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EX-10.14A - EXHIBIT 10.14A - BigBand Networks, Inc.ex10_14a.htm


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

FORM 10-Q

 
(Mark One)
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2011
 
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: 001-33355
 

BigBand Networks, Inc.
(Exact name of registrant as specified in its charter)
 

 
Delaware
 
04-3444278
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification Number)
 
475 Broadway Street
Redwood City, California 94063
(Address of principal executive offices and zip code)
 
(650) 995-5000
(Registrant’s telephone number, including area code)
 

 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  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  þ    No  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large Accelerated filer  o
Accelerated filer  þ
Non-Accelerated filer  o
Smaller reporting company  o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  þ
 
As of August 1, 2011, 70,614,867 shares of the registrant’s common stock, par value $0.001 per share, were outstanding.
 


 
 

 
 
BigBand Networks, Inc.
 
FORM 10-Q
FOR THE QUARTER ENDED
June 30, 2011
 
   
Page
     
PART I.
3
     
Item 1.
3
     
 
3
     
 
4
     
 
5
     
 
6
     
Item 2.
20
     
Item 3.
29
     
Item 4.
29
     
PART II.
30
     
Item 1.
30
     
Item 1A.
30
     
Item 5.
40
     
Item 6.
40
     
 
41

 
2

 
PART 1. FINANCIAL INFORMATION
 
BigBand Networks, Inc.
(Unaudited in thousands, except per share data)
 
   
As of
June 30,
2011
   
As of
December 31,
2010
 
ASSETS
           
Current assets:
           
Cash and cash equivalents
  $ 19,998     $ 21,537  
Marketable securities
    107,905       122,012  
Accounts receivable, net of allowance for doubtful accounts of $29 and $17 as of June 30, 2011 and December 31, 2010, respectively
    9,111       5,001  
Inventories, net
    10,874       11,117  
Prepaid expenses and other current assets
    3,844       4,190  
Total current assets
    151,732       163,857  
Property and equipment, net
    7,087       8,088  
Goodwill
    1,656       1,656  
Other non-current assets
    6,743       7,170  
Total assets
  $ 167,218     $ 180,771  
                 
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
Current liabilities:
               
Accounts payable
  $ 6,605     $ 4,656  
Accrued compensation and related benefits
    5,915       5,178  
Current portion of deferred revenues, net
    19,365       18,143  
Current portion of other liabilities
    3,477       4,266  
Total current liabilities
    35,362       32,243  
Deferred revenues, net, less current portion
    6,807       8,327  
Other liabilities, less current portion
    1,577       1,692  
Accrued long-term Israeli severance pay
    4,657       4,376  
Commitments and contingencies
               
Stockholders’ equity:
               
Common stock, $0.001 par value, 250,000 shares authorized as of June 30, 2011 and December 31, 2010; 70,601 and 69,687 shares issued and outstanding as of June 30, 2011 and December 31, 2010, respectively
    71       70  
Additional paid-in-capital
    304,715       299,003  
Accumulated other comprehensive income
    218       253  
Accumulated deficit
    (186,189 )     (165,193 )
Total stockholders’ equity
    118,815       134,133  
Total liabilities and stockholders’ equity
  $ 167,218     $ 180,771  

See accompanying notes.
 
 
3

 
BigBand Networks, Inc.
(Unaudited in thousands, except per share amounts)
 
   
Three Months Ended
June 30,
   
Six Months Ended
June 30,
 
   
2011
   
2010
   
2011
   
2010
 
Net revenues:
                       
Products
  $ 10,258     $ 16,605     $ 19,787     $ 41,486  
Services
    9,520       9,788       18,356       17,142  
Total net revenues
    19,778       26,393       38,143       58,628  
                                 
Cost of net revenues:
                               
Products
    6,181       9,402       11,947       23,326  
Services
    2,792       3,032       5,835       6,309  
Total cost of net revenues
    8,973       12,434       17,782       29,635  
                                 
Gross profit
    10,805       13,959       20,361       28,993  
                                 
Operating expenses:
                               
Research and development
    10,677       13,110       22,060       26,602  
Sales and marketing
    4,973       5,998       10,085       12,048  
General and administrative
    3,367       4,010       7,181       8,536  
Restructuring charges
    -       1,039       2,007       1,039  
Total operating expenses
    19,017       24,157       41,333       48,225  
                                 
Operating loss
    (8,212 )     (10,198 )     (20,972 )     (19,232 )
Interest income
    218       337       424       852  
Other income (expense), net
    22       (95 )     (8 )     (183 )
Loss before provision for (benefit from) income taxes
    (7,972 )     (9,956 )     (20,556 )     (18,563 )
Provision for (benefit from) income taxes
    222       (315 )     440       (153 )
Net loss
  $ (8,194 )   $ (9,641 )   $ (20,996 )   $ (18,410 )
                                 
Basic net loss per common share
  $ (0.12 )   $ (0.14 )   $ (0.30 )   $ (0.27 )
                                 
Diluted net loss per common share
  $ (0.12 )   $ (0.14 )   $ (0.30 )   $ (0.27 )
                                 
Shares used in basic net loss per common share
    70,312       68,018       70,079       67,667  
Shares used in diluted net loss per common share
    70,312       68,018       70,079       67,667  
 
See accompanying notes.
 
 
4

 
(Unaudited in thousands)
 
   
Six Months Ended June 30,
 
   
2011
   
2010
 
             
Cash Flows from Operating activities
           
Net loss
  $ (20,996 )   $ (18,410 )
                 
Adjustments to reconcile net loss to net cash (used in) operating activities:
               
Stock-based compensation
    5,227       7,383  
Depreciation of property and equipment
    2,591       3,601  
Fixed assets written off related to restructuring
    551       -  
Amortization of software license
    -       416  
Loss on disposal of property and equipment
    7       220  
Net settled unrealized losses on cash flow hedges
    (34 )     (28 )
Change in operating assets and liabilities:
               
(Increase) decrease in accounts receivable
    (4,110 )     11,851  
Decrease (increase) in inventories, net
    243       (2,770 )
Decrease in prepaid expenses and other current assets
    343       1,417  
Decrease (increase) in other non-current assets
    39       (337 )
Increase (decrease) in accounts payable
    1,949       (5,296 )
Increase in long-term Israeli severance pay
    281       448  
(Decrease) in accrued and other liabilities
    (184 )     (2,248 )
(Decrease) in deferred revenues
    (298 )     (3,850 )
Net cash (used in) operating activities
    (14,391 )     (7,603 )
                 
Cash Flows from Investing activities
               
Purchase of marketable securities
    (61,809 )     (92,850 )
Proceeds from maturities of marketable securities
    63,321       88,818  
Proceeds from sale of marketable securities
    12,614       20,770  
Purchase of property and equipment
    (2,148 )     (2,362 )
Decrease in restricted cash
    388       -  
Proceeds from sale of property and equipment
    -       47  
Net cash provided by investing activities
    12,366       14,423  
                 
Cash Flows from Financing activities
               
Proceeds from issuance of common stock
    486       1,344  
Net cash provided by financing activities
    486       1,344  
                 
Net (decrease) increase in cash and cash equivalents
    (1,539 )     8,164  
Cash and cash equivalents as of beginning of period
    21,537       24,894  
Cash and cash equivalents as of end of period
  $ 19,998     $ 33,058  
 
See accompanying notes.
 
 
5

 
BigBand Networks, Inc.
(Unaudited)
 
1. Description of Business
 
BigBand Networks, Inc. (BigBand or the Company), headquartered in Redwood City, California, was incorporated on December 3, 1998, under the laws of the state of Delaware and commenced operations in January 1999. BigBand develops, markets and sells network-based platforms that enable cable multiple system operators and telecommunications companies to offer video services across coaxial, fiber and copper networks.
 
2. Summary of Significant Accounting Policies
 
Basis of Presentation
 
The condensed consolidated financial statements include accounts of the Company and its wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated. The accompanying condensed consolidated balance sheet as of June 30, 2011, and the condensed consolidated statements of operations for the three and six months ended June 30, 2011 and 2010, and the condensed consolidated statements of cash flows for the six months ended June 30, 2011 and 2010 are unaudited. The condensed consolidated balance sheet as of December 31, 2010 was derived from the audited consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2010 filed with the U.S. Securities and Exchange Commission (SEC) on March 9, 2011 (Form 10-K). The accompanying condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and related notes contained in the Company’s Form 10-K.
 
The accompanying condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (GAAP) and pursuant to the rules and regulations of the SEC. As permitted by such rules, not all of the financial information and footnotes required for complete financial statements have been presented. Management believes the unaudited condensed consolidated financial statements have been prepared on a basis consistent with the audited consolidated financial statements and include all adjustments necessary of a normal and recurring nature for a fair presentation of the Company’s condensed consolidated balance sheet as of June 30, 2011, the condensed consolidated statements of operations for the three and six months ended June 30, 2011 and 2010, and the condensed consolidated statements of cash flows for the six months ended June 30, 2011 and 2010. The results for the three and six months ended June 30, 2011 are not necessarily indicative of the results to be expected for the year ending December 31, 2011 or for any other interim period or for any future periods.
 
With the exception of the adoption of guidance related to revenue recognition, discussed below, there have been no significant changes in the Company’s accounting policies during the six months ended June 30, 2011 compared to the significant accounting policies described in the Company’s Form 10-K.
 
Use of Estimates
 
 The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Management uses estimates and judgments in determining recognition of revenues, valuation of inventories and noncancellable and unconditional purchase commitments, valuation of stock-based awards, provision for warranty claims, the allowance for doubtful accounts, restructuring costs, valuation of goodwill and long-lived assets and income tax amounts. Management bases its estimates and assumptions on methodologies it believes to be reasonable. Actual results could differ from those estimates, and such differences could affect the results of operations reported in future periods.
 
Revenue Recognition
 
In October 2009, the Financial Accounting Standards Board (FASB) issued ASU 2009-13 Revenue Recognition (Topic 605): Multiple-Deliverable Revenue Arrangements — a consensus of the FASB Emerging Issues Task Force (ASU 2009-13) and ASU 2009-14 Software (Topic 985): Certain Revenue Arrangements That Include Software Elements — a consensus of the FASB Emerging Issues Task Force (Accounting Standards Update (ASU) 2009-14). ASU 2009-13 and 14 amended the accounting standards for revenue recognition to remove tangible products containing software components and nonsoftware components that function together to deliver the product’s essential functionality from the scope of industry-specific software revenue recognition guidance, and also:
 
provide updated guidance on whether multiple deliverables exist, how the deliverables in an arrangement should be separated, and how the consideration should be allocated;
 
require an entity to allocate revenue in an arrangement using estimated selling prices (ESP) of deliverables if the Company does not have vendor-specific objective evidence of selling price (VSOE) or third-party evidence of selling price (TPE); and
 
eliminate the use of the residual method and require an entity to allocate revenue using the relative selling price method.
 
 
6

 
The Company adopted the provisions of ASU 2009-13 and 14, prospectively, for all transactions originating or materially modified after December 31, 2010. This guidance does not generally change the units of accounting for the Company’s revenue transactions. Most products and services qualify as separate units of accounting. The adoption of ASU 2009-13 and 14 did not have a material impact on the Company’s consolidated financial condition, operating revenues, results of operations or cash flows, and the Company does not expect a material impact in future periods.
 
The Company’s software and hardware product applications are sold as solutions and its software is a significant component to the functionality of these solutions. The Company provides unspecified software updates and enhancements related to products through support contracts. Revenue is recognized when all of the following have occurred: (1) the Company has entered into an arrangement with a customer; (2) delivery has occurred; (3) customer payment is fixed or determinable and free of contingencies and significant uncertainties; and (4) collection is probable.
 
Product revenues consist of sales of the Company’s software and hardware products. Software product sales include a perpetual license to the Company’s software. The Company recognizes product revenues upon shipment to its customers, including resellers, on non-cancellable contracts and purchase orders when all revenue recognition criteria are met, or, if specified in an agreement, upon receipt of final acceptance of the product, provided all other criteria are met. End users generally have no rights of return, stock rotation rights or price protection. Shipping charges billed to customers are included in product revenues and the related shipping costs are included in cost of product revenues.
 
The Company sells its products and services to customers in North America through its direct sales force, and it sells to customers internationally through a combination of direct sales and resellers. Sales to the Company’s resellers are final and the resellers do not have any rights of return, product rotation rights, or price protection.
 
Substantially all of the Company’s product sales have been made in combination with support services, which consist of software updates and customer support. The Company’s customer service agreements allow customers to select from plans offering various levels of technical support, unspecified software upgrades and enhancements on an if-and-when-available basis. Revenues for support services are recognized on a straight-line basis over the service contract term, which is typically one year, but generally extends to five years for the Company’s telecommunications customers. Revenues from other services, such as installation, program management and training, are recognized when the services are performed.
 
The Company assesses the ability to collect from its customers based on a number of factors, including the credit worthiness of the customer and the past transaction history of the customer. If the customer is not deemed credit worthy, all revenues are deferred from the arrangement until payment is received and all other revenue recognition criteria have been met.
 
Deferred revenues consist primarily of deferred service fees (including customer support and professional services such as installation, program management and training) and product revenues, net of the associated costs. Deferred product revenues and related costs generally relate to acceptance provisions that have not been met, partial shipment or for transactions entered into before December 31, 2010, for which the Company did not have VSOE of fair value on the undelivered items. When deferred revenues are recognized as revenues, the associated deferred costs are also recognized as cost of net revenues.
 
For all transactions entered into after December 31, 2010, the Company recognizes revenues using estimated selling prices of the delivered goods and services based on a hierarchy of methods contained in ASU 2009-13. The Company uses VSOE for determination of estimated selling price of elements in each arrangement if available, and since third party evidence is not available for those elements where vendor specific objective evidence of selling price cannot be determined, the Company evaluates factors to determine its ESP for all other elements. In multiple element arrangements where hardware and software are sold as part of the solution, revenue is allocated to the hardware and software as a group using the relative selling prices of each of the deliverables in the arrangement based upon the aforementioned selling price hierarchy.
 
The Company has established VSOE of fair value for elements of an arrangement for its professional services and customer support.  VSOE for professional services is based upon the normal pricing and discounting practices for those services when sold separately; whereas support services is measured by the renewal rate (support price as a percentage of product value) to the customer. In determining VSOE, the Company requires that a substantial majority of the selling prices for a service fall within a reasonably narrow pricing range, generally evidenced by approximately 80% of such historical stand-alone transactions falling within plus or minus 15% of the mean rates. In addition, the Company may consider major service groups, geographies, customer classifications, and other variables in determining VSOE.
 
The Company is typically not able to determine TPE for its products or services. TPE is determined based on competitor prices for similar deliverables when sold separately. Generally, the Company’s go-to-market strategy differs from that of its peers and its offerings contain a significant level of differentiation such that the comparable pricing of products with similar functionality cannot be obtained. Furthermore, the Company is unable to reliably determine what similar competitor products’ selling prices are on a stand-alone basis.
 
When the Company is unable to establish selling price of its non-software deliverables using VSOE or TPE, it uses ESP in its allocation of arrangement consideration. The objective of ESP is to determine the price at which the Company would transact a sale if the product or service were sold on a stand-alone basis. The Company determines ESP for a product or service based on historical sales trending of discount from list price by customer class and anticipated customer pricing strategy. The Company may also consider other factors including, but not limited to, product, geographies, and distribution channels.
 
 
7

 
The Company regularly reviews VSOE and ESP and maintains internal controls over the establishment and updates of these estimates. There was no material impact during the three and six months ended June 30, 2011, nor does the Company currently expect a material impact in the near term from changes in VSOE or ESP.
 
 Cash, Cash Equivalents and Marketable Securities
 
The Company holds its cash and cash equivalents in checking, money market and investment accounts with high credit quality financial institutions. The Company considers all highly liquid investments with original maturities of three months or less when purchased to be cash equivalents.
 
Marketable securities consist principally of corporate debt securities, commercial paper, securities of U.S. agencies, with remaining time to maturity of two years or less. If applicable, the Company considers marketable securities with remaining time to maturity greater than one year and that have been in a consistent loss position for at least nine months to be classified as long-term, as it expects to hold them to maturity. As of June 30, 2011, the Company did not have any such securities. The Company considers all other marketable securities with remaining time to maturity of less than two years to be short-term marketable securities. The short-term marketable securities are classified as current assets because they can be readily converted into securities with a shorter remaining time to maturity or into cash. The Company determines the appropriate classification of its marketable securities at the time of purchase and re-evaluates such designations as of each balance sheet date. All marketable securities and cash equivalents in the portfolio are classified as available-for-sale and are stated at fair value, with all the associated unrealized gains and losses reported as a component of accumulated other comprehensive income (loss). Fair value is based on quoted market rates or direct and indirect observable markets for these investments. The amortized cost of debt securities is adjusted for amortization of premiums and accretion of discounts to maturity. Such amortization and accretion are included in interest income. The cost of securities sold and any gains and losses on sales are based on the specific identification method.
 
