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Table of Contents

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
 
Form 10-K
 
 
 
 
     
(Mark One)    
þ
  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the fiscal year ended December 31, 2010
or
o
  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the transition period from          to          
 
Commission file number: 000-31635
 
 
 
 
Endwave Corporation
(Exact name of registrant as specified in its charter)
 
 
 
 
     
Delaware
(State of incorporation)
  95-4333817
(I.R.S. Employer Identification No.)
130 Baytech Drive
San Jose, CA
(Address of principal executive offices)
  95134
(Zip code)
 
(408) 522-3100
 
(Registrant’s telephone number, including area code)
 
 
 
 
Securities registered pursuant to Section 12(b) of the Act:
 
     
Title of Each Class
 
Name of Each Exchange on Which Registered
 
Common Stock, $0.001 par value per share   The NASDAQ Global Market
 
Securities registered pursuant to Section 12(g) of the Act:
None
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes o     No þ
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Exchange Act.  Yes o     No þ
 
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 þ     No o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, 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 o     No o
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K.  þ
 
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 o   Non-accelerated filer o   Smaller reporting company þ
        (Do not check if a smaller reporting company)    
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ
 
The aggregate market value of the common stock held by non-affiliates of the registrant as of June 30, 2010 was approximately $29 million. Shares of voting common stock held by directors and executive officers have been excluded as such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes. The aggregate market value has been computed based on a price of $3.21, which was the closing sale price on June 30, 2010 as reported by The NASDAQ Global Market.
 
The number of shares outstanding of the registrant’s common stock as of January 31, 2011 was 9,832,684.
 


 

 
ENDWAVE CORPORATION
 
FORM 10-K
 
Year Ended December 31, 2010
 
TABLE OF CONTENTS
 
             
        Page No.
 
  Business     4  
  Risk Factors     13  
  Unresolved Staff Comments     25  
  Properties     25  
  Legal Proceedings     25  
 
PART II
  Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities     26  
  Selected Consolidated Financial Data     28  
  Management’s Discussion and Analysis of Financial Condition and Results of Operations     28  
  Quantitative and Qualitative Disclosures About Market Risk     44  
  Financial Statements and Supplementary Data     45  
  Changes in and Disagreements with Accountants on Accounting and Financial Disclosure     76  
  Controls and Procedures     76  
  Other Information     76  
 
PART III
  Directors, Executive Officers and Corporate Governance     77  
  Executive Compensation     81  
  Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters     92  
  Certain Relationships and Related Transactions and Director Independence     94  
  Principal Accounting Fees and Services     95  
 
PART IV
  Exhibits and Financial Statement Schedules     95  
    100  
 EX-23.1
 EX-31.1
 EX-31.2
 EX-32.1


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FORWARD-LOOKING INFORMATION
 
This report contains forward-looking statements within the meaning of Section 17A of the Securities Act of 1933, or the Securities Act, and within the meaning of Section 21E of the Securities Exchange Act of 1934, or the Exchange Act, that are subject to the “safe harbor” created by those sections. These forward-looking statements can generally be identified as such because the statement will include words such as “anticipate,” “believe,” “continue,” “estimate,” “expect,” “intend,” “may,” “opportunity,” “plan,” “potential,” “predict” or “will,” the negative of these words or words of similar import. Similarly, statements that describe our future plans, strategies, intentions, expectations, objectives, goals or prospects are also forward-looking statements. Discussions containing these forward-looking statements may be found, among other places, in the sections of this report entitled “Business,” “Risk Factors,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” These forward-looking statements are based largely on our expectations and projections about future events and future trends affecting our business, and so are subject to risks and uncertainties that could cause actual results to differ materially from those anticipated in the forward-looking statements. The risks and uncertainties are attributable to, among other things potential delays in completing, or a failure to complete, our proposed merger with GigOptix, Inc.; disruptions to our business attributable to the recent announcement of our proposed merger with GigOptix, Inc.;; our semiconductor product line, our suppliers’ abilities to deliver raw materials to our specifications and on time; our customer and market concentration; volatility resulting from consolidation of key customers; our ability to achieve revenue growth and maintain profitability; our successful implementation of next-generation programs, including inventory transitions; our ability to penetrate new markets; fluctuations in our operating results from quarter to quarter; our reliance on third-party manufacturers and semiconductor foundries; component, design or manufacturing defects in our products; our dependence on key personnel; our ability to develop new or improved semiconductor process technologies; and fluctuations in the price of our common stock. Because of the risks and uncertainties referred to above and other risks and uncertainties, including the risks described in the section of this report entitled “Risk Factors,” actual results or outcomes could differ materially from those expressed in any forward-looking statements and you should not place undue reliance on any forward-looking statements. New risks emerge from time to time, and it is not possible for us to predict which risks will arise. In addition, we cannot assess the impact of each risk on our business or the extent to which any risk, or combination of risks, may cause actual results to differ materially from those contained in any forward-looking statements. Except as required by law, we undertake no obligation to publicly revise our forward-looking statements to reflect events or circumstances that arise after the date of this report or the date of documents incorporated by reference in this report that include forward-looking statements.


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PART I
 
Item 1.   Business
 
Introduction
 
We design, manufacture and market radio frequency, or RF, products that enable the transmission, reception and processing of high frequency RF signals. Our products consist of two key product lines, semiconductor devices and integrated transceiver modules:
 
  •  Our semiconductor product line consists of a wide variety of monolithic microwave integrated circuits, or MMICs, including amplifiers, voltage controlled oscillators, up and down converters, variable gain amplifiers, voltage variable attenuators, fixed attenuators and filters. These types of devices are widely used in telecommunications, satellite, defense, security, instrumentation, scientific and consumer systems. While we have developed, produced and sold such devices for several years as components of our module products, we first offered them for sale as stand-alone products in the latter part of 2009 and they have not yet become a significant source of revenue for us.
 
  •  Our integrated transceiver modules combine several electronic functions into a single RF sub-system. Historically, our main customers for these products have been telecommunication network original equipment manufacturers, or OEMs, and system integrators that utilize them in digital microwave radios. More recently we have identified and pursued uses for these products in additional product areas; however these alternate applications have not yet become a significant source of revenue for us.
 
We were originally incorporated in California in 1991 and reincorporated in Delaware in 1995. In March 2000, we merged with TRW Milliwave Inc., a RF sub-system supplier that was a wholly-owned subsidiary of TRW Inc. In connection with the merger, we changed our name from Endgate Corporation to Endwave Corporation. On October 17, 2000, we successfully completed the initial public offering of our common stock. As used in this report, “we,” “us,” “our,” “Endwave” and words of similar import refer to Endwave Corporation.
 
On February 4, 2011, we entered into an Agreement and Plan of Merger with GigOptix, Inc., or GigOptix, and Aerie Acquisition Corporation, a wholly-owned subsidiary of GigOptix, which we refer to as the Merger Subsidiary, pursuant to which Merger Subsidiary will, subject to the satisfaction or waiver of the conditions therein, merge with and into Endwave, the separate corporate existence of Merger Subsidiary shall cease and Endwave will be the surviving corporation of the merger and a wholly-owned subsidiary of GigOptix. We refer to this agreement as the Merger Agreement and the proposed merger contemplated by the Merger Agreement as the Merger. Upon the consummation of the Merger, (i) the outstanding shares of Endwave common stock will be converted into the right to receive an aggregate number of shares of GigOptix common stock equal to the product of (.425/.575) and the number of shares of GigOptix common stock outstanding immediately prior to consummation of the Merger, less 42.5% of the shares described in clause (ii) of this sentence and (ii) in-the-money options to acquire Endwave common stock outstanding immediately prior to the consummation of the Merger will be converted into that number of shares of GigOptix common stock determined by dividing the spread value of such options at closing by the closing price of GigOptix’s common stock on the trading day prior to closing, such that following the Merger, the pre-Merger holders of common stock and restricted stock units will own that number of shares equal to 42.5% of the outstanding stock of the combined company, less 42.5% of the shares issued in respect of Endwave stock options.
 
The Merger Agreement includes customary representations, warranties and covenants of Endwave and GigOptix. Endwave has agreed to conduct its operations and the operations of its subsidiaries according to its ordinary and usual course of business consistent with past practice until the effective time of the Merger. The Merger Agreement contains customary “no-solicitation” covenants pursuant to which neither Endwave nor GigOptix is permitted to solicit any alternative acquisition proposals, provide any information to any person in connection with any alternative acquisition proposal, participate in any discussions or negotiations relating to any alternative acquisition proposal, approve, endorse or recommend any alternative acquisition proposal, or enter into any agreement relating to any alternative acquisition proposal. The “no-solicitation” provision is subject to certain exceptions that permit the Board of Directors of each of Endwave and GigOptix, as the case may be, to comply with


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their respective fiduciary duties, which, under certain circumstances, would enable Endwave or GigOptix, as the case may be, to provide information to, and engage in discussions or negotiations with, third parties with respect to alternative acquisition proposals.
 
The Merger Agreement contains certain termination rights for both Endwave and GigOptix and further provides that, upon termination of the Merger Agreement under certain circumstances, Endwave may be obligated to pay GigOptix a termination fee of $1,000,000 plus certain reasonable documented expenses of GigOptix.
 
GigOptix and Endwave currently expect to complete the Merger in the second quarter of 2011. GigOptix’s and Endwave’s obligations to consummate the Merger are subject to the satisfaction or waiver of customary closing conditions and regulatory approvals, as well as the approval of the merger by the stockholders of Endwave.
 
Industry Background and Markets
 
High-Frequency RF Technology
 
The applications of RF technology are broad, extending from terrestrial AM radio at the low end of the frequency spectrum, which is less than 1 MHz (megahertz, or million cycles per second), to atmospheric monitoring applications at the high end of the frequency spectrum, which is around 100 GHz (gigahertz, or billion cycles per second). Microwave technology refers to technology for the transmission of signals at high frequencies, from approximately 1 GHz to approximately 20 GHz and millimeter wave technology refers to technology for the transmission of signals at very high frequencies, from approximately 20 GHz to beyond 100 GHz. Our products employ both microwave and millimeter wave technology. The term microwave, however, is commonly understood in the industries we serve, and we use that term in this report as meaning both microwave and millimeter wave.
 
Our products are typically designed to operate at frequencies between 1 GHz and 100 GHz, which we refer to in this report as high-frequency RF. Due to their physical attributes, these frequencies are well-suited for numerous applications requiring the transmission of data at high speeds, detection of physical movement, imaging of inorganic and organic objects and various other types of physical measurements.
 
Telecommunication Networks
 
High-frequency transceiver modules and their key constituent components, MMICs, are an integral part of microwave radios, which in turn play a key role in many telecommunication networks. Microwave radio links have a number of applications:
 
Cellular Telephone Backhaul.  The communication link between the cellular base station site and the overall telephone network is referred to as cellular backhaul. This is the most common use of microwave radios. In most parts of the world, cellular backhaul is typically accomplished through the use of microwave radios either because of their ease of deployment and low overall cost relative to available wireline options or because adequate wireline facilities are not available. While in the United States and Canada cellular backhaul has typically been accomplished through the use of wireline facilities, there is a growing trend to migrate to microwave backhaul because wireline systems are not a practical alternative to provide the extremely high backhaul data rates necessitated by contemporary “smart phones” and similar devices.
 
Carrier Class Trunking.  To deploy their networks, communications carriers require high capacity links, or trunk circuits, between major voice and data switching centers. While fiber optic cables are the most common type of trunk circuit facility, microwave radios are often used for portions of these circuits when the intervening terrain, such as mountains or bodies of water, is difficult to traverse or as redundant backup links for the fiber optic network.
 
Private Voice and Data Networks.  When private users, such as companies and universities, deploy stand-alone campus area or metropolitan area voice and data networks, they often encounter situations where it is not possible to access a direct physical path between their facilities due to distance or intervening structures and roads. If third-party wireline facilities are not available or cost-effective, a microwave radio link is often used to provide the network connection. In addition, companies often implement microwave facilities as redundant backup links for their wireline facilities.


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Fixed Wireless Access Network Backhaul.  Similar to the situation in cellular telephone networks, fixed wireless access networks require a backhaul infrastructure to move the data from individual access points to an internet portal. Various approaches are being considered for the widespread implementation of fixed wireless access networks, including the IEEE 802.16 WiMAX standard and LTE (Long Term Evolution) technology. Regardless of the underlying access technology, all such fixed wireless access networks will face the technological and cost issues associated with connecting individual access points to the wireline network infrastructure. We believe this need for backhaul represents an opportunity for microwave radios, particularly because the anticipated high bandwidth requirements of fixed wireless access networks are served more cost-effectively by microwave radios than by wireline alternatives.
 
While transient economic conditions and changing deployment schedules may cause short-term market fluctuations, we believe the long-term prospects for the use of our products and technology in telecommunications networks are good. The continued deployment of mobile networks in developing countries, the continued enhancement of networks in developed regions and the ongoing rate of increases in data traffic all work to increase demand for the types of products we offer.
 
Defense Systems
 
High-frequency RF technology is an integral part of various defense systems. Key applications in these markets include:
 
Radar Systems.  Traditional radar systems are configured to detect large objects at significant distances. To add to this capability, many new systems employ complementary high frequency RF radar systems designed to detect small vehicles and personnel. These new systems often use these higher frequencies in order to provide greater resolution. A further use of high frequency radar is airborne imaging equipment that allows pilots to see through low-lying haze and dust much in the same way night vision goggles permit one to see in the dark.
 
Signal Intelligence Systems.  Information about an opposing force can be gathered by monitoring their electronic communications. Systems that gather such information utilize a variety of RF and microwave components to monitor and interpret information over a broad spectrum of potential frequencies that a hostile force might use.
 
High Capacity Communications.  A modern, widely-dispersed military or security force requires communication systems to transmit voice, video and data wherever and whenever it is needed. Many military or security communication systems, whether terrestrial, airborne or satellite, employ microwave technology to meet these requirements. As the data rates in these systems increase, the systems must be able to operate at higher frequencies to take advantage of the transmission bandwidth that is available at those frequencies.
 
Security Systems
 
Because millimeter wave energy is both emitted by and reflected off of the human body, various sensors and imaging systems can be constructed to enhance the capability of personnel security systems.
 
Long Distance Personnel Detection.  High-frequency RF signals can be used to detect the presence of humans at significant distances, much in the same way lower frequency radar systems can detect metal objects at a distance. This phenomenon can be employed as a “radar fence” to detect intrusion along lengthy security perimeters such as airport runways, secure compounds and international borders.
 
Security Portals.  Using high-frequency RF signals and holographic image processing techniques, it is possible to create images of the human body through garments and thus detect if the individual is carrying contraband objects or weapons. These systems are used in airport security lanes and for the interdiction of contraband or controlled materials in or out of secure facilities.
 
Security Cameras.  Utilizing security cameras that are capable of detecting and forming images with the high-frequency RF energy emitted by the human body it is possible to observe large areas in search of contraband


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objects or weapons in a stand-off mode that does not require one to pass through a security portal. These systems are used for loss prevention in warehouse facilities and in large public spaces to protect against terrorist activities.
 
The increasing concern over terrorist attacks in various public spaces is driving demand for these types of security systems and we believe is creating new opportunities for our products.
 
Other Applications
 
Scientific Sensors.  Various sorts of physical phenomena can be detected and measured using high-frequency RF signals. In particular they can detect earth movements, both seismic and volcanic, through cloud cover and can also be used to measure atmospheric disturbances at upper altitudes to aid in weather prediction.
 
Through-wall Imagers.  High-frequency RF energy has the capability to see through common building materials and detect if hidden obstructions, electrical lines, pipes or conduits exist inside of a wall. Devices employing this technology are used to avoid disruptions caused by damaging these hidden items during subsequent construction activities.
 
Automotive Radar.  Advanced automotive radar systems utilize high-frequency RF energy to detect road hazards, other vehicles and roadway barriers and signal the power train to take appropriate action to reduce the risk of a collision or other hazardous event.
 
The range and breadth of applications for high-frequency RF systems continues to grow. Thus, we believe there will be significant market opportunities for our products and technologies going forward.
 
Our Business Approach
 
Historically, when OEMs and other system integrators incorporated high-frequency RF technology into their products, they designed and manufactured all the requisite hardware internally. However, when faced with the need to generate cost efficiencies and technological innovations with fewer resources, OEMs and system integrators frequently look to suppliers for these items. We believe there are several key characteristics that define an attractive supply partner for fulfilling these requirements, including:
 
Technical Depth.  OEMs and system integrators seek suppliers that have significant experience in and understanding of the overall system design. This depth and breadth of understanding is crucial to optimizing the system design and making appropriate overall system level tradeoffs, thereby enabling the OEM or system integrator to design and deploy its systems more cost-effectively.
 
Innovative Technology.  New technology is the key to providing enhanced performance and continued cost reduction. Thus, OEMs and system integrators value this capability and prefer partners that create new technologies offering additional functionality, higher reliability, lower cost and better performance.
 
Semiconductor Devices.  Beyond seeking complete hardware sub-systems, OEMs and system integrators may seek technologically advanced and cost effective semiconductor devices including custom design capabilities that meet their unique technological needs on existing or next generation hardware platforms.
 
Low Cost.  OEMs and system integrators are under increasing pricing pressure from their customers and expect effective and persistent cost-reduction programs from their suppliers. These cost-reduction programs require suppliers to mount a comprehensive effort at multiple levels, including integration of multiple functions, efficient manufacturing, effective supply chain management, streamlined life cycle support and use of low cost sub-contractors.
 
Flexible Supply Chain Capabilities.  Volatility of demand is common in the markets we serve. Therefore OEMs and system integrators need suppliers that can accommodate fluctuations in the demand, whether in mix and/or quantity, and that can flexibly scale their manufacturing to match these fluctuating demands.
 
We believe that few suppliers comprehensively address all of these requirements. Many of the suppliers that populate the industry are small and lack the requisite operational strength and technical capability to address these extensive needs and requirements. Further, many suppliers use labor-intensive assembly and test methods that limit their ability to produce high-frequency RF products in high volumes and at a low cost. Others do not possess the


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breadth of component-to-system expertise that is desired by OEMs and system integrators. In contrast, we believe that we possess several key strengths that enable us to provide our customers with superior products and services. These strengths include:
 
Extensive Technical Expertise.  We have extensive experience in all aspects of high frequency design and manufacturing. Our body of intellectual property and a highly-skilled technical team are critical when dealing with the higher frequencies required by emerging applications. Our technical team has broad expertise in device physics, semiconductor device and circuit design, system engineering, test engineering and other critical disciplines. In addition, our large library of proprietary designs enables us to introduce new products rapidly and cost-effectively. We believe the depth and breadth of our technical expertise differentiates us from many of our competitors, enabling us to optimize our products for critical performance factors and to assist our customers in developing an optimal overall design.
 
A Commitment to Develop Next-Generation Technology.  A key component of our value proposition is providing our customers with powerful and cost-effective technologies that offer them a major technical and economic advantage. We have invested in the development of next-generation circuit and packaging technologies that allow us to provide our customers with high-performance and low-cost solutions. Our ability to develop semiconductor devices on a custom basis provides us greater flexibility to optimize product designs for our customers and their specific applications. We intend to continue to invest in research and development, maintain a team of talented engineers, and build on our manufacturing technologies.
 
Comprehensive Approach to Cost-Effective Manufacturing.  We have taken a comprehensive approach to developing a cost-effective, outsourced manufacturing capability that allows us to compete on a worldwide basis and to offer our customers product solutions at attractive prices:
 
  •  We design our products to be readily manufacturable and able to tolerate a wide range of material and manufacturing process variations. This speeds the flow of work, reduces the required level of touch labor and minimizes rework.
 
  •  Semiconductors are both a critical technical element and a major cost component of our products. Our ability to custom design these devices allows us to optimize them for cost and performance and to achieve significant cost savings by having them fabricated in low cost, third-party foundries.
 
  •  For many of our products, we have implemented automated assembly techniques that reduce labor content and enhance both product uniformity and quality.
 
  •  Testing is a large part of the manufacturing process and we have developed extensive automated testing capabilities that speed this process and differentiate us from the labor-intensive methods often used in our industry. We use state of the art information technology systems to store, analyze and transmit test data.
 
  •  Because our products are highly manufacturable, we have been able to contract with third-party, primarily offshore, manufacturers for even greater cost savings. We began the transition to outsourced manufacturing in 2002, most notably to HANA Microelectronics Co., Ltd., or HANA, a Thailand-based contract manufacturer, and today almost all of our manufacturing operations utilize an outsourced approach. This transition has significantly improved our product margins and enables us to adjust rapidly, efficiently and flexibly to our customers’ varying quantity and product mix requirements, which are often created by unexpected needs and variations in demand.
 
  •  The cost of raw materials and components employed in high frequency devices and products are a major part of the overall manufacturing cost. We have reduced the cost of these items by re-designing them, leveraging our purchasing power and selecting more cost-effective suppliers. As an outgrowth of our operational presence in Asia, we continue to identify low-cost, high-quality Asian-based suppliers for several of the raw materials and components used in our products.


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Products and Technology
 
Integrated Transceiver Sub-system Modules
 
Integrated transceiver sub-system modules combine several functional RF blocks, such as amplifiers, mixers, switches or oscillators, with various types of control and support circuitry, such as a microprocessor or a power supply, to form a stand-alone transceiver sub-system. These complex modules, generally comprising hundreds of individual components, combine RF functions with sophisticated analog and digital system interface and control capabilities.
 
Within these modules, the core RF functions are performed with one of two circuit technologies:
 
  •  MMIC (Monolithic Microwave Integrated Circuit).  In this RF semiconductor technology, individual devices, components and interconnects are patterned onto a semiconductor substrate (typically gallium arsenide, or GaAs) in a manner similar to industry standard integrated circuit fabrication techniques. We have developed a large repertoire of custom designed MMICs that have been optimized for cost, performance and manufacturability.
 
  •  MLMStm (Multi-Lithic Micro System).  This is a proprietary RF semiconductor circuit technology that we have developed to overcome the shortcomings of conventional circuit technologies. This technology consists of a small multi-layer RF substrate onto which individual devices (transistors and diodes) are attached and electrically connected without the use of bond wires. The features of this technology include reduced design difficulty, elimination of individual tuning, low cost substrate materials, automated manufacture, use of multiple semiconductor technologies in the same circuit (i.e. multi-lithic), integrated passive circuit elements and the ability to provide a complete “system on a chip” functionality.
 
In high-frequency RF modules, the circuit packaging technology also significantly impacts cost and performance. Many of our newer products employ a unique packaging technology named Epsilontm. In this approach, MMIC or MLMS circuits are directly mounted to a composite printed wiring board and then enclosed with a metalized molded plastic or machined cover. The composite wiring board consists of a top RF circuit layer built on a low loss substrate with lower layers of the board consisting of conventional printed wiring board substrates for power and control circuitry. This approach reduces the size, weight and cost of the packaging components.
 
