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PROCERA NETWORKS INC - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) The following is a discussion of our results of operations and current financial position. This discussion should be read in conjunction with our unaudited consolidated financial statements and related notes included elsewhere in this report and the audited consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2010. As used in this quarterly report on Form 10-Q, references to the "Company," "we," "us," "our" or similar terms include Procera Networks, Inc. and its consolidated subsidiaries. Cautionary Note Regarding Forward-Looking Statements Our disclosure and analysis in this quarterly report on Form 10-Q contain certain "forward-looking statements," as such term is defined in Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). These statements set forth anticipated results based on management's plans and assumptions. From time to time, we also provide forward-looking statements in other materials we release to the public as well as oral forward-looking statements. Such statements give our current expectations or forecasts of future events; they do not relate strictly to historical or current facts. We have attempted to identify such statements by using words such as "anticipate," "estimate," "expect," "project," "intend," "plan," "believe," "will," "could", "initial" and similar expressions in connection with any discussion of future events or future operating or financial performance or strategies. Such forward-looking statements include, but are not limited to, statements regarding: ? our services, including the development and deployment of products and services and strategies to expand our targeted customer base and broaden our sales channels; ? the operation of our company with respect to the development of products and services; ? our liquidity and financial resources, including anticipated capital expenditures, funding of capital expenditures and anticipated levels of indebtedness and the ability to raise capital through financing activities; ? trends related to and management's expectations regarding results of operations, required capital expenditures, revenues from existing and new products and sales channels, and cash flows, including but not limited to those statements set forth below in this Item 2; and ? sales efforts, expenses, interest rates, foreign exchange rates, and the outcome of contingencies, such as legal proceedings. We cannot guarantee that any forward-looking statement will be realized. Achievement of future results is subject to risks, uncertainties and potentially inaccurate assumptions. Should known or unknown risks or uncertainties materialize, or should underlying assumptions prove inaccurate, actual results could vary materially from past results and those anticipated, estimated or projected. Investors should bear this in mind as they consider forward-looking statements. We undertake no obligation to publicly update forward-looking statements, whether as a result of new information, future events or otherwise. You are advised, however, to consult any further disclosures we make on related subjects in our annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. We also provide the following cautionary discussion of risks and uncertainties related to our businesses. These are factors that we believe, individually or in the aggregate, could cause our actual results to differ materially from expected and historical results. We note these factors for investors as permitted by Section 21E of the Exchange Act. You should understand that it is not possible to predict or identify all such factors. Consequently, you should not consider the following to be a complete discussion of all potential risks or uncertainties. Our forward-looking statements are subject to a variety of factors that could cause actual results to differ significantly from current beliefs and expectations, identified under the caption "Risk Factors" and elsewhere in this quarterly report on Form 10-Q, as well as general risks and uncertainties such as those relating to general economic conditions and demand for our products and services. Overview We are a leading provider of Intelligent Policy Enforcement ("IPE") solutions that enable mobile and broadband network operators and entities managing private networks including higher education institutions, businesses and government entities (collectively referred to as network operators) to gain enhanced visibility into, and control of, their networks. Our solutions provide granular network intelligence to enable network operators to improve the quality and longevity of their networks, better monetize their network infrastructure investments, control security hazards and create and deploy new services for their users. The intelligence we provide about users and their usage enables qualified business decisions. Our network operator customers include mobile service providers, broadband service providers, cable multiple system operators ("MSOs"), Internet Service Providers ("ISPs"), educational institutions, enterprises and government agencies. 