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

________________________
FORM 10-Q
________________________
[x]
Quarterly report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended March 31, 2012 

[ ]
Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act for the transition period from _______________ to ______________

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

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

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

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

Indicate by check mark, whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files.) Yes [x]  No [ ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or 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  [ ]
Accelerated filer  [x]
 
 
Non-accelerated filer [ ]
Smaller reporting company [ ]  
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ]   No [x]

As of May 4, 2012, 157,750,731 shares of Common Stock of MRV Communications, Inc. were outstanding.



MRV Communications, Inc.

Form 10-Q for the Quarter Ended March 31, 2012

Index


 
 
Page
Number
PART I
Financial Information
Item 1.
Unaudited Condensed Consolidated Financial Statements:
 
Statements of Operations (unaudited) for the three months ended March 31, 2012 and 2011
 
Statements of Comprehensive Income (unaudited) for the three months ended March 31, 2012 and 2011
 
Balance Sheets as of March 31, 2012 (unaudited) and December 31, 2011
 
Statements of Cash Flows (unaudited) for the three months ended March 31, 2012 and 2011
 
Notes to Financial Statements
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
Item 4.
Controls and Procedures
PART II
Other Information
Item 1.
Legal Proceedings
Item 1A.
Risk Factors
Item 6.
Exhibits
 
Signatures


2


PART I - FINANCIAL INFORMATION

Item 1.     Condensed Consolidated Financial Statements
MRV Communications, Inc.
Statements of Operations
(In thousands, except per share data)
 
Three months ended March 31,
 
2012
 
2011
 
(unaudited)
 
(unaudited)
Revenue:
 
 
 
Product revenue
$
35,926

 
$
41,298

Service revenue
12,445

 
11,873

Total revenue
48,371

 
53,171

Cost of sales
31,212

 
33,491

Gross profit
17,159

 
19,680

Operating expenses:
 
 
 
Product development and engineering
3,745

 
3,838

Selling, general and administrative
17,040

 
16,102

Total operating expenses
20,785

 
19,940

Operating loss
(3,626
)
 
(260
)
Interest expense
(245
)
 
(247
)
Other gain (loss), net
283

 
(163
)
Loss from continuing operations before income taxes
(3,588
)
 
(670
)
Provision for income taxes
776

 
1,230

Loss from continuing operations
(4,364
)
 
(1,900
)
Income from discontinued operations, net of income taxes of $0 in 2012 and $536 in 2011
7,976

 
1,356

Net income (loss) attributable to MRV
$
3,612

 
$
(544
)
 
 
 
 
Net income per share — basic (1):
 
 
 
From continuing operations
$
(0.03
)
 
$
(0.01
)
From discontinued operations
$
0.05

 
$
0.01

 
$
0.02

 
$

Net loss per share — diluted (1):
 
 
 
From continuing operations
$
(0.03
)
 
$
(0.01
)
From discontinued operations
$
0.05

 
$
0.01

 
$
0.02

 
$

Weighted average number of shares:
 
 
 
Basic
157,738

 
157,572

Diluted
157,922

 
157,572

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

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

3


MRV Communications, Inc.
Statements of Comprehensive Income (unaudited) for the three months ended March 31, 2012 and 2011
(In thousands)


 
March 31, 2012
 
March 31, 2011
Net income (loss)
$
3,612

 
$
(544
)
Other comprehensive income, net of tax
 
 
 
      Foreign currency translation adjustments
2,227

 
3,881

     Net unrealized losses on available-for-sale securities:

 
(4
)
Divestiture of subsidiary
(12,599
)
 

Total comprehensive income (loss)
$
(6,760
)
 
$
3,333

 
 
 
 


4


MRV Communications, Inc.
Balance Sheets
(In thousands, except par values)
 
March 31,
2012
 
December 31,
2011
 
(Unaudited)
 
 
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
96,324

 
$
71,352

Restricted time deposits
340

 
380

Accounts receivable, net
44,741

 
55,654

Other receivables
11,451

 
11,604

Inventories
32,181

 
28,134

Deferred income taxes
1,400

 
1,660

Other current assets
7,803

 
5,168

Current assets of discontinued operations

 
24,810

Total current assets
194,240

 
198,762

Property and equipment, net
6,953

 
6,789

Goodwill
5,340

 
5,156

Deferred income taxes, net of current portion
4,037

 
4,113

Intangibles, net
400

 

Other assets
418

 
574

Noncurrent assets of discontinued operations

 
15,295

Total assets
$
211,388

 
$
230,689

 
 
 
 
Liabilities and stockholders' equity
 
 
 
Current liabilities:
 
 
 
Short-term debt
$
3,352

 
$
8,987

Deferred consideration payable
4,615

 
4,615

Accounts payable
28,308

 
31,359

Accrued liabilities
19,884

 
20,924

Deferred revenue
12,776

 
10,985

Other current liabilities
238

 
1,693

Current liabilities of discontinued operations

 
3,236

Total current liabilities
69,173

 
81,799

Other long-term liabilities
6,565

 
6,209

Long-term liabilities from discontinued operations

 
467

Commitments and contingencies

 

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

 

Common Stock, $0.0017 par value:
 
 
 
Authorized — 320,000 shares
 
 
 
Issued — 160,443 shares in 2012 and 160,396 shares in 2011
 
 
 
Outstanding — 157,751 shares in 2012 and 157,704 in 2011
271

 
270

Additional paid-in capital
1,338,132

 
1,337,935

Accumulated deficit
(1,203,568
)
 
(1,207,178
)
Treasury stock — 2,692 shares in 2012 and 2011
(3,271
)
 
(3,271
)
Accumulated other comprehensive income
4,086

 
14,458

Total stockholders' equity
135,650

 
142,214

Total liabilities and stockholders' equity
$
211,388

 
$
230,689


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

5


MRV Communications, Inc.
Statements of Cash Flows
(In thousands)
Three months ended March 31:
2012
 
2011
 
 
(unaudited)
 
(unaudited)
 
Cash flows from operating activities:
 
 
 
 
Net income (loss)
$
3,612

 
$
(544
)
 
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
 
 
 
 
Depreciation and amortization
694

 
584

 
Share-based compensation expense
248

 
767

 
Provision for doubtful accounts
88

 
39

 
Deferred income taxes
96

 
351

 
Amortization of premium on marketable securities

 
51

 
Gain on disposition of property and equipment
15

 
4

 
Gain on sale of subsidiary
(7,936
)
 

 
Changes in operating assets and liabilities:
 
 
 
 
Accounts receivable
11,784

 
6,318

 
Inventories
(4,273
)
 
2,369

 
Other assets
1,314

 
750

 
Accounts payable
(2,984
)
 
(5,546
)
 
Accrued liabilities
(884
)
 
(3,567
)
 
Income tax payable
(2,099
)
 
996

 
Deferred revenue
1,592

 
1,889

 
Other current liabilities
264

 
(1,378
)
 
Net cash provided by operating activities
1,531

 
3,083

 
Cash flows from investing activities:
 
 
 
 
Purchases of property and equipment
(1,435
)
 
(739
)
 
Proceeds from sale of property and equipment
95

 
58

 
Proceeds from sale of investments in unconsolidated entities
1,349

 

 
Proceeds from sale of subsidiaries
16,782

 

 
Investment in restricted time deposits

 
(70
)
 
Release of restricted time deposits

 
104

 
Proceeds from sale or maturity of investments

 
6,175

 
Net cash provided by investing activities
16,791

 
5,528

 
Cash flows from financing activities:
 
 
 
 
Net proceeds from exercise of stock options
1

 
85

 
Purchase of treasury shares

 
(425
)
 
Borrowings on short-term debt
3,021

 
11,222

 
Payments on short-term debt
(8,822
)
 
(14,940
)
 
Borrowing on long-term obligations
362

 

 
Payments on long-term obligations
(159
)
 

 
Net cash used by financing activities
(5,597
)
 
(4,058
)
 
Effect of exchange rate changes on cash and cash equivalents
(117
)
 
766

 
Net increase in cash and cash equivalents
12,608

 
5,319

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

 
141,569

 
Cash and cash equivalents, end of period
$
96,324

 
$
146,888

 
Supplemental disclosure of cash flow information:
 
 
 
 
Cash paid during year for interest — continuing operations
$
159

 
$
407

 
Cash paid during year for interest — discontinued operations

 
4

 
Cash paid during year for interest — Total
$
159

 
$
411

 
Cash paid during year for income taxes — continuing operations
$
1,941

 
$
256

 
Cash paid during year for income taxes — discontinued operations
295

 
63

 
Cash paid during year for income taxes — Total
$
2,236

 
$
319

 
The accompanying notes are an integral part of these financial statements.
1.
The Cash and cash equivalents at the beginning of the periods presented include $7,396 and $8,459 from discontinued operations for March 31, 2012 and March 31, 2011, respectively.