Semiconductor Devices
 
As noted above, in the course of developing several different transceiver module variants to meet a range of customer requirements, we have designed a broad range of semiconductor devices including a large number of MMIC devices. The breadth and depth of this repertoire is such that we can fulfill the requirements for most circuit functions in the frequency range of 10 GHz to 100 GHz. Our motivation to design these circuits has been to both achieve superior electrical performance and to reduce costs through vertical integration. Once designed, these devices are fabricated in several merchant foundries throughout the world. By using a mixture of foundries, we are able to select the best foundry and fabrication process to achieve the desired performance in the most cost-effective manner. Our devices have been particularly designed to meet the high frequency and high bandwidth requirements of contemporary systems. In addition to the core devices, we have developed a range of device packaging technologies that allow our circuits to be installed using industry standard surface mount technology, or SMT, assembly processes. We have extended this technology such that devices operating at frequencies up to 50 GHz can be assembled in the SMT format, thus facilitating ease of downstream assembly of the sub-system module. In addition to supporting our transceiver product line, we now offer these devices as stand-alone products to the various markets and applications noted earlier.
 
Sales and Marketing
 
We sell our products through direct sales efforts, a network of independent domestic and international representatives and a domestic distribution of semiconductor devices. For each of our major customers, we assign a technical account manager, who has responsibility for developing and expanding our relationship with that customer. Our direct, representative and distributor sales efforts are augmented by traditional marketing activities, including advertising, participation in industry associations and presence at major trade shows.


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Our products are highly technical and the sales cycle can often be long. Our sales efforts typically involve a collaborative and iterative process with our customers to determine their specific requirements, verify a product design and develop an effective manufacturing approach matched to the application. Depending on the product type and market, the sales cycle can typically take anywhere from 2 to 24 months.
 
Customers
 
In 2010, revenues from our telecom OEM customers comprised nearly all of our total revenues. In 2010, three customers each accounted for greater than 10% of total revenues and combined they accounted for 93% of our total revenues, the largest of which was Nokia Siemens Networks which accounted for 52% of our total revenues. We expect revenues from our telecom OEM customers to comprise the large majority of our revenues in our immediate future. In the telecom market, our revenues are attributable to a limited number of telecom OEMs and we expect this pattern to remain for the foreseeable future.
 
Competition
 
The markets for our products are extremely competitive, are characterized by rapid technological change and continuously evolving customer requirements and many of our competitors have significantly greater resources than we do.
 
Among suppliers of transceiver modules in the telecommunication network market, we compete with Compel Electronics SpA, Filtronic plc, Microelectronics Technology Inc., and Remec Broadband Wireless, Inc., among others. In addition to these companies, there are telecom OEMs, such as Ericsson and NEC Corporation, that use their own captive resources for the design and manufacture of transceiver modules, rather than using suppliers such as ourselves. While we have limited opportunities to supply transceiver modules to these telecom OEMs, we believe we have opportunities to supply them semiconductor devices for their captive products.
 
In the case of our semiconductor product line, we compete with Avago Technologies, Ltd., Hittite Microwave Corp., MIMIX Broadband, Inc., RF Micro Devices, Inc., TriQuint Semiconductor, Inc. and United Monolithic Semiconductors, S.A.S., among others.
 
We believe that the principal competitive factors in our industry are:
 
  •  Product pricing and the ability to offer low-cost solutions;
 
  •  Technical leadership and product performance;
 
  •  Strong customer relationships;
 
  •  Product breadth;
 
  •  Time-to-market in the design and manufacturing of products; and
 
  •  Logistical flexibility, manufacturing capability and scalable capacity.
 
Research and Development
 
We direct our research efforts towards developing advanced device, circuit and packaging technologies, creating new proprietary circuit designs and integrating these technologies and designs into the semiconductor devices we provide to our customers. Our product development activities focus on designing products to meet specific customer and market needs and introducing these products to manufacturing.
 
Our technical approach emphasizes the following capabilities:
 
Semiconductor Design Capabilities.  Our ability to design semiconductor devices allows us to optimize and reduce the cost of designs beyond what is possible with standard off-the-shelf semiconductor devices.
 
Breadth of Expertise.  We are experienced in a broad range of technical disciplines and possess the know-how to design products at multiple levels of integration.


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Computer Modeling Capabilities.  Our extensive computer modeling capabilities allow us to create designs quickly and to minimize the number of iterations required to develop specification compliant, cost-effective designs.
 
Extensive Library of Designs.  Our extensive library of device, circuit and sub-system designs enables us to generate new products and produce prototypes quickly to meet our customers’ time-to-market demands.
 
Automated Testing Processes.  High-frequency RF products require extensive testing after assembly to verify compliance with customer specifications. We use high speed, custom-designed, automated test sets that are capable of rapidly testing devices and modules. This increases throughput in the manufacturing process and reduces the skill level required to conduct the tests. Concurrently with the development of these test methods, we develop data analysis and reporting tools to facilitate rapid communication of test data to our customers.
 
Our investment in research and development and related engineering projects has resulted in research and development expenses from continuing operations of $6.8 million, $5.5 million and $4.6 million in 2008, 2009 and 2010, respectively.
 
Patents and Intellectual Property Rights
 
Our success depends, in part, on our ability to protect our intellectual property. We rely primarily on a combination of patent, copyright, trademark and trade secret laws to protect our proprietary technologies and processes. As of December 31, 2010, we had 43 United States patents issued, many with associated foreign filings and patents. Our issued patents include those relating to basic circuit and device designs, semiconductors, MLMS technology and system designs. Our United States patents expire between 2013 and 2028. We do not anticipate the expiration of patents over the near term to have a significant impact on our research and development or operations. We also license technology from other companies, including Northrop Grumman Corporation. There are no limitations on our rights to make, use or sell products we may develop in the future using the technology licensed to us by Northrop Grumman Corporation.
 
We maintain a vigorous technology development program that routinely generates potentially patentable intellectual property. Our decisions as to whether to seek formal patent protection, and the countries in which to seek it, are taken on a patent-by-patent basis and are based on the economic value of the intellectual property, the anticipated strength of the resulting patent, the cost of pursuing the patent and an assessment of using a patent as an implement to protect the underlying intellectual property. With regard to our pending patent applications, it is possible that no patents may be issued as a result of these or any future applications or the allowed patent claims may be of reduced value and importance. Further, any existing or future patents may be challenged, invalidated or circumvented thus reducing or eliminating their commercial value.
 
To protect our intellectual property, we enter into confidentiality and assignment of rights to inventions agreements with our employees, and confidentiality and non-disclosure agreements with our strategic partners, and generally control access to and distribution of our documentation and other proprietary information. These measures may not be adequate in all cases to safeguard the proprietary technology underlying our products. It may be possible for a third party to copy or otherwise obtain and use our products or technology without authorization, develop similar technology independently or attempt to design around our patents. In addition, effective patent, copyright, trademark and trade secret protection may be unavailable or limited outside of the United States, Europe and Japan.
 
Operations
 
All of our manufacturing operations are located in Lamphun, Thailand and utilize the facilities of our contract manufacturing partner, HANA. Under our manufacturing contract, HANA supplies the physical plant, direct labor, basic assembly equipment and warehousing functions. We supplement those activities with our own full-time, in-country staff consisting of 15 people who provide production planning, process engineering, test engineering, product support, design engineering and quality assurance support. We own certain assets held securely in HANA’s factory, including specialized test and assembly equipment and various raw material and product inventories. Our


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arrangement with HANA allows us to reduce our labor and facility expenses while maintaining tight control of process and quality. To reduce our costs further, we have identified lower cost Asian sources for various raw materials, especially basic metal and circuit board components. Our manufacturing agreement with HANA currently expires in October 2011, but will renew automatically for successive one-year periods unless either party notifies the other of its desire to terminate the agreement at least one year prior to the expiration of the term. In addition, either party may terminate the agreement without cause upon 365 days prior written notice to the other party, and either party may terminate the agreement if the non-terminating party is in material breach and does not cure the breach within 30 days after notice of the breach is given by the terminating party. There can be no guarantee that HANA will not seek to terminate its agreement with us.
 
We use both industry-standard and Endwave-designed semiconductor devices. We obtain industry-standard devices from various suppliers of these parts and we contract with various third-party foundries to produce our own designs. Our use of third-party foundries for custom designed devices gives us the flexibility to use the process technology that is best suited for each application and eliminates the need for us to invest in and maintain our own semiconductor facilities. While the loss of our relationship with or our access to any of the semiconductor foundries we currently use, and any resulting delay or reduction in the supply of semiconductor devices to us, would severely impact our ability to fulfill customer orders and could damage our relationships with our customers, we estimate that we could shift production to a new foundry within six months. We currently use the foundry services of Global Communication Semiconductors, Inc., M/A-COM Technology Solutions Inc., Northrop Grumman Space Technology, TriQuint Semiconductors and WIN Semiconductors Corp.
 
All of the manufacturing facilities we operate or use worldwide are registered under ISO 9001-2000, an international certification standard of quality for design, development and business practices. Additionally, we are certified under AS-9100 in support of our defense industry market initiatives. We maintain comprehensive quality systems at all of our facilities to ensure compliance with customer specifications, configuration control, documentation control and supplier quality conformance.
 
We maintain raw materials, work-in-process and finished goods inventory in Thailand at HANA’s plant. In order to maintain and enhance our competitive position, we must be able to satisfy our customers’ short lead-times and rapidly-changing needs. Meeting this requirement necessitates that we maintain significant raw material and finished goods inventories. Maintaining these inventories is costly and requires significant working capital and may increase our capital needs in the future.
 
Backlog
 
Our backlog at January 15, 2011 for shipments expected to occur through December 31, 2011 was approximately $8.0 million. By comparison, our backlog as of February 19, 2010 for shipments expected to occur through December 31, 2010 was approximately $23.4 million.
 
Our order backlog consists of a combination of conventional purchase orders and formal forecasts given to us under annual and multi-year agreements. Typically, the forecast portion of the backlog is the significantly larger amount. The forecasts we receive normally have a firm commitment portion of one to three months in duration that obligate the customer to accept at least some portion of the amount forecasted for that period, with the remainder of the forecast including no such obligation. These forecasts are subject to change on a regular basis and we have experienced significant forecast variations in both unit volumes and product mix. As a result, we do not believe that backlog is a reliable indicator of future revenues.
 
Governmental Regulation
 
Government regulations indirectly affect our business. The frequencies at which wireless systems transmit and receive data are dictated by government licensing agencies in the location where they are deployed. Unexpected difficulties in obtaining licenses or changes in the operating frequencies allowed can halt or delay microwave radio deployments and therefore halt or delay the need for our products. Both national and international regulatory bodies have set stringent standards on the performance of microwave radios, especially spurious emissions and their potential to cause interference in other systems. Meeting these regulations is technologically challenging and


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changes in the regulations could require a re-design of our products to achieve compliance. Also, on occasion we are required to obtain various export permissions from the U.S. government to ship product to overseas customers.
 
Seasonality
 
Although we have experienced significant quarterly fluctuations in revenue at times over the past several years, we do not believe that volatility was primarily attributable to seasonality in our business.
 
Employees
 
As of December 31, 2010, we had 51 regular employees, including 33 in product and process engineering, 8 in sales and marketing and 10 in general and administrative. Of our regular employees, 15 are based in our Chiang Mai, Thailand office. Our employees are not subject to any collective bargaining agreement with us and we believe that our relations with our employees are good.
 
Available Information
 
Our principal executive offices are located at 130 Baytech Drive, San Jose, CA 95134 and our main telephone number is (408) 522-3100. Our Internet address is www.endwave.com. We make available free of charge through our website our annual report 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 we electronically file such material with, or furnish it to, the Securities and Exchange Commission, or SEC.
 
The public may read and copy any material we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington D.C., 20549. The public may obtain information on the operations of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site, http://www.sec.gov, that contains reports, proxy and information statements and other information regarding issuers that file electronically with the SEC.
 
Item 1A.   Risk Factors
 
You should consider carefully the following risk factors as well as other information in this report before investing in any of our securities. If any of the following risks actually occur, our business, operating results and financial condition could be adversely affected. This could cause the market price of our common stock to decline, and you may lose all or part of your investment.
 
Risks Relating to the Proposed Merger with GigOptix
 
Because the conversion ratio is not adjustable based on the market price of either GigOptix or Endwave common stock, you cannot be sure of the value of the merger consideration that you will receive.
 
The number of shares of common stock to be issued by GigOptix in the merger is not adjustable based on the market price of either GigOptix or Endwave common stock and the merger agreement may not be terminated as a result of any such changes. The market value of the shares of GigOptix common stock that Endwave stockholders will be entitled to receive when the merger is completed will depend on the market value of shares of GigOptix common stock at that time, which could vary significantly from the market value of shares of GigOptix common stock on the date the merger agreement was executed, the date of this report or the date of the special meeting. Accordingly, at the time of the special meeting, Endwave stockholders will not know or be able to calculate the market value of the consideration they would receive upon completion of the merger. These variations may result from, among other factors, changes in the business, operations, results and prospects of GigOptix, market expectations of the likelihood that the merger will be completed and the timing of completion, the prospects of post-merger operations, the effect of any conditions or restrictions imposed on or proposed with respect to GigOptix by regulatory agencies and authorities, general market and economic conditions and other factors.


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GigOptix may fail to realize the anticipated benefits of the merger.
 
GigOptix’ future success will depend in significant part on its ability to utilize Endwave’s cash and cash equivalents and to realize the cost savings, operating efficiencies and new revenue opportunities that it expects to result from the integration of the GigOptix and Endwave businesses. GigOptix’ operating results and financial condition will be adversely affected if GigOptix is unable to integrate successfully the operations of GigOptix and Endwave, fails to achieve or achieve on a timely basis such cost savings, operating efficiencies and new revenue opportunities, or incurs unforeseen costs and expenses or experiences unexpected operating difficulties that offset anticipated cost savings or Endwave’s cash and cash equivalents, in whole or in part. In particular, the integration of GigOptix and Endwave may involve, among other matters, integration of sales, marketing, billing, accounting, manufacturing, engineering, management, personnel, payroll, quality control, regulatory compliance, network infrastructure and other systems and operating hardware and software, some of which may be incompatible and therefore may need to be replaced.
 
Any cost savings estimates expected to result from the merger do not include one-time adjustments that GigOptix will record in connection with the merger. In addition, any such estimates will be based upon assumptions by the managements of GigOptix and Endwave concerning a number of factors, including operating efficiencies, the consolidation of functions, and the integration of operations, systems, marketing methods and procedures. These assumptions are uncertain and are subject to significant business, economic and competitive conditions that are difficult to predict and often beyond the control of management.
 
Endwave will be subject to business uncertainties and contractual restrictions while the merger is pending that could adversely affect its business.
 
Uncertainty about the effect of the merger on employees and customers may have an adverse effect on Endwave and consequently on GigOptix following the merger. These uncertainties may impair each company’s ability to attract, retain and motivate key personnel until the merger is completed and for a period of time thereafter, and could cause customers, suppliers and others that deal with Endwave to seek to change existing business relationships with Endwave. Employee retention may be particularly challenging during the pendency of the merger, as employees may experience uncertainty about their future roles with Endwave. If, despite Endwave’s retention efforts, key employees depart because of issues relating to the uncertainty and difficulty of integration or a desire not to remain with Endwave, Endwave’s business and consequently the business of GigOptix following the merger could be seriously harmed.
 
Failure to complete the merger could negatively affect GigOptix and Endwave.
 
If the merger is not completed for any reason, GigOptix and Endwave may be subject to a number of material risks, including the following:
 
  •  the companies will not realize the benefits expected from becoming part of a combined company, including a potentially enhanced competitive and financial position;
 
  •  the trading price of each company’s common stock may decline to the extent that the current market price of the common stock reflects a market assumption that the merger will be completed; and
 
  •  some costs related to the merger, such as legal, accounting and some financial advisory fees, must be paid even if the merger is not completed.
 
Endwave’s ability to pursue alternatives to the merger is restricted.
 
The merger agreement contains customary “no-solicitation” covenants pursuant to which neither Endwave nor GigOptix is permitted to solicit any alternative acquisition proposals, provide any information to any person in connection with any alternative acquisition proposal, participate in any discussions or negotiations relating to any alternative acquisition proposal, approve, endorse or recommend any alternative acquisition proposal, or enter into any agreement relating to any alternative acquisition proposal. The “no-solicitation” provision is subject to certain exceptions that permit the board of directors of each of Endwave and GigOptix, as the case may be, to comply with their respective fiduciary duties, which, under certain circumstances, would enable Endwave or GigOptix, as the


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case may be, to provide information to, and engage in discussions or negotiations with, third parties with respect to alternative acquisition proposals. Upon termination of the merger agreement under certain circumstances, Endwave may be obligated to pay GigOptix a termination fee of $1,000,000 plus certain reasonable documented expenses of GigOptix. These provisions could discourage a potential acquiror that might have an interest in acquiring all or a significant part of Endwave from considering or proposing that acquisition, even if it were prepared to pay consideration with a higher per share cash or market value than the consideration GigOptix proposes to pay in the merger or might result in a potential competing acquiror proposing to pay a lower per share price to acquire Endwave than it might otherwise have proposed to pay because of the added expense of the termination fee that may become payable to GigOptix in certain circumstances.
 
Endwave stockholders will have reduced ownership and voting interests in GigOptix and will be able to exercise less influence over management following the merger.
 
Immediately after the merger, based on the conversion ratios contained in the merger agreement, the pre-merger holders of Endwave common stock and restricted stock units will own that number of shares equal to 42.5% of the outstanding stock of the combined company, less 42.5% of the shares issued in the merger in respect of Endwave stock options. Consequently, stockholders of Endwave will be able to exercise less influence over the management and policies of GigOptix than they currently exercise over the management and policies of Endwave.
 
There may be a limited public market for shares of GigOptix common stock, and the ability of its stockholders to dispose of their common shares may be limited.
 
GigOptix common stock has been traded on the OTC Bulletin Board since December 2008. GigOptix cannot foresee the degree of liquidity that will be associated with its common stock. A holder of its common stock may not be able to liquidate his, her or its investment in a short time period or at the market prices that currently exist at the time the holder decides to sell. The market price for GigOptix’ common stock may fluctuate in the future, and such volatility may bear no relation to its performance.
 
Substantial future sales of GigOptix’ common stock in the public market could cause GigOptix’ stock price to fall.
 
The sale of GigOptix’ outstanding common stock or shares issuable upon exercise of options or warrants, or the perception that such sales could occur, could cause the market price of GigOptix common stock to decline. GigOptix has registered 4,193,148 shares of its common stock held by existing stockholders for public resale. In addition, one of the stockholders of GigOptix, the DBSI Liquidating Trust, holds 1,715,161 shares of GigOptix stock. GigOptix is separately filing a Registration Statement on Form S-1 for the resale registration of such shares. All of these registered shares of common stock are freely tradable without restriction or further registration under the Securities Act, unless the shares are purchased by “affiliates” as that term is defined in Rule 144 under the Securities Act. Any shares purchased by an affiliate may not be resold except pursuant to an effective registration statement or an applicable exemption from registration, including an exemption under Rule 144 of the Securities Act. GigOptix may issue additional shares of GigOptix common stock in the future in private placements, public offerings or to finance mergers or acquisitions.
 
The exercise of options and warrants and other issuances of shares of common stock or securities convertible into common stock will dilute the interest of GigOptix stockholders.
 
GigOptix has issued options and warrants to purchase a substantial number of shares of its common stock. Certain of the warrants contain adjustment provisions that will reset the exercise price per share of such warrants to any lower price than the existing exercise price at which GigOptix issues shares of its common stock in the future for so long as those warrants are outstanding. The exercise of options and warrants at prices below the market price of GigOptix common stock could adversely affect the price of shares of GigOptix common stock. Additional dilution may result from the issuance of shares of GigOptix capital stock in connection with other acquisitions or in connection with financing efforts.


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Any issuance of GigOptix common stock that is not made solely to then-existing stockholders proportionate to their interests, such as in the case of a stock dividend or stock split, will result in dilution to each stockholder by reducing his, her or its percentage ownership of the total outstanding shares. Moreover, if GigOptix issues options or warrants to purchase its common stock in the future and those options or warrants are exercised, or if GigOptix issues restricted stock, stockholders may experience further dilution.
 
In addition, certain warrants to purchase shares of GigOptix’ common stock currently contain an exercise price above the current market price for the common stock. These warrants are known as “above-market” warrants. As a result, it is possible that the holders of these warrants may choose not to exercise them prior to their expiration, in which case GigOptix may not realize any proceeds from their exercise.
 
Risks Relating to Our Business
 
We have had a history of losses and may not be profitable in the future.
 
We had a net loss from continuing operations of $8.1 million in 2010. We also had a net loss from continuing operations of $10.6 million and $4.0 million for the years ended December 31, 2009 and 2008, respectively. There is no guarantee that we will achieve or maintain profitability in the future.
 
We depend on a small number of key customers in the mobile communication industry for a significant portion of our revenues. If we lose any of our major customers or there is any material reduction in orders for our products from any of these customers, our business, financial condition and results of operations would be adversely affected. In addition, consolidation in this industry could result in delays or cancellations of orders for our products, adversely impacting our results of operations.
 
We depend, and expect to continue to depend, on a relatively small number of mobile communication customers for a significant part of our revenues. The loss of any of our major customers or any material reduction in orders from any such customers would have a material adverse effect on our business, financial condition and results of operations. In 2010, three customers each accounted for greater than 10% of total revenues and combined they accounted for 93% of our total revenues, the largest of which was Nokia Siemens Networks which accounted for 52% of our total revenues. In 2009, two customers accounted for 88% of our total revenues, the largest of which was Nokia Siemens Networks which accounted for 70% of our total revenues, and no other customer accounted for more than 10% of our total revenues.
 
The mobile communication industry has undergone significant consolidation in the past few years. For example, during January 2011, Ceragon Networks Ltd. entered into a definitive agreement to merge with Nera Networks AS. The acquisition of one of our major customers in this market, or one of the communications service providers supplied by one of our major customers, could result in delays or cancellations of orders for our products and, accordingly, delays or reductions in our anticipated revenues and reduced profitability or increased net losses.
 
Our semiconductor product line will require us to incur significant expenses and may not be successful.
 
Our semiconductor product line will require us to incur expenses to design, test, manufacture and market these products including the purchase of inventory, supplies and capital equipment. The future success of our semiconductor product line will depend on our ability to develop these products in a cost-effective and timely manner and to market them effectively. The development of our products is complex, and from time to time we may experience delays in completing the development and introduction of our new products or fail to efficiently manufacture such products in the early production phase. The semiconductor product line may have little immediate impact on our revenue because a new standard product may not generate meaningful revenue. In the meantime, we will have incurred expenses to design, produce and market the products, and we may not recover these expenses if demand for the product fails to reach forecasted levels which may adversely affect our operating results.


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Because of the shortages of some components and our dependence on single source suppliers and custom components, we may be unable to obtain an adequate supply of components of sufficient quality in a timely fashion, or we may be required to pay higher prices or to purchase components of lesser quality.
 