The Company reviews its investment portfolio periodically to assess for other-than-temporary impairment in order to determine the classification of the impairment as temporary or other-than-temporary, which involves considerable judgment regarding factors such as the length of the time and the extent to which the market value has been less than amortized cost, the nature of underlying assets, and the financial condition, credit rating, market liquidity conditions and near-term prospects of the issuer. If the fair value of a debt security is less than its amortized cost basis at the balance sheet date, an assessment would have to be made as to whether the impairment is other-than-temporary. If the Company considers it more likely than not that it will sell the security before it will recover its amortized cost basis, an other-than-temporary impairment will be considered to have occurred. An other-than temporary impairment will also be considered to have occurred if the Company does not expect to recover the entire amortized cost basis of the security, even if it does not intend to sell the security. The Company has recognized no other-than-temporary impairments for its marketable securities.
 
Fair Value of Financial Instruments
 
The carrying values of cash and cash equivalents, restricted cash, accounts receivable, marketable securities, derivatives used in the Company’s hedging program, accounts payable, other accrued liabilities, and the Israeli severance pay fund assets approximate their fair value.
 
 Credit Risk and Concentrations of Significant Customers
 
Financial instruments that potentially subject the Company to significant concentrations of credit risk consist primarily of cash equivalents, marketable securities, accounts receivable and restricted cash. Cash equivalents, restricted cash and marketable securities are invested through major banks and financial institutions in the U.S. and Israel. Such deposits in the U.S. may be in excess of insured limits and are not insured in Israel. Management believes that the financial institutions that hold the Company’s investments are financially sound and, accordingly, minimal credit risk exists with respect to these investments.
 
 The Company’s customers are impacted by several factors, including difficult industry conditions and access to capital. The market that the Company serves is characterized by a limited number of large customers creating a concentration of risk. To date, the Company has not incurred any significant charges related to uncollectible accounts receivable. The Company had five and four customers that each had an accounts receivable balance of greater than 10% of the Company’s total accounts receivable balance as of June 30, 2011 and December 31, 2010, respectively. The Company recognized revenues from four and two customers that were 10% or greater of the Company’s total net revenues for the three months ended June 30, 2011 and 2010, respectively. The Company recognized revenues from three and two customers that were 10% or greater of the Company’s total net revenues for the six months ended June 30, 2011 and 2010, respectively.
 
 
8

 
Inventories, Net
 
Inventories, net consist of finished goods and raw materials, and are stated at the lower of standard cost or market. Standard cost approximates actual cost on the first-in, first-out method, and is comprised of material, labor, and overhead. The Company’s net inventory balance was $10.9 million and $11.1 million as of June 30, 2011 and December 31, 2010, respectively. The Company’s inventory requires lead time to manufacture, and therefore it is required to order certain inventory in advance of anticipated sales. The Company regularly monitors inventory quantities on-hand and records write-downs for excess and obsolete inventories determined primarily by future demand forecasts. Inventory write-downs are measured as the difference between the cost of the inventory and market value, and are charged to the provision for inventory which is a component of its cost of net product revenues. At the point of the 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.
 
 The Company records a liability for firm noncancellable and unconditional purchase commitments for quantities in excess of its future demand forecasts consistent with the valuation of its excess and obsolete inventory. As of June 30, 2011 and December 31, 2010, the liability for these purchase commitments in excess of its future demand forecasts was $27,000 and $0.8 million, respectively, and was included in other current liabilities on the Company’s consolidated balance sheets, and cost of net product revenues in its consolidated statements of operations. 
 
The inventory provisions included in inventories, net on the Company’s consolidated balance sheets were $1.8 million and $2.8 million as of June 30, 2011 and December 31, 2010, respectively. The Company’s write-downs for inventory charged to cost of net product revenues were $0.7 million and $0.3 million for the three months ended June 30, 2011 and 2010, respectively, and $1.0 million and $0.5 million for the six months ended June 30, 2011 and 2010, respectively. The Company could be required to increase its inventory provisions if there were to be sudden and significant decreases in demand for its products or if there were a higher incidence of inventory obsolescence because of rapidly changing technology and customer requirements. The Company continues to regularly evaluate the exposure for inventory write-downs and the adequacy of its liability for purchase commitments.
 
 Impairment of Long-Lived Assets
 
The Company periodically evaluates whether changes have occurred that require a revision of the remaining useful life of long-lived assets or would render them not recoverable. If such circumstances arise, the Company compares the carrying amount of the long-lived assets to the estimated future undiscounted cash flows expected to be generated by the long-lived assets. If the estimated aggregate undiscounted cash flows are less than the carrying amount of the long-lived assets, an impairment charge, calculated as the amount by which the carrying amount of the assets exceeds the fair value of the assets, is recorded.
 
Warranty Liabilities
 
The Company provides a warranty for its software and hardware products. In most cases, the Company warrants that its hardware will be free of defects in workmanship for one year, and that its software media will be free of defects for 90 days. In master purchase agreements with large customers. However, the Company often warrants that its products (hardware and software) will function in material conformance to specifications for a period ranging from one to five years from the date of shipment. In general, the Company accrues for warranty claims based on the Company’s historical claims experience. In addition, the Company accrues for warranty claims based on specific events and other factors when the Company believes an exposure is probable and can be reasonably estimated. The adequacy of the accrual is reviewed on a periodic basis and adjusted, if necessary, based on additional information as it becomes available.
 
 Income Taxes
 
The Company follows ASC 740 Income Taxes, which requires the use of the liability method of accounting for income taxes. The liability method computes income taxes based on a projected effective tax rate for the full calendar year. For example, the effective tax rate for the six months ended June 30, 2011 is based on the projected effective tax rate for the year ending December 31, 2011. The liability method includes the effects of deferred tax assets or liabilities. Deferred tax assets or liabilities are recognized for the expected tax consequences of temporary differences between the financial statement and tax basis of assets and liabilities using the enacted tax rates that will be in effect when these differences reverse. The Company provides a valuation allowance to reduce deferred tax assets to the amount that more likely than not is expected to be realized.
 
 Foreign Currency Derivatives
 
The Company has revenues, expenses, assets and liabilities denominated in currencies other than the U.S. dollar that are subject to foreign currency risks, primarily related to expenses and liabilities denominated in the Israeli New Shekel. The Company has established a foreign currency risk management program to help protect against the impact of foreign currency exchange rate movements on the Company’s operating results. The Company does not enter into derivatives for speculative or trading purposes. All derivatives, whether designated in hedging relationships or not, are required to be recorded on the consolidated balance sheet at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation.
 
 
9

 
The Company selectively hedges future expenses denominated in Israeli New Shekels by purchasing foreign currency forward contracts or combinations of purchased and sold foreign currency option contracts. When the U.S. dollar strengthens against the Israeli New Shekel, the decrease in the value of future foreign currency expenses is offset by losses in the fair value of the contracts designated as hedges. Conversely, when the U.S. dollar weakens significantly against the Israeli New Shekel, the increase in the value of future foreign currency expenses is offset by gains in the fair value of the contracts designated as hedges. The exposures are hedged using derivatives designated as cash flow hedges under ASC 815 Derivatives and Hedging. The effective portion of the derivative’s gain or loss is initially reported as a component of accumulated other comprehensive income (loss) and, on occurrence of the forecasted transaction, is subsequently reclassified to the consolidated statement of operations, primarily in research and development expenses. The ineffective portion of the gain or loss is recognized immediately in other income (expense), net, and for the three and six months ended June 30, 2011 and 2010, this amount was not material. The Company’s derivative instruments generally have maturities of 180 days or less, and hence all unrealized amounts as of June 30, 2011 will settle by December 31, 2011.
 
All of the derivative instruments are with high quality financial institutions and the Company monitors the creditworthiness of these parties. Amounts relating to these derivative instruments were as follows (in thousands):

   
As of June 30,
2011
   
As of December 31,
2010
 
             
Derivatives designated as hedging instruments:
           
Notional amount of currency option contracts: Israeli New Shekels   ILS 
27,000
    ILS 
27,000
 
Notional amount of currency option contracts: U.S. dollars
  $ 7,899     $ 7,548  
                 
Unrealized gains included in other comprehensive income on condensed consolidated balance sheets:
               
Unsettled - primarily included as other current assets
  $ 84     $ 104  
Settled - underlying derivative was settled but forecasted transaction has not occurred
    16       50  
Total unrealized gains included in other comprehensive income
  $ 100     $ 154  
 
The change in accumulated other comprehensive income (loss) from cash flow hedges included on the Company’s condensed consolidated balance sheets was as follows (in thousands):
 
   
Six Months Ended June 30,
 
   
2011
   
2010
 
             
Accumulated other comprehensive income (loss) related to cash flow hedges as of beginning of period
  $ 154     $ (151 )
Changes in settled and unsettled portion of cash flow hedges
    91       (239 )
      245       (390 )
Less:
               
Less changes in cash flow hedges: income (loss) reflected in condensed consolidated statement of operations
    145       (154 )
Accumulated other comprehensive income (loss) related to cash flow hedges as of end of period
  $ 100     $ (236 )
 
Stock-based Compensation
 
 The Company applies the fair value recognition and measurement provisions of ASC 718 Compensation — Stock Compensation. Stock-based compensation is recorded at fair value as of the grant date and recognized as an expense over the employee’s requisite service period (generally the vesting period), which the Company has elected to amortize on a straight-line basis.
 
Recently Issued Accounting Standards
 
In May 2011, the FASB issued ASU No. 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards (Topic 820) — Fair Value Measurement (ASU 2011-04). ASU 2011-04 provides a consistent definition of fair value and ensures that the fair value measurement and disclosure requirements are similar between U.S. GAAP and International Financial Reporting Standards. ASU 2011-04 changes certain fair value measurement principles and enhances the disclosure requirements particularly for level 3 fair value measurements. For public entities, ASU 2011-04 is effective during interim and annual periods beginning after December 15, 2011 and should be applied prospectively. The Company is currently evaluating the potential impact of the adoption of ASU 2011-04 on its consolidated financial position, results of operations or cash flows.
 
 
10

 
In June 2011, the FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220) — Presentation of Comprehensive Income (ASU 2011-05). ASU 2011-05 requires an entity to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. ASU 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of equity. For public entities, ASU 2011-05 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011, and should be applied retrospectively. The Company is currently evaluating the potential impact of the adoption of ASU 2011-05 on its consolidated financial position, results of operations or cash flows.
 
Recently Adopted Accounting Standards
 
As described above under Revenue Recognition, the Company adopted the provisions of ASU 2009-13 and ASU 2009-14 on a prospective basis for all transactions entered into or materially amended after December 31, 2010.
 
In December 2010, the FASB issued ASU 2010-28, Intangibles - Goodwill and Other (Topic 350) - When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts (ASU 2010-28)ASU 2010-28 modifies Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. In determining whether it is more likely than not that a goodwill impairment exists, an entity should consider whether there are any adverse qualitative factors indicating that an impairment may exist such as if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. The Company adopted ASU 2010-28 effective January 1, 2011, and this adoption did not have an impact on its consolidated financial condition, results of operations or cash flows.
 
3. Basic and Diluted Net Loss per Common Share
 
The computation of basic and diluted net loss per common share was as follows (in thousands, except per share data):
 
   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2011
   
2010
   
2011
   
2010
 
Numerator:
                       
Net loss
  $ (8,194 )   $ (9,641 )   $ (20,996 )   $ (18,410 )
                                 
Denominator:
                               
Weighted average shares used in basic and diluted net loss per common share
    70,312       68,018       70,079       67,667  
                                 
Basic and diluted net loss per common share
  $ (0.12 )   $ (0.14 )   $ (0.30 )   $ (0.27 )
 
As of June 30, 2011 and 2010, the Company had securities outstanding that could potentially dilute basic net income (loss) per common share in the future, but were excluded from the computation of net loss per common share for the periods presented as their effect would have been anti-dilutive as follows (shares in thousands):
 
   
As of June 30,
 
   
2011
   
2010
 
             
Stock options outstanding
    6,595       12,973  
Restricted stock units
    5,432       3,785  
Employee stock purchase plan shares
    172       267  
 
 
11

 
4. Fair Value
 
The fair value of the Company’s cash equivalents and marketable securities is determined in accordance with ASC 820 Fair Value Measurements and Disclosures (ASC 820). ASC 820 clarifies that fair value is an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants. As such, fair value is a market-based measurement that should be determined based on assumptions that market participants would use in pricing an asset or liability. As a basis for considering such assumptions, ASC 820 establishes a three-tier value hierarchy, which prioritizes the inputs used in measuring fair value as follows: observable inputs such as quoted prices in active markets (Level 1), inputs other than the quoted prices in active markets that are observable either directly or indirectly (Level 2) and unobservable inputs in which there is little or no market data, which requires the Company to develop its own assumptions (Level 3). This hierarchy requires the Company to use observable market data, when available, and to minimize the use of unobservable inputs when determining fair value. For the Company’s Level 2 investments, fair value was derived from non-binding market consensus prices that were corroborated by observable market data, quoted market prices for similar instruments, or pricing models, such as discounted cash flow techniques, with all significant inputs derived from or corroborated by observable market data. The Company’s discounted cash flow techniques use observable market inputs, such as LIBOR-based yield curves. The Company’s fair value measurements of its financial assets (cash, cash equivalents and marketable securities) were as follows as of June 30, 2011 (in thousands):
 
   
Level 1
   
Level 2
   
Level 3
   
Total
 
Marketable securities:
                       
Corporate debt securities
  $ -     $ 73,489     $ -     $ 73,489  
U.S. Agency debt securities
    -       26,668       -       26,668  
Commercial paper
    -       7,748       -       7,748  
      -       107,905       -       107,905  
Cash equivalents:
                               
Money market funds
    9,196       -       -       9,196  
Commercial paper
    -       2,000       -       2,000  
      9,196       2,000       -       11,196  
Total cash equivalents and marketable securities
  $ 9,196     $ 109,905     $ -       119,101  
Cash balances
                            8,802  
Total cash, cash equivalents and marketable securities
                          $ 127,903  
 
The Company’s fair value measurements of its financial assets (cash, cash equivalents and marketable securities) were as follows as of December 31, 2010 (in thousands):

   
Level 1
   
Level 2
   
Level 3
   
Total
 
Marketable securities:
                       
Corporate debt securities
  $ -     $ 69,728     $ -     $ 69,728  
U.S. Agency debt securities
    -       43,791       -       43,791  
Commercial paper
    -       8,493       -       8,493  
      -       122,012       -       122,012  
Cash equivalents:
                               
Money market funds
    7,111       -       -       7,111  
Commercial paper
    -       1,499       -       1,499  
      7,111       1,499       -       8,610  
Total cash equivalents and marketable securities
  $ 7,111     $ 123,511     $ -       130,622  
Cash balances
                            12,927  
Total cash, cash equivalents and marketable securities
                          $ 143,549  
 
In addition to the amounts disclosed in the above table, the fair value of the Company’s Israeli severance pay assets, which were almost fully comprised of Level 2 assets, was $4.2 million and $3.9 million as of June 30, 2011 and December 31, 2010, respectively. There were no movements between level 1 and level 2 financial assets for the six months ended June 30, 2011.
 
 
12

 
5. Balance Sheet Data
 
Marketable Securities
 
Marketable securities included available-for-sale securities as follows (in thousands):

   
As of June 30, 2011
 
   
Amortized Cost
   
Unrealized
Gain
   
Unrealized Loss
   
Estimated Fair Value
 
                         
Corporate debt securities
  $ 73,382     $ 128     $ (21 )   $ 73,489  
U.S. Agency debt securities
    26,661       10       (3 )     26,668  
Commercial paper
    7,744       4       -       7,748  
Total marketable securities
  $ 107,787     $ 142     $ (24 )   $ 107,905  
                                 
   
As of December 31, 2010
 
   
Amortized Cost
   
Unrealized
Gain
   
Unrealized Loss
   
Estimated Fair Value
 
                                 
Corporate debt securities
  $ 69,627     $ 131     $ (30 )   $ 69,728  
U.S. Agency debt securities
    43,795       8       (12 )     43,791  
Commercial paper
    8,491       2       -       8,493  
Total marketable securities
  $ 121,913     $ 141     $ (42 )   $ 122,012  
 
The contractual maturity date of the available-for-sale securities was as follows (in thousands):
 
   
As of June 30,
2011
   
As of December 31,
2010
 
             
Due within one year
  $ 78,870     $ 97,179  
Due within one to two years
    29,035       24,833  
Total marketable securities
  $ 107,905     $ 122,012  
 
Inventories, Net
 
Inventories, net were comprised as follows (in thousands):
 
   
As of June 30,
2011
   
As of December 31,
2010
 
             
Finished products
  $ 7,733     $ 9,110  
Raw materials
    3,141       2,007  
Total inventories, net
  $ 10,874     $ 11,117  
 
Prepaid Expenses and Other Current Assets
 
Prepaid expenses and other current assets were comprised as follows (in thousands):
 
   
As of June 30,
2011
   
As of December 31,
2010
 
             
Interest receivable
  $ 1,087     $ 1,156  
Prepaid maintenance
    654       813  
Taxes receivable
    559       543  
Other
    1,544       1,678  
Total prepaid expenses and other current assets
  $ 3,844     $ 4,190  
 
 
13

 
Property and Equipment, Net
 
Property and equipment, net is stated at cost, less accumulated depreciation. Depreciation is calculated using the straight-line method and recorded over the assets’ estimated useful lives of 18 months to seven years. Property and equipment, net was comprised as follows (in thousands):
 
   
As of June 30,
2011
   
As of December 31,
2010
 
             
Engineering and other equipment
  $ 23,697     $ 22,238  
Computers, software and related equipment
    17,474       17,215  
Leasehold improvements
    3,421       5,115  
Office furniture and fixtures
    953       1,110  
      45,545       45,678  
Less: accumulated depreciation
    (38,458 )     (37,590 )
Total property and equipment, net
  $ 7,087     $ 8,088  
 
Goodwill
 
Goodwill is carried at cost and is not amortized. The carrying value of goodwill was approximately $1.7 million as of June 30, 2011 and December 31, 2010.
 