6


MRV Communications, Inc.
Notes to Financial Statements
(Unaudited)

1.
Basis of Presentation

The consolidated financial statements include the accounts of MRV Communications, Inc. (“MRV” or the “Company”) and its wholly-owned and majority-owned subsidiaries. All significant intercompany transactions and accounts have been eliminated. MRV consolidates the financial results of less than majority-owned subsidiaries when it has effective control, voting control or has provided the entity's working capital. When investment by others in these enterprises reduces the Company's voting control below 50%, MRV discontinues consolidation and uses the cost or equity method of accounting for these investments, unless otherwise required. As of March 31, 2012, all of the Company's subsidiaries were wholly-owned.

The consolidated financial statements included herein have been prepared by MRV, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) have been condensed or omitted pursuant to such rules and regulations although MRV believes that the disclosures are adequate to make the information presented not misleading. The information included in this Quarterly Report on Form 10-Q for the quarter ended March 31, 2012 (this “Form 10-Q”) should be read in conjunction with “Selected Financial Data,” “Management's Discussion and Analysis of Financial Condition and Results of Operations,” “Quantitative and Qualitative Disclosures About Market Risk,” and the Financial Statements and Notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2011 (the “2011 Form 10-K”) filed with the SEC.

In the opinion of MRV's management, these unaudited statements contain all adjustments, which include normal recurring adjustments, necessary to present fairly the financial position of MRV as of March 31, 2012, and the results of its operations for the three months and its cash flows for the three months then ended. The results reported in these financial statements should not be regarded as necessarily indicative of results that may be expected for the full year or any future periods.

On May 6, 2011, the Company sold all of the issued and outstanding capital stock of its wholly-owned operating subsidiaries, TurnKey Communications AG, TurnKey Services AG, and Elcoma AG (together “TurnKey"), and on March 29, 2012, the Company sold all of the issued and outstanding capital stock of CES Creative Electronic Systems SA ("CES"). The historical financial results of TurnKey and CES prior to their respective dates of sale have been reclassified as discontinued operations for all periods presented. The related assets and liabilities of CES have been classified as assets and liabilities of discontinued operations in the Balance Sheet as of December 31, 2011. Cash flows from discontinued operations for CES and TurnKey are presented combined with the cash flows from continuing operations in the accompanying Statement of Cash Flows for the three months ended March 31, 2011. CES is also included in the three months ending March 31, 2012.

2.
Cash and Cash Equivalents, Restricted Time Deposits and Marketable Securities

MRV treats highly liquid investments with an original maturity of 90 days or less as cash equivalents. Investments with maturities of less than one year are considered short-term. MRV maintains cash balances and investments in qualified financial institutions, and at various times such amounts are in excess of federal insured limits.

Restricted time deposits represent investments that are restricted as to withdrawal or use and are primarily in foreign subsidiaries. Restricted time deposits generally secure standby letters of credit, bank lines of credit, or bank loans. Investments in and releases of restricted time deposits are included in investing activities on the Company's Statement of Cash Flows unless the time deposits relate to an underlying bank loan and will be used to repay the loan, in which case the related cash flows are treated as financing activities.

The Company accounts for its marketable securities under the provisions of ASC 320-10 Accounting for Certain Investments in Debt and Equity Securities. Original cost approximated market value of the Company's $7.3 million in marketable securities held as of March 31, 2011, and the related unrealized loss was $35,000. As of March 31, 2012 and December 31, 2011, MRV did not hold any marketable securities.

3.
Fair Value Measurement

7



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

ASC 820-10 Fair Value Measurements defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements. ASC 820-10 establishes a three-level hierarchy that prioritizes the use of observable inputs, such as quoted prices in active markets, and minimizes the use of unobservable inputs, to measure fair value. All of MRV's assets and liabilities that are measured at fair value are measured using the unadjusted quoted prices in active markets for identical assets or liabilities that are accessible at the measurement date. Under this standard, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., the “exit price”) in an orderly transaction between market participants at the measurement date.

In determining the fair value of its financial assets and liabilities, the Company uses various valuation approaches. ASC 820-10 establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that observable inputs be used when available.

4.
Credit Risk

Financial instruments that potentially subject the Company to concentrations of credit risk primarily consist of cash and cash equivalents placed with high credit quality institutions and accounts receivable due from customers. MRV evaluates the collectability of accounts receivable based on a combination of factors. If the Company becomes aware of a customer's inability to meet its financial obligations after a sale has occurred, the Company records an allowance to reduce the net receivable to the amount which it reasonably believes to be collectable from the customer. For all other customers, the Company records allowances for doubtful accounts based on the length of time the receivables are past due, the current business environment, and historical experience. If the financial conditions of MRV's customers were to deteriorate or if economic conditions worsen, additional allowances may be required in the future.

The following table summarizes the changes in the allowance for doubtful accounts during the three months ended March 31, 2012 (in thousands):

 
Three months ended
 
March 31, 2012
Balance at beginning of period
$
1,672

Charged to expense
88

Write-offs
(50
)
Foreign currency translation adjustment
33

Balance at end of period
$
1,743

 
 

5.
Inventories

Inventories are stated at the lower of cost or market and consist of materials, labor and overhead. Cost is determined by the first in, first out method. Inventories, net of reserves, consisted of the following (in thousands):

 
March 31, 2012
 
December 31, 2011
Raw materials
$
5,481

 
$
5,400

Work-in process
1,894

 
1,939

Finished goods
24,806

 
20,795

Total
$
32,181

 
$
28,134

 
 
 
 

The following table summarizes the change in inventory reserve during the three months ended March 31, 2012 (in thousands):

8



 
Three months ended
 
March 31, 2012
Balance at beginning of period
$
14,042

Charged to expense
439

Write-offs
(347
)
Foreign currency translation adjustment
248

Balance at end of period
$
14,382

 
 

6.
Goodwill and Other Intangibles

In accordance with ASC 350 Intangibles - Goodwill and Other, goodwill and intangibles with indefinite lives are not amortized, but instead measured for impairment at least annually or when events indicate that impairment exists. No events occurred during the three months ended March 31, 2012 indicating impairment of goodwill existed, and accordingly, there was no change in the carrying balance of goodwill during that period. Goodwill is recorded at the subsidiary level in local currencies and converted into U.S. dollars at the balance sheet date. There was an unrealized gain of $0.2 million during the three months ended March 31, 2012 due to the change in foreign currency rates from December 31, 2011 to March 31, 2012. The unrealized gain arising from the translation adjustment is recorded in accumulated other comprehensive income on the Balance Sheet. (See Note 15, Subsequent Events.)

Other intangibles consist of intellectual property licensed by the Company's Israel subsidiary during the quarter ended March 31, 2012. Amortization of other intangible assets was zero for the three months ended March 31, 2012 and March 31, 2011.

7.
Product Warranty

As of March 31, 2012 and December 31, 2011, MRV's product warranty liability recorded in accrued liabilities was $1.1 million and $1.1 million, respectively. MRV accrues for warranty costs as part of cost of goods sold based on associated material product costs, technical support labor costs and associated overhead. The products sold are generally covered by a warranty for periods of one to two years.

The following table summarizes the change in product warranty liability during the three months ended March 31, 2012 (in thousands):

 
Three months ended
 
March 31, 2012
Beginning balance
$
1,099

Cost of warranty claims
3

Accruals for product warranties
(15
)
Foreign currency translation adjustment

Total
$
1,087

 
 

8.
Net Income (Loss) Per Share

Basic net income (loss) per share is computed using the weighted average number of shares of Common Stock outstanding during the period. Diluted net income (loss) per share is computed using the weighted average number of shares of Common Stock outstanding and dilutive potential shares of Common Stock from stock options outstanding during the period. Diluted shares outstanding include the dilutive effect of in-the-money options, which is calculated based on the average share price for each period using the treasury stock method.