Many of our products are customized and must be qualified with our customers. This means that we cannot change components in our products easily without the risks and delays associated with requalification. Accordingly, while a number of the components we use in our products are made by multiple suppliers, we may effectively have single source suppliers for some of these components. Further, we have recently experienced extended lead times for many components.
 
In addition, we currently purchase a number of components, some from single source suppliers, including, but not limited to:
 
  •  semiconductor devices;
 
  •  application-specific monolithic microwave integrated circuits;
 
  •  voltage regulators;
 
  •  passive components;
 
  •  unusual or low usage components;
 
  •  surface mount components compliant with the EU’s Restriction of Hazardous Substances, or RoHS, Directive;
 
  •  custom metal parts;
 
  •  high-frequency circuit boards; and
 
  •  custom connectors.
 
Any delay or interruption in the supply of these or other components could impair our ability to manufacture and deliver our products, harm our reputation and cause a reduction in our revenues. In addition, any increase in the cost of the components that we use in our products could make our products less competitive and lower our margins. In the past, we suffered from shortages of and quality issues with various components. These shortages and quality issues adversely impacted our product revenues and could reappear in the future. Our single source suppliers could enter into exclusive agreements with or be acquired by one of our competitors, increase their prices, refuse to sell their products to us, discontinue products or go out of business. Even to the extent alternative suppliers are available to us and their components are qualified with our customers on a timely basis, identifying them and entering into arrangements with them may be difficult and time consuming, and they may not meet our quality standards. We may not be able to obtain sufficient quantities of required components on the same or substantially the same terms.
 
Competitive conditions often require us to reduce prices and, as a result, requires us to reduce our costs in order to be profitable.
 
Over the past year, we reduced the prices of many of our telecommunication products in order to remain competitive and we expect market conditions will cause us to reduce our prices again in the future. In order to reduce our per-unit cost of product revenues, we must continue to design and re-design products to utilize lower cost materials and improve our manufacturing efficiencies. The combined effects of these actions may be insufficient to achieve the cost reductions needed to maintain or increase our gross margins or achieve profitability.
 
Our operating results may be adversely affected by substantial quarterly and annual fluctuations and market downturns.
 
Our revenues, earnings and other operating results have fluctuated in the past and our revenues, earnings and other operating results may fluctuate in the future. These fluctuations are due to a number of factors, many of which are beyond our control. These factors include, among others, global economic conditions, overall growth in our target markets, the ability of our customers to obtain adequate capital, U.S. export law changes, changes in customer order patterns, customer consolidation, availability of components from our suppliers, the gain or loss of a


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significant customer, changes in our product mix and market acceptance of our products and our customers’ products. These factors are difficult to forecast, and these, as well as other factors, could materially and adversely affect our quarterly or annual operating results.
 
We rely on the semiconductor foundry operations of third-party semiconductor foundries to manufacture the integrated circuits sold directly to our customers and contained in our products. The loss of our relationship with any of these foundries without adequate notice would adversely impact our ability to fill customer orders and could damage our customer relationships.
 
We utilize both industry standard semiconductor components and our own custom-designed semiconductor devices. However, we do not own or operate a semiconductor fabrication facility, or foundry, and rely on a limited number of third parties to produce our custom-designed components. If any of our semiconductor suppliers is unable to deliver semiconductors to us in a timely fashion, the resulting delay could severely impact our ability to fulfill customer orders and could damage our relationships with our customers. In addition, the loss of our relationship with or our access to any of the semiconductor foundries we currently use for the fabrication of custom designed components and any resulting delay or reduction in the supply of semiconductor devices to us, would severely impact our ability to fulfill customer orders and could damage our relationships with our customers.
 
We may not be successful in forming alternative supply arrangements that provide us with a sufficient supply of gallium arsenide devices. Gallium arsenide devices are used in a substantial portion of the products we manufacture. Because there are a limited number of semiconductor foundries that use the particular process technologies we select for our products and that have sufficient capacity to meet our needs, using alternative or additional semiconductor foundries would require an extensive qualification process that could prevent or delay product shipments and revenues. We estimate that it may take up to six months to shift production of a given semiconductor circuit design to a new foundry.
 
We rely heavily on a Thailand facility of HANA, a contract manufacturer, to produce our RF modules and to package our microwave and millimeter wave integrated circuits. If HANA is unable to produce or package these modules and circuits in sufficient quantities or with adequate quality, or it chooses to terminate our manufacturing arrangement, we will be forced to find an alternative manufacturer and may not be able to fulfill our production commitments to our customers, which could cause sales to be delayed or lost and could harm our reputation.
 
We outsource the assembly and testing of our products to a Thailand facility of HANA, a contract manufacturer. We plan to continue this arrangement as a key element of our operating strategy. If HANA does not provide us with high quality products and services in a timely manner, terminates its relationship with us, or is unable to produce our products due to financial difficulties or political instability we may be unable to obtain a satisfactory replacement to fulfill customer orders on a timely basis. In the event of an interruption of supply from HANA, sales of our products could be delayed or lost and our reputation could be harmed. Our latest manufacturing agreement with HANA expires in October 2011, but will renew automatically for successive one-year periods unless either party notifies the other of its desire to terminate the agreement at least one year prior to the expiration of the term. No such notification has been sent to or received from HANA. In addition, either party may terminate the agreement without cause upon 365 days prior written notice to the other party, and either party may terminate the agreement if the non-terminating party is in material breach and does not cure the breach within 30 days after notice of the breach is given by the terminating party. There can be no guarantee that HANA will not seek to terminate its agreement with us.
 
Potential misclassification of certain products under the Export Administration Regulations may result in liability for Endwave and affect ongoing operations.
 
In December 2009, we sought and obtained a formal commodity classification from the Department of Commerce’s Bureau of Industry and Security, or BIS, regarding certain amplifier products rated to operate between 34 and 40 GHz. Prior to our request, we believed based on our internal review that the products and related technology were properly classified as EAR99 and that export licenses were not required to any destination in which we had operations or sold products. In response to our commodity classification request, however, BIS determined


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that our MMIC amplifiers rated to operate between 34 and 40 GHz are classified under Export Classification Control Number, or ECCN, 3A001, which controls MMIC power amplifiers rated for operation at frequencies exceeding 31.8 GHz up to and including 37.5 GHz without regard to power output or fractional bandwidth limits. Products falling under ECCN 3A001 are controlled for national security purposes and are subject to export licensing requirements for most countries. Similarly, technology for the development or production of items controlled under ECCN 3A001 falls under ECCN 3E001. Exports of such technology are likewise controlled for national security purposes and subject to restrictive licensing requirements. License exceptions are available under the Export Administration Regulations for items and technology classified under ECCNs 3A001 and 3E001, respectively.
 
We have requested reconsideration of certain BIS classifications and are in the process of reviewing the affected transactions. As part of this review, the Company has quarantined the affected products. We have also submitted an initial voluntary self-disclosure to BIS and will provide a detailed report to BIS regarding the affected transactions.
 
At this time, we believe that all the transactions entered into by the Company could have qualified for license exceptions under the Export Administration Regulations. Nevertheless, we may be responsible for monetary penalties and may experience operational delays that could have a material adverse effect on our business and operations.
 
Our products may contain component, manufacturing or design defects or may not meet our customers’ performance criteria, which could cause us to incur significant repair expenses, harm our customer relationships and industry reputation, and reduce our revenues and profitability.
 
We have experienced manufacturing quality problems with our products in the past and may have similar problems in the future. As a result of these problems, we have replaced components in some products, or replaced the product, in accordance with our product warranties. Our product warranties typically last twelve to thirty months. As a result of component, manufacturing or design defects, we may be required to repair or replace a substantial number of products under our product warranties, incurring significant expenses as a result. Further, our customers may discover latent defects in our integrated circuits and module products that were not apparent when the warranty period expired. These latent defects may cause us to incur significant repair or replacement expenses beyond the normal warranty period. In addition, any component, manufacturing or design defect could cause us to lose customers or revenues or damage our customer relationships and industry reputation.
 
We may not be able to design our products as quickly as our customers require, which could cause us to lose sales and may harm our reputation.
 
Existing and potential customers typically demand that we design products for them under difficult time constraints. In the current market environment, the need to respond quickly is particularly important. If we are unable to commit the necessary resources to complete a project for a potential customer within the requested timeframe, we may lose a potential sale. Our ability to design products within the time constraints demanded by a customer will depend on the number of product design professionals who are available to focus on that customer’s project and the availability of professionals with the requisite level of expertise is limited. We have, in the past, expended significant resources on research and design efforts on potential customer products that did not result in additional revenue.
 
Each of our communication products is designed for a specific range of frequencies. Because different national governments license different portions of the frequency spectrum for the mobile communication market, and because communications service providers license specific frequencies as they become available, in order to remain competitive we must adapt our products rapidly to use a wide range of different frequencies. This may require the design of products at a number of different frequencies simultaneously. This design process can be difficult and time consuming, could increase our costs and could cause delays in the delivery of products to our customers, which may harm our reputation and delay or cause us to lose revenues.
 
Our customers often have specific requirements that can be at the forefront of technological development and therefore difficult and expensive to meet. If we are not able to devote sufficient resources to these products, or we experience development difficulties or delays, we could lose sales and damage our reputation with those customers.


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We depend on our key personnel. Skilled personnel in our industry can be in short supply. If we are unable to retain our current personnel or hire additional qualified personnel, our ability to develop and successfully market our products would be harmed.
 
We believe that our future success depends upon our ability to attract, integrate and retain highly skilled managerial, research and development, manufacturing and sales and marketing personnel. Skilled personnel in our industry can be in short supply. As a result, our employees are highly sought after by competing companies and our ability to attract skilled personnel is limited. To attract and retain qualified personnel, we may be required to grant large stock option or other stock-based incentive awards, which may harm our operating results or be dilutive to our other stockholders. We may also be required to pay significant base salaries and cash bonuses, which could harm our operating results.
 
Due to our relatively small number of employees and the limited number of individuals with the skill set needed to work in our industry, we are particularly dependent on the continued employment of our senior management team and other key personnel. If one or more members of our senior management team or other key personnel were unable or unwilling to continue in their present positions, these persons would be very difficult to replace, and our ability to conduct our business successfully could be seriously harmed. We do not maintain key person life insurance policies.
 
The length of our sales cycle requires us to invest substantial financial and technical resources in a potential sale before we know whether the sale will occur. There is no guarantee that the sale will ever occur and if we are unsuccessful in designing integrated circuits and module products for a particular generation of a customer’s products, we may need to wait until the next generation of that product to sell our products to that particular customer.
 
Our products are highly technical and the sales cycle can be long. Our sales efforts involve a collaborative and iterative process with our customers to determine their specific requirements either in order to design an appropriate solution or to transfer the product efficiently to our offshore contract manufacturer. Depending on the product and market, the sales cycle can take anywhere from 2 to 24 months, and we incur significant expenses as part of this process without any assurance of resulting revenues. We generate revenues only if our product is selected for incorporation into a customer’s system and that system is accepted in the marketplace. If our product is not selected, or the customer’s development program is discontinued, we generally will not have an opportunity to sell our product to that customer until that customer develops a new generation of its system. There is no guarantee that our product will be selected for that new generation system. The length of our product development and sales cycle makes us particularly vulnerable to the loss of a significant customer or a significant reduction in orders by a customer because we may be unable to quickly replace the lost or reduced sales.
 
We may not be able to manufacture and deliver our products as quickly as our customers require, which could cause us to lose sales and would harm our reputation.
 
We may not be able to manufacture products and deliver them to our customers at the times and in the volumes they require. Manufacturing delays and interruptions can occur for many reasons, including, but not limited to:
 
  •  the failure of a supplier to deliver needed components on a timely basis or with acceptable quality;
 
  •  lack of sufficient capacity;
 
  •  poor manufacturing yields;
 
  •  equipment failures;
 
  •  manufacturing personnel shortages;
 
  •  transportation disruptions;
 
  •  changes in import/export regulations;
 
  •  infrastructure failures at the facilities of our offshore contract manufacturer;


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  •  natural disasters;
 
  •  acts of terrorism; and
 
  •  political instability.
 
Manufacturing our products is complex. The yield, or percentage of products manufactured that conform to required specifications, can decrease for many reasons, including materials containing impurities, equipment not functioning in accordance with requirements or human error. If our yield is lower than we expect, we may not be able to deliver products on time. For example, in the past, we have on occasion experienced poor yields on certain products that have prevented us from delivering products on time and have resulted in lost sales. If we fail to manufacture and deliver products in a timely fashion, our reputation may be harmed, we may jeopardize existing orders and lose potential future sales, and we may be forced to pay penalties to our customers.
 
Although we do have long-term commitments from many of our customers, they are not for fixed quantities of product. As a result, we must estimate customer demand, and errors in our estimates could have negative effects on our cash, inventory levels, revenues and results of operations.
 
We have been required historically to place firm orders for products and manufacturing equipment with our suppliers up to six months prior to the anticipated delivery date and, on occasion, prior to receiving an order for the product, based on our forecasts of customer demands. Our sales process requires us to make multiple demand forecast assumptions, each of which may introduce error into our estimates. If we overestimate customer demand, we may allocate resources to manufacturing products that we may not be able to sell when we expect, if at all. As a result, we would have additional usage of cash, excess inventory and overhead expense, which would harm our financial results. On occasion, we have experienced adverse financial results due to excess inventory and excess manufacturing capacity. For example, the second quarter of 2010 included a $1.5 million write-off of inventory associated with excess materials related to a rapid drop in sales of a legacy product for a major customer’s radio platform.
 
Conversely, if we underestimate customer demand or if insufficient manufacturing capacity were available, we would lose revenue opportunities, market share and damage our customer relationships. On occasion, we have been unable to adequately respond to unexpected increases in customer purchase orders and were unable to benefit from this increased demand. There is no guarantee that we will be able to adequately respond to unexpected increases in customer purchase orders in the future, in which case we may lose the revenues associated with those additional purchase orders and our customer relationships and reputation may suffer.
 
Any failure to protect our intellectual property appropriately could reduce or eliminate any competitive advantage we have.
 
Our success depends, in part, on our ability to protect our intellectual property. We rely primarily on a combination of patent, copyright, trademark and trade secret laws to protect our proprietary technologies and processes. As of December 31, 2010, we had 43 United States patents issued, many with associated foreign filings and patents. Our issued patents include those relating to basic circuit and device designs, semiconductors, our multilithic microsystems technology and system designs. Our issued United States patents expire between 2013 and 2028. We maintain a vigorous technology development program that routinely generates potentially patentable intellectual property. Our decision as to whether to seek formal patent protection is done on a case by case basis and is based on the economic value of the intellectual property, the anticipated strength of the resulting patent, the cost of pursuing the patent and an assessment of using a patent as a strategy to protect the intellectual property.
 
To protect our intellectual property, we regularly enter into written confidentiality and assignment of rights to inventions agreements with our employees, and confidentiality and non-disclosure agreements with third parties, and generally control access to and distribution of our documentation and other proprietary information. These measures may not be adequate in all cases to safeguard the proprietary technology underlying our products. It may be possible for a third party to copy or otherwise obtain and use our products or technology without authorization, develop similar technology independently or attempt to design around our patents. In addition, effective patent, copyright, trademark and trade secret protection may be unavailable or limited outside of the United States, Europe


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and Japan. We may not be able to obtain any meaningful intellectual property protection in other countries and territories. Additionally, we may, for a variety of reasons, decide not to file for patent, copyright, or trademark protection outside of the United States. Moreover we occasionally agree to incorporate a customer’s or supplier’s intellectual property into our designs, in which case we have obligations with respect to the non-use and non-disclosure of that intellectual property. We also license technology from other companies, including Northrop Grumman Corporation. There are no limitations on our rights to make, use or sell products we may develop in the future using the chip technology licensed to us by Northrop Grumman Corporation. Steps taken by us to prevent misappropriation or infringement of our intellectual property or the intellectual property of our customers may not be successful. Litigation may be necessary in the future to enforce our intellectual property rights, to protect our trade secrets or to determine the validity and scope of proprietary rights of others, including our customers. Litigation of this type could result in substantial costs and diversion of our resources.
 
We may receive in the future, notices of claims of infringement of other parties’ proprietary rights. In addition, the invalidity of our patents may be asserted or prosecuted against us. Furthermore, in a patent or trade secret action, we could be required to withdraw the product or products as to which infringement was claimed from the market or redesign products offered for sale or under development. We have also at times agreed to indemnification obligations in favor of our customers and other third parties that could be triggered upon an allegation or finding of our infringement of other parties’ proprietary rights. These indemnification obligations would be triggered for reasons including our sale or supply to a customer or other third parties of a product which was later discovered to infringe upon another party’s proprietary rights. Irrespective of the validity or successful assertion of such claims we would likely incur significant costs and diversion of our resources with respect to the defense of such claims. To address any potential claims or actions asserted against us, we may seek to obtain a license under a third party’s intellectual property rights. However, in such an instance, a license may not be available on commercially reasonable terms, if at all.
 
With regard to our pending patent applications, it is possible that no patents may be issued as a result of these or any future applications or the allowed patent claims may be of reduced value and importance. If they are issued, any patent claims allowed may not be sufficiently broad to protect our technology. Further, any existing or future patents may be challenged, invalidated or circumvented thus reducing or eliminating their commercial value. The failure of any patents to provide protection to our technology might make it easier for our competitors to offer similar products and use similar manufacturing techniques.
 
We are exposed to fluctuations in the market values of our investment portfolio.
 
Although we have not experienced any material losses on our cash, cash equivalents and short-term investments, future declines in their market values could have a material adverse effect on our financial condition and operating results. Although our portfolio has no direct investments in auction rate or sub-prime mortgage securities, our overall investment portfolio is currently and may in the future be concentrated in cash equivalents including money market funds. If any of the issuers of the securities we hold default on their obligations, or their credit ratings are negatively affected by liquidity, credit deterioration or losses, financial results, or other factors, the value of our cash equivalents and short-term and long-term investments could decline and result in a material impairment.
 
Risks Relating to Our Industry
 
Our failure to compete effectively could reduce our revenues and margins.
 
Among suppliers in the mobile communication market who provide integrated transceivers to radio OEMs, we primarily compete with Compel Electronics SpA, Filtronic plc, and Microelectronics Technology Inc. Additionally, there are mobile communication OEMs, such as Ericsson and NEC Corporation, that use their own captive resources for the design and manufacture of their transceiver modules, rather than using suppliers like us. To the extent that mobile communication OEMs presently, or may in the future, produce their own transceiver modules, we lose the opportunity to provide our modules to them. However, when we launched our semiconductor product line, we gained the opportunity to provide integrated circuits to all radio OEMs.


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Our failure to comply with any applicable environmental regulations could result in a range of consequences, including fines, suspension of production, excess inventory, sales limitations and criminal and civil liabilities.
 
Due to environmental concerns, the need for lead-free solutions in electronic components and systems is receiving increasing attention within the electronics industry as companies are moving towards becoming compliant with the RoHS Directive. The RoHS Directive is European Union legislation that restricts the use of a number of substances, including lead, after July 2006. We believe that our products impacted by these regulations are compliant with the RoHS Directive and that materials will continue to be available to meet these regulations. However, it is possible that unanticipated supply shortages or delays or excess non-compliant inventory may occur as a result of these new regulations. Failure to comply with any applicable environmental regulations could result in a range of consequences, including loss of sales, fines, suspension of production, excess inventory and criminal and civil liabilities.
 
Government regulation of the communications industry could limit the growth of the markets that we serve or could require costly alterations of our current or future products.
 
The markets that we serve are highly regulated. Communications service providers must obtain regulatory approvals to operate broadband wireless access networks within specified licensed bands of the frequency spectrum. Further, the Federal Communications Commission and foreign regulatory agencies have adopted regulations that impose stringent RF emissions standards on the communications industry that could limit the growth of the markets that we serve or could require costly alterations of our current or future products.
 
Our failure to continue to develop new or improved semiconductor process technologies could impair our competitive position.
 
Our future success depends in part upon our ability to continue to gain access to the current semiconductor process technologies in order to adapt to emerging customer requirements and competitive market conditions. If we fail to keep abreast of the new and improved semiconductor process technologies as they emerge, we may lose market share which could adversely affect our operating results.
 
The segment of the semiconductor industry in which we participate is intensely competitive, and our inability to compete effectively would harm our business.
 
The markets for our products are extremely competitive, and are characterized by rapid technological change and continuously evolving customer requirements. Many of our competitors have significantly greater financial, technical, manufacturing, sales and marketing resources than we do. As a result, our competitors may develop new technologies, enhancements of existing products or new products that offer price or performance features superior to ours. In addition, our competitors may be perceived by prospective customers to offer financial and operational stability superior to ours.
 
We expect competition in our markets to intensify as new competitors enter the RF, microwave and millimeter wave component market, existing competitors merge or form alliances, and new technologies emerge. If we are not able to compete effectively, our market share and revenue could be adversely affected and our business and results of operations could be harmed.
 
Risks Relating to Ownership of Our Stock
 
The market price of our common stock has fluctuated historically and is likely to fluctuate in the future.
 
The price of our common stock has fluctuated widely since our initial public offering in October 2000. In 2010, the lowest daily sales price for our common stock was $2.00 and the highest daily sales price for our common stock was $3.61. In 2009, the lowest daily sales price for our common stock was $1.36 and the highest daily sales price for


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our common stock was $3.43. The market price of our common stock can fluctuate significantly for many reasons, including, but not limited to:
 
  •  our financial performance or the performance of our competitors;
 
  •  the purchase or sale of common stock, short-selling or transactions by large stockholders;
 
  •  technological innovations or other significant trends or changes in the markets we serve;
 
  •  successes or failures at significant product evaluations or site demonstrations;
 
  •  the introduction of new products by us or our competitors;
 
  •  acquisitions, strategic alliances or joint ventures involving us or our competitors;
 
  •  decisions by major customers not to purchase products from us or to pursue alternative technologies;
 
  •  decisions by investors to de-emphasize investment categories, groups or strategies that include our company or industry;
 
  •  market conditions in the industry, the financial markets and the economy as a whole; and
 
  •  the low trading volume of our common stock.
 
It is likely that our operating results in one or more future quarters may be below the expectations of security analysts and investors. In that event, the trading price of our common stock would likely decline. In addition, the stock market has experienced extreme price and volume fluctuations. These market fluctuations can be unrelated to the operating performance of particular companies and the market prices for securities of technology companies have been especially volatile. Future sales of substantial amounts of our common stock, or the perception that such sales could occur, could adversely affect prevailing market prices for our common stock. Additionally, future stock price volatility for our common stock could provoke the initiation of securities litigation, which may divert substantial management resources and have an adverse effect on our business, operating results and financial condition. Our existing insurance coverage may not sufficiently cover all costs and claims that could arise out of any such securities litigation. We anticipate that prices for our common stock will continue to be volatile.
 
