they may cancel or reschedule shipments previously ordered from us even after acceptance of orders. We do not recognize revenue until a product has been shipped to a customer, all significant vendor obligations have been performed, and collection is considered reasonably assured. Our expense levels during any particular period are based, in part, on expectations of future sales. If sales in a particular quarter do not meet expectations, our operating results could be materially adversely affected.
We expect revenue and gross margins generally and for specific products and services to continue to fluctuate from quarter to quarter and year to year. Changes in service gross margin may result from various factors such as changes in the mix between technical support services and advanced services, as well as the timing of support service contract initiations and renewals. It is possible that, in future periods, our results of operations will be below the expectations of public market analysts and investors. This failure to meet expectations could cause the trading price of our Common Stock to decline. Similarly, the failure by our competitors or customers to meet or exceed the results expected by their analysts or investors could, by association, cause our stock price to decline.

We are making significant investments in development and engineering and a process management system. These investments will negatively affect our short-term operating results, and may achieve delayed, or lower than expected, benefits which could harm our long-term operating results.
While we intend to focus on managing our costs and expenses, the investments in development and engineering and a process management system will impact our short-term operating results, as we are likely to recognize the costs associated with these investments earlier than some of the anticipated benefits, and the return on these investments may be lower, or may develop more slowly, than we expect. If we do not achieve the benefits anticipated from these investments, or if the achievement of these benefits is delayed, our long-term operating results may be adversely affected.

Competition is ever increasing, and we face additional challenges when entering into new markets which could reduce our revenue and gross margins or cause us to lose market share.
The network equipment and network integration industries are intensely competitive, and we must continually provide new products while dealing with increased price competition from low-cost producers in Asia or elsewhere. We are further looking to expand our provision of services, and the markets in which we currently offer our products and services. These efforts expose us to additional competition and will likely increase demands on our service and support operations.
Many of our competitors have significantly greater financial, technical, marketing, distribution, sales and customer support organizations and other resources and larger installed customer bases than we have. Our competitors continually introduce new competitive products, and may be able to devote greater resources to the development, promotion, sale and support of their products. They may also be able to leverage their buying power with vendors to give them preferential treatment in delivery of high-demand products in times of supply constraint. Many of our larger competitors offer customers broader product lines, which provide a more comprehensive networking solution than we provide. These companies can leverage their customer bases and broader product offerings and adopt aggressive pricing policies to gain market share. In addition, several of our competitors have large market capitalizations, have substantially larger cash reserves, and are much better positioned than we are to acquire other companies in order to gain new technologies or products that may displace our product lines and give them a strategic advantage. Accordingly, in certain regional markets we have collaborated with other vendors in an effort to enhance our overall capability in providing products and services, and we focus on consolidating our purchasing programs globally to improve purchasing power with vendors.
Additional competitors may enter the market, and we are likely to compete with new companies in the future, especially from the People's Republic of China ("PRC"). Companies competing with us may introduce products that are more competitively priced, have increased performance or functionality, or incorporate technological advances that we have not yet developed or implemented, and may be able to react more quickly to changing customer requirements and expectations. There is also the risk that other network system vendors may enter or re-enter the subsystem market and begin to manufacture in-house the networking subsystems incorporated into their network systems. We also expect to encounter potential customers that, because of existing relationships with our competitors, are committed to the products offered by these competitors. As a result of the foregoing factors, we expect that

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competitive pressures may result in price reductions, reduced or negative margins or loss of market share in our markets.
Our markets are subject to rapid technological change, and to compete effectively, we must continually introduce new products that achieve market acceptance.

The markets for our products are characterized by rapid technological change, frequent new product introductions, changes in customer requirements and evolving industry standards. We expect that new technologies will emerge as competition and the need for higher and more cost effective transmission capacity, or bandwidth, increases. Our future performance will depend on the successful development of new and enhanced products that address these changes and other customer requirements. The introduction of new and enhanced products may cause our customers to defer or cancel orders for existing products. We have in the past experienced delays in product development and these delays may occur in the future. Therefore, to the extent that customers defer or cancel orders in the expectation of a new product release or there is any delay in development or introduction of our new products or enhancements of our products, our operating results would suffer.

During each of the years ended December 31, 2012 and 2011, product development and engineering expenses accounted for 10% and 9% of revenue, respectively. In 2013, we are investing further in our engineering staff and the development of our product lines, and expect this expense to increase. Introduction of new products and product enhancements will require that we effectively transfer production processes from development to manufacturing and coordinate our efforts with those of our manufacturers and suppliers to achieve volume production rapidly. If we fail to transfer production processes effectively, develop product enhancements or introduce new products in sufficient quantities to meet the needs of our customers as scheduled, our net sales may be reduced and our business may be harmed. We also may not be able to develop the underlying core technologies necessary to create new products and enhancements, or to license these technologies from third parties. Product development delays may result from numerous factors, including:

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changing product specifications and customer requirements;
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difficulties in hiring and retaining necessary technical personnel;
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difficulties in reallocating engineering resources and overcoming resource limitations;
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difficulties with contract manufacturers;
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changing market or competitive product requirements; and
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unanticipated engineering complexities.
The development of new, technologically advanced products is a complex and uncertain process requiring high levels of innovation and highly skilled engineering and development personnel, as well as the accurate anticipation of technological and market trends. In order to compete, we must be able to deliver to customers products that are highly reliable, operate with their existing equipment, lower their costs of acquisition, installation and maintenance, and provide an overall cost-effective solution. We may not be able to identify, develop, manufacture, market or support new or enhanced products successfully, if at all, or on a timely basis. Further, our new products may not gain market acceptance or we may not be able to respond effectively to product announcements by competitors, technological changes or emerging industry standards. Our failure to respond effectively to technological changes would significantly harm our business.
Our products are deployed in large and complex systems and may contain defects that are not detected until after our products have been installed, which may cause us to incur significant costs, divert our attention from product development efforts, or damage our reputation and cause us to lose customers.
Our products are complex and undergo internal quality testing and qualification as well as formal qualification by our customers. However, defects may be found from time to time. Our customers' testing procedures are limited to evaluating our products under likely and foreseeable failure scenarios and over varying amounts of time. For various reasons, including among others, the occurrence of performance problems that are unforeseeable in testing or that are detected only when products age or are operated under peak stress conditions, our products may fail to perform as expected long after customer acceptance. Failures could result from faulty components or design, problems in manufacturing or other unforeseen reasons. As a result, we could incur significant costs to repair and/or replace defective products under warranty, particularly when such failures occur in installed systems. We have experienced such failures in the past and will continue to face this risk going forward, as our products are widely deployed throughout the world in multiple demanding environments and applications. In addition, we may in certain circumstances honor warranty claims after the warranty period has expired or for problems not covered by warranty in order to maintain customer relationships. We believe that our warranty reserves adequately address our potential exposure to liability

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for warranty claims. Our warranty reserves are based on historical return rates, and our average material costs incurred to repair items, including labor costs. The warranty reserves are evaluated and adjusted based on updated actual experience.

In addition, certain of our networking products are typically embedded in, or deployed in conjunction with, our customers' products, which incorporate a variety of components and may be expected to interoperate with modules produced by third parties. As a result, not all defects are immediately detectable and when problems occur, it may be difficult to identify the source of the problem. These problems may cause us to incur significant damages or warranty and repair costs, divert the attention of our engineering personnel from our product development efforts, cause significant customer relation problems or loss of customers, and harm our reputation and brand, any of which could materially and adversely affect our business.

Our customers may adopt alternate technologies for which we do not produce products or for which our products are not adaptable.

The market for our products is characterized by rapidly changing technology, evolving industry standards and new product introductions, which may minimize the demand for our existing products or render them obsolete. Our future success will depend in part upon our ability to enhance existing products and to develop and introduce new products that address such changes in technology and standards and respond to our customers' potential desire to adopt such technologies in place of those supported by our current product offerings. The development of new or enhanced products is a complex and uncertain process requiring the accurate anticipation of technological and market trends as well as precise technological execution. Further, the development cycle for products integrating new technologies or technologies with which we are not as familiar may be longer and more costly than our current product development process. We may experience difficulties that could delay or prevent the successful development, introduction and marketing of these new products, and the new products may not be successfully commercialized. These costs and delays may prevent us from being able to establish a market position with respect to such new technologies and industry standards or be as responsive as we would like to be in meeting our customers' demands for such products, thus adversely affecting our results of operations and our customer relationships.

We do not have many long-term volume purchase contracts with our customers, so our customers may increase, decrease, cancel or delay their purchasing levels at any time with minimal advance notice to us, which may significantly harm our business.

Our customers typically purchase our products pursuant to individual purchase orders. While our customers generally provide us with their demand forecasts, in most cases they are not contractually committed to buy any quantity of products beyond firm purchase orders. Our customers may increase, decrease, cancel or delay purchase orders already in place. If any of our major customers decrease, stop or delay purchasing our products for any reason, our business and results of operations would be harmed. Cancellation or delays of such orders may cause us to fail to achieve our short- and long-term financial and operating goals. Lead times for components and materials that we order vary significantly and depend on factors including the specific supplier requirements, the size of the order, contract terms and current market demand for components. For substantial increases in our sales levels, some of our suppliers may need significant lead time. In the past, during periods of market downturns, certain of our largest customers canceled or delayed significant orders with us and with our competitors, which resulted in losses of sales and excess and obsolete inventory. Similarly, decreases or deferrals of purchases by our customers may significantly harm our industry and specifically our business in these and in additional unforeseen ways, particularly if they are not anticipated.

We may suffer losses as a result of entering into fixed price contracts.

From time to time we enter into contracts with certain customers in which the price we charge for particular products is fixed. Although our estimated production costs for these products are used to compute fixed sales prices, if actual production costs exceed the estimated production costs because of our inability to obtain needed components timely, or at all, or we cannot continue to cut costs in production and have incrementally decreased future fixed prices, we may incur a loss on the sale. Sales of material amounts of products on a fixed price basis, for which we have not accurately forecast the production costs, could have a material adverse effect on our results of operations.

We face risks in reselling the products of other companies.

We distribute products manufactured by other companies. To the extent we succeed in reselling the products of these companies, or products of other vendors with which we may enter into similar arrangements, we may be required

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by customers to assume warranty and service obligations and to make intellectual property representations. While these suppliers have agreed to support us with respect to those obligations and indemnify us against third party claims of intellectual property infringement, if they should be unable, for any reason, to provide the required support or indemnification, we may have to expend our own resources on doing so. We are unable to evaluate fully the potential magnitude of these claims as the equipment has been designed and manufactured by others.

There are a limited number of potential source suppliers for certain components, which makes us susceptible to supply shortages.

We currently purchase several key components from single or limited sources. Moreover, we depend on the quality of the products supplied to us, over which we have limited control. We have encountered shortages and delays in obtaining components in the past and expect to encounter shortages and delays in the future. Sudden significant increases in demand for products which we purchase may cause delays in delivery of subcomponents, which may cause delay in delivery of our products. Larger competitors may be able to demand more rapid delivery of components parts in comparison to us. If we cannot supply products due to a lack of certain components or are unable to redesign products with other components in a timely manner, our business will be significantly harmed.

We typically have not entered into long-term agreements with our suppliers and, therefore, our suppliers could stop supplying materials and equipment at any time or fail to supply adequate quantities of component parts on a timely basis. It is difficult, costly, time consuming and, on short notice, sometimes impossible for us to identify and qualify new component suppliers. The reliance on a sole supplier, single qualified vendor or limited number of suppliers could result in delivery and quality problems, reduced control over product pricing, reliability and performance. We may have difficulty in identifying and qualifying another supplier in a timely manner. We have in the past had to change suppliers, which, in some instances, has resulted in delays in product development and manufacturing until another supplier was found and qualified. Any such delays in the future may limit our ability to respond to changes in customer and market demands. During the last several years, the number of suppliers of components has decreased significantly and, more recently, demand for components has increased. Any supply deficiencies relating to the quality or quantities of components we use to manufacture our products could adversely affect our ability to fulfill customer orders and our results of operations.

We rely substantially upon a limited number of contract manufacturing partners, and if these contract manufacturers fail to meet our short- and long-term needs and contractual obligations, our business may be negatively impacted.

We rely to a significant extent on a limited number of contract manufacturers to test, assemble and manufacture our products. The qualification and set up of these independent manufacturers under quality assurance standards is an expensive and time-consuming process. Our reliance upon third party manufacturers could expose us to increased risks related to lead times, continuity of supply, on-time delivery, quality assurance, and compliance with environmental standards and other regulations. Reliance upon third party manufacturers also exposes us to significant risks related to their operations, financial position, business continuity, sourcing relationships and labor relationships that may affect their manufacturing of our products including their continued viability. Product manufacturing with our contract manufacturing partners principally takes place in the United States, Israel and Canada. Significant disruptions in these and other countries where our products or key components are manufactured, including natural disasters, epidemics, acts of war or terrorism, social or political unrest or work stoppages, could affect the cost, availability or allocation of supply and manufacturing capacity and negatively affect our business and results of operations. As a result, we may lose existing or potential customers or orders and our business may be negatively impacted.

If we fail to forecast component and material requirements accurately, we could incur additional costs or experience manufacturing delays.

We use rolling forecasts based on anticipated product orders to determine our component and material requirements. It is very important that we accurately predict both the demand for our products and the lead times required to obtain the necessary components and materials. Lead times for components and materials that we order vary significantly and depend on factors such as specific supplier requirements, the size of the order, contract terms and current market demand for the components. For substantial increases in production levels, some suppliers may need six months or more lead time. If we overestimate our component and material requirements, we may have excess or obsolete inventory, which may not get used or have to be discounted to eliminate. If we underestimate our component and material requirements, we may have inadequate inventory, which could interrupt our manufacturing and delay delivery of our products to our customers. Any of these occurrences would negatively impact our revenue.

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Changes in key management and loss of highly qualified personnel could negatively affect our business.

Our ability to run our operations, develop, manufacture and market our products, and compete with our current and future competitors depends in large part on our ability to attract and retain qualified personnel. We have had a succession of chief executive officers and other executive management in the recent past, and maintaining consistency and providing structure and reliability to the Company's employees and our customers and vendors will be important for the Company's ability to produce reliable financial results. We are dependent upon our management team, especially in places where personal relationships are a significant part of a business transaction. We do not have succession plans in every key position, and the loss of the services of these officers could have a material adverse effect on our operations. Further, competition for highly-qualified engineers in the network equipment and integration industries is intense, and we will be required to compete for those personnel with companies having substantially greater financial and other resources than we do. If we do not attract necessary team members to operate our business and build our products, our business could be materially adversely affected.

We have concluded our strategic sale process, and have adopted a strategic plan which includes retaining our OCS Network Equipment business and Italian Network Integration subsidiary. There can be no assurance that we will successfully operate and grow our remaining businesses. Further, the sale of several of our subsidiaries in the recent past pursuant to our prior strategic process could increase our litigation exposure.

We had previously announced that we were undergoing a review of strategic alternatives for the Company as a whole or in part, and we have sold off several subsidiaries in the past few years. We are now focusing on a strategy to retain, build and invest in our remaining businesses. The strategy could create concerns and uncertainty among our customer base and among our employees regarding the Company's future, and may impact our strategy to grow and invest in the business successfully. Further, with our strategic sales process completed, we can give no assurance that our new strategic plan of retaining our remaining Network Equipment and Network Integration businesses will provide greater value to our stockholders than that reflected in the current stock price.

As part of our prior strategic process, we completed the sale of our former Scandinavian and French subsidiaries, Alcadon and Interdata in October 2012, our Swiss subsidiary, CES, in March 2012, and we have sold several other subsidiaries in the prior two years. The Company has ongoing indemnification obligations with respect to the sold entities, and merger and sale activity in general correlates with higher litigation risk. We have not received any claims for indemnification under the applicable sale agreements governing the subsidiary sales, nor are there any litigation claims outstanding related to the sale activities.

Our business and future operating results are subject to a wide range of uncertainties arising out of the international nature of our operations and facilities that could adversely affect our results of operations.

International sales accounted for 62.0%, 63.0% and 65.0% of revenue for the years ended December 31, 2012, 2011 and 2010, respectively.

We have offices and facilities in, and conduct a significant portion of our operations in and from, Israel and Italy. We are, therefore, influenced by the political and economic conditions affecting these countries. Risks we face from international sales and our use of facilities and suppliers overseas for manufacturing include:

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ensuring compliance with local regulations and laws in each country and locality in which we do business;
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greater difficulty in accounts receivable collection and longer collection periods;
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the impact of recessions in economies outside the United States;
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changes in regulatory requirements;
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seasonal reductions in business activities in some parts of the world, such as during the summer months in Europe;
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difficulties in managing operations across disparate geographic areas;
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difficulties associated with enforcing agreements through foreign legal systems;
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the payment of operating expenses in local currencies, which exposes us to risks of currency exchange rate fluctuations;
•
higher credit risks requiring cash in advance or letters of credit;
•
potentially adverse tax consequences, increasing taxes, and heightened efforts by officials of foreign countries to increase revenue from tax collection;

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•
unavailability or delays in delivery of equipment, raw materials or key components;
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trade restrictions, tariff increases and increasing import-export duties;
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shipping delays;
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limited protection of intellectual property rights;
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tightening immigration controls that may adversely affect our ability to hire new non-U.S. employees in our U.S. facilities; and
•
increasing foreign environmental regulation or unforeseen environmental problems.

Our business and operations are also subject to general geopolitical conditions, such as terrorism, political and economic instability, changes in the costs of key resources such as crude oil and changes in diplomatic or trade relationships. Economic conditions in several countries and markets outside the United States in which we have offices, personnel, facilities or sales represent significant risks to us. Instability in the Middle East, PRC or European Union could have a negative impact on our sales and operations in these regions, and unstable conditions could have a material adverse effect on our business and results of operations. In addition to the effect of global economic instability on our operations or facilities on sales to customers outside the United States, sales to domestic customers could be negatively impacted by these conditions.

Our operating results are impacted by foreign exchange rates and interest rate fluctuations.

Our interest income and expense is impacted by fluctuations in interest rates. Changes in foreign exchange rates impact us in four ways. Several of our foreign business units have a functional currency other than the U.S. dollar. The amount of revenue, expenses, assets and liabilities measured in U.S. dollars is impacted by changes in exchange rates. Our revenue and profits were negatively impacted in 2012 and positively affected in 2011 because of the fluctuations of the U.S. dollar relative to the currencies in which these business units report their results. Further, fluctuations in currency exchange rates can and do cause our products to become relatively more expensive in particular countries, leading to a reduction in sales in that country. The proportion of our costs incurred in various currencies varies from the proportion of revenue denominated in that currency which may materially impact our gross margins. Some of our accounts receivable, cash balances, accounts payable, credit lines, and other assets and liabilities are denominated in currencies other than the related business unit's functional currency. Increases or decreases in the expected amount of cash flow result in foreign exchange gains or losses which impact our profitability. We currently do not have any hedging or swap agreements in place other than intra-quarter currency hedges at one of our subsidiaries. Where possible, we attempt to denominate sales in countries in which we do business in the local currency, to match the proportion of cost and revenue transacted in each currency, and to match the assets and liabilities held in each currency which helps to reduce foreign exchange rate exposure to some degree. We could incur losses from the lack of hedging activities in the future. In addition, inflation or fluctuations in currency exchange or interest rates in any of the countries that we do business could increase our operating expenses and thereby adversely affect our results of operations.

Our ability to utilize our NOLs and certain other tax attributes may be limited.

 As of December 31, 2012, MRV had federal, state and foreign net operating losses, or NOLs, of $173.7 million, $112 million and $90.8 million, respectively and $110.3 million and $47.1 million of federal and state capital loss carryforwards. Under Section 382 of the Internal Revenue Code, if a corporation undergoes an "ownership change," the corporation's ability to use its pre-change NOLs, capital loss carry forwards and other pre-change tax attributes to offset its post-change income, may be limited. An ownership change is generally defined as a greater than 50% change in its equity ownership by value over a three-year period. We may experience an ownership change in the future as a result of subsequent shifts in our stock ownership. If we were to trigger an ownership change in the future, our ability to use any NOLs and capital loss carry forwards existing at that time could be limited.

Our business and future operating results may be adversely affected by events outside of our control.

We use our facilities in California, Massachusetts and Israel for major product design and development and customer support, and we manufacture products at our facilities and through third-party manufacturers in California, Israel, Taiwan and Canada. The risk of earthquakes in Southern California is significant because of the proximity of these manufacturing facilities to major earthquake fault lines. In January 1994, major earthquakes near Chatsworth, California affected our facilities, causing power and communications outages and disruptions that impaired production capacity. While our facility did not suffer material damage and our business was not materially disrupted by this earthquake, the occurrence of an earthquake or other natural disaster could result in the disruption of our manufacturing facilities. Any disruption in our manufacturing facilities arising from earthquakes, other natural disasters or other

16

catastrophic events including fire, excessive rain, terrorist attacks and wars, could disrupt our manufacturing ability, which could harm our operations and financial results, and could cause significant delays in the production or shipment of our products until we are able to shift production to different facilities or arrange for third parties to manufacture our products. We may not be able to obtain alternate capacity on favorable terms or at all. The location of our manufacturing facilities subjects us to increased risk that a natural disaster could disrupt our operations.

Although we believe our insurance coverage is adequate to address the variety of potential liabilities we face, our insurance coverage is subject to deductibles and coverage limits. Upon an occurrence of a significant natural disaster, or manmade problems such as computer viruses, civil war, terrorism, blackout or disruptions to the economies of the United States and other countries, such coverage may not be adequate or continue to be available at commercially reasonable rates and terms. In the event of a major earthquake or other disaster affecting one or more of our facilities, our operations could be significantly disrupted, delayed or prevented for the time required to transfer production, repair, rebuild or replace the affected manufacturing facilities. This time frame could be lengthy, and result in significant expenses for repair and related costs. In addition, concerns about an outbreak of epidemic diseases such as avian or swine influenza or severe acute respiratory syndrome, could have a negative effect on travel and our business operations, and result in adverse consequences to our business and results of operations.

Environmental regulations applicable to our manufacturing operations could limit our ability to expand or subject us to substantial costs. Compliance with current and future environmental regulations may be costly which could impact our future operating results.

We are subject to a variety of environmental regulations relating to the use, storage, discharge and disposal of hazardous chemicals used during our development and manufacturing processes, as are the third parties who manufacture our products. Further, we are subject to other safety, labeling and training regulations as required by foreign, local, state and federal law. We believe we are compliant in all material respects with applicable environmental regulations in the United States, Taiwan and Israel, and are in the process of obtaining information to comply with the conflict mineral reporting regulations that will impact the filing of our next annual report. However, any failure by us or our contract manufacturers to comply with present and future regulations could subject us to future liabilities or the suspension of production. In addition, such regulations could restrict our ability to expand our facilities and we may need to acquire costly equipment or incur other significant expenses to comply with environmental regulations. We cannot provide assurance that legal requirements will not be imposed on us that would require additional capital expenditures or the satisfaction of other requirements. If we fail to obtain required permits or make adequate reporting submissions, or otherwise fail to operate within current or future legal requirements, including those applicable to us in the countries in which we manufacture our products, we may be required to pay substantial penalties, suspend our operations, or make costly changes to our development and manufacturing processes or facilities.

In addition, we could face significant costs and liabilities in connection with legislation which enables customers to return a product at the end of its useful life and charges us with financial and other responsibility for environmentally safe collection, recycling, treatment and disposal. We also face increasing complexity in our product design and procurement operations as we adjust to new and upcoming requirements relating to the materials composition of our products, and disclosure related to the origin of certain raw materials used in our products. This includes the restrictions on lead and certain other substances in electronics that apply to specified electronics products put on the market in the European Union and the PRC. Many of our customers have adopted this approach and have required our full compliance. Even though we have devoted a significant amount of resources and effort planning and executing our compliance program and believe that we are in compliance with such legislation, it is possible that some of our products might be incompatible with such regulations. In such event, we could experience loss of revenue, damaged reputation, diversion of resources, monetary penalties and legal action. Other environmental regulations may require us to re-engineer our products to utilize components that are more environmentally compatible. Such re-engineering and component substitution may result in additional costs to us. Although we currently do not anticipate any material adverse effects based on the nature of our operations and the effect of such laws, there is no assurance that such existing laws or future laws will not have a material adverse effect on us.

Our business is dependent upon the proper functioning of our internal business processes and information systems and modification or interruption of such systems may disrupt our business, processes and internal controls.

We rely upon a number of internal business processes and information systems to support key business functions and the efficient operation of these processes and systems is critical to our business. We are in the process of implementing an enterprise resource planning (“ERP”) system that allows the financial and other business functions

17

to interact and scale to support the growth of our business. The implementation of the ERP system is costly and imposes substantial demands on management time, and may be disruptive to our operations. Further, it will require changes in our information systems, modification of internal control procedures and training of employees or third party resources. Our information technology systems, and those of third party providers, may also be vulnerable to damage or disruption caused by circumstances beyond our control. These include catastrophic events, power anomalies or outages, natural disasters, computer system or network failures, viruses or malware, physical or electronic break-ins, unauthorized access and cyber-attacks affecting our systems or those of third party business partners. Any material disruption, malfunction or similar challenges with our business processes or information systems, or disruptions or challenges relating to the transition to new processes, systems or providers, could have a material adverse effect on the operation of our business and our results of operations.

If we fail to protect our intellectual property, we may not be able to compete.

We rely on a combination of trade secret laws and restrictions on disclosure and patents, copyrights and trademarks to protect our intellectual property rights. We cannot be sure that our pending patent and trademark applications will be approved, that any patents or trademarks that may be issued will protect our intellectual property or that third parties will not challenge any issued patents. Other parties may independently develop similar or competing technology or design around any patents that may be issued to us. We cannot be certain that the steps we have taken will prevent the misappropriation of our intellectual property, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States. Specifically there is a risk of poor enforcement of intellectual property rights in the PRC, where the validity, enforceability and scope of protection of intellectual property is uncertain and still evolving. Policing unauthorized use of proprietary technology is difficult and expensive. Reverse engineering, unauthorized copying or other misappropriation of our proprietary technologies could enable competitors, especially in the PRC, to benefit from our technologies without paying us any royalties. Enforcing our intellectual property rights or resolving intellectual property disputes may involve litigation. Any of this kind of litigation, regardless of outcome, could be expensive and time consuming, and adverse determinations in any of this kind of litigation could seriously harm our business.

We are involved in intellectual property disputes from time to time as part of doing business in the network equipment industry, which could divert management's attention, cause us to incur significant costs, and prevent us from selling or using the challenged technology.

Participants in the network equipment markets in which we sell our products have experienced litigation regarding patent and other intellectual property rights. Numerous patents in these industries are held by others, including our competitors. From time to time, we have become aware of the possibility or have been notified that we may be infringing certain patents or other intellectual property rights of others, and we have been involved in litigation matters regarding intellectual property right claims of others in the past. In addition, we may be a party to litigation to protect our intellectual property. These claims and any resulting lawsuits, if successful, could subject us to significant liability for damages or invalidation of our proprietary rights, and there can be no assurance that we will be successful in our defense and, even if we are successful, we may incur substantial legal fees and other costs in defending such lawsuits. Any lawsuit that we may become party to, regardless of its success, may be time-consuming and expensive to resolve and divert technical and management time and attention. Accordingly, any infringement claim or litigation against us could significantly harm our business, operating results and financial condition. In the event of an adverse result in any litigation with respect to intellectual property rights relevant to our products, we could be required to obtain licenses to the infringing technology, to pay substantial damages under applicable law, to cease the manufacture, use and sale of infringing products, or to expend significant resources to develop non-infringing technology. Licenses may not be available from third parties either on commercially reasonable terms or at all.

Data breaches and cyber-attacks could compromise our intellectual property or other sensitive information and cause significant damage to our business and reputation.
 
In the ordinary course of our business, we maintain sensitive data on our networks, including our intellectual property and proprietary or confidential business information relating to our business and that of our customers and business partners. The secure maintenance of this information is critical to our business and reputation. We believe that companies in the technology industry have been increasingly subject to a wide variety of security incidents, cyber-attacks and other attempts to gain unauthorized access. Our network and storage applications may be subject to unauthorized access by hackers or breached due to operator error, malfeasance or other system disruptions. In some cases, it is difficult to anticipate or immediately detect such incidents and the damage caused thereby. These data breaches and any unauthorized access or disclosure of our information, could compromise our intellectual property

18

and expose sensitive business information. Cyber-attacks could also cause us to incur significant remediation costs, disrupt key business operations and divert attention of management and key information technology resources. These incidents could also subject us to liability, expose us to significant expense, or cause significant harm to our reputation.