Restricted shares and outstanding stock options to purchase 10.7 million and 7.3 million shares were excluded from the computation of dilutive shares for the three months ended March 31, 2012 and March 31, 2011, respectively, because such stock options were anti-dilutive since they were not in-the-money. For the three months ended March 31, 2011, 1.0 million potentially dilutive shares were excluded from the calculation of diluted net loss per share because

9


such shares were anti-dilutive since they were not in the money. Shares purchased into treasury shares are excluded from any subsequent information concerning the number of shares outstanding.

9.
Share-Based Compensation

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

 
Three months ended
 
March 31,
 
2012
 
2011
Cost of goods sold
$
14

 
$
11

Product development and engineering
11

 
39

Selling, general and administrative
198

 
704

Total share-based compensation expense (1)
$
223

 
$
754

 
 
 
 

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

The Company did not grant stock options during the quarter ended March 31, 2012. The fair value of restricted stock awards granted during the three months ended March 31, 2012 was $0.97 per share. There were 95,000 options granted during the three months ended March 31, 2011. As of March 31, 2012, the total unrecorded deferred share-based compensation balance for unvested securities, net of expected forfeitures, was $2.4 million, which is expected to be amortized over a weighted-average period of 2.2 years.

Valuation Assumptions

MRV uses the Black-Scholes option pricing model to estimate the fair value of stock option awards or related modifications. The Black-Scholes model requires the use of subjective and complex assumptions including the option's expected life and the underlying stock price volatility. MRV expects future volatility to approximate historical volatility. The following weighted average assumptions were used for estimating the fair value of options granted during the three months ended March 31, 2012 and March 31, 2011:

Three months ended March 31:
2012
 
2011
Risk-free interest rate
0.5
%
 
2.4
%
Dividend yield

 

Volatility
79.7
%
 
89.7
%
Expected life (in years)
3.0

 
6.3

 
 
 
 

10.
Segment Reporting and Geographic Information

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

The accounting policies of the segments are the same as those described in the summary of significant accounting polices disclosed in MRV's 2011 Form 10-K. MRV evaluates segment performance based on revenues, gross profit and operating income of each segment. As such, there are no separately identifiable Statements of Operations data below operating income.

The following table summarizes revenues by segment, including intersegment revenues (in thousands):


10


 
Three months ended March 31,
 
2012
 
2011
Network Equipment group
$
20,419

 
$
22,516

Network Integration group
30,470

 
35,354

Before intersegment adjustments
50,889

 
57,870

Intersegment adjustments
(2,518
)
 
(4,699
)
Total
$
48,371

 
$
53,171

 
 
 
 

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

One customer accounted for $9.9 million and $11.3 million of revenue in the Network Integration group, or
20% and 21% of total revenue, for the three months ended March 31, 2012, and 2011, respectively.

The same customer in the Network Integration group accounted for 13% and 8% of accounts receivable as of March 31, 2012, and December 31, 2011, respectively. Another customer accounted for 15% and 16% of accounts receivable as of March 31, 2012, and December 31, 2011, respectively.

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

 
Three months ended
 
March 31,
 
2012
 
2011
Americas
$
12,849

 
$
11,513

Europe
34,405

 
39,492

Asia Pacific
938

 
2,161

Other regions
179

 
5

Total
$
48,371

 
$
53,171

 
 
 
 

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

 
March 31,
2012
 
December 31,
2011
Americas
$
2,064

 
$
2,150

Europe
4,837

 
4,587

Asia Pacific
52

 
52

Total
$
6,953

 
$
6,789

 
 
 
 

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


11


 
Three months ended
 
March 31,
 
2012
 
2011
Gross profit
 
 
 
Network Equipment group
$
10,044

 
$
11,590

Network Integration group
6,969

 
8,531

Before intersegment adjustments
17,013

 
20,121

Corporate unallocated and intersegment adjustments (1)
146

 
(441
)
Total
$
17,159

 
$
19,680

 
 
 
 
Depreciation expense
 
 
 
Network Equipment group
$
229

 
$
214

Network Integration group
157

 
124

Corporate
47

 
27

Total
$
433

 
$
365

 
 
 
 
Operating income (loss)
 
 
 
Network Equipment group
$
(1,430
)
 
$
550

Network Integration group
1,090

 
2,838

Before intersegment adjustments
(340
)
 
3,388

Corporate unallocated operating loss and adjustments (1)
(3,286
)
 
(3,648
)
Total
$
(3,626
)
 
$
(260
)
 
 
 
 

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

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

 
Three months ended
 
March 31,
 
2012
 
2011
Additions to Fixed Assets
 
 
 
Network Equipment group
$
164

 
$
207

Network Integration group
388

 
100

Corporate
32

 
195

Discontinued operations
851

 
237

Total
$
1,435

 
$
739

 
 
 
 

 
March 31,
2012
 
December 31,
2011
Total Assets
 
 
 
Network Equipment group
$
42,074

 
$
45,512

Network Integration group
89,789

 
93,557

Corporate and intersegment eliminations
79,525

 
50,927

Discontinued operations

 
40,693

Total
$
211,388

 
$
230,689

 
 
 
 


12


 
March 31,
2012
 
December 31,
2011
Goodwill
 
 
 
Network Integration group
5,340

 
5,156

Total
$
5,340

 
$
5,156

 
 
 
 

11.
Recent Accounting Pronouncements

In May 2011, the FASB issued ASU 2011-04 to amend ASC 820 Fair Value Measurements and Disclosures effective for interim reporting periods after December 15, 2011 to achieve common fair value measurement and disclosure requirements between GAAP and International Financial Reporting Standards. This new guidance amends current fair value measurement and disclosure guidance to include increased disclosures regarding valuation inputs and investment categorization. The adoption of this new accounting guidance in 2012 did not have a material impact on our consolidated financial position, results of operations or cash flows.

In June 2011, the FASB issued guidance regarding the presentation of comprehensive income. The new standard requires the presentation 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. The new standard also requires presentation of adjustments for items that are reclassified from other comprehensive income to net income in the statement where the components of net income and the components of other comprehensive income are presented. The updated guidance is effective on a retrospective basis for financial statements issued for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2011.
 
In January 2012, we adopted ASU 2011-12 Comprehensive Income (topic 220) which required additional disclosures for comprehensive income. As permitted under this standard, we have elected to present comprehensive income in two separate but consecutive financial statements, consisting of a statement of income followed by a separate statement of comprehensive income. This standard is required to be applied retrospectively beginning January 1, 2012, except for certain provisions for which adoption was delayed.

In August 2011, the FASB approved a revised accounting standard update intended to simplify how an entity tests goodwill for impairment. The amendment will allow an entity to first assess qualitative factors to determine whether it is necessary to perform the two-step quantitative goodwill impairment test. An entity no longer will be required to calculate the fair value of a reporting unit unless the entity determines, based on a qualitative assessment, that it is more likely than not that its fair value is less than its carrying amount. This accounting standard update will be effective for the Company beginning in the first quarter of fiscal 2013 and early adoption is permitted.
    

12.
Litigation

In connection with the acquisition of Fiberxon, Inc. in July 2007, MRV recorded a potential deferred consideration payable related to post-acquisition obligations of MRV pursuant to the purchase agreement. MRV filed an affirmative lawsuit in the California Superior Court in March 2009 against: a) former stockholders of Fiberxon, seeking to cancel a potential deferred consideration obligation of approximately $31.5 million; and b) certain former executives, directors and stockholders of Fiberxon alleging fraud and other claims. MRV entered into a Settlement Agreement and Release in December 2009 with Yoram Snir, personally and in his capacity as Stockholders' Agent for the former stockholders of Fiberxon. Pursuant to the settlement agreement, MRV has fully settled any obligation to pay the first $18 million of potential deferred consideration. This amount was reserved for set-off in the original merger agreement, and the former Fiberxon stockholders, pursuant to the settlement, were entitled to their pro rata portion of the $1.5 million settlement amount. Additionally, MRV agreed to pay up to $4.5 million to settle claims relating to the remaining $13.5 million of the potential deferred compensation. The second portion of the settlement was with the former stockholders directly, and stockholders holding approximately 67% of the former shares elected to participate in this portion of the settlement. The remaining deferred consideration payable as of March 31, 2012 of $4.6 million represents the remaining stockholders' pro rata share of the $13.5 million portion.
 MRV did not settle the California Superior Court action with four remaining defendants, and in December