We have a few stockholders that each own a large percentage of our outstanding capital stock and, as a result of their significant ownership, are able to significantly affect the outcome of matters requiring stockholder approval.
 
As of January 31, 2011, our five largest stockholders together owned approximately 40% of our outstanding common stock. Because most matters requiring approval of our stockholders require the approval of the holders of a majority of the shares of our outstanding capital stock present in person or by proxy at the annual meeting, the significant ownership interest of these shareholders allows them to significantly affect the election of our directors and the outcome of corporate actions requiring stockholder approval. This concentration of ownership may also delay, deter or prevent a change in control and may make some transactions more difficult or impossible to complete without their support, even if the transaction is favorable to our stockholders as a whole.
 
Our certificate of incorporation, bylaws and arrangements with executive officers could delay or prevent a change in control.
 
We are subject to certain Delaware anti-takeover laws by virtue of our status as a Delaware corporation. These laws prevent us from engaging in a merger or sale of more than 10% of our assets with any stockholder, including all affiliates and associates of any stockholder, who owns 15% or more of our outstanding voting stock, for three years following the date that the stockholder acquired 15% or more of our voting stock, unless our board of directors approved the business combination or the transaction which resulted in the stockholder becoming an interested stockholder, or upon consummation of the transaction which resulted in the stockholder becoming an interested stockholder, the interested stockholder owned at least 85% of our voting stock of the corporation, or the business combination is approved by our board of directors and authorized by at least 662/3% of our outstanding voting stock not owned by the interested stockholder. A corporation may opt out of the Delaware anti-takeover laws in its charter


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documents; however we have not chosen to do so. Our certificate of incorporation and bylaws include a number of provisions that may deter or impede hostile takeovers or changes of control of management, including a staggered board of directors, the elimination of the ability of our stockholders to act by written consent, discretionary authority given to our board of directors as to the issuance of preferred stock, and indemnification rights for our directors and executive officers. Additionally, we have adopted a Stockholder Rights Plan, providing for the distribution of one preferred share purchase right for each outstanding share of common stock that may lead to the delay or prevention of a change in control that is not approved by our board of directors. We have a Senior Executive Officer Severance Retention Plan, an Executive Officer Severance Plan and a Key Employee Severance and Retention Plan that provide for severance payments and the acceleration of vesting of a percentage of certain stock options granted to our executive officers and certain senior, non-executive employees under specified conditions.
 
These plans may make us a less attractive acquisition target or may reduce the amount a potential acquirer may otherwise be willing to pay for our company.
 
Item 1B.   Unresolved Staff Comments
 
Not applicable.
 
Item 2.   Properties
 
Our main facilities include:
 
  •  Our principal executive offices located in San Jose, California, where we lease approximately 33,000 square feet, which encompasses our corporate headquarters and research and development facilities. This lease expires in August 2011.
 
  •  During 2008, we moved our Northeast operations to Salem, New Hampshire where we lease approximately 5,000 square feet. This lease expires in November 2013.
 
  •  In Folsom, California we lease approximately 1,600 square feet under an office lease that expires in June 2013.
 
  •  In Chiang Mai, Thailand, near the facilities of our contract manufacturer, HANA, we lease approximately 3,000 square feet under an office lease that expires in March 2013. We believe that these facilities are adequate to meet our current and near term future needs.
 
Item 3.   Legal Proceedings
 
On October 31, 2008, we filed a complaint with the Canadian Superior Court in Montreal, Quebec alleging that Advantech Advanced Microwave Technologies Inc., or Advantech, the parent company of Allgon Microwave Corporation AB, or Allgon, had breached its contractual obligations with Endwave and owes us $994,500 in a note receivable, purchased inventory and authorized and accepted purchase orders resulting in shippable finished goods. We cannot predict the outcome of these proceedings. An adverse decision in these proceedings could harm our consolidated financial position and results of operations.
 
In a related action, we have filed a creditor’s claim for $994,500 against Allgon in the composition of creditors’ proceedings now pending in a Stockholm, Sweden bankruptcy court. Although a recovery under Swedish bankruptcy law is not assured, if it occurs any recovery will be a set-off in the Montreal action against Allgon’s parent, Advantech.
 
The Company is not a party to any other material legal proceeding which is expected to have a material adverse effect on our consolidated financial statements or results of operations. From time to time, we may be subject to legal proceedings and claims in the ordinary course of business. These claims, even if not meritorious, could result in the expenditure of significant financial resources and diversion of management efforts.


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PART II
 
Item 5.   Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
 
Information Relating to our Common Stock
 
Our common stock is traded on the NASDAQ Global Market under the symbol “ENWV.” The following table sets forth the high and low daily sales prices per share of our common stock, as reported by the NASDAQ Global Market.
 
                 
    High   Low
 
Fiscal Year Ended December 31, 2009
               
First Quarter
  $ 2.51     $ 1.36  
Second Quarter
  $ 3.08     $ 1.71  
Third Quarter
  $ 3.43     $ 2.24  
Fourth Quarter
  $ 3.05     $ 2.25  
Fiscal Year Ended December 31, 2010
               
First Quarter
  $ 2.95     $ 2.28  
Second Quarter
  $ 3.61     $ 2.62  
Third Quarter
  $ 3.16     $ 2.00  
Fourth Quarter
  $ 3.14     $ 2.02  
 
The last reported sale price of our common stock on the NASDAQ Global Market on January 31, 2011 was $2.24 per share. As of January 31, 2011, there were approximately 77 holders of record of our common stock.
 
Dividend Policy
 
We have never paid any cash dividends on our capital stock. Because we currently intend to retain any future earnings to fund the development and growth of our business, we do not anticipate paying any cash dividends in the near future.
 
Equity Compensation Plan Information
 
The following table provides certain information with respect to all of our equity compensation plans in effect as of the end of December 31, 2010.
 
                                         
                            Number of
 
                            Securities
 
                            Remaining
 
                            Available
 
                            for Issuance
 
                            Under Equity
 
    Number of
    Weighted-
    Number of
    Weighted-
    Compensation
 
    Securities to be
    Average
    Securities to be
    Average
    Plans
 
    Issued Upon
    Exercise
    Released Upon
    Grant
    (Excluding
 
    Exercise of
    Price of
    Vesting of
    Date Value of
    Securities
 
    Outstanding
    Outstanding
    Outstanding
    Outstanding
    Reflected in
 
Plan Category
  Options     Options     RSUs     RSUs     Column (a))(1)  
    (a)     (b)     (a)     (b)     (c)  
 
Equity compensation plans approved by security holders
    1,228,187     $ 2.39       204,800     $ 2.68       5,020,545 (2)
Equity compensation plans not approved by security holders
    0       0       0       0       0  
                                         
Total
    1,228,187     $ 2.39       204,800     $ 2.68       5,020,545  
                                         
 
 
(1) The number of shares that may be issued under the 2007 Equity Incentive Plan is increased automatically on January 1 of each year, beginning in 2008 and ending in 2012, by a number of shares equal to the lesser of (i) six percent of the number of shares of our common stock outstanding on such date, (ii) 1,500,000 shares and (iii) such lower number of shares as determined by our board of directors prior to such date.
 
(2) Includes 446,473 shares issuable under the 2000 Employee Stock Purchase Plan.


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Performance Measurement Comparison
 
The graph below shows the cumulative total stockholder return of an investment of $100 (and the reinvestment of any dividends thereafter) on December 31, 2005 in (i) our common stock, (ii) the NASDAQ Stock Market Index (U.S. Companies) and (ii) the NASDAQ Telecommunications Index. Our stock price performance shown in the graph below is not indicative of future stock price performance.
 
COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Endwave Corporation, The NASDAQ Composite Index
And The NASDAQ Telecommunications Index
 
(PERFORMANCE GRAPH)
 
                                                             
      12/05     12/06     12/07     12/08     12/09     12/10
Endwave Corporation
      100.00         91.94         61.71         20.37         20.71         19.35  
NASDAQ Composite
      100.00         111.74         124.67         73.77         107.12         125.93  
NASDAQ Telecommunications
      100.00         131.50         146.22         85.43         118.25         129.78  
                                                             
 
 
* $100 invested on 12/31/05 in stock or index-including reinvestment of dividends.
Fiscal year ending December 31.


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Item 6.   Selected Consolidated Financial Data
 
The following selected consolidated financial 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 the notes thereto included elsewhere in this report. The selected consolidated statements of operations data for the fiscal years ended December 31, 2010, 2009 and 2008 and the selected consolidated balance sheet data as of December 31, 2010 and 2009 are derived from our audited consolidated financial statements that are included elsewhere in this report. The selected consolidated statements of operations data for the fiscal years ended December 31, 2007 and 2006 and the selected consolidated balance sheet data as of December 31, 2008, 2007 and 2006 are derived from our audited consolidated financial statements not included in this report. The historical results are not necessarily indicative of the results of operations to be expected in any future periods.
 
                                         
    Year Ended December 31,
    2010   2009   2008   2007   2006
    (In thousands, except per share data)
 
Consolidated Statements of Operations Data:
                                       
Revenues
  $ 16,716     $ 19,502     $ 38,696     $ 44,329     $ 51,833  
Cost of product revenues
    14,002       14,791       26,227       30,399       34,992  
Other operating expenses
    10,761       15,651       17,741       16,820       17,369  
Income (loss) from continuing operations
    (8,092 )     (10,626 )     (3,964 )     670       2,002  
Income (loss) from discontinued operations, net of tax
          17,571       (10,787 )     (6,071 )     (3,347 )
Net income (loss)
  $ (8,092 )   $ 6,945     $ (14,751 )   $ (5,401 )   $ (1,345 )
Basic net income (loss) per share
  $ (0.83 )   $ 0.73     $ (1.60 )   $ (0.47 )   $ (0.12 )
Diluted net income (loss) per share
  $ (0.83 )   $ 0.73     $ (1.60 )   $ (0.37 )   $ (0.10 )
 
                                         
    December 31,
    2010   2009   2008   2007   2006
    (In thousands)
 
Consolidated Balance Sheet Data:
                                       
Cash, cash equivalents and short-term and long-term investments
  $ 23,527     $ 66,465     $ 45,348     $ 48,957     $ 67,587  
Total assets
    32,474       77,116       70,340       82,589       100,653  
Long-term liabilities, less current portion
    358       765       73       116       231  
Total stockholders’ equity
    28,288       71,952       62,041       71,848       89,398  
 
Item 7.   Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
The following discussion and analysis should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this report, as well as the information set forth in the “Risk Factors” section of this report. In addition to historical consolidated financial information, this discussion contains forward-looking statements that involve known and unknown risks and uncertainties, including statements regarding our expectations, beliefs, intentions or strategies regarding the future. All forward-looking statements included in this report are based on information available to us on the date hereof, and we assume no obligation to update any such forward-looking statements. Our actual results could differ materially from those discussed in the forward-looking statements. You are cautioned not to place undue reliance on these forward-looking statements. In the past, our operating results have fluctuated and are likely to continue to fluctuate in the future.
 
Overview
 
We design, manufacture and market radio frequency, or RF, products that enable the transmission, reception and processing of high frequency RF signals.


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Our products consist of two key product lines, semiconductor devices and integrated transceiver modules:
 
  •  Our semiconductor product line consists of a wide variety of monolithic microwave integrated circuits, or MMICs, including amplifiers, voltage controlled oscillators, up and down converters, variable gain amplifiers, voltage variable attenuators, fixed attenuators and filters. These types of devices are widely used in telecommunications, satellite, defense, security, instrumentation, scientific and consumer systems. While we have developed, produced and sold such devices for several years as components of our module products, we first offered them for sale as stand-alone products in the latter part of 2009 and they have not yet become a significant source of revenue for us.
 
  •  Our integrated transceiver modules combine several electronic functions into a single RF sub-system. Historically, our main customers for these products have been telecommunication network original equipment manufacturers, or OEMs, and system integrators that utilize them in digital microwave radios. More recently we have identified and pursued uses for these products in additional product areas; however these alternate applications have not yet become a significant source of revenue for us.
 
Markets and Outlook
 
Telecommunications market.  Most of our RF modules are deployed in telecommunication networks, carrier class trunking networks and point-to-point transmission networks. Our target customers for these applications are telecom OEMs. Telecom OEMs provide the equipment used by service providers to deliver voice, data and video services to businesses and consumers.
 
Non-telecommunication markets.  Our RF semiconductors are also designed into various applications outside of the telecommunication network market, including defense and homeland security markets. Our target customers in the defense market include defense systems integrators and their subcontractors that design aerospace systems, defense systems and weapons and electronics platforms for both domestic and foreign defense customers. Our target customers in the homeland security market include those utilizing the properties of high-frequency RF energy to create systems designed to detect and identify security threats.
 
2010 Revenues.  During 2010, total revenues decreased by $2.8 million, or 14%, from 2009. We believe the demand for our products has declined relative to prior periods due to a rapid drop in demand for legacy radio platforms and the decline of our key customers’ market share in the face of increasing competition. During 2010, we began the production ramp of our new module designs supporting next-generation radios, but the revenues from the new module designs did not offset the decline in revenues from our legacy products.
 
Current market outlook.  We depend on a small number of key customers in the mobile communication industry for a significant portion of our revenues. Over the past year, our customers have faced increasing competition which we believe has resulted in their loss of market share. The decline in our key customers’ market share has led to decreased demand for our products and contributed to the reduced revenues we experienced in 2010. We are uncertain about our customers’ ability to regain market share given the competitive nature of the industry and therefore have limited visibility to our financial performance in 2011. We currently believe that first quarter 2011 revenues will be significantly below the $4.1 million in revenue that we experienced in both the third and fourth quarters of 2010 and that revenues for all of 2011 will decrease moderately from 2010.
 
Proposed Merger with GigOptix
 
On February 4, 2011, we entered into an Agreement and Plan of Merger with GigOptix, Inc., or GigOptix, and Aerie Acquisition Corporation, a wholly-owned subsidiary of GigOptix, which we refer to as the Merger Subsidiary, pursuant to which Merger Subsidiary will, subject to the satisfaction or waiver of the conditions therein, merge with and into Endwave, the separate corporate existence of Merger Subsidiary shall cease and Endwave will be the surviving corporation of the merger and a wholly-owned subsidiary of GigOptix. We refer to this agreement as the Merger Agreement and the proposed merger contemplated by the Merger Agreement as the Merger. Upon the consummation of the Merger, (i) the outstanding shares of Endwave common stock will be converted into the right to receive an aggregate number of shares of GigOptix common stock equal to the product of (.425/.575) and the number of shares of GigOptix common stock outstanding immediately prior to consummation


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of the Merger, less 42.5% of the shares described in clause (ii) of this sentence and (ii) in-the-money options to acquire Endwave common stock outstanding immediately prior to the consummation of the Merger will be converted into that number of shares of GigOptix common stock determined by dividing the spread value of such options at closing by the closing price of GigOptix’s common stock on the trading day prior to closing, such that following the Merger, the pre-Merger holders of common stock and restricted stock units will own that number of shares equal to 42.5% of the outstanding stock of the combined company, less 42.5% of the shares issued in respect of Endwave stock options.
 
The Merger Agreement includes customary representations, warranties and covenants of Endwave and GigOptix. Endwave has agreed to conduct its operations and the operations of its subsidiaries according to its ordinary and usual course of business consistent with past practice until the effective time of the Merger. The Merger Agreement contains customary “no-solicitation” covenants pursuant to which neither Endwave nor GigOptix is permitted to solicit any alternative acquisition proposals, provide any information to any person in connection with any alternative acquisition proposal, participate in any discussions or negotiations relating to any alternative acquisition proposal, approve, endorse or recommend any alternative acquisition proposal, or enter into any agreement relating to any alternative acquisition proposal. The “no-solicitation” provision is subject to certain exceptions that permit the Board of Directors of each of Endwave and GigOptix, as the case may be, to comply with their respective fiduciary duties, which, under certain circumstances, would enable Endwave or GigOptix, as the case may be, to provide information to, and engage in discussions or negotiations with, third parties with respect to alternative acquisition proposals.
 
The Merger Agreement contains certain termination rights for both Endwave and GigOptix and further provides that, upon termination of the Merger Agreement under certain circumstances, Endwave may be obligated to pay GigOptix a termination fee of $1,000,000 plus certain reasonable documented expenses of GigOptix.
 
We currently expect to complete the Merger in the second quarter of 2011. GigOptix’s and Endwave’s obligations to consummate the Merger are subject to the satisfaction or waiver of customary closing conditions and regulatory approvals, as well as the approval of the merger by the stockholders of Endwave.
 
Divestiture of our Defense and Security RF Module Business
 
On April 30, 2009, we entered into an Asset Purchase Agreement with Microsemi Corporation, or Microsemi pursuant to which Microsemi purchased our Defense and Security RF module business, including all of the outstanding capital stock of our subsidiary, Endwave Defense Systems Incorporated. As consideration, Microsemi assumed certain liabilities associated exclusively with the Defense and Security RF module business and paid $28.0 million in cash. Additionally, as part of the sale, approximately 130 employees associated with the Defense and Security RF module business transferred to Microsemi. Accordingly, we reclassified the results of our Defense and Security RF module business as a discontinued operation in our consolidated statements of operations for all periods presented in this Annual Report on Form 10-K, and all amounts set forth in this Management’s Discussion and Analysis of Financial Condition and Results of Operation reflect such reclassification.
 
Seasonality
 
Although we have experienced significant quarterly fluctuations in revenue at times over the past several years, we do not believe that volatility was primarily attributable to seasonality in our business.
 
Critical Accounting Policies and Estimates
 
General
 
Management’s discussion and analysis of its financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to revenue recognition, allowance for doubtful accounts, warranty obligations, inventories, stock-


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based compensation, income taxes, asset impairments and other commitments and contingencies. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates or our estimates may be affected by different assumptions or conditions. We discuss these policies further, as well as the estimates and judgments involved, below.
 
Revenue Recognition
 
Our primary customers are telecom OEMs and other systems integrators that incorporate our products into their systems. We recognize product revenues at the time title passes, which is generally upon product shipment, coupled with persuasive evidence that an arrangement exists, delivery has occurred or services have been rendered, our price to the buyer is fixed or determinable and collectibility is reasonably assured. Revenues under development contracts are generally recorded on a percentage of completion basis, using project hours as the basis to measure progress toward completing the contract and recognizing revenues. Alternatively, where a development contract specifies defined progress gates or milestones tied to payments, revenue is recognized on a pro rata basis matching the milestones. Revenues attributable to development fees were insignificant during 2008, 2009 and 2010. The costs incurred under these development agreements are included in research and development expenses.
 
Allowance for Doubtful Accounts
 
We make ongoing assumptions relating to the collectibility of our accounts receivable in our calculation of the allowance for doubtful accounts. In determining the amount of the allowance, we make judgments about the creditworthiness of customers based on ongoing credit evaluations and assess current economic trends affecting our customers that might impact the level of credit losses in the future and result in different rates of bad debts than previously seen. We also consider our historical level of credit losses. At December 31, 2009 and 2010, our allowances were $19,000 and $18,000, respectively. If actual credit losses were to be significantly greater than the reserves we have established, our selling, general and administrative expenses would increase.
 
Warranty Reserves
 
We generally offer a 12 to 30 month warranty on all of our products. We record a liability based on estimates of the costs that may be incurred under our warranty obligations and charge to cost of product revenues the amount of such costs at the time revenues are recognized. Our warranty obligation is affected by product failure rates, material usage and service delivery costs incurred in correcting a product failure. Our estimates of anticipated rates of warranty claims and costs per claim are primarily based on historical information and future forecasts. At December 31, 2009 and 2010 our warranty reserves were $1.1 million and $614,000, respectively. We periodically assess the adequacy of our recorded warranty reserve and adjust the amounts as necessary. If actual warranty claims are significantly higher than forecasted, or if the actual costs incurred to provide the warranty is greater than the forecast, our gross margins could be adversely affected.
 
Inventory Valuation
 
We evaluate our ending inventories for excess quantities and obsolescence at each balance sheet date. This evaluation includes review of materials usage, market conditions and product life cycles and an analysis of sales levels by product and projections of future demand and market conditions. We adjust inventory balances to approximate the lower of our manufacturing cost or market value. If actual future demand or market conditions are less favorable than those projected by management, additional inventory write-downs may be required, and would be reflected in cost of product revenues in the period the revision is made. This would have a negative impact on our gross margins in that period. At the time of write down, a new, lower cost basis for that inventory is established and subsequent changes in facts and circumstances do not result in the restoration or increase in that newly established cost basis. If in any period we are able to sell inventories that were not valued or that had been written off in a previous period, related revenues would be recorded without any offsetting charge to cost of product revenues, resulting in a net benefit to our gross margin in that period. To the extent these factors materially affect our gross margins, we disclose them. During 2010 and 2009, we recorded $1.8 million and $878,000, respectively, of


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inventory write-offs associated with excess and obsolete material related to a rapid drop in sales of a legacy product for a major customer’s radio platform.
 
Stock-Based Compensation
 
Our stock-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as expense over the requisite service period. All of our stock compensation is accounted for as an equity instrument.
 
For restricted stock units, stock-based compensation is based on the fair value of our common stock at the grant date.
 
We estimate the fair value of stock options and shares under our stock purchase plan using the Black-Scholes valuation model. The fair value of each option grant and the right to purchase shares under our stock purchase plan are estimated on the date of grant using the Black-Scholes option valuation model and the graded-vesting method with assumptions concerning expected dividend yield, stock price volatility, risk free interest rate and expected life of the award.
 
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. As our stock option awards have characteristics that differ significantly from traded options, and as changes in the subjective assumptions can materially affect the estimated value, our estimate of fair value may not accurately represent the value assigned by a third party in an arms-length transaction. There currently is no market-based mechanism to verify the reliability and accuracy of the estimates derived from the Black-Scholes option valuation model or other allowable valuation models, nor is there a means to compare and adjust the estimates to actual values. While our estimate of fair value and the associated charge to earnings materially affects our results of operations, it has no impact on our cash position.
 
Deferred Taxes
 
We currently have significant deferred tax assets, which are subject to periodic recoverability assessments. We record a valuation allowance to reduce our deferred tax assets to the amount that we believe to be more likely than not realizable. We have recorded a valuation allowance in an amount equal to the net deferred tax assets to reflect uncertainty regarding future realization of these assets based on past performance and the likelihood of realization of our deferred tax assets.
 
Goodwill, Intangible and Long-Lived Assets
 
Goodwill represents the excess of the purchase price over the fair value of the net tangible and identifiable intangible assets acquired in a business combination. Intangible assets resulting from the acquisitions of entities accounted for using the purchase method of accounting are estimated by management based on the fair value of assets received.
 
During the fourth quarter of 2008, we determined that indicators of potential impairment were present based on the fair value of our common stock relative to its book value, revised estimates for future revenues and the continued worsening of the global economy. As a result, we assessed the carrying value of acquired goodwill and intangible assets with an indefinite life for impairment. Based on the fair market value of the business and our discounted future cash flow and revenue projections, we recorded non-cash impairment charges of $3.0 million for goodwill and $1.1 million for intangible assets with an indefinite life. These impairment charges are included in discontinued operations.
 