Other Non-current Assets
 
Other non-current assets were comprised as follows (in thousands):
 
   
As of June 30,
2011
   
As of December 31,
2010
 
             
Israeli severance pay
  $ 4,163     $ 3,933  
Security deposit
    1,881       2,083  
Deferred tax assets
    530       530  
Other
    169       624  
Total other non-current assets
  $ 6,743     $ 7,170  
 
Deferred Revenues, Net
 
Deferred revenues, net were as follows (in thousands):

   
As of June 30,
2011
   
As of December 31,
2010
 
             
Deferred service revenues, net
  $ 21,806     $ 22,091  
Deferred product revenues, net
    4,366       4,379  
Total deferred revenues, net
    26,172       26,470  
Less current portion of deferred revenues, net
    (19,365 )     (18,143 )
Deferred revenues, net, less current portion
  $ 6,807     $ 8,327  
 
 
14

 
Other Liabilities
 
Other liabilities were comprised as follows (in thousands):

   
As of June 30,
2011
   
As of December 31,
2010
 
             
Foreign, franchise and other income tax liabilities
  $ 1,574     $ 1,230  
Accrued warranty
    983       1,147  
Deferred rent and restructuring liabilities
    922       1,015  
Accrued professional fees
    397       480  
Sales and use tax payable
    255       245  
Other
    923       1,841  
Total other liabilities
    5,054       5,958  
Less current portion of other liabilities
    (3,477 )     (4,266 )
Other liabilities, less current portion
  $ 1,577     $ 1,692  
 
Accrued Warranty
 
Activity related to product warranty was as follows (in thousands):

   
Six Months Ended June 30,
 
   
2011
   
2010
 
             
Balance as of beginning of period
  $ 1,147     $ 2,068  
Warranty charged to cost of sales
    243       142  
Utilization of warranty
    (297 )     (353 )
Other adjustments
    (110 )     (286 )
Balance as of end of period
    983       1,571  
Less current portion of accrued warranty
    (571 )     (818 )
Accrued warranty, less current portion
  $ 412     $ 753  
 
6. Restructuring Charges
 
On January 7, 2011, the Audit Committee under designation of the Board of Directors authorized a restructuring plan to respond to market and business conditions, pursuant to which the Company reduced headcount by approximately 9%, and vacated a portion of its Tel Aviv and Westborough, Massachusetts facilities. Approximately $1.0 million of severance and $1.0 million of vacated facility charges were incurred in the six months ended June 30, 2011. After the restructuring, the Company entered into a sublease for the vacated portion of its Tel Aviv facility.
 
Since its initial public offering in March 2007, the Company has undertaken restructurings from time to time. All of the restructuring plans were substantially complete as of June 30, 2011. Total restructuring activity for the six months ended June 30, 2011 was as follows (in thousands):
 
   
Balance as of December 31, 2010
   
Charges
   
Cash Payments
   
Other Non-Cash Adjustments (1)
   
Balance as of June 30, 2011
 
                               
Vacated facilities
  $ 563     $ 1,025     $ (374 )   $ (561 )   $ 653  
Severance
    38       982       (933 )     (87 )     -  
Total restructuring liability
  $ 601     $ 2,007     $ (1,307 )   $ (648 )     653  
Less restructuring liability, current portion
                              (636 )
Restructuring liability, less current portion
                            $ 17  
 
(1) Other non-cash adjustments primarily related to fixed assets written off as part of the Company's restrucuring plan.
 
 
15

 
7. Legal Proceedings
 
BigBand Networks, Inc. v. Imagine Communications, Inc., Case No. 07-351
 
 On June 5, 2007, the Company filed suit against Imagine Communications, Inc. in the U.S. District Court, District of Delaware, alleging infringement of certain U.S. Patents covering advanced video processing and bandwidth management techniques. The lawsuit seeks injunctive relief, along with monetary damages for willful infringement. The Company is subject to certain counterclaims by which Imagine Communications, Inc. has challenged the validity and enforceability of the Company’s asserted patents. The Company intends to defend itself vigorously against such counterclaims. No trial date has been set. At this stage of the proceeding, it is not possible for the Company to quantify the extent of potential liabilities, if any, resulting from the alleged counterclaims.
 
8. Stockholders’ Equity
 
The Company allocated stock-based compensation expense as follows (in thousands):
 
   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2011
   
2010
   
2011
   
2010
 
                         
Cost of net revenues
  $ 485     $ 610     $ 901     $ 1,176  
Research and development
    1,100       1,365       2,205       2,687  
Sales and marketing
    346       642       714       1,311  
General and administrative
    608       1,008       1,407       2,209  
Total stock-based compensation
  $ 2,539     $ 3,625     $ 5,227     $ 7,383  
 
Equity Incentive Plans
 
Since March 15, 2007, the Company has granted options and restricted stock units (RSUs) pursuant to its 2007 Equity Incentive Plan (2007 Plan). The 2007 Plan allows the Company to award incentive and non-qualified stock options, restricted stock, RSUs and stock appreciation rights to employees, officers, directors and consultants of the Company. Options under the 2007 Plan are granted at an exercise price that equals the closing value of the Company’s common stock on the date of grant, generally are exercisable in installments vesting over a four-year period and generally have a maximum term of ten years from the date of grant. The Company issues new shares for all awards under the 2007 Plan.
 
On October 18, 2010, the Company’s stockholders approved a one-time voluntary stock option exchange program (Exchange Program) that permitted eligible employees to exchange certain outstanding stock options that had exercise prices substantially in excess of the fair market value of the Company’s common stock for a lesser number of RSUs to be granted under the Company’s 2007 Plan and the Israeli Sub-plan thereunder. The Exchange Program commenced on October 21, 2010 and ended on November 18, 2010. Following the exchange, options to purchase approximately 5.2 million shares were exchanged for 1.8 million RSUs. The incremental stock compensation charge related to the Exchange Program was not material.
 
The Company has options outstanding under its 1999, 2001 and 2003 share option and incentive plans. Cancelled or forfeited stock option grants under these plans are added to the total amount of shares available for grant under the 2007 Plan. The 2007 Plan contains an “evergreen” provision, pursuant to which the number of shares available for issuance under the 2007 Plan shall be increased on the first day of the fiscal year, in an amount equal to the least of (a) 6,000,000 shares, (b) 5% of the outstanding shares on the last day of the immediately preceding fiscal year or (c) such number of shares determined by the Board of Directors. On February 16, 2011, the Board of Directors determined there would be no evergreen increase under the 2007 Plan for 2011. Shares available for future issuance under the 2007 Plan were as follows (in thousands):

   
Shares
 
       
Available as of December 31, 2010
    12,219  
Options and RSU granted
    (2,826 )
Options and RSU cancelled
    1,411  
Available as of June 30, 2011
    10,804  
 
 
16

 
Data pertaining to stock option activity under the plans was as follows (in thousands, except per share and period data):
 
   
Number
of
Options
   
Weighted
Average
Exercise
Price
   
Weighted Average
Remaining
Contractual Life (Years)
   
Aggregate
Intrinsic
Value
 
                         
Outstanding as of December 31, 2010
    6,376     $ 2.71       6.48     $ 3,993  
Granted
    933       2.49                  
Exercised
    (99 )     1.17             $ 128  
Cancelled
    (615 )     3.84                  
Outstanding as of June 30, 2011
    6,595     $ 2.60       6.57     $ 2,449  
Vested and expected to vest, net of forfeitures
    6,408     $ 2.59       6.48     $ 2,448  
 
The intrinsic value of an outstanding option is calculated based on the difference between its exercise price and the closing price of the Company’s common stock on the last trading date in the period, or in the case of an exercised option, it is based on the difference between its exercise price and the actual fair market value of the Company’s common stock on the date of exercise. Stock options with exercise prices greater than the closing price of the Company’s common stock on the last trading day of the period have an intrinsic value of zero. The aggregate intrinsic values for options outstanding in the preceding table are based on the Company’s closing stock prices of $2.17 and $2.80 per share as of June 30, 2011 and December 31, 2010, respectively. As of June 30, 2011, total unrecognized stock compensation expense relating to unvested stock options, adjusted for estimated forfeitures expected to be recognized over a future weighted-average period of 3.0 years, was approximately $2.0 million.
 
Restricted Stock Units
 
Except for performance based awards (which track performance against the Company’s incentive compensation plan targets), RSU grants under the 2007 Plan generally vest in increments over three to four years from the date of grant. The RSUs are classified as equity awards because the RSUs are paid only in shares upon vesting. RSU awards are measured at the fair value at the date of grant, which corresponds to the closing stock price of the Company’s common stock on the date of grant. RSUs expected to vest reflect an estimated forfeiture rate. The Company’s RSU activity was as follows (in thousands, except per share data):

   
Restricted
Stock Units
   
Weighted
Average
Grant-Date
Fair Value
   
Weighted Average
Remaining
Contractual Life (Years)
   
Aggregate
Intrinsic
Value
 
                         
Unvested as of December 31, 2010
    4,946     $ 3.57       1.28     $ 13,893  
Granted
    1,893       2.60                  
Vested
    (611 )     4.42             $ 1,506  
Cancelled
    (796 )     3.40                  
Unvested as of June 30, 2011
    5,432     $ 3.14       0.96     $ 11,789  
Vested and expected to vest, net of forfeitures
    5,195     $ 3.14       0.93     $ 11,274  
 
As of June 30, 2011, total unrecognized stock compensation expense relating to unvested RSUs, adjusted for estimated forfeitures, was $13.5 million, and is expected to be recognized over a future weighted-average period of 1.6 years.
 
In June 2010, the Company granted 91,000 RSUs to the Company’s chief executive officer which vest in five years; however, vesting will accelerate if certain stock performance criteria are attained. The stock compensation expense for these RSUs is being recorded over their estimated vesting period using the Monte Carlo method and such expense was immaterial for the six months ended June 30, 2011 and 2010, respectively.
 
During 2010, the Company granted approximately 450,000 performance-based vesting RSUs to its employees, including the Company’s executive officers, as part of its incentive compensation plan (ICP) program for the second half of 2010. Compensation under the 2010 ICP program was based on cash and performance-based vesting RSUs. Since no ICP payout for this period was earned, none of these performance-based vesting RSUs vested, and the Company recorded no expense. Instead, approximately 350,000 of these performance-based vesting RSUs were modified and reused as part of its ICP program for the first half of 2011, with the remainder being cancelled and made available for future issuance. In addition, during the six months ended June 30, 2011, the Company granted approximately 0.8 million RSUs as a result of its decision to compensate all participants in the first half of 2011 ICP through RSUs. As a result, as of June 30, 2011, the Company had approximately 1.1 million RSUs outstanding for which vesting is subject to the achievement of performance targets, including one or both of individual and Company financial performance targets. Stock compensation recognized for these ICP RSUs was $0.9 million and $1.6 million for the three and six months ended June 30, 2011, which reflects an expected vesting of approximately 70% of the 1.1 million RSUs .
 
 
17

 
Employee Stock Purchase Plan
 
Under the Company’s 2007 Employee Stock Purchase Plan (ESPP), employees may purchase shares of common stock at a price per share that is 85% of the fair market value of the Company’s common stock as of the beginning or the end of each six month offering period, whichever is lower. The ESPP contains an evergreen provision, pursuant to which an annual increase may be added on the first day of each fiscal year, equal to the least of (i) 3,000,000 shares of the Company’s common stock, (ii) 2% of the outstanding shares of the Company’s common stock on the first day of the fiscal year or (iii) an amount determined by the Board of Directors. On February 16, 2011, the Board of Directors determined there would be no evergreen increase under the ESPP for 2011. The ESPP is compensatory in nature, and therefore results in compensation expense. The Company recorded stock-based compensation expense associated with its ESPP of $60,000 and $137,000 for the three and six months ended June 30, 2011, respectively. The Company recorded stock-based compensation expense associated with its ESPP of $74,000 and $0.2 million for the three and six months ended June 30, 2010, respectively. Shares available for future issuance under the ESPP were as follows (in thousands):

   
Shares
 
       
Available as of December 31, 2010
    3,316  
Common shares issued
    (205 )
Available as of June 30, 2011
    3,111  
 
Stock-Based Compensation
 
The Company uses the Black-Scholes option-pricing model to determine the fair value of stock-based awards, including ESPP awards, under ASC 718. This model incorporates various subjective assumptions including expected volatility, expected term and interest rates. The fair value of each new option awarded was estimated on the grant date using the assumptions noted as follows:

   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2011
   
2010
   
2011
   
2010
 
Stock Options
                       
Expected volatility
    65 %     67 %     65-66 %     67-73 %
Expected term
 
6 years
   
6 years
   
6 years
   
6 years
 
Risk-free interest
    2.24 %     2.60 %     2.24-2.47 %     2.60-2.80 %
Expected dividends
    0.0 %     0.0 %     0.0 %     0.0 %
 
The computation of expected volatility is derived primarily from the Company’s weighted historical volatility following its IPO in March 2007 and to a lesser extent the weighted historical volatilities of several comparable companies within the cable and telecommunications equipment industry. The risk-free interest factor is based on the U.S. Treasury yield curve in effect at the time of grant for zero coupon U.S. Treasury notes with maturities approximately equal to each grant’s expected term. For all periods presented, the Company has elected to use the simplified method of determining the expected term as permitted by SEC Staff Accounting Bulletin (SAB) 107 as revised by SAB 110. The Company estimates its forfeiture rate based on an analysis of its actual forfeitures and will continue to evaluate the adequacy of the forfeiture rate based on actual forfeiture experience, analysis of employee turnover behavior, and other factors. Estimates, including achievement of incentive compensation plan targets, are evaluated each reporting period and adjusted, if necessary, by recognizing the cumulative effect of the change in estimate on compensation costs recognized in prior periods. 
 
 
18

 
 9. Segment Reporting
 
The Company has a single reporting segment. Enterprise-wide disclosures related to revenues and long-lived assets are described below. Net revenues by geographical region were allocated based on the shipping destination of customer orders, and were as follows (in thousands):

   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2011
   
2010
   
2011
   
2010
 
                         
United States
  $ 18,151     $ 23,618     $ 35,787     $ 52,304  
Asia
    948       2,171       1,323       4,561  
Europe
    189       364       369       1,143  
Americas excluding United States
    490       240       664       620  
Total net revenues
  $ 19,778     $ 26,393     $ 38,143     $ 58,628  
 
Long-lived assets, comprised of property and equipment, net of depreciation were as follows (in thousands):
 
   
As of June 30,
   
As of December 31,
 
   
2011
   
2010
 
             
Israel
  $ 3,660     $ 3,829  
United States
    2,870       3,584  
Rest of World
    557       675  
Total long-lived assets, net
  $ 7,087     $ 8,088  
 
10. Income Taxes
 
As part of the process of preparing its unaudited condensed consolidated financial statements, the Company is required to estimate its income taxes in each of the jurisdictions in which it operates. This process involves estimating the current tax liability under the most recent tax laws and assessing temporary differences resulting from the differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included on the unaudited condensed consolidated balance sheets.
 
Income tax expense was $0.2 million and $0.4 million for the three and six months ended June 30, 2011, respectively. Income tax benefit was $0.3 million and $0.2 million for the three and six months ended June 30, 2010, respectively. The effective tax rates for these periods differed from the U.S. federal statutory rate primarily due to the differential in foreign tax rates on cost-plus foreign jurisdictions, non deductible stock compensation expense, other currently non-deductible items, and movement in the Company’s valuation allowance.
 
11. Comprehensive Loss
 
 The components of comprehensive loss were as follows (in thousands):

   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2011
   
2010
   
2011
   
2010
 
                         
Net loss
  $ (8,194 )   $ (9,641 )   $ (20,996 )   $ (18,410 )
Change in cash flow hedges
    176       (161 )     (54 )     (85 )
Change in unrealized gains (losses) on marketable securities
    53       (113 )     19       (241 )
Comprehensive loss
  $ (7,965 )   $ (9,915 )   $ (21,031 )   $ (18,736 )
 
Accumulated other comprehensive income was as follows (in thousands): 
 
   
As of June 30,
   
As of December 31,
 
   
2011
   
2010
 
             
Net unrealized gains on cash flow hedges
  $ 100     $ 154  
Net unrealized gains on marketable securities
    118       99  
Total accumulated other comprehensive income
  $ 218     $ 253  

 
19


Item 2.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
This quarterly report on Form 10-Q contains “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements include statements as to industry trends and our future expectations and other matters that do not relate strictly to historical facts. These statements are often identified by the use of words such as “may,” “will,” “expect,” “believe,” “anticipate,” “project”, “intend,” “could,” “estimate,” or “continue,” and similar expressions or variations. These statements are based on the beliefs and assumptions of our management based on information currently available to management. Such forward-looking statements are subject to risks, uncertainties and other factors that could cause actual results and the timing of certain events to differ materially from the future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, those discussed in the section titled “Risk Factors” and those included elsewhere in this Form 10-Q. Furthermore, such forward-looking statements speak only as of the date of this report. We undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.
 