13


2010, the court issued a default judgment against them in the amount of $57.4 million. However, the court set aside this judgment in April 2011 at the request of the defendants. In addition, in 2010, four former stockholders, who owned approximately 27% of the former Fiberxon and who did not participate in the second portion of the settlement, initiated litigation in Beijing, PRC against MRV, Source Photonics LLC and other related parties alleging a claim for approximately $3.7 million, representing these former stockholders' pro rata amount of the $13.5 million portion of the potential deferred compensation. In connection with the sale by MRV of Source Photonics in October 2010, the Company agreed to indemnify the buyer against this litigation.
In connection with the Company's past stock option grant practices, MRV and certain of its current and former directors and officers have been subjected to a number of ongoing stockholder lawsuits. In June 2008, MRV announced that the Board of Directors, based on information provided by management, and in consultation with management, concluded that the financial statements and the related reports of our independent public accountants should not be relied upon due to MRV's intention to restate its financial results from 2002 through 2008 to correct its accounting for option grants and other issues. The Board of Directors appointed a Special Committee of independent directors, along with independent legal counsel and outside accounting experts, to investigate the issues, and a restatement of the Company's financial statements was filed in its Annual Report on Form 10-K for the year ended December 31, 2008 in October 2009.
     From June to August 2008, five purported stockholder derivative and securities class action lawsuits were filed in the U.S. District Court in the Central District of California and one derivative lawsuit was filed in the Superior Court of the State of California against the Company and certain of MRV's current and former officers and directors. The five lawsuits filed in the Central District of California were consolidated. Claims were asserted under Section 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and Rule 10b-5 promulgated thereunder. The allegations set forth in the complaints were based on facts disclosed in the Company's press release of June 5, 2008, which stated that MRV's financial statements could not be relied on due to its historical stock option practices and related accounting. The complaints sought to recover from the defendants unspecified compensatory and punitive damages, to require MRV to undertake reforms to corporate governance and internal control procedures, to obtain an accounting of stock option grants found to be improper, to impose a constructive trust over stock options and proceeds derived therefrom, to disgorge from any of the defendants who received allegedly improper stock options the profits obtained therefrom, to rescind improperly priced options, and to recover costs of suit, including legal and other professional fees and other equitable relief. In November 2010, the judge overseeing the securities class action lawsuits gave final approval to a stipulated $10 million settlement agreement, which was covered by the Company's director and officer insurance policies. 
Motions to dismiss the defendants were heard in the second half of 2010 in both the federal and California state derivative lawsuits, and certain defendants and claims were dismissed. Discovery continues in these matters. The Company and plaintiffs in the federal and state derivative lawsuits have attended mediations but have not been successful in reaching a settlement of these claims. To date, a majority of the costs related to the Company's and defendants' defense of these actions have been paid by the Company's insurance carriers under its director and officer insurance policies, including the securities class action settlement. However, if litigation continues and the insurance coverage amounts are depleted, the Company may be asked to advance funds to cover its indemnification obligations for its current and past directors and officers who are defendants in this matter, and will continue to incur its own legal expenses. Any such future obligations are not determinable at this time. As of March 31, 2012, approximately $1.8 million in coverage remains available under the Company's policies.
From time to time, MRV has received notices from third parties alleging possible infringement of patents with respect to product features or manufacturing processes. Management believes such notices are common in the communications industry because of the large number of patents that have been filed on these subjects. The Company's policy is to discuss these notices with the parties in an effort to demonstrate that MRV's products and/or processes do not violate any patents. The Company has been involved in such discussions with International Business Machines, Alcatel-Lucent, Ortel Communications, Ltd., Nortel Networks Corporation, Rockwell Automation, Inc., The Lemelson Foundation, Finisar Corporation and Apcon, Inc. in the past.
MRV has been named as a defendant in lawsuits involving matters that the Company considers routine to the nature of its business. Management is of the opinion that the ultimate resolution of such matters will not have a material adverse effect on our business, operating results and financial condition.


14


13.
Discontinued Operations

On May 6, 2011, the Company sold all of the issued and outstanding capital stock of TurnKey. Prior to its disposition, TurnKey was part of the Network Equipment segment. The historical financial results of TurnKey prior to its sale have been reclassified as discontinued operations for all periods presented. The Company recorded a net loss of $0.2 million from discontinued operations, net of income tax expense for the three months ended March 31, 2011.

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

The historical financial results of CES prior to its sale have been reclassified as discontinued operations for all periods presented. The Company recorded net income of $8.0 million and $1.6 million from discontinued operations, net of income tax expense, for the three months ended March 31, 2012 and 2011, respectively. The net income from discontinued operations for the three months ended March 31, 2012 includes an $8.6 million gain partially offset by a $0.1 million operating loss and $0.5 million in withholding tax expense.

The statements of operations for the three months ended March 31, 2012 and 2011 that would have been included if CES had not been sold and the assets and liabilities of CES that are reflected as discontinued operations in the Balance Sheet as of December 31, 2011 consisted of (in thousands):

Three months ended March 31:
2012
2011
Revenue
$
6,829

$
8,791

Income (loss) before income taxes
(135
)
2,081

Provision (benefit) for income taxes

516

Income from operations of discontinued operations
(135
)
1,565

Net income (loss) from discontinued operations, net of income taxes
$
(135
)
$
1,565


 
December 31, 2011
Cash and cash equivalents
$
12,364

Time deposits
1,281

Accounts receivable, net
5,310

Inventories
4,029

Other current assets
1,826

Total current assets
24,810

Property and equipment, net
2,571

Goodwill
12,843

Other assets
469

Total assets
$
40,693

Accounts payable
$
705

Accrued liabilities
1,802

Other current liabilities
729

Non-current liabilities
1,055

Total liabilities
$
4,291

 
 


15



14. Accounts Receivable Factoring
    
The Company has agreements with unrelated third-parties for the factoring of specific accounts receivable in Italy in order to reduce the amount of working capital required to fund such receivables. The Company's credit facility agreement permits the factoring of up to 15.0 million euros or, $20.0 million in U.S. dollars as of March 31, 2012, worth of receivables in operations outside of the United States. The factoring of accounts receivable under these agreements is accounted for as a sale in accordance with ASC 860, Transfers and Servicing, and accordingly, is accounted for as an off-balance sheet arrangement. Proceeds on the transfer reflect the face value of the account less a discount. The discount is recorded as a charge in "interest" in the consolidated statement of income in the period of the sale. Net funds received reduced accounts receivable outstanding while increasing cash. The Company has no significant retained interests or servicing liabilities related to the accounts receivable that have been sold in Italy.
    
As of March 31, 2012, the Company had sold $23.7 million of accounts receivable pursuant to these agreements, which represents the face amount of total outstanding receivable at that date. At December 31, 2011, the Company had sold $21.8 million of accounts receivable under these agreements. The related outstanding balances on these amounts were $7.9 and $10.0 million as of March 31, 2012 and December 31, 2011, respectively.


15.
Subsequent Events

On May 1, 2012, the Company's Board of Directors declared a dividend and payment to option holders totaling approximately $48.6 million on the outstanding shares of the Company's Common Stock. The dividend is payable on May 25, 2012 to holders of record as of the close of business on May 16, 2012. The Board also approved a staggered cash payment to option holders equal to the loss in the Black-Scholes fair value of their options as a result of the dividend. Restricted stockholders will receive per share payments in the same amount as the Company's stock holders promptly following payment of the dividend. Option holders who provide service to the Company at the time of the payment of the dividend will receive 50 percent of the payment amount in respect of their vested options promptly following payment of the dividend, and 50 percent of the payment amount 12 months following, conditioned upon continuous service to MRV, subject to certain acceleration conditions such as involuntary termination without cause, death or disability, change of control, or a sale of the business unit in which the option holder is employed. Option holders with unvested options will receive the cash payment in 12 months, subject to the same conditions described above.

In April 2012, a major customer of Alcadon AB gave notice that it has shifted its future purchases to another vendor. In accordance with ASC 350 Intangibles - Goodwill and Other, we measured Alcadon's goodwill for impairment. The carrying value of Alcadon's goodwill exceeded its implied fair value by $2.8 million, and the Company will record an impairment charge of that amount to reduce the carrying value to the implied market value in the second quarter of 2012.

Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the Financial Statements and Notes thereto included elsewhere in this Form 10-Q, and Items 6, 7 and 8 of our 2011 Form 10-K. The discussion in this Form 10-Q contains certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, and may qualify for the safe harbor provided for in Section 21E of the Exchange Act. Forward-looking statements are statements other than statements of historical fact and may be identified by use of such terms as “expects,” “anticipates,” “intends,” “potential,” “estimates,” “believes,” “may,” “should,” “could,” “will,” “would,” and words of similar import.

Forward-looking statements involve known and unknown risks and uncertainties that could cause actual results to differ materially from those projected. In addition, the statements in this Form 10-Q may involve certain risks, uncertainties and assumptions, the likelihood of which are difficult to assess and may not occur, including risks that each of its business segments may not make the expected progress in its respective market, or that management's long-term strategy may not achieve the expected results. Other risks and uncertainties relate to delayed lead times in receiving components and delayed delivery times to customers due to short-term capacity constraints, potential changes in relationships with MRV's customers and suppliers and their financial condition, MRV's success in developing, introducing and shipping product enhancements and new products, competition in our market segments, market acceptance of new products and our ability to succeed in entering new markets, continued market acceptance of

16


existing products and continued success in selling the products of other companies, product price discounts and general pricing pressure in certain of our markets, the timing and amount of significant orders from customers, obsolete inventory or product returns, warranty and other claims on products, the continued ability of MRV to protect its intellectual property rights and avoid onerous licensing fees, changes in product mix, maturing product life cycles, implementation of operating cost structures that align with revenue growth, political instability in areas of the world in which MRV operates or sells its products and services, currency fluctuations, changes in accounting rules, general economic conditions, as well as changes in such conditions specific to our market segments, maintenance of our inventory and production backlog, supply constraints directly or indirectly caused by natural disasters, litigation, including but not limited to litigation related to MRV's historical stock option granting practices and its acquisition of Fiberxon, Inc., and the Company's review of its strategic alternatives and the risks that such a review might create.

In light of the risks and uncertainties inherent whenever matters or events expected to occur or not occur in the future are discussed, there can be no assurance that the forward-looking information contained in this Form 10-Q will in fact transpire or prove to be accurate.  All subsequent written and oral forward-looking statements attributable to the Company or persons acting on our behalf are expressly qualified in their entirety by this introduction. In light of the risks and uncertainties in all such projected operational matters, the inclusion of forward-looking statements in this Form 10-Q should not be regarded as a representation by the Company or any other person that the objectives or plans of the Company will be achieved or that any of the Company's operating expectations will be realized. Revenue and results of operations are difficult to forecast and could differ materially from those projected in the forward-looking statements contained in this Form 10-Q for the reasons detailed in Item 1A “Risk Factors” of Part I on the Company's 2011 Form 10-K. Readers should not place undue reliance on forward-looking statements, which reflect management's view only as of the date of this Form 10-Q. The Company undertakes no obligation to amend this Form 10-Q or revise publicly these forward-looking statements (other than pursuant to requirements imposed on registrants pursuant to Item 1A under Part II of Form 10-Q) to reflect subsequent
events or circumstances.  Readers should also carefully review the risk factors described in other documents the Company files from time to time with the SEC and the cautionary statements contained in our press releases when we provide forward-looking information.

Overview

We supply communications equipment and services to carriers, governments and enterprise customers worldwide. We conduct our business along two principal segments: (a) the Network Equipment group; and (b) the Network Integration group. We evaluate segment performance based on the revenue, gross profit and operating expenses of each segment. We do not evaluate segment performance on additional financial information. As such, there are no separately identifiable Statements of Operations data below operating income. Our Network Equipment group provides communications equipment that facilitates access, transport, aggregation and management of voice, data and video traffic in networks, data centers and laboratories used by telecommunications service providers, cable operators, enterprise customers and governments worldwide. Our Network Integration group operates primarily in Italy, France, and Scandinavia, servicing Tier One carriers, regional carriers, large enterprises, and government institutions. The Network Integration group provides network system design, integration and distribution services that include products manufactured by third-party vendors, as well as products developed and manufactured by OCS, a subsidiary in our Network Equipment group. We market and sell our products worldwide, through a variety of channels, which include a dedicated direct sales force, manufacturers' representatives, value-added-resellers, distributors and systems integrators.

We believe that the recent downturn in global markets has affected our revenues and operating results, particularly in the Italian market, and that conditions may worsen.  When economic uncertainties increase, our customers often take a more cautious approach in their capital expenditures, resulting in order delays, slowing deployments, and lengthening sales cycles. This may lead to increased competition for projects and price pressures resulting in lower gross margins.  Despite these economic uncertainties, we believe that our customers need to continue investing in their networks to meet the growth in consumer and enterprise use of high-bandwidth communications services.  We believe in our longer term market opportunities, but we are uncertain how long the downturn in economic conditions will continue and how our customers will interpret and react to market conditions.

Our business involves reliance on foreign-based offices. Several of our divisions, outside subcontractors and suppliers are located in foreign countries, including Argentina, Australia, Canada, Denmark, France, Germany, Israel, Italy, Mexico, the Netherlands, Norway, Russia, Singapore, South Africa, Sweden, Taiwan, and the United Kingdom. For the three months ended March 31, 2012, and 2011, foreign revenue constituted 77% and 80%, respectively, of our total revenue. The majority of our foreign sales are to customers located in the European region, with remaining

17


foreign sales primarily to customers in the Asia Pacific region.

On May 6, 2011, we sold all of the issued and outstanding capital stock of three wholly-owned operating subsidiaries, TurnKey Communications AG, TurnKey Services AG, and Elcoma AG (together “TurnKey").

On December 2, 2011, we announced that we entered into a stock purchase agreement with CES Holding SA, as Purchaser, represented for purpose of the agreement by Vinci Capital Switzerland SA, for the sale of CES Creative Electronic Systems SA (“CES”). The sale of CES was subject to stockholder approval, which was obtained on January 9, 2012, and the sale was completed on March 29, 2012.

We have reclassified the historical results of CES and TurnKey as discontinued operations in this Form 10-Q for all periods presented. Accordingly, the related assets and liabilities of CES have been classified as assets and liabilities from discontinued operations in the December 31, 2011 Balance Sheet and the net income or loss for CES and TurnKey prior to their dispositions has been classified as income or loss from discontinued operations. Cash flows from discontinued operations are presented combined with the cash flows from continuing operations in the accompanying Statement of Cash Flows. See Note 13 "Discontinued Operations" to the Financial Statements in Item 1 of this Form 10-Q for further discussion.

During 2011, we declared a special dividend to stockholders of $75 million. Our Board of Directors considered the Company's liquidity and capital needs prior to declaring the dividend, and determined the $75 million to be excess capital. We believe that after the dividend, the Company continued to have ample capital to meet our expected capital needs.
 
On February 3, 2012, we announced that we engaged Oppenheimer & Co., Inc. to review strategic alternatives for the Company. This strategic review may result in a sale of the Company and/or any of its business units separately. The Company expects to reassess the potential return of capital to stockholders in the event of such a divestiture. 

On May 1, 2012 we declared a special dividend to stockholders of $47.3 million. Our Board of Directors considered the Company's liquidity and capital needs prior to declaring the dividend, and determined the $47.3 million to be excess capital. We believe that after the dividend, the Company should continue to have sufficient capital to meet our expected capital needs. At March 31, 2012, we had $96.3 million in cash and cash equivalents, $0.3 million in restricted time deposits and $3.4 million in short-term debt.

Critical Accounting Policies

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

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

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

Revenue Recognition.    Our major revenue-generating products consist of switches and routers, console management, physical layer products, and fiber optic components. We generally recognize product revenue, net of sales discounts, returns and allowances, in accordance with ASC 605 Revenue Recognition, when persuasive evidence of an arrangement exists, delivery has occurred and all significant contractual obligations have been satisfied, the fee is fixed or determinable and collection is considered reasonably assured. Products are generally shipped "FOB shipping point," with no right of return and revenue is recognized upon shipment. If revenue is to be recognized upon delivery,

18


such delivery date is tracked through information provided by the third party shipping company we use to deliver the product to the customer. Our Network Integration business units resell third party products. We recognize revenue on these sales on a gross basis, as a principal, because we are the primary obligor in the arrangement, we are exposed to inventory and credit risk, we negotiate the selling prices, and we sell the products as part of a solution in which we provide services. Sales of services and system support are deferred and recognized ratably over the contract period in accordance with ASC 605-20 Services. Sales to end customers with contingencies, such as rights of return, rotation rights, conditional acceptance provisions and price protection, are infrequent and insignificant and are deferred until the contingencies have been satisfied or the contingent period has lapsed. For sales to distributors, we generally recognize revenue when product is sold to the distributor rather than when the product is sold by the distributor to the end user. In certain circumstances, distributors have limited rights of return, including stock rotation rights, and/or are entitled to price protection, where a rebate credit may be provided to the customer if we lower our price on products held in the distributor's inventory. We estimate and establish allowances for expected future product returns and credits in accordance with ASC 605. We record a reduction in revenue for estimated future product returns and future credits to be issued to the customer in the period in which revenue is recognized, and for future credits to be issued in relation to price protection at the time we make changes to our distributor price book. We monitor product returns and potential price adjustments on an ongoing basis and estimate future returns and credits based on historical sales returns, analysis of credit memo data, and other factors known at the time of revenue recognition.