We review long-lived assets for impairment, whenever certain events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. Such events or circumstances include, but are not limited to, a prolonged industry downturn, or a significant reduction in projected future cash flows.
 
For long-lived assets used in operations, we record impairment losses when events and circumstances indicate that these assets might be impaired and the undiscounted cash flows estimated to be generated by those assets are less than the carrying amounts of those assets. If less, the impairment losses are based on the excess of the carrying


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amounts over their respective fair values. Their fair values would then become the new cost basis. Fair value is determined by discounted future cash flows, appraisals, or other methods. For assets to be disposed of other than by sale, impairment losses are measured as the excess of their carrying amount over the salvage value, if any, at the time the assets cease to be used.
 
During the fourth quarter of 2008, we reviewed our long-lived assets for indicators of impairment. Based on reduced estimates of future revenues and future negative cash flow, we identified potential indicators of impairment. As a result, we compared the fair value of our long-lived assets to their carrying value. Based on our discounted future cash flow and revenue projections, we recorded non-cash impairment charges of $2.1 million for intangible assets with a defined useful life. These impairment charges are included in discontinued operations and represent the excess of the carrying value of these assets over their fair value.
 
These impairment charges are not expected to result in any future cash expenditures.
 
Fair Value Measurement
 
Our financial assets and liabilities are valued using market prices on both active markets (Level 1) and less active markets (Level 2). Level 1 instrument valuations are obtained from real-time quotes for transactions in active exchange markets involving identical assets. Level 2 instrument valuations are obtained from readily-available pricing sources for comparable instruments. As of December 31, 2010, we did not have any assets or liabilities without observable market values that would require a high level of judgment to determine fair value (Level 3).
 
Business Combinations
 
For our business combinations, the purchase price of an acquired company is allocated between the intangible assets and the net tangible assets of the acquired business with the residual of the purchase price recorded as goodwill. The valuation of intangible assets is based on an income approach methodology that values the intangible assets based on the future cash flows that could potentially be generated by the asset over its estimated remaining life discounted to its present value utilizing an appropriate weighted average cost of capital. As a result of business acquisitions, the allocation of the purchase price to goodwill and intangible assets could have a significant impact on our future operating results.


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Results of Operations
 
The following tables set forth selected consolidated statements of operations data for each of the periods indicated in dollars and as a percentage of total revenues.
 
                         
    Year Ended December 31,  
    2010     2009     2008  
    (In thousands)  
 
Revenues:
                       
Product revenues
  $ 16,716     $ 19,502     $ 38,593  
Development fees
                103  
                         
Total revenues
    16,716       19,502       38,696  
                         
Costs and expenses:
                       
Cost of product revenues
    14,002       14,791       26,227  
Research and development
    4,607       5,483       6,764  
Sales and marketing
    2,154       2,183       3,446  
General and administrative
    3,951       5,577       7,531  
Restructuring
    49       2,408        
                         
Total costs and expenses
    24,763       30,442       43,968  
                         
Loss from operations
    (8,047 )     (10,940 )     (5,272 )
Interest and other income (expense), net
    (45 )     209       1,242  
                         
Loss from continuing operations before benefit for income taxes
    (8,092 )     (10,731 )     (4,030 )
Benefit for income taxes
          (105 )     (66 )
                         
Loss from continuing operations
    (8,092 )     (10,626 )     (3,964 )
Income (loss) from discontinued operations, net of tax
          17,571       (10,787 )
                         
Net income (loss)
  $ (8,092 )   $ 6,945     $ (14,751 )
                         
 


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    Year Ended December 31,  
    2010     2009     2008  
    (As a percentage of total revenues)  
 
Revenues:
                       
Product revenues
    100.0 %     100.0 %     99.7 %
Development fees
                0.3  
                         
Total revenues
    100.0       100.0       100.0  
                         
Costs and expenses:
                       
Cost of product revenues
    83.8       75.9       67.8  
Research and development
    27.6       28.1       17.5  
Sales and marketing
    12.9       11.2       8.9  
General and administrative
    23.6       28.6       19.4  
Restructuring
    0.3       12.3        
                         
Total costs and expenses
    148.1       156.1       113.6  
                         
Loss from operations
    (48.1 )     (56.1 )     (13.6 )
Interest and other income, net
    (0.3 )     1.1       3.2  
                         
Loss from continuing operations before benefit for income taxes
    (48.4 )     (55.0 )     (10.4 )
Benefit for income taxes
          (0.5 )     (0.2 )
                         
Loss from continuing operations
    (48.4 )     (54.5 )     (10.2 )
Income (loss) from discontinued operations, net of tax
          90.1       (27.9 )
                         
Net income (loss)
    (48.4 )%     35.6 %     (38.1 )%
                         
 
Results of Operations
 
Year ended December 31, 2010 compared to year ended December 31, 2009
 
Total revenues
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
Total revenues
  $ 16,716     $ 19,502       (14.3 )%
 
Total revenues primarily consist of product revenues for sales of our transceiver module and semiconductor products.
 
Total revenues decreased by $2.8 million, or 14%, from 2009 to 2010 due to a rapid drop in demand for legacy radio platforms and the decline of our key customers’ market share in the face of increasing competition. During 2010, we began the production ramp of our new module designs supporting next-generation radios but, the revenues from the new module designs did not offset the decline in revenues from our legacy product.
 
Over the past year, our customers have faced increasing competition which we believe has resulted in their loss of market share. The decline in our key customers’ market share has led to decreased demand for our products and contributed to the reduced revenues we experienced in 2010. We are uncertain about our customers’ ability to regain market share given the competitive nature of the industry and therefore have limited visibility to our financial performance in 2011. We currently believe that first quarter 2011 revenues will be significantly below the $4.1 million in revenue that we experienced in both the third and fourth quarters of 2010 and that revenues for all of 2011 will decrease moderately from 2010.

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Cost of product revenues
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
Cost of product revenues
  $ 14,002     $ 14,791       (5.3 )%
Percentage of revenues
    83.8 %     75.9 %        
 
Cost of product revenues consists primarily of: costs of direct materials; equipment depreciation; costs associated with procurement, production control, quality assurance and manufacturing engineering; fees paid to our offshore manufacturing vendor; reserves for potential excess or obsolete material; costs related to stock-based compensation; and accrued costs associated with potential warranty returns offset by the benefit of usage of materials that were previously written off.
 
During 2010, the cost of product revenues as a percentage of revenues increased compared to 2009, primarily due to the write-off of inventory associated with excess material related to a rapid drop in sales of a legacy product for a major customer’s radio platform, the decreased absorption of our overhead costs resulting from decreased production and continued pricing pressure resulting in lower product margins. During 2010 and 2009, we recorded $1.8 million and $878,000, respectively, of inventory write-offs associated with excess and obsolete material related to a rapid drop in sales of a legacy product for a major customer’s radio platform. The cost of product revenues in both periods was favorably impacted by the utilization of inventory that was previously written off, amounting to approximately $524,000 during 2010 and $100,000 during 2009.
 
We continue to focus on reducing the cost of product revenues as a percentage of total revenues through the introduction of new designs and technology and further improvements to our offshore manufacturing processes. In addition, our product costs are impacted by the mix and volume of products sold and will continue to fluctuate as a result.
 
Research and development expenses
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
Research and development expenses
  $ 4,607     $ 5,483       (16.0 )%
Percentage of revenues
    27.6 %     28.1 %        
 
Research and development expenses consist primarily of salaries and related expenses for research and development personnel, outside professional services, prototype materials, supplies and labor, depreciation for related equipment, allocated facilities costs and expenses related to stock-based compensation.
 
During 2010, research and development costs decreased in absolute dollars compared to 2009 primarily due to a $528,000 decrease in personnel-related expenses, a $290,000 decrease in stock-based compensation expenses and a $25,000 decrease in project related expenses. The decrease in personnel-related expenses is primarily due to the restructuring activities undertaken during fiscal 2009.
 
During the first quarter of 2011, we entered into a Merger Agreement with GigOptix. GigOptix and Endwave currently expect to complete the Merger in the second quarter of 2011. We have limited visibility to our research and development expenses for 2011 because we are in the process of determining the structure for the combined companies.
 
Sales and marketing expenses
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
Sales and marketing expenses
  $ 2,154     $ 2,183       (1.3 )%
Percentage of revenues
    12.9 %     11.2 %        


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Sales and marketing consist primarily of salaries and related expenses for sales and marketing personnel, professional fees, facilities costs, expenses related to stock-based compensation and promotional activities.
 
During 2010, sales and marketing costs were comparable to the costs in 2009 primarily due to a $320,000 decrease in stock-based compensation and a $107,000 decrease in bad debt expense which were offset by a $259,000 increase in sales commissions, a $92,000 increase in marketing expenses, a $47,000 increase in travel expenses and a $29,000 increase in personnel-related expenses.
 
We have limited visibility to our sales and marketing expenses for 2011 because we have entered into a Merger Agreement with GigOptix and are in the process of determining the structure for the combined companies.
 
General and administrative expenses
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
General and administrative expenses
  $ 3,951     $ 5,577       (29.2 )%
Percentage of revenues
    23.6 %     28.6 %        
 
General and administrative consist primarily of salaries and related expenses for executive, finance, accounting, legal, information technology and human resources personnel, professional fees, facilities costs, and expenses related to stock-based compensation.
 
During 2010, general and administrative costs were $4.0 million compared to $5.6 million in 2009. The decrease in general and administrative costs was primarily due to a $846,000 decrease in personnel-related expenses and a $815,000 decrease in stock-based compensation which were partially offset by a $28,000 increase for professional fees. The decrease in personnel-related expenses is primarily due to the restructuring activities undertaken during fiscal 2009.
 
We have limited visibility to our sales and marketing expenses for 2011 because we have entered into a Merger Agreement with GigOptix and are in the process of determining the structure for the combined companies.
 
Restructuring
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
Restructuring
  $ 49     $ 2,408       (98.0 )%
 
During the first quarter of 2009, we undertook certain restructuring activities to reduce expenses. These terminations affected all areas of our operations. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with employee terminations. The net charge for these restructuring activities in the first quarter of 2009 was $1.2 million and all cash payments have been made. Of this amount, approximately $182,000 has been included in income from discontinued operations. During the first quarter of 2010, we recorded a $14,000 positive adjustment as a result of lower benefit charges in connection with our first quarter 2009 restructuring plan than were originally anticipated.
 
During the second quarter of 2009, we undertook certain additional restructuring activities to reduce expenses. These terminations affected all areas of our operations. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with the employee terminations. The net charge for these restructuring activities was $243,000 and all cash payments have been made. Of this amount, approximately $39,000 has been included in the discontinued operations line item on the consolidated statements of operations.
 
During the fourth quarter of 2009, we undertook certain additional restructuring activities, including the departure of a senior executive, to reduce expenses. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with employee terminations. The net charge for these restructuring


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activities was $1.2 million. The remaining restructuring liability of $665,000 at December 31, 2010 is expected to be substantially paid by the end of the third quarter of 2012.
 
During the third quarter of 2010, we undertook certain additional restructuring activities to reduce expenses. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with an employee termination. The net charge for these restructuring activities was $63,000 and all cash payments have been made.
 
During the first quarter of 2011, we entered into a Merger Agreement with GigOptix. Although we currently anticipate the integration of the companies to include some restructuring activities, we have not yet determined the final structure for the combined companies.
 
Interest and other income (expense), net
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
Interest and other income (expense), net
  $ (45 )   $ 209       (121.5 )%
 
Interest and other income, net consists primarily of interest income earned on our cash, cash equivalents and investments, the amortization of the deferred gain from the sale of our Diamond Springs, California location, which ended in June 2009, and gains and losses related to foreign currency transactions.
 
The decrease in interest and other income from 2009 to 2010 was primarily the result of decreased interest earned on our investments and increased interest expense for our long-term restructuring liability.
 
During 2010, we earned $80,000 of interest income which was offset by interest expense, banking charges and losses on foreign currency transactions. During 2009, we earned $205,000 of interest income and recognized $76,000 of other income from the amortization of the deferred gain from the sale of our Diamond Springs, California location, which was partially offset by banking charges and losses on foreign currency transactions.
 
Our functional currency is the U.S. Dollar. Transactions in foreign currencies other than the functional currency are remeasured into the functional currency at the time of the transaction. Foreign currency transaction losses consist of the remeasurement gains and losses that arise from exchange rate fluctuations related to our operations in Thailand. During 2010 and 2009, we recorded foreign currency transaction losses of $6,000 and $15,000, respectively.
 
Benefit for income taxes
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
Benefit for income taxes
  $     $ (105 )     (100.0 )%
 
During 2009, we recorded an income tax benefit of $105,000, due to a benefit from refundable research and development tax credits in the United States. During 2010, we did not record any income tax benefit because the research and development tax credit was not refundable.
 
No other income tax expense (benefit) has been recorded because we have incurred operating losses that cannot be benefitted due to a full valuation allowance.
 
Discontinued Operations
 
                         
    Year Ended December 31,    
    2010   2009   % Change
    (In thousands)    
 
Income (loss) from discontinued operations, net of tax
  $     $ 17,571       (100.0 )%


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On April 30, 2009, we entered into an Asset Purchase Agreement with Microsemi pursuant to which Microsemi purchased our Defense and Security RF module business including all of the outstanding capital stock of Endwave Defense Systems Incorporated. As consideration, Microsemi assumed certain liabilities associated exclusively with the Defense and Security RF module business and paid $28.0 million in cash.
 
We classified the results of the Defense and Security RF module business as a discontinued operation in our consolidated statements of operations for all periods presented. During 2009, we recognized income from discontinued operations of $17.6 million net of tax expenses. The income was a result of the gain on sale of the discontinued operations of $19.6 million partially offset by a $2.0 million loss from the discontinued operations in 2009.
 
Year ended December 31, 2009 compared to year ended December 31, 2008
 
Total revenues
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
Total revenues
  $ 19,502     $ 38,696       (49.6 )%
Product revenues
  $ 19,502     $ 38,593       (49.5 )%
Development fees
  $     $ 103       (100.0 )%
 
Total revenues decreased by $19.2 million, or 50%, from 2008 to 2009. The demand for our products has declined relative to prior periods as the mobile communication industry has been impacted to a significant degree by the current global economic downturn and credit crisis. Additionally, during the second half of 2009 a key legacy product for a major customer’s radio platform experienced a rapid and unanticipated drop in sales while sales of our new module designs supporting next-generation radios were just beginning their production ramp. The revenues from the new module designs did not offset the decline in revenues from the legacy product.
 
Cost of product revenues
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
Cost of product revenues
  $ 14,791     $ 26,227       (43.6 )%
Percentage of revenues
    75.9 %     67.8 %        
 
During 2009, the cost of product revenues as a percentage of revenues increased compared to 2008, primarily due to the decreased absorption of our overhead costs resulting from decreased production, continued pricing pressure resulting in lower product margins, an $878,000 increase in inventory reserves due to excess material related to a rapid and unanticipated drop in sales of a legacy product for a major customer’s radio platform and an $86,000 increase in reserve for material related to a product built for a customer currently in bankruptcy liquidation. The cost of product revenues in both periods was favorably impacted by the utilization of inventory that was previously written off, amounting to approximately $100,000 during 2009 and $85,000 during 2008.
 
Research and development expenses
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
Research and development expenses
  $ 5,483     $ 6,764       (18.9 )%
Percentage of revenues
    28.1 %     17.5 %        
 
During 2009, we undertook certain restructuring activities to reduce expenses which resulted in a decrease of 21 product and process engineering employees and $808,000 in associated personnel-related expenses. In addition,


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during 2009, research and development costs decreased compared to 2008 due to a decrease of $317,000 for stock-based compensation expenses and a decrease of $209,000 for project-related expenses.
 
Sales and marketing expenses
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
Sales and marketing expenses
  $ 2,183     $ 3,446       (36.7 )%
Percentage of revenues
    11.2 %     8.9 %        
 
During 2009, sales and marketing expenses were $2.2 million compared to $3.4 million in 2008. During 2009, we undertook certain restructuring activities to reduce expenses which resulted in a decrease of three sales and marketing employees and $498,000 in associated personnel-related expenses. In addition, during 2009 sales and marketing expenses decreased compared to 2008 due to a decrease of $250,000 for stock-based compensation expenses and a decrease of $184,000 for bad debt expenses.
 
General and administrative expenses
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
General and administrative expenses
  $ 5,577     $ 7,531       (25.9 )%
Percentage of revenues
    28.6 %     19.5 %        
 
During 2009, general and administrative expenses were $5.6 million compared to $7.5 million in 2008. During 2009, we undertook certain restructuring activities to reduce expenses which resulted in a decrease of ten general and administrative employees and $798,000 in associated personnel-related expenses. In addition, during 2009, general and administrative expenses decreased compared to 2008 primarily due to a decrease of $468,000 for professional fees and a decrease of $320,000 for stock-based compensation expenses.
 
Restructuring
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
Restructuring
  $ 2,408     $       100.0 %
 
During the first quarter of 2009, we undertook certain restructuring activities to reduce expenses. These terminations affected all areas of our operations. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with employee terminations. The net charge for these restructuring activities in the first quarter of 2009 was $1.2 million and all cash payments have been made. Of this amount, approximately $182,000 has been included in income (loss) from discontinued operations.
 
During the second quarter of 2009, we undertook certain additional restructuring activities to reduce expenses. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with employee terminations. The net charge for these restructuring activities in the second quarter of 2009 was $243,000 and all cash payments have been made. Of this amount, approximately $39,000 has been included in income (loss) from discontinued operations.
 
During the fourth quarter of 2009, we undertook certain additional restructuring activities to reduce expenses. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with employee terminations. The net charge for these restructuring activities in the fourth quarter of 2009 was $1.2 million and is expected to be substantially completed by the end of the third quarter of 2012.


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At December 31, 2008, we had 228 employees. At December 31, 2009, we had 54 employees. The decrease in employees was due to the restructuring mentioned above and the sale of our Defense and Security RF module business to Microsemi.
 
Interest and other income (expense), net
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
Interest and other income (expense), net
  $ 209     $ 1,242       (83.2 )%
 
The decrease in interest and other income from 2008 to 2009 was primarily the result of decreased interest earned on our investments. Interest rates decreased significantly from the prior year, especially on the highest rated investment vehicles, leading to lower interest income.
 
During 2009, we earned $205,000 of interest income and recognized $76,000 of other income from the amortization of the deferred gain from the sale of our Diamond Springs, California location, which was partially offset by banking charges and losses on foreign currency transactions. During 2008, we earned $1.1 million of interest income and recognized $154,000 of other income from the amortization of the deferred gain from the sale of our Diamond Springs, California location, which was partially offset by banking charges and losses on foreign currency transactions.
 
During 2009 and 2008, we recorded foreign currency transaction losses of $15,000 and $59,000, respectively.
 
Benefit for income taxes
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
Benefit for income taxes
  $ (105 )   $ (66 )     59.1 %
 
During 2009 and 2008, we recorded an income tax benefit of $105,000 and $66,000, respectively, due to a benefit from refundable research and development tax credits in the United States. No other income tax expense (benefit) has been recorded because we have incurred operating losses that cannot be benefitted due to a full valuation allowance.
 
Discontinued Operations
 
                         
    Year Ended December 31,    
    2009   2008   % Change
    (In thousands)    
 
Income (loss) from discontinued operations, net of tax
  $ 17,571     $ (10,787 )     (262.9 )%
 
We classified the results of the Defense and Security RF module business as a discontinued operation in our consolidated statements of operations for all periods presented. During 2009, we recognized income from discontinued operations of $17.6 million net of tax expenses. The income was a result of the gain on sale of the discontinued operations of $19.6 million partially offset by a $2.0 million loss from the discontinued operations in 2009. During 2008, we recognized loss from discontinued operations of $10.8 million, which included $6.1 million of impairment charges for the Defense and Security RF module business’ goodwill and intangible assets.
 


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Liquidity and Capital Resources
 
At December 31, 2010, we had $7.1 million of cash and cash equivalents, $16.4 million in short-term investments, working capital of $26.6 million and no long-term or short-term debt outstanding. The following table sets forth selected consolidated statements of cash flows data for our three most recent fiscal years.
 
                         
    Year Ended December 31,
    2010   2009   2008
    (In thousands)
 
Net cash provided by (used in) operating activities
  $ (5,523 )   $ (4,098 )   $ 2,373  
Net cash provided by (used in) investing activities
    (6,538 )     27,892       (4,072 )
Net cash provided by (used in) financing activities
    (35,950 )     632       417  
Net cash used in discontinued operations
          (3,266 )     (3,724 )
Cash, cash equivalents, restricted cash, short-term and long-term investments at end of period
  $ 23,527     $ 66,465     $ 45,948  
 
During 2010, operating activities used $5.5 million of cash compared to $4.1 million of cash in 2009. Our net loss from continuing operations, adjusted for depreciation and other non-cash items, was a loss of $6.5 million in 2010 as compared to $7.5 million in 2009. The remaining provision of $1.0 million of cash in 2010 was primarily due to a $1.2 million decrease in inventory, a $409,000 decrease in accounts receivable and a $387,000 decrease in other assets which were partially offset by a $603,000 decrease in accrued compensation, restructuring and other current and long term liabilities and a $473,000 decrease in accrued warranty.
 
During 2009, operating activities used $4.1 million of cash as compared to generating $2.4 million of cash in 2008. Our net loss from continuing operations, adjusted for depreciation and other non-cash items, was a loss of $7.5 million in 2009 as compared to $375,000 in 2008. The remaining provision of $3.4 million of cash in 2009 was primarily due to a $4.7 million decrease in inventory and a $665,000 increase in accounts payable which were partially offset by a $767,000 increase in other assets, a $706,000 decrease in accrued warranty and a $462,000 increase in accounts receivable.
 
During 2010, investing activities used $6.5 million of cash compared to generating $27.9 million of cash in 2009. The use of cash by investing activities in 2010 was primarily due to a net $5.4 million purchase of investments and a purchase of $1.1 million of property and equipment.
 
During 2009, investing activities provided $27.9 million of cash compared to using $4.1 million of cash in 2008. The source of cash in 2009 was due to the $28.0 million proceeds from the sale of our Defense and Security RF module business and a $600,000 decrease in restricted cash which were partially offset by a purchase of $396,000 of property and equipment and a net $312,000 purchase of investments.
 
During 2010, financing activities used $36.0 million of cash primarily due to the $36.2 million preferred stock repurchase which was partially offset by $172,000 from the exercise of stock options and $129,000 from the proceeds of our stock issuance. In January 2010, we entered into a Stock Purchase Agreement with Oak Investment Partners XI, Limited Partnership, or Oak, pursuant to which we repurchased the 300,000 shares of Endwave Series B Preferred Stock held by Oak for $36.2 million, which included fees and expenses. Such shares had entitled Oak to a liquidation preference equal to its original investment of $45.0 million before any proceeds from a liquidation or sale of Endwave would have been paid to the holders of our common stock.
 