Overview
 
We develop, market and sell network-based platforms that enable cable multiple system operators (MSOs) and telecommunications companies (collectively, service providers) to offer video services across coaxial, fiber and copper networks. We were incorporated in Delaware in December 1998. Since that time, we have developed significant expertise in rich media processing, communications networking and bandwidth management. Our customers are using our platforms to expand high-definition television (HDTV) services and enable high-quality video advertising programming to subscribers. Our Broadcast Video, TelcoTV, Switched Digital Video and IPTV (Personalized Video) solutions are comprised of a combination of software and programmable hardware platforms.
 
We have sold our solutions to more than 200 customers globally. We sell our products and services to customers in the U.S. and Canada through our direct sales force. Domestically, our customers include AT&T, Bright House, Cablevision, Charter Communications, Comcast, Cox, Time Warner Cable and Verizon, which are eight of the ten largest service providers in the U.S. We sell to customers internationally through a combination of direct sales and resellers.
 
Net Revenues. We derive our net revenues principally from our video products and related service offerings. Our sales cycle typically ranges from six to eighteen months, but can be longer if the sale relates to new product introductions. Our sales process generally involves several stages before we can recognize revenues on the sale of our products. As a provider of advanced technologies, we seek to actively participate with our existing and potential customers in the evaluation of their technology needs and network architectures, including the development of initial designs and prototypes. Following these activities, we typically respond to a service provider’s request for proposal, configure our products to work within our customer’s network architecture, and test our products first in laboratory testing and then in field environments to ensure interoperability with existing products in the service provider’s network. Following testing, our revenue recognition generally depends on satisfying the acceptance criteria specified in our contract with the customer and our customer’s schedule for roll-out of the product. Completion of several of these stages is substantially outside of our control, which causes our revenue patterns from a given customer to vary widely from period to period. After initial deployment of our products, subsequent purchases of our products typically have a more compressed sales cycle.
 
Due to the concentrated nature of the cable and telecommunications industries, we sell our products to a limited number of large customers. Within a given quarter, our revenues from our large customers can vary significantly based upon their budgetary cycles and implementation schedules. For the three months ended June 30, 2011 and 2010, we derived approximately 64% and 79%, respectively, of our net revenues from our top five customers. This decline in concentration from the top 5 customers was primarily due to lower order volume from these larger customers. For the six months ended June 30, 2011 and 2010, we derived approximately 72% and 75%, respectively, of our net revenues from our top five customers. We believe that for the foreseeable future our net revenues will continue to be highly concentrated with a limited number of large customers. The loss of one or more of our large customers, or the cancellation or deferral of purchases by one or more of these customers, would have a material adverse impact on our revenues and operating results. We often recognize a substantial portion of our revenues in the last month of a quarter, which limits our visibility to estimate future revenues, product mix and gross margins.
 
Our service revenues include ongoing customer support and maintenance, product installation and training. Our customer support and maintenance is available in a tiered offering at either a standard or an enhanced level. The majority of our customers have purchased our enhanced level of customer support and maintenance. Our accounting for revenues is complex, and we account for revenues in accordance with applicable U.S. generally accepted accounting principles (GAAP).
 
Cost of Net Revenues. Our cost of product revenues consists primarily of payments for components and product assembly, costs of product testing, provisions recorded for excess and obsolete inventory, provisions recorded for warranty obligations, manufacturing overhead and allocated facilities and information technology expense. Cost of service revenues is primarily comprised of personnel costs in providing technical support, costs incurred to support deployment and installation within our customers’ networks, training costs and allocated facilities and information technology expense.
 
 
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Gross Margin. Our gross profit as a percentage of net revenues, or gross margin, has been and will continue to be affected by a variety of factors, including the mix of software, hardware and services sold, and the average selling prices of our products. We achieve a higher gross margin on the software content of our products compared to the hardware content. In general, we expect the average selling prices of our products to be adversely impacted by competitive pricing pressures, but we seek to control the impact to our gross margins by introducing new products with higher margins, selling software enhancements for existing products, achieving price reductions for components and improving product design to reduce costs. Our gross margins for products are also influenced by the specific terms of our contracts, which may vary significantly from customer to customer based on the type of products sold, the overall size of the customer’s order, and the architecture of the customer’s network, which can influence the amount and complexity of design, integration and installation services. Our overhead costs for our services are relatively fixed, and fluctuations of our service revenues impact our service gross margin, which historically has been, and we expect will continue to be, higher than our product gross margin.
 
Operating Expenses. Our operating expenses consist of research and development, sales and marketing, general and administrative, restructuring and other charges. Personnel-related costs are the most significant component of our operating expenses. We expect our operating expenses to increase modestly in absolute dollars for the three months ending September 30, 2011 compared to the three months ended June 30, 2011, primarily due to higher personnel related costs within research and development expenses.
 
Research and development expense is the largest functional component of our operating expenses and consists primarily of personnel costs, independent contractor costs, prototype expenses, and other allocated facilities and information technology expense. All research and development costs are expensed as incurred. Our development teams are located in Tel Aviv, Israel; Shenzhen, China; Westborough, Massachusetts and Redwood City, California. Sales and marketing expense relates primarily to compensation and associated costs for marketing and sales personnel, sales commissions, promotional and other marketing expenses, travel, trade-show expenses and allocated facilities and information technology expense. Marketing programs are intended to generate revenues from new and existing customers and are expensed as incurred. General and administrative expense consists primarily of compensation and associated costs for general and administrative personnel, professional services and allocated facilities and information technology expenses. Professional services consist of outside legal, accounting and other consulting costs.
 
Critical Accounting Policies and Estimates
 
Our consolidated financial statements have been prepared in accordance with U.S. GAAP, and pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). The preparation of our consolidated financial statements requires our management to make estimates, assumptions, and judgments that affect the reported amounts of assets and liabilities, and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the applicable periods. Management bases its estimates, assumptions, and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances. Different assumptions and judgments would change the estimates used in the preparation of our consolidated financial statements, which, in turn, could change the results from those reported. Our management evaluates its estimates, assumptions and judgments on an ongoing basis.
 
Critical accounting policies that affect our more significant judgments and estimates used in the preparation of our condensed consolidated financial statements include accounting for revenue recognition, the valuation of inventories, warranty liabilities, stock- based compensation, the allowance for doubtful accounts, the impairment of long-lived assets, and income taxes, the policies of which are discussed under the caption “Critical Accounting Policies and Estimates” in our 2010 Form 10-K filed with the SEC on March 9, 2011. For additional information on the recent accounting pronouncements impacting our business, see Note 2 of the Notes to Condensed Consolidated Financial Statements. With the exception of the adoption of guidance related to revenue recognition, discussed below, there have been no significant changes in our accounting policies during the six months ended June 30, 2011 compared to the significant accounting policies described in our Form 10-K.
 
Revenue Recognition
 
In October 2009, the Financial Accounting Standards Board (FASB) issued ASU 2009-13 Revenue Recognition (Topic 605): Multiple-Deliverable Revenue Arrangements — a consensus of the FASB Emerging Issues Task Force (ASU 2009-13) and ASU 2009-14 Software (Topic 985): Certain Revenue Arrangements That Include Software Elements — a consensus of the FASB Emerging Issues Task Force (Accounting Standards Update (ASU) 2009-14). ASU 2009-13 and 14 amended the accounting standards for revenue recognition to remove tangible products containing software components and nonsoftware components that function together to deliver the product’s essential functionality from the scope of industry-specific software revenue recognition guidance, and also:
 
provide updated guidance on whether multiple deliverables exist, how the deliverables in an arrangement should be separated, and how the consideration should be allocated;
 
require an entity to allocate revenue in an arrangement using estimated selling prices (ESP) of deliverables if we do not have vendor-specific objective evidence of selling price (VSOE) or third-party evidence of selling price (TPE); and
 
eliminate the use of the residual method and require an entity to allocate revenue using the relative selling price method.
 
 
21

 
We adopted the provisions of ASU 2009-13 and 14, prospectively, for all transactions originating or materially modified after December 31, 2010. This guidance does not generally change the units of accounting for our revenue transactions. Most products and services qualify as separate units of accounting. The adoption of ASU 2009-13 and 14 did not have a material impact on our consolidated financial condition, operating revenues, results of operations or cash flows, and we do not expect a material impact in future periods.
 
Our software and hardware product applications are sold as solutions and our software is a significant component to the functionality of these solutions. We provide unspecified software updates and enhancements related to products through support contracts. Revenue is recognized when all of the following have occurred: (1) we have entered into an arrangement with a customer; (2) delivery has occurred; (3) customer payment is fixed or determinable and free of contingencies and significant uncertainties; and (4) collection is probable.
 
Product revenues consist of sales of our software and hardware products. Software product sales include a perpetual license to our software. We recognize product revenues upon shipment to our customers, including resellers, on non-cancellable contracts and purchase orders when all revenue recognition criteria are met, or, if specified in an agreement, upon receipt of final acceptance of the product, provided all other criteria are met. End users generally have no rights of return, stock rotation rights or price protection. Shipping charges billed to customers are included in product revenues and the related shipping costs are included in cost of product revenues.
 
We sell our products and services to customers in North America through our direct sales force, and we sell to customers internationally through a combination of direct sales and resellers. Sales to our resellers are final and the resellers do not have any rights of return, product rotation rights, or price protection.
 
Substantially all of our product sales have been made in combination with support services, which consist of software updates and customer support. Our customer service agreements allow customers to select from plans offering various levels of technical support, unspecified software upgrades and enhancements on an if-and-when-available basis. Revenues for support services are recognized on a straight-line basis over the service contract term, which is typically one year but generally extends to five years for our telecommunications customers. Revenues from other services, such as installation, program management and training, are recognized when the services are performed.
 
We assess the ability to collect from our customers based on a number of factors, including the credit worthiness of the customer and the past transaction history of the customer. If the customer is not deemed credit worthy, all revenues are deferred from the arrangement until payment is received and all other revenue recognition criteria have been met.
 
Deferred revenues consist primarily of deferred service fees (including customer support and professional services such as installation, program management and training) and product revenues, net of the associated costs. Deferred product revenues and related costs generally relate to acceptance provisions that have not been met, partial shipment or for transactions entered into before December 31, 2010, for which we did not have VSOE of fair value on the undelivered items. When deferred revenues are recognized as revenues, the associated deferred costs are also recognized as cost of net revenues.
 
For all transactions entered into after December 31, 2010, we recognize revenues using estimated selling prices of the delivered goods and services based on a hierarchy of methods contained in ASU 2009-13. We use VSOE for determination of estimated selling price of elements in each arrangement if available, and since third party evidence is not available for those elements where vendor specific objective evidence of selling price cannot be determined, we evaluate factors to determine our ESP for all other elements. In multiple element arrangements where hardware and software are sold as part of the solution, revenue is allocated to the hardware and software as a group using the relative selling prices of each of the deliverables in the arrangement based upon the aforementioned selling price hierarchy.
 
We have established VSOE of fair value for elements of an arrangement for our professional services and customer support.  VSOE for professional services is based upon the normal pricing and discounting practices for those services when sold separately; whereas support services is measured by the renewal rate (support price as a percentage of product value) to the customer. In determining VSOE, we require that a substantial majority of the selling prices for a service fall within a reasonably narrow pricing range, generally evidenced by approximately 80% of such historical stand-alone transactions falling within plus or minus 15% of the mean rates. In addition, we may consider major service groups, geographies, customer classifications, and other variables in determining VSOE.
 
We typically are not able to determine TPE for our products or services. TPE is determined based on competitor prices for similar deliverables when sold separately. Generally, our go-to-market strategy differs from that of our peers and our offerings contain a significant level of differentiation such that the comparable pricing of products with similar functionality cannot be obtained. Furthermore, we are unable to reliably determine what similar competitor products’ selling prices are on a stand-alone basis.
 
When we are unable to establish selling price of our non-software deliverables using VSOE or TPE, we use ESP in our allocation of arrangement consideration. The objective of ESP is to determine the price at which we would transact a sale if the product or service were sold on a stand-alone basis. We determine ESP for a product or service based on historical sales trending of discount from list price by customer class and anticipated customer pricing strategy. We may also consider other factors including, but not limited to, product, geographies, and distribution channels.
 
 
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We regularly review VSOE and ESP and maintain internal controls over the establishment and updates of these estimates. There were no material impacts during the three and six months ended June 30, 2011, nor do we currently expect a material impact in the near term from changes in VSOE or ESP.
 
 Results of Operations
 
Our results of operations were as follows (amounts in thousands except percentages):

     Three Months Ended June 30,     Six Months Ended June 30,  
   
2011
     
2010
     
2011
     
2010
 
   
Amount
   
% of Revenues
     
Amount
   
% of Revenues
     
Amount
   
% of Revenues
     
Amount
   
% of Revenues
 
                                                       
Net revenues:
                                                     
Products
  $ 10,258       51.9  
 %
  $ 16,605       62.9  
 %
  $ 19,787       51.9  
 %
  $ 41,486       70.8 %
Services
    9,520       48.1         9,788       37.1         18,356       48.1         17,142       29.2  
Total net revenues
    19,778       100.0         26,393       100.0         38,143       100.0         58,628       100.0  
Total cost of net revenues
    8,973       45.4         12,434       47.1         17,782       46.6         29,635       50.5  
Total gross profit
    10,805       54.6         13,959       52.9         20,361       53.4         28,993       49.5  
                                                                       
Operating expenses:
                                                                     
Research and development
    10,677       54.0         13,110       49.7         22,060       57.8         26,602       45.4  
Sales and marketing
    4,973       25.1         5,998       22.7         10,085       26.4         12,048       20.5  
General and administrative
    3,367       17.1         4,010       15.2         7,181       18.9         8,536       14.6  
Restructuring charges
    -       -         1,039       3.9         2,007       5.3         1,039       1.8  
Total operating expenses
    19,017       96.2         24,157       91.5         41,333       108.4         48,225       82.3  
                                                                       
Operating loss
    (8,212 )     (41.6 )       (10,198 )     (38.6 )       (20,972 )     (55.0 )       (19,232 )     (32.8 )
Interest income
    218       1.1         337       1.3         424       1.1         852       1.5  
Other income (expense), net
    22       0.2         (95 )     (0.4 )       (8 )     -         (183 )     (0.4 )
Loss before provision for (benefit from) income taxes
    (7,972 )     (40.3 )       (9,956 )     (37.7 )       (20,556 )     (53.9 )       (18,563 )     (31.7 )
Provision for (benefit from) income taxes
    222       1.1         (315 )     (1.2 )       440       1.1         (153 )     (0.3 )
Net loss
  $ (8,194 )     (41.4 )
 %
  $ (9,641 )     (36.5 )
 %
  $ (20,996 )     (55.0 )
 %
  $ (18,410 )     (31.4 )  %
 
Net Revenues. Total net revenues decreased 25.1% to $19.8 million for the three months ended June 30, 2011 from $26.4 million for the three months ended June 30, 2010. The decrease was due to a $6.3 million decrease in product revenues and a $0.3 million decrease in service revenues.
 
Total net revenues decreased 34.9% to $38.1 million for the six months ended June 30, 2011 from $58.6 million for the six months ended June 30, 2010. The decrease was due to a $21.7 million decrease in product revenues, partially offset by a $1.2 million increase in service revenues.
 
Revenues from our top five customers comprised approximately 64% and 79% of net revenues for the three months ended June 30, 2011 and 2010, respectively. Bright House, Charter Communications, Time Warner Cable and Verizon each represented 10% or more of our net revenues for the three months ended June 30, 2011. Time Warner Cable and Verizon each represented 10% or more of our net revenues for the three months ended June 30, 2010.
 
Revenues from our top five customers comprised approximately 72% and 75% of net revenues for the six months ended June 30, 2011 and 2010, respectively. Charter Communications, Time Warner Cable and Verizon each represented 10% or more of our net revenues for the six months ended June 30, 2011. Time Warner Cable and Verizon each represented 10% or more of our net revenues for the six months ended June 30, 2010.
 
Time Warner Cable represented less than 20% of our net revenues for the three months ended June 30, 2011 compared to slightly more than 35% of our net revenues for the three months ended June 30, 2010. For the six months ended June 30, 2011, Time Warner Cable represented slightly less than 20% of our net revenues compared to approximately 40% for the six months ended June 30, 2010. Net revenues from Time Warner Cable decreased in absolute dollars and as a percentage of total net revenues in the 2011 periods due to minimal expansion of our Switched Digital Video solution in 2011 compared to a large scale multi-site roll out of both our Broadcast Video and Switched Digital Video solutions in the 2010 periods.
 