We are involved in various derivative litigation suits due to past stock option granting practices, and the related restatement of our prior financial results which negatively affects our financial results and diverts management and Board attention from the management of our business.

In connection with our past stock option grant practices, we, and a number of our former directors and officers, have been subjected to a number of ongoing lawsuits. A description of the litigation is set forth in Item 3. "Legal Proceedings" of this Form 10-K. Although we have entered into a Stipulation of Settlement with the other parties to the litigation, it has not yet been accepted by the courts, and as a result of this litigation, we have been and remain subject to a number of risks, including the following, each of which could result in a material adverse effect to our business, financial condition and results of operations and/or a negative effect on the market for our stock: (i) potential indemnification obligations for our former directors and officers related to the litigation; (ii) costs in effectuating on-going or additional remediation actions; and (iii) diversion of the time and attention of members of our management and Board of Directors from the management of our business.

We are involved in other lawsuits and legal proceedings, which, if determined against us, could require us to pay substantial damages, fines and/or penalties.

We are involved in various lawsuits, disputes and claims, arising in the ordinary course of business. These suits or actions may raise complex factual and legal issues and are subject to uncertainties. Actions filed against us could include product liability, commercial, intellectual property, customer, employment and securities related claims, including class action lawsuits. Plaintiffs (or defendants who counterclaim) may seek unspecified damages or injunctive relief, or both. Although we carry product liability and other insurance, and believe such coverage is adequate based on the historical rate and nature of customer product quality claims or complaints, we cannot provide assurance that this insurance would adequately cover our costs arising from any significant defects in our products. Adverse results to any lawsuits, disputes or claims may harm our business and have material adverse effects on our results of operations, liquidity or financial position, any or all of which could adversely affect our stock price.

Failure to achieve and maintain internal controls in accordance with Sections 302 and 404 of the Sarbanes-Oxley Act of 2002 could have a material adverse effect on our business and stock price.
    
We have examined and evaluated our internal control procedures to satisfy the requirements of Section 404 of the Sarbanes-Oxley Act of 2002, and found no material weaknesses for the years ended December 31, 2012 and 2011. However, in 2009, we restated our financial statements for the year ended December 31, 2008, and had two material weaknesses due to the restatement. We had another material weakness in the year ended December 31, 2009, and another in the fourth quarter of 2011, which was remediated by year end, however five significant deficiencies still remained at year end. For the year ended December 31, 2012, we had no material weaknesses, and reduced the number of significant deficiencies to one. If we fail to maintain the internal controls we implemented, or fail to implement required new or improved controls, as such control standards are modified, supplemented or amended from time to time, or as our business changes, we may not be able to conclude on an ongoing basis that we have effective internal controls over financial reporting. Effective internal controls are necessary for us to produce reliable financial reports and are important in the prevention of financial fraud. If we cannot produce reliable financial reports or prevent fraud, our business and operating results could be harmed, investors may lose further confidence in our reported financial information, and there could be a material adverse effect on our stock price.

Failure to comply with the U.S. Foreign Corrupt Practices Act or the U.K. Bribery Act could subject us to penalties and other adverse consequences. We could suffer losses from corrupt or fraudulent business practices.

We are subject to the U.S. Foreign Corrupt Practices Act ("FCPA"), and potentially the U.K. Bribery Act, each of which generally prohibits companies from engaging in bribery or making other prohibited payments to foreign officials for the purpose of obtaining or retaining business. In addition, we are required to maintain records that accurately and fairly represent our transactions and have an adequate system of internal accounting controls. Foreign companies, including some that may compete with us, are not subject to these prohibitions, and therefore may have a competitive advantage over us. We have implemented and maintained preventative measures and policies, but cannot assure that our employees or other agents will not engage in such conduct and render us responsible under the FCPA. If our

19

employees or other agents are found to have engaged in these practices, we could suffer severe penalties and other consequences that may have a material adverse effect on our business, financial condition and results of operations.

Delaware law and our ability to issue preferred stock may have anti-takeover effects that could prevent a change in control, which may cause our stock price to decline.

We are authorized to issue up to 1,000,000 shares of Preferred Stock. This Preferred Stock may be issued in one or more series, the terms of which may be determined at the time of issuance by our Board of Directors without further action by stockholders. The terms of any series of preferred stock may include voting rights (including the right to vote as a series on particular matters), preferences as to dividend, liquidation, conversion and redemption rights and sinking fund provisions. No preferred stock is currently outstanding. The issuance of any preferred stock could materially adversely affect the rights of the holders of our Common Stock, and therefore reduce the value of our Common Stock. In particular, specific rights granted to future holders of preferred stock could be used to restrict our ability to merge with, or sell our assets to, a third party and thereby preserve control by the present management. We are also subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which prohibit us from engaging in a business combination with an interested stockholder for a period of three years after the date of the transaction in which the person became an interested stockholder unless the business combination is approved in the manner prescribed under Section 203. These provisions of Delaware law also may discourage, delay or prevent someone from acquiring or merging with us, which may cause the market price of our Common Stock to decline.

There is no assurance of an established public trading market for our Common Stock, which would adversely affect the ability of investors in our Company to sell their Common Stock in the public markets.

Our Common Stock was delisted from trading on the NASDAQ Global Market in August 2009, and while we meet the requirement for relisting, we have not done so at this time. At present, the OTCQB Marketplace is the only public market where investors can trade our Common Stock. The OTCQB Marketplace is an inter-dealer electronic quotation and trading system that provides significantly less liquidity and daily trading volume than a national securities exchange or automated quotation system. In the absence of an active trading market, investors may have difficulty buying and selling or obtaining market quotations, and the lack of liquidity for our Common Stock may have a depressive effect on the market for our Common Stock.

Because this Form 10-K contains forward-looking statements, it may not prove to be accurate.

This Form 10-K and other Company releases and filings with the SEC may contain forward-looking statements. We generally identify forward-looking statements using words like "believe," "intend," "expect," "may," "should," "plan," "project," "contemplate," "anticipate," "target," "estimate," "foresee," "goal," "likely," "will" or similar statements. Because these statements reflect our current views concerning future events, they involve risks, uncertainties and assumptions, including the risks and uncertainties identified in this report. Actual results may differ significantly from the results discussed in these forward-looking statements. We do not undertake to update any forward-looking statements or risk factors to reflect future events or circumstances.

Item 1B.    Unresolved Staff Comments.
There are no unresolved written comments that were received from the SEC's staff 180 days or more before the end of the Company's fiscal year relating to our periodic or current reports filed under the Exchange Act.


20

Item 2.    Properties.
Our properties consist of leased facilities for product development, manufacturing, sales, support, and administrative operations. Our largest offices are located in Chatsworth, CA and Chelmsford, MA in the United States, in Rome, Italy and in Yokneam, Israel. The Rome office is for Tecnonet in our Network Integration segment, and the other facilities are for our Network Equipment business. We believe that our existing properties are in good condition and suitable for the conduct of our business. Should the need arise, we believe that suitable replacement and additional space will be available in the future on commercially reasonable terms subject to force majeure conditions. For additional information regarding obligations under operating leases, see Note 9 to the Consolidated Financial Statements located in Item 8 of this Form 10-K.

Item 3.    Legal Proceedings.
We are subject to legal claims and litigation in the ordinary course of business, including but not limited to product liability, employment and intellectual property claims. The outcome of any such matters is currently not determinable. In addition, we are party to the litigation set forth below, and if one or more of the matters listed below or otherwise is ultimately determined not in our favor, it could have a material adverse effect on our consolidated financial position or results of operations in the period in which they occur.

In connection with the Company's past stock option grant practices, MRV and certain of its former directors and officers have been subjected to a number of stockholder lawsuits. In June 2008, the Company announced that our Board of Directors, based on information provided by management, and in consultation with management, concluded that the financial statements and the related reports of our independent public accountants should not be relied upon due to the Company's intention to restate its financial results from 2002 through 2008 to correct its accounting for option grants and other issues. The Board of Directors appointed a Special Committee of independent directors, along with independent legal counsel and outside accounting experts, to investigate the issues, and a restatement of the Company's financial statements was filed in its Annual Report on Form 10-K for the year ended December 31, 2008 in October 2009.

From June to August 2008, five purported stockholder derivative and securities class action lawsuits were filed in the U.S. District Court in the Central District of California and one derivative lawsuit was filed in the Superior Court of the State of California against the Company and certain of our former officers and directors. The five lawsuits filed in the Central District of California were consolidated. Claims were asserted under Section 10(b) and 20(a) of the Exchange Act, and Rule 10b-5 promulgated thereunder. In November 2010, the judge overseeing the securities class action lawsuits gave final approval to a stipulated $10 million settlement agreement, which was covered by our director and officer insurance policies. 

 As of January 4, 2013, litigation in the federal and state derivative actions has been stayed pending court approval of a proposed settlement between the derivative plaintiffs, individual defendants and the Company. On March 1, 2013 the parties filed a Stipulation of Settlement (the "Stipulation") with the federal court, and the plaintiffs filed a motion for preliminary approval of the Stipulation. There can be no assurance that either the federal or state court will approve the Stipulation. The Stipulation includes, among other things, (a) a release of all claims relating to the derivative lawsuits for the Company, the individual defendants and the plaintiffs; (b) a provision that $2.5 million in cash be paid to the Company by the Company's insurance carriers; (c) payment of attorney's fees to plaintiffs' counsel including $500,000 in cash and 250,000 five-year term warrants to purchase the Company's Common Stock; and (d) the continued payment by the Company of applicable reasonable attorneys' fees for the individual defendants. Within 120 days following the later of the issuance of an order approving the Settlement by the federal District Court, or the end of the period available for appeal, the Company would be required to take certain corporate governance reform actions, many of which have already been implemented.

From time to time, MRV has received notices from third parties alleging possible infringement of patents with respect to product features or manufacturing processes. Management believes such notices are common in the communications industry because of the large number of patents that have been filed on these subjects. The Company's policy is to discuss these notices with the parties in an effort to demonstrate that MRV's products and/or processes do not violate any patents. The Company has been involved in such discussions with Alcatel-Lucent SA, Apcon, Inc., Finisar Corporation, International Business Machines, Mediacom Broadband LLC, Ortel Communications, Ltd., Nortel Networks Corporation, Rockwell Automation, Inc. and The Lemelson Foundation in the past.


21

The results of any litigation are inherently uncertain, and there can be no assurance that we will prevail in the litigation matters stated above or otherwise. We plan to pursue our claims and defenses vigorously and expect that some of the litigation matters discussed above will be protracted and costly.

Item 4.    Mine Safety Disclosures.
Not applicable.

PART II

Item 5.    Market for the Company's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Market Information and Holders
Our Common Stock was traded on the NASDAQ Global Market under the symbol "MRVC" until June 16, 2009. MRV is currently trading on the OTCQB Marketplace. Over-the-counter quotations reflect interdealer prices, without retail mark-up, mark-down, or commission and may not necessarily represent actual transactions. The following table sets forth the high and low sales prices for the periods indicated:
 
 
High
 
Low
Year Ended December 31, 2012
 
 
 
 
First quarter ending March 31
 
$
21.60

 
$
17.00

Second quarter ending June 30
 
$
22.00

 
$
12.60

Third quarter ending September 30
 
$
13.40

 
$
9.60

Fourth quarter ending December 31
 
$
12.00

 
$
9.40

Year Ended December 31, 2011
 
 
 
 
First quarter ending March 31
 
$
38.00

 
$
30.00

Second quarter ending June 30
 
$
31.40

 
$
24.00

Third quarter ending September 30
 
$
30.40

 
$
22.40

Fourth quarter ending December 31
 
$
28.00

 
$
16.00

As of February 28, 2013, the closing price of our Common Stock was $10.90 per share, and there were approximately 2,485 stockholders of record.
Dividends
The payment of dividends on our Common Stock is within the discretion of our Board of Directors. On May 1, 2012, the Company's Board of Directors declared a special dividend totaling approximately $47.3 million, or $6.00 per share of the Company's Common Stock. The dividend was paid on May 25, 2012 to holders of record as of the close of business on May 16, 2012.

On December 3, 2012, the Company's Board of Directors declared a special dividend totaling approximately $10.6 million, or $1.40 per share of the Company's Common Stock. The dividend was paid on December 21, 2012 to holders of record as of the close of business on December 14, 2012.

On October 20, 2011, the Board of Directors declared a $75.0 million special dividend, representing approximately $9.60 per share, which was paid on November 10, 2011.
Our Board of Directors regularly evaluates its capital position to consider the return of cash to stockholders. We have not paid a regular dividend and do not currently have plans to begin paying a regular dividend.

22

Equity Compensation Plans
The table below sets forth information with respect to shares of Common Stock that may be issued under our stock option plans as of December 31, 2012.
Plan Category
 
Number of securities
issuable upon
exercise of
outstanding options
 
Weighted
average
exercise price
of outstanding
options
 
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
 
 
(a)
 
(b)
 
(c)
Equity compensation plans approved by security holders (1)
 
229,432

 
$
32.75

 
327,077

Equity compensation plans not approved by security holders (2)
 
193,101

 
$
38.81

 
 
Total 
 
422,533

 
$
35.52

 
327,077

_____________________________
(1)
Includes shares underlying options granted or available for grant under the 2007 Omnibus Incentive Plan, as amended, (the "Omnibus Plan") and one of its predecessors, the 1997 Incentive and Nonstatutory Stock Option Plan.
(2)
Includes (a) a grant of 87,500 to Dilip Singh, a former chief executive officer, on his July 1, 2010 hire date, and (b) shares underlying options or awards granted under the 2003 Non-Director and Non-Executive Officer Consolidated Long-Term Stock Incentive Plan (the "Consolidated Plan").
In 2007, MRV's stockholders approved the Omnibus Plan to consolidate MRV's two outstanding equity compensation plans including (a) MRV's expiring 1997 Incentive and Nonstatutory Stock Option Plan, under which all employees, officers, directors and consultants were eligible to participate, and it was submitted to and approved by stockholders, and (b) the Consolidated Plan which was not submitted to or approved by stockholders as neither the NASDAQ qualification standards nor federal law or regulation required such approval at the time the Consolidated Plan was adopted. On October 11, 2012, MRV's stockholders approved an amendment to the Omnibus Plan to eliminate the sub-limit of the number of shares of restricted shares and performance and other stock-based awards that have otherwise previously been authorized for issuance under the plan and to incorporate additional stockholder-friendly revisions to the plan. They also re-approved the material terms of the plan relating to the performance-based awards in order to enable the Company to satisfy applicable tax law requirements.
Upon adoption of the Omnibus Plan, no further shares were available for future grants of options or warrants under its predecessor plans including shares that became and become available as a consequence of the cancellation or forfeiture of outstanding options granted under such plans.
Performance Graph
The chart below compares the five-year cumulative total return, assuming the reinvestment of dividends, on MRV's Common Stock with that of the NASDAQ Composite Index, and the RDG SmallCap Technology Index. The graph assumes $100 was invested on December 31, 2007, in our Common Stock and the companies in each of the NASDAQ Composite Index, and the RDG SmallCap Technology Index. The stock price performance shown in the graph below should not be considered indicative of potential future stock price performance.

23

 
 
Cumulative Total Return
 
 
2007
 
2008
 
2009
 
2010
 
2011
 
2012
MRV Communications, Inc. 
 
100.00

 
33.20

 
30.62

 
77.19

 
56.69

 
55.38

NASDAQ Composite
 
100.00

 
59.03

 
82.25

 
97.32

 
98.63

 
110.78

RDG SmallCap Technology
 
100.00

 
53.51

 
74.86

 
94.66

 
74.41

 
71.91



24

Issuer Purchases of Equity Securities

The following table sets forth information regarding our repurchases of our Common Stock during the last quarter of 2012.
Period
Total Number of Shares Purchased
Average Price Paid per Share
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs
Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs
October 1 to October 31, 2012
—
N/A
N/A
N/A
November 1 to November 30, 2012
—
N/A
N/A
N/A
December 1 to December 31, 2012 (1)
40,305
$10.88
40,305
$9,561,482
Total
40,305
$10.88
40,305
$9,561,482

(1) On December 3, 2012 the Company announced that the Board of Directors approved a repurchase of shares of Common Stock of the Company in an amount up to $10 million under a share repurchase program. The program expires December 31, 2013.
Item 6.    Selected Financial Data.
        The following data should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements and Notes thereto, in Items 7 and 8, respectively, of this Form 10-K in order to fully understand factors that may affect the comparability of the financial data.
        The following selected balance sheet data as of December 31, 2012 and 2011 and selected statement of operations data for each of the three years in the period ended December 31, 2012, 2011 and 2010 are derived from our audited financial statements included in Item 8 of this Form 10-K. The selected balance sheet data as of December 31, 2010, 2009 and 2008 and selected statement of operations data for the years ended December 31, 2009 and 2008 are derived from the selected financial data contained in Item 6 of MRV's 2011 Annual Report on Form 10-K, adjusted for discontinued operations.
On March 29, 2012, we sold all of the issued and outstanding capital stock of CES, which was part of our Network Equipment segment. We have reclassified the historical financial results of CES as discontinued operations in all periods presented. The historical results do not necessarily indicate results expected for any future period.
On October 12, 2012, we sold all of the issued and outstanding capital stock of Alcadon, which was part of our Network Integration segment. We have reclassified the historical financial results of Alcadon as discontinued operations in all periods presented. The historical results do not necessarily indicate results expected for any future period.

On October 16, 2012, we sold all of the issued and outstanding capital stock of Pedrena, which was part of our Network Integration segment. We have reclassified the historical financial results of Pedrena as discontinued operations in all periods presented. The historical results do not necessarily indicate results expected for any future period.

 
 
Year ended December 31,
(in thousands, except per share amounts)
 
2012
 
2011
 
2010
 
2009
 
2008
Statements of Operations Data:
 
 
 
 
 
 
 
 
 
 
Revenues
 
$
151,661

 
$
157,068

 
$
163,461

 
$
150,435

 
$
171,406

Cost of sales
 
96,509

 
95,394

 
95,720

 
92,781

 
105,943

Gross profit
 
55,152

 
61,674


67,741


57,654


65,463

Operating expenses:
 
 
 
 
 
 
 
 
 
 
Product development and engineering
 
15,344

 
14,486

 
15,462

 
16,154

 
17,228


25

Selling, general and administrative
 
48,599

 
50,905

 
50,664

 
52,631

 
63,824

Impairment of goodwill
 
1,056

 
—

 
—

 
—

 
—

Total operating expenses
 
64,999

 
65,391


66,126


68,785


81,052

Operating income (loss)
 
(9,847
)
 
(3,717
)

1,615


(11,131
)

(15,589
)
Other income (expense), net
 
1,659

 
(826
)
 
(1,238
)
 
22,908

 
1,786

Income (loss) from continuing operations before income taxes
 
(8,188
)
 
(4,543
)
 
377

 
11,777

 
(13,803
)
Provision for income taxes
 
(1,013
)
 
(1,191
)
 
(468
)
 
2,064

 
2,093

Income (loss) from continuing operations
 
(7,175
)
 
(3,352
)
 
845

 
9,713

 
(15,896
)
Income (loss) from discontinued operations, net
 
12,839

 
(3,474
)
 
49,935

 
(8,313
)
 
(107,209
)
Net income (loss)
 
5,664

 
(6,826
)
 
50,780

 
1,400

 
(123,105
)
Less:
 
 
 
 
 
 
 
 
 
 
Net income (loss) attributable to noncontrolling interests, continuing operations
 
—

 
—

 
2,089

 
1,757

 
40

Net income attributable to noncontrolling interests, discontinued operations
 
—

 
—

 
—

 
47

 
59

Net income (loss) attributable to MRV
 
$
5,664

 
$
(6,826
)
 
$
48,691

 
$
(404
)
 
$
(123,204
)
Net income (loss) from continuing operations attributable to MRV
 
$
(7,175
)
 
$
(3,352
)
 
$
(1,244
)
 
$
7,956

 
$
(15,936
)
Net income (loss) from discontinued operations attributable to MRV
 
$
12,839

 
$
(3,474
)
 
$
49,935

 
$
(8,360
)
 
$
(107,268
)
Net income (loss) attributable to MRV per share — basic:
 
 
 
 
 
 
 
 
 
 
From continuing operations
 
$
(0.92
)
 
$
(0.43
)
 
$
(0.16
)
 
$
0.39

 
$
0.39

From discontinued operations
 
$
1.64

 
$
(0.44
)
 
$
6.34

 
$
0.81

 
$
0.81

Net income (loss) attributable to MRV per share — basic (1)
 
$
0.72

 
$
(0.87
)
 
$
6.18

 
$
1.20

 
$
1.20

Net income (loss) attributable to MRV per share — diluted:
 
 
 
 
 
 
 
 
 
 
From continuing operations
 
$
(0.92
)
 
$
(0.43
)
 
$
(0.16
)
 
$
0.39

 
$
0.39

From discontinued operations
 
$
1.64

 
$
(0.44
)
 
$
6.30

 
$
0.81

 
$
0.81

Net income (loss) attributable to MRV per share — diluted (1)
 
$
0.72

 
$
(0.87
)
 
$
6.14

 
$
1.20

 
$
1.20

Basic weighted average shares
 
7,813

 
7,878

 
7,878

 
7,877

 
7,866

Diluted weighted average shares
 
7,817

 
7,878

 
7,921

 
7,883

 
7,866

 
 
 
 
 
 
 
 
 
 
 
Cash dividend declared per share
 
$
7.40

 
$
9.60

 
$
—

 
$
—

 
$
—

 
 

 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
December 31,
(in thousands)
 
2012
 
2011
 
2010
 
2009
 
2008
Selected Balance Sheet Data:
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents
 
$
40,609

 
$
58,590

 
$
125,598

 
$
22,154

 
$
42,089

Working capital
 
69,111

 
116,420

 
192,756

 
122,669

 
111,648

Total assets
 
128,565

 
230,689

 
326,866

 
400,819

 
392,886

Total long-term liabilities
 
5,184

 
6,676

 
9,393

 
7,322

 
9,272

Additional paid-in capital
 
1,281,170

 
1,337,935

 
1,410,234

 
1,405,015

 
1,403,663

Accumulated deficit
 
(1,201,515
)
 
(1,207,178
)
 
(1,200,352
)
 
(1,249,043
)
 
(1,248,639
)

26

Total stockholders' equity
 
72,901

 
142,214

 
221,101

 
177,070

 
171,811

_________________________________
(1)
Amounts may not add due to rounding.

Item 7.    Management's Discussion and Analysis of Financial Condition and Results of Operations.
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the Consolidated Financial Statements and Notes thereto included in Item 8 of this Form 10-K. In addition to historical information, the discussion in this Form 10-K contains certain forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated by these forward-looking statements. We assume no obligation to update any of the forward-looking statements after the date of this Form 10-K. The following discussion and analysis is organized as follows:
•
Overview
•
Critical Accounting Policies
•
Recently Issued Accounting Standards
•
Currency Rate Fluctuations
•
Results of Operations
•
Liquidity and Capital Resources
•
Off Balance Sheet Arrangements
Overview
We supply communications equipment and services to carriers, governments and enterprise customers worldwide. We conduct our business along two principal segments: (a) the Network Equipment segment; and (b) the Network Integration segment. We evaluate segment performance based on the revenues, gross profit and operating expenses of each segment. We do not evaluate segment performance on additional financial information. As such, there are no separately identifiable Statements of Operations data below operating income. Our Network Equipment segment provides communications equipment that facilitates access, transport, aggregation and management of voice, data and video traffic in networks, data centers and laboratories used by telecommunications service providers, cable operators, enterprise customers and governments worldwide. Our Network Integration segment operates primarily in Italy, servicing Tier One carriers, regional carriers, large enterprises, and government institutions. The Network Integration segment provides network system design, integration and distribution services that include products manufactured by third-party vendors. We market and sell our products worldwide, through a variety of channels, which include a dedicated direct sales force, manufacturers' representatives, value-added-resellers, distributors and systems integrators.

On October 26, 2010, the Company sold all of the issued and outstanding capital stock of its wholly-owned subsidiaries Source Photonics, Inc. and Source Photonics Santa Clara, Inc. (together “Source Photonics"). We recognized a gain of $37.5 million in 2010 on the sale of Source Photonics.

On May 6, 2011, we sold all of the issued and outstanding capital stock of three wholly-owned operating subsidiaries, TurnKey Communications AG, TurnKey Services AG, and Elcoma AG (together “TurnKey"). We recognized a loss of $3.4 million in 2011 on the sale of TurnKey.

On March 29, 2012, the Company completed the sale of all of the issued and outstanding capital stock of its wholly-owned subsidiary CES. The sale was completed pursuant to a Stock Purchase Agreement, dated as of December 2, 2011, with CES Holding SA, as purchaser, represented for purpose of the Agreement by Vinci Capital Switzerland SA. The purchase agreement and sale of CES were approved by the Company's stockholders at the Company's annual meeting of stockholders held on January 9, 2012. We recognized a gain of $5.8 million in 2012 on the sale of CES.

On October 12, 2012, the Company completed the sale of all of the shares of its wholly-owned subsidiary Alcadon pursuant to a Stock Purchase Agreement, dated as of September 11, 2012 with Deltaco Aktiebolag, a public corporation

27

organized under the laws of Sweden. The Alcadon Purchase Agreement and sale of Alcadon were approved by the Company's stockholders at the Company's annual meeting of stockholders held on October 11, 2012. We recognized a gain of $4.5 million in 2012 on the sale of Alcadon.

On October 16, 2012, the Company completed the sale of its subsidiary Pedrena Enterprises B.V., a Dutch company ("Pedrena"). Pedrena is the parent company of Interdata, which is in turn, the parent company of J3TEL. The sale was completed pursuant to a Share Purchase Agreement, dated as of August 1, 2012 with IJ Next, a French "société par actions simplifiée," as purchaser, a subsidiary of the French company, Holding Baelen Gaillard. We recognized a gain of $2.6 million in 2012 on the sale of Pedrena.

We have reclassified the historical results of Source Photonics, TurnKey, CES, Alcadon, and Pedrena as discontinued operations in this Form 10-K for all periods presented. Accordingly, the related assets and liabilities of TurnKey, CES, Alcadon and Pedrena have been classified as assets and liabilities from discontinued operations in the December 31, 2011 Balance Sheet and the net income or loss of Source Photonics, TurnKey, CES, Alcadon, and Pedrena prior to their dispositions has been classified as income or loss from discontinued operations. Cash flows from discontinued operations are presented combined with the cash flows from continuing operations in the accompanying Statement of Cash Flows. See Note 3 "Discontinued Operations" to the Financial Statements in Item 8 of this Form 10-K for further discussion.

Our business involves reliance on foreign-based offices. Several of our divisions, outside subcontractors and suppliers are located in foreign countries, including Argentina, Australia, Germany, Israel, Italy, the Netherlands, Russia, Thailand, the Philippines, Poland, Taiwan, and the United Kingdom. For the years ended December 31, 2012, 2011 and 2010, foreign revenue constituted 62%, 63% and 65%, respectively, of our total revenue. The majority of our foreign sales are to customers located in the European region, with remaining foreign sales primarily to customers in the Asia Pacific region.

In 2010, our customers resumed investments in their networks to meet the growth in consumer and enterprise use of high-bandwidth communications services. This improvement contributed to 12% revenue growth in 2010. In 2011, we saw some contraction in some markets which led to more modest growth overall. In 2012, we continued to see contraction in the Americas and Europe that were exacerbated by falling exchange rates. These unfavorable results were partially offset with growth in the Asia Pacific.

During 2012, we declared two special dividends to stockholders totaling $58.0 million. Our Board of Directors considered the Company's liquidity and capital needs prior to declaring each of the dividends, and determined the $58.0 million to be excess capital. We believe that after the dividends, the Company continues to have ample capital to meet our expected capital needs. At the end of 2012, we had $40.6 million in cash and cash equivalents and $5.3 million in short-term debt.