During 2009, financing activities provided cash of $632,000 as compared to $417,000 in 2008. During 2009, we received $331,000 from the exercise of stock options and $317,000 from the proceeds of stock issuance which was partially offset by capital lease payments.
 
At December 31, 2010, we had a net unrealized loss of $1,000 related to $16.4 million of investments in twenty-nine debt securities. The decrease in the value of these investments is primarily related to changes in interest rates. The investments all mature during 2011 and we believe that we have the ability and intent to hold these investments until the maturity date. Realized gains were $57,000 in 2008. Realized gains and losses were insignificant for the years ended December 31, 2010 and 2009.


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We believe that our existing cash and investment balances will be sufficient to meet our operating and capital requirements for at least the next 12 months. With the exception of operating leases discussed in the notes to the consolidated financial statements included in this report, we have not entered into any off-balance sheet financing arrangements and we have not established or invested in any variable interest entities. We have not guaranteed the debt or obligations of other entities or entered into options on non- financial assets. The following table summarizes our future cash obligations for operating leases, capital leases and purchase obligations, excluding interest, at December 31, 2010:
 
                                         
    Payments Due by Period
        Less than
          More than
    Total   1 Year   1-3 Years   3-5 Years   5 Years
    (In thousands)
 
Contractual Obligations:
                                       
Capital lease obligations, including interest
  $ 2     $ 2     $     $     $  
Operating lease obligations
    738       443       295              
Purchase obligations
    1,418       1,418                    
                                         
Total
  $ 2,158     $ 1,863     $ 295     $     $  
                                         
 
We have purchase obligations to certain suppliers. In some cases the products we purchase are unique and have provisions against cancellation of the order. At December 31, 2010, we had approximately $1.4 million of purchase obligations that are due within the following 12 months.
 
Other Long-Term Liabilities
 
At December 31, 2010, we had $358,000 of other long-term liabilities consisting of a $234,000 long-term liability for restructuring and $124,000 for income taxes.
 
Recent Accounting Pronouncements
 
In January 2010, the Financial Accounting Standards Board, or FASB, issued new standards for fair value measurement and disclosures. These new standards require disclosures for significant transfers in and out of Level 1 and Level 2 fair value measurements and the reasons for the transfers and activity. For Level 3 fair value measurements, purchases, sales, issuances and settlements must be reported on a gross basis. Further, additional disclosures are required by class of assets or liabilities, as well as inputs used to measure fair value and valuation techniques. These standards were required to be adopted in the first quarter of 2010. We adopted these standards which did not have a material impact on our consolidated financial statements.
 
In February 2010, the FASB issued new standards that amend the subsequent event disclosure requirements for public company filers. An entity that is an SEC filer is not required to disclose the date through which subsequent events have been evaluated. These standards were effective upon issuance and did not have a material impact on our consolidated financial statements.
 
In July 2010, the FASB issued new standards which amend the receivable disclosure requirements, including the credit quality of financing receivables and the allowance for credit losses. These standards require additional disclosures that will facilitate financial statement user’s evaluation of the nature of credit risk inherent in financing receivables, how that risk is analyzed in arriving at the allowance for credit losses, and the reason for any changes in the allowance for credit losses. These new standards are required to be adopted for interim and annual reporting periods beginning on or after December 15, 2010. We adopted these standards which did not have a material impact on our consolidated financial statements.


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Item 7A.   Quantitative and Qualitative Disclosures about Market Risk
 
Quantitative and Qualitative Disclosures about Market Risk
 
Our exposure to market risk based on changes in interest rates relates primarily to our investment portfolio. In order to reduce this interest rate risk, we invest our cash primarily in investments with short maturities. As of December 31, 2010, our investments in our portfolio were classified as cash equivalents and short-term investments. The cash equivalents and short-term investments consisted primarily of United States treasury notes, United States government agency notes, United States government money market funds, Prime money market fund, corporate notes and commercial paper. Since our investments consist of cash equivalents and short-term investments, a change in interest rates would not have a material effect on our consolidated financial condition or results of operations. Declines in interest rates over time will, however, reduce interest income.
 
Currently, all sales to international customers are denominated in United States dollars and, accordingly, we are not exposed to foreign currency rate risks in connection with these sales. However, if the dollar were to strengthen relative to other currencies that could make our products less competitive in foreign markets and thereby lead to a decrease in revenues attributable to international customers. We currently pay a number of expenses related to our Thai personnel and office in Thai Baht. During 2010, the total payments made in Thai Baht were $904,000 and we recorded a related foreign currency transaction loss of $6,000.


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Item 8.   Financial Statements and Supplementary Data
 
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
 
         
    Page
    Number
 
    46  
    47  
    48  
    49  
    50  
    51  


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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
To the Board of Directors and Stockholders of
Endwave Corporation:
 
We have audited the accompanying balance sheets of Endwave Corporation and its subsidiaries (the “Company”) as of December 31, 2010 and 2009, and the related statements of operations, stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2010. Our audits also included the financial statement schedule listed in Item 15(a)(2). These consolidated financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits.
 
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor have we been engaged to perform, an audit of the Company’s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, 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 consolidated financial statements referred to above present fairly, in all material respects, the financial position of Endwave Corporation and its subsidiaries as of December 31, 2010 and 2009, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2010 in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, the related financial statement schedule, when considered in relation to the consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
 
/s/  Burr Pilger Mayer, Inc.
 
San Jose, California
February 24, 2011


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ENDWAVE CORPORATION

CONSOLIDATED BALANCE SHEETS
 
                 
    December 31,  
    2010     2009  
    (In thousands, except share and per share data)  
 
ASSETS
Current assets:
               
Cash and cash equivalents
  $ 7,147     $ 55,158  
Short-term investments
    16,380       11,307  
Accounts receivable, net of allowance for doubtful accounts of $18 in 2010 and $19 in 2009
    2,600       3,009  
Inventories
    3,719       4,879  
Other current assets
    554       788  
                 
Total current assets
    30,400       75,141  
Property and equipment, net
    2,048       1,796  
Other assets
    26       179  
                 
Total assets
  $ 32,474     $ 77,116  
                 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
               
Accounts payable
  $ 1,837     $ 1,726  
Accrued warranty
    614       1,087  
Accrued compensation
    626       590  
Restructuring liabilities, short-term
    431       570  
Other current liabilities
    320       426  
                 
Total current liabilities
    3,828       4,399  
Restructuring liabilities, long-term
    234       638  
Other long-term liabilities
    124       127  
                 
Total liabilities
    4,186       5,164  
                 
Commitments and contingencies (Note 10)
               
Stockholders’ equity:
               
Convertible preferred stock, $0.001 par value; 5,000,000 shares authorized; zero and 300,000 shares issued and outstanding in 2010 and 2009, respectively
          43,092  
Common stock, $0.001 par value; 50,000,000 shares authorized; 9,832,684 and 9,684,756 shares issued and outstanding in 2010 and 2009, respectively
    10       10  
Additional paid-in capital, common stock
    317,291       309,755  
Accumulated other comprehensive income (loss)
    (1 )     15  
Accumulated deficit
    (289,012 )     (280,920 )
                 
Total stockholders’ equity
    28,288       71,952  
                 
Total liabilities and stockholders’ equity
  $ 32,474     $ 77,116  
                 
 
The accompanying notes are an integral part of these consolidated financial statements.


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ENDWAVE CORPORATION
 
 
                         
    Year Ended December 31,  
    2010     2009     2008  
    (In thousands, except share and per share data)  
 
Revenues:
                       
Product revenues
  $ 16,716     $ 19,502     $ 38,593  
Development fees
                103  
                         
Total revenues
    16,716       19,502       38,696  
                         
Costs and expenses:
                       
Cost of product revenues*
    14,002       14,791       26,227  
Research and development*
    4,607       5,483       6,764  
Sales and marketing*
    2,154       2,183       3,446  
General and administrative*
    3,951       5,577       7,531  
Restructuring
    49       2,408        
                         
Total costs and expenses
    24,763       30,442       43,968  
                         
Loss from operations
    (8,047 )     (10,940 )     (5,272 )
Interest and other income (expense), net
    (45 )     209       1,242  
                         
Loss from continuing operations before benefit for income taxes
    (8,092 )     (10,731 )     (4,030 )
Benefit for income taxes
          (105 )     (66 )
                         
Loss from continuing operations
    (8,092 )     (10,626 )     (3,964 )
Income (loss) from discontinued operations, net of tax* (Note 11)
          17,571       (10,787 )
                         
Net income (loss)
  $ (8,092 )   $ 6,945     $ (14,751 )
                         
Basic net loss per share from continuing operations
  $ (0.83 )   $ (1.12 )   $ (0.43 )
Basic net income (loss) per share from discontinued operations
  $     $ 1.85     $ (1.17 )
Basic net income (loss) per share
  $ (0.83 )   $ 0.73     $ (1.60 )
Diluted net loss per share from continuing operations
  $ (0.83 )   $ (1.12 )   $ (0.43 )
Diluted net income (loss) per share from discontinued operations
  $     $ 1.85     $ (1.17 )
Diluted net income (loss) per share
  $ (0.83 )   $ 0.73     $ (1.60 )
Shares used in computing basic net income (loss) per share
    9,774,161       9,526,358       9,211,110  
Shares used in computing diluted net income (loss) per share
    9,774,161       9,526,358       9,211,110  
                         
                       
* Includes the following amounts related to stock-based compensation:
Cost of product revenues
  $ (24 )   $ 150     $ 385  
Research and development
    36       326       643  
Sales and marketing
    54       374       626  
General and administrative
    320       1,135       1,453  
Income (loss) from discontinued operations, net of tax
          355       988  
 
The accompanying notes are an integral part of these consolidated financial statements.


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ENDWAVE CORPORATION
 
 
                                                                         
    Shares of
                                  Accumulated
             
    Convertible
    Convertible
    Shares of
          Additional
          Other
             
    Preferred
    Preferred
    Common
    Common
    Paid-In
    Treasury
    Comprehensive
    Accumulated
       
    Stock     Stock     Stock     Stock     Capital     Stock     Income (Loss)     Deficit     Total  
    (In thousands, except for share data)  
 
Balance as of December 31, 2007
    300,000     $ 43,092       9,174,622     $ 9     $ 301,946     $ (79 )   $ (6 )   $ (273,114 )   $ 71,848  
Change in unrealized gain on short-term investments
                                        36             36  
Foreign currency translation adjustment
                                        12             12  
Net loss
                                              (14,751 )     (14,751 )
                                                                         
Comprehensive loss
                                                                    (14,703 )
Exercise of stock options
                2,748             5                         5  
Retirement of common stock
                (39,150 )           (79 )     79                    
Issuance of common stock under employee stock purchase plan
                207,222             791                         791  
Stock-based compensation
                            4,100                         4,100  
                                                                         
Balance as of December 31, 2008
    300,000       43,092       9,345,442       9       306,763             42       (287,865 )     62,041  
Change in unrealized gain on short-term investments
                                        (27 )           (27 )
Net income
                                              6,945       6,945  
                                                                         
Comprehensive loss
                                                                    6,918  
Exercise of stock options
                198,079       1       330                         331  
Issuance of common stock under employee stock purchase plan
                141,235             317                         317  
Stock-based compensation
                            2,345                         2,345  
                                                                         
Balance as of December 31, 2009
    300,000       43,092       9,684,756       10       309,755             15       (280,920 )     71,952  
Change in unrealized gain (loss) on short-term investments
                                        (16 )           (16 )
Net loss
                                              (8,092 )     (8,092 )
                                                                         
Comprehensive loss
                                                                    (8,108 )
Exercise of stock options
                83,538             172                         172  
Issuance of common stock under employee stock purchase plan
                64,390             129                         129  
Repurchase of preferred stock
    (300,000 )     (43,092 )                 6,854                         (36,238 )
Stock-based compensation
                            381                         381  
                                                                         
Balance as of December 31, 2010
        $       9,832,684     $ 10     $ 317,291     $     $ (1 )   $ (289,012 )   $ 28,288  
                                                                         
 
The accompanying notes are an integral part of these consolidated financial statements.


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ENDWAVE CORPORATION
 
 
 
                         
    Year Ended December 31,  
    2010     2009     2008  
    (In thousands)  
 
Operating activities:
                       
Net income (loss)
  $ (8,092 )   $ 6,945     $ (14,751 )
Income (loss) from discontinued operations
          17,571       (10,787 )
                         
Loss from continuing operations, net of tax
    (8,092 )     (10,626 )     (3,964 )
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
                       
Depreciation
    890       779       595  
Stock compensation expense
    386       1,985       3,107  
Amortization of investments, net
    307       328       (43 )
Gain on the sale of land and equipment
                (13 )
Gain on sale of investments
                (57 )
Changes in operating assets and liabilities:
                       
Accounts receivable
    409       (462 )     4,963  
Inventories
    1,155       4,724       (308 )
Other assets
    387       (767 )     251  
Accounts payable
    111       665       (1,675 )
Accrued warranty
    (473 )     (706 )     (600 )
Accrued compensation, restructuring and other current and long term liabilities
    (603 )     (18 )     117  
                         
Net cash provided by (used in) operating activities
    (5,523 )     (4,098 )     2,373  
                         
Investing activities:
                       
Proceeds from sale of discontinued operations
          28,000        
Purchase of ALC Microwave, Inc., net of cash acquired
                (1,027 )
Change in restricted cash
          600       (575 )
Purchases of property and equipment
    (1,142 )     (396 )     (1,295 )
Proceeds from sale of property and equipment
                74  
Purchases of investments
    (28,776 )     (31,827 )     (19,731 )
Proceeds on sales and maturities of investments
    23,380       31,515       18,482  
                         
Net cash provided by (used in) investing activities
    (6,538 )     27,892       (4,072 )
                         
Financing activities:
                       
Preferred stock repurchased
    (36,238 )            
Common stock repurchased
                (356 )
Payments on capital leases
    (13 )     (16 )     (23 )
Proceeds from exercises of stock options
    172       331       5  
Proceeds from issuance of common stock
    129       317       791  
                         
Net cash provided by (used in) financing activities
    (35,950 )     632       417  
                         
Effect of foreign exchange rate changes on cash and cash equivalents
                12  
                         
Cash flows from discontinued operations:
                       
Operating activities
          (2,472 )     (2,526 )
Investing activities
          (794 )     (1,198 )
Financing activities
                 
                         
Net cash used in discontinued operations
          (3,266 )     (3,724 )
                         
Net change in cash and cash equivalents
    (48,011 )     21,160       (4,994 )
Cash and cash equivalents at beginning of year
    55,158       33,998       38,992  
                         
Cash and cash equivalents at end of year
  $ 7,147     $ 55,158     $ 33,998  
                         
Supplemental disclosure of cash flow information:
                       
Non-cash transactions:
                       
Change in unrealized gain (loss) on investments
  $ (16 )   $ (27 )   $ 36  
                         
Capitalized stock-based compensation
  $ (5 )   $ 5     $ 5  
                         
 
The accompanying notes are an integral part of these consolidated financial statements.


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ENDWAVE CORPORATION
 
 
1.   The Company
 
Endwave Corporation (“Endwave” or the “Company”) designs, manufactures and markets radio frequency (“RF”), products that enable the transmission, reception and processing of high frequency RF signals. The Company’s products consist of two key product lines, semiconductor devices and integrated transceiver modules:
 
  •  The Company’s semiconductor product line consists of a wide variety of monolithic microwave integrated circuits (“MMICs”), including amplifiers, voltage controlled oscillators, up and down converters, variable gain amplifiers, voltage variable attenuators, fixed attenuators and filters. These types of devices are widely used in telecommunications, satellite, defense, security, instrumentation, scientific and consumer systems. While the Company has developed, produced and sold such devices for several years as components of the Company’s module products. They were first offered for sale as stand-alone products in the latter part of 2009 and they have not yet become a significant source of revenue for the Company.
 
  •  The Company’s integrated transceiver modules combine several electronic functions into a single RF sub-system. Historically, the Company’s main customers for these products have been telecommunication network original equipment manufacturers and system integrators that utilize them in digital microwave radios. More recently the Company has identified and pursued uses for these products in additional product areas; however these alternate applications have not yet become a significant source of revenue for the Company.
 
On February 4, 2011, Endwave entered into an Agreement and Plan of Merger with GigOptix, Inc. (“GigOptix”), and Aerie Acquisition Corporation, a wholly-owned subsidiary of GigOptix (“Merger Subsidiary”), pursuant to which Merger Subsidiary will, subject to the satisfaction or waiver of the conditions therein, merge with and into Endwave, the separate corporate existence of Merger Subsidiary shall cease and Endwave will be the surviving corporation of the merger and a wholly-owned subsidiary of GigOptix. See additional discussion at Note 15, Subsequent Events.
 
2.   Summary of Significant Accounting Policies
 
Basis of Consolidation
 
On April 30, 2009, the Company sold its Defense and Security RF module business to Microsemi Corporation (“Microsemi”). The Company’s financial statements have been presented to reflect the Defense and Security RF module business as a discontinued operation for all periods presented. See additional discussion at Note 11, Discontinued Operations.
 
The accompanying consolidated financial statements of Endwave include the financial results of its Defense and Security RF module business as a discontinued operation for all periods presented and have been prepared in conformity with accounting principles generally accepted in the United States of America. All significant intercompany accounts and transactions have been eliminated.
 
Certain prior year financial statement amounts have been reclassified to conform to the current year’s presentation. These reclassifications had no impact on previously reported total assets, stockholders’ equity or total net income (loss).
 
Use of Estimates
 
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
Revenue Recognition
 
The Company’s primary customers are telecom original equipment manufacturers (“OEM”) and other systems integrators that integrate the Company’s products into their systems. The Company recognizes product revenues at the time title passes, which is generally upon product shipment and when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the Company’s price to the buyer is fixed or determinable, and collectibility is reasonably assured. After title passes, there are no customer acceptance requirements or other remaining obligations and customers do not have a right of return. Revenues under development contracts are generally recorded on a percentage of completion basis, using project hours as the basis to measure progress toward completing the contract and recognizing revenues. The costs incurred under these development agreements are expensed as incurred and included in research and development expenses.
 
Warranty
 
The warranty periods for the Company’s products are between 12 and 30 months from date of shipment. The Company provides for estimated warranty expense at the time of shipment. While the Company engages in extensive product quality programs and processes, including actively monitoring and evaluating the quality of component suppliers, its warranty obligation is affected by product failure rates, material usage, and service delivery costs incurred in correcting a product failure. Should actual product failure rates, material usage, or service delivery costs differ from the estimates, revisions to the estimated warranty accrual and related costs may be required.
 
Changes in the Company’s accrued warranty during the years ended December 31, 2010 and 2009 are as follows:
 
                 
    2010     2009  
    (In thousands)  
 
Balance at January 1
  $ 1,087     $ 2,439  
Warranties accrued
    403       690  
Warranties settled or reversed
    (876 )     (1,314 )
Warranties transferred due to sale of the Defense and Security RF module business
          (728 )
                 
Balance at December 31
  $ 614     $ 1,087  
                 
 
Allowance for Doubtful Accounts
 
The Company maintains an allowance for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments. The Company provides an allowance for specific customer accounts where collection is doubtful and also provides an allowance for other accounts based on historical collection and write-off experience. If the financial condition of customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.
 
Cash Equivalents and Short-Term Investments
 
The Company invests its excess cash primarily in highly liquid investment grade investments including: United States treasury notes, United States government agency notes, corporate notes, commercial paper and money market funds. The Company’s cash, cash equivalents and short-term investments are primarily held at three United States banks. The Company’s deposits are generally in excess of federally insured amounts.
 
The Company considers all highly liquid investments with maturities of 90 days or less from the date of purchase to be cash equivalents. Management has classified the Company’s short-term investments as available-for-sale securities in the accompanying consolidated financial statements. Available-for-sale securities are


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
carried at fair value based on quoted market prices, with unrealized gains and losses, net of tax, included in accumulated other comprehensive income (loss) in stockholders’ equity. Interest income is recorded using an effective interest rate, with the associated premium or discount amortized to interest income. Realized gains and losses and declines in the value of securities determined to be other-than-temporary are included in interest and other income. The cost of securities sold is based on the specific identification method.
 
Inventory Valuation
 
Inventories are stated at the lower of standard cost (determined on a first-in, first-out basis) or market (net realizable value). Standard costs approximate average actual costs. The Company makes inventory provisions for estimated excess and obsolete inventory based on management’s assessment of future demand and market conditions. If actual future demand or market conditions are less favorable than those projected by management, additional inventory write-downs may be required. During 2010 and 2009, the Company recorded $1.8 million and $878,000, respectively, of inventory write-offs associated with excess and obsolete material related to a rapid drop in sales of a legacy product for a major customer’s radio platform.
 
Property and Equipment
 
Property and equipment are stated at cost. Depreciation is computed on a straight-line basis over the estimated useful lives of the assets, ranging from three to seven years. Leasehold improvements and assets acquired under capital lease are amortized using the straight-line method based upon the shorter of the estimated useful lives or the lease term of the respective assets. Repairs and maintenance costs are charged to expense as incurred.
 
         
    Depreciable
 
    Life  
 
Software
    3 years  
Leasehold improvements
    2 to 5 years  
Machinery and equipment
    5 to 7 years  
 
Goodwill, Intangible and Long-Lived Assets
 
Goodwill represents the excess of the purchase price over the fair value of the net tangible and identifiable intangible assets acquired in a business combination. Intangible assets resulting from the acquisitions of entities accounted for using the purchase method of accounting are estimated by management based on the fair value of assets received.
 
During the fourth quarter of 2008, the Company determined that indicators of potential impairment were present based on the fair value of the Company’s common stock relative to its book value, revised estimates for future revenues and the continued worsening of the global economy. As a result, the Company assessed the carrying value of acquired goodwill and intangible assets with an indefinite life for impairment. Based on the fair market value of the business and the Company’s discounted future cash flow and revenue projections, the Company recorded non-cash impairment charges of $3.0 million for goodwill and $1.1 million for intangible assets with an indefinite life. These impairment charges are included in discontinued operations.
 
The Company reviews long-lived assets for impairment, whenever certain events or changes in circumstances indicate that the carrying amount of these assets may not be recoverable. Such events or circumstances include, but are not limited to, a prolonged industry downturn, or a significant reduction in projected future cash flows.
 
For long-lived assets used in operations, the Company records impairment losses when events and circumstances indicate that these assets might be impaired and the undiscounted cash flows estimated to be generated by those assets are less than the carrying amounts of those assets. If less, the impairment losses are based on the excess of the carrying amounts over their respective fair values. Their fair values would then become the new cost basis. Fair value is determined by discounted future cash flows, appraisals, or other methods. For assets to be disposed of


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
other than by sale, impairment losses are measured as the excess of their carrying amount over the salvage value, if any, at the time the assets cease to be used.
 