Verizon represented approximately 15% of our net revenues for the three months ended June 30, 2011 compared to slightly more than 20% of our net revenues for the three months ended June 30, 2010. For the six months ended June 30, 2011, Verizon represented slightly more than 20% of our net revenues compared to slightly more than 15% of our net revenues for the six months ended June 30, 2010, as the decrease in their revenues was at a lower rate than our overall revenues decrease. Net revenues from Verizon decreased in absolute dollars in the 2011 periods from the comparable prior periods due to a decline in order volume as Verizon has slowed the rollout of its FiOS system, which we expect to continue for the remainder of 2011.
 
 
23

 
While AT&T represented less than 10% of our net revenues for the three and six months ended June 30, 2011 and 2010, we expect their revenues to represent more than 10% of our net revenues for the first time in the second half of 2011 as they deploy our Media Services Platform (MSP) as part of AT&T’s U-verse® TV’s local ad insertion solution.
 
Net revenues by geographic region based on the shipping destination of customer orders was as follows (amounts in thousands except percentages):

   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2011
   
2010
   
2011
   
2010
 
                                                 
                                                 
United States
  $ 18,151       91.7 %   $ 23,618       89.5 %   $ 35,787       93.8 %   $ 52,304       89.2 %
Asia
    948       4.8       2,171       8.2       1,323       3.5       4,561       7.8  
Europe
    189       1.0       364       1.4       369       1.0       1,143       1.9  
Americas excluding United States
    490       2.5       240       0.9       664       1.7       620       1.1  
    $ 19,778       100.0 %   $ 26,393       100.0 %   $ 38,143       100.0 %   $ 58,628       100.0 %
 
Product Revenues. Product revenues decreased 38.2% to $10.3 million for the three months ended June 30, 2011 from $16.6 million for the three months ended June 30, 2010. This $6.3 million decrease was primarily due to a $3.7 million decrease in Switched Digital Video revenues due to a decline in order volume. Additionally, TelcoTV revenues decreased by $2.8 million due to lower order volumes for expansion and upgrades for Verizon’s FiOS solution.
 
Product revenues decreased 52.3% to $19.8 million for the six months ended June 30, 2011 from $41.5 million for the six months ended June 30, 2010. This $21.7 million decrease was primarily due to a $17.4 million decrease in Switched Digital Video (SDV) revenues. We deliver our SDV solution generally by combining our core media processing modules with our converged video exchange platform, and Broadband Edge QAM. As SDV deployments were substantially completed by some SDV adopters and new international and domestic deployments are not expected to affect our 2011 revenues to the same scale, we currently believe our SDV revenues will decline in absolute dollars in 2011 compared to 2010. This decrease was slightly offset by a modest increase in IPTV (Personalized Video) revenues. Our IPTV solution received final lab certification from AT&T and based on their deployment schedule, we believe that we will have more meaningful IPTV product revenues in fiscal 2011 compared to 2010.
 
Service Revenues. Service revenues decreased 2.7% to $9.5 million for the three months ended June 30, 2011 from $9.8 million for the three months ended June 30, 2010. This decrease was primarily due to a $0.9 million decrease in Video customer support and maintenance revenues primarily due to the timing of the renewal orders. Installation and training revenues increased $0.6 million due to an increase in order volume from both new and existing customers.
 
Service revenues increased 7.1% to $18.4 million for the six months ended June 30, 2011 from $17.1 million for the six months ended June 30, 2010. This increase was primarily due to a $0.9 million increase in installation and training revenues related from both new and existing customer deployments. Video customer support and maintenance revenues increased $0.3 million for the six months ended June 30, 2011 from the comparable prior period due to the continued growth in our installed customer base.
 
Gross Profit and Gross Margin
 
Gross Profit. Gross profit for the three months ended June 30, 2011 was $10.8 million compared to $14.0 million for the three months ended June 30, 2010, a decrease of 22.6%. Gross margin increased to 54.6% for the three months ended June 30, 2011 compared to 52.9% for the three months ended June 30, 2010.
 
Gross profit for the six months ended June 30, 2011 was $20.4 million compared to $29.0 million for the six months ended June 30, 2010, a decrease of 29.8%. Gross margin increased to 53.4% for the six months ended June 30, 2011 compared to 49.5% for the six months ended June 30, 2010.
 
Product Gross Margin. Product gross margin for the three months ended June 30, 2011 was 39.7% compared to 43.4% for the three months ended June 30, 2010. This decrease was primarily due to decreased product revenues that resulted in a lower absorption of our fixed manufacturing costs. Our write-downs for inventory charged to cost of net product revenues were $0.7 million and $0.3 million for the three months ended June 30, 2011 and 2010, respectively, related primarily to a projected decrease in demand for some of our legacy products that will be replaced by our newer solutions commencing in 2012. Manufacturing overhead expenses for the three months ended June 30, 2011 was $1.3 million compared to $2.3 million for the three months ended June 30, 2010, a decrease of 44.0%. We reduced our facility, travel and other discretionary expenses by $0.5 million due to our cost containment efforts, and wages and benefits decreased $0.4 million due to lower headcount. Product gross margin for the three months ended June 30, 2011 and 2010 included stock-based compensation expense of $0.3 million and $0.4 million, respectively.
 
Product gross margin for the six months ended June 30, 2011 was 39.6% compared to 43.8% for the six months ended June 30, 2010. This decrease was primarily due to decreased product revenues that resulted in a lower absorption of our fixed manufacturing costs. Our write-downs for inventory charged to cost of net product revenues were $1.0 million and $0.5 million for the six months ended June 30, 2011 and 2010, respectively, related primarily to a decrease in projected demand for some of our legacy products that will be replaced by our newer solutions commencing in 2012. Manufacturing overhead expenses for the six months ended June 30, 2011 were $2.6 million compared to $4.5 million for the six months ended June 30, 2010, a decrease of 42.4%. Wages and benefits decreased $0.9 million related to decreased headcount. Additionally, we reduced our facility, travel and other discretionary expenses by $0.8 million due to our cost containment efforts. Product gross margin for the six months ended June 30, 2011 and 2010 included stock-based compensation expense of $0.5 million and $0.7 million, respectively.
 
 
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Our product solutions require lead time to manufacture, and therefore we are required to order certain inventory in advance of anticipated sales. We have considered the likely impact that our inventory balance as of June 30, 2011 may have on our pricing, gross margins and on our provision for excess and obsolete inventory. Based on our forecasted booking and shipment projections, we believe that our provision for excess and obsolete inventory was adequate and that our current inventory level is not expected to have a material impact on our pricing and gross margins for the three months ending September 30, 2011. We could be required to increase our inventory provisions if there were to be sudden and significant decreases in demand for our products or if there were a higher incidence of inventory obsolescence because of rapidly changing technology and customer requirements.
 
Services Gross Margin. Services gross margin for the three months ended June 30, 2011 was 70.7% compared to 69.0% for the three months ended June 30, 2010. Cost of service revenues for the three months ended June 30, 2011 was $2.8 million compared to $3.0 million for the three months ended June 30, 2010, a decrease of 7.9%, which was primarily due to a decrease in wages and benefits attributable to a decrease in headcount. Services gross margin for the three months ended June 30, 2011 and 2010 included stock-based compensation expense of $0.2 million and $0.3 million, respectively.
 
Services gross margin for the six months ended June 30, 2011 was 68.2% compared to 63.2% for the six months ended June 30, 2010. This increase was due to a $1.2 million increase in service revenues, related primarily to an increase in installation and training revenues. Cost of service revenues for the six months ended June 30, 2011 was $5.8 million compared to $6.3 million for the six months ended June 30, 2010, a decrease of 7.5%, which was primarily due to a decrease in wages and benefits related to lower headcount. Services gross margin for the six months ended June 30, 2011 and 2010 included stock-based compensation expense of $0.4 million and $0.5 million, respectively.
 
Operating Expenses
 
Research and Development. Research and development expense was $10.7 million for the three months ended June 30, 2011, or 54.0% of net revenues, compared to $13.1 million for the three months ended June 30, 2010, or 49.7% of net revenues. The decrease was primarily due to a $0.8 million decrease in wages and benefits related to a decrease in headcount, a $0.4 million decrease in independent contractor costs and a $0.2 million decrease in depreciation expense. Research and development expense for the three months ended June 30, 2011 and 2010 included stock-based compensation expense of $1.1 million and $1.4 million, respectively.
 
Research and development expense was $22.1 million for the six months ended June 30, 2011, or 57.8% of net revenues, compared to $26.6 million for the six months ended June 30, 2010, or 45.4% of net revenues. The decrease was primarily due to a $1.7 million decrease in wages and benefits related to a 14% decrease in headcount, a $1.1 million decrease in independent contractor costs and a $0.4 million decrease in depreciation expense. Research and development expense for  the three months ended June 30, 2011 and 2010 included stock-based compensation expense of $2.2 million and $2.7 million, respectively.
 
Sales and Marketing. Sales and marketing expense was $5.0 million for the three months ended June 30, 2011, or 25.1% of net revenues, compared to $6.0 million for the three months ended June 30, 2010, or 22.7% of net revenues. The decrease was primarily due to a $0.4 million decrease in wages and benefits, a $0.3 million decrease in stock-based compensation and a $0.3 million reduction in marketing programs due to cost containment efforts. Sales and marketing expense for the three months ended June 30, 2011 and 2010 included stock-based compensation expense of $0.3 million and $0.6 million, respectively.
 
Sales and marketing expense was $10.1 million for the six months ended June 30, 2011, or 26.4% of net revenues, compared to $12.0 million for the six months ended June 30, 2010, or 20.5% of net revenues. Headcount decreased 16%, which resulted in a $0.6 million decrease in stock-based compensation, a $0.4 million decrease in wages and benefits, and a $0.2 million decrease in travel. Additionally, marketing programs decreased $0.3 million due to cost containment efforts. Sales and marketing expense for the six months ended June 30, 2011 and 2010 included stock-based compensation expense of $0.7 million and $1.3 million, respectively.
 
General and Administrative. General and administrative expense was $3.4 million for the three months ended June 30, 2011, or 17.1% of net revenues, compared to $4.0 million for the three months ended June 30, 2010, or 15.2% of net revenues. The decrease was primarily due to a $0.4 million decrease in wages and benefits related to a 14% decrease in headcount. General and administrative expense for the three months ended June 30, 2011 and 2010 included stock-based compensation expense of $0.6 million and $1.0 million, respectively.
 
General and administrative expense was $7.2 million for the six months ended June 30, 2011, or 18.9% of net revenues, compared to $8.5 million for the six months ended June 30, 2010, or 14.6% of net revenues. The decrease was primarily due to a $0.8 million decrease in wages and benefits related to a decrease in headcount. General and administrative expense for the six months ended June 30, 2011 and 2010 included stock-based compensation expense of $1.4 million and $2.2 million, respectively.
 
Restructuring Charges. Restructuring charges were zero for the three months ended June 30, 2011 compared to $1.0 million for the three months ended June 30, 2010. Restructuring charges were $2.0 million for the six months ended June 30, 2011 compared to $1.0 million for the six months ended June 30, 2010. On January 7, 2011, our Audit Committee under designation of our Board of Directors authorized a restructuring plan pursuant to which we reduced headcount by approximately 9% and vacated a portion of two leased facilities. Approximately $1.0 million of severance and related benefits and approximately $1.0 million for vacated facility charges and related fixed asset write offs were recorded in the six months ended June 30, 2011. The 2010 charges included $0.7 million related to a May 2010 restructuring plan pursuant to which employees and subcontractors were terminated, and $0.3 million to fully reserve for a facility vacated in October 2007, which we no longer believed we could sublease.
 
 
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 Interest Income
 
Interest income was $0.2 million for the three months ended June 30, 2011 compared to $0.3 million for the three months ended June 30, 2010. Interest income was $0.4 million for the six months ended June 30, 2011 compared to $0.9 million for the six months ended June 30, 2010. The decreases in interest income were primarily attributable to lower interest rates, and to a lesser extent due to lower cash and investment balances.
 
Other income (expense), net
 
Other income (expense), net, which consists primarily of foreign exchange gains (losses), was income of $22,000 for the three months ended June 30, 2011 compared to an expense of $95,000 for the three months ended June 30, 2010. Other income (expense), net was an expense of $8,000 for the six months ended June 30, 2011 compared to an expense of $0.2 million for the six months ended June 30, 2010.
 
Provision for (benefit from) income taxes
 
Provision for income taxes for the three months ended June 30, 2011 was $0.2 million, or negative 2.8%, on a pre-tax loss of $8.0 million, compared to tax benefit of $0.3 million, or 3.2%, on a pre-tax loss of $10.0 million for the three months ended June 30, 2010. Provision for income taxes for the six months ended June 30, 2011 was $0.4 million, or negative 2.1%, on a pre-tax loss of $20.6 million, compared to tax benefit of $0.2 million, or 0.8%, on a pre-tax loss of $18.6 million for the six months ended June 30, 2010. The difference between our effective tax rates and the federal statutory rate of 35% is primarily attributable to the differential in foreign tax rates, non deductible stock compensation expense, other currently non-deductible items, and movement in our tax valuation allowance.
 
We maintained a valuation allowance as of June 30, 2011 against certain of our deferred tax assets because, based on the available evidence, we believe it is more likely than not that we will not be able to utilize these deferred tax assets in the future. We intend to maintain this valuation allowance until sufficient evidence exists to support its reduction. We make estimates and judgments about our future taxable income that are based on assumptions that are consistent with our plans and estimates. Should the actual amounts differ from our estimates, the amount of our valuation allowance could be materially impacted.
 
We had unrecognized tax benefits of approximately $3.2 million and $3.1 million as of June 30, 2011 and December 31, 2010, respectively. We expect the unrecognized tax benefits to remain unchanged for the next 12 months.
 
Our material jurisdictions are the U.S. and Israel, which remain open to examination by the appropriate governmental agencies for tax years 2006 to 2010 and 2008 to 2010, respectively. The federal and state taxing authorities may choose to audit tax returns for tax years beyond the statute of limitation period due to significant tax attribute carryforwards from prior years, making adjustments only to carryforward attributes. Our policy is to include interest and penalties related to unrecognized tax benefits within our provision for income taxes.
 
Non-GAAP Financial Measures
 
We report all financial information required in accordance with U.S. generally accepted accounting principles (GAAP), but we believe that evaluating our ongoing operating results may be difficult to understand if limited to reviewing only GAAP financial measures. Many of our investors have requested that we disclose non-GAAP information because it is useful in understanding our performance as it excludes amounts that many investors feel may obscure our true operating results. Likewise, management uses non-GAAP measures to manage and assess the profitability of our business going forward and does not consider stock-based compensation expense or restructuring charges and related taxes in managing our operations. Specifically, management does not consider these expenses/benefits when developing and monitoring our budgets and spending. As a result, we use calculations of non-GAAP net loss and net loss per share, which exclude these expenses when evaluating our ongoing operations and allocating resources within the organization.
 
 
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Reconciliations of our GAAP and non-GAAP financial measures were as follows (in thousands except per share amounts):

   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2011
   
2010
   
2011
   
2010
 
                         
GAAP net loss
  $ (8,194 )   $ (9,641 )   $ (20,996 )   $ (18,410 )
Stock-based compensation
    2,539       3,625       5,227       7,383  
Restructuring charges
    -       1,039       2,007       1,039  
Tax benefits (provision)
    52       (104 )     144       (125 )
Non-GAAP net loss
  $ (5,603 )   $ (5,081 )   $ (13,618 )   $ (10,113 )
Basic and diluted GAAP net loss per common share
  $ (0.12 )   $ (0.14 )   $ (0.30 )   $ (0.27 )
Basic and diluted Non-GAAP net loss per common share
  $ (0.08 )   $ (0.07 )   $ (0.19 )   $ (0.15 )
 
Liquidity and Capital Resources
 
Since inception, we have financed our operations primarily through private and public sales of equity securities and from cash provided by operations. As of June 30, 2011, we had no long-term debt outstanding.
 
Cash Flow
 
Cash, cash equivalents and marketable securities. As of June 30, 2011, our cash, cash equivalents and marketable securities of $127.9 million were invested primarily in corporate debt securities, commercial paper, and securities of U.S. agencies. We do not enter into investments for trading or speculative purposes. Although our cash, cash equivalents and marketable securities decreased by $15.6 million during the six months ended June 30, 2011, we believe that our existing sources of liquidity will be sufficient to meet our currently anticipated cash requirements for at least the next 12 months. In order to remain competitive, we must frequently evaluate the need to make significant investments in products and in research and development. We may seek additional equity or debt financing to maintain or expand our product lines, for research and development efforts, or for other strategic purposes such as acquisitions. The timing and amount of any such financing requirements will depend on a number of factors, including demand for our products, changes in industry conditions, product mix, competitive factors and the timing of any strategic acquisitions. There can be no assurance that such financing will be available on acceptable terms, and any additional equity financing would result in incremental ownership dilution to our existing stockholders. There are no significant limits or restrictions that affect our ability to access our cash, cash equivalents and marketable securities.
 