Critical Accounting Policies

Our discussion and analysis of the Company's financial condition and results of operations are based upon the financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). We follow accounting standards set by the Financial Accounting Standards Board (“FASB”) to ensure we consistently report our financial condition, results of operations, and cash flows in conformity with GAAP. References to GAAP issued by the FASB in this Form 10-K are to the FASB Accounting Standards of Codification.

The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. We believe that the estimates, assumptions and judgments involved in the accounting policies described below have the greatest potential impact on our financial statements, so we consider these to be our critical accounting policies. Because of the uncertainty inherent in these matters, actual results could differ from the estimates we use in applying the critical accounting policies. Certain of these critical accounting policies affect working capital account balances, including the policies for revenue recognition, allowance for doubtful accounts, inventory reserves and income taxes. These policies require that we make estimates in the preparation of our financial statements as of a given date.

Within the context of these critical accounting policies, we are not currently aware of any reasonably likely events or circumstances that would result in materially different amounts being reported.


28

Revenue Recognition.    Our major revenue-generating products consist of switches and routers, and physical layer products. We generally recognize product revenue, net of sales discounts, returns and allowances, in accordance with ASC 605 Revenue Recognition, when persuasive evidence of an arrangement exists, delivery has occurred and all significant contractual obligations have been satisfied, the fee is fixed or determinable and collection is considered reasonably assured. Products are generally shipped "FOB shipping point," with no right of return and revenue is recognized upon shipment. If revenue is to be recognized upon delivery, such delivery date is tracked through information provided by the third party shipping company we use to deliver the product to the customer. Our Network Integration business unit resells third party products. We recognize revenue on these sales on a gross basis, as a principal, because we are the primary obligor in the arrangement, we are exposed to inventory and credit risk, we negotiate the selling prices, and we sell the products as part of a solution in which we provide services. Sales of services and system support are deferred and recognized ratably over the contract period in accordance with ASC 605-20 Services. Sales to end customers with contingencies, such as rights of return, rotation rights, conditional acceptance provisions and price protection, are infrequent and insignificant and are deferred until the contingencies have been satisfied or the contingent period has lapsed. For sales to distributors, we generally recognize revenue when product is sold to the distributor rather than when the product is sold by the distributor to the end user. In certain circumstances, distributors have limited rights of return, including stock rotation rights, and/or are entitled to price protection, where a rebate credit may be provided to the customer if we lower our price on products held in the distributor's inventory. We estimate and establish allowances for expected future product returns and credits in accordance with ASC 605. We record a reduction in revenue for estimated future product returns and future credits to be issued to the customer in the period in which revenue is recognized, and for future credits to be issued in relation to price protection at the time we make changes to our distributor price book. We monitor product returns and potential price adjustments on an ongoing basis and estimate future returns and credits based on historical sales returns, analysis of credit memo data, and other factors known at the time of revenue recognition.

We generally warrant our products against defects in materials and workmanship for 90 days to three year periods. The estimated cost of warranty obligations and sales returns and other allowances are recognized at the time of revenue recognition based on contract terms and prior claims experience.

Accounting for Multiple-Element Arrangements entered into prior to January 1, 2011. Arrangements with customers may include multiple deliverables involving combinations of equipment, services and software. In accordance with ASC 605-25 Multiple-Element Arrangements, the entire fee from the arrangement is allocated to each respective element based on its relative fair value and recognized when revenue recognition criteria for each element is met. Fair value for each element is established based on the sales price charged when the same element is sold separately. If multiple element arrangements include software or software-related elements, we apply the provisions of ASC 985-605 Software to the software and software-related elements, or to the entire arrangement if the software is essential to the functionality of the non-software elements.

Accounting for Multiple-Element Arrangements entered into or materially altered after January 1, 2011. In October 2009, the FASB amended ASC 605-25 and ASC 985 and we adopted the amendments prospectively effective January 1, 2011. In accordance with the amendments, we allocate arrangement consideration at the inception of the arrangement to all deliverables using the relative selling price method. The selling price we use for each deliverable is based on (a) vendor-specific objective evidence if available; (b) third-party evidence if vendor-specific objective evidence is not available; or (c) estimated selling price if neither vendor-specific objective evidence nor third-party evidence is available. We allocate discounts in the arrangement proportionally on the basis of the selling price of each deliverable. In accordance with the amendments, we no longer apply the software revenue guidance in ASC Subtopic 985-605 to tangible products containing software components and non-software components that function together to deliver the tangible product's essential functionality.

Allowance for Doubtful Accounts. We make ongoing estimates relating to the collectability of our accounts receivable and maintain a reserve for estimated losses resulting from the inability of customers to meet their financial obligations to us. In determining the amount of the reserve, we consider our historical level of credit losses and make judgments about the creditworthiness of significant customers based on ongoing credit evaluations. Because we cannot precisely predict future changes in the financial stability of our customers, actual future losses from uncollectible accounts may differ from our estimates. If the financial condition of our customers deteriorate, resulting in their inability to make payments, a larger reserve may be required. In the event we determine that a change in the allowance is appropriate, we would record a credit or a charge to selling, general and administrative expense in the period in which we make such a determination.


29

Concentration of Credit Risk.    Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash and cash equivalents placed with high credit quality institutions and accounts receivable due from customers. We perform ongoing credit evaluations of our customers and maintain reserves for potential credit losses.

Inventory.    We make ongoing estimates relating to the market value of inventories, based upon our assumptions about future demand and market conditions. If we estimate that the net realizable value of our inventory is less than the cost of the inventory recorded on our books, we record an adjustment to the cost basis equal to the difference between the cost of the inventory and the estimated net realizable market value. This adjustment is recorded as a charge to cost of goods sold, and includes estimates for excess quantities and obsolete inventory. If changes in market conditions result in reductions in the estimated market value of our inventory below previous estimates, we would make further adjustments in the period in which we make such a determination and record a charge to cost of goods sold. At the time of recording the adjustment, a new, lower cost basis for that inventory is established, and subsequent changes in facts and circumstances do not result in the restoration of, or increase in, that newly established cost basis.

Goodwill and Other Intangibles. Goodwill represents the excess purchase price over amounts assigned to tangible or identifiable intangible assets acquired and liabilities assumed from our acquisitions. In accordance with ASC 350 Intangibles-Goodwill and Other, we do not amortize goodwill and intangible assets with indefinite lives, but instead measure these assets for impairment at least annually. We also test goodwill for impairment between annual tests if an event occurs or circumstances change that could potentially reduce the fair value of the reporting unit below its carrying value.

Our annual assessment considers economic conditions and trends, estimated future operating results, and anticipated future economic conditions. We determine the fair value of each reporting unit using a discounted cash flow based valuation methodology. To validate reasonableness of the valuation, we reconcile the sum of the fair values across all reporting units to the Company's market capitalization as of the valuation date. The first step is to compare the fair value of the reporting unit with the unit's carrying amount, including goodwill. If this test indicates that the fair value is less than the carrying value, then step two is required to compare the implied fair value of the reporting unit's goodwill with the carrying amount of the reporting unit's goodwill. A non-cash goodwill impairment charge would have the effect of decreasing our earnings or increasing our losses in such period. See Note 4 "Goodwill and Other Intangibles" to the Financial Statements in Item 1 of this Form 10-K for further discussion.
  
Software Development Costs. In accordance with ASC 985-20 Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed, development costs related to software products are expensed as incurred until the technological feasibility of the product has been established. Technological feasibility occurs when a working model is completed or a detail program design exists. After technological feasibility is established, additional costs are capitalized.

MRV believes its process for internally developed software is essentially completed concurrent with the establishment of technological feasibility, and, accordingly, no software development costs for internally developed software have been capitalized to date.

Income Taxes. As part of the process of preparing our financial statements, we estimate the income taxes in each of the jurisdictions in which we operate. This process involves estimating the current income tax exposure together with assessing temporary differences resulting from differing treatment of items, such as deferred revenue, for income tax and accounting purposes. These differences result in deferred income tax assets and liabilities, which are included in our Balance Sheets. We assess the likelihood that our deferred income tax assets will be recovered from future taxable income and, to the extent we believe that recovery is not likely, we establish a valuation allowance. To the extent we establish a valuation allowance or increase this allowance in a period, we include an expense within the income tax provision in the Statements of Operations.

We utilize significant management judgment to determine the provision for income taxes, deferred income tax assets and liabilities, including uncertain tax positions, and any valuation allowance recorded against net deferred income tax assets. Management periodically evaluates the deferred income tax assets as to whether it is likely that the deferred income tax assets will be realized. We establish a valuation allowance on the deferred income tax asset at the time we determine the asset is not likely to be realized. If we later determine that it is more likely than not that a deferred tax asset will be realized, we release the valuation allowance and record a credit within the Statements of Operations.


30

Share-Based Compensation.    We determine the fair value of stock options using the Black-Scholes valuation model as permitted under ASC 718 Compensation - Stock Compensation. The assumptions used in calculating the fair value of share-based payment awards represent our best estimates. Our estimates may be impacted by certain variables including stock price volatility, employee stock option exercise behaviors, additional stock option grants, estimates of forfeitures, and the related income tax impact. (See Note 12 “Share-Based Compensation” to the Consolidated Financial Statements in Item 8 of this Form 10-K for further discussion.)

Currency Rate Fluctuations

Changes in the relative values of non-U.S. currencies to the U.S. dollar affect our results. We conduct a significant portion of our business in foreign currencies, including the euro, the Taiwan dollar and the Israeli new shekel. For the year ended December 31, 2012 and 2011, 62% and 63% of revenue, respectively, and 36% and 34% of operating expenses, respectively, were incurred at subsidiaries with a reporting currency other than the U.S. dollar. For the year ended December 31, 2012, these currencies were stronger against the U.S. dollar compared to the year ended December 31, 2011, so revenue and expenses in these currencies translated into more dollars than they would have in the prior period. The Company's Taiwan subsidiary, Appointech, Inc., is included in its Network Equipment segment that also includes OCS. Relative to OCS the revenues and related operating gross profit and operating expenses are not material and the change in foreign currency does not have a material impact on the results for the year ended December 31, 2012 compared to 2011. Additional discussion of foreign currency risk and other market risks is included in Part I, Item 3 “Quantitative and Qualitative Disclosures About Market Risk” of this Form 10-K.


Management Discussion Snapshot

The following table sets forth, for the periods indicated, certain consolidated and segment Statements of Operations data (dollars in thousands):

 
Year ended December 31,
 
2012
 
2011
 
2010
 
 
$
 
% (1)
 
$
 
% (1)
 
$
 
% (1)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Revenue (1) (2)

$151,661

 
100
 %
 

$157,068

 
100
 %
 

$163,461

 
100
%
 
Network Equipment segment
87,727

 
58

 
96,166

 
61

 
96,514

 
59

 
Network Integration segment
72,421

 
48

 
76,436

 
49

 
80,209

 
49

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gross profit (3)
55,152

 
36

 
61,674

 
39

 
67,741

 
41

 
Network Equipment segment
43,325

 
49

 
49,423

 
51

 
52,222

 
54

 
Network Integration segment
11,832

 
16

 
12,659

 
17

 
15,718

 
20

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Operating expenses (4)
64,999

 
43

 
65,391

 
42

 
66,126

 
40

 
Network Equipment segment
42,228

 
48

 
44,884

 
47

 
46,663

 
48

 
Network Integration segment
7,318

 
10

 
6,624

 
9

 
7,884

 
10

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Operating income (loss) (3) (4)
(9,847
)
 
(6
)
 
(3,717
)
 
(2
)
 
1,615

 
1

 
Network Equipment segment
1,096

 
1

 
4,539

 
5

 
5,559

 
6

 
Network Integration segment
4,514

 
6

 
6,036

 
8

 
7,833

 
10

 
 
 
 
 
 
 
 
 
 
 
 
 
 
___________________________________
(1)
Consolidated Statements of Operations data and segment revenue data express percentages as a percentage of consolidated revenue. Other Statements of Operations data by segment express percentages as a percentage of applicable segment revenue.
(2)
Revenue information by segment includes intersegment revenue reflecting sales of network equipment to the Network Integration segment.
(3)
Consolidated gross profit data reflects adjustments for intersegment eliminations.
(4)
Consolidated operating expenses include corporate unallocated operating expenses.


31

Discontinued Operations

On October 16, 2012, the Company completed the sale of its subsidiary, Pedrena. The sale was completed pursuant to a Share Purchase Agreement, dated as of August 1, 2012 (the "Interdata Purchase Agreement") with IJ Next, a French "société par actions simplifiée," as purchaser. The purchaser was a wholly-owned subsidiary of the French company Holding Baelen Gaillard ("HBG").
 
The purchase price was 14.6 million euros ($19.0 million) and was paid in cash at closing by HBG to the Company. Cash proceeds to the Company were subject to closing costs of approximately $0.8 million. In addition to the Interdata Purchase Agreement, the Company and purchaser entered into a Representations and Warranties Agreement on August 1, 2012 (the "Representation and Warranties Agreement") related to the transaction which included customary representations, warranties, covenants and indemnification obligations. The Interdata Purchase Agreement, Representations and Warranties Agreement and sale of Interdata were approved by the Company's stockholders at the Company's annual meeting of stockholders held on October 11, 2012.

The statements of operations for the years ended December 31, 2012, 2011 and 2010 that would have been included if Pedrena had not been sold and the assets and liabilities of Interdata that are reflected in the balance sheet as of December 31, 2011 consisted of (in thousands):
Year ended December 31:
2012
2011
2010
Revenue

$27,602


$38,282


$33,507

Income (loss) before income taxes
(3,175
)
3,432

3,070

Provision for income taxes
(244
)
2,045

1,011

Income (loss) from operations of discontinued operations
(2,931
)
1,387

2,059

Gain on sale of Interdata, net of income taxes of $623

$5,542

—

—

Net income (loss) from discontinued operations, net of income taxes
2,611


$1,387


$2,059


Year ended December 31:
December 31, 2011
Cash and cash equivalents

$6,370

Accounts receivable, net
13,173

Inventories
1,554

Other current assets
1,115

Total current assets
22,212

Property and equipment, net
2,369

Goodwill
2,057

Other assets
260

Total assets

$26,898

Accounts payable

$4,191

Accrued liabilities
3,942

Other current liabilities
3,382

Non-current liabilities
380

Total liabilities

$11,895

 
 

On October 12, 2012, the Company completed the sale of all of the shares of its wholly-owned subsidiary Alcadon pursuant to a Stock Purchase Agreement, dated as of September 11, 2012 (the "Alcadon Purchase Agreement") with Deltaco Aktiebolag, a public corporation organized under the laws of Sweden (“Deltaco”). The Alcadon Purchase Agreement and sale of Alcadon were approved by the Company's stockholders at the Company's annual meeting of stockholders held on October 11, 2012.
 
The purchase price paid at closing to the Company by Deltaco was $6.5 million plus estimated net cash as of September 30, 2012 of $1.2 million for an aggregate of $7.7 million. The cash proceeds received were subject to an

32

escrow amount of $0.8 million and approximately $0.3 million in closing costs. The escrow fund was released on December 28, 2012, subject to a 'true-up' adjustment of $0.7 million. Prior to the closing, Alcadon paid a cash dividend to MRV in the amount of $3.7 million. Total net cash proceeds to the Company were $10.6 million inclusive of the $3.7 million dividend and net of the true-up and other closing costs.

The statements of operations for the years ended December 31, 2012, 2011 and 2010 that would have been included if Alcadon had not been sold and the assets and liabilities of Alcadon that are reflected in the balance sheet as of December 31, 2011 consisted of (in thousands):
Year ended December 31:
2012
2011
2010
Revenue

$24,320


$36,760


$29,628

Income (loss) before income taxes
(1,088
)
(2,479
)
3,305

Provision for income taxes
643

1,271

920

Income (loss) from operations of discontinued operations
(1,731
)
(3,750
)
2,385

Gain on sale of Alcadon, net of income taxes of $1,341

$6,182

—

—

Net income (loss) from discontinued operations, net of income taxes
4,451


($3,750
)

$2,385


Year ended December 31:
2011
Cash and cash equivalents
$
6,392

Time deposits
101

Accounts receivable, net
3,912

Inventories
5,169

Other current assets
409

Total current assets
15,983

Property and equipment, net
660

Goodwill
3,737

Total assets
$
20,380

Accounts payable
1,988

Accrued liabilities
2,101

Other current liabilities
1,854

Non-current liabilities
599

Total liabilities
$
6,542


On March 29, 2012, the Company completed the sale of all of the issued and outstanding capital stock of its wholly-owned subsidiary CES. The sale was completed pursuant to a Stock Purchase Agreement (the "CES Purchase Agreement"), dated as of December 2, 2011, with CES Holding SA, as purchaser, represented for purpose of the Agreement by Vinci Capital Switzerland SA. The CES Purchase Agreement and sale of CES were approved by the Company's stockholders at the Company's annual meeting of stockholders held on January 9, 2012. The purchase price for CES paid on closing to the Company was CHF 25.8 million, or U.S. $28.4 million, with CHF 2.6 million, or U.S. $2.8 million of the proceeds going into an indemnification escrow account to be released in one year to the Company (subject to any indemnification claims that may be brought by the purchaser). Cash proceeds to the Company were $24.2 million upon closing net of the escrowed funds and other closing costs.

The historical financial results of CES prior to its sale have been reclassified as discontinued operations for all periods presented. The Company recorded net income of $5.8 million and $2.3 million from discontinued operations, net of income tax expense, for the years ended December 31, 2012 and 2011, respectively. The net income from discontinued operations for the year ended December 31, 2012 includes an $6.5 million gain partially offset by a $0.1 million operating loss and $0.4 million in withholding tax expense.


33

The statements of operations for the years ended December 31, 2012, 2011 and 2010, that would have been included if CES had not been sold and the assets and liabilities of CES that are reflected in the balance sheet as of December 31, 2011 consisted of (in thousands):

Year ended December 31:
2012
2011
2010
Revenue

$6,829


$34,643


$29,436

Income (loss) before income taxes
(135
)
4,758

4,581

Provision for income taxes
556

2,454

1,197

Income (loss) from operations of discontinued operations
(691
)
2,304

3,384

Gain on sale of CES, net of income taxes of $1,668

$6,470

 
 
Net income (loss) from discontinued operations, net of income taxes
5,779


$2,304


$3,384


Year ended December 31,
2011
Cash and cash equivalents

$12,364

Time deposits
1,281

Accounts receivable, net
5,310

Inventories
4,029

Other current assets
1,826

Total current assets
24,810

Property and equipment, net
2,571

Goodwill
12,843

Other assets
(119
)
Total assets

$40,105

Accounts payable

$705

Accrued liabilities
1,802

Other current liabilities
729

Non-current liabilities
467

Total liabilities

$3,703

 
 
    
On May 6, 2011, the Company sold all of the issued and outstanding capital stock of TurnKey. Prior to its disposition, TurnKey was part of the Network Integration segment. The historical financial results of TurnKey prior to its sale have been reclassified as discontinued operations for all periods presented. The Company recorded a net loss of $3.4 million from discontinued operations, net of income tax expense for the year ended December 31, 2011.

The statements of operations for the years ended December 2011 and 2010 that would have been included if TurnKey had not been sold consisted of (in thousands):
Year ended December 31:
2011
2010
Revenue

$1,907


$7,930

Income (loss) before income taxes
(240
)
(1,699
)
Provision for income taxes
20

1

Income (loss) from operations of discontinued operations
(260
)
(1,700
)
Loss on sale of TurnKey
(3,154
)
 
Net income (loss) from discontinued operations, net of income taxes

($3,414
)

($1,700
)

On October 26, 2010, the Company sold all of the issued and outstanding capital stock of its wholly-owned subsidiaries Source Photonics, Inc. and Source Photonics Santa Clara, Inc. (together "Source Photonics”) to Magnolia Source B.V., an entity owned and controlled by affiliates of Francisco Partners, pursuant to a Stock Purchase Agreement dated as of October 26, 2010.  The purchase agreement provided for the payment from the buyer to the Company of cash proceeds of approximately $117.8 million, as well as the assumption of debt of approximately $32.9 million, less

34

a payment of approximately $4.6 million directly to Source Photonics for payment of management bonuses triggered by the transaction, and certain restricted stock unit settlements. 

The Purchase Agreement contained customary representations, warranties and covenants, as well as customary mutual indemnification obligations.  For reporting purposes, 26 operating days that reflect contributions from Source Photonics are included in discontinued operations in the Company’s fourth quarter 2010 results in the accompanying Consolidated Statement of Operations.
Year ended December 31,
2010
Revenue
$
195,132

Income (loss) before income taxes
7,006

Provision (benefit) for income taxes
728

Income from operations of discontinued operations
6,278

Gain on sale of Source Photonics
37,528

Net income (loss) from discontinued operations, net of income taxes
$
43,806




Year ended December 31, 2012 Compared to the Year ended December 31, 2011

Revenue

The following table summarizes revenue by segment, including intersegment sales (dollars in thousands):

 
 
 
 
 
Favorable/(Unfavorable)
Years ended December 31:
2012
 
2011
 
$
Change
 
%
Change
 
% Change constant
currency (1)
Network Equipment segment
$
87,727

 
$
96,166

 
$
(8,439
)
 
(9
)%
 
(9
)%
Network Integration segment
72,421

 
76,436

 
(4,015
)
 
(5
)
 
2

Before intersegment adjustments
160,148

 
172,602

 
(12,454
)
 
(7
)
 
(4
)
Intersegment adjustments (2)
(8,487
)
 
(15,534
)
 
7,047

 
(45
)
 
(45
)
Total
$
151,661

 
$
157,068

 
$
(5,407
)
 
(3
)%
 
—
 %
 
 
 
 
 
 
 
 
 
 
___________________________________
(1)
Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.
(2)
Adjustments represent the elimination of intersegment revenue.

Consolidated revenue for 2012 decreased $5.4 million, or 3%, compared to 2011, due primarily to changes in foreign currency exchange rates. Consolidated revenue would have been $5.8 million, or 3%, higher in 2012 if foreign currency exchange remained the same as they were in 2011, with the unfavorable change primarily occurring within in the Network Integration group. There was an $8.4 million, or 9%, decrease in Network Equipment and a $4.0 million, or 5%, decrease in Network Integration segment revenue partially offset by a $7.0 million, or 45%, decrease in intersegment sales, which are eliminated in consolidation.

Network Equipment.    Revenue generated from the Network Equipment segment decreased $8.4 million, or 9%, in 2012 compared to 2011. Our OCS division had decreased revenue this year of $8.3 million due to lower product revenues primarily due to a decrease in intersegment sales, primarily in Europe, of $7.0 million. Our intersegment sales were our OCS division's sales to Pedrena and Alcadon which were sold in October of 2012. Sales for our Optiswitch and Fiber Driver product lines increased compared to last year while all other product categories were down. Service revenue was down $1.4 million compared to last year. Geographically, the decrease at OCS was primarily in the Americas and Europe regions, which was partially offset by the Asia Pacific region. The foreign exchange impact to the Network Equipment segment is not material due to Appointech, which is a minor point of this segment, being the only business unit subject to foreign exchange fluctuations.

35


The following table summarizes Network Equipment revenue by geographic region (dollars in thousands):

 
 
 
 
 
Favorable/(Unfavorable)
Years ended December 31:
2012
 
2011
 
$ Change
 
% Change
Revenue, excluding intersegment sales:
 
 
 
 
 
 
 
Americas

$53,258

 

$57,433

 

($4,175
)
 
(7
)%
Europe
16,448

 
17,882

 
(1,434
)
 
(8
)
Asia Pacific
9,521

 
5,296

 
4,225

 
80

Other regions
14

 
21

 
(7
)
 
(33
)
Total external sales
79,241

 
80,632

 
(1,391
)
 
(2
)
Sales to Network Integration segment:
 
 
 
 
 
 
 
Europe
8,487

 
15,534

 
(7,047
)
 
(45
)
Total intersegment sales
8,487

 
15,534

 
(7,047
)
 
(45
)
Total Network Equipment revenue

$87,728

 

$96,166

 

($8,438
)
 
(9
)%
 
 
 
 
 
 
 
 

Network Integration.    Revenue generated from the Network Integration segment decreased $4.0 million, or 5%, in 2012 compared to 2011. The decrease was due to Tecnonet, the sole business unit in the Network Integration segment. The primary reason for this decrease at Tecnonet is the change in foreign currency exchange rates. Total revenue from this segment would have been $5.8 million, or 7%, higher in 2012, compared to the prior year, had foreign currency exchange rates remained the same as they were in 2011. In local currency, Tecnonet revenue increased by 1.3 million euro, or 2%, due to a 4.7 million euro increase in service revenue offset by a 3.4 million euro drop in product sales due to the timing of acceptance of previously installed equipment by two major customers, and the continued economic slowdown within the Italian economy. All revenue in the Network Integration segment was generated in Italy.

Gross Profit

The following table summarizes gross profit by segment (dollars in thousands):
 
 
 
 
 
Favorable/(Unfavorable)
Years ended December 31:
2012
 
2011
 
$
Change
 
%
Change
 
 % Change constant
currency (1)
Network Equipment segment

$43,325

 

$49,423

 

($6,098
)
 
(12
)%
 
(12
)%
Network Integration segment
11,832

 
12,659

 
(827
)
 
(7
)
 
1

Before intersegment adjustments
55,157

 
62,082

 
(6,925
)
 
(11
)
 
(10
)
Adjustments (2)
(5
)
 
(408
)
 
403

 
(99
)
 
(99
)
Total

$55,152

 

$61,674

 

($6,522
)
 
(11
)%
 
(9
)%
 
 
 
 
 
 
 
 
 
 

(1)
Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.
(2)
Adjustments represent the change in the elimination of intersegment profit in ending inventory in order to reconcile to consolidated gross profit.

Consolidated gross profit decreased $6.5 million, or 11%, in 2012 compared to the prior year, due to the 3% decrease in revenue and the decline in average gross margins. Average gross margin was 36% in 2012 versus 39% in 2011. Average gross margins of both the Network Equipment and Network Integration segments decreased. Gross profit would have been $1.0 million higher if foreign currency exchange rates had remained the same as they were in 2011, which also had an impact on gross margin. Gross profit reflects share-based compensation in cost of sales of $39,000 and $62,000 in 2012 and 2011, respectively.

Network Equipment.  The $6.1 million, or 12%, decrease in gross profit for the Network Equipment segment was due to a $8.4 million, or 9%, decrease in revenue, as well as a decrease in average gross margin from 51% to 49% attributable to increased pricing pressure on certain product lines, and an unfavorable change in revenue mix partially offset by $0.7 million decrease in inventory reserve charges as compared to prior year. In 2012, the effect of foreign

36

currency exchange rates on average gross profit was immaterial. Gross profit reflects share-based compensation in cost of sales of $34,000 and $58,000 in 2012 and 2011, respectively.

Network Integration.  Gross profit for the Network Integration segment decreased $0.8 million, or 7%. The decrease was driven by a $4.0 million, or 5%, decrease in revenue and a decrease in average gross margin from 17% to 16% in 2011 and 2012 , respectively. The declines were in both product and service revenues and gross margins. In addition, we have continued to face increased pricing pressure that is resulting in lower margins offset by a favorable shift in the mix of product and service revenue. Gross profit would have been $1.0 million higher in 2012 had foreign currency exchange rates remained the same as they were in 2011. Gross profit reflects share-based compensation in cost of sales of $5,000 and $4,000 in 2012 and 2011, respectively.
 
Operating Expenses

The following table summarizes operating expenses by segment (dollars in thousands):

 
 
 
 
 
(Favorable)/Unfavorable
Years ended December 31:
2012
 
2011
 
$
Change
 
%
Change
 
% Change constant
currency (1)
Network Equipment segment

$42,228

 

$44,884

 

($2,656
)
 
(6
)%
 
(6
)%
Network Integration segment
7,318

 
6,624

 
694

 
10
 %
 
3
 %
Total segment operating expenses
49,546

 
51,508

 
(1,962
)
 
(4
)%
 
(5
)%
Corporate unallocated operating expenses and adjustments (2)
15,453

 
13,883

 
1,570

 
11
 %
 
—
 %
Total

$64,999

 

$65,391

 

($392
)
 
(1
)%
 
(4
)%
 
 
 
 
 
 
 
 
 
 

(1)
Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.
(2)
Corporate unallocated operating expenses include unallocated product development, and selling, general and administrative expenses.