During the fourth quarter of 2008, the Company reviewed its long-lived assets for indicators of impairment. Based on reduced estimates of future revenues and future negative cash flow, the Company identified potential indicators of impairment. As a result, the Company compared the fair value of its long-lived assets to their carrying value. Based on the Company’s discounted future cash flow and revenue projections, the Company recorded non-cash impairment charges of $2.1 million for intangible assets with a defined useful life. The impairment charges are included in discontinued operations and represent the excess of the carrying value of these assets over their fair value.
 
These impairment charges are not expected to result in any future cash expenditures.
 
Income Taxes
 
Income taxes have been provided using the asset and liability method. Deferred tax assets and liabilities are determined based on the differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse.
 
The Company has adopted the accounting standard which provides guidance on the provisions of accounting for uncertainty in income taxes. It provides guidance on accounting for uncertainty in income taxes recognized in the consolidated financial statements and prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of tax positions taken or expected to be taken in a tax return. It also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. In accordance with the Company’s accounting policy, the Company recognizes accrued interest and penalties related to unrecognized tax benefits as a component of income tax expense.
 
Stock-Based Compensation
 
The Company recognizes stock-based compensation for stock-based awards exchanged for employee services. Stock-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as expense over the requisite service period. All of the Company’s stock compensation is accounted for as an equity instrument.
 
The Company has elected the alternative transition method for calculating the tax effects of stock-based compensation. The alternative transition method provides a simplified method to establish the beginning balance of the additional paid-in capital pool, or APIC Pool, related to the tax effects of employee stock-based compensation, and to determine the subsequent impact on the APIC Pool and consolidated statements of cash flows of the tax effects of employee stock-based compensation awards that are outstanding.
 
The Company uses the “with and without” approach to determine the order in which its tax attributes are utilized. The “with and without” approach results in the recognition of the windfall stock option tax benefits after all other tax attributes have been considered in the annual tax accrual computation. The Company will only recognize a benefit from stock-based compensation in paid-in capital if an incremental tax benefit is realized after all other tax attributes currently available to it have been utilized. In addition, the Company has elected to account for the indirect benefits of stock-based compensation on items such as the alternative minimum tax, the research tax credit or the domestic manufacturing deduction through the consolidated statements of operations rather than through paid-in capital.
 
The Company accounts for stock options issued to nonemployees based on the fair value of the awards also determined using the Black-Scholes option-pricing model. The fair value of stock options granted to nonemployees is remeasured as the stock options vest, and the resulting change in value, if any, is recognized in the Company’s consolidated statement of operations during the period the related services are rendered.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
Research and Development Expenses
 
Research and development expenses are charged to operating expenses as incurred and consist primarily of salaries and related expenses for research and development personnel, outside professional services, prototype materials, supplies and labor, depreciation for related equipment, allocated facilities costs and expenses related to stock-based compensation.
 
Concentration of Risk
 
The Company is potentially subject to significant concentrations of credit risk including cash equivalents, short-term investment, trade receivables and inventories.
 
The Company sells its products primarily to telecom OEMs and other systems integrators. The Company performs ongoing credit evaluations of its customers and generally does not require collateral. The Company maintains reserves for potential credit losses and excess and obsolete inventory. Concentrations of credit risk with respect to trade accounts receivable and inventories are due to the low number of entities comprising the Company’s customer base.
 
For the year ended December 31, 2010, revenues from three customers each accounted for greater than 10% of total revenues and combined they accounted for 93% of the Company’s total revenues, the largest of which was Nokia Siemens Networks which accounted for 52% of the Company’s total revenues. For the year ended December 31, 2009, revenues from two customers each accounted for greater than 10% of total revenues and combined they accounted for 88% of the Company’s total revenues, the largest of which was Nokia Siemens Networks which accounted for 70% of the Company’s total revenues. For the year ended December 31, 2008, revenues from Nokia Siemens Networks accounted for 83% of total revenues and no other customer accounted for more than 10% of our total revenues. In addition, the Company has purchased significant inventory balances to support these customers.
 
In 2010, 2009, and 2008, 76%, 97% and 97%, respectively, of the Company’s total revenues were derived from sales invoiced and shipped to customers outside the United States.
 
As of December 31, 2010, two customers accounted for 58% and 28%, respectively, of the Company’s accounts receivable. As of December 31, 2009, two customers accounted for 47% and 39%, respectively, of the Company’s accounts receivable.
 
The Company designs custom semiconductor devices. However, the Company does not own or operate a semiconductor fabrication facility (a “foundry”) and depends upon a limited number of third parties to produce these components. The Company’s use of various third-party foundries gives it the flexibility to use the process technology that is best suited for each application and eliminates the need for the Company to invest in and maintain its own foundry. The loss of the Company’s relationship with or access to the foundries it currently uses, and any resulting delay or reduction in the supply of semiconductors to the Company, would severely impact the Company’s ability to fulfill customer orders and could damage its relationships with its customers.
 
The Company also may not be successful in forming alternative supply arrangements that provide a sufficient supply of gallium arsenide devices. Because there are limited numbers of third-party foundries that use the particular process technologies the Company selects for its products and have sufficient capacity to meet its needs, using alternative or additional third-party foundries would require an extensive qualification process that could prevent or delay product shipments and their associated revenues.
 
Because the Company does not own or control any of these third-party semiconductor suppliers, any change in the corporate structure or ownership of the corporations that own these foundries could have a negative effect on future relationships and the ability to negotiate favorable supply agreements.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The Company outsources the assembly and testing of most of its products to a Thailand facility of HANA Microelectronics Co., Ltd., (“HANA”) a contract manufacturer. The Company plans to continue this arrangement as a key element of its operating strategy. If HANA does not provide the Company with high quality products and services in a timely manner, or terminates its relationship with the Company, the Company may be unable to obtain a satisfactory replacement to fulfill customer orders on a timely basis. In the event of an interruption of supply from HANA, sales of the Company’s products could be delayed or lost and the Company’s reputation could be harmed. The Company’s manufacturing agreement with HANA currently expires in October 2011 but will renew automatically for successive one-year periods unless either party notifies the other of its desire to terminate the agreement at least one year prior to the expiration of the term. In addition, either party may terminate the agreement without cause upon 365 days prior written notice to the other party, and either party may terminate the agreement if the non-terminating party is in material breach and does not cure the breach within 30 days after notice of the breach is given by the terminating party. There can be no guarantee that HANA will not seek to terminate its agreement with the Company.
 
The Company utilizes a number of customized components that need to be qualified by our customers. This means that components in our products cannot be easily changed without the risks and delays associated with requalification. Accordingly, while a number of the components used in the Company’s products are made by multiple suppliers, the Company may effectively have single source suppliers for some of these components. In addition, the Company currently purchases a number of components from single source suppliers. Any delay or interruption in the supply of these or other components could impair the Company’s ability to manufacture and deliver products, harm the Company’s reputation and cause a reduction in revenues.
 
Fair Value of Financial Instruments
 
The amounts reported as cash and cash equivalents, accounts receivable, accounts payable and accrued warranty, compensation and other liabilities approximate fair value due to their short-term maturities. The fair value for the Company’s investments in marketable debt securities is estimated based on quoted market prices. Based upon borrowing rates currently available to the Company for capital leases with similar terms, the carrying value of its capital lease obligations approximates fair value.
 
The following estimated fair value amounts have been determined using available market information. However, considerable judgment is required in interpreting market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that the Company could realize in a current market exchange.
 
                                 
    December 31, 2010  
          Gross
    Gross
       
    Amortized
    Unrealized
    Unrealized
    Estimated
 
    Cost     Gains     Losses     Fair Value  
    (In thousands)  
 
Investments:
                               
Commercial paper
  $ 4,248     $     $     $ 4,248  
United States government agencies
    11,822       2       (3 )     11,821  
Corporate securities
    311                   311  
                                 
Total
  $ 16,381     $ 2     $ (3 )   $ 16,380  
                                 
 


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
                                 
    December 31, 2009  
          Gross
    Gross
       
    Amortized
    Unrealized
    Unrealized
    Estimated
 
    Cost     Gains     Losses     Fair Value  
    (In thousands)  
 
Investments:
                               
Commercial paper
  $ 799     $     $     $ 799  
United States government agencies
    8,759       5       (2 )     8,762  
Corporate securities
    1,734       12             1,746  
                                 
Total
  $ 11,292     $ 17     $ (2 )   $ 11,307  
                                 
 
At December 31, 2010, the Company had $16.4 million of short-term investments with maturities of less than one year and no long-term investments.
 
At December 31, 2010, the Company had unrealized losses of $3,000 related to $8.3 million of investments in United States government agencies securities. These securities were in an unrealized loss position for a period of less than one year.
 
The investments mature through 2011 and the Company believes that it has the ability and intent to hold these investments until the maturity date. Realized gains were $57,000 for the year ended December 31, 2008. Realized gains and losses were insignificant for the years ended December 31, 2010 and 2009.
 
The Company reviews its investment portfolio to identify and evaluate investments that have indications of possible impairment. Factors considered in determining whether a loss is temporary include the length of time and extent to which fair value has been less than the cost basis, credit quality and the Company’s intent and ability not to sell the investment for a period of time sufficient to allow for any anticipated recovery in market value. If the Company believes the carrying value of an investment is in excess of its fair value, and this difference is other-than-temporary, it is the Company’s policy to write down the investment to reduce its carrying value to fair value.
 
Fair Value Measurements
 
The following table summarizes the Company’s financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2010 (in thousands):
 
                         
          Quoted Prices in
       
    Balance as of
    Active Markets of
    Significant Other
 
    December 31,
    Identical Assets
    Observable Inputs
 
    2010     (Level 1)     (Level 2)  
 
Assets:
                       
Cash equivalents:
                       
Money market funds
  $ 2,911     $ 2,911     $  
Commercial paper
    2,454             2,454  
Corporate bond
    250             250  
Short-term investments:
                       
Commercial paper
    4,248             4,248  
United States government agencies
    11,821             11,821  
Corporate securities
    311             311  
                         
Total
  $ 21,995     $ 2,911     $ 19,084  
                         
Liabilities:
  $     $     $  

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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The following table summarizes the Company’s financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2009 (in thousands):
 
                         
          Quoted Prices in
       
    Balance as of
    Active Markets of
    Significant Other
 
    December 31,
    Identical Assets
    Observable Inputs
 
    2009     (Level 1)     (Level 2)  
 
Assets:
                       
Cash equivalents:
                       
Money market funds
  $ 54,097     $ 54,097     $  
Short-term investments:
                       
Commercial paper
    799             799  
United States government agency
    8,762             8,762  
Corporate securities
    1,746             1,746  
                         
Total
  $ 65,404     $ 54,097     $ 11,307  
                         
Liabilities:
  $     $     $  
 
The Company’s financial assets and liabilities are valued using market prices on both active markets (Level 1) and less active markets (Level 2). Level 1 instrument valuations are obtained from real-time quotes for transactions in active exchange markets involving identical assets. Level 2 instrument valuations are obtained from readily-available pricing sources for comparable instruments. As of December 31, 2010, the Company did not have any assets or liabilities without observable market values that would require a high level of judgment to determine fair value (Level 3).
 
For the years ended December 31, 2010 and 2009, the Company did not have any significant transfers of investments between Level 1 and Level 2.
 
Foreign Currency Transactions
 
The U.S. dollar is the functional currency for the Company’s foreign operations. In consolidation, monetary assets and liabilities denominated in non-U.S. currencies, such as cash and payables, have been remeasured to the U.S. dollar using the current exchange rate. Non-monetary assets and liabilities and capital accounts denominated in non-U.S. currencies have been remeasured to the U.S. dollar using the historical exchange rate. Expense items relating to monetary assets denominated in non-U.S. currencies have been remeasured to the U.S. dollar using the average exchange rate for the period. Gains and losses from intercompany transactions and balances for which settlement is not planned or anticipated in the foreseeable future are accumulated as a separate component of stockholders’ equity. All other gains and losses resulting from foreign currency translation and transactions denominated in currencies other than the U.S. dollar are included in operations and have been immaterial for all periods presented.
 
Comprehensive Income (Loss)
 
Comprehensive income (loss) generally represents all changes in stockholders’ equity except those resulting from investments or contributions by stockholders. The Company’s unrealized gains and losses on its available-for-sale securities and gains and losses resulting from foreign exchange translations represent the only components of comprehensive income (loss) excluded from the reported net income (loss) and are displayed in the statements of stockholders’ equity.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The components of accumulated other comprehensive income (loss) were as follows (in thousands):
 
                 
    December 31,  
    2010     2009  
 
Accumulated other comprehensive income (loss):
               
Foreign currency translation adjustments
  $      —     $      —  
Unrealized gain (loss) on investments
    (1 )     15  
                 
Total
  $ (1 )   $ 15  
                 
 
Net Income (Loss) Per Share
 
Basic net income (loss) per share is computed by dividing net income (loss) by the weighted average number of common shares outstanding for the period. Diluted net income (loss) per share is computed by dividing the net income (loss) for the period by the weighted average number of shares of common stock and potential common stock equivalents outstanding during the period, if dilutive. Potential common stock equivalents include convertible preferred stock, warrants to purchase convertible preferred stock, stock options to purchase common stock, unvested restricted stock units and shares to be purchased in connection with the Company’s employee stock purchase plan.
 
The following outstanding shares of common stock equivalents were excluded from the computation of diluted net income (loss) per share for the periods presented because including them would have been anitdilutive:
 
                         
    Year Ended December 31,
    2010   2009   2008
 
Convertible preferred stock
          3,000,000       3,000,000  
Stock options to purchase common stock
    1,228,187       1,010,561       3,008,917  
Unvested restricted stock units
    204,800              
Warrant to purchase convertible preferred stock
                900,000  
Shares issuable under the employee stock purchase plan
    30,012       46,113       128,589  
 
In 2010, 2009 and 2008, basic and diluted net loss per share is the same due to the Company’s loss from continuing operations.
 
Advertising Costs
 
The Company expenses all advertising costs as incurred and the amounts were not material for any of the periods presented.
 
Recent Accounting Pronouncements
 
In January 2010, the Financial Accounting Standards Board (“FASB”) issued new standards for fair value measurement and disclosures. These new standards require disclosures for significant transfers in and out of Level 1 and Level 2 fair value measurements and the reasons for the transfers and activity. For Level 3 fair value measurements, purchases, sales, issuances and settlements must be reported on a gross basis. Further, additional disclosures are required by class of assets or liabilities, as well as inputs used to measure fair value and valuation techniques. These standards were required to be adopted in the first quarter of 2010. The Company adopted these standards which did not have a material impact on the Company’s consolidated financial statements.
 
In February 2010, the FASB issued new standards which amend the subsequent event disclosure requirements for public company filers. An entity that is an SEC filer is not required to disclose the date through which subsequent events have been evaluated. These standards were effective upon issuance and did not have a material impact on the Company’s consolidated financial statements.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
In July 2010, the FASB issued new standards which amend the receivable disclosure requirements, including the credit quality of financing receivables and the allowance for credit losses. These standards require additional disclosures that will facilitate financial statement user’s evaluation of the nature of credit risk inherent in financing receivables, how that risk is analyzed in arriving at the allowance for credit losses, and the reason for any changes in the allowance for credit losses. These new standards are required to be adopted for interim and annual reporting periods beginning on or after December 15, 2010. The Company adopted these standards which did not have a material impact on the Company’s consolidated financial statements.
 
3.   Inventories
 
Inventories comprised the following at December 31 (in thousands):
 
                 
    2010     2009  
 
Raw materials
  $ 3,221     $ 4,046  
Work in process
    149       292  
Finished goods
    349       541  
                 
Total
  $ 3,719     $ 4,879  
                 
 
During 2010 and 2009, the Company recorded $1.8 million and $878,000, respectively, of inventory write-offs associated with excess and obsolete material related to a rapid drop in sales of a legacy product for a major customer’s radio platform.
 
4.   Note Receivable
 
During the third quarter of 2008, the Company was issued a note receivable by one of its customers, Allgon Microwave Corporation AB (“Allgon”), which previously failed to meet the terms of its account payable to the Company. The note was in the principal amount of $545,000, with payments of $25,000 due on a weekly basis. The note was to be paid in full by the end of the first quarter of 2009.
 
During the third and fourth quarters of 2008, Allgon made the first five payments under the note. However, during the fourth quarter of 2008, Allgon went in default on the note and filed for bankruptcy protection. At the time of default, the note receivable balance was $420,000. Based on Allgon’s bankruptcy liquidation and the related estimates of payments to Allgon’s creditors, the Company reserved 100% or $420,000 of the remaining balance of the note receivable.
 
Subsequent to Allgon’s default on the note receivable, the Company filed a complaint alleging that Allgon’s parent company, Advantech Advanced Microwave Technologies Inc. of Montreal, Canada (“Advantech”), had breached its contractual obligations with the Company and owes the Company $994,500, including the note receivable, purchased inventory and authorized and accepted purchase orders resulting in shippable finished goods. See additional discussion at Note 10, Commitments and Contingencies.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
5.   Property and Equipment
 
Property and equipment consist of the following at December 31 (in thousands):
 
                 
    2010     2009  
 
Machinery and equipment
  $ 9,276     $ 8,135  
Software
    1,065       1,064  
Leasehold improvements
    605       605  
                 
      10,946       9,804  
Less accumulated depreciation
    (8,898 )     (8,008 )
                 
Property and equipment, net
  $ 2,048     $ 1,796  
                 
 
During the first quarter of 2009, the Company occupied a lease in Salem, New Hampshire. For this property, the Company capitalized $99,000 of leasehold improvements that will be depreciated over the remaining life of the lease ending in 2013.
 
During the third quarter of 2006, the Company moved its corporate headquarters to San Jose, California. For this property, the Company capitalized $496,000 of leasehold improvements that will be depreciated over the remaining life of the lease ending in 2011.
 
During the second quarter of 2004, the Company finalized the sale of its land and buildings located in Diamond Springs, California. The Company received $4.3 million for the land and buildings, net of related closing costs and legal fees. The net book value of the property on the date of sale was $3.5 million. At the time of the closing, the Company entered into a five-year operating lease with the new owner for one of the buildings. As a result of the sale-leaseback transaction, the Company recognized a gain of $770,000 on a straight-line basis over the term of the lease, which expired in June 2009. Deferred gain recognized on the sale-leaseback was approximately $76,000 and $154,000 for the years ended December 31, 2009 and 2008, respectively, and is included in interest and other income, net in the consolidated statements of operations. There was no such deferred gain in 2010.
 
At December 31, 2010, the Company had $36,000 of capital leased equipment with an accumulated depreciation of $34,000, which is included in machinery and equipment. At December 31, 2009, the Company had $36,000 of capital leased equipment with an accumulated depreciation of $25,000, which is included in machinery and equipment.
 
6.   Segment Disclosures
 
The Company operates in a single business segment. Although the Company sells to customers in various geographic regions throughout the world, the end users may be located elsewhere. The Company’s total revenues by billing location for the years ended December 31 were as follows (in thousands):
 
                                                 
    2010     2009     2008  
 
United States
  $ 4,015       24.0 %   $ 605       3.1 %   $ 1,064       2.7 %
Finland
    10       0.1 %     9,997       51.3 %     31,266       80.8 %
Germany
    8,451       50.6 %     3,567       18.3 %           0.0 %
Hungary
    855       5.1 %     1,595       8.2 %     1,223       3.2 %
Slovakia
    2,908       17.4 %     3,478       17.8 %     3,288       8.5 %
Rest of the world
    477       2.8 %     260       1.3 %     1,845       4.8 %
                                                 
Total
  $ 16,716       100.0 %   $ 19,502       100.0 %   $ 38,686       100.0 %
                                                 


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
For the year ended December 31, 2010, revenues from three customers each accounted for greater than 10% of total revenues and combined they accounted for 93% of the Company’s total revenues, the largest of which was Nokia Siemens Networks which accounted for 52% of the Company’s total revenues. For the year ended December 31, 2009, revenues from two customers each accounted for greater than 10% of total revenues and combined they accounted for 88% of the Company’s total revenues, the largest of which was Nokia Siemens Networks which accounted for 70% of the Company’s total revenues. For the year ended December 31, 2008, revenues from Nokia Siemens Networks accounted for 83% of total revenues and no other customer accounted for more than 10% of our total revenues. In addition, the Company has purchased significant inventory balances to support these customers.
 
At December 31, 2010, 45% and 55% of the Company’s net book value of its long-lived assets were located in the United States of America and Thailand, respectively. At December 31, 2009, 70% and 30% of the Company’s net book value of its long-lived assets were located in the United States of America and Thailand, respectively
 
7.   Stock-Based Compensation
 
Stock Option Exchange
 
2009 Exchange Offer
 
On August 11, 2009, the Company filed a Tender Offer Statement on Schedule TO with the Securities and Exchange Commission. The tender offer related to an offer by the Company to certain optionholders to exchange some or all of their outstanding stock option grants to purchase shares of the Company’s common stock granted under the Company’s 2007 Equity Incentive Plan with an exercise price per share greater than $5.00 for new option grants at an exchange ratio of three old options for one new option. The exchange offer was made to employees and directors of the Company who, as of the date the exchange offer commenced, were actively employed and held 1,570,938 eligible options. The exchange offer expired on September 9, 2009. 1,559,113 options participated in the exchange offer and were exchanged for 519,624 new options. The new options primarily have a two-year vesting period. All new options have an exercise price of $2.53 per share, the closing price of the Company’s common stock on September 10, 2009.
 
The exchange of original options for new options was treated as a modification of the original options. As such, the Company will continue to incur compensation cost for the incremental difference between the fair value of the new options and the fair value of the original options immediately before modification, reflecting the current facts and circumstances on the modification date, over the expected term of the new options. Since the incremental difference between the fair value of the new options and the fair value of the original options immediately before modification was immaterial, the $661,000 value of the options is primarily due to the carry-forward value of the old options into the new options.
 
2008 Exchange Offer
 
On January 4, 2008, the Company filed a Tender Offer Statement on Schedule TO with the Securities and Exchange Commission. The tender offer related to an offer by the Company to certain optionholders to exchange some or all of their outstanding stock option grants under the Company’s 2007 Equity Incentive Plan with an exercise price per share greater than or equal to $21.47 for new option grants. The exchange offer was made to employees and directors of the Company who, as of the date the exchange offer commenced, were actively employed by or otherwise providing services to the Company and held eligible option grants. The exchange offer expired on February 6, 2008. A total of 331,950 stock options were eligible to participate in the exchange offer and a total of 327,921 options were exchanged. The exercise price of the new option grants was $6.59, the closing price of the Company’s common stock on February 7, 2008.
 
The exchange of original options for new options was treated as a modification of the original options, As such, the Company will continue to incur compensation cost for the incremental difference between the fair value of the


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
new options and the fair value of the original options immediately before modification, reflecting the current facts and circumstances on the modification date, over the expected term of the new options. The incremental value related to the Exchange Offer was $607,000 prior to forfeitures.
 