Operating activities
 
The key line items affecting cash from operating activities were as follows (in thousands):
 
   
Six Months Ended June 30,
 
   
2011
   
2010
 
             
Net loss
  $ (20,996 )   $ (18,410 )
Add back non-cash charges (1)
    8,342       11,592  
Net loss before non-cash charges
    (12,654 )     (6,818 )
(Increase) decrease in accounts receivable
    (4,110 )     11,851  
Decrease (increase) in inventories, net
    243       (2,770 )
(Decrease) in deferred revenues
    (298 )     (3,850 )
Increase (decrease) in accounts payable and accrued and other liabilities
    1,765       (7,544 )
Other, net
    663       1,528  
Net cash used in operating activities
  $ (14,391 )   $ (7,603 )
 
(1) Non-cash charges primarily related to stock-based compensation of $5.2 million and $7.4 million, and depreciation of property and equipment of $2.6 million and $3.6 million for the six months ended June 30, 2011 and 2010, respectively.
 
 
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Six Months Ended June 30, 2011
 
Our net loss of $21.0 million for the six months ended June 30, 2011 included non-cash charges of $8.3 million primarily related to $5.2 million of stock-based compensation and $2.6 million of depreciation expense. Operating cash activities for the six months ended June 30, 2011 included:
 
•  Accounts receivable increased by $4.1 million during the six months ended June 30, 2011 due to the timing of orders and shipments to our customers. Days sales outstanding increased to 44 for the six months ended June 30, 2011 compared to 21 for the six months ended June 30, 2010, primarily due to a higher accounts receivable balance as of June 30, 2011 compared to June 30, 2010.
 
•  Accounts payable and accrued and other liabilities increased by $1.8 million during the six months ended June 30, 2011. This was primarily due to timing of payments to suppliers combined with higher accrued compensation and related benefits.
 
Six Months Ended June 30, 2010
 
Our net loss of $18.4 million for the six months ended June 30, 2010 included non-cash charges of $11.6 million primarily related to $7.4 million of stock-based compensation and $3.6 million of depreciation expense. Operating cash activities for the six months ended June 30, 2010 included:
 
•  Accounts receivable decreased by $11.9 million during the six months ended June 30, 2010 due to lower order volume and strong collection activity.
 
•  Inventories, net increased by $2.8 million during the six months ended June 30, 2010, primarily due to inventory purchases and shipping activities.
 
•  Deferred revenues decreased by $3.8 million during the six months ended June 30, 2010, primarily due to lower order volume.
 
•  Accounts payable and accrued and other liabilities decreased by $7.5 million during the six months ended June 30, 2010, primarily due to lower purchasing and timing of payments.
 
Investing Activities
 
Our investing activities provided cash of $12.4 million for the six months ended June 30, 2011, primarily from maturities and sales, net of purchases of marketable securities of $14.1 million, partially offset by the purchase of property and equipment, primarily computer and engineering equipment of $2.1 million.
 
 Our investing activities provided cash of $14.4 million for the six months ended June 30, 2010, primarily from maturities and sales, net of purchases, of marketable securities of $16.7 million, partially offset by the purchase of property and equipment, primarily computer and engineering equipment of $2.4 million.
 
Financing Activities
 
Our financing activities provided cash of $0.5 million and $1.3 million for the six months ended June 30, 2011 and 2010, respectively, through the exercise of stock options under our equity incentive plans and sale of stock under our employee stock purchase plan.
 
Contractual Obligations and Commitments
 
Our contractual obligations as of June 30, 2011 were as follows (in thousands):
 
   
Payments due by December 31:
 
   
Total
   
2011
   
2012
   
2013
   
Thereafter
 
                               
Operating lease obligations (1)
  $ 4,187     $ 1,666     $ 2,241     $ 280     $ -  
Purchase obligations (2)
    3,327       3,327       -       -       -  
Total obligations
  $ 7,514     $ 4,993     $ 2,241     $ 280     $ -  
 
(1) Operating lease obligations are net of $1.4 million of sublease rentals from a portion of our Tel Aviv and Westborough, Massachusetts facilities.
(2) Purchase obligations comprise firm non-cancellable agreements to purchase inventory.
 
Off-Balance Sheet Arrangements
 
As of June 30, 2011, we had no off-balance sheet arrangements as defined in Item 303(a)(4) of Regulation S-K.
 
Effects of Inflation
 
Our monetary assets, consisting primarily of cash, marketable securities and accounts receivable, are not materially affected by inflation because they are short-term in duration. Our non-monetary assets, consisting primarily of inventory, goodwill and prepaid expenses and other assets, are not affected significantly by inflation. We believe that the impact of inflation on the replacement costs of our equipment, furniture and leasehold improvements will not materially affect our operations. However, the rate of inflation affects our cost of goods sold and operating expenses, such as those for employee compensation, which may not be readily recoverable in the price of the products and services offered by us.
 
 
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Interest Rate Sensitivity
 
The primary objectives of our investment activities are to preserve principal, provide liquidity and maximize income without exposing us to significant risk of loss. The securities we invest in are subject to market risk and a change in prevailing interest rates may cause the principal amount of our investments to fluctuate. We maintain our portfolio of cash equivalents and short-term investments in a variety of securities, including commercial paper, corporate debt securities, government and non-government debt securities, and money market funds. As of June 30, 2011, our investments were primarily in commercial paper, corporate notes and bonds, money market funds and U.S. government and agency securities. If overall interest rates fell 10% for the three months ended June 30, 2011, our interest income would have decreased by an immaterial amount, assuming consistent investment levels.
 
Foreign Currency Risk
 
Our sales contracts are primarily denominated in U.S. dollars, and therefore the majority of our revenues are not subject to foreign currency risk. However, if we extend credit to international customers and the U.S. dollar appreciates against our customers’ local currency, there is an increased collection risk as it will require more local currency to settle our U.S. dollar invoice.
 
Our operating expenses and cash flows are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the Israeli New Shekel, and to a lesser extent the Chinese Yuan and Euro. To help protect against significant fluctuations in value and the volatility of future cash flows caused by changes in currency exchange rates, we have foreign currency risk management programs to hedge future forecasted expenses denominated in Israeli New Shekels. An adverse change in exchange rates of 10% for the Israeli New Shekel, Chinese Yuan and Euro, without any hedging, would have resulted in an increase in our loss before income taxes of approximately $0.8 million for the three months ended June 30, 2011.
 
We continue to hedge a portion of our projected exposure to exchange rate fluctuations between the U.S. dollar and the Israeli New Shekel. Currency forward contracts and currency options are generally utilized in these hedging programs. Our hedging programs are intended to reduce, but not eliminate, the impact of currency exchange rate movements. As our hedging program is relatively short-term in nature, a long-term material change in the value of the U.S. dollar versus the Israeli New Shekel could adversely impact our operating expenses in the future.
 
Item 4.
CONTROLS AND PROCEDURES
 
Evaluation of Disclosure Controls and Procedures
 
As of the end of the period covered by this Quarterly Report on Form 10-Q, as required by paragraph (b) of Rule 13a-15 or Rule 15d-15 under the Securities Exchange Act of 1934, as amended, we evaluated under the supervision of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) of the Securities Exchange Act of 1934, as amended). Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information we are required to disclose in reports that we file or submit under the Securities Exchange Act of 1934 (i) is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and (ii) is accumulated and communicated to our management, including our Chief Executive Officer and our Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. Our disclosure controls and procedures are designed to provide reasonable assurance that such information is accumulated and communicated to our management. Our disclosure controls and procedures include components of our internal control over financial reporting. Management’s assessment of the effectiveness of our internal control over financial reporting is expressed at the level of reasonable assurance because a control system, no matter how well designed and operated, can provide only reasonable, but not absolute, assurance that the control system’s objectives will be met.
 
Changes in Internal Control over Financial Reporting
 
During the three months ended June 30, 2011, there was no change in our internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Rule 13a-15 or Rule 15d-15 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

 
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Item 1.
LEGAL PROCEEDINGS
 
A discussion of our current litigation is disclosed in the notes to our condensed consolidated financial statements. See “Notes to Condensed Consolidated Financial Statements, Note 7 — Legal Proceedings” in Part I, Item 1 of this quarterly report on Form 10-Q.
 
Item 1A.
RISK FACTORS
 
An investment in our equity securities involves significant risks. Any of these risks, as well as other risks not currently known to us or that we currently consider immaterial, could have a material adverse effect on our business, prospects, financial condition or operating results. The trading price of our common stock could decline due to any of these risks, and you may lose all or part of your investment. In assessing the risks described below, you should also refer to the other information contained in this Form 10-Q, including our consolidated financial statements and the related notes, before deciding to purchase any shares of our common stock.
 
We depend on cable multiple system operators (MSOs) and telecommunications companies adopting advanced technologies for substantially all of our net revenues, and any decrease or delay in capital spending for these advanced technologies would harm our operating results, financial condition and cash flows.
 
Almost all of our sales depend on cable MSOs and telecommunications companies adopting advanced video technologies, and we expect these sales to continue to constitute a significant majority of our revenues for the foreseeable future. Demand for our products will depend on the magnitude and timing of capital spending by service providers on advanced technologies for constructing and upgrading their network infrastructure, and a reduction or delay in this spending could have a material adverse effect on our business.
 
The capital spending patterns of our existing and potential customers depend on a variety of factors, including:
 
annual budget cycles;
 
technology adoption cycles and network architectures of service providers, and evolving industry standards that may impact them;
 
competitive pressures, including pricing pressures;
 
changes in general economic conditions;
 
the impact of industry consolidation;
 
the strategic focus of our customers and potential customers;
 
the status of federal, local and foreign government regulation of telecommunications and television broadcasting, and regulatory approvals that our customers need to obtain;
 
discretionary customer spending patterns;
 
bankruptcies and financial restructurings within the industry; and
 
work stoppages or other labor- or labor market-related issues that may impact the timing of orders and revenues from our customers.
 
Since 2009, we have seen reduced capital spending by our customers for our key products. Any continued slowdown or delay in the capital spending by service providers for our products as a result of any of the above factors would likely have a significant adverse impact on our quarterly revenues and net losses.
 
Our operating results are likely to fluctuate significantly and may fail to meet or exceed the expectations of securities analysts or investors or our guidance, causing our stock price to decline.
 
Our operating results have fluctuated in the past and are likely to continue to fluctuate, on an annual and a quarterly basis, as a result of a number of factors, many of which are outside our control. These factors include:
 
market acceptance of new or existing products offered by us or our customers;
 
the level and timing of capital spending by our customers;
 
the timing, mix and amount of orders, especially from significant customers;
 
the level of our deferred revenue balances;
 
changes in market demand for our products;
 
 
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the mix of software, hardware products sold and service revenues;
 
our unpredictable and lengthy sales cycles, which typically range from six to 18 months;
 
the timing of revenue recognition on sales arrangements, which may include multiple deliverables and result in delays in recognizing revenue;
 
our ability to design, install and receive customer acceptance of our products;
 
materially different acceptance criteria in key customers’ agreements, which can result in large amounts of revenue being recognized, or deferred, as the different acceptance criteria are applied to large orders;
 
new product introductions by our competitors;
 
market acceptance of new or existing products offered by us or our customers;
 
competitive market conditions, including pricing actions by our competitors;
 
our ability to complete complex development of our software and hardware on a timely basis;
 
unexpected changes in our operating expenses;
 
the impact of new accounting, income tax and disclosure rules;
 
the cost and availability of components used in our products;
 
the potential loss of key manufacturer and supplier relationships; and
 
changes in domestic and international regulatory environments.
 
We expect that our third and fourth quarter 2011 financial performance will be significantly affected by our ability to deliver our next-generation QAM in a timely fashion with acceptable quality, and achieving market acceptance of this new platform. We establish our expenditure levels for product development and other operating expenses based on projected sales levels, and our expenses are relatively fixed in the short term. Accordingly, variations in the timing of our sales can cause significant fluctuations in our operating results. In addition, as a result of the factors described above, our operating results in one or more future periods may fail to meet or exceed the expectations of securities analysts or investors or our guidance, which would likely cause the trading price of our common stock to decline substantially.
 
Our customer base is highly concentrated, and there are a limited number of potential customers for our products. The loss of any of our key customers would likely reduce our revenues significantly.
 
Historically, a large portion of our sales have been to a limited number of large customers. Our five largest customers accounted for approximately 72% of our net revenues for the six months ended June 30, 2011, compared to 75% for the six months ended June 30, 2010. Charter Communications, Time Warner Cable and Verizon each represented 10% or more of our net revenues for the six months ended June 30, 2011. Time Warner Cable and Verizon each represented 10% or more of our net revenues for the six months ended June 30, 2010.
 
We believe that for the foreseeable future our net revenues will be concentrated in a limited number of large customers, and we do not have contracts or other agreements that guarantee continued sales to these or any other customers. Consequently, reduced capital expenditures by any one of our larger customers (whether caused by adverse financial conditions, more cautious spending patterns due to economic uncertainty or other factors) is likely to have a material negative impact on our operating results. For example, Verizon slowed the rollout of its FiOS system in 2009, which has had continuing negative impact on our business. In addition, as the consolidation of ownership of cable MSOs and telecommunications companies continues, we may lose existing customers and have access to a shrinking pool of potential customers. We expect to see continuing industry consolidation due to the significant capital costs of constructing video, voice and data networks and for other reasons. This will likely result in our customers gaining increased purchasing leverage over us. This may reduce the selling prices of our products and services and as a result may harm our business and financial results. Many of our customers desire to have two sources for the products we sell to them. As a result, our future revenue opportunities could be limited, and our profitability could be adversely impacted. The loss of, or reduction in orders from, any of our key customers would significantly reduce our revenues and have a material adverse impact on our business, operating results and financial condition.
 
If revenues forecasted for a particular period are not realized in such period due to the lengthy, complex and unpredictable sales cycles of our products, our operating results for that or subsequent periods will be harmed.
 
The sales cycles of our products are typically lengthy, complex and unpredictable and usually involve:
 
a significant technical evaluation period;
 
a significant commitment of capital and other resources by service providers;
 
substantial time required to engineer the deployment of new technologies for new video services;
 
substantial testing and acceptance of new technologies that affect key operations; and
 
substantial test marketing of new services with subscribers.
 
 
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For these and other reasons, our sales cycles are generally between six and eighteen months, but can last longer. If orders forecasted for a specific customer for a particular quarter do not occur in that quarter, our operating results for that quarter or subsequent quarters could be substantially lower than anticipated. Our quarterly and annual results may fluctuate significantly due to revenue recognition rules and the timing of the receipt of customer orders.
 
 Additionally, we derive a large portion of our net revenues from sales that include the network design, installation and integration of equipment, including equipment acquired from third parties to be integrated with our products to the specifications of our customers. We base our revenue forecasts on the estimated timing to complete the network design, installation and integration of our customer projects and customer acceptance of those products. The systems of our customers are both diverse and complex, and our ability to configure, test and integrate our systems with other elements of our customers’ networks depends on technologies provided to our customers by third parties. As a result, the timing of our revenue related to the implementation of our solutions in these complex networks is difficult to predict and could result in lower than expected revenue in any particular quarter. Similarly, our ability to deploy our equipment in a timely fashion can be subject to a number of other risks, including the availability of skilled engineering and technical personnel, the availability of equipment produced by third parties and our customers’ need to obtain regulatory approvals.
 
The markets in which we operate are intensely competitive, many of our competitors are larger, more established and better capitalized than we are, and some of our competitors have integrated products performing functions similar to our products into their existing network infrastructure offerings, and consequently our existing and potential customers may decide against using our products in their networks, which would harm our business.
 
 The markets for selling network-based hardware and software products to service providers are extremely competitive and have been characterized by rapid technological change. We compete broadly with system suppliers including ARRIS Group, Cisco Systems, Harmonic, Motorola and a number of smaller companies. Many of our competitors are substantially larger and have greater financial, technical, marketing and other resources than we have. Given their capital resources, long-standing relationships with service providers worldwide, and broader product lines, many of these large organizations are in a better position to withstand any significant reduction in capital spending by customers in these markets. If we are unable to overcome these resource advantages, our competitive position would suffer.
 
 In addition, other providers of network-based hardware and software products offer functionality aimed at solving similar problems addressed by our products. For example, several vendors have announced products designed to compete with our Switched Digital Video solution. The inclusion of functionality perceived to be similar to our product offerings in our competitors’ products that already have been accepted as necessary components of network architecture may have an adverse effect on our ability to market and sell our products. In addition, our customers’ other vendors that can provide a broader product offering may be able to offer pricing or other concessions that we are not able to match because we currently offer a more modest suite of products and have fewer resources. If our existing or potential customers are reluctant to add network infrastructure from new vendors or otherwise decide to work with their other existing vendors, our business, operating results and financial condition will be adversely affected.
 
 Over the years, we have seen consolidation among our competitors. We expect this trend to continue as companies attempt to strengthen or maintain their market positions in the evolving industry for video by increasing the amount of commercial and technical integration of their video products. Due to our comparatively small size and comparatively narrow product offerings, our ability to compete will depend on our ability to partner with companies to offer a more complete overall solution. If we fail to do so, our competitive position will be harmed and our sales will likely suffer. These combined companies may offer more compelling product offerings and may be able to offer greater pricing flexibility, making it more difficult for us to compete while sustaining acceptable gross margins. Finally, continued industry consolidation may impact customers’ perceptions of the viability of smaller companies, which may affect their willingness to purchase products from us. These competitive pressures could harm our business, operating results and financial condition.
 