Consolidated operating expenses in 2012 were $65.0 million, or 43% of revenue, compared to $65.4 million, or 42% of revenue, in 2011, a decrease of $0.4 million, or 1%. 2012 included a $1.1 million impairment charge in the third quarter related to Tecnonet goodwill. Excluding this charge, consolidated operating expenses in 2012 were $63.9 million, or 42% of revenue, compared to $65.4 million, or 42% of revenue, in 2011, a decrease of $1.4 million, or 5%. This decrease in Network Equipment operating expenses was partially offset by increases in operating expenses at Network Integration and Corporate. Consolidated operating expenses would have been $0.5 million higher in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Corporate expenses increased $1.6 million in 2012 compared to 2011 due to higher external labor costs of $1.2 million and $1.6 million of legal and settlement costs accrued for the proposed settlement of the derivative lawsuit. These were partially offset by lower labor costs in 2012 due to the departure of the former chief financial officer and vice president of finance, nonrecurring costs in 2011 for severance costs for our former chief executive officer, and the reorganizing the Corporate office in 2011. The proposed settlement of the derivative lawsuit also called for additional insurance reimbursement of $1 million that will not be recognized until the agreement is signed. In addition, we anticipate that we will continue to incur higher legal costs until the lawsuit is settled.

Network Equipment.    Operating expenses in the Network Equipment segment for 2012 were $42.2 million, or 48% of revenue, compared to $44.9 million, or 47% of revenue, in 2011. The $2.7 million, or 6%, decrease was due to $0.3 million of costs incurred exiting our free-space optics business in 2011 that did not recur in 2012, a $1.1 million net cost savings from a reduction in force, lower salaries expense due senior to mid-level vacancies within the sales and marketing organization, and lower operating cost. These costs savings were partially offset by $0.9 million of higher labor and materials costs to support research and development and product development initiatives, which are planned to continue. The cost savings arising from the reduction of workforce are expected to continue into future periods. In 2012, the effect of foreign currency exchange rates was immaterial.

Network Integration.    Operating expenses in the Network Integration segment for 2012 were $7.3 million, or 10% of revenue, compared to $6.6 million, or 9% of revenue, in 2011. The $0.7 million increase is due to the $1.1

37

million goodwill write off at Tecnonet offset by savings in legal and consulting fees offset by the effect of unfavorable foreign currency exchange rates. Excluding the $1.1 million goodwill charge, Network operating expenses were $6.2 million or 8.6% of revenue compared with $6.6 million, or 9% of revenue, in 2011. Operating expenses would have been $0.5 million higher in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Operating Income (Loss)

The following table summarizes operating income (loss) by segment (dollars in thousands):

 
 
 
 
 
Favorable/(Unfavorable)
Years ended December 31:
2012
 
2011
 
$
Change
 
%
Change
 
% Change constant
currency(1)
Network Equipment segment

$1,096

 

$4,539

 

($3,443
)
 
(76
)%
 
(76
)%
Network Integration segment
4,514

 
6,036

 
(1,522
)
 
(25
)
 
(1
)
Total segment operating income (loss)
5,610

 
10,575

 
(4,965
)
 
(47
)
 
(33
)
Corporate unallocated and adjustments (2)
(15,457
)
 
(14,292
)
 
(1,165
)
 
(8
)
 
(3
)
Total  

($9,847
)
 

($3,717
)
 

($6,130
)
 
165
 %
 
83
 %
 
 
 
 
 
 
 
 
 
 

(1) Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.

(2) Adjustments represent the elimination of intersegment revenue and profit in inventory in order to reconcile to consolidated operating income (loss).

The $6.5 million, or 11%, decrease in gross profit and the $0.4 million, or 1%, decrease in operating expenses primarily led to a $6.1 million decrease in operating loss representing a decline in operating margin from (2)% to (6)%. Our operating loss for 2012 would have been approximately $0.5 million higher had foreign currency exchange rates remained the same as they were in 2011. Operating loss included share-based compensation expense of $1.1 million and $2.4 million in 2012 and 2011, respectively.

Network Equipment. The Network Equipment segment reported an operating income of $1.1 million and $4.5 million in 2012 and 2011, respectively. The decrease was due to a $6.1 million decrease in gross profit partially offset by a $2.7 million decrease in operating expenses. Operating margin was 1% in 2012 and 5% in 2011. Operating income was not impacted by foreign currency exchange rate fluctuations.

Network Integration. The Network Integration segment reported operating income of $4.5 million for 2012, compared to $6.0 million in 2011. The $1.5 million decrease was due to a $0.8 million decrease in gross profit and offset by a $0.7 million increase in operating expenses. The Network Integration segment operating margin was 6% in 2012 compared to 8% in 2011. Operating income would have been $0.5 million higher in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Interest Expense and Other Income, Net

Interest expense was $0.6 million in 2012 compared to $0.9 million in 2011. Other income, net, principally includes interest income on cash, cash equivalents and investments and gains and losses on foreign currency transactions and litigation settlements. We recognized a net loss of $0.3 million on foreign currency transactions in 2012 compared to a $0.1 million net loss in 2011. In 2012 we recognized a $2.2 million gain on settlement of litigation that had been previously reserved related to the Company's purchase of Fiberxon, Inc. in 2007.

Provision for Income Taxes

The tax benefit for 2012 and 2011 was $1.0 million and $1.2 million, respectively. Income tax expense fluctuates based on the amount of per-tax income generated in the various jurisdictions where we conduct operations and pay income tax. The difference in provision for income taxes was also caused by deferred tax asset adjustments in certain foreign jurisdictions, including the effect of Israel's increase in tax rate to 25%.


38

Tax Loss Carryforwards

As of December 31, 2012, we had net operating losses ("NOLs") of $173.7 million, $112.0 million and $90.8 million for federal, state, and foreign income tax purposes, respectively. We also had capital loss carryforwards of $110.3 million and $47.1 million for federal and state tax purposes, respectively. Under the Internal Revenue Code, if a corporation undergoes an "ownership change," the corporation's ability to use its pre-change NOLs, capital loss carry forwards and other pre-change tax attributes to offset its post-change income may be limited. An ownership change is generally defined as a greater than 50% change in its equity ownership by value over a three-year period. We may experience an ownership change in the future as a result of subsequent shifts in our stock ownership. If we were to trigger an ownership change in the future, our ability to use any NOLs and capital loss carry forwards existing at that time could be limited. As of December 31, 2012, the U.S. federal and state NOLs had a full valuation allowance.

Discontinued Operations

Income from discontinued operations for the year ended December 31, 2012 included $2.6 million in income related to the results of operations from Interdata, $4.5 million in income related to the results of operations from Alcadon, and $5.8 million in income related to the results of operation of CES. The income from discontinued operations for the year ended December 31, 2011 included net income from Interdata of $1.4 million, a net loss from Alcadon of $3.8 million, net income from CES of $2.3 million and a net loss from results of operations from TurnKey of $3.4 million. We completed the sale of Interdata on October 16, 2012, the sale of Alcadon on October 12, 2012, the sale of CES on March 29, 2012 and the sale of TurnKey on May 6, 2011. For more details please see Note 3, Discontinued Operations.

Year ended December 31, 2011 Compared To Year ended December 31, 2010

Revenue

The following table summarizes revenue by segment, including intersegment sales (dollars in thousands):

 
 
 
 
 
Favorable/(Unfavorable)
Year ended December 31,
2011
 
2010
 
$
Change
 
%
Change
 
% Change constant
currency (1)
Network Equipment segment

$96,166

 

$96,514

 

($348
)
 
—
 %
 
(1
)%
Network Integration segment
76,436

 
80,209

 
(3,773
)
 
(5
)
 
(9
)
Before intersegment adjustments
172,602

 
176,723

 
(4,121
)
 
(2
)
 
(4
)
Intersegment adjustments (2)
(15,534
)
 
(13,262
)
 
(2,272
)
 
17

 
17

Total

$157,068

 

$163,461

 

($6,393
)
 
(4
)%
 
(6
)%
 
 
 
 
 
 
 
 
 
 
___________________________________
(1)
Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.
(2)
Adjustments represent the elimination of intersegment revenue.

Consolidated revenue for the years ended December 31, 2011 decreased $6.4 million, or 4%, compared to 2010, due primarily to a $3.8 million, or 5%, decrease in Network Integration segment revenue, a $0.3 million decrease in Network Equipment revenue, as well as a $2.3 million, or 17%, increase in intersegment sales, which are eliminated in consolidation. Consolidated revenue would have been $3.5 million lower if foreign currency exchange rates had remained the same as they were in 2010.

Network Equipment.    Revenue generated from the Network Equipment segment decreased $0.3 million in 2011 compared to 2010. Revenue at our OCS business unit was flat compared to the prior year. Increased sales of OCS's OptiSwitch product line and increased service revenue were offset by decreased sales in other product lines, including two unprofitable product lines discontinued in 2010 and 2011. The effect of foreign currency exchange rates on 2011 Network Equipment revenues was immaterial. An increase in domestic sales was offset by a decline in the other geographic regions.
 

39

The following table summarizes Network Equipment revenue by geographic region (dollars in thousands):

 
 
 
 
 
Favorable/(Unfavorable)
Year ended December 31,
2011
 
2010
 
$ Change
 
% Change
Revenue, excluding intersegment sales:
 
 
 
 
 
 
 
Americas

$57,433

 

$52,819

 

$4,614

 
9
 %
Europe
17,882

 
20,573

 
(2,691
)
 
(13
)
Asia Pacific
5,296

 
9,779

 
(4,483
)
 
(46
)
Other regions
21

 
82

 
(61
)
 
(74
)
Total external sales
80,632

 
83,253

 
(2,621
)
 
(3
)
Sales to Network Integration segment:
 
 
 
 
 
 
 
Europe
15,534

 
13,262

 
2,272

 
17

Total intersegment sales
15,534

 
13,262

 
2,272

 
17

Total Network Equipment revenue

$96,166

 

$96,515

 

($349
)
 
—
 %
 
 
 
 
 
 
 
 

Network Integration.    Revenue generated from the Network Integration segment decreased $3.8 million, or 5%, in 2011 compared to 2010. Tecnonet derives most of its revenue from two major Italian telecommunications companies, and its decrease in revenue reflects a weaker Italian telecom market in 2011. Revenue would have been $3.3 million lower in 2011 had foreign currency exchange rates remained the same as they were in 2010. All revenue in the Network Integration segment was generated in Italy.

Gross Profit

The following table summarizes gross profit by segment (dollars in thousands):

 
 
 
 
 
Favorable/(Unfavorable)
Year ended December 31,
2011
 
2010
 
$
Change
 
%
Change
 
 % Change constant
currency (1)
Network Equipment segment

$49,423

 

$52,222

 

($2,799
)
 
(5
)%
 
(5
)%
Network Integration segment
12,659

 
15,718

 
(3,059
)
 
(19
)
 
(24
)
Before intersegment adjustments
62,082

 
67,940

 
(5,858
)
 
(9
)
 
(10
)
Adjustments (2)
(408
)
 
(199
)
 
(209
)
 
105

 
107

Total

$61,674

 

$67,741

 

($6,067
)
 
(9
)%
 
(10
)%
 
 
 
 
 
 
 
 
 
 

(1)
Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.
(2)
Adjustments represent the change in the elimination of intersegment profit in ending inventory in order to reconcile to consolidated gross profit.

Consolidated gross profit decreased $6.1 million, or 9% for 2011 from the prior year, due to a 4% decrease in revenue and a decrease in gross margin from 41% to 39%. The decline in average gross margins was due to decline in gross margin in both the Network Equipment and Network Integration segments, as well as to an increase in intersegment sales. Gross profit would have been $0.7 million lower if foreign currency exchange rates had remained the same as they were in 2010.

Network Equipment.    The $2.8 million, or 5%, decrease in gross profit for the Network Equipment segment in 2011 from the prior year was due to a small decrease in revenue and a decrease in average gross margin from 54% to 51%. OCS margins declined due primarily to increased inventory reserves, and $0.6 million in one-time charges related to the exit of our free-space optics business during the second quarter. The effect of foreign currency exchange rates on 2011 as compared to 2010 for Network Equipment gross profit was immaterial..

Network Integration.    Gross profit for the Network Integration segment decreased $3.1 million, or 19% in 2011 from the prior year. The decrease was driven by a 5% decrease in revenue and by a decrease in average gross margins

40

from 20% to 17%. Tecnonet had increased costs of services which reduced service margins. There was an increase in the use of subcontractors to support remote service commitments, which are more expensive than full-time employees. Product gross margins were relatively stable for the year. Gross profit would have been $0.7 million lower in 2011 had foreign currency exchange rates remained the same as they were in 2010.

Operating Expenses

The following table summarizes operating expenses by segment (dollars in thousands):

 
 
 
 
 
(Favorable)/Unfavorable
Year ended December 31,
2011
 
2010
 
$
Change
 
%
Change
 
% Change constant
currency (1)
Network Equipment segment

$44,884

 

$46,663

 

($1,779
)
 
(4
)%
 
(4
)%
Network Integration segment
6,624

 
7,884

 
(1,260
)
 
(16
)%
 
(20
)%
Total segment operating expenses
51,508

 
54,547

 
(3,039
)
 
(6
)%
 
(6
)%
Corporate unallocated operating expenses and adjustments (2)
13,883

 
11,579

 
2,304

 
20
 %
 
20
 %
Total

$65,391

 

$66,126

 

($735
)
 
(1
)%
 
(2
)%
 
 
 
 
 
 
 
 
 
 

(1)
Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.
(2)
Corporate unallocated operating expenses include unallocated product development, and selling, general and administrative expenses.

Consolidated operating expenses were $65.4 million, or 42% of revenue, for 2011 compared to $66.1 million, or 40% of revenue, for the prior year, a decrease of $0.7 million, or 1%. The decrease was due to lower operating expenses in the Network Equipment and Network Integration segments, which were partially offset by increased expenses at Corporate.

Corporate expenses increased $2.3 million in 2011 compared to 2010 due to $1.0 million of legal fees related to board activities, $0.8 million in compensation expense related to the cash payment to holders of stock options and restricted stock to compensate them for the loss in value of their equity grants resulting from the $75 million special dividend paid in November 2011, $0.4 million in higher board of director compensation, and $0.3 million in fees paid to advisors for their assistance in our strategic alternatives review. The increases were partially offset by a decrease in chief executive officer severance from $0.9 million in 2010 to $0.5 million in 2011.

Network Equipment.    Operating expenses in the Network Equipment segment for 2011 were $44.9 million, or 47% of revenue, compared to $46.7 million, or 48% of revenue in 2010, a decrease of $1.8 million, or 4%, due to a $1.5 million reduction in sales and marketing with a $1.0 million reduction in product and development offset by a $0.7 million increase in general and administrative expenses. Operating expenses included $0.3 million of costs related to the exit of our free-space optics business during the second quarter of 2011. In 2011, the effect of foreign currency exchange rates on Network Equipment operating expenses were immaterial.

Network Integration.    Operating expenses in the Network Integration segment for 2011 were $6.6 million, or 9% of revenue, compared to $7.9 million, or 10% of revenue, for the prior year. The $1.3 million, or 16%, decrease in operating expense was primarily due to lower labor costs in sales and marketing and lower overhead costs. Operating expenses would have been $0.3 million lower in 2011 had foreign currency exchange rates remained the same as they were in the prior year.


41

Operating Income (Loss)

The following table summarizes operating income (loss) by segment (dollars in thousands):
 
 
 
 
 
Favorable/(Unfavorable)
Year ended December 31,
2011
 
2010
 
$
Change
 
%
Change
 
% Change constant
currency(1)
Network Equipment segment

$4,539

 

$5,559

 

($1,020
)
 
(18
)%
 
(18
)%
Network Integration segment
6,036

 
7,833

 
(1,797
)
 
(23
)
 
(28
)
Total segment operating income (loss)
10,575

 
13,392

 
(2,817
)
 
(21
)
 
(24
)
Corporate unallocated and adjustments (2)
(14,292
)
 
(11,777
)
 
(2,515
)
 
(21
)
 
21

Total  

($3,717
)
 

$1,615

 

($5,332
)
 
(330
)%
 
(353
)%
 
 
 
 
 
 
 
 
 
 

(1) Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.

(2) Adjustments represent the elimination of intersegment revenue and profit in inventory in order to reconcile to consolidated operating income (loss).

The $6.1 million, or 9%, decrease in gross profit in 2011 compared to 2010 and the $0.7 million, or 1%, decrease in operating expenses primarily led to a $5.3 million decrease in operating income representing a decrease in operating margin from 1% to (2)%. Our operating loss would have been $0.4 million lower in 2011 had foreign currency exchange rates remained the same as they were in the prior year. Operating losses included share-based compensation expense of $2.4 million and $1.8 million in 2011 and 2010, respectively.

Network Equipment.    The Network Equipment segment reported an operating profit of $4.5 million and $5.6 million in 2011 and 2010, respectively. The decrease was due to a $2.8 million decrease in gross profit and $1.8 million decrease in operating expenses. Operating margin was 5% in 2011, and 6% in 2010. Operating losses would have been flat in 2011 had foreign currency exchange rates remained the same as they were in the prior year.

Network Integration.    The Network Integration segment reported operating income of $6.0 million for 2011, compared to operating income of $7.8 million for the prior year. The $1.8 million decrease was due to a $3.1 million decrease in gross profit offset by a $1.3 million decrease in operating expenses. The Network Integration segment operating margin was 8% in 2011 compared to 10% in 2010. Operating income would have been $0.4 million lower in 2011 had foreign currency exchange rates remained the same as they were in the prior year.

Interest Expense and Other Income, Net

Interest expense was $0.9 million and $0.9 million in 2011 and 2010, respectively. Other income, net, principally includes interest income on cash, cash equivalents and investments and gains and losses on foreign currency transactions and litigation settlement. We recognized a net loss of $0.1 million on foreign currency transactions in 2011 compared to a $0.2 million net gain in 2010.

Provision for Income Taxes

The tax benefits for the years ended December 31, 2011 and 2010 were $1.2 million and $0.5 million, respectively. Income tax expense fluctuates based on the amount of pre-tax income generated in the various jurisdictions where we conduct operations and pay income tax. The increase in benefit for income taxes during 2011 is primarily due to a 2010 release of valuation allowances against deferred tax assets related to net operating loss carryforwards of OCS in certain foreign jurisdictions.

Tax Loss Carryforwards

As of December 31, 2011, we had NOLs of $227.4 million, $161.8 million and $89.7 million for federal, state and foreign income tax purposes, respectively. We also had capital loss carryforwards of $109.1 million and $58.9 million for federal and state tax purposes, respectively. Under the Internal Revenue Code, if a corporation undergoes an "ownership change," the corporation's ability to use its pre-change NOLs, capital loss carryforwards and other pre-change tax attributes to offset its post-change income may be limited. An ownership change is generally defined as a

42

greater than 50% change in its equity ownership by value over a three-year period. We may experience an ownership change in the future as a result of subsequent shifts in our stock ownership. If we were to trigger an ownership change in the future, our ability to use any NOLs and capital loss carryforwards existing at that time could be limited. As of December 31, 2010, the U.S. federal and state NOLs had a full valuation allowance.

Discontinued Operations

The income from discontinued operations for the year ended December 31, 2011 included net income from Interdata of $1.4 million, a net loss from Alcadon of $3.8 million, net income from CES of $2.3 million, and a net loss from results of operations from TurnKey of $3.4 million. The income from discontinued operations for the year ended December 31, 2010 included net income from Interdata of $2.1 million, net income from Alcadon of $2.4 million, net income from CES of $3.4 million, a net loss from results of operations from TurnKey of $1.7 million and income from Source Photonics of $43.8 million.

Liquidity and Capital Resources

At December 31, 2012 and 2011, respectively, the Company's cash and restricted time deposits and escrow accounts decreased from $58.9 million to $40.8 million, a decrease of $18.0 million. Our cash outflows included a net income adjusted for non-cash items including depreciation and amortization, share-based compensation, the gains on sales of subsidiaries, litigation settlement and goodwill impairments of $12.9 million. Our $15.9 million in cash used in operations also included a net usage of cash used to pay for current assets and liabilities of $3.0 million, and included a $5.1 million decrease in accounts payable, an increase of other assets of $5.9 million, a $0.7 million increase in inventory combined with a decrease in accrued liabilities and income taxes payable of $3.2 million. These outflows were offset by cash generated from accounts receivable collections of $11.4 million and a decrease in deferred revenue and a decrease in other liabilities of $0.4 million. Cash from investing activities included $38.2 million in proceeds from the sale of three of the Company's foreign subsidiaries CES, Pedrena and Alcadon. (See Note 3, "Discontinued Operations" to the Consolidated Financial Statements in Item 8 of this Form 10-K.) Cash provided by investing activities was offset by a net $64.9 million used for financing activities including payments of special dividends totaling $58.0 million on the outstanding shares of the Company's Common Stock to return excess cash to the Company's stockholders in May 2012 and December 2012. (See Note 11, Stockholders' Equity to the Consolidated Financial Statements in Item 8 of this Form 10-K.) We also purchased 332.2 thousand shares of the Company's Common Stock for $3.3 million in August 2012 and December 2012. (See Note 11, Stockholder's Equity), and made $2.9 million in purchases of property and equipment. In addition, net payments on short-term debt and capital lease obligations of $28.0 million partially offset additional borrowings of $24.0 million.

We periodically review our capital position and consider returning capital to stockholders through special dividends or share repurchases when the cash on hand exceeds our foreseeable cash needs. We also periodically review the capital needs of our business units and following our October 10, 2012 Form 8-K filing announcing our plans to no longer sell OCS and operate it for the foreseeable future, a decision was made to invest approximately $4.6 million over the next 12 months to upgrade our systems and equipment needed to support the Company's growth objectives in the Carrier Ethernet and optical transport markets among others. Our plans also include to no longer sell Tecnonet and to operate that business for the foreseeable future. The nature of the Tecnonet business requires significant levels of working capital to finance the longer term receivables and the extended acceptance periods for its larger customers. The financing for its working capital needs is met through the use of receivable financing. Tecnonet has minimal capital requirements and does not conduct research and development. Therefore, we do not anticipate Tecnonet's business to require significant investment to support our strategic objectives in the Italian information technology market. We believe that cash on hand and cash flows from operations will be sufficient to satisfy current operating needs, capital expenditures, and product development and engineering requirements for at least the next 12 months. We may seek to obtain additional debt or equity financing if we believe it appropriate. We may limit our ability to use available NOLs and capital loss carryforwards if we seek financing through issuance of additional equity securities.


43

The following table summarizes MRV's cash position including cash and cash equivalents, restricted time deposits and our short-term debt position (in thousands):

 
December 31, 2012
 
December 31, 2011
Cash
 
 
 
Cash and cash equivalents

$40,609

 

$58,590

Restricted time deposits
240

 
279

 
40,849

 
58,869

Short-term debt
5,267

 
8,987

Cash in excess of debt

$35,582

 

$49,882

Ratio of cash to debt (1)
7.8

 
6.6

 
 
 
 

(1)
Determined by dividing total cash by total debt.

Short-term Debt

Our short-term debt is related to Tecnonet, our Italian Network Integration subsidiary. Customer accounts receivables of Tecnonet have been pledged as collateral on the related borrowings.

The following table summarizes our short-term debt (dollars in thousands):

 
December 31, 2012
 
December 31, 2011
 
Increase (decrease)
Lines of credit secured by accounts receivable

$5,267

 

$8,987

 

($3,720
)
Total short-term debt

$5,267

 

$8,987

 

($3,720
)
 
 
 
 
 
 

The decrease in short-term debt at December 31, 2012 includes net payments of $28.0 million, a reduction of 42% in local currency, partially offset by additional borrowings of $24.0 million and the impact of changes in foreign currency exchange rates.

Working Capital

The following table summarizes our working capital position (dollars in thousands):

 
December 31, 2012
 
December 31, 2011
Current assets

$119,591

 

$198,219

Less: Current assets of discontinued operations
—

 
(63,005
)
Current assets from continuing operations
119,591

 
135,214

Current liabilities
50,480

 
81,799

Less: Current liabilities from discontinued operations
—

 
(20,693
)
Current liabilities from continuing operations
50,480

 
61,106

Working capital

$69,111

 

$74,108

Current ratio (1)
2.4
 
2.2
 
 
 
 

(1)
Determined by dividing total current assets by total current liabilities.

Off-Balance Sheet Arrangements

We do not have transactions, arrangements or other relationships with unconsolidated entities that are reasonably likely to affect our liquidity or capital resources. We have no special purpose or limited purpose entities that provided

44

off-balance sheet financing, liquidity or market or credit risk support, engaged in leasing, hedging, research and development services, or other relationships that expose us to liability that is not reflected on the face of the financials.

Indemnification

In connection with the sale by MRV of Source Photonics in October 2010, MRV agreed to indemnify the buyer against certain claims brought after the closing for prior-occurring events.  Most of the indemnification obligations have expired, however any indemnification obligations related to intellectual property extend until the third anniversary of the closing, indemnification related to employee benefits, environmental liabilities and taxes extend until their applicable statute of limitations has run plus 90 days, and indemnification obligations are not time limited for title and ownership representations.  These indemnification obligations are subject to a $1.0 million deductible and a $20.0 million cap and we have purchased an insurance policy to protect against such obligations.
    
In connection with the sale by MRV of CES in March 2012, MRV agreed to indemnify the buyer for the representations and warranties made in the sale purchase agreement, and we have purchased an insurance policy to protect us against any claims of indemnification related to the representations and warranties.

Our sale purchase agreements for the sale of Interdata and Alcadon include customary indemnification obligations. In addition, in connection with the sale of Interdata the Company and the buyer entered into a Representations and Warranties Agreement that contains an arrangement whereby if the Company does not obtain a representations and warranties insurance policy within 90 days of close of the sale transaction, and if the Company's cash falls below $20.0 million prior to December 31, 2013, the Company will deposit 1.5 million euros (or $2.0 million U.S. equivalent as of December 31, 2012) in an escrow account to secure its indemnification obligations under the Representations and Warranties Agreement. The Company expects to maintain cash balances sufficient to avoid making a deposit.

Contractual Obligations

During the year ended December 31, 2012, following validation of individual plaintiff releases, we released $2.4 million in funds held in escrow pursuant to our settlement agreement resolving outstanding litigation whereby MRV was to pay $2.4 million to the plaintiffs in consideration for the mutual release of the parties for all claims related to the Company's acquisition of Fiberxon in July 2007, and other claims and lawsuits held or filed by the plaintiffs. We had previously reserved approximately $4.5 million for this potential deferred obligation, and released $2.2 million of the accrued liability related to these matters into income.
 
The following table illustrates our contractual obligations as of December 31, 2012 (in thousands):
Contractual Obligations
 
Total
 
Less than 1 Year
 
1 - 3 Years
 
3 - 5 Years
 
After 5 Years
Short-term debt
 
$
5,267

 
$
5,267

 
$
—

 
$
—

 
$
—

Operating leases
 
5,991

 
1,801

 
3,003

 
1,187

 
—

Purchase commitments with suppliers and contract manufacturers
 
4,242

 
4,242

 
—

 
—

 
—

Deferred consideration payable
 
233

 
233

 
—

 
—

 
—

Total contractual obligations
 
$
15,733

 
$
11,543

 
$
3,003

 
$
1,187

 
$
—


We expect to have sufficient cash and cash flow to meet our short-term and long-term obligations shown in the table above. Our operating leases consist primarily of leases for buildings worldwide from which we conduct our business. Purchase commitments consist primarily of purchase orders for components used to build finished goods inventory.

Internet Access to Our Financial Documents

We maintain a website at www.mrv.com. We make available, free of charge, either by direct access or hyperlink, our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after such reports are electronically filed with, or furnished to, the SEC. Our reports filed with, or furnished to, the SEC are also available directly at the SEC's website at www.sec.gov.


45

Item 7A.    Quantitative and Qualitative Disclosures About Market Risk.

Market risk represents the risk of loss that may impact our Consolidated Financial Statements through adverse changes in financial market prices and rates and inflation. Our market risk exposure results primarily from fluctuations in foreign exchange and interest rates. We manage our exposure to these market risks through our regular operating and financing activities.

Interest Rates.    Our investments and short-term borrowings expose us to interest rate fluctuations. Our cash and short-term investments are subject to limited interest rate risk, and are primarily maintained in money market funds and bank deposits. Our variable-rate short-term borrowings are also subject to limited interest rate risk because of their short-term maturities.