14-------------------------------------------------------------------------------- Index Our IPE products are part of the market for mobile packet and broadband core products. According to Infonetics Research, the market for IPE products is expected to grow from $249 million in 2009 to $1.5 billion in 2014, a compound annual growth rate of 44%. Our bundled products deliver a solution that is a key element of the mobile packet and broadband core ecosystems. Our solutions are often integrated with additional elements in the mobile packet and broadband core including Policy Management and Charging functions and are compliant with the widely adopted 3rd Generation Partnership Program, or 3GPP, standard. In order to respond to rapidly increasing demand for network capacity due to increasing subscribers and usage, network operators are seeking higher degrees of intelligence, optimization, network management, service creation and delivery in order to differentiate their offerings and deliver a high quality of experience to their subscribers. We believe the need to create more intelligent and innovative mobile and broadband networks will continue to drive demand for our products. Our products are marketed under the PacketLogic brand name. We have a broad spectrum of products delivering IPE at the access, edge and core layers of the network. Our products are designed to offer maximum flexibility to our customers and enable differentiated services and revenue-enhancing applications, all while delivering a high quality of service for subscribers. We face competition from suppliers of standalone IPE and deep packet inspection ("DPI") products including Allot Communications Ltd., Arbor Networks (acquired by Tektronix), Blue Coat Systems, Brocade Communications Systems, Cisco Systems, Inc., Cloudshield Technologies (acquired by SAIC), Ericsson, Huawei Technologies Company, Juniper Networks, and Sandvine Corporation. Some of our competitors supply platform products with different degrees of DPI functionality, such as switch/routers, routers, session border controllers and VoIP switches. Most of our competitors are larger and more established enterprises with substantially greater financial and other resources. Some competitors may be willing to reduce prices and accept lower profit margins to compete with us. As a result of such competition, we could lose market share and sales, or be forced to reduce our prices to meet competition. However, we do not believe there is a dominant supplier in our market. Based on our belief in the superiority of our technology, we believe that we have an opportunity to capture meaningful market share and benefit from what we believe will be growth in the DPI market. We were founded in 2002 and became a public company in October 2003 following our merger with Zowcom, Inc., a publicly-traded Nevada corporation. In 2006, we completed acquisitions of the Netintact entities. Our Company is headquartered in Fremont, California with regional headquarters in Varberg, Sweden and Singapore. We sell our products through our direct sales force, resellers, distributors and systems integrators in the Americas, Asia Pacific and Europe. Critical Accounting Estimates Our discussion and analysis of our financial condition and results of operations are based upon financial statements which have been prepared in accordance with Generally Accepted Accounting Principles in the United States ("U.S. GAAP"). 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. On an ongoing basis, we evaluate these estimates. We base our estimates on historical experience and on assumptions that are believed to be reasonable. These estimates and assumptions provide a basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions, and these differences may be material. The Company believes the following critical accounting policies reflect our most significant estimates, judgments and assumptions used in the preparation of our consolidated financial statements: ? Revenue Recognition; ? Valuation of Goodwill, Intangible and Long-Lived Assets; ? Allowance for Doubtful Account; ? Stock-Based Compensation; and ? Accounting for Income Taxes. These critical accounting policies and related disclosures appear in our Annual Report on Form 10-K for the year ended December 31, 2010, updated for changes in accounting for revenue recognition as a result of the new accounting standards as described below. Revenue Recognition In October 2009, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2009-13, "Multiple-Deliverable Revenue Arrangements" and ASU No. 2009-14, "Certain Revenue Arrangements that Include Software Elements." The Company adopted the new guidance on a prospective basis for new or materially modified revenue arrangements as of January 1, 2011. The adoption of this guidance did not have a material impact on the Company's financial statements and is not expected to have a material impact in the future. 15-------------------------------------------------------------------------------- Index The Company's most common sale involves the integration of software and a hardware appliance, where the hardware and software work together to deliver the essential functionality of the product. The Company recognizes product revenue when all of the following have occurred: (1) the Company has entered into a legally binding arrangement with a customer resulting in the existence of persuasive evidence of an arrangement; (2) delivery has occurred, evidenced when product title transfers to the customer; (3) customer payment is deemed fixed or determinable and free of contingencies and significant uncertainties; and (4) collection is probable. Product revenue consists of revenue from sales of appliances and software licenses. Product sales include a perpetual license to the Company's software that is essential to the functionality of the hardware, and on occasion include licenses to additional software. Shipping charges billed to customers are included in product revenue