Lower deferred revenue balances will make our future period results less predictable.
 
 Historically, we have had relatively high deferred revenue balances at quarter end, which has provided us with some measure of predictability for future periods. However, our deferred revenue balance as of June 30, 2011 was approximately $14.8 million lower than it was as of June 30, 2010. This lower deferred revenue balance makes our quarterly revenue more dependent on orders both received and shipped within the same quarter, and therefore less predictable. This lack of deferred revenues could cause additional revenue volatility, which could in turn harm our stock price.
 
 
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We have been unable to achieve sustained profitability, which could harm the price of our stock.
 
Historically, we have experienced significant operating losses, and we were not profitable in either the six months ended June 30, 2011 or the six months ended June 30, 2010. If we fail to achieve or sustain profitability in the future, it will harm our long-term business, and we may not meet the expectations of the investment community, which would have a material adverse impact on our stock price.
 
We may not accurately anticipate the timing of the market needs for our products and develop such products at the appropriate times at significant research and development expense, or we may not gain market acceptance of our emerging video solutions or adoption of new network architectures and technologies, any of which could harm our operating results and financial condition.
 
Accurately forecasting and meeting our customers’ requirements is critical to the success of our business. Forecasting to meet customers’ needs is particularly difficult for newer products and products under development. Our ability to meet customer demand depends on our ability to configure our solutions to the complex architectures that our customers have developed, the availability of components and other materials and the ability of our contract manufacturers to scale their production of our products. Our ability to meet customer requirements depends on our ability to obtain sufficient volumes of required components and materials in a timely fashion. If we fail to meet customers’ supply expectations, our net revenues will be adversely affected, and we will likely lose business. In addition, our priorities for future product development are based on how we expect the market for video services to develop in the U.S. and in international markets.
 
Future demand for our products will depend significantly on the growing market acceptance of several emerging video services including HDTV, addressable advertising, video delivered over telecommunications company networks and video delivered over Internet Protocol by cable MSOs. The effective delivery of these services will depend on service providers developing and building new network architectures to deliver them. If the introduction or adoption of these services or the deployment of these networks is not as widespread or as rapid as we or our customers expect, our revenue opportunities will be limited.
 
Our product development efforts require substantial research and development expense, as we develop new technology, including next generation MSP and technology primarily related to the delivery of video over IP networks. In addition, as many of our products are new solutions, there is a risk of delays in delivery of these solutions. Our research and development expense was $10.7 million for the three months ended June 30, 2011, and there can be no assurance that we will achieve an acceptable return on our research and development efforts, and no assurance that we will be able to deliver our solutions in time to achieve market acceptance.
 
Our ability to grow will depend significantly on our delivery of products that help enable telecommunications companies to provide video services. If the demand for video services from telecommunications companies does not materialize or if these service providers find alternative methods of delivering video services, future sales of our video products will suffer.
 
We have generated significant revenues from a single telecommunications company. Our ability to grow will depend on our selling video products to additional telecommunications companies. Although a number of our existing products are being deployed in telecom networks, we will need to devote considerable resources to obtain orders, qualify our products and hire knowledgeable personnel to address telecommunications company customers, each of which will require significant time and financial commitment. To date, our efforts to sell to additional telecommunication companies have not been successful. There can be no assurance that our efforts to sell to additional telecommunication companies will be successful in the near future, or at all. If technological advancements allow telecommunications companies to provide video services without upgrading their current system infrastructure or provide them a more cost-effective method of delivering video services than our products, projected sales of our video products will suffer. Even if these providers choose our video solutions, they may not be successful in marketing video services to their customers, in which case additional sales of our products would likely be limited.
 
Selling successfully to additional telecommunication companies has been and will be a significant challenge for us. Several of our largest competitors have mature customer relationships with many of the largest telecommunications companies, while we have limited experience with sales and marketing efforts designed to reach these potential customers. In addition, telecommunications companies face specific network architecture and legacy technology issues that we have only limited expertise in addressing. If we fail to penetrate the telecommunications market successfully, our growth in revenues and our operating results would likely be adversely impacted.
 
We anticipate that our gross margins will fluctuate with changes in our product mix and our fixed cost absorption. We expect decreases in the average selling prices of our hardware and software products to further adversely impact our operating results.
 
 Our product gross margins decreased to 39.7% for the three months ended June 30, 2011, compared to 43.4% for the three months ended June 30, 2010. Historically, our industry has experienced a decrease in average selling prices. We anticipate that the average selling prices of our products will continue to decrease in the future in response to competitive pricing pressures, increased sales discounts and new product introductions by our competitors. We may experience substantial decreases in future operating results due to a decrease of our average selling prices. Additionally, our failure to develop and introduce new products on a timely basis or to effectively absorb our fixed costs would likely contribute to a decline in our gross margins, which could have a material adverse effect on our operating results and cause the price of our common stock to decline. We also anticipate that our gross margins will fluctuate from period to period as a result of the mix of products we sell in any given period. If our sales of lower margin products significantly expand in future quarterly periods, our overall gross margin levels and operating results would be adversely impacted.
 
 
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If we do not accurately anticipate the correct mix of our products that will be sold, we may be required to record charges related to excess inventories.
 
Due to the unpredictable nature of the demand for our products, we are required to place non-cancellable orders with our suppliers for components, finished products and services in advance of actual customer commitments to purchase these products. Significant unanticipated fluctuations in demand could result in costly excess production or inventories. Our inventory balance was approximately $3.2 million higher as of June 30, 2011 than it was as of June 30, 2010. In order to reduce the negative financial impact of excess production, we may be required to significantly reduce the sales prices of our products in an attempt to increase demand, which in turn could result in a reduction in the value of the original inventory. If we were to determine that we could not utilize or sell this inventory, we may be required to write down its value. Writing down inventory or reducing product prices could adversely impact our gross margins and financial condition.
 
Any further economic downturn will likely adversely affect our financial condition and results of operations and make our future business more difficult to forecast and manage.
 
Our business is sensitive to changes in general economic conditions, both in the U.S. and globally. Due to the continued tight credit markets and concerns regarding the availability of credit, our current or potential customers may delay or reduce purchases of our products, which would adversely affect our revenues and therefore harm our business and results of operations.
 
We expect our business to be adversely impacted by any future downturn in the U.S. or global economies as our customers’ capital spending is expected to be reduced during in response to such conditions. Any uncertainty in the U.S. and global economies would likely make it more difficult for us to forecast and manage our business.
 
 Our efforts to develop additional channels to market and sell our products internationally may take longer to be successful than we anticipate, if they succeed at all.
 
Our video solutions traditionally have been sold directly to large cable MSOs, and a limited number of telecommunications companies. To date, we have not focused on smaller service providers and have had only limited access to service providers in certain international markets, including Asia and Europe. Although we intend to establish strategic relationships with leading distributors worldwide in an attempt to reach new customers, we have not been successful in establishing these relationships and may not succeed in doing so in the near-term. Even if we do establish these relationships, the distributors may not succeed in marketing our products to their customers. Some of our competitors have established long-standing relationships with cable MSOs and telecommunications companies that may limit our and our distributors’ ability to sell our products to those customers. Even if we were to sell our products to those customers, it would likely not be based on long-term commitments, and those customers would be able to terminate their relationships with us at any time without significant penalties.
 
International sales represented 6.2% of our net revenues for the six months ended June 30, 2011, compared to 10.8% for the six months ended June 30, 2010. Our international sales depend on our development of indirect sales channels in Europe and Asia through distributor and reseller arrangements with third parties. However, our recent efforts at international expansion have not resulted in increased revenues from these markets, and there can be no assurance that our current efforts will substantially diversify our product revenue. We may not be able to successfully enter into additional reseller or distribution agreements or may not be able to successfully manage our product sales channels. In addition, many of our resellers also sell products from other vendors that compete with our products and may choose to focus on products of those vendors. Additionally, our ability to utilize an indirect sales model in these international markets will depend on our ability to qualify and train those resellers to perform product installations and to provide customer support. If we fail to develop and cultivate relationships with significant resellers, or if these resellers do not succeed in their sales efforts (whether because they are unable to provide support or otherwise), we may be unable to grow or sustain our revenue in international markets.
 
Our expansion of international development operations may take longer to be successful than we anticipate, if they succeed at all.
 
As of June 30, 2011, approximately 86% of our research and development headcount was located outside the U.S., primarily in Israel and China. Managing research and development operations in numerous locations requires substantial management oversight. If we are unable to expand our international operations successfully and in a timely manner, our business, operating results and financial condition may be harmed. Such expansion may be more difficult or could take longer than we anticipate.
 
Our international operations, and the international operations of our contract manufacturers and our outsourced development contractors, are subject to a number of risks such as difficulties in enforcing agreements through non-U.S. legal systems or imposition of conflicting tax or regulatory laws, any or all of which could reduce our future revenues or increase our costs from our international operations.
 
 
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 We are exposed to fluctuations in currency exchange rates, which could negatively affect our financial results and cash flows.
 
Because a substantial portion of our employee base is located in Israel, we are exposed to fluctuations in currency exchange rates between the U.S. dollar and the Israeli New Shekel. These fluctuations could have a material adverse impact on our financial results and cash flows. A decrease in the value of the U.S. dollar relative to foreign currencies could increase our operating expenses and the cost of raw materials to the extent that we must purchase components or pay employees in foreign currencies.
 
Currently, we hedge a portion of our anticipated future expenses and certain assets and liabilities denominated in the Israeli New Shekel. The hedging activities we undertake are intended to partially offset the impact of currency fluctuations. As our hedging program is relatively short-term in nature, a material long-term change in the value of the U.S. dollar versus the Israeli New Shekel could increase our operating expenses in the future.
 
 Our products must interoperate with many software applications and hardware found in our customers’ networks. If we are unable to ensure that our products interoperate properly, our business would be harmed.
 
Our products must interoperate with our customers’ existing networks, which often have varied and complex specifications, utilize multiple protocol standards, software applications and products from multiple vendors, and contain multiple generations of products that have been added over time. As a result, we must continually ensure that our products interoperate properly with these existing networks. To meet these requirements, we must undertake development efforts that require substantial capital investment and employee resources. We may not accomplish these development efforts quickly or cost-effectively, if at all. For example, our products currently interoperate with equipment from several vendors such as ARRIS Group, Cisco Systems, Microsoft and Motorola. If we fail to maintain compatibility with these vendors (some of whom are our competitors), we may face substantially reduced demand for, or delay in the implementation of, our products, either or both of which would adversely affect our business, operating results and financial condition.
 
We have entered into interoperability arrangements with a number of equipment and software vendors for the use or integration of their technology with our products. In these cases, the arrangements give us access to and enable interoperability with various products in the digital video market that we do not otherwise offer. If these relationships fail, we will have to devote substantially more resources to the development of alternative products and the support of our products, and our efforts may not be as effective as the combined solutions with our current partners. In many cases, these parties are either companies with which we compete directly in other areas, such as Motorola, or companies that have extensive relationships with our existing and potential customers and may have influence over the purchasing decisions of these customers. A number of our competitors have stronger relationships with some of our existing and potential partners and, as a result, our ability to successfully partner with these companies may be harmed. Our failure to establish or maintain key relationships with third party equipment and software vendors may harm our ability to successfully sell and market our products. We are currently investing significant resources to develop these relationships. Our operating results could be adversely affected if these efforts do not generate the revenues necessary to offset this investment.
 
In addition, if we find errors in the existing software or defects in the hardware used in our customers’ networks or problematic network configurations or settings, as we have in the past, we may have to modify our software or hardware so that our products will interoperate with our customers’ networks. This could cause longer installation times for our products and could cause order cancellations, either of which would adversely affect our business, operating results and financial condition.
 
 Our ability to sell our products is highly dependent on the quality of our support and services offerings, and our failure to offer high-quality support and services would have a material adverse effect on our sales and results of operations.
 
Once our products are deployed within our customers’ networks, our customers depend on our support organization to resolve any issues relating to our products. If we or our channel partners do not effectively assist our customers in deploying our products, or succeed in helping our customers quickly resolve post-deployment issues and provide effective ongoing support, our ability to sell our products to existing customers would be adversely affected and our reputation with potential customers could be harmed. In addition, to the extent we expand our operations internationally, our support organization will face additional challenges including those associated with delivering support, training and documentation in languages other than English. Our failure to maintain high-quality support and services would have a material adverse effect on our business, operating results and financial condition.
 
If we fail to comply with new laws and regulations, or changing interpretations of existing laws or regulations, our future revenues could be adversely affected.
 
Our products are subject to various legal and regulatory requirements and changes. For example, effective June 12, 2009, federal law required that television broadcast stations stop broadcasting in analog format and broadcast only in digital format. We believe that this change accelerated the timing of sales of our digital products, and consequently the revenue associated with our broadcast solutions decreased after June 30, 2009. These and other implementations of laws and interpretations of existing regulations could cause our customers to forgo or change the timing of spending on new technology rollouts, such as switched digital video, which could make our results more difficult to predict, or harm our revenues.
 
 Additionally, governments in the U.S. and other countries have adopted laws and regulations regarding privacy and advertising that could impact important aspects of our business. In particular, governments are considering new limits or requirements with respect to our customers’ collection, use, storage and disclosure of personal information for marketing purposes. Any legislation enacted or regulation issued could dampen the growth and acceptance of addressable advertising which is enabled by our products. If the use of our products to increase advertising revenue is limited or becomes unlawful, our business, results of operations and financial condition would be harmed.
 
 
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We must manage our business effectively even if our infrastructure, management and resources might be strained due to our continued expense reduction efforts.
 
In 2011 and the past several years, we have undertaken a number of reductions in force, experienced a number of changes in our executive management and implemented other cost reduction measures. Effectively managing our business with reduced headcount and expenses in some areas will likely place increased strain on our existing resources.
 
 In addition, we may need to expand and otherwise improve our internal systems, including our management information systems, customer relationship and support systems, and operating, administrative and financial systems and controls. These efforts may require us to make significant capital expenditures or incur significant expenses, and divert the attention of management, sales, support and finance personnel from our core business operations, which may adversely affect our financial performance in future periods. Moreover, to the extent we grow in the future, such growth will result in increased responsibilities for our management personnel. Managing any future growth may require substantial resources that we may not have or otherwise be able to obtain.
 
Our business is subject to the risks of warranty returns, product liability and product defects.
 
Products like ours are very complex and can frequently contain undetected errors or failures, especially when first introduced or when new versions are released. Despite testing, errors may occur. Product errors could affect the performance of our products, delay the development or release of new products or new versions of products, adversely affect our reputation and our customers’ willingness to buy products from us and adversely affect market acceptance or perception of our products. Any such errors or delays in releasing new products or new versions of products or allegations of unsatisfactory performance could cause us to lose revenue or market share, increase our service costs, cause us to incur substantial costs in redesigning the products, subject us to liability for damages and divert our resources from other tasks, any one of which could materially adversely affect our business, results of operations and financial condition.
 
 Although we have limitation of liability provisions in our standard terms and conditions of sale, they may not fully or effectively protect us from claims as a result of federal, state or local laws or ordinances or unfavorable judicial decisions in the U.S. or other countries. The sale and support of our products also entails the risk of product liability claims. We maintain insurance to protect against certain claims associated with the use of our products, but our insurance coverage may not adequately cover any claim asserted against us. In addition, even claims that ultimately are unsuccessful could result in our expenditure of funds in litigation and divert management’s time and other resources.
 
Regional instability in Israel may adversely affect business conditions, including the operations of our contract manufacturers, and may disrupt our operations and negatively affect our operating results.
 
 A substantial portion of our research and development operations and our contract manufacturing occurs in Israel. As of June 30, 2011, we had 154 full-time employees located in Israel. We also have customer service, marketing and general and administrative employees at this facility. Accordingly, we are directly influenced by the political, economic and military conditions affecting Israel, and any major hostilities involving Israel or the interruption or curtailment of trade between Israel and its trading partners could significantly harm our business. In addition, in the past, Israel and companies doing business with Israel have been the subject of an economic boycott. Israel has also been and is subject to civil unrest and terrorist activity, with varying levels of severity, for the last decade. Security and political conditions may have an adverse impact on our business in the future. Hostilities involving Israel or the interruption or curtailment of trade between Israel and its trading partners could adversely affect our operations and make it more difficult for us to retain or recruit qualified personnel in Israel.
 
In addition, most of our employees in Israel are obligated to perform annual reserve duty in the Israeli Defense Forces and several have been called for active military duty in connection with intermittent hostilities over the years. Should hostilities in the region escalate again, some of our employees would likely be called to active military duty, possibly resulting in interruptions in our sales and development efforts and other impacts on our business and operations, which we cannot currently assess.
 
 We depend on a limited number of third parties to provide key components of, and to provide manufacturing and assembly services with respect to, our products.
 