Foreign Exchange Rates.    We operate on an international basis with a significant portion of our revenues and expenses transacted in currencies other than the U.S. dollar. Fluctuation in the value of these foreign currencies affects our results and will cause U.S. dollar translation of such currencies to vary from one period to another. We cannot predict the effect of exchange rate fluctuations upon future operating results. However, because we have revenues and expenses in each of these foreign currencies, the effect on our results of operations from currency fluctuations is reduced.

Certain assets and liabilities, including certain bank accounts, accounts receivables, and accounts payables of some of our business units, exist in currencies other than the functional currency of the related business units and are sensitive to foreign currency exchange rate fluctuations. These currencies principally include the U.S. dollar, the euro, the Taiwan dollar, and the Israeli new shekel. Additionally, Tecnonet, which has a functional currency of the euro, has certain of its lines of credit denominated in U.S. dollars. When these transactions are settled in a currency other than the functional currency, we recognize a foreign currency transaction gain or loss.

When we translate the financial position and results of operations of subsidiaries with functional currencies other than the U.S. dollar, we recognize a translation gain or loss in other comprehensive income. Approximately 12% of our cost of sales and operating expenses are reported by these subsidiaries. These currencies were generally stronger against the U.S. dollar for the year ended December 31, 2012 compared to the same period last year, so revenues and expenses in these countries translated into more dollars than they would have in 2011. For the year ended December 31, 2012, we had approximately:

•
$62.4 million in cost of goods and operating expenses recorded in euros; and
•
$1.7 million in cost of goods and operating expenses recorded in Taiwan dollars.

Had rates of these various foreign currencies been 10% higher relative to the U.S. dollar during the year ended December 31, 2012, our costs would have increased to approximately:

•
$68.6 million cost of goods and operating expenses recorded in euros; and
•
$1.9 million in cost of goods and operating expenses recorded in Taiwan dollars.

Fluctuations in currency exchange rates of foreign currencies held have an impact on the U.S. dollar equivalent of such currencies included in cash and cash equivalents reported in our financial statements. The following table summarizes cash and cash equivalents held in various currencies and translated into U.S. dollars (in thousands).

December 31
2012
 
2011
U.S. dollars

$37,620

 

$55,530

Euros
1,008

 
1,752

Taiwan dollars
51

 
26

Israeli new shekels
1,631

 
1,229

Other
299

 
53

Total cash and cash equivalents

$40,609

 

$58,590

 
 
 
 

Macro-economic uncertainties.  We believe that the recent downturn in global markets has affected our revenues and operating results, particularly in the Italian and other European markets and more recently the markets in the

46

United States, and that conditions may worsen.  When economic uncertainties increase, our customers often take a more cautious approach in their capital expenditures, resulting in order delays, slowing deployments, and lengthening sales cycles. This may lead to increased competition for projects and price pressures resulting in lower gross margins.  Despite these economic uncertainties, we believe that our customers need to continue investing in their networks to meet the growth in consumer and enterprise use of high-bandwidth communications services.  We believe in our longer term market opportunities, but we are uncertain how long the downturn in economic conditions will continue and how our customers will interpret and react to market conditions.  Accordingly, we are unable to determine the resulting magnitude of impact, including timing and length of impact, on our revenue and operating results.  

Valuation and qualifying accounts. 

Accounts Receivable Reserve
Year ended
 
December 31, 2012
Balance at beginning of period
$
1,662

Charged to expense
116

Write-offs
(72
)
Foreign currency translation adjustment
26

Balance at end of period
$
1,732

 
 

Product Warranty Reserve
Year ended
 
December 31, 2012
Beginning balance

$1,126

Cost of warranty claims
(150
)
Accruals for product warranties
30

Foreign currency translation adjustment
—

Total

$1,006

 
 


Item 8.    Financial Statements and Supplemental Data.

Report of Independent Registered Public Accounting Firm

The Board of Directors and Stockholders of MRV Communications, Inc.
We have audited the accompanying consolidated balance sheets of MRV Communications, Inc. as of December 31, 2012 and 2011, and the related consolidated statements of operations, comprehensive income (loss), stockholders' equity and cash flows for each of the three years in the period ended December 31, 2012. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with 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 financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of MRV Communications, Inc. at December 31, 2012 and 2011, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2012, in conformity with U.S. generally accepted accounting principles.


47

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), MRV Communications, Inc.'s internal control over financial reporting as of December 31, 2012, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated April 2, 2013 expressed, an unqualified opinion thereon.
/s/ Ernst & Young LLP
Los Angeles, California
April 2, 2013



48

MRV Communications, Inc.
Consolidated Statements of Operations
(In thousands, except per share data)
 
2012
 
2011
 
2010
 
 
 
 
 
 
Revenue:
 
 
 
 
 
Product revenue
$
106,447

 
$
114,015

 
$
125,783

Service revenue
45,214

 
43,053

 
37,678

Total revenue
151,661

 
157,068

 
163,461

Cost of sales
96,509

 
95,394

 
95,720

Gross profit
55,152

 
61,674

 
67,741

Operating expenses:
 
 
 
 
 
Product development and engineering
15,344

 
14,486

 
15,462

Selling, general and administrative
48,599

 
50,905

 
50,664

Impairment of goodwill
1,056

 
—

 
—

Total operating expenses
64,999

 
65,391

 
66,126

Operating income (loss)
(9,847
)
 
(3,717
)
 
1,615

Interest expense
(601
)
 
(856
)
 
(878
)
Gain from settlement of deferred consideration obligation
2,314

 
—

 


Other income (loss), net
(54
)
 
30

 
(360
)
(Loss) income from continuing operations before income taxes
(8,188
)
 
(4,543
)
 
377

Provision (benefit) for income taxes
(1,013
)
 
(1,191
)
 
(468
)
(Loss) income from continuing operations
(7,175
)
 
(3,352
)
 
845

Income (loss) from discontinued operations, net of income taxes of $4,588 in 2012, $5,791 in 2011, and $3,855 in 2010
12,839

 
(3,474
)
 
49,935

Net income (loss)
5,664

 
(6,826
)
 
50,780

Less:
 
 
 
 
 
Net income from continuing operations attributable to noncontrolling interests
—

 
—

 
2,089

Net income (loss) attributable to MRV
$
5,664

 
$
(6,826
)
 
$
48,691

 
 
 
 
 
 
Net loss from continuing operations attributable to MRV
$
(7,175
)
 
$
(3,352
)
 
$
(1,244
)
Net income from discontinued operations attributable to MRV
$
12,839

 
$
(3,474
)
 
$
49,935

Net income (loss) per share — basic (1):
 
 
 
 
 
From continuing operations
$
(0.92
)
 
$
(0.43
)
 
$
(0.16
)
From discontinued operations
$
1.64

 
$
(0.44
)
 
$
6.34

Net income (loss) per share — basic
$
0.72

 
$
(0.87
)
 
$
6.18

Net Income (loss) per share — diluted (1):
 
 
 
 
 
From continuing operations
$
(0.92
)
 
$
(0.43
)
 
$
(0.16
)
From discontinued operations
$
1.64

 
$
(0.44
)
 
$
6.30

Net income (loss) per share — diluted
$
0.72

 
$
(0.87
)
 
$
6.15

Weighted average number of shares:
 
 
 
 
 
Basic
7,813

 
7,878

 
7,878

Diluted
7,817

 
7,878

 
7,921

________________________________________
(1) Amounts may not add due to rounding.

The accompanying notes are an integral part of these financial statements.

49

MRV Communications, Inc.
Consolidated Statements of Comprehensive Income (Loss)
(In thousands)


 
 
2012
 
2011
 
2010
 
 
 
 
 
 
 
Net income (loss)
 

$5,664

 

($6,826
)
 

$50,780

Other comprehensive income (loss), net of tax
 
 
 
 
 
 
Unrealized gain (loss) from available-for-sale securities
 
—

 
(3
)
 
11

Foreign currency translation gain (loss)
 
1,152

 
(1,241
)
 
2,624

Foreign currency translation effect realized upon divestiture of subsidiary
 
(16,106
)
 
1,907

 
(6,109
)
Other comprehensive income (loss):
 

($14,954
)
 

$663

 

($3,474
)
Comprehensive income (loss)
 

($9,290
)
 

($6,163
)
 

$47,306

Less:
 
 
 
 
 
 
Comprehensive income (loss) attributable to noncontrolling interest
 
—

 
—

 
(202
)
Comprehensive income (loss) attributable to MRV
 

($9,290
)
 

($6,163
)
 

$47,508

 
 
 
 
 
 
 


The accompanying notes are an integral part of these financial statements.


50

MRV Communications, Inc.
Balance Sheets
(In thousands, except par values)
 
December 31,
2012
 
December 31,
2011
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents

$40,609

 

$58,590

Restricted time deposits
240

 
279

Accounts receivable, net
32,237

 
38,569

Other receivables
18,287

 
11,225

Inventories
22,444

 
21,411

Deferred income taxes
1,145

 
1,117

Other current assets
4,629

 
4,023

Current assets of discontinued operations
—

 
63,005

Total current assets
119,591

 
198,219

Property and equipment, net
3,735

 
3,760

Goodwill
—

 
1,071

Deferred income taxes, net of current portion
3,711

 
4,396

Intangibles, net
400

 
—

Other assets
1,128

 
574

Noncurrent assets of discontinued operations
—

 
22,669

Total assets

$128,565

 

$230,689

 
 
 
 
Liabilities and stockholders' equity
 
 
 
Current liabilities:
 
 
 
Short-term debt

$5,267

 

$8,987

Deferred consideration payable
233

 
4,615

Accounts payable
20,478

 
25,180

Accrued liabilities
16,652

 
14,881

Deferred revenue
7,290

 
7,418

Other current liabilities
560

 
25

Current liabilities of discontinued operations
—

 
20,693

Total current liabilities
50,480

 
81,799

Other long-term liabilities
5,184

 
5,230

Long-term liabilities from discontinued operations
—

 
1,446

Commitments and contingencies

 

 
 
 
 
Stockholders' equity:
 
 
 
Preferred Stock, $0.01 par value: Authorized — 1,000 shares; no shares issued or outstanding
—

 
—

Common Stock, $0.0017 par value:
 
 
 
Authorized — 16,000 shares
 
 
 
Issued — 8,061 shares in 2012 and 8,030 shares in 2011
 
 
 
Outstanding — 7,594 shares in 2012 and 7,890 in 2011
270

 
270

Additional paid-in capital
1,281,170

 
1,337,935

Accumulated deficit
(1,201,515
)
 
(1,207,178
)
Treasury stock — 332 shares in 2012 and 140 shares in 2011
(6,528
)
 
(3,271
)
Accumulated other comprehensive income
(496
)
 
14,458

Total stockholders' equity
72,901

 
142,214

Total liabilities and stockholders' equity

$128,565

 

$230,689


The accompanying notes are an integral part of these financial statements.

51

MRV Communications, Inc.
Consolidated Statements of Stockholders' Equity (In thousands)
 
 
 
 
 
Additional
Paid-In
Capital
 
Accumulated
Deficit
 
Treasury
Stock
 
Accumulated
Other
Comprehensive
Income (Loss)
 
MRV
Stockholders'
Equity
Total
 
Non-
Controlling
Interest
 
Total
Equity
 
Shares
 
Amount
 
 
 
 
 
 
 
Balance, December 31, 2009
7,880

 
268

 
1,405,015

 
(1,249,044
)
 
(1,352
)
 
15,463

 
170,350

 
6,719

 
177,069

Purchase of treasury shares
(54
)
 
—

 
—

 
—

 
(1,494
)
 
—

 
(1,494
)
 
—

 
(1,494
)
Exercise of stock options
53

 
2

 
993

 
—

 
—

 
—

 
995

 
—

 
995

Share-based compensation expense
6

 
—

 
2,718

 
—

 
—

 
—

 
2,718

 
181

 
2,899

Purchase of subsidiary shares from noncontrolling interest
—

 
—

 
1,508

 
—

 
—

 
(485
)
 
1,023

 
(6,698
)
 
(5,675
)
Net income
—

 
—

 
—

 
48,691

 
—

 
—

 
48,691

 
2,089

 
50,780

Other comprehensive income (loss)
 
 
 
 
 
 
 
 
 
 
(1,183
)
 
(1,183
)
 
(2,291
)
 
(3,474
)
Balance, December 31, 2010
7,885

 
270

 
$
1,410,234

 
$
(1,200,353
)
 
$
(2,846
)
 
$
13,795

 
$
221,100

 
$
—

 
$
221,100

Purchase of treasury shares
(13
)
 
—

 
—

 
—

 
(425
)
 
—

 
(425
)
 
—

 
(425
)
Exercise of stock options
12

 
—

 
232

 
—

 
—

 
—

 
232

 
—

 
232

Share-based compensation
4

 
—

 
2,469

 
—

 
—

 
—

 
2,469

 
—

 
2,469

Dividend to common stockholders
—

 
—

 
(75,000
)
 
—

 
—

 
—

 
(75,000
)
 
—

 
(75,000
)
Net loss
—

 
—

 
—

 
(6,826
)
 
—

 
—

 
(6,826
)
 
—

 
(6,826
)
Other comprehensive income (loss)
—

 
—

 
—

 
—

 
—

 
663

 
663

 
—

 
663

Balance, December 31, 2011
7,888

 
270

 
$
1,337,935

 
$
(1,207,179
)
 
$
(3,271
)
 
$
14,458

 
$
142,213

 
$
—

 
$
142,213

Purchase of treasury shares
(332
)
 
—

 
—

 
—

 
(3,257
)
 
—

 
(3,257
)
 
—

 
(3,257
)
Share-based compensation
38

 
—

 
1,192

 
—

 
—

 
—

 
1,192

 
—

 
1,192

Dividend to common stockholders
—

 
—

 
(57,957
)
 
—

 
—

 
—

 
(57,957
)
 
—

 
(57,957
)
Net loss
—

 
—

 
—

 
5,664

 
—

 
—

 
5,664

 
—

 
5,664

Other comprehensive income (loss)
—

 
—

 
—

 
—

 
—

 
(14,954
)
 
(14,954
)
 
—

 
(14,954
)
Balance, December 31, 2012
7,594

 
270

 
$
1,281,170

 
$
(1,201,515
)
 
$
(6,528
)
 
$
(496
)
 
$
72,901

 
$
—

 
$
72,901


52

MRV Communications, Inc.
Statements of Cash Flows
(In thousands)
 
2012
 
2011
 
2010
 

 

 
 
Cash flows from operating activities:
 
 
 
 
 
Net income (loss)

$5,664

 

($6,826
)
 

$50,780

Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
 
 
 
 
 
Depreciation and amortization
2,016

 
2,635

 
8,659

Share-based compensation expense
1,191

 
2,469

 
2,899

Provision for doubtful accounts
116

 
296

 
(212
)
Deferred income taxes
653

 
(1,130
)
 
(2,947
)
Amortization of premium on marketable securities
—

 
39

 
364

Gain on settlement of deferred consideration litigation
(2,314
)
 
—

 
(520
)
Gain on disposition of property and equipment
28

 
46

 
81

Gain (loss) on sale of subsidiary
(23,272
)
 
3,154

 
(37,528
)
Impairment of goodwill
3,007

 
7,095

 
1,226

Changes in operating assets and liabilities:
 
 
 
 
 
Accounts receivable
11,439

 
(376
)
 
(26,029
)
Inventories
(689
)
 
8,546

 
(20,263
)
Other assets
(5,927
)
 
6,064

 
(20,040
)
Accounts payable
(5,104
)
 
(43
)
 
16,290

Accrued liabilities
(1,002
)
 
(903
)
 
(2,029
)
Income tax payable
(2,168
)
 
1,149

 
(1,373
)
Deferred revenue
155

 
(3,483
)
 
3,378

Other current liabilities
281

 
(2,376
)
 
(271
)
Net cash (used in) provided by operating activities
(15,926
)
 
16,356

 
(27,535
)
Cash flows from investing activities:
 
 
 
 
 
Purchases of property and equipment
(2,909
)
 
(3,118
)
 
(13,118
)
Proceeds from sale of property and equipment
192

 
143

 
86

Purchases of intangibles
(400
)
 
(474
)
 
—

Proceeds from sale of investments in unconsolidated entities


 
—

 
3,708

Proceeds from sale of subsidiaries, net of cash acquired
38,233

 
1,155

 
130,562

Investment in restricted time deposits
1,371

 
152

 
(397
)
Purchases of investments
—

 
—

 
(44,971
)
Proceeds from sale or maturity of investments
—

 
13,474

 
49,057

Net cash provided by investing activities
36,487

 
11,332

 
124,927

Cash flows from financing activities:
 
 
 
 
 
Net proceeds from exercise of stock options
—

 
234

 
995

Purchase of treasury shares
(3,257
)
 
(425
)
 
(1,494
)
Borrowings on short-term debt
24,004

 
43,153

 
156,266

Payments on short-term debt
(27,958
)
 
(52,371
)
 
(160,363
)
Borrowing on long-term obligations
459

 
—

 
—

Purchase of noncontrolling interest
—

 
—

 
(5,779
)
Cash restricted to collateralize short-term debt
—

 
—

 
12,261

Dividend payment
(57,957
)
 
(75,000
)
 


Payments on long-term obligations
(230
)
 
—

 
(14
)
Net cash (used in) provided by financing activities
(64,939
)
 
(84,409
)
 
1,872

Effect of exchange rate changes on cash and cash equivalents
1,271

 
(564
)
 
1,282

Net (decrease) increase in cash and cash equivalents
(43,107
)
 
(57,285
)
 
100,546

Cash and cash equivalents, beginning of year (1)
83,716

 
141,001

 
40,455

Cash and cash equivalents, end of period

$40,609

 

$83,716

 

$141,001

Supplement disclosure on following page.

53

 
Year ended December 31,
 
2012
 
2011
 
2010
 
(unaudited)
 
(unaudited)
 
(unaudited)
Supplemental disclosure of cash flow information:
 
 
 
 
 
Cash paid during year for interest — continuing operations
$
416

 
$
760

 
$
265

Cash paid during year for interest — discontinued operations
—

 
18

 
1,423

Cash paid during year for interest — Total
$
416

 
$
778

 
$
1,688

Cash paid during year for income taxes — continuing operations
$
1,540

 
$
3,147

 
$
2,569

Cash paid during year for income taxes — discontinued operations
295

 
2,016

 
3,542

Cash paid during year for income taxes — Total
$
1,835

 
$
5,163

 
$
6,111

The accompanying notes are an integral part of these financial statements.
(1)
The cash and cash equivalents at the beginning of the periods presented include $25,126, $15,403 and $19,389 from discontinued operations for December 31, 2012, 2011 and 2010, respectively.


54

MRV Communications, Inc.
Notes to Consolidated Financial Statements

1. Description of Business and Basis of Presentation
Description of Business
MRV Communications, Inc. ("MRV" or the "Company"), a Delaware corporation, is a global supplier of communications solutions to telecommunications service providers, enterprises and governments throughout the world. MRV's products enable customers to provide high-bandwidth data and video services and mobile communications services more efficiently and cost effectively. MRV markets and sells its products worldwide, through a variety of channels, which include a dedicated direct sales force, manufacturers' representatives, value-added-resellers, distributors and systems integrators. MRV conducts its business along two principal segments: the Network Equipment segment and the Network Integration segment. MRV's Network Equipment segment designs, manufactures, sells, and services equipment used by commercial customers, governments, and telecommunications service providers. Products include switches, optical transport platforms, physical layer products and out-of-band management products, and specialized networking products. The Italian Network Integration segment provides network system design, integration and distribution services that include products manufactured by third-party vendors.
Basis of Presentation
MRV's fiscal year is based on the calendar year ending on December 31. The accompanying financial statements include the accounts of MRV and its subsidiaries required to be consolidated in accordance with the Accounting Standards Codification, or ASC, 810-10 Consolidations ("ASC 810"). All significant intercompany transactions and accounts have been eliminated. MRV consolidates the financial results of less than majority-owned subsidiaries when it has effective control, voting control or has provided the entity's working capital. When others invest in these enterprises reducing its voting control below 50%, MRV discontinues consolidation and uses the cost or equity method of accounting for these investments, unless otherwise required by ASC 810.
On October 26, 2010, the Company sold all of the issued and outstanding capital stock of its wholly-owned subsidiaries Source Photonics, Inc. and Source Photonics Santa Clara, Inc. (together “Source Photonics"). On May 6, 2011, the Company sold all of the issued and outstanding capital stock of three wholly-owned operating subsidiaries, TurnKey Communications AG, TurnKey Services AG, and Elcoma AG (together “TurnKey"), which were part of our Network Integration segment. On March 29, 2012, we sold all of the issued and outstanding capital stock of Creative Electronic Systems SA ("CES"), which was part of our Network Equipment segment. On October 12, 2012, we sold all of the issued and outstanding capital stock of Alcadon-MRV AB ("Alcadon"), which was part of our Network Integration segment. On October 16, 2012, we sold all of the issued and outstanding capital stock of Pedrena Enterprises B.V. ("Pedrena"), which was part of our Network Integration segment. We have reclassified the historical financial results of TurnKey, CES, Alcadon and Pedrena to discontinued operations in all periods presented. The related assets and liabilities of discontinued operations have been reclassified to assets and liabilities of discontinued operations in the Balance Sheets. Cash flows from discontinued operations are presented combined with the cash flows from continuing operations in the accompanying Statement of Cash Flows for 2012 and 2011.
In the opinion of MRV's management, these audited statements contain all adjustments, which include normal recurring adjustments, necessary to present fairly the financial position of MRV as of December 31, 2012. The results reported in these financial statements should not be regarded as necessarily indicative of results that may be expected for the full year or any future periods.
2. Summary of Significant Accounting Policies
Foreign Currency
Transactions originally denominated in other currencies are converted into functional currencies in accordance with ASC 830 Foreign Currency Matters. Increases or decreases in the expected amount of cash flows upon settlement of the transaction caused by changes in exchange rates are recorded as foreign currency gains and losses and are included in Other income, net.
For foreign operations with the local currency as the functional currency, assets and liabilities are translated from the local currencies into U.S. dollars at the exchange rate prevailing at the balance sheet date. Revenues, expenses and cash flows are translated at weighted average exchange rates for the period to approximate translation at the exchange rate prevailing at the dates those elements are recognized in the financial statements. Translation

55

adjustments resulting from the process of translating the local currency financial statements into U.S. dollars are included in determining comprehensive income or loss.
Revenue Recognition
MRV's major revenue-generating products consist of switches and routers, console management, physical layer products, and fiber optic components. MRV generally recognizes product revenue, net of sales discounts, returns and allowances, in accordance with ASC 605 Revenue Recognition, when persuasive evidence of an arrangement exists, delivery has occurred and all significant contractual obligations have been satisfied, the fee is fixed or determinable and collection is considered reasonably assured. Products are generally shipped "FOB shipping point," with no right of return and revenue is recognized upon shipment. If revenue is to be recognized upon delivery, such delivery date is tracked through information provided by the third party shipping company the Company uses to deliver the product to the customer. The Network Integration business units resell third party products. The Company recognizes revenue on these sales on a gross basis, as a principal, because MRV is the primary obligor in the arrangement, MRV is exposed to inventory and credit risk, MRV negotiates the selling prices, and MRV sells the products as part of a solution in which it provides services. Sales of services and system support are deferred and recognized ratably over the contract period in accordance with ASC 605-20 Services. Sales to end customers with contingencies, such as rights of return, rotation rights, conditional acceptance provisions and price protection, are infrequent and insignificant and are deferred until the contingencies have been satisfied or the contingent period has lapsed. For sales to distributors, the Company generally recognizes revenue when product is sold to the distributor rather than when the product is sold by the distributor to the end user. In certain circumstances, distributors have limited rights of return, including stock rotation rights, and/or are entitled to price protection, where a rebate credit may be provided to the customer if MRV lowers its price on products held in the distributor's inventory. MRV estimates and establishes allowances for expected future product returns and credits in accordance with ASC 605. The Company records a reduction in revenue for estimated future product returns and future credits to be issued to the customer in the period in which revenues are recognized, and for future credits to be issued in relation to price protection at the time changes are made to the distributor price book. The Company monitors product returns and potential price adjustments on an ongoing basis and estimates future returns and credits based on historical sales returns, analysis of credit memo data, and other factors known at the time of revenue recognition.
MRV generally warrants its products against defects in materials and workmanship for 90 days to three year periods. The estimated cost of warranty obligations and sales returns and other allowances are recognized at the time of revenue recognition based on contract terms and prior claims experience.
Accounting for Multiple-Element Arrangements entered into prior to January 1, 2011. Arrangements with customers may include multiple deliverables involving combinations of equipment, services and software. In accordance with ASC 605-25 Multiple-Element Arrangements, the entire fee from the arrangement is allocated to each respective element based on its relative fair value and recognized when revenue recognition criteria for each element is met. Fair value for each element is established based on the sales price charged when the same element is sold separately. If multiple element arrangements include software or software-related elements, the Company applies the provisions of ASC 985 Software to the software and software-related elements, or to the entire arrangement if the software is essential to the functionality of the non-software elements.
Accounting for Multiple-Element Arrangements entered into or materially altered after January 1, 2011. In October 2009, the FASB amended ASC 605-25 and ASC 985 and the Company adopted the amendments prospectively effective January 1, 2011. In accordance with the amendments, MRV allocates arrangement consideration at the inception of the arrangement to all deliverables using the relative selling price method. The selling price used for each deliverable is based on (a) vendor-specific objective evidence if available; (b) third-party evidence if vendor-specific objective evidence is not available; or (c) estimated selling price if neither vendor-specific objective evidence nor third-party evidence is available. MRV allocates discounts in the arrangement proportionally on the basis of the selling price of each deliverable. In accordance with the amendments, MRV no longer applies the software revenue guidance in ASC Subtopic 985-605 to tangible products containing software components and non-software components that function together to deliver the tangible product's essential functionality.
Cash and Cash Equivalents
MRV treats highly liquid investments with an original maturity of 90 days or less as cash equivalents. Cash balances and investments are maintained in qualified financial institutions, and at various times, such amounts are in excess of federal insured limits.

56

Restricted Time Deposits
Restricted time deposits represent investments that are restricted as to withdrawal or use and are primarily in foreign subsidiaries. Restricted time deposits generally secure standby letters of credit, bank lines of credit, or bank loans. When investments in restricted time deposits are directly related to an underlying bank loan and the restricted funds will be used to repay the loans, the investment and the subsequent release of the restricted time deposit are treated as financing activities in the Company's Consolidated Statement of Cash Flows. The other investments in and releases of restricted time deposits are included in investing activities because the funds are invested in certificates of deposit.
Marketable Securities
MRV accounts for its marketable securities, which are available for sale, under the provisions of ASC 320-10 Accounting for Certain Investments in Debt and Equity Securities. There were no marketable securities as of December 31, 2012 and December 31, 2011. Proceeds from sales of marketable securities were $13.5 million and $49.1 million for the years ended December 31, 2011 and 2010, respectively.
Concentration of Credit Risk, Accounts Receivable and Allowance for Doubtful Accounts
Financial instruments that potentially subject the Company to concentrations of credit risk primarily consist of cash and cash equivalents placed with high credit quality institutions and accounts receivable due from customers. MRV evaluates the collectability of accounts receivable based on a combination of factors. If the Company becomes aware of a customer's inability to meet its financial obligations after a sale has occurred, the Company records an allowance to reduce the net receivable to the amount which is reasonably believed to be collected from the customer. For all other customers, the Company records allowances for doubtful accounts based on the length of time the receivables are past due, the current business environment, and historical experience. If the financial conditions of MRV's customers were to deteriorate or if economic conditions worsen, additional allowances may be required in the future.
The following table summarizes the changes in the allowance for doubtful accounts (in thousands):
Year ended:
 
Balance at
beginning
of period
 
Charged to
expense
 
Deductions
 
Effect of
foreign
currency
exchange
rates
 
Balance at
end of
period
December 31, 2010
 
$
3,692

 
272

 
(558
)
 
(64
)
 
$
3,342

December 31, 2011
 
$
3,342

 
210

 
(1,863
)
 
(27
)
 
$
1,662

December 31, 2012
 
$
1,662

 
116

 
(72
)
 
26

 
$
1,732

    
As of December 31, 2012 and 2011, amounts due from Fastweb S.p.A., a Network Integration segment customer, exceeded 10% of gross accounts receivables and as of December 31, 2011 Telecom Italia S.p.A., also a Network Integration segment customer, exceeded 10% of gross accounts receivables.