and the related shipping costs are included in cost of product revenue. Virtually all sales include post-contract support ("PCS") services (included in support revenue) which consist of software updates and customer support. Software updates provide customers access to a constantly growing library of electronic internet traffic identifiers (signatures) and rights to non-specific software product upgrades, maintenance releases and patches released during the term of the support period. Support includes internet access to technical content, telephone and internet access to technical support personnel and hardware support. Receipt of a customer purchase order is the primary method of determining that persuasive evidence of an arrangement exists. Delivery generally occurs when a product is delivered to a common carrier F.O.B. shipping point. However, product revenue based on channel partner purchase orders are recorded based on sell-through to the end user customers until such time as the Company has established significant experience with the channel partner's ability to complete the sales process. Additionally, when the Company introduces new products for which there is no historical evidence of acceptance history, revenue is recognized on the basis of end-user acceptance until such history has been established. Fees are typically considered to be fixed or determinable at the inception of an arrangement, generally based on specific products and quantities to be delivered. Substantially all of the Company's contracts do not include rights of return or acceptance provisions. To the extent that agreements contain such terms, the Company recognizes revenue once the acceptance provisions or right of return lapses. Payment terms to customers generally range from net 30 to 90 days. In the event payment terms are provided that differ from the Company's standard business practices, the fees are deemed to not be fixed or determinable and revenue is recognized when the payments become due, provided the remaining criteria for revenue recognition have been met. Procera assesses the ability to collect from its customers based on a number of factors, including credit worthiness of the customer and past transaction history of the customer. If the customer is not deemed credit worthy, the Company defers all revenue from the arrangement until payment is received and all other revenue recognition criteria have been met. Customer orders normally contain multiple items. The initial product delivery consists of the hardware and software elements, and these elements have standalone value to the customer. Through June 30, 2011, in virtually all of the Company's contracts, the only elements that remained undelivered at the time of product delivery were PCS services. Prior to January 1, 2011, the majority of the Company's transactions were within the scope of the software revenue recognition guidance. The company accordingly recognized revenue for delivered items using the residual method, after allocating revenue to PCS services based on vendor specific objective evidence of fair value ("VSOE"). Under the new guidance, the Company allocates revenue to each element in an arrangement based on relative selling price using a selling price hierarchy. The selling price for a deliverable is based on its VSOE if available, third party evidence ("TPE") if VSOE is not available, or the Company's best estimate of selling price ("ESP") if neither VSOE nor TPE is available. The maximum revenue recognized on a delivered element is limited to the amount that is not contingent upon the delivery of additional items. In arrangements that include non-essential software ("software deliverables"), revenue is allocated to each separate unit of accounting for the non-software deliverables and to the software deliverables as a group using the relative selling prices of each of the deliverables in the arrangement. Revenue allocated to the software deliverables as a group is then allocated first to the PCS services based on VSOE, and then to the software, using the residual method under the software revenue recognition guidance. The Company determines VSOE for PCS based on the rate charged to customers based upon renewal pricing for PCS. Each contract or purchase order entered into includes a stated rate for PCS. The renewal rate is generally equal to the stated rate in the original contract. The Company has a history of such renewals, the vast majority of which are at the stated renewal rate on a customer by customer basis. PCS revenue is recognized under a proportional performance method, ratably over the life of the contract. A small portion of service revenue is derived from providing training on products and the Company uses the completed-contract method to recognize such revenue. As the hardware and software products are rarely sold separately, the Company generally does not have VSOE for these products, and TPE is not available. The Company determines the ESP for hardware and software deliverables considering internal factors such as discounting and pricing policies, and external factors such as market conditions in different geographies and competitive positioning. 