We and our contract manufacturers obtain many components necessary for the manufacture or integration of our products from a sole supplier or a limited group of suppliers. We or our contract manufacturers do not typically have long-term agreements in place with such suppliers. As an example, we do not have a long-term purchase agreement in place with PowerOne, the sole supplier of power supplies for our products. Our direct and indirect reliance on sole or limited suppliers involves several risks, including the inability to obtain an adequate supply of required components, and reduced control over pricing, quality and timely delivery of components. Our ability to deliver our products on a timely basis to our customers would be materially adversely impacted if we or our contract manufacturers needed to find alternative replacements for (as examples) the chassis, chipsets, central processing units or power supplies that we use in our products. Significant time and effort would be required to locate new vendors for these alternative components, if alternatives are even available. Moreover, the lead times required by the suppliers of some components are lengthy and preclude rapid changes in quantity requirements and delivery schedules. Even as we increase our use of standardized components, we may experience supply chain issues, particularly as a result of market volatility. Such volatility could lead suppliers to decrease inventory, which in turn would lead to increased manufacturing lead times for us. In addition, increased demand by third parties for the components we use in our products (for example, field programmable gate arrays or other semiconductor technology) may lead to decreased availability and higher prices for those components from our suppliers, since we generally carry little inventory of our product components. As a result, we may not be able to secure enough components at reasonable prices or of acceptable quality to build products in a timely manner, which would impact our ability to deliver products to our customers, and our business, operating results and financial condition would be adversely affected.
 
 
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 For manufacturing and assembly, we currently rely exclusively on Flextronics or Benchmark, depending on the product, to assemble our products, manage our supply chain and negotiate component costs for our solutions. Our reliance on these contract manufacturers reduces our control over the assembly process, exposing us to risks, including reduced control over quality assurance, production costs and product supply. If we fail to manage our relationships with these contract manufacturers effectively, or if these contract manufacturers experience delays (including delays in their ability to purchase components, as noted above), disruptions, capacity constraints or quality control problems in their operations, our ability to ship products to our customers could be impaired and our competitive position and reputation could be harmed. If these contract manufacturers are unable to negotiate with their suppliers for reduced component costs, our operating results would be harmed. Qualifying a new contract manufacturer and commencing volume production is expensive and time-consuming. If we are required to change contract manufacturers, we may lose net revenues, incur increased costs and damage our customer relationships.
 
Our failure to adequately protect our intellectual property and proprietary rights, or to secure such rights on reasonable terms, may adversely affect us.
 
We hold numerous issued U.S. patents and have a number of patent applications pending in the U.S. and foreign jurisdictions. Although we attempt to protect our intellectual property rights through patents, copyrights, trademarks, licensing arrangements, maintaining certain technology as trade secrets and other measures, we cannot be sure that any patent, trademark, copyright or other intellectual property rights owned by us will not be invalidated, circumvented or challenged, that such intellectual property rights will provide competitive advantages to us or that any of our pending or future patent applications will be issued with the scope of the claims sought by us, if at all. Despite our efforts, other competitors may be able to develop technologies that are similar or superior to our technology, duplicate our technology to the extent it is not protected, or design around the patents that we own. In addition, effective patent, copyright, trademark and trade secret protection may be unavailable or limited in certain foreign countries in which we do business or may do business in the future.
 
 The steps that we have taken may not prevent misappropriation of our technology. In addition, to prevent misappropriation we may need to take legal action to enforce our patents and other intellectual property rights, protect our trade secrets, determine the validity and scope of the proprietary rights of others, or to defend against claims of infringement or invalidity. For example, on June 5, 2007, we filed a lawsuit in federal court against Imagine Communications, Inc., alleging patent infringement. This and other potential intellectual property litigation could result in substantial costs and diversion of resources and could negatively affect our business, operating results and financial condition.
 
 In order to successfully develop and market certain of our planned products, we may be required to enter into technology development or licensing agreements with third parties whether to avoid infringement or because we believe a specific functionality is necessary for a successful product launch. These third parties may be willing to enter into technology development or licensing agreements only on a costly royalty basis or on terms unacceptable to us, or not at all. Our failure to enter into technology development or licensing agreements on reasonable terms, when necessary, could limit our ability to develop and market new products and could cause our business to suffer. For example, we could face delays in product releases until alternative technology can be identified, licensed or developed, and integrated into our current products. These delays, if they occur, could adversely affect our business, operating results and financial condition.
 
We may face intellectual property infringement claims from third parties.
 
 Our industry is characterized by the existence of an extensive number of patents and frequent claims and related litigation regarding patent and other intellectual property rights. From time to time, third parties have asserted and may assert patent, copyright, trademark and other intellectual property rights against us or our customers. Our suppliers and customers may have similar claims asserted against them. We have agreed to indemnify some of our suppliers and customers for alleged patent infringement. The scope of this indemnity varies, but, in some instances, includes indemnification for damages and expenses including reasonable attorneys’ fees. Any future litigation, regardless of its outcome, could result in substantial expense and significant diversion of the efforts of our management and technical personnel. An adverse determination in any such proceeding could subject us to significant liabilities, temporary or permanent injunctions or require us to seek licenses from third parties or pay royalties that may be substantial. Furthermore, necessary licenses may not be available on satisfactory terms, or at all.
 
 
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Our use of open source and third-party software could impose limitations on our ability to commercialize our products.
 
 We incorporate open source software into our products, including certain open source code which is governed by the GNU General Public License, Lesser GNU General Public License and Common Development and Distribution License. The terms of many open source licenses have not been interpreted by U.S. courts, and there is a risk that these licenses could be construed in a manner that could impose unanticipated conditions or restrictions on our ability to commercialize our products. In such event, we could be required to seek licenses from third parties in order to continue offering our products, make generally available, in source code form, proprietary code that links to certain open source modules, re-engineer our products, discontinue the sale of our products if re-engineering could not be accomplished on a cost-effective and timely basis, or become subject to other consequences, any of which could adversely affect our business, operating results and financial condition.
 
We may engage in future acquisitions that dilute the ownership interests of our stockholders, cause us to use a significant portion of our cash, incur debt or assume contingent liabilities.
 
 As part of our business strategy, from time to time, we review potential acquisitions of other businesses, and we may acquire businesses, products, or technologies in the future. In the event of any future acquisitions, we could:
 
issue equity securities which would dilute our current stockholders’ percentage ownership;
 
incur substantial debt;
 
assume contingent liabilities; or
 
spend significant cash.
 
 These actions could harm our business, operating results and financial condition, or the price of our common stock. Moreover, even if we do obtain benefits from acquisitions in the form of increased sales and earnings, there may be a delay between the time when the expenses associated with an acquisition are incurred and the time when we recognize such benefits. This is particularly relevant in cases where it is necessary to integrate new types of technology into our existing portfolio and where new types of products may be targeted for potential customers with which we do not have pre-existing relationships. Acquisitions and investment activities also entail numerous risks, including:
 
difficulties in the assimilation of acquired operations, technologies and/or products;
 
unanticipated acquisition transaction costs;
 
the diversion of management’s attention from other business;
 
adverse effects on existing business relationships with suppliers and customers;
 
risks associated with entering markets in which we have no or limited prior experience;
 
the potential loss of key employees of acquired businesses;
 
difficulties in the assimilation of different corporate cultures and practices; and
 
substantial charges for the amortization of certain purchased intangible assets, deferred stock compensation or similar items.
 
We may not be able to successfully integrate any businesses, products, technologies or personnel that we might acquire in the future, and our failure to do so could have a material adverse effect on our business, operating results and financial condition.
 
Negative conditions in the global credit markets may impair the value or reduce the liquidity of a portion of our investment portfolio.
 
 As of June 30, 2011, we had $127.9 million in cash, cash equivalents and investments in marketable securities. Historically, we have invested these amounts primarily in government agency debt securities, corporate debt securities, commercial paper, auction rate securities, money market funds and taxable municipal debt securities meeting certain criteria. We currently hold no mortgaged-backed or auction rate securities. However, our investments are subject to general credit, liquidity, market and interest rate risks, which may be exacerbated by any uncertainty in the U.S. and global credit markets such as the conditions in late 2008 and 2009 that affected various sectors of the financial markets and caused global credit and liquidity issues. In the future, market risks associated with our investment portfolio may harm the results of our operations, liquidity and financial condition.
 
Although we believe we have chosen a lower risk portfolio designed to preserve our existing cash position, it may not adequately protect the value of our investments. Furthermore, this lower risk portfolio is unlikely to provide us with any significant interest income in the near term.
 
While we believe that we currently have proper and effective internal control over financial reporting, we must continue to comply with laws requiring us to evaluate those internal controls.
 
 We are required to comply with Section 404 of the Sarbanes-Oxley Act of 2002. The provisions of the act require, among other things, that we evaluate the effectiveness of our internal control over financial reporting and disclosure controls and procedures. Ensuring that we have adequate internal financial and accounting controls and procedures in place to help produce accurate financial statements on a timely basis is a costly and time-consuming effort. For example, our accounting for income taxes requires considerable, specific knowledge of various tax acts, both foreign and domestic, and also involves several subjective judgments that could lead to fluctuations in our results of operations should some or all events not occur as anticipated. We incur significant costs and demands upon management as a result of complying with these laws and regulations affecting us as a public company. If we fail to maintain proper and effective internal controls in future periods, it could adversely affect our ability to run our business effectively and could cause investors to lose confidence in our financial reporting.
 
 
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We are subject to import/export controls that could subject us to liability or impair our ability to compete in international markets.
 
 Our products are subject to U.S. export controls and may be exported outside the U.S. only with the required level of export license or through an export license exception, in most cases because we incorporate encryption technology into our products. In addition, various countries regulate the import of certain encryption technology and have enacted laws that could limit our ability to distribute our products or could limit our customers’ ability to implement our products in those countries. Changes in our products or changes in export and import regulations may create delays in the introduction of our products in international markets, prevent our customers with international operations from deploying our products throughout their global systems or, in some cases, prevent the export or import of our products to certain countries altogether. Any change in export or import regulations or related legislation, shift in approach to the enforcement or scope of existing regulations, or change in the countries, persons or technologies targeted by such regulations, could result in decreased use of our products by, or in our decreased ability to export or sell our products to, existing or potential customers internationally.
 
 In addition, we may be subject to customs duties and export quotas, which could have a significant impact on our revenue and profitability. While we have not yet encountered significant regulatory difficulties in connection with the sales of our products in international markets, the future imposition of significant customs duties or export quotas could have a material adverse effect on our business.
 
Our business is subject to the risks of earthquakes, fire, floods and other natural catastrophic events, and to interruption by manmade problems such as computer viruses or terrorism.
 
Our corporate headquarters is located in the San Francisco Bay area, a region known for seismic activity. A significant natural disaster, such as an earthquake, fire or a flood, could have a material adverse impact on our business, operating results and financial condition. In addition, our computer servers are vulnerable to computer viruses, break-ins and similar disruptions from unauthorized tampering with our computer systems. In addition, acts of terrorism or war or public health outbreaks could cause disruptions in our or our customers’ business or the economy as a whole. To the extent that such disruptions result in delays or cancellations of customer orders, or the deployment of our products, our business, operating results and financial condition would be adversely affected.

 
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Item 5. 
OTHER INFORMATION
 
On August 3, 2011, we entered into a letter agreement with Harald Braun, a member of our Board of Directors, that is effective as of June 30, 2011 and terminates on October 15, 2011.  Pursuant to such letter agreement, Mr. Braun agreed to continue to provide services as our interim Executive Vice President.  The letter agreement provides for the grant of an award of 28,800 restricted stock units, which will vest over a one-year period, with vesting in equal quarterly installments following the date of grant.  Mr. Braun’s prior offer letter agreement, dated October 19, 2010, shall continue to govern the terms of his service.  The foregoing description of the Consulting Agreement does not purport to be complete and is qualified in its entirety by reference to the full text of such agreement, which is incorporated herein by reference to Exhibit 10.11B.
 
On August 3, 2011, we entered into a Consulting Agreement with Michael Pohl, a member of our Board of Directors, for a period commencing on August 1, 2011 and terminating on January 31, 2012.  Pursuant to such Consulting Agreement, Mr. Pohl agreed to provide support services to our management team at the request of the Compensation Committee of the Board of Directors.  The Consulting Agreement provides for total aggregate contract amount of $119,994 with a monthly rate of $19,999.  The Consulting Agreement contains customary provisions regarding the protection of our confidential information and assignment of intellectual property to us.  The foregoing description of the Consulting Agreement does not purport to be complete and is qualified in its entirety by reference to the full text of such agreement, which is incorporated herein by reference to Exhibit 10.14A.
 
On August 3, 2011, we committed to Bonus Agreements with each of Amir Bassan-Eskenazi, Ravi Narula, Paul Crann, Jr., Rajive Dhar and Robert Horton, each of whom is an executive officer of BigBand.  Such agreements are effective as of August 3, 2011 and terminate as of the twelve (12) month anniversary of the effective date (the Term).  However, if a Change in Control (as defined in the Bonus Agreements) occurs when there are fewer than six (6) months remaining during the Term, the term of the Bonus Agreements will extend automatically through the date that is six (6) months following the Closing (as defined in the Bonus Agreements).  Pursuant to such Bonus Agreements, each of the executive officers will be eligible to receive a cash bonus payment equal to (i) 100% of such executive officer’s annual base salary as in effect immediately prior to the Change in Control, plus (ii) 100% of such executive officer’s target bonus as in effect for the year in which the Change in Control occurs.  Half of this payment will be paid to the executive officer within thirty (30) days of the Closing, and the remainder will be paid within thirty (30) days of the date that is the six (6) month anniversary of the Closing.  However, if one of the executive officer’s employment is terminated within six (6) months following the Closing without “Cause” or for “Good Reason” (as defined in the Bonus Agreements), then such executive officer will be entitled to the remainder of his or her payment within thirty (30) days following the date of such executive officer’s termination of employment.  The aforementioned change in control bonus payment will be paid in addition to (and not in lieu of) any severance or other benefits that each of the executive officers may otherwise be entitled to receive.
 
The Bonus Agreements also contain customary provisions regarding a release of claims against us and the protection of our confidential information and assignment of intellectual property to us.  The foregoing description of the Bonus Agreements does not purport to be complete and is qualified in its entirety by reference to the full text of the form of Bonus Agreement, which is incorporated herein by reference to Exhibit 10.21.
 
Item 6.
 
3.1B
Form of Amended and Restated Certificate of Incorporation of the Registrant(1)
3.2B
Form of Amended and Restated Bylaws of the Registrant(1)
10.11B
Letter Agreement Extending Employment - Harald Braun
10.14A
Consulting Agreement – Michael Pohl
10.18E
Sixth Amendment to Lease (475 Broadway, Redwood City, California)
10.21
Form of Bonus Agreement
31.1
Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer
31.2
Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer
32.1*
Section 1350 Certification of Principal Executive Officer and Principal Financial Officer
101.INS*
XBRL Instance Document
101.SCH*
XBRL Taxonomy Extension Schema
101.CAL*
XBRL Taxonomy Extension Calculation Linkbase
101.LAB*
XBRL Taxonomy Extension Label Linkbase
101.PRE*
XBRL Taxonomy Extension Presentation Linkbase
  
(1) Incorporated by reference to exhibit of same number filed with the registrant’s Registration Statement on Form S-1 (No. 333-139652) on December 22, 2006, as amended.
*   This exhibit shall not be deemed “filed” for the purposes of Section 18 of the Exchange Act or otherwise subject to the liability of that Section, nor shall it be deemed to be incorporated by reference into any filing under the Securities Act or the Exchange Act, whether made before or after the date hereof, except to the extent this exhibit is specifically incorporated by reference.

 
40

 
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
Date: August 4, 2011
 
  BigBand Networks, Inc.
     
 
By:
/s/ Ravi Narula
   
Ravi Narula, Chief Financial Officer
   
(Principal Financial and Accounting Officer)
 
EXHIBIT INDEX
 
3.1B
Form of Amended and Restated Certificate of Incorporation of the Registrant(1)
3.2B
Form of Amended and Restated Bylaws of the Registrant(1)
Letter Agreement Extending Employment - Harald Braun
Consulting Agreement – Michael Pohl
Sixth Amendment to Lease (475 Broadway, Redwood City, California)
Form of Bonus Agreement
Rule 13a-14(a)/15d-14(a) Certification of Principal Executive Officer
Rule 13a-14(a)/15d-14(a) Certification of Principal Financial Officer
Section 1350 Certification of Principal Executive Officer and Principal Financial Officer
101.INS*
XBRL Instance Document
101.SCH*
XBRL Taxonomy Extension Schema
101.CAL*
XBRL Taxonomy Extension Calculation Linkbase
101.LAB*
XBRL Taxonomy Extension Label Linkbase
101.PRE*
XBRL Taxonomy Extension Presentation Linkbase
 
(1) Incorporated by reference to exhibit of same number filed with the registrant’s Registration Statement on Form S-1 (No. 333-139652) on December 22, 2006, as amended.
*   This exhibit shall not be deemed “filed” for the purposes of Section 18 of the Exchange Act or otherwise subject to the liability of that Section, nor shall it be deemed to be incorporated by reference into any filing under the Securities Act or the Exchange Act, whether made before or after the date hereof, except to the extent this exhibit is specifically incorporated by reference.
 
 
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