Inventories

Inventories are stated at the lower of cost or market and consist of material, labor and overhead. Cost is determined by the first in, first out method. If the Company estimates that the net realizable value is less than the cost of the inventory, an adjustment to the cost basis is recorded through a charge to cost of sales to reduce the carrying value to net realizable value. At each balance sheet date, MRV evaluates the ending inventories for excess quantities or obsolescence. This evaluation includes analysis of sales levels and projections of future demand. Based on this evaluation, the Company maintains reserves for excess and obsolete inventory and the inventory balances are reported net of reserves. At the time of recording the reserve, a new, lower cost basis for that inventory is established, and subsequent changes in facts and circumstances do not result in the restoration of, or increase in, that newly established cost basis. The inventory reserve is not reduced until the underlying inventory is sold or otherwise disposed, which would not result in an increase in net inventory.

57

Net inventories consisted of the following (in thousands):
December 31:
 
2012
 
2011
Raw materials
 
$
4,348

 
$
5,401

Work-in process
 
1,368

 
1,940

Finished goods
 
16,728

 
14,070

Total
 
$
22,444

 
$
21,411


Property and Equipment

Property and equipment are stated at cost. Maintenance and repairs are charged to expense as incurred and the costs of additions and betterments that increase the useful lives of the assets are capitalized. When property or equipment are disposed of, the cost and related accumulated depreciation and amortization are removed from the accounts and any gain or loss is included in Other income, net, in the accompanying Consolidated Statements of Operations.

Property and equipment consisted of the following (in thousands):
December 31:
 
2012
 
2011
Property and equipment, at cost:
 
 
 
 
Machinery and equipment
 
$
8,196

 
$
7,827

Computer hardware and software
 
7,204

 
6,562

Leasehold improvements
 
2,528

 
2,648

Furniture and fixtures
 
2,065

 
2,009

Construction in progress
 
393

 
492

Total property and equipment, at cost
 
20,386

 
19,538

Less — accumulated depreciation and amortization
 
(16,651
)
 
(15,778
)
Total
 
$
3,735

 
$
3,760


Depreciation is computed using the straight line method over the estimated useful lives of the related assets, as follows:
 
 
Life (years)
Asset category
 
From
 
To
Machinery and equipment
 
2
 
5
Computer hardware and software
 
3
 
6
Leasehold improvements
 
1
 
10
Furniture and fixtures
 
3
 
15
    
Depreciation expense for the years ended December 31, 2012, 2011 and 2010 was $1.4 million, $1.3 million and $1.2 million, respectively.

Goodwill and Other Intangibles

In accordance with ASC 350 Intangibles — Goodwill and Other, goodwill and intangible assets with indefinite lives are not amortized, but instead are measured for impairment at least annually, or when events indicate that impairment exists. MRV's annual impairment review date is October 1. Reviews for impairment are performed at each of MRV's reporting units. Intangible assets that are determined to have definite lives are amortized over their useful lives. See Note 4 "Goodwill and Other Intangibles" for further information.

Investments

MRV accounts for investments in unconsolidated entities in accordance with ASC 323 Investments — Equity Method and Joint Ventures. Unconsolidated investments, for which the Company does not have the ability to exercise significant influence over operating and financial policies, are accounted for under the cost method. The Company accounts for investments for which MRV has the ability to exercise significant influence in terms of operating and

58

financial policies, under the equity method. All unconsolidated investments in which the Company owns greater than 20% of the voting stock are accounted for under the equity method. The Company did not hold investments as of December 31, 2012.

Under the cost and equity method, a loss in value of an investment, which is deemed to be other than a temporary decline, is recognized. Evidence of a loss in value might include absence of an ability to recover the carrying amount of the investment or inability of the investee to sustain an earnings capacity, which would justify the carrying amount of the investment. There were no cost or equity method investments held as of December 31, 2012 and December 31, 2011.

Impairment of Long-Lived Assets

MRV evaluates its long-term tangible assets, such as property and equipment and other long-term assets, for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may be impaired. The Company takes into consideration events or changes such as product discontinuance, plant closures, product dispositions and history of operating losses or other changes in circumstances to indicate that the carrying amount may not be recoverable. The carrying value of an asset is considered impaired when the anticipated undiscounted cash flow from such asset is less than its carrying value. In that event, a loss is recognized based on the amount by which the carrying value exceeds the fair market value. Fair market value is determined using the anticipated cash flows discounted at a rate based on our weighted average cost of capital, which represents the blended after-tax costs of debt and equity. There was no impairment loss on tangible assets of continuing operations during the three years ended December 31, 2012.

Fair Value of Financial Instruments

MRV's financial instruments, including cash and cash equivalents, restricted time deposits, short-term and long-term marketable securities, accounts receivable, accounts payable, accrued liabilities and short-term debt obligations are carried at cost, which approximates their fair market value.

ASC 820-10 Fair Value Measurements defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. ASC 820-10 establishes a three-level hierarchy that prioritizes the use of observable inputs. The fair value hierarchy is divided into three levels based on the source of inputs as follows: Level 1 - Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access; Level 2 - Valuations for which all significant inputs are observable, either directly or indirectly, other than level 1 inputs; Level 3 - Valuations based on inputs that are unobservable and significant to the overall fair value measurement.

All of MRV's assets and a majority of its liabilities that are measured at fair value are measured using the unadjusted quoted prices in active markets for identical assets or liabilities that are accessible at the measurement date. Under this standard, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., the “exit price”) in an orderly transaction between market participants at the measurement date.

During 2012 the Company recorded a liability for the estimated fair value of 250,000 warrants that may be awarded to plaintiffs in a litigation matter, see Note 9, Commitments and Contingencies. In calculating the fair value the Company used Black Scholes with level 2 inputs including a volatility of 55% based on the Company's historical quoted prices and peer company data, the risk free interest rate of 0.8% and the 5 years expected term of the warrants. The resulting fair value was $4.30 per warrant.

Other Assets
Other assets include prepaid expenses that will be consumed within a twelve month period. Prepaid expenses included in other assets were $1.8 million and $1.0 million for 2012 and 2011, respectively.

Liability for Severance Pay

Under the laws of certain foreign jurisdictions, MRV is obligated to make severance payments to employees in those foreign jurisdictions on the basis of factors such as each employee's current salary and length of employment. The liability for severance pay is calculated as the amount that the Company would be required to pay if every employee were to separate as of the end of the period, and is recorded as part of other long-term liabilities.


59

Cost of Sales

Cost of sales includes material, depreciation on fixed assets used in the manufacturing process, shipping costs, direct labor and overhead. The portion of cost of sales related to service revenue was $33.6 million and $29.1 million for the years ended December 31, 2012 and 2011, respectively.

Product Development and Engineering

Product development and engineering costs are charged to expense as incurred.

Software Development Costs

In accordance with ASC 985-20 Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed, development costs related to software products are expensed as incurred until the technological feasibility of the product has been established. Technological feasibility occurs when a working model is completed. After technological feasibility is established, additional costs are capitalized.

MRV believes its process for developing software is essentially completed concurrent with the establishment of technological feasibility, and, accordingly, no software development costs have been capitalized to date.

Sales and Marketing

Sales and marketing costs are charged to expense as incurred. For the years ended December 31, 2012, 2011 and 2010, advertising and trade show costs were $1.2 million, $1.3 million and $1.4 million, respectively.

Income Taxes

We account for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements. Under this method, deferred tax assets and liabilities are determined based on the differences between the financial statements and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date.

We record net deferred tax assets to the extent we believe these assets will more likely than not be realized. In making such determination, we consider all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax planning strategies and recent financial operations. In the event we were to determine that we would be able to realize our deferred income tax assets in the future in excess of their net recorded amount, we would make an adjustment to the valuation allowance which would reduce the provision for income taxes.

The Company recognizes interest and penalties related to unrecognized tax benefits within the income tax expense line in the accompanying consolidated statement of operations. Accrued interest and penalties are included within the related tax liability line in the consolidated balance sheet.

Net Income (Loss) Per Share

Basic net income (loss) per share is computed using the weighted average number of shares of Common Stock outstanding, including restricted shares which, although they are legally outstanding and have voting rights, are subject to vesting and are treated as common stock equivalents in calculating diluted income (loss) per share. Diluted net income (loss) per share is computed using the weighted average number of shares of Common Stock outstanding and dilutive potential shares of Common Stock from stock options outstanding during the period. Diluted shares outstanding also include the dilutive effect of in-the-money options, which is calculated based on the average share price for each period using the treasury stock method.

ASC 260-10 Earnings per Share, requires that employee equity share options, nonvested shares and similar equity instruments granted by MRV, be treated as potential shares of Common Stock outstanding in computing diluted net income per share. Diluted shares outstanding include the dilutive effect of in-the-money options, calculated based on the average share price for each period using the treasury stock method. Under the treasury stock method, the

60

amount the employee must pay for exercising stock options, the amount of compensation cost for future service not yet recognized, and the amount of income tax benefits that would be realized and recorded in additional paid-in capital if the deduction for the award would reduce income taxes payable are assumed to be used to repurchase shares.

Outstanding stock options to purchase 416.3 thousand shares were excluded from the computation of dilutive shares for the year ended December 31, 2012 because of the net loss. Outstanding stock options to purchase 404.8 thousand shares were excluded from the computation of dilutive shares for the year ended December 31, 2011. Outstanding stock options to purchase 400.1 thousand shares were excluded from the computation of dilutive shares for the year ended December 31, 2010. In addition, for the year ended December 31, 2012, 2011 and 2010 respectively, 4.4 thousand, 37.8 thousand and 42.7 thousand potentially dilutive shares were excluded from the calculation of diluted net income (loss) per share because they were anti-dilutive. Treasury shares are excluded from the number of shares outstanding.

On December 3, 2012, the Company announced that the Board of Directors approved a repurchase of shares of Common Stock of the Company in an amount up to $10.0 million under a stock repurchase program. The program expires on December 31, 2013. Under this program the Company purchased 40 thousand shares at a total cost of $0.4 million during the year ended December 31, 2012.

Share-Based Compensation

As discussed in Note 12 "Share-Based Compensation," the fair value of stock options and warrants are determined using the Black-Scholes valuation model. The assumptions used in calculating the fair value of share-based payment awards represent MRV's best estimates. Those estimates may be impacted by certain variables including stock price volatility, employee stock option exercise behaviors, additional stock option grants, estimates of forfeitures, and the related income tax impact. See Note 12, Share-Based Compensation, for a further discussion on share-based compensation and assumptions used.

Recently Issued Accounting Standards

In July 2012 the FASB issued ASU 2012-02, Intangibles - Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment (“ASU 2012-02”). The amendments in ASU 2012-02 are intended to reduce cost and complexity by providing an entity with the option to make a qualitative assessment about the likelihood that an indefinite-lived intangible asset is impaired to determine whether it should perform a quantitative impairment test. The amendments in ASU 2012-02 also enhance the consistency of impairment testing guidance among long-lived asset categories by permitting an entity to assess qualitative factors to determine whether it is necessary to calculate the asset's fair value when testing an indefinite-lived intangible asset for impairment, which is equivalent to the impairment testing requirements for other long-lived assets. In accordance with the amendments in ASU 2012-02, an entity will have an option not to calculate annually the fair value of an indefinite-lived intangible asset if the entity determines that it is not more-likely-than-not that the asset is impaired. The amendments in ASU 2012-02 are effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is permitted, including for annual and interim impairment tests performed as of a date before July 27, 2012, if a public entity's financial statements for the most recent annual or interim period have not yet been issued or, for nonpublic entities, have not yet been made available for issuance. The adoption of ASU 2012-02 is not expected to have a material impact on the Company's consolidated financial statements and the Company is not electing early adoption of implementation of the regulation amendment.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

3.
Discontinued Operations
    
On October 16, 2012, the Company completed the sale of its subsidiary, Pedrena. Pedrena is the parent company of Interdata, which is in turn, the parent company of J3TEL. The sale was completed pursuant to a Share Purchase Agreement, dated as of August 1, 2012 (the "Interdata Purchase Agreement") with IJ Next, a French "société par actions simplifiée," as purchaser. The purchaser was a wholly-owned subsidiary of the French company Holding Baelen

61

Gaillard ("HBG").
 
The purchase price was 14.6 million euros ($19.0 million) and was paid in cash at closing by HBG to the Company. Cash proceeds to the Company were subject to closing costs of approximately $0.8 million. In addition to the Interdata Purchase Agreement, the Company and purchaser entered into a Representations and Warranties Agreement on August 1, 2012 (the "Representation and Warranties Agreement") related to the transaction which included customary representations, warranties, covenants and indemnification obligations. The Interdata Purchase Agreement, Representations and Warranties Agreement and sale of Interdata were approved by the Company's stockholders at the Company's annual meeting of stockholders held on October 11, 2012.

The statements of operations for the years ended December 31, 2012, 2011 and 2010 that would have been included if Pedrena had not been sold and the assets and liabilities of Interdata that are reflected in the balance sheet as of December 31, 2011 consisted of (in thousands):
Year ended December 31:
2012
2011
2010
Revenue

$27,602


$38,282


$33,507

Income (loss) before income taxes
(3,175
)
3,432

3,070

Provision for income taxes
(244
)
2,045

1,011

Income (loss) from operations of discontinued operations
(2,931
)
1,387

2,059

Gain on sale of Interdata, net of income taxes of $623
5,542

—

—

Net income from discontinued operations, net of income taxes

$2,611


$1,387


$2,059



Year ended December 31:
December 31, 2011
Cash and cash equivalents

$6,370

Accounts receivable, net
13,173

Inventories
1,554

Other current assets
1,115

Total current assets
22,212

Property and equipment, net
2,369

Goodwill
2,057

Other assets
260

Total assets

$26,898

Accounts payable

$4,191

Accrued liabilities
3,942

Other current liabilities
3,382

Non-current liabilities
380

Total liabilities

$11,895

 
 

In connection with the sale of Interdata the Company entered into a channel partner agreement with the buyer whereby the Company will continue to sell its products to Interdata. The amount of intercompany revenues that were previously eliminated from the Company's financial statements in consolidation consisted of (in thousands):

Year ended December 31:
2012
2011
2010
Revenues attributed to intercompany activities
$4,249
$6,630
$5,906


On October 12, 2012, the Company completed the sale of all of the shares of its wholly-owned subsidiary Alcadon pursuant to a Stock Purchase Agreement, dated as of September 11, 2012 (the "Alcadon Purchase Agreement") with Deltaco Aktiebolag, a public corporation organized under the laws of Sweden (“Deltaco”). The Alcadon Purchase

62

Agreement and sale of Alcadon were approved by the Company's stockholders at the Company's annual meeting of stockholders held on October 11, 2012.
 
The purchase price paid at closing to the Company by Deltaco was $6.5 million plus estimated net cash as of September 30, 2012 of $1.2 million for an aggregate of $7.7 million. The cash proceeds received were subject to an escrow amount of $0.8 million and approximately $0.3 million in closing costs. The escrow fund was released on December 28, 2012, subject to a 'true-up' adjustment of $0.7 million. Prior to the closing, Alcadon paid a cash dividend to MRV in the amount of $3.7 million. Total net cash proceeds to the Company were $10.6 million inclusive of the $3.7 million dividend and net of the true-up and other closing costs.

The statements of operations for the years ended December 31, 2012, 2011 and 2010 that would have been included if Alcadon had not been sold and the assets and liabilities of Alcadon that are reflected in the balance sheet as of December 31, 2011 consisted of (in thousands):
Year ended December 31:
2012
2011
2010
Revenue

$24,320


$36,760


$29,628

Income (loss) before income taxes
(1,088
)
(2,479
)
3,305

Provision for income taxes
643

1,271

920

Income (loss) from operations of discontinued operations
(1,731
)
(3,750
)
2,385

Gain on sale of Alcadon, net of income taxes of $1,341
6,182

—

—

Net income (loss) from discontinued operations, net of income taxes

$4,451


($3,750
)

$2,385

    
    
Year ended December 31:
2011
Cash and cash equivalents

$6,392

Time deposits
101

Accounts receivable, net
3,912

Inventories
5,169

Other current assets
409

Total current assets
15,983

Property and equipment, net
660

Goodwill
3,737

Total assets

$20,380

Accounts payable

$1,988

Accrued liabilities
2,101

Other current liabilities
1,854

Non-current liabilities
599

Total liabilities

$6,542


In connection with the sale of Interdata the Company entered into a channel partner agreement with the buyer whereby the Company will continue to sell its products to Alcadon. The amount of intercompany revenues that were previously eliminated from the Company's financial statements in consolidation consisted of (in thousands):

    
Year ended December 31:
2012
2011
2010
Revenues attributed to intercompany activities
$3,931
$8,111
$6,251


On March 29, 2012, the Company completed the sale of all of the issued and outstanding capital stock of its wholly-owned subsidiary CES. The sale was completed pursuant to a Stock Purchase Agreement (the "CES Purchase Agreement"), dated as of December 2, 2011, with CES Holding SA, as purchaser, represented for purpose of the

63

Agreement by Vinci Capital Switzerland SA. The CES Purchase Agreement and sale of CES were approved by the Company's stockholders at the Company's annual meeting of stockholders held on January 9, 2012. The purchase price for CES paid on closing to the Company was CHF 25.8 million, or U.S. $28.4 million, with CHF 2.6 million, or U.S. $2.8 million of the proceeds going into an indemnification escrow account to be released in one year to the Company (subject to any indemnification claims that may be brought by the purchaser). Cash proceeds to the Company were $24.2 million upon closing net of the escrowed funds and $1.2 million in other closing costs.

The historical financial results of CES prior to its sale have been reclassified as discontinued operations for all periods presented. The Company recorded net income of $5.8 million and $2.3 million from discontinued operations, net of income tax expense, for the years ended December 31, 2012 and 2011, respectively. The net income from discontinued operations for the year ended December 31, 2012 includes an $6.5 million gain partially offset by a $0.1 million operating loss and $0.4 million in withholding tax expense.

The statements of operations for the years ended December 31, 2012, 2011 and 2010, that would have been included if CES had not been sold and the assets and liabilities of CES that are reflected in the balance sheet as of December 31, 2011 consisted of (in thousands):

Year ended December 31:
2012
2011
2010
Revenue

$6,829


$34,643


$29,436

Income (loss) before income taxes
(135
)
4,758

4,581

Provision for income taxes
556

2,454

1,197

Income (loss) from operations of discontinued operations
(691
)
2,304

3,384

Gain on sale of CES, net of income taxes of $1,668
6,470

—

—

Net income from discontinued operations, net of income taxes

$5,779


$2,304


$3,384


Year ended December 31,
2011
Cash and cash equivalents

$12,364

Time deposits
1,281

Accounts receivable, net
5,310

Inventories
4,029

Other current assets
1,826

Total current assets
24,810

Property and equipment, net
2,571

Goodwill
12,843

Other assets
(119
)
Total assets

$40,105

Accounts payable

$705

Accrued liabilities
1,802

Other current liabilities
729

Non-current liabilities
467

Total liabilities

$3,703

 
 
    
On May 6, 2011, the Company sold all of the issued and outstanding capital stock of TurnKey. Prior to its disposition, TurnKey was part of the Network Integration segment. The historical financial results of TurnKey prior to its sale have been reclassified as discontinued operations for all periods presented. The Company recorded a net loss of $3.4 million from discontinued operations, net of income tax expense for the year ended December 31, 2011.

The statements of operations for the years ended December 2011 and 2010 that would have been included if TurnKey had not been sold consisted of (in thousands):

64

Year ended December 31:
2011
2010
Revenue

$1,907


$7,930

Income (loss) before income taxes
(240
)
(1,699
)
Provision for income taxes
20

1

Income (loss) from operations of discontinued operations
(260
)
(1,700
)
Loss on sale of TurnKey net of income taxes of $0
(3,154
)
—

Net income (loss) from discontinued operations, net of income taxes

($3,414
)

($1,700
)

On October 26, 2010, the Company sold all of the issued and outstanding capital stock of its wholly-owned subsidiaries Source Photonics, Inc. and Source Photonics Santa Clara, Inc. (together "Source Photonics”) to Magnolia Source B.V., an entity owned and controlled by affiliates of Francisco Partners, pursuant to a Stock Purchase Agreement dated as of October 26, 2010.  The purchase agreement provided for the payment from the buyer to the Company of cash proceeds of approximately $117.8 million, as well as the assumption of debt of approximately $32.9 million, less a payment of approximately $4.6 million directly to Source Photonics for payment of management bonuses triggered by the transaction, and certain restricted stock unit settlements. 

The purchase agreement contained customary representations, warranties and covenants, as well as customary mutual indemnification obligations.  For reporting purposes, 26 operating days that reflect contributions from Source Photonics are included in discontinued operations in the Company’s fourth quarter 2010 results in the accompanying Consolidated Statement of Operations.
Year ended December 31,
2010
Revenue

$195,132

Income (loss) before income taxes
7,006

Provision (benefit) for income taxes
728

Income from operations of discontinued operations
6,278

Gain on sale of Source Photonics net of income taxes of $0
37,528

Net income (loss) from discontinued operations, net of income taxes

$43,806


4.
Goodwill and Other Intangibles

In accordance with ASC 350 Intangibles - Goodwill and Other, goodwill and intangibles with indefinite lives are not amortized, but instead measured for impairment at least annually or when events indicate that impairment exists. The following table summarizes the changes in the Company's goodwill accounts for the year ended December 31, 2012 in thousands.

65

 
 
Network Integration
 
Total
Goodwill
 

$2,831

 

$2,831

Accumulated impairment losses and amortization
 
(1,760
)
 
(1,760
)
Balance as of December 31, 2011
 
1,071

 
1,071

 
 
 
 

Impairment of Tecnonet goodwill
 
(1,055
)
 
(1,055
)
Foreign currency translation adjustment, net
 
(16
)
 
(16
)
 
 
 
 
 
Goodwill
 
2,831

 
2,831

Accumulated impairment losses and amortization
 
(2,831
)
 
(2,831
)
Balance as of December 31, 2012
 

$—

 

$—


As of December 31, 2011 all of the goodwill resided in the Network Integration segment.

The fair value of goodwill is tested for impairment on a non-recurring basis using Level 3 inputs. During the year ended December 31, 2012 the Company concluded that there was an indication of impairment to Tecnonet S.p.A, our Italian subsidiary. Below is a description of the Level 3 inputs used:

Quantitative Information about Level 3 Fair Value Measurements
($ in thousands)
 
 
 
 
 
 
 
 
 
 
 
Fair Value at September 30, 2012
 
Valuation Technique
 
Unobservable Input
 
Range (Median)
 
 
 
 
 
 
 
 
 
Equity investment in Tecnonet
 
$20,100
 
Income approach-discounted cash flow ("DCF")
 
Weighted average cost of capital
 
19.8%-25.8% (22.8%)
 
 
 
 
 
 
Long term growth rate
 
1.5%-4.5% (3.0%)

Based on the valuation of Tecnonet, the associated goodwill was determined to be impaired and was written off during the year ended December 31, 2012. Reasons for the impairment include lower revenue and lower profit forecast for the business due to worsening economic conditions in Italy. The amount of the impairment, $1.1 million, is equal to the total carrying amount of goodwill on the books as of September 30, 2012.

During the year ended December 31, 2012, the Company concluded that there was an indication of impairment to Alcadon-MRV AB ("Alcadon"), our Scandinavian subsidiary, which was subsequently sold in October 2012. Below is a description of the Level 3 inputs used:

Quantitative Information about Level 3 Fair Value Measurements
($ in thousands)
 
 
 
 
 
 
 
 
 
 
 
Fair Value at June 30, 2012
 
Valuation Technique
 
Unobservable Input
 
Range (Median)
 
 
 
 
 
 
 
 
 
Equity investment in Alcadon
 
$13,100
 
DCF
 
Weighted average cost of capital
 
34.3%-40.3% (37.3%)
 
 
 
 
 
 
Long term growth rate
 
1.5%-4.5% (3.0%)
 
 
$11,900
 
Non-binding offer from third party
 
N/A
 
$11,900


66

Based on the valuation of Alcadon, the goodwill associated with Alcadon was determined to be impaired and was written off during the year ended December 31, 2012. Reasons for the impairment include the loss of a key customer in the first half of 2012 lowering revenue and profit forecast for the business. The amount of the impairment is equal to the total carrying amount of goodwill on the books as of June 30, 2012, $3.7 million.

The Company does not have goodwill as of December 31, 2012.

Other intangibles consist of intellectual property purchased by an Israeli subsidiary of the Company during the year ended December 31, 2012. This asset was not in service as of December 31, 2012, therefore amortization of other intangible assets was zero for the years ended December 31, 2012 and December 31, 2011. The term of the license agreement is indefinite and the Company plans to amortize the cost of the license over the estimated useful life which is approximately five years.

5. Accrued Liabilities
Accrued liabilities consisted of the following (in thousands):
December 31:
 
2012
 
2011
Payroll and related
 
$
7,653

 
$
8,302

Professional fees
 
1,916

 
1,345

Non-income taxes
 
84

 
1,185

Product warranty
 
1,006

 
1,126

Deferred rent
 
380

 
431

Derivative litigation costs
 
1,262

 
—

Derivative litigation settlement
 
1,573

 
—

Other
 
2,778

 
2,492

Total
 
$
16,652

 
$
14,881


Total derivative litigation cost in excess of insurance limits was $1.8 million through December 31, 2012. Accrued settlement costs represent the estimated fair value of warrants that may be issued. See Note 9, Commitments and Contingencies.

67

6. Income Taxes
For financial reporting purposes, income before income taxes includes the following (in thousands):
Years ended December 31:
 
2012
 
2011
 
2010
 
 
 
 
 
 
 
United States
 
$
(11,018
)
 
$
(10,916
)
 
$
(6,557
)
Foreign
 
2,830

 
6,373

 
6,934

Total
 
$
(8,188
)
 
$
(4,543
)
 
$
377

The provision for income taxes consists of the following (in thousands):
Years ended December 31:
 
2012
 
2011
 
2010
Current:
 
 
 
 
 
 
State
 
300

 
69

 
43

Foreign
 
1,664

 
2,029

 
3,245

Total current
 
1,964

 
2,098

 
3,288

Deferred:
 
 
 
 
 
 
Federal
 
(3,019
)
 
(1,813
)
 
—

State
 
(614
)
 
(369
)
 
—

Foreign
 
656

 
(1,107
)
 
(3,756
)
Total deferred
 
(2,977
)
 
(3,289
)
 
(3,756
)
Total
 
$
(1,013
)
 
$
(1,191
)
 
$
(468
)
The income tax provision differs from the amount computed by applying the federal statutory income tax rate to income before income taxes as follows:
Years ended December 31:
 
2012
 
2011
 
2010
Income tax provision, at statutory federal rate
 
34
 %
 
34
 %
 
34
 %
State and local income taxes, net of federal income taxes effect
 
6

 
16

 
217

Credits
 
5

 
—

 
—

Permanent differences
 
(7
)
 
(40
)
 
327

Goodwill impairment
 
(4
)
 
—

 
—

Foreign taxes at rates different than domestic rates
 
(1
)
 
5

 
336

Change in tax rates
 
—

 
75

 
—

Change in valuation allowance
 
(20
)
 
(64
)
 
(1,039
)
Total
 
13
 %
 
26
 %
 
(125
)%


68

The components of deferred income taxes consist of the following (in thousands):
December 31:
 
2012
 
2011
Allowance for doubtful accounts
 
$
275

 
$
291

Inventory reserve
 
1,933

 
1,837

Accrued liabilities
 
3,094

 
2,985

Other
 
6,052

 
6,691

 
 
11,354

 
11,804

Valuation allowance
 
(10,209
)
 
(10,687
)
Net current deferred income tax assets
 
1,145

 
1,117

Net operating losses
 
89,742

 
112,199

Tax credits
 
758

 
775

Depreciation and amortization
 
433

 
(1,985
)
Investments
 
—

 
(38
)
Capital loss carry forwards
 
40,739

 
41,510

 
 
131,672

 
152,461

Valuation allowance
 
(127,961
)
 
(148,065
)
Net long-term deferred income tax asset
 
3,711

 
4,396

Total
 
$
4,856

 
$
5,513


MRV records valuation allowances against deferred income tax assets, when necessary, in accordance with ASC 740 Accounting for Income Taxes. Realization of deferred income tax assets, such as net operating loss ("NOL") carry forwards and income tax credits, is dependent on future taxable earnings and is therefore uncertain. At least quarterly, the Company assesses the likelihood that the deferred income tax asset balance will be recovered from future taxable income. To the extent management believes that recovery is unlikely, the Company establishes a valuation allowance against the deferred income tax asset, which increases income tax expense in the period such determination is made. During 2012 the Company recorded a decrease to the valuation allowance totaling $20.6 million against additional deferred income tax assets, principally domestic and foreign net operating losses. Although realization is not assured, management believes it is more likely than not that the net deferred income tax assets, which relate primarily to profitable foreign subsidiaries, will be realized.