16-------------------------------------------------------------------------------- Index In certain contracts, billing terms may be agreed upon based on performance milestones such as the execution of measurement test, a partial delivery or the completion of a specified service. Payments received before the unconditional acceptance of a specific set of deliverables are recorded as deferred revenue until the conditional acceptance has been waived. Recent Accounting Pronouncements In May 2011, the FASB issued ASU No. 2011-04, "Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards ("IFRS")." The amendments in this ASU generally represent clarification of Topic 820, but also include instances where a particular principle or requirement for measuring fair value or disclosing information about fair value measurements has changed. This update results in common principles and requirements for measuring fair value and for disclosing information about fair value measurements in accordance with GAAP and IFRS. The amendments are effective for interim and annual periods beginning after December 15, 2011 and are to be applied prospectively. Early application is not permitted. We do not expect that the adoption of ASU 2011-04 will have a material impact on our consolidated financial statements. In June 2011, the FASB issued ASU 2011-05, "Comprehensive Income (Topic 220): Presentation of Comprehensive Income." Specifically, the new guidance allows an entity to present components of net income or other comprehensive income in one continuous statement, referred to as the statement of comprehensive income, or in two separate, but consecutive statements. The new guidance eliminates the current option to report other comprehensive income and its components in the statement of changes in equity. While the new guidance changes the presentation of comprehensive income, there are no changes to the components that are recognized in net income or other comprehensive income under current accounting guidance. The new guidance is effective for fiscal years and interim periods beginning after December 15, 2011 and is to be applied retrospectively. We do not expect that the adoption of ASU 2011-05 will have a material impact on our consolidated financial statements. Results of Operations Comparison of Three and Six Months Ended June 30, 2011 and 2010 Revenue Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Increase 2011 2010 Increase ($ in thousands) ($ inthousands) Net product revenue $ 8,263 $ 3,714 122 % $ 13,878 $ 6,097 128 % Net support revenue 1,393 1,063 31 % 2,701 1,974 37 % Total revenue $ 9,656 $ 4,777 102 % $ 16,579 $ 8,070 105 % Our revenue is derived from two sources: product revenue, which includes sales of our hardware appliances bundled with software licenses, and service revenue, which includes revenue from support and services. The increase in product revenue of 122% and 128% for the three and six months ended June 30, 2011, respectively, compared with the same periods in 2010, reflected revenue from recent service provider wins and follow-on orders from existing customers, and included increased sales of our high-end PL8000 and PL10000 series products. The increase in support revenue of 31% and 37% for the three and six months ended June 30, 2011, respectively, compared with the same periods in 2010, reflected the continued expansion of the installed base of our product to which we have sold ongoing support services. We believe that our revenue will increase in each of the remaining quarters of the fiscal year ending December 31, 2011, as compared with the same periods in 2010, although on a sequential basis, revenue for the third quarter of 2011 may not increase from revenue for the second quarter of 2011, since we recognized revenue during the second quarter from certain deals we had not expected to close until the third quarter. 17-------------------------------------------------------------------------------- Index Cost of Sales Cost of sales includes: (i) direct labor and material costs for products sold, (ii) costs expected to be incurred for warranty, (iii) adjustments to inventory values, including the write-down of slow moving or obsolete inventory and (iv) costs for support personnel. The following table presents the breakdown of cost of sales by category: Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Change 2011 2010 Change ($ in thousands) ($ in thousands) Materials and per-use licenses $ 2,998 $ 1,634 $ 4,956 $ 2,819 Percent of net product revenue 36 % 44 % (8) % 36 % 46 % (10) % Applied labor and overhead 393 191 843 404 Percent of net product revenue 5 % 5 % - % 6 % 7 % (1) % Other indirect costs 173 98 348 152 Percent of net product revenue 2 % 3 % (1) % 3 % 2 % 1 % Product costs 3,564 1,923 6,147 3,375 Percent of net product revenue 43 % 52 % (9) % 44 % 55 % (11) % Support costs 125 133 261 261 Percent of net support revenue 9 % 13 % (4) % 10 % 13 % (3) % Total costs of sales $ 3,688 $ 2,057 $ 6,408 $ 3,636 Percent of total net revenue 38 % 43 % (5) % 39 % 45 % (6) % Total cost of sales during the three and six months ended June 30, 2011 increased by approximately $1.6 million and $2.8 million, respectively, and decreased as a percentage of sales by 5 and 6 percentage points, respectively, compared to the same periods in 2010. The increase in cost of sales primarily reflected higher material costs associated with increased product sales. The decrease in cost of sales as a percentage of revenue primary reflected increased sales of our PL8000 series products, which have lower material costs compared with our other products, and an increase in support revenue while corresponding support costs remained flat. Gross Profit Gross profit for the three and six-month periods ended June 30, 2011 and 2010 was as follows: Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Increase 2011 2010 Increase ($ in thousands) ($ in thousands) Gross profit $ 5,968 $ 2,720 119 % $ 10,171 $ 4,434 129 % Percent of total net