Stock Based Compensation
 
Stock-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as expense over the requisite service period. All of the Company’s stock compensation is accounted for as an equity instrument.
 
The effect of recording stock-based compensation for the years ended December 31 was as follows (in thousands, except per share data):
 
                         
    Year Ended December 31,  
    2010     2009     2008  
 
Stock-based compensation expense by type of award:
                       
Employee stock options and restricted stock units
  $ 511     $ 2,166     $ 3,434  
Employee stock purchase plan
    (130 )     179       666  
Amounts capitalized into inventory during the year
    (6 )     (46 )     (65 )
Amounts capitalized as inventory and expensed
    11       41       60  
                         
Total stock-based compensation
    386       2,340       4,095  
Tax effect on stock-based compensation
                 
                         
Total stock-based compensation expense
  $ 386     $ 2,340     $ 4,095  
                         
Impact on basic and diluted net income (loss) per share
  $ (0.04 )   $ (0.25 )   $ (0.44 )
                         
 
For the compensation cost in connection with the Company’s employee stock purchase plan for the year ended December 31, 2010, the Company recognized a benefit of $130,000 due to actual contributions being less than expected contributions for the offering period due to forfeitures.
 
During the year ended December 31, 2010, the Company granted options to purchase 387,900 shares of its common stock with an estimated total grant date fair value of $564,000. Of this amount, the Company estimated that the stock-based compensation for the awards not expected to vest was $94,000.
 
During the year ended December 31, 2010, the Company granted restricted stock units to purchase 218,000 shares of its common stock with an estimated total grant date fair value of $583,000. Of this amount, the Company estimated that the stock-based compensation for the awards not expected to vest was $65,000. The Company did not grant restricted stock units during the years ended December 31, 2009 and 2008.
 
During the year ended December 31, 2009, the Company granted options to purchase 1,082,924 shares of common stock, including 519,624 options granted as part of the 2009 exchange offer noted above. The 519,624 options granted as part of the 2009 exchange offer had an estimated total grant-date fair value of $661,000 or $1.27 per option. The remaining 563,300 options had an estimated total grant-date fair value of $596,000 or $1.06 per option. The total estimated grant-date fair value of all 1,082,924 options granted was $1.3 million. Of this amount, the Company estimated that the stock-based compensation expense of the awards not expected to vest was a total of $274,000.
 
During the three months ended June 30, 2009, the Company fully accelerated the vesting of 165,600 options in connection with the closing of the Microsemi transaction and certain restructuring activities. The Company recorded additional stock-based compensation expense of $66,000 relating to the incremental value of the fully vested modified awards.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
During the three months ended December 31, 2009, the Company fully accelerated the vesting of 223,352 options in connection with certain restructuring activities. The Company recorded additional stock-based compensation expense of $164,000 relating to the incremental value of the fully vested modified awards.
 
During the year ended December 31, 2008, the Company granted options to purchase 1,025,821 shares of common stock, including 327,921 options granted as part of the 2008 exchange offer noted above. The 327,921 options granted as part of the 2008 exchange offer had an estimated total grant-date fair value of $607,000 or $1.85 per option. The remaining 697,900 options had an estimated total grant-date fair value of $2.2 million or $3.20 per option. The total estimated grant-date fair value of all 1,025,821 options granted was $2.8 million. Of this amount, the Company estimated that the stock-based compensation expense of the awards not expected to vest was a total of $810,000.
 
As of December 31, 2010, the unrecorded stock-based compensation balance related to all stock options was $392,000, net of estimated forfeitures, and will be recognized over an estimated weighted-average employee service period of 1.3 years. As of December 31, 2010, the unrecorded stock-based compensation balance related to all restricted stock units was $290,000, net of estimated forfeitures, and will be recognized over an estimated weighted-average employee service period of 1.1 years. As of December 31, 2010, the unrecorded deferred stock-based compensation balance related to the stock purchase plan was $97,000 and will be recognized over an estimated weighted average employee service period of 0.5 years.
 
Valuation Assumptions
 
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option valuation model and the graded-vesting method with the following weighted-average assumptions:
 
                         
    Year Ended December 31,  
    2010     2009     2008  
 
Stock Option Plans
                       
Expected dividend yield
    0.0 %     0.0 %     0.0 %
Expected stock price volatility
    69 %     70 %     70 %
Risk free interest rate
    0.51 - 2.43 %     1.43 - 2.53 %     1.80 - 3.39 %
Expected life of options in years
    4.6 years       4.1 years       3.6 years  
 
The fair value of shares under the employee stock purchase plan is estimated using the Black-Scholes valuation model and the graded-vesting method with the following weighted average assumptions:
 
                         
    Year Ended December 31,  
    2010     2009     2008  
 
Employee Stock Purchase Plan
                       
Expected dividend yield
    0.0 %     0.0 %     0.0 %
Expected stock price volatility
    51 %     51 %     51 %
Risk free interest rate
    0.18 - 1.06 %     0.16 - 0.95 %     1.61 - 4.74 %
Expected life of options in years
    1.2 years       1.2 years       1.1 - 1.2 years  
 
The dividend yield of zero is based on the fact that the Company has never paid cash dividends and has no present intention to pay cash dividends. Expected volatility is based on the combination of historical volatility of the Company’s common stock over the period commensurate with the expected life of the options and other factors. The risk-free interest rates are taken from the Daily Federal Yield Curve Rates as of the grant dates as published by the Federal Reserve and represent the yields on actively traded Treasury securities for terms equal to the expected term of the options. The expected term calculation is based on the Company’s observed historical option exercise behavior and post-vesting forfeitures of options by employees.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The weighted average grant date fair value for options granted during 2010, 2009, and 2008 was $1.45, $1.16, and $2.77, per share, respectively. The total intrinsic value of options exercised during the years ended December 31, 2010, 2009, 2008 was $55,000, $145,000, $7,000, respectively.
 
The weighted average grant date fair value of purchase rights granted under the employee stock purchase plan during the year was $0.72, $0.59, $1.17, for 2010, 2009, and 2008, respectively.
 
8.   Stockholders’ Equity
 
Preferred Stock and Warrant Purchase Agreement
 
The Company had 5,000,000 shares of convertible preferred stock authorized as of December 31, 2010 and 2009.
 
In April 2006, the Company entered into a purchase agreement with Oak Investment Partners XI, Limited Partnership (“Oak”). Pursuant to the purchase agreement, Oak purchased 300,000 shares of the Company’s Series B preferred stock, par value $0.001 per share, for $150 per preferred share, or a total of $45.0 million. The preferred shares were convertible initially into 3,000,000 shares of common stock, for an effective purchase price of $15 per common share equivalent. The Company also issued Oak a warrant granting Oak the right to purchase an additional 90,000 shares of Series B preferred stock at an exercise price of $150 per share. The warrant expired on April 24, 2009. The Company received net proceeds of $43.1 million from the sale of the Series B preferred stock and the warrant after the payment of legal fees and other expenses, including commissions.
 
On January 21, 2010, the Company repurchased all 300,000 outstanding shares of its preferred stock held by Oak for $120 per share, or a total of $36.0 million in cash. The total cost of the repurchase was $36.2 million, which included fees and expenses. The 300,000 outstanding shares represented 3,000,000 shares of Endwave common stock on an as-converted basis. Such shares had entitled Oak to a liquidation preference equal to its original investment of $45.0 million before any proceeds from a liquidation or sale of the Company would have been paid to the holders of Endwave’s common stock. In connection with the share repurchase, Eric Stonestrom, Oak’s designee to Endwave’s board of directors, resigned from the board of directors.
 
Since the Company repurchased the preferred stock for official retirement, the excess of the stated value, $43.1 million, over the effective repurchase price of $36.2 million was credited to additional paid-in capital.
 
Common Stock
 
At December 31, 2010, the Company had reserved 4,574,072 shares of common stock for issuance in connection with its stock option plans, and 446,473 shares in connection with its employee stock purchase plan.
 
Employee Stock Purchase Plan
 
In October 2000, the Company established the Endwave Corporation Employee Stock Purchase Plan (“Purchase Plan”). All employees who work a minimum of 20 hours per week and are customarily employed by the Company (or an affiliate thereof) for at least five months per calendar year are eligible to participate. Employees may purchase shares of common stock through payroll deductions of up to 15% of their earnings with a limit of 3,000 shares per purchase period under the Purchase Plan. The price paid for the Company’s common stock purchased under the Purchase Plan is equal to 85% of the lower of the fair market value of the Company’s common stock on the date of commencement of participation by an employee in an offering under the Purchase Plan or the date of purchase.
 
During 2010, there were 64,390 shares issued under the Purchase Plan at a weighted average price of $2.01 per share. During 2009, there were 141,235 shares issued under the Purchase Plan at a weighted average price of $2.25 per share. During 2008, there were 207,222 shares issued under the Purchase Plan at a weighted average price of $3.82 per share.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
Stock Option Plans
 
The Company’s 2000 Stock Option Plan (the “2000 Plan”) was adopted in March 2000, amended in July 2000, and in July 2007 was succeeded by the 2007 Equity Incentive Plan. All shares reserved for issuance under the 2000 Plan were carried over into the 2007 Plan.
 
The Company’s 2007 Equity Incentive Plan (the “2007 Plan”) was adopted in July 2007 as the successor and continuation of the 2000 Plan and provides for the issuance of options to purchase common stock to directors, employees, and consultants. The 2007 Plan provides for annual reserve increases to the number of authorized shares beginning January 1, 2008 through January 1, 2012. Under the 2007 Plan, incentive stock options are granted under the plan at exercise prices not less than fair value and non-statutory stock options are granted at an exercise price not less than 85% of the fair value on the date of grant, as determined by the closing sales price of the Company’s common stock. Options granted under the 2007 Plan generally have a ten-year term. Options vest and become exercisable as specified in each individual’s option agreement, generally over a two to four year period. Subject to approval by the Company’s board of directors, options may be exercised early; however, in such event the unvested shares are subject to a repurchase option by the Company upon termination of the individual’s employment or services. As of December 31, 2010, the 2007 Plan provides for the issuance of up to 1,432,987 shares of common stock to directors, employees and consultants upon the exercise of options outstanding.
 
The Company’s 2000 Non-Employee Directors’ Stock Option Plan (“Director Plan”) was adopted in October 2000 and terminated in October 2010, such that no further options could be granted thereunder. No options remain outstanding in the 2000 Director Plan.
 
The Company granted restricted stock units to non-employee directors to purchase 30,000 shares of the Company’s common stock under the 2007 Plan for the year ended December 31, 2010.
 
The Company granted options to non-employee directors to purchase 117,143 and 60,000 shares of the Company’s common stock under the 2007 Plan for the years ended December 31, 2009 and 2008, respectively.
 
The Company’s equity incentive program is a broad-based, long-term retention program designed to align stockholder and employee interests. Upon exercise of stock options, the Company issues shares from the shares reserved under the Company’s stock option plans.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The following table summarizes stock option activity under the equity incentive plans for the indicated periods:
 
                                 
            Weighted
   
        Weighted
  Average
   
        Average
  Remaining
  Aggregate
    Number of
  Exercise
  Contractual
  Intrinsic
    Shares   Price   Term (Years)   Value
                (In thousands)
 
Outstanding at December 31, 2007
    2,465,436       1.91                  
Options granted
    1,025,821       6.44                  
Options exercised
    (2,748 )     1.90                  
Options cancelled
    (479,592 )     23.66                  
                                 
Outstanding at December 31, 2008
    3,008,917       9.23                  
Options granted
    1,082,924       2.21                  
Options exercised
    (198,079 )     1.67                  
Options cancelled
    (2,883,201 )     9.54                  
                                 
Outstanding at December 31, 2009
    1,010,561       2.31                  
Options granted
    387,900       2.61                  
Options exercised
    (83,538 )     2.06                  
Options cancelled
    (86,736 )     2.81                  
                                 
Outstanding at December 31, 2010
    1,228,187     $ 2.39       6.88     $ 155  
                                 
Options vested and exercisable and expected to be exercisable at December 31, 2010
    1,172,967     $ 2.39       6.77     $ 151  
Options vested and exercisable at December 31, 2010
    681,146     $ 2.35       5.23     $ 110  
 
The following table summarizes information concerning outstanding and exercisable options:
 
                                         
        Options Vested and
        Exercisable
        At December 31,
    Options Outstanding at December 31, 2010   2010
            Weighted-
       
        Weighted-
  Average
       
        Average
  Remaining
      Weighted-
        Exercise
  Contractual
      Average
Range of Exercise Price
  Shares   Price   Life   Shares   Exercise Price
 
$0.76 - $1.21
    11,183     $ 1.13       2.00       11,183     $ 1.13  
$1.81 - $1.81
    271,026     $ 1.81       5.46       175,036     $ 1.81  
$1.93 - $2.32
    129,209     $ 2.19       7.39       42,602     $ 1.93  
$2.40 - $2.40
    43,000     $ 2.40       8.58       15,937     $ 2.40  
$2.53 - $2.53
    453,269     $ 2.53       6.15       342,825     $ 2.53  
$2.55 - $2.55
    30,300     $ 2.55       8.34       30,112     $ 2.55  
$2.65 - $2.65
    252,444     $ 2.65       9.04       48,480     $ 2.65  
$2.92 - $13.23
    37,756     $ 4.00       7.92       14,971     $ 5.10  
                                         
      1,228,187     $ 2.39       6.88       681,146     $ 2.35  
                                         


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The following table summarizes the restricted stock unit activity for the indicated periods:
 
                                 
            Weighted-
   
        Weighted-
  Average
   
        Average
  Remaining
  Aggregate
    Number of
  Grant Date
  Contractual
  Intrinsic
    Shares   Fair Value   Term (Years)   Value
                (In thousands)
 
Outstanding at December 31, 2009
        $ 0.00                  
Awarded
    218,000       2.67                  
Released
          0.00                  
Forfeited
    (13,200 )     2.61                  
                                 
Outstanding at December 31, 2010
    204,800     $ 2.68       0.68     $ 467  
                                 
 
At December 31, 2010, the Company had 193,765 restricted stock units vested and expected to vest with a weighted average remaining contractual term of 0.67 years and an aggregate intrinsic value of $442,000.
 
At December 31, 2010, the Company had 4,574,072 options available for grant under its stock option plans. For the year ended December 31, 2010, 62 options expired.
 
At December 31, 2009 and 2008, options to purchase 439,125 and 1,585,385 shares of common stock were exercisable at weighted average exercise prices of $2.24 and $9.77 per share, respectively.
 
9.   Restructuring
 
During the first quarter of 2009, the Company undertook certain restructuring activities to reduce expenses. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with employee terminations. The net charge for these restructuring activities was $1.2 million and all cash payments have been made. Of this amount, approximately $182,000 has been included in the discontinued operations line item on the consolidated statements of operations.
 
During the second quarter of 2009, the Company undertook certain additional restructuring activities to reduce expenses. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with employee terminations. The net charge for these restructuring activities was $243,000 and all cash payments have been made. Of this amount, approximately $39,000 has been included in the discontinued operations line item on the consolidated statements of operations.
 
During the fourth quarter of 2009, the Company undertook certain additional restructuring activities, including the departure of a senior executive, to reduce expenses. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with employee terminations. The net charge for these restructuring activities was $1.2 million. The remaining restructuring liability of $665,000 at December 31, 2010 is expected to be substantially paid by the end of the third quarter of 2012.
 
During the third quarter of 2010, the Company undertook certain additional restructuring activities to reduce expenses. The components of the restructuring charge included severance, benefits, payroll taxes and other costs associated with an employee termination. The net charge for these restructuring activities was $63,000 and all cash payments have been made.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
Changes in all of the Company’s restructuring liabilities discussed are summarized as follows (in thousands):
 
                 
    2010     2009  
    (In thousands)  
 
Balance at January 1
  $ 1,208     $  
Restructuring charge
    63       2,705  
Cash payments
    (638 )     (1,421 )
Imputed interest
    46        
Restructuring charge adjustment
    (14 )     (76 )
                 
Balance at December 31
  $ 665     $ 1,208  
                 
 
At December 31, 2010, $431,000 and $234,000 of accrued restructuring charges are included in current liabilities and long-term liabilities, respectively, on the consolidated balance sheet. At December 31, 2009, $570,000 and $638,000 of accrued restructuring charges are included in current liabilities and long-term liabilities, respectively, on the consolidated balance sheet. The restructuring liability related to a senior executive was recorded at its fair value based on an assumed interest rate of 5.0%, which represents the current market rate of interest at which the Company could borrow, due to the long-term nature of the liability.
 
The Company will recognize interest expense associated with amortizing the $77,000 discount on this liability over the 30 month term of the restructuring payout. During the year ended December 31, 2010, the Company recognized interest expense of $46,000. The amount related to 2009 was insignificant.
 
The Company’s restructuring estimates will be reviewed and revised quarterly and may result in an increase or decrease to restructuring charges. During the first quarter of 2010, the Company recorded a $14,000 positive adjustment as a result of lower benefit charges in connection with the first quarter 2009 restructuring plan than were originally anticipated.
 
10.   Commitments and Contingencies
 
Commitments
 
The Company leases its office, manufacturing and design facilities in San Jose, California, Chiang Mai, Thailand, Salem, New Hampshire and Folsom, California under non-cancelable lease agreements, which expire in various periods through November 2013. Rent expense under the operating leases was approximately $675,000, $692,000 and $616,000 for the years ended December 31, 2010, 2009 and 2008 respectively.
 
Future annual minimum lease payments under non-cancelable operating leases with initial terms of one year or more as of December 31, 2010 are as follows (in thousands):
 
         
Years Ending December 31,
     
 
2011
  $ 443  
2012
    178  
2013
    117  
         
Total
  $ 738  
         


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
Future annual minimum lease payments under non-cancelable capital leases as of December 31, 2010 are as follows (in thousands):
 
         
Years Ending December 31,
     
 
2011
  $ 2  
Less amount representing interest
     
         
Present value of future minimum lease payments
    2  
Less current portion
    2  
         
Long-term portion
  $  
         
 
The amounts due under capital leases are included in other current and long-term liabilities on the consolidated balance sheet.
 
Purchase Obligations
 
The Company has purchase obligations to certain suppliers. In some cases the products the Company purchases are unique and have provisions against cancellation of the order. At December 31, 2010, the Company had approximately $1.4 million of purchase obligations which are due within the following 12 months. This amount does not include contractual obligations recorded on the consolidated balance sheets as liabilities.
 
Contingencies
 
On October 31, 2008, the Company filed a complaint with the Canadian Superior Court in Montreal, Quebec alleging that Advantech, the parent company of Allgon Microwave Corporation AB, had breached its contractual obligations with Endwave and owes the Company $994,500 in a note receivable, purchased inventory and accepted purchase orders. The Company cannot predict the outcome of these proceedings. An adverse decision in these proceedings could harm the Company’s consolidated financial position and results of operations. Other than the complaint against Advantech, the Company is not currently a party to any material litigation.
 
11.   Discontinued Operations
 
On April 30, 2009, the Company entered into an Asset Purchase Agreement (the “Purchase Agreement”) with Microsemi, pursuant to which Microsemi purchased the Company’s Defense and Security RF module business including all of the outstanding capital stock of Endwave Defense Systems, Incorporated (“EDSI”). As consideration, Microsemi assumed certain liabilities associated exclusively with the Defense and Security RF module business, including the Company’s building lease in Folsom, California, and paid $28.0 million in cash. The Purchase Agreement contains representations and warranties as to the Defense and Security RF module business that survive for two years following the closing. In connection with the transaction, the Company entered into an indemnification agreement pursuant to which the Company agreed to indemnify Microsemi for environmental, product liability and intellectual property infringement claims related to the Company’s operation of the Defense and Security RF module business prior to the closing date, as well as for any other excluded liability, and Microsemi agreed to indemnify the Company for any claims related to the operation of the Defense and Security RF module business following the closing date and for any other assumed liability, subject in some cases to a customary deductible and limitation on maximum damages.
 
Concurrently with the closing of the acquisition, the Company entered into a transition services agreement and an employee transition services agreement with Microsemi pursuant to which the Company agreed to provide to Microsemi for a limited period of time certain transitional services, including accounting, human resources, information technology and product supply services.


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The Company classified the results of the Defense and Security RF module business as a discontinued operation in the Company’s consolidated statements of operations for all periods presented. The results of operations for the Defense and Security RF module business classified as discontinued operations are as follows (in thousands):
 
                 
    2009     2008  
 
Revenues of discontinued operations
  $ 5,313     $ 19,558  
                 
Loss from discontinued operations
    (2,028 )     (10,787 )
Gain on sale of discontinued operations, net of tax
    19,599        
                 
Net income (loss) from discontinued operations, net of tax
  $ 17,571     $ (10,787 )
                 
 
The $19.6 million gain on sale of discontinued operations, net of tax, included the following: $28.0 million of cash received from Microsemi offset by $647,000 of deal fees, $9.1 million of assets transferred to Microsemi and $1.3 million of liabilities assumed by Microsemi.
 
12.   Income Taxes
 
Consolidated loss before income tax expense (benefit) includes non-U.S. loss of approximately $904,000, $804,000 and $853,000 for the years ended December 31, 2010, 2009 and 2008, respectively. The Company recorded a current tax benefit of $0, $105,000 and $66,000 for year ended December 31, 2010, 2009 and 2008, respectively.
 
                         
    Years Ended December 31,  
    2010     2009     2008  
 
Current income tax expense (benefit):
                       
Federal
  $     $ (105 )   $ (57 )
State
                (9 )
                         
            (105 )     (66 )
                         
Deferred income tax expense (benefit):
                       
Federal
                 
State
                 
                         
    $     $ (105 )   $ (66 )
                         
 
As of December 31, 2010, the Company had a federal net operating loss carryforward of approximately $205.6 million. The Company also had federal research and development tax credit carryforwards of approximately $2.2 million. These net operating loss and credit carryforwards are currently expiring and will continue to do so through 2030, if not utilized.
 
As of December 31, 2010, the Company had a state net operating loss carryforward of approximately $82.2 million. The net operating losses will begin expiring in 2012, if not utilized. The Company also has state research and development tax credit carryforwards and miscellaneous credit carryforwards of approximately $2.4 million. The credits will carryforward indefinitely, if not utilized.
 
Utilization of the net operating losses and credits may be subject to a substantial annual limitation due to the ownership change provisions of the Internal Revenue Code and similar state provisions. The annual limitation may result in the expiration of net operating losses and credits before utilization.
 
Deferred tax assets and liabilities reflect the net tax effects of net operating loss and credit carryforwards and temporary differences between the carrying amounts of assets for financial reporting and the amount used for


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ENDWAVE CORPORATION
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
income tax purposes. Significant components of the Company’s net deferred tax assets and liabilities for federal and state income taxes are as follows at December 31 (in thousands):
 
                 
    2010     2009  
 
Deferred tax assets:
               
Net operating loss carryforwards
  $ 67,593     $ 65,302  
Net research credit
    1,826       1,830  
Other
    6,437       7,422