The change in the valuation allowance is as follows:
 
 
 
 
 
 
 
December 31:
 
2012
 
2011
 
2010
Balance at beginning of period
 

($158.8
)
 

($136.8
)
 

($120.7
)
Decrease in Valuation Allowance
 
20.6

 
(22.0
)
 
(16.1
)
Balance at end of period
 
$
(138.2
)
 
$
(158.8
)
 
$
(136.8
)

As of December 31, 2012, MRV had federal, state, and foreign NOL carry forwards available of $173.7 million, $112.0 million and $90.8 million, respectively. For the year ended December 31, 2012, federal NOL carry forwards decreased by $53.7 million, and state net operating loss carry forwards decreased by $49.8 million. For federal and state income tax purposes, the NOLs are available to offset future taxable income through 2031. Certain foreign NOL carry forwards and tax credits are available indefinitely. As of December 31, 2012, federal and state capital loss carry forwards amounted to $110.3 million, and $47.1 million, respectively. The capital loss carry forwards, which were generated by the sale of Source Photonics, expire in 2015.

Under the provisions of ASC 718 Compensation — Stock Compensation, MRV recognizes tax benefits associated with the exercise of stock options and vesting of restricted stock directly to stockholders' equity only when realized. Accordingly, deferred tax assets are not recognized for NOL carry forwards resulting from these tax benefits occurring from January 1, 2006 onward. A tax benefit occurs when the actual tax benefit realized upon an employee's disposition of a share-based award exceeds the deferred tax asset, if any, associated with the award. At December 31, 2012, deferred tax assets do not include $2.4 million of loss carryovers from share-based compensation.

69


MRV has not recorded U.S. income tax expense for foreign earnings that it has declared as indefinitely reinvested offshore, thus reducing its overall income tax expense. At December 31, 2012, MRV had approximately $23.8 million of accumulated but undistributed earnings at certain foreign entities. The amount of earnings designated as indefinitely reinvested offshore is based upon our expectations of the future cash needs of the Company's foreign entities. Income tax considerations are also a factor in determining the amount of foreign earnings to be repatriated. In the event actual cash needs of the Company's U.S. entities exceed current expectations or the actual cash needs of the Company's foreign entities are less than expected, the Company may need to repatriate foreign earnings that have been designated as indefinitely reinvested offshore. This would result in recording additional U.S. income tax expense. It is not practicable to estimate the amount of deferred tax liability related to investments in these foreign subsidiaries.

The tax years 2000-2012 remain open to examination by the major taxing jurisdictions to which the Company is subject. The Company does not anticipate a significant change to the total amount of unrecognized tax benefits within the next 12 months. No reserve was needed or recorded under ASC 740, as the topic relates to accounting for uncertainty in income taxes as of December 31, 2012.

Since the Company has a loss from continuing operations and income from discontinued operations, the Company has applied ASC 740-20-45-7 that results in a reclassification of income tax benefit from discontinued operations to continuing operations. The amount of benefit reclassified was $3.6 million in 2012 and $2.2 million in 2011.

The Company recognized an income tax expense of $4.6 million, $5.8 million, and a benefit of $3.9 million for the years ended December 31, 2012, 2011 and 2010, respectively, with respect to its discontinued operations.

7. Short-Term Debt
Short-term debt consists of secured and unsecured lines of credit and a short-term loan. As of December 31, 2012 and 2011, short-term debt totaled $5.3 million and $9.0 million, respectively. Customer accounts receivables of our subsidiary, Tecnonet, have been pledged as collateral on these borrowings. Short-term debt bears interest ranging from 1.9% to 2.9%, and the weighted average interest rates were approximately 2.7% as of each of December 31, 2012 and 2011, respectively. These obligations are incurred and settled in local currencies of the respective subsidiaries.

8. 401(k) Plan
The Company sponsors a 401(k) plan to provide retirement benefits for its U.S. employees. As allowed under Section 401(k) of the Internal Revenue Code, MRV's plan provides for tax-deferred salary contributions for eligible employees. The Plan allows employees to contribute a portion of their annual compensation to the plan on a pretax basis. The Company currently matches pretax contributions up to 50% of the first 6% of eligible earnings contributed by employees, however the Company had reduced its matching rate to 25% for 2010. Matching contributions to the Plan totaled $396 thousand, $471 thousand, and $286 thousand for the years ended December 31, 2012, 2011, and 2010, respectively.

9. Commitments and Contingencies
Lease Commitments
MRV leases certain facilities and equipment under non-cancelable lease agreements expiring in various years through 2020. Following are the aggregate minimum annual lease payments under leases in effect as of December 31, 2012 (in thousands):
Years ending December 31,
Operating leases
 
2013
$
1,801

 
2014
1,639

 
2015
1,364

 
2016
826

 
2017
361

 
Thereafter
—

 
Total
$
5,991

 

70

Annual rental expense under non-cancelable operating lease agreements for the years ended December 31, 2012, 2011 and 2010, was $2.7 million, $3.2 million and $2.7 million, respectively.
On October 8, 1996, the Company entered into a lease amendment with Bud H. Harris for the lease of office space located in Chatsworth, CA.  The Company exercised multiple options to extend the original lease term, and the current term of the lease is for 10 years from April 1, 2007, with no option to extend the lease term.  The total lease payments over the initial term will approximate $2.0 million.  The Company took possession of the facility and the lease term commenced.  Pursuant to the amendment, the Company was granted an improvement allowance of $70,000  which is being amortized as a reduction to rent expense over the life of the lease. 

On June 30, 2005 the Company entered into a lease amendment as successor-in-interest to Luminent, Inc. with George DiRado for the lease of office and warehouse space located in Chatsworth, CA.  The current term of the lease is for 10 years starting January 1, 2006 through December 31, 2015, with an option to extend the lease five years.  The total lease payments over the initial term will be approximate $2.1 million.  The Company took possession of the facility and the lease term commenced.  
   
On June 30 2008, the Company entered into a lease amendment with Tecla Immobillare for the lease of office space located in Rome, Italy.  The term of the lease is for six years from March 1, 2010, with an option to extend the lease term for six years.  The total lease payments over the initial term will approximate $0.9 million.  The Company took possession of the facility and the lease term commenced.  Pursuant to the lease, the Company was not granted any rent abatement.     

On June 30 2008, the Company entered into a lease amendment with Fanocle S.p.A. for the lease of office space located in Rome, Italy.  The term of the lease is for six years from March 1, 2010, with an option to extend the lease term for one six year period.  The total lease payments over the initial term will approximate $0.7 million.  The Company took possession of the facility and the lease term commenced.  Pursuant to the lease, the Company was not granted any rent abatement.   
 
On December 16, 2009, the Company entered into a lease amendment with Chelmsford Associates, LLC for the lease of office space located in Chelmsford, MA.  The term of the lease is for five years, six months from March 1, 2010, with an option to extend the lease term for a five year period.  The total lease payments over the initial term will approximate $1.5 million.  The Company took possession of the facility and the lease term commenced.  Pursuant to the lease, the Company was granted rent abatement of $146,000, which is being amortized as a reduction to rent expense over the life of the lease.     

Purchase Commitments with Outsourcing Partners and Component Suppliers

The Company utilizes several outsourcing partners to manufacture sub-assemblies for the Company’s products and to perform final assembly and testing of finished products. These outsourcing partners acquire components and build product based on demand information supplied by the Company, which typically covers periods up to 150 days. The Company also obtains individual components for its products from a wide variety of individual suppliers. Consistent with industry practice, the Company acquires components through a combination of purchase orders, supplier contracts, and open orders based on projected demand information. As of December 31, 2012, the Company had outstanding off-balance sheet third-party manufacturing commitments and component purchase commitments of $4.2 million.

Royalty Commitment

Certain of MRV's Israeli subsidiaries are obligated to the Office of the Chief Scientist of the Government of Israel ("Chief Scientist") with respect to the government's participation in research and development expenses for certain products. The royalty to the Chief Scientist is recorded in cost of goods sold, and is calculated at a rate of 2.0% to 5.0% of sales of such products developed with the participation, up to the cost of such participation. The outstanding obligation as of December 31, 2012 is $287 thousand. We have further reserved $243 thousand against a disputed claim that was raised in 2005, though the last correspondence with the Chief Scientist on the matter occurred in 2008. Amounts received from the participation of the Chief Scientist are offset against the related research and development expenses incurred. MRV did not receive participation from the Chief Scientist for the years ended December 31, 2012, 2011, and 2010.

Indemnification Obligations


71

In connection with the sale by MRV of Source Photonics in October 2010, MRV agreed to indemnify the buyer against certain claims brought after the closing for prior-occurring events.  Most of the indemnification obligations have expired. However any indemnification obligations related to intellectual property extend until the third anniversary of the closing, indemnification related to employee benefits, environmental liabilities and taxes extend until their applicable statute of limitations has run plus 90 days, and indemnification obligations are not time limited for title and ownership representations.  These indemnification obligations are subject to a $1.0 million deductible and a $20.0 million cap and we have purchased an insurance policy to protect against such obligations. In connection with the sale by MRV of CES in March 2012, MRV agreed to indemnify the buyer for the representations and warranties made in the sale purchase agreement, and we have purchased an insurance policy to protect us against any claims of indemnification related to the representations and warranties. Our sale purchase agreements for the sale of Interdata and Alcadon include customary indemnification obligations. In addition, in connection with the sale of Interdata the Company and the buyer entered into a Representations and Warranties Agreement that contains an arrangement whereby if the Company does not obtain a representations and warranties insurance policy within 90 days of close of the sale transaction, and if the Company's cash falls below $20.0 million prior to December 31, 2013, the Company will deposit 1.5 million euros (or $2.0 million U.S. equivalent as of December 31, 2012) in an escrow account to secure its indemnification obligations under the Representations and Warranties Agreement. The Company expects to maintain cash balances sufficient to avoid making a deposit.

Litigation

In connection with the Company's past stock option grant practices, MRV and certain of its former directors and officers have been subjected to a number of stockholder lawsuits.
    
In June 2008, the Company announced that our Board of Directors, based on information provided by management, and in consultation with management, concluded that the financial statements and the related reports of our independent public accountants should not be relied upon due to the Company's intention to restate its financial results from 2002 through 2008 to correct its accounting for option grants and other issues. The Board of Directors appointed a Special Committee of independent directors, along with independent legal counsel and outside accounting experts, to investigate the issues, and a restatement of the Company's financial statements was filed in its Annual Report on Form 10-K for the year ended December 31, 2008 in October 2009.

From June to August 2008, five purported stockholder derivative and securities class action lawsuits were filed in the U.S. District Court in the Central District of California and one derivative lawsuit was filed in the Superior Court of the State of California against the Company and certain of our former officers and directors. The five lawsuits filed in the Central District of California were consolidated. Claims were asserted under Section 10(b) and 20(a) of the Exchange Act, and Rule 10b-5 promulgated thereunder. In November 2010, the judge overseeing the securities class action lawsuits gave final approval to a stipulated $10.0 million settlement agreement, which was covered by our director and officer insurance policies. 

 As of January 4, 2013, litigation in the federal and state derivative actions has been stayed pending court approval of a proposed settlement between the derivative plaintiffs, individual defendants and the Company. On March 1, 2013 the parties filed a Stipulation of Settlement (the "Stipulation") with the federal court, and the plaintiffs filed a motion for preliminary approval of the Stipulation. There can be no assurance that either the federal or state court will approve the Stipulation. The Stipulation includes, among other things, (a) a release of all claims relating to the derivative litigation for the Company, the individual defendants and the plaintiffs; (b) a provision that $2.5 million in cash be paid to the Company by the Company's insurance carriers; (c) payment of attorneys' fees to plaintiffs' counsel including $500,000 in cash and 250,000 warrants to purchase the Company's Common Stock, with a five-year term and strike price of the closing price of the Company's Common Stock on the date an order of the federal District Court approving the settlement becomes final; (d) the continued payment by the Company of applicable reasonable attorneys' fees for the individual defendants. Within 120 days following the later of the issuance of an order approving the Settlement by the federal District Court, or the end of the period available for appeal, the Company would be required to take certain corporate governance reform actions, many of which have already been implemented.

To date, a majority of the costs related to the Company's and defendants' defense of these actions have been paid by the Company's insurance carriers under its director and officer insurance policies, including the securities class action settlement. However, we have accrued for requests for payment for services of defense counsel and other parties through December 31, 2012, see Note 5, Accrued Liabilities. We have agreed to pay reasonable attorney fees and expenses for the individual defendants in the Stipulation, and will continue to incur our own legal expenses until this matter is finally resolved and non-appealable. Any such future obligations are not determinable at this time.

72


From time to time, MRV has received notices from third parties alleging possible infringement of patents with respect to product features or manufacturing processes. Management believes such notices are common in the communications industry because of the large number of patents that have been filed on these subjects. The Company's policy is to discuss these notices with the parties in an effort to demonstrate that MRV's products and/or processes do not violate any patents. The Company has been involved in such discussions with Alcatel-Lucent SA, Apcon, Inc., Finisar Corporation, International Business Machines, Mediacom Broadband LLC, Ortel Communications, Ltd., Nortel Networks Corporation, Rockwell Automation, Inc. and The Lemelson Foundation in the past.

MRV and its subsidiaries have been named as defendants in other lawsuits involving matters that the Company considers routine to the nature of its business. Management is of the opinion that the ultimate resolution of such matters will not have a material adverse effect on our business, operating results and financial condition.

10. Product Warranty and Indemnification
As of December 31, 2012 and December 31, 2011, MRV's product warranty liability recorded in accrued liabilities was $1.0 million and $1.1 million, respectively. The following table summarizes the activity related to the product warranty liability (in thousands):
 
 
Beginning balance
 
Cost of warranty claims
 
Accruals for product warranties
 
Foreign currency translation adjustment
 
Balance at
end of
period
December 31, 2010
 
$
1,002

 
(128)
 
(13)
 
0
 
861
December 31, 2011
 
$
861

 
790
 
(524)
 
(1)
 
1,126
December 31, 2012
 
$
1,126

 
(150)
 
30
 
0
 
1,006

MRV accrues for warranty costs as part of its cost of sales based on associated material product costs, technical support labor costs and associated overhead. The products sold are generally covered by a warranty for periods of 90 days to three years.

In the normal course of business to facilitate sales of its products, MRV indemnifies other parties, including customers, lessors and parties to other transactions with us, with respect to certain matters. The Company has agreed to hold the other parties harmless against losses arising from a breach of representation or covenants, for intellectual property infringement, or other claims made against certain parties. These agreements may limit the time within which an indemnification claim can be made and the amount of the claim.

In addition, the Company has indemnification obligations to its current and former officers, directors, employees and agents, as set forth in the Company's bylaws.

MRV cannot estimate the amount of potential future payments, if any, that it might be required to make as a result of these obligations. Over the last decade, the Company has not incurred any significant expense as a result of obligations of this type that were not otherwise covered by our insurance policies. Accordingly, the Company has not accrued any amounts for such indemnification obligations. However, there can be no assurances that expenses will not be incurred under these indemnification provisions in the future.

11. Stockholders' Equity
Authorized Shares
On December 26, 2012 the Company effected a reverse stock split of 1 for 20 shares which reduced the number of authorized Common Stock to 16,000,000, par value $0.0017. The accompanying consolidated financial statements and notes to the consolidated financial statements have been retroactively restated to reflect the stock split for all periods presented. The Company is authorized to issue up to 1 million shares of its $0.01 par value Preferred Stock.
Stock Repurchase Programs and Stock Repurchase
On September 13, 2010, the Company announced that the Board of Directors approved a repurchase of shares of Common Stock of the Company in an amount up to $10.0 million under a stock repurchase program. The program expired on December 31, 2011. Under this program the Company purchased 15 thousand shares at a total cost of

73

$0.4 million, and 55 thousand shares at a total cost of $1.5 million during the years ended December 31, 2011 and 2010, respectively.

On August 17, 2012, the Company entered into a Share Purchase Agreement with T2 Accredited Fund, L.P., T2 Qualified Fund, L.P. and Tilson Offshore Fund, Ltd. to purchase 292 thousand shares of the Company's Common Stock owned by the sellers at a price of $9.60 per share for an aggregate price of $2.8 million, which was a discount of 7.7% percent from the last reported trading price of $10.40 per share for the Company's Common Stock on August 16, 2012. The sale was executed on August 20, 2012.

On December 3, 2012, the Company announced that the Board of Directors approved a repurchase of shares of Common Stock of the Company in an amount up to $10.0 million under a stock repurchase program. The program expires on December 31, 2013. Under this program the Company purchased 40 thousand shares at a total cost of $0.4 million during the year ended December 31, 2012.
Equity Grants
MRV's equity plans provide for granting options, restricted stock or other forms of equity to purchase shares of MRV's Common Stock, to employees, directors and non-employees performing consulting or advisory services for the Company. Under these plans, stock options exercise prices generally equal the fair market value of MRV's Common Stock at the date of grant and restricted stock grants do not have exercise prices. The options generally vest over one year to four years with expiration dates of ten years from the date of grant and all outstanding restricted stock grants vest one year from the date of grant. The Company's 2007 Omnibus Plan provides for granting options, restricted stock, and other forms of equity, and is at the discretion of the Board of Directors. As of December 31, 2012, 280 thousand options to purchase shares of Common Stock were available for future awards under the plan. See Note 12 Share-Based Compensation for additional discussion.

Dividends

On May 1, 2012, the Company's Board of Directors declared a dividend and payment to option holders totaling approximately $47.3 million, or $6.00 per share of the Company's Common Stock. The dividend was paid on May 25, 2012 to holders of record as of the close of business on May 16, 2012. The Board also approved a staggered cash payment to option holders equal to the loss in the Black-Scholes fair value of their options as a result of the dividend. Restricted stockholders received per share payments in the same amount as the Company's stockholders. Option holders who provided service to the Company at the time of the payment of the dividend received 50 percent of the payment amount in respect of their vested options promptly following payment of the dividend, and will receive 50 percent of the payment amount 12 months following, conditioned upon continuous service to MRV, subject to certain acceleration conditions such as involuntary termination without cause, death or disability, change of control, or a sale of the business unit in which the option holder is employed. Option holders with unvested options will receive the cash payment in 12 months, subject to the same conditions described above.

On December 3, 2012, the Company's Board of Directors declared a dividend and payment to option holders totaling approximately $10.6 million, or $1.40 per share of the Company's Common Stock. The dividend was paid on December 21, 2012 to holders of record as of the close of business on December 14, 2012. Restricted stockholders received per share payments in the same amount as the Company's stockholders. Option holders received a one-time payment equal to the loss in the Black-Scholes fair value of their options as a result of the dividend.

On October 20, 2011, the Board of Directors declared a $75.0 million special dividend, representing approximately $0.48 per share, which was paid on November 10, 2011. The dividend represented excess capital resulting from our sale of Source Photonics.

Reverse Split

On October 11, 2012, the Company's stockholders approved a motion authorizing the Board of Directors to amend the Company's amended and restated certificate of incorporation to effect a reverse stock split of all outstanding shares of the Company's Common Stock at one of the approved ratios of 1:10, 1:11, 1:12, 1:13, 1:14, 1:15, 1:16, 1:17, 1:18, 1:19 or 1:20, at the Board of Director's discretion, and reduce the authorized shares of Common Stock in the same ratio. On December 3, 2012, the Company issued a press release announcing that its Board of Directors had approved a 1-for-20 reverse stock split of the Company’s issued and outstanding Common Stock, and a decrease in the number of authorized shares of the Company’s Common Stock as allowed by the Company’s stockholders at its annual meeting

74

of stockholders on October 11, 2012. The reverse stock split was effective after close of trade on December 26, 2012, and the Common Stock traded on a split-adjusted basis on the OTCQB Marketplace commencing on the open of trade on December 27, 2012.

12.
Share-Based Compensation

MRV records share-based compensation expense in accordance with ASC Topic 718 Compensation - Stock Compensation. The following table summarizes the impact on MRV's results of operations of recording share-based compensation for the years ended December 31, 2012, 2011 and 2010 (in thousands):

 
 
2012
 
2011
 
2010
Cost of goods sold
 

$39

 

$62

 
$
40

Product development and engineering
 
40

 
118

 
207

Selling, general and administrative
 
1,050

 
2,208

 
1,532

Total share-based compensation expense (1)
 

$1,129

 

$2,388

 
$
1,779

 
 
 
 
 
 
 

(1)
Income tax benefits realized from stock option exercises and similar awards were immaterial in all periods.

The Company granted 17,736, 95,953 and 240,774 stock options during the years ended December 31, 2012, 2011 and 2010. The related average fair value was $9.65, $20.12 and $18.56 per share. The Company granted restricted shares of 39,326, 5,146 and 6,028 at average fair values of $16.18, $23.62 and $24.82 per share during the years ended December 31, 2012, 2011 and 2010. As of December 31, 2012, the total unrecorded deferred share-based compensation balance for unvested securities, net of expected forfeitures, was $833.2 thousand, which is expected to be amortized over a weighted-average period of 1.4 years.

The following table summarized the activity that relates to the Company's restricted stock awards:
 
2012
 
2011
 
2010
Restricted stock units at January 1
5,148
 
5,528
 
0
Granted
39,326
 
5,146
 
6,028
Vested
(5,148)
 
(5,526)
 
0
Forfeited
(1,812)
 
0
 
(500)
Restricted stock units as of December 31
37,514
 
5,148
 
5,528
 
 
 
 
 
 

Valuation Assumptions

MRV uses the Black-Scholes option pricing model to estimate the fair value of stock option awards or related modifications. The Black-Scholes model requires the use of subjective and complex assumptions including the option's expected life and the underlying stock price volatility. MRV expects future volatility to approximate historical volatility. The following weighted average assumptions were used for estimating the fair value of options granted during the year ended December 31, 2012:

Year ended December 31,
2012
 
2011
 
2010
Risk-free interest rate
0.8
%
 
1.9
%
 
1.6
%
Dividend yield
—

 
—

 
—

Volatility
89.0
%
 
87.0
%
 
93.9
%
Expected life (in years)
5.5

 
5.9

 
5.2

 
 
 
 
 
 

75

Share-Based Payment Award Activity
The following table summarizes option share-based payment award activity for the one-year period ended December 31, 2012 (in thousands, except per share amounts):
 
 
Shares
under option
 
Weighted average
exercise price
 
Weighted average
remaining contractual term
(in years)
 
Aggregate
intrinsic value
Outstanding, January 1, 2012
 
591

 
 
$
36.33

 
 
 
 
 
 
 

Granted
 
18

 
 
$
13.60

 
 
 
 
 
 
 

Exercised
 
—

 
 
$
—

 
 
 
 
 
 
 

Canceled and forfeited
 
(186
)
 
 
$
36.02

 
 
 
 
 
 
 

Outstanding, December 31, 2012
 
423

 
 
$
35.52

 
 
 
3.62
 
 
$
—

Vested and expected to vest, December 31, 2012
 
414

 
 
$
35.70

 
 
 
3.53
 
 
$
—

Exercisable, December 31, 2012
 
362

 
 
$
37.26

 
 
 
2.86
 
 
$
—

The aggregate intrinsic value represents the total pre-tax intrinsic value, based on MRV's closing stock price of $10.30 at December 31, 2012, which would have been received by award holders had all award holders exercised in-the-money awards as of that date.
A summary of the Company's nonvested options as of December 31, 2012 (in thousands, except per share amounts):

 
 
Shares
under option
 
Weighted average
exercise price
 
Nonvested options outstanding, January 1, 2012
 
163

 
 
$
26.60

 
 
Granted
 
18

 
 
$
13.60

 
 
Vested
 
(63
)
 
 
$
25.38

 
 
Canceled and forfeited
 
(57
)
 
 
$
25.42

 
 
Nonvested outstanding, December 31, 2012
 
61

 
 
$
25.18

 
 

The following table summarizes significant ranges of outstanding and exercisable options at December 31, 2012:

Range of Exercise prices
 
Options
outstanding
as of
December 31,
2012
 
Weighted
average
remaining
contractual
life (years)
 
Weighted
average
exercise
price
 
Options
exercisable
as of
December 31,
2012
 
Weighted
average
exercise
price of
exercisable
options
$13.60 - $22.20
 
31,158

 
5.04
 
$
16.84

 
20,388

 
$
18.48

$23.80 - $23.80
 
54,523

 
4.74
 
$
23.80

 
39,275

 
$
23.80

$25.00 - $25.00
 
87,500

 
2.93
 
$
25.00

 
87,500

 
$
25.00

$27.60 - $27.60
 
49,147

 
6.31
 
$
27.60

 
27,414

 
$
27.60

$29.00 - $33.20
 
50,014

 
4.89
 
$
31.41

 
38,598

 
$
31.28

$34.60 - $48.80
 
53,747

 
2.32
 
$
42.93

 
52,060

 
$
43.20

$51.20 - $54.80
 
45,015

 
2.75
 
$
50.91

 
45,015

 
$
52.91

$55.00 - $73.40
 
45,439

 
1.02
 
$
64.37

 
45,439

 
$
64.37

$74.00 - $76.40
 
4,650

 
1.03
 
$
74.85

 
4,650

 
$
74.85

$79.20 - $79.20
 
1,400

 
3.25
 
$
79.20

 
1,400

 
$
79.20

$13.60 - $79.20
 
422,593

 
3.62
 
$
33.52

 
361,739

 
$
37.26


The following table summarizes certain stock option exercise activity during the periods presented (in thousands):

76

 
 
2012
 
2011
 
2010
Total intrinsic value of stock options exercised
 
$
—

 
$
139

 
$
481

Cash received from stock options exercised
 
$
—

 
$
234

 
$
995



13.
Segment Reporting and Geographic Information

MRV operates its business in two segments: the Network Equipment segment and the Network Integration segment. The Network Equipment segment designs, manufactures, distributes and services optical networking solutions and Internet infrastructure products, and the Network Integration segment provides value-added integration and support services for customers' networks.

The accounting policies of the segments are the same as those described in the summary of significant accounting polices set forth in Note 2, Summary of Significant Accounting Policies. MRV evaluates segment performance based on revenues, gross profit and operating income (loss) of each segment. As such, there are no separately identifiable Statements of Operations data below operating income (loss).

The following table summarizes revenues by segment, including intersegment revenues (in thousands):
 
 
2012
 
2011
 
2010
Network Equipment segment
 

$87,727

 

$96,166

 
$
96,514

Network Integration segment
 
72,421

 
76,436

 
80,209

Before intersegment adjustments
 
160,148

 
172,602

 
176,723

Intersegment adjustments
 
(8,487
)
 
(15,534
)
 
(13,262
)
Total
 

$151,661

 

$157,068

 
$
163,461

 
 
 
 
 
 
 

Network Equipment revenue primarily consists of optical communication systems that include Metro Ethernet equipment, optical transport equipment and out-of-band network equipment, and related service revenue and fiber optic components which are sold as part of system solutions. Network Integration revenue primarily consists of value-added integration and support service revenue, related third-party product sales (including third-party product sales through distribution) and fiber optic components sold as part of system solutions.

One customer accounted for $43.4 million, $44.2 million and $46.1 million of revenue in the Network Integration segment, or 29%, 28% and 28% of total revenue, for the years ended December 31, 2012, 2011 and 2010.

The same customer accounted for 21%, 14% and 11% of accounts receivable as of December 31, 2012, 2011 and 2010 respectively. Another customer in the Network Integration segment accounted for 9%, 30% and 33% of total accounts receivable as of December 31, 2012, 2011 and 2010, respectively.