revenue 62 % 57 % 61 % 55 % Gross profit margin for the three and six months ended June 30, 2011 increased by 5 and 6 percentage points to 62% and 61%, respectively, from the comparable periods in the prior year. This increase reflected the ramp in sales of our PL8000 series products, introduced in mid-2010, which have a higher margin compared with our other products, and a higher margin earned on support revenue, as support revenue increased while corresponding support costs remained flat. 18-------------------------------------------------------------------------------- Index Operating Expense Operating expenses for the three and six-month periods ended June 30, 2011 and 2010 were as follows: Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Change 2011 2010 Change ($ in thousands) ($ in thousands) Research and development $ 1,241 $ 791 57 % $ 2,279 $ 1,411 62 % Sales and marketing 3,143 1,760 79 % 5,208 3,218 62 % General and administrative 1,313 958 37 % 2,589 2,066 25 % Total $ 5,698 $ 3,509 62 % $ 10,076 $ 6,694 51 % Research and Development Research and development expenses include costs associated with personnel focused on the development or improvement of our products, prototype materials, initial product certifications and equipment costs. Research and development costs include sustaining and enhancement efforts for products already released and development costs associated with planned new products. Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Increase 2011 2010 Increase ($ in thousands) ($ in thousands) Research and development $ 1,241 $ 791 57 % $ 2,279 $ 1,411 62 % As a percentage of net revenue 13 % 17 % 14 % 17 % Research and development expenses for the three and six months ended June 30, 2011 increased by $0.5 million and $0.9 million, respectively, compared to the same periods in 2010, as a result of increased hires of research and development personnel during 2010 and the corresponding additional employee compensation costs. Additional personnel are expected to allow us to enhance our core product features and functionality in order to support new sales and to achieve follow-on sales to our current customers. Stock-based compensation recorded to research and development expenses in the three and six months ended June 30, 2011 was $21,548 and $64,320, respectively, compared to $3,272 and $8,519, respectively, in the corresponding periods in 2010. Sales and Marketing Sales and marketing expenses primarily include personnel costs, sales commissions and marketing expenses, such as trade shows, channel development and literature. Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Change 2011 2010 Change ($ in thousands) ($ in thousands) Sales and marketing $ 3,143 $ 1,760 79 % $ 5,208 $ 3,218 62 % As a percentage of net revenue 33 % 37 % 31 % 40 % Sales and marketing expenses for the three and six months ended June 30, 2011 increased by $1.4 million and $2.0 million, respectively, compared to the same periods in 2010. The increase in sales and marketing expenses reflected increased commission costs as a result of the increase in revenue, and the cost of increased headcount, resulting from the hiring of additional sales personnel. Stock-based compensation recorded to sales and marketing expense in the three and six months ended June 30, 2011 was $109,444 and $219,107, respectively, compared to $78,755 and $141,701, respectively, in the corresponding periods in 2010. General and Administrative General and administrative expenses consist primarily of personnel and facilities costs related to our executive, finance function, service fees for professional services and amortization of intangible assets. Professional services include costs for legal advice and services, independent auditors and investor relations. 19-------------------------------------------------------------------------------- Index Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Change 2011 2010 Change ($ in thousands) ($ in thousands) General and administrative $ 1,313 $ 958 37 % $ 2,589 $ 2,066 25 % As a percentage of net revenue 14 % 20 % 16 % 26 % General and administrative expenses for the three and six months ended June 30, 2011 increased by $0.4 million and $0.5 million, respectively, compared to the same periods in 2010. The increase in general and administrative expenses reflected higher bonus costs associated with exceeding revenue targets that were established for the first half of 2011, as well as higher legal and audit fees. Stock-based compensation recorded to general and administrative expense in the three and six months ended June 30, 2011 was $256,491 and $444,716, respectively, compared to $231,134 and $445,817, respectively, in the corresponding periods in 2010. Interest and Other Income (Expense), Net Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Change 2011 2010 Change ($ in thousands) ($ in thousands) Interest and other income (expense), net $ (34 ) $ (32 ) (6) % $ (65 ) $ (75 ) 13 % Interest and other income (expense), net was relatively flat for the three and six months ended June 30, 2011 compared to the same periods in 2010. Interest and other income (expense), net primarily reflected interest costs connected with our two-year secured credit facility with Silicon Valley Bank entered into on December 10, 2009. Provision for Income Taxes Three Months Ended Six Months Ended June 30, June 30, 2011 2010 Change 2011 2010 Change ($ in thousands) ($ in thousands) Provision for income taxes $ 55 $ - - % $ 79 $ 1 7,800 % The Company is subject to taxation primarily in the U.S., Sweden, and Australia, as well as