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

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

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

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

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

Inventory Reserves.    We make ongoing estimates relating to the market value of inventories, based upon our assumptions about future demand and market conditions. If we estimate that the net realizable value of our inventory

19


is less than the cost of the inventory recorded on our books, we record an adjustment to the cost basis equal to the difference between the cost of the inventory and the estimated net realizable market value. This adjustment is recorded as a charge to cost of goods sold, and includes estimates for excess quantities and obsolete inventory. If changes in market conditions result in reductions in the estimated market value of our inventory below previous estimates, we would make further adjustments in the period in which we make such a determination and record a charge to cost of goods sold. At the time of recording the reserve, a new, lower cost basis for that inventory is established, and subsequent changes in facts and circumstances do not result in the restoration of, or increase in, that newly established cost basis. The inventory reserve is not reduced until the underlying inventory is sold or otherwise disposed.

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

Our annual assessment considers economic conditions and trends, estimated future operating results, and anticipated future economic conditions. We determine the fair value of each reporting unit using a discounted cash flow based valuation methodology. To validate reasonableness of the valuation, we reconcile the sum of the fair values across all reporting units to the Company's market capitalization as of the valuation date. The first step is to compare the fair value of the reporting unit with the unit's carrying amount, including goodwill. If this test indicates that the fair value is less than the carrying value, then step two is required to compare the implied fair value of the reporting unit's goodwill with the carrying amount of the reporting unit's goodwill. A non-cash goodwill impairment charge would have the effect of decreasing our earnings or increasing our losses in such period. See Note 6 "Goodwill and Other Intangibles" to the Financial Statements in Item 1 of this Form 10-Q for further discussion.

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

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

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


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

Share-Based Compensation.    We determine the fair value of stock options using the Black-Scholes valuation model as permitted under ASC 718 Compensation - Stock Compensation. The assumptions used in calculating the fair value of share-based payment awards represent our best estimates. Our estimates may be impacted by certain variables including stock price volatility, employee stock option exercise behaviors, additional stock option grants, estimates of forfeitures, and the related income tax impact. See Note 9 “Share-Based Compensation” to the Financial

20


Statements in Item 1, Part 1 of this Form 10-Q for further discussion.

Currency Rate Fluctuations

Changes in the relative values of non-U.S. currencies to the U.S. dollar affect our results. We conduct a significant portion of our business in foreign currencies, including the euro, the Swedish krona, the Taiwan dollar and the Israeli new shekel. For the three months ended March 31, 2012 and 2011, 59% and 67% of revenue, respectively and 29% of operating expenses for both years were incurred at subsidiaries with a reporting currency other than the U.S. dollar. For the three months ended March 31, 2012, these currencies were stronger against the U.S. dollar compared to the three months ended March 31, 2011, so revenue and expenses in these currencies translated into more dollars than they would have in the prior period. Additional discussion of foreign currency risk and other market risks is included in Part I, Item 3 “Quantitative and Qualitative Disclosures About Market Risk” of this Form 10-Q.

Management Discussion Snapshot

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

 
Three months ended March 31,
 
 
2012
 
2011
 
 
$
 
% (1)
 
$
 
% (1)
 
 
 
 
 
 
 
 
 
 
Revenue (1) (2)
$
48,371

 
100
 %
 
$
53,171

 
100
 %
 
Network Equipment group
20,419

 
42

 
22,516

 
42

 
Network Integration group
30,470

 
63

 
35,354

 
66

 
 
 
 
 
 
 
 
 
 
Gross profit (3)
17,159

 
35

 
19,680

 
37

 
Network Equipment group
10,044

 
49

 
11,590

 
51

 
Network Integration group
6,969

 
23

 
8,531

 
24

 
 
 
 
 
 
 
 
 
 
Operating expenses (4)
20,785

 
43

 
19,940

 
38

 
Network Equipment group
11,474

 
56

 
11,041

 
49

 
Network Integration group
5,879

 
19

 
5,693

 
16

 
 
 
 
 
 
 
 
 
 
Operating loss (3) (4)
(3,626
)
 
(7
)
 
(260
)
 

 
Network Equipment group
(1,430
)
 
(7
)
 
550

 
2

 
Network Integration group
1,090

 
4

 
2,838

 
8

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

21


Three Months Ended March 31, 2012 Compared To Three Months Ended March 31, 2011

Revenue

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

 
 
 
 
 
Favorable/(Unfavorable)
Three months ended March 31:
2012
 
2011
 
$
Change
 
%
Change
 
% Change constant
currency (1)
Network Equipment group
$
20,419

 
$
22,516

 
$
(2,097
)
 
(9
)%
 
(10
)%
Network Integration group
30,470

 
35,354

 
(4,884
)
 
(14
)
 
(10
)
Before intersegment adjustments
50,889

 
57,870

 
(6,981
)
 
(12
)
 
(10
)
Intersegment adjustments (2)
(2,518
)
 
(4,699
)
 
2,181

 
(46
)
 
(46
)
Total
$
48,371

 
$
53,171

 
$
(4,800
)
 
(9
)%
 
(7
)%
 
 
 
 
 
 
 
 
 
 
___________________________________
(1)
Percentage information in constant currencies in the table above and in the text below excludes the effect of foreign currency translation on reported results. Constant currency results were calculated by translating the current year results at prior year average exchange rates.
(2)
Adjustments represent the elimination of intersegment revenue.


Consolidated revenue for the first quarter of 2012 decreased $4.8 million, or 9%, compared to the first quarter of 2011, due primarily to a $4.9 million, or 14%, decrease in Network Integration group revenue, and to a lesser extent a $2.1 million, or 9%, decrease in Network Equipment revenue, partially offset by a $2.2 million, or 46%, decrease in intersegment sales from the Network Equipment group to the Network Integration group, which are eliminated in consolidation.

Network Equipment Group.    Revenue, including intersegment revenue, generated from the Network Equipment group decreased $2.1 million, or 9%, in the first quarter of 2012 compared to the first quarter of 2011. Our Optical Communications Systems ("OCS") division had decreased revenue this quarter of 10% due primarily to a decrease in product and service revenues. Product sales of out-of-band networking were down from last year and we had weaker fiber optic components revenue. Geographically, the decrease at OCS was due to the Europe and Asia Pacific regions. Sales in the Americas increased 12% over the same period of last year.

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

 
 
 
 
 
Favorable/(Unfavorable)
Three months ended March 31:
2012
 
2011
 
$ Change
 
% Change
Revenue, excluding intersegment sales:
 
 
 
 
 
 
 
Americas
$
12,849

 
$
11,513

 
$
1,336

 
12
 %
Europe
3,935

 
4,180

 
(245
)
 
(6
)
Asia Pacific
938

 
2,161

 
(1,223
)
 
(57
)
Other regions
179

 
5

 
174

 
3,480

Total external sales
17,901

 
17,859

 
42

 

Sales to Network Integration group:
 
 
 
 
 
 
 
Europe
2,518

 
4,657

 
(2,139
)
 
(46
)
Total intersegment sales
2,518

 
4,657

 
(2,139
)
 
(46
)
Total Network Equipment revenue
$
20,419

 
$
22,516

 
$
(2,097
)
 
(9
)%
 
 
 
 
 
 
 
 

Network Integration Group.    Revenue generated from the Network Integration group decreased $4.9 million, or 14%, in the first quarter of 2012 compared to the first quarter of 2011. The decline in revenue was primarily due to Interdata, our French subsidiary, representing a 26% decrease in local currency, due to a slowdown in the local telecom market and delays in deliveries projects. In addition, at Tecnonet S.p.A., our Italian subsidiary, revenue fell by 6% in

22


local currency due to the weakening in the Italian telecom market and a slow down of equipment orders from customers. At Alcadon AB, our Scandinavian subsidiary, revenue slightly decreased due to a slow down of orders from a major customer. Revenue would have been $1.3 million higher in 2012 had foreign currency exchange rates remained the same as they were in 2011. All revenue in the Network Integration group was generated in Europe.