The following table summarizes external revenue by geographic region (in thousands):

Years Ended December 31,
 
2012
 
2011
 
2010
Americas
 

$53,258

 

$57,433

 
$
52,819

Europe
 
88,868

 
94,317

 
100,782

Asia Pacific
 
9,521

 
5,296

 
9,779

Other regions
 
14

 
22

 
81

Total
 

$151,661

 

$157,068

 
$
163,461

 
 
 
 
 
 
 


77

The following table summarizes long-lived assets, consisting of property and equipment, by geographic region (in thousands):
 
December 31, 2012
 
December 31, 2011
Americas

$2,099

 

$2,150

Europe
1,590

 
1,558

Asia Pacific
46

 
52

Total

$3,735

 

$3,760

 
 
 
 

The following table provides selected Statement of Operations information by business segment (in thousands):

Years ended December 31,
2012
 
2011
 
2010
Gross profit
 
 
 
 
 
Network Equipment segment
$
43,325

 
$
49,423

 
$
52,222

Network Integration segment
11,832

 
12,659

 
15,718

Before intersegment adjustments
55,157

 
62,082

 
67,940

Corporate unallocated and intersegment adjustments (1)
(5
)
 
(408
)
 
(199
)
Total
$
55,152

 
$
61,674

 
$
67,741

 
 
 
 
 
 
Depreciation expense
 
 
 
 
 
Network Equipment segment
$
1,022

 
$
843

 
$
784

Network Integration segment
234

 
243

 
312

Corporate
192

 
180

 
59

Total
$
1,448

 
$
1,266

 
$
1,155

 
 
 
 
 
 
Operating income (loss)
 
 
 
 
 
Network Equipment segment
$
1,096

 
$
4,539

 
$
5,559

Network Integration segment
4,514

 
6,036

 
7,833

Before intersegment adjustments
5,610

 
10,575

 
13,392

Corporate unallocated operating loss and adjustments (1)
(15,457
)
 
(14,292
)
 
(11,777
)
Total operating income (loss)
$
(9,847
)
 
$
(3,717
)
 
$
1,615

 
 
 
 
 
 
Provision (benefit) for income taxes
 
 
 
 
 
Network Equipment segment
$
(2,468
)
 
$
(3,289
)
 
$
(3,364
)
Network Integration segment
1,455

 
2,098

 
2,896

Corporate
—

 
—

 
—

Total
$
(1,013
)
 
$
(1,191
)
 
$
(468
)
 
 
 
 
 
 

(1) Adjustments reflect the elimination of intersegment revenue and profit in inventory.


78

The following tables provide selected Balance Sheet and Statement of Cash Flow information by business segment (in thousands):

December 31:
2012
 
2011
Additions to Fixed Assets
 
 
 
Network Equipment segment
$
1,296

 
$
1,129

Network Integration segment
85

 
328

Corporate
86

 
212

Discontinued operations
1,442

 
1,449

Total
$
2,909

 
$
3,118

Total Assets
 
 
 
Network Equipment segment
$
44,445

 
$
46,101

Network Integration segment
47,400

 
46,279

Corporate and intersegment eliminations
36,720

 
52,636

Discontinued operations
—

 
85,673

Total
$
128,565

 
$
230,689

Goodwill
 
 
 
Network Integration segment
—

 
1,071

Total
$
—

 
$
1,071



14. Other Income, Net
Following is a summary of other income, net (in thousands):
Years ended December 31:
 
2012
 
2011
 
2010
Interest income
 
$
7

 
$
51

 
$
118

Loss on foreign currency transactions
 
(316
)
 
(118
)
 
196

Other, net
 
255

 
97

 
(674
)
Total
 
$
(54
)
 
$
30

 
$
(360
)

15. Sale of Investments in Unconsolidated Entities

On December 14, 2009, Broadcom Corporation completed the acquisition of Dune Networks, Inc., a privately held company in which MRV held a $0.5 million cost based investment. MRV recorded a $3.5 million gain on sale of the investment for the year ended December 31, 2010. MRV received the cash proceeds from the sale, less amounts retained in escrow, in the first quarter of 2010, and received the escrowed funds in 2011.


79

16. Quarterly Financial Data (Unaudited)
The following tables summarize MRV's Statements of Operations (in thousands):

Three months ended:
 
March 31,
2012
 
June 30,
2012
 
September 30,
2012
 
December 31,
2012
Revenue
 
$
33,415

 
$
37,626

 
$
34,666

 
$
45,954

Cost of goods sold
 
20,734

 
24,314

 
20,294

 
31,167

Gross profit
 
12,681

 
13,312

 
14,372

 
14,787

Operating expenses:
 
 
 
 
 
 
 
 
Product development and engineering
 
3,699

 
3,389

 
4,023

 
4,233

Selling, general and administrative
 
12,627

 
11,167

 
11,414

 
13,391

Impairment of goodwill
 


 


 
1,055

 
1

Total operating expenses
 
16,326

 
14,556

 
16,492

 
17,625

Operating income (loss)
 
(3,645
)
 
(1,244
)
 
(2,120
)
 
(2,838
)
Interest expense
 
(208
)
 
(191
)
 
(52
)
 
(150
)
Gain from settlement of deferred consideration obligation
 
—

 
2,314

 
—

 
—

Other income (loss), net
 
162

 
(82
)
 
(17
)
 
(117
)
Income (loss) from continuing operations before income taxes
 
(3,691
)
 
797

 
(2,189
)
 
(3,105
)
Provision (benefit) for income taxes
 
(1,517
)
 
296

 
(869
)
 
1,077

Income (loss) from continuing operations
 
(2,174
)
 
501

 
(1,320
)
 
(4,182
)
Gain (loss) from discontinued operations
 
5,789

 
(630
)
 
(2,108
)
 
9,788

Net income (loss) attributable to MRV
 
$
3,615

 
$
(129
)
 
$
(3,428
)
 
$
5,606

Net income (loss) attributable to MRV per share — basic:
 
 
 
 
 
 
 
 
From continuing operations
 
$
(0.28
)
 
$
0.06

 
$
(0.17
)
 
$
(0.54
)
From discontinued operations
 
$
0.73

 
$
(0.08
)
 
$
(0.27
)
 
$
1.26

Net income (loss) attributable to MRV per share — basic (1)
 
$
0.46

 
$
(0.02
)
 
$
(0.44
)
 
$
0.72

Net income (loss) attributable to MRV per share — diluted:
 
 
 
 
 
 
 
 
From continuing operations
 
$
(0.28
)
 
$
0.06

 
$
(0.17
)
 
$
(0.54
)
From discontinued operations
 
$
0.73

 
$
(0.08
)
 
$
(0.27
)
 
$
1.26

Net income (loss) attributable to MRV per share — diluted (1)
 
$
0.46

 
$
(0.02
)
 
(0.44
)
 
$
0.72

Basic weighted average shares
 
7,887

 
7,887

 
7,766

 
7,760

Diluted weighted average shares
 
7,896

 
7,887

 
7,766

 
7,760


80

Three months ended:
 
March 31,
2011
 
June 30,
2011
 
September 30,
2011
 
December 31,
2011
Revenue
 
$
35,112

 
$
39,373

 
$
37,933

 
$
44,650

Cost of goods sold
 
21,304

 
22,691

 
23,285

 
28,114

Gross profit
 
13,808

 
16,682

 
14,648

 
16,536

Operating expenses:
 
 
 
 
 
 
 
 
Product development and engineering
 
3,791

 
3,554

 
3,281

 
3,860

Selling, general and administrative
 
12,130

 
13,909

 
10,896

 
13,970

Total operating expenses
 
15,921

 
17,463

 
14,177

 
17,830

Operating income (loss)
 
(2,113
)
 
(781
)
 
471

 
(1,294
)
Interest expense
 
(224
)
 
(187
)
 
(204
)
 
(241
)
Other income (loss), net
 
(1,047
)
 
992

 
84

 
1

Income from continuing operations before income taxes
 
(3,384
)
 
24

 
351

 
(1,534
)
Provision (benefit) for income taxes
 
(1,175
)
 
(151
)
 
(1,132
)
 
1,267

Income (loss) from continuing operations
 
(2,209
)
 
175

 
1,483

 
(2,801
)
Gain (loss) from discontinued operations
 
1,665

 
(2,040
)
 
597

 
(3,696
)
Net income (loss) attributable to MRV
 
(544
)
 
(1,865
)
 
2,080

 
(6,497
)
Net income (loss) from continuing operations attributable to MRV
 
$
(2,209
)
 
175

 
$
1,483

 
$
(2,801
)
Net income (loss) from discontinued operations attributable to MRV
 
$
1,665

 
$
(2,040
)
 
$
597

 
$
(3,696
)
Net income (loss) attributable to MRV per share — basic:
 
 
 
 
 
 
 
 
From continuing operations
 
$
(0.28
)
 
$
0.02

 
$
0.19

 
$
(0.36
)
From discontinued operations
 
0.21

 
(0.26
)
 
0.08

 
(0.47
)
Net income (loss) attributable to MRV per share — basic (1)
 
$
(0.07
)
 
$
(0.24
)
 
$
0.26

 
$
(0.82
)
Net income (loss) attributable to MRV per share — diluted:
 
 
 
 
 
 
 
 
From continuing operations
 
$
(0.28
)
 
$
0.02

 
$
0.19

 
$
(0.36
)
From discontinued operations
 
0.21

 
(0.26
)
 
0.08

 
(0.47
)
Net income attributable to MRV per share — diluted (1)
 
$
(0.07
)
 
$
(0.24
)
 
$
0.26

 
$
(0.82
)
Basic weighted average shares
 
7,879

 
7,872

 
7,877

 
7,884

Diluted weighted average shares
 
7,879

 
7,872

 
7,930

 
7,884

_____________________________
(1)
Amounts may not add due to rounding.


17. Noncontrolling Interests
On October 29, 2010 the Company completed the purchase of the remaining 40% interest in Tecnonet S.p.A, its majority owned Italian Network Integration subsidiary, for $5.6 million. After the purchase, MRV became the 100% owner of Tecnonet. The noncontrolling interest's share of the net book value of Tecnonet was $6.7 million as of the date of the transaction. The amount by which the noncontrolling interest balance exceeded the purchase price was recorded as an increase in MRV equity.


81

18. Accounts Receivable Factoring

The Company's Italian subsidiary has agreements with unrelated third-parties for the factoring of specific accounts receivable in Italy in order to reduce the amount of working capital required to fund such receivables. At December 31, 2012, Tecnonet's factoring facility agreements permitted the factoring of up to €23.0 million, or $30.3 million, worth of receivables in operations outside of the United States. The factoring of accounts receivable under these agreements is accounted for as a sale in accordance with ASC 860 Transfers and Servicing, and accordingly, is accounted for as an off-balance sheet arrangement. These receivables are of high quality and have a high level of collectability although they are with quasi-government agencies which are generally slower to pay.  Proceeds on the transfer reflect the face value of the account less a discount. The discount is recorded as a charge in "interest" in the consolidated statement of income in the period of the sale. Net funds received reduced accounts receivable outstanding while increasing cash. The Company has no significant retained interests or servicing liabilities related to the accounts receivable that have been sold in Italy.
    
As of the years ended December 31, 2012 and 2011, the face amount of total outstanding accounts receivables sold by the Company pursuant to these agreements was $57.8 million and $53.5 million, respectively. The related losses on the sale were $0.2 million for the years ended December 31, 2012 and December 31, 2011. The related outstanding balances on these amounts were $13.3 million and $10.1 million as of December 31, 2012 and December 31, 2011, respectively, as these amounts are due from the factors. These amounts are classified as non-trade receivables, included in "other receivables" on the balance sheet, and recorded at the lower of cost or fair value.

19. Subsequent Events

In connection with the Company's past stock option grant practices, MRV and certain of its former directors and officers have been subjected to a number of stockholder lawsuits, see Note 9. With respect to the outstanding lawsuits, on March 1, 2013, the parties filed a Stipulation of Settlement (the "Stipulation") with the federal court and the plaintiffs filed a motion for preliminary approval of the Stipulation. There can be no assurance that either the federal or state court will approve the Stipulation. The Stipulation includes, among other things, (a) a release of all claims relating to the derivative lawsuits for the Company, the individual defendants and the plaintiffs; (b) a provision that $2.5 million in cash be paid to the Company by the Company's insurance carriers; (c) payments of attorneys' fees to plaintiffs' counsel including $0.5 million in cash and 250,000 five-year term warrants to purchase the Company's Common Stock; and (d) the continued payment by the Company of applicable reasonable attorneys' fees for the individual defendants. Within 120 days following the later of the issuance of an order approving the Settlement by the federal District Court, or the end of the period available for appeal, the Company would be required to take certain corporate governance reform actions, many of which have already been implemented. See Note 9 "Commitments and Contingencies - Litigation" for additional discussion.

On March 12, 2013, the Company instructed its investment banker to cease the review strategic alternatives for its Italian subsidiary, Tecnonet. The Company will continue to operate Tecnonet, and it is the only remaining European Network Integrator.


Item 9.    Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
None.

Item 9A.    Controls and Procedures.
Disclosure Controls and Procedures
We evaluated the design and operation of the effectiveness of our disclosure controls and procedures as of December 31, 2012, under the supervision and with the participation of our management, pursuant to Rule 13a-15(b) of the Exchange Act. Management concluded that our disclosure controls and procedures as defined in Rule 13a-15(e) as of December 31, 2012 were effective.
To further address any remaining risks identified in our internal control over financial reporting, the Company performed additional manual procedures and analysis and other post-closing procedures in order to prepare the consolidated financial statements included in this Form 10-K. Notwithstanding the remaining remedial efforts to improve deficiencies in our internal control over financial reporting as of December 31, 2012, we believe that the consolidated

82

financial statements contained in this Form 10-K present our financial condition, results of operations, and cash flows as of the dates, and for the periods presented in conformity with GAAP.
Management's Report on Internal Control over Financial Reporting
Management is responsible for establishing and maintaining adequate internal control over financial reporting, pursuant to Rule 13a-15(c) of the Exchange Act. This system is intended to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP.
A company's internal control over financial reporting includes policies and procedures that: (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company's assets that could have a material effect on the financial statements.
In accordance with the internal control reporting requirements of the SEC, our management completed an assessment of the effectiveness of our internal control over financial reporting as of December 31, 2012. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission ("COSO"). The COSO framework summarizes each of the components of a company's internal control system, including the: (i) control environment; (ii) risk assessment; (iii) information and communication; and (iv) monitoring, as well as a company's control activities. Based on this assessment, our management has determined that our internal control over financial reporting as of December 31, 2012 was effective.
The effectiveness of our internal control over financial reporting as of December 31, 2012, has been audited by Ernst & Young LLP, an independent registered public accounting firm, as stated in their report which is included herein.
Changes in Internal Control over Financial Reporting
During the fourth quarter of 2012, the Company confirmed through it testing of internal controls that the changes made at the end of 2011 had fully remediated the five significant deficiencies that had existed at December 31, 2011. These changes included having individuals responsible for accounting and reporting at the business units with four of the five significant deficiencies report directly to the Vice President of Finance or the CFO to improve oversight.
Limitation on the Effectiveness of Internal Controls
Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls will prevent all errors and all misconduct. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of misconduct, if any, within the Company have been detected. These inherent limitations include, but are not limited to, the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of a single person, by collusion of two or more people, or by management override of the control. The design of any system of controls also is based in part upon certain assumptions about the likelihood of future events and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. Over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control system, misstatements due to error or misconduct may occur and not be detected.

83

Report of Independent Registered Public Accounting Firm
The Board of Directors and Stockholders of MRV Communications, Inc.
We have audited MRV Communications, Inc.'s internal control over financial reporting as of December 31, 2012, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). MRV Communications, Inc.'s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management's Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the company's internal control over financial reporting based on our audit.

We conducted our audit 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 effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company's internal control over financial reporting is a process 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. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.

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.

In our opinion, MRV Communications, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2012, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of MRV Communications, Inc. as of December 31, 2012 and 2011, and the related consolidated statements of operations, comprehensive income (loss), stockholders' equity and cash flows for each of the three years in the period ended December 31, 2012 of MRV Communications, Inc. and our report dated April 2, 2013 expressed an unqualified opinion thereon.

/s/ Ernst & Young LLP

Los Angeles, California

April 2, 2013


Item 9B.    Other Information.
None.

PART III

Item 10.    Directors, Executive Officers and Corporate Governance.

84

The information required by this Item under the heading "Directors, Executive Officers and Corporate Governance" may be incorporated herein by reference from information to be contained in the Company's next proxy statement or will be included in an amendment to this Form 10K to be filed with the SEC within 120 days after the end of the fiscal year to which this report relates.

Item 11.    Executive Compensation.
The information required by this Item under the heading "Executive Compensation" may be incorporated herein by reference from information to be contained in the Company's next proxy statement or will be included in an amendment to this Form 10K to be filed with the SEC within 120 days after the end of the fiscal year to which this report relates.

Item 12.    Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters.
The information required by this Item under the heading "Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters" may be incorporated herein by reference from information to be contained in the Company's next proxy statement or will be included in an amendment to this Form 10K to be filed with the SEC within 120 days after the end of the fiscal year to which this report relates.

Item 13.    Certain Relationships and Related Transactions, and Director Independence.
The information required by this Item under the heading "Certain Relationships and Related Transactions, and Director Independence" may be incorporated herein by reference from information to be contained in the Company's next proxy statement or will be included in an amendment to this Form 10K to be filed with the SEC within 120 days after the end of the fiscal year to which this report relates.


Item 14.    Principal Accounting Fees and Services.
The information required by this Item under the heading "Principal Accounting Fees and Services" may be incorporated herein by reference from information to be contained in the Company's next proxy statement or will be included in an amendment to this Form 10K to be filed with the SEC within 120 days after the end of the fiscal year to which this report relates.

PART IV

Item 15.    Exhibits and Financial Statement Schedules.
(a)
(1) The financial statements and the Report of Ernst & Young LLP are included in Item 8 of this Form 10-K on the pages indicated:
(2)
Schedule II — Valuation and Qualifying Accounts
Information required to be set forth herein is shown in the financial statements or notes thereto.
(3) Exhibits

85

Exhibit No.
Description
 
 
2.1
Stock Purchase Agreement, dated as of December 2, 2011, by and between MRV Communications, Inc., as Seller, and CES Holding SA, as Purchaser, represented for purpose of the Agreement by Vinci Capital Switzerland SA (incorporated by reference from Exhibit 10.1 of Form 8-K filed on December 7, 2011)
2.2
Share Purchase Agreement, dated as of August 1, 2012, between the Company, as Seller, and IJ Next, as Purchaser in the presence of Holding Baelen Gaillard (incorporated by reference from Exhibit 10.1 of Form 8-K filed on August 7, 2012)
2.3
Representations and Warranties Agreement, dated as of August 1, 2012, between the Company, as warrantor, and IJ Next, as beneficiary (incorporated by reference from Exhibit 10.2 of Form 8-K filed on August 7, 2012)
2.4
Stock Purchase Agreement, dated as of September 11, 2012, by and between the Company as Seller, and Deltaco Aktiebolag, as Purchaser (incorporated by reference from Exhibit 10.1 of Form 8-K filed on September 12, 2012)
3.1
Amended and Restated Certificate of Incorporation of MRV Communications, Inc. (incorporated by reference from Exhibit 4.1 of Form 10-Q for the quarter ended June 30, 2007)
3.2
Amended and Restated Certificate of Incorporation of MRV Communications, Inc., as amended by a Certificate of Ownership and Merger on July 31, 2009 (incorporated by reference from Exhibit 3.1 on Form 10-Q for the quarter ended September 30, 2012)
3.3
Certificate of Amendment of the Amended and Restated Certificate of Incorporation of MRV Communications, Inc., filed on December 19, 2012 (filed herewith)
3.4
Bylaws of MRV Communications, Inc., as amended through October 5, 2009 (incorporated by reference from Exhibit 3.1 of Form 8-K filed on October 6, 2009)
4.1
Specimen certificate of Common Stock (incorporated by reference to Exhibit 4.5 of Form S-3 (file No. 333-64017) filed on September 9, 1998)
10.1
Employment Agreement, dated February 1, 2013, by and between the Company and David Stehlin (incorporated by reference from Exhibit 10.2 of Form 8-K filed on February 4, 2013)
10.2
Engagement Agreement, dated February 23, 2012, by and between the Company and Avant Advisory Group, LLC (incorporated by reference from Exhibit 10.1 of Form 8-K filed on April 3, 2012)
10.3
Employment Agreement, dated October 10, 2012, by and between the Company and Stephen Garcia (incorporated by reference from Exhibit 10.1 of Form 8-K filed on October 11, 2012)
10.4
Form of Executive Severance Agreement, by and between the Company and the Executive (incorporated by reference from Exhibit 10.2 of Form 8-K filed on May 27, 2010)
10.5
Letter Agreement, dated February 8, 2012, by and between the Company and Jennifer Hankes Painter (incorporated by reference from Exhibit 10.2 of Form 8-K filed on February 8, 2012)
10.6
Letter Agreement, dated February 8, 2012, by and between the Company and Barry R. Gorsun (incorporated by reference from Exhibit 10.1 of Form 8-K filed on February 8, 2012)
10.7
Separation and Consulting Agreement, dated January 31, 2013, by and between the Company and Barry Gorsun (incorporated by reference from Exhibit 10.1 of Form 8-K filed on February 4, 2013)
10.8
Separation and Transition Agreement, dated January 20, 2012, by and between the Company and Chris King (incorporated by reference from Exhibit 10.1 of Form 8-K filed on January 24, 2012)
10.9
Separation and Release Agreement, dated December 5, 2011, by and between the Company and Dilip Singh (incorporated by reference from Exhibit 10.1 of Form 8-K filed on December 6, 2011)
10.10
Separation and Transition Agreement, dated January 23, 2012, by and between the Company and Blima Tuller (incorporated by reference from Exhibit 10.2 of Form 8-K filed on January 24, 2012)
10.11
Notice of Grant of Non-Qualified Stock Option Award to Dilip Singh (incorporated by reference from Exhibit 4.1 of Form S-8 (file no. 333-168910) filed on August 17, 2010)
10.12
MRV Communications, Inc. 2007 Omnibus Incentive Plan (incorporated by reference from Exhibit 4.1 of Form S-8 (file no. 333-167971) filed on July 2, 2010)
10.13
Amendment to MRV Communications, Inc. 2007 Omnibus Incentive Plan dated November 5, 2012 (incorporated by reference from Exhibit 10.6 of Form 10-Q for the quarter ended September 30, 2012)
10.14
Form of Notice of Grant and Agreement for Non-Qualified Stock Option Awards for employees under the 2007 Omnibus Incentive Plan for 2007 - 2010 (incorporated by reference from Exhibit 10.8 of Form 10-K filed on October 8, 2009)

86

10.15
Form of Notice of Grant and Agreement for Non-Qualified Stock Option Awards for employees under the 2007 Omnibus Incentive Plan for 2011 - present (incorporated by reference from Exhibit 10.2 of Form 8-K filed on March 15, 2011)
10.16
Form of Notice of Grant and Agreement for Non-Qualified Stock Option Awards for directors under the 2007 Omnibus Incentive Plan for the years 2007 - 2008 (incorporated by reference from Exhibit 10.9 of Form 10-K filed on October 8, 2009)
10.17
Form of Notice of Grant and Agreement for Non-Qualified Stock Option Awards for directors under the 2007 Omnibus Incentive Plan for 2010 - present (incorporated by reference from Exhibit 4.3 of Form S-8 (file no. 333-167971) filed on July 2, 2010)
10.18
Form of Notice of Grant and Agreement for Restricted Stock Award for directors under the 2007 Omnibus Incentive Plan (incorporated by reference from Exhibit 4.4 of Form S-8 (file no. 333-167971) filed on July 2, 2010)
10.19
Non-Director and Non-Executive Officer Consolidated Long-Term Stock Incentive Plan (incorporated by reference from Exhibit 4.1 of Form S-8 (file no. 333-107109) filed on July 17, 2003)
10.20
Form of Non-Director and Non-Executive Officer Consolidated Long-Term Stock Incentive Plan Award Agreement (incorporated by reference to Exhibit 4.2 of Form S-8 (file no. 333-107109) filed on July 17, 2003)
10.21
1997 Incentive and Nonstatutory Stock Option Plan, as amended (incorporated by reference from Exhibit 10.8 of Form 10-K filed on October 8, 2009)
10.22
Form of Stock Option Agreement under the 1997 Incentive and Nonstatutory Stock Option Plan (incorporated by reference from Exhibit 4.2 of Form S-8 (file no. 333-87735) filed on September 24, 1999)
10.23
Agreement, dated October 17, 2011, by and among the Company, Charles M. Gillman, Joan E. Herman, Michael E. Keane, Michael J. McConnell, Igal Shidlovsky, Kenneth Shubin Stein, Dilip Singh, Philippe Tartavull, Spencer Capital Management and Boston Avenue Capital LLC (incorporated by reference from Exhibit 10.1 of Form 8-K filed on October 21, 2011)
10.24
Share Purchase Agreement, dated as of August 17, 2012, by and among T2 Accredited Fund, L.P., T2 Qualified Fund, L.P. and Tilson Offshore Fund, Ltd., and the Company as Purchaser (incorporated by reference from Exhibit 10.1 of Form 8-K filed on August 20, 2012)
10.25
Settlement and Mutual Release Agreement, dated as of June 11, 2012, by and among the Company, Source Photonics, Ying Lu, Jingchun Sun, Starry Holdings Limited, Min Wang and Chao Zhang (incorporated by reference from Exhibit 10.1 of Form 8-K filed on June 15, 2012)
10.26
Memorandum of Understanding, dated January 16, 2013, by and among the Plaintiffs, Individual Defendants and the company (incorporated by reference from Exhibit 10.1 of Form 8-K filed on January 17, 2013)
21.1
Subsidiaries of the Registrant
23.1
Consent of Independent Registered Public Accounting Firm
24.1
Power of Attorney (included following signature page)
31.1
Certification of the Principal Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith)
31.2
Certification of the Principal Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith)
32.1
Certification of the Principal Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith)
32.2
Certification of the Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith)
101.INS
XBRL Instance Document (furnished herewith)
101.SCH
XBRL Taxonomy Extension Schema Document (furnished herewith)
101.CAL
XBRL Taxonomy Calculation Linkbase Document (furnished herewith)
101.LAB
XBRL Taxonomy Label Linkbase Document (furnished herewith)
101.PRE
XBRL Taxonomy Presentation Linkbase Document (furnished herewith)
101.DEF
XBRL Taxonomy Extension Definition Document (furnished herewith)




87


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

 
 
MRV Communications, Inc.
 
 
By:
Date: April 2, 2013
 
/s/ David Stehlin
 
 
David Stehlin
Chief Executive Officer
Pursuant to the requirements of the Exchange Act, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
 

 
 
 
 
 
Principal Executive Officer:
Date: April 2, 2013
 
/s/ David Stehlin
 
 
David Stehlin
Chief Executive Officer
 
 
Principal Financial and Accounting Officer:
Date: April 2, 2013
 
/s/ Stephen Garcia
 
 
Stephen Garcia
Chief Financial Officer
All of the Board of Directors: Kenneth H. Traub, Robert Pons and Glenn Tongue

 
 
By:
Date: April 2, 2013
 
/s/ Jennifer Hankes Painter
 
 
Jennifer Hankes Painter
As Attorney-in-fact



88


POWER OF ATTORNEY
        KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints each of David Stehlin and Jennifer Hankes Painter, the true and lawful attorneys-in-fact and agents with full power and authority in said attorneys-in-fact and agents to sign for the undersigned, in their respective names as directors of MRV Communications, Inc., the Annual Report on Form 10-K for the year ended December 31, 2012, and to file any and all amendments to the Annual Report, and to file the same, with all exhibits thereto, and all documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises.
 
 
 
 
 
Signature
 
Title
 
Date
 
 
 
 
 
/s/ Kenneth H. Traub
 
 
 
 
Kenneth H. Traub
 
Chairman of the Board
 
April 2, 2013

/s/ Robert Pons
 
 
 
 
Robert Pons
 
Vice-Chairman of the Board
 
April 2, 2013
/s/ Glenn Tongue
 
 
 
 
Glenn Tongue
 
Director
 
April 2, 2013



89