in a number of states, including California. The increase in the tax provision for the three and six months ended June 30, 2011 reflected higher state and foreign taxes as a result of improved operating results. Liquidity and Capital Resources Cash and Cash Equivalents and Investments The following table summarizes the changes in our cash balance for the periods indicated: Six Months Ended June 30, 2011 2010 (in thousands) Net cash provided by operating activities $ 4,619 $ 3,110 Net cash used in investing activities (640 ) (578 ) Net cash provided by financing activities 25,020 4,054 Effect of exchange rate changes on cash and cash equivalents (69 ) (42 ) Net increase in cash and cash equivalents $ 28,930 $ 6,545 20-------------------------------------------------------------------------------- Index During the six months ended June 30, 2011 and 2010, our operations provided $4.6 million and $3.1 million of cash, respectively. Sources of cash for the six months ended June 30, 2011 included $3.0 million from a reduction in accounts receivable and $1.6 million from an increase in accrued liabilities, while uses of cash included an increase in inventories of $0.9 million. The reduction in accounts receivable reflected collections and an improvement in aging of accounts receivable. The increase in accrued liabilities reflected higher accrued bonuses and sales commissions as a result of increased revenue, which exceeded established revenue targets. The increase in inventory resulted from material purchases in anticipation of third quarter shipments. Sources of cash for the six months ended June 30, 2010 included $5.5 million of cash provided by the collection of accounts receivable, while uses of cash included our $1.5 million net loss for the period, purchases of inventory, and payments made for accounts payable and accrued liabilities. Net cash used in investing activities during the six months ended June 30, 2011 and 2010 of $640,000 and $578,000, respectively, reflected purchases of lab and testing equipment used in research and development. Net cash provided by financing activities during the six months ended June 30, 2011 of $25.0 million, included net proceeds from the issuance of common stock of $26.5 million and proceeds from the exercise of stock options and warrants of $0.3 million, partially offset by net repayment of borrowings on our credit line of $1.7 million. Net cash provided by financing activities during the six months ended June 30, 2010 of $4.1 million included proceeds from the issuance of common stock of $6.5 million, partially offset by repayment of the borrowings against our secured credit facility of $1.9 million and a repayment of notes of $0.5 million. Based on our current cash balances and anticipated cash flow from operations, we believe our working capital will be sufficient to meet our requirements for at least the next twelve months. Our future capital requirements will depend on many factors, including our rate of growth, the expansion of our sales and marketing activities, development of additional channel partners and sales territories, the infrastructure costs associated with supporting a growing business and greater installed base of customers, introduction of new products, enhancement of existing products and the continued acceptance of our products. We may also enter into arrangements that require investment such as complimentary businesses, service expansion, technology partnerships or acquisitions. On December 10, 2009, we entered into a two-year loan and security agreement for a secured credit facility of $2.0 million for short-term working capital purposes with Silicon Valley Bank. Borrowings under this facility bear interest at the prime rate plus 1%, but not less than 5% on an annual basis. If our cash balance falls below $2,000,000, outstanding borrowings will bear an additional interest charge of 0.6875% per month, or 8.25% per annum. At June 30, 2011, no borrowings were outstanding under our credit facility. Off-Balance Sheet Arrangements As of June 30, 2011, we had no off-balance sheet items as described in Item 303(a)(4)(ii) of SEC Regulation S-K. We have not entered into any transactions with unconsolidated entities whereby we have financial guarantees, subordinated retained interests, derivative instruments, or other contingent arrangements that expose us to material continuing risks, contingent liabilities or any other obligations under a variable interest in an unconsolidated entity that provides us with financing, liquidity, market risk or credit risk support. Contractual Obligations We lease facility space under non-cancelable operating leases in California, Sweden and Australia that extend through 2014. The details of these contractual obligations are further explained in Note 12 of the Notes to Condensed Consolidated Financial Statements. We use third-party contract manufacturers to assemble and test our hardware products. In order to reduce manufacturing lead-times and ensure an adequate supply of inventories, our agreements with some of these manufacturers allow them to procure long lead-time component inventory based on rolling production forecasts provided by us. We may be contractually obligated to purchase long lead-time component inventory procured by certain manufacturers in accordance with our forecasts. In addition, we issue purchase orders to our third-party manufacturers that may not be cancelable at any time. As of June 30, 2011, we had open non-cancelable purchase orders amounting to $3.3 million, primarily with our third-party contract manufacturers. |