Gross Profit

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

 
 
 
 
 
Favorable/(Unfavorable)
Three months ended March 31:
2012
 
2011
 
$
Change
 
%
Change
 
 % Change constant
currency (1)
Network Equipment group
$
10,044

 
$
11,590

 
$
(1,546
)
 
(13
)%
 
(14
)%
Network Integration group
6,969

 
8,531

 
(1,562
)
 
(18
)
 
(15
)
Before intersegment adjustments
17,013

 
20,121

 
(3,108
)
 
(15
)
 
(14
)
Adjustments (2)
146

 
(441
)
 
587

 
(133
)
 
(133
)
Total
$
17,159

 
$
19,680

 
$
(2,521
)
 
(13
)%
 
(12
)%
 
 
 
 
 
 
 
 
 
 

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

Consolidated gross profit decreased $2.5 million, or 13% in the first quarter of 2012 compared to the prior year first quarter, due to the 9% decrease in revenue and a decrease in gross margin from 37% to 35%. The decline in average gross margins was due to decline in gross margin in both the Network Equipment group and the Network Integration group, as well as to a decrease in sales from the Network Equipment group to the Network Integration group. Gross profit would have been $0.2 million higher if foreign currency exchange rates had remained the same as they were in the first quarter of 2011.

Network Equipment Group.    The $1.5 million, or 13%, decrease in gross profit for the Network Equipment group was due to a 9% decrease in revenue, as well as a decrease in average gross margin from 51% to 49%. The decline in average gross margin is primarily due to lower margins at OCS which were influenced by increased pricing pressures resulting in higher discounts and by a change in product mix. Gross profit would have been $0.1 million lower in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Network Integration Group.    Gross profit for the Network Integration group decreased $1.6 million, or 18%. The decrease was driven by a 14% decrease in revenue and by a decrease in average gross margins. Average gross margins were down due to declines at Tecnonet and Interdata, that were largely driven by change in product mix. Gross margins at Alcadon were flat. Gross profit would have been $0.3 million higher in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Operating Expenses

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


23


 
 
 
 
 
Favorable/(Unfavorable)
Three months ended March 31:
2012
 
2011
 
$
Change
 
%
Change
 
% Change constant
currency (1)
Network Equipment group
$
11,474

 
$
11,041

 
$
433

 
4
%
 
3
%
Network Integration group
5,879

 
5,693

 
186

 
3
%
 
8
%
Total segment operating expenses
17,353

 
16,734

 
619

 
4
%
 
5
%
Corporate unallocated operating expenses and adjustments (2)
3,432

 
3,206

 
226

 
7
%
 
7
%
Total
$
20,785

 
$
19,940

 
$
845

 
4
%
 
5
%
 
 
 
 
 
 
 
 
 
 


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

Consolidated operating expenses were $20.8 million, or 43% of revenue, in 2012 compared to $19.9 million, or 38% of revenue, in 2011, an increase of $0.8 million, or 4%. The increase occurred in the Network Equipment group ($0.4 million), to a lesser extent in the Network Integration group ($0.2 million), and corporate unallocated operating expenses ($0.2 million). Corporate operating expenses increased primarily due to severance costs of $0.6 million for our former CFO and VP Finance and a $0.2 million increase in consulting fees which were partially offset by $0.6 million in lower stock based compensation expense primarily related to our former CEO who departed in 2011. Operating expenses would have been $0.1 million lower in 2012 had foreign currency exchange rates remained the same as they were in 2011. Operating expenses included share-based compensation of $0.2 million and $0.8 million in 2012 and 2011, respectively.

Network Equipment Group.    Operating expenses in the Network Equipment group for 2012 were $11.5 million, or 56% of revenue, compared to $11.0 million, or 49% of revenue in 2011. The $0.4 million, or 4%, increase was due to a $0.4 million increase in operating expenses at OCS. This was due to sales force expansion into Australia and increased sales and marketing activities that combined for a $0.6 million increase, which was partially offset by lower G&A and engineering costs of $0.2 million. Operating expenses would have been $0.1 million lower in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Network Integration Group.    Operating expenses in the Network Integration group for 2012 were $5.9 million, or 19% of revenue, compared to $5.7 million, or 16% of revenue, in 2011. The $0.2 million, or 3%, increase in operating expense was primarily due to $0.2 million in severance at Interdata. Operating expenses would have been $0.2 million lower in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Operating Loss

The following table summarizes operating income (loss) by segment (dollars in thousands):
 
 
 
 
 
Favorable/(Unfavorable)
Three months ended March 31:
2012
 
2011
 
$
Change
 
%
Change
 
% Change constant
currency(1)
Network Equipment group
$
(1,430
)
 
$
550

 
$
(1,980
)
 
(360
)%
 
(359
)%
Network Integration group
1,090

 
2,838

 
(1,748
)
 
(62
)
 
(60
)
Total segment operating income
(340
)
 
3,388

 
(3,728
)
 
(110
)
 
(108
)
Corporate unallocated and adjustments (2)
(3,286
)
 
(3,648
)
 
362

 
10

 
10

Total  
$
(3,626
)
 
$
(260
)
 
$
(3,366
)
 
1,295
 %
 
(1,277
)%
 
 
 
 
 
 
 
 
 
 


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

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

24


(loss).

The $2.5 million, or 13%, decrease in gross profit and the $0.8 million, or 4%, increase in operating expenses primarily led to a $3.4 million increase in operating losses representing a decline in operating margin from 0% to (7%). Our operating loss for the quarter ended March 31, 2012 would have been $0.1 million higher in 2012 had foreign currency exchange rates remained the same as they were in 2011. Operating losses included share-based compensation expense of $0.2 million and $0.8 million in 2012 and 2011, respectively.

Network Equipment Group.    The Network Equipment group reported an operating loss of $1.4 million and an operating profit of $0.6 million in 2012 and 2011, respectively. The decrease was due to a $1.5 million decrease in gross profit and $0.4 million increase in operating expenses. Operating margin was (7.0%) in 2012 and 2% in 2011. Operating losses would have been flat in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Network Integration Group.    The Network Integration group reported operating income of $1.1 million for 2012,
compared to operating income of $2.8 million for 2011. The $1.7 million decrease was due to the $1.5 million decrease in gross profit and a $0.2 million increase in operating expenses. The Network Integration group operating margin was 4.0% in the first quarter of 2012 compared to 8% in the first quarter of 2011. Operating income would have been $0.1 million lower in 2012 had foreign currency exchange rates remained the same as they were in 2011.

Interest Expense and Other Income, Net

Interest expense stayed consistent at $0.2 million in both the 2012 and 2011 three month periods. Other income, net, principally includes interest income on cash, cash equivalents and investments and gains and losses on foreign currency transactions. We recognized a net gain of $13,000 on foreign currency transactions in 2012 compared to a $0.1 million net gain in 2011.

Provision for Income Taxes

The tax provision for the first quarter of 2012 and 2011 were $0.8 million and $1.2 million, respectively. Income tax expense fluctuates based on the amount of pre-tax income generated in the various jurisdictions where we conduct operations and pay income tax. The decrease in income tax provision for 2012 is due to a decrease in pre-tax income in the jurisdictions where we pay taxes, particularly at OCS in Israel and Interdata in France.

Tax Loss Carryforwards

As of December 31, 2011, we had net operating losses ("NOLs") of $227.4 million, $161.8 million, and $89.9 million for federal, state, and foreign income tax purposes, respectively. Under the Internal Revenue Code, if a corporation undergoes an "ownership change," the corporation's ability to use its pre-change NOLs, capital loss carryforwards and other pre-change tax attributes to offset its post-change income may be limited. An ownership change is generally defined as a greater than 50% change in its equity ownership by value over a three-year period. We may experience an ownership change in the future as a result of subsequent shifts in our stock ownership. If we were to trigger an ownership change in the future, our ability to use any NOLs and capital loss carryforwards existing at that time could be limited. As of March 31, 2012 the U.S. federal and state NOLs had a full valuation allowance.

Discontinued Operations

Income from discontinued operations for the first three months of 2011 includes $1.6 million in income related to the results of operation of CES and a net loss from results of operations of TurnKey of $0.2 million. The income from discontinued operations for the three months of 2012 included a net loss from CES of $0.1 million and a net gain on disposal of $8.0 million. We completed the sale of CES on March 29, 2012 and the sale of TurnKey on May 6, 2011.


Liquidity and Capital Resources

During the three months ended March 31, 2012, the Company's cash and restricted time deposits increased from $71.7 million to $96.7 million, an increase of $25.0 million. Our cash inflows included $3.2 million in net income adjusted for non-cash expenses including depreciation and amortization, share-based compensation, changes in deferred tax assets, and allowance for doubtful accounts and the gain on sale of CES. Our cash flow from operations includes a

25


change in current assets and liabilities of $4.7 million, primarily due to a decrease in accounts receivable of $11.8 million partially offset by a $4.3 million increase in inventory and decrease in accounts payable, accrued liabilities and income taxes payable of $6.0 million. Cash from investing activities includes $16.9 million in proceeds from the sale of the Company's CES subsidiary. This reflects the $7.3 million of cash that remained on the balance sheet at the closing of the sale. In addition there are $2.8 million in sale proceeds in an indemnification escrow account to be released to the Company on March 31, 2013 subject to any indemnification claims that may be brought by the buyer. (See Note 13, "Discontinued Operations" to the Financial Statements in Item 1 of this Form 10-Q.) Cash provided by investing activities was partially offset by $1.4 million in purchases of property and equipment. Cash used in financing activities included net payments on short-term debt and capital lease obligations of $8.8 million partially offset by additional borrowings of $3.0 million.

We periodically review our capital position and consider returning capital to shareholders through share repurchase programs or special dividends when the cash on hand exceeds our foreseeable cash needs. On May 1, 2012, the Board of Directors declared a special dividend totaling $47.3 million on the outstanding shares of the Company's Common Stock to return excess cash to the Company's stockholders. The dividend which equates to $0.30 per share is payable on May 25, 2012 to holders of record on May 16, 2012. We do not expect the dividend to have a significant adverse impact on our operations. Adjusting our cash balance for the expected dividend, the Company would have reported a cash to debt ratio of 14.2 to 1 as of March 31, 2012.

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

 
March 31, 2012
 
December 31,
2011
Cash
 
 
 
Cash and cash equivalents
$
96,324

 
$
71,352

Restricted time deposits
340

 
380

 
96,664

 
71,732

Short-term debt
3,352

 
8,987

Cash in excess of debt
$
93,312

 
$
62,745

Ratio of cash to debt (1)
28.8

 
8.0

 
 
 
 

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


Short-term Debt

Our short-term debt is at Tecnonet, our Italian Network Integration subsidiary and at Alcadon, our Swedish subsidiary. Customer accounts receivables of our subsidiary, Tecnonet, have been pledged as collateral on these borrowings.

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

 
March 31,
2012
 
December 31, 2011
 
Increase (decrease)
Lines of credit secured by accounts receivable
$
3,352

 
$
8,987

 
$
(5,635
)
Total short-term debt
$
3,352

 
$
8,987

 
$
(5,635
)
 
 
 
 
 
 

The decrease in short-term debt at March 31, 2012 includes net payments of $8.8 million, a reduction of 64% in local currency, partially offset by additional borrowings of $3.0 million and the impact of changes in foreign currency exchange rates.

Working Capital

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

26



 
March 31, 2012
 
December 31,
2011
Current assets
$
194,240

 
$
198,762

Less: Current assets of discontinued operations

 
(24,810
)
Current assets from continuing operations
194,240

 
173,952

Current liabilities
69,173

 
81,799

Less: Current liabilities from discontinued operations

 
(3,236
)
Current liabilities from continuing operations
69,173

 
78,563

Working capital
$
125,067

 
$
95,389

Current ratio (1)
2.8
 
2.2
 
 
 
 

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

Off-Balance Sheet Arrangements

We do not have transactions, arrangements or other relationships with unconsolidated entities that are reasonably likely to affect our liquidity or capital resources. We have no special purpose or limited purpose entities that provided off-balance sheet financing, liquidity or market or credit risk support, engaged in leasing, hedging, research and development services, or other relationships that expose us to liability that is not reflected on the face of the financials.

Contractual Obligations

There were no material changes in our contractual obligations since December 31, 2011 other than the changes in short-term debt discussed above and a net $0.2 million increase in our capital lease obligations. We believe that cash on hand and cash flows from operations will be sufficient to satisfy current operating needs, capital expenditures, and product development and engineering requirements for at least the next 12 months. We may seek to obtain additional debt or equity financing if we believe it appropriate. We may limit our ability to use available NOLs and capital loss carryforwards if we seek financing through issuance of additional equity securities.

Internet Access to Our Financial Documents

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

Item 3.
Quantitative and Qualitative Disclosures About Market Risk

Market risk represents the risk of loss that may impact our Consolidated Financial Statements through adverse changes in financial market prices and rates and inflation. Our market risk exposure results primarily from fluctuations in foreign exchange and interest rates. We manage our exposure to these market risks through our regular operating and financing activities and, in certain instances, through the use of derivative financial instruments. These derivative instruments are used to manage risks of volatility in interest and foreign exchange rate movements on certain assets, liabilities or anticipated transactions and create a relationship in which gains or losses on derivative instruments are expected to counter-balance the losses or gains on the assets, liabilities or anticipated transactions exposed to such market risks.

Interest Rates.    Our investments and short-term borrowings expose us to interest rate fluctuations. Our cash and short-term investments are subject to limited interest rate risk, and are primarily maintained in money market funds and bank deposits. Our variable-rate short-term borrowings are also subject to limited interest rate risk because of their short-term maturities. Through certain foreign offices, and from time to time, we enter into interest rate swap contracts. As of March 31, 2012, we did not have any interest rate swap contracts outstanding. The economic purpose of entering into interest rate swap contracts is to protect our variable interest debt from significant interest rate

27


fluctuations.

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

Through certain foreign offices, and from time to time, we enter into foreign exchange contracts in an effort to minimize the currency exchange risk related to accounts receivable or purchase commitments denominated in foreign currencies. These contracts cover periods commensurate with known or expected exposures, generally less than three months. As of March 31, 2012, we did not have any foreign exchange contracts outstanding.

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

When we translate the financial position and results of operations of subsidiaries with functional currencies other than the U.S. dollar, we recognize a translation gain or loss in other comprehensive income. Approximately 59% of our cost of sales and operating expenses are reported by these subsidiaries. These currencies were generally stronger against the U.S. dollar for the three ended March 31, 2012 compared to the same period last year, so revenues and expenses in these countries translated into more dollars than they would have in 2011. For the three months ended March 31, 2012, we had approximately:

$20.4 million in cost of goods and operating expenses recorded in euros;
$6.3 million in cost of goods and operating expenses recorded in Swedish kronor; and
$0.3 million in cost of goods and operating expenses recorded in Taiwan dollars.

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

$22.5 million in cost of goods and operating expenses recorded in euros;
$6.9 million in cost of goods and operating expenses recorded in Swedish kronor; and
$0.4 million in cost of goods and operating expenses recorded in Taiwan dollars.

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

 
March 31, 2012
 
December 31,
2011
U.S. dollars
$
81,921

 
$
55,551

Euros
9,984

 
8,233

Taiwan dollars
24

 
26

Norwegian kronor
1,185

 
1,026

Swedish kronor
2,359

 
5,168

Israeli new shekels
643

 
1,229

Other
208

 
119

Total cash and cash equivalents
$
96,324

 
$
71,352

 
 
 
 


28



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


Item 4.
Controls and Procedures.

As of the end of the period covered by this report on Form 10-Q, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) pursuant to Rule 13a-15 of the Exchange Act. Based upon that evaluation, the Chief Executive Officer and Chief Financial Officer concluded that as of the end of the period covered by this report on Form 10-Q, the Company's disclosure controls and procedures were effective.

Changes in Internal Controls

There have been no changes in our internal control over financial reporting identified in connection with the evaluation required by paragraph (d) of Rule 13a-15 or 15d-15 under the Exchange Act that occurred during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. In connection with this evaluation as to whether there have been changes, management identified control deficiencies at one of our business units which may rise to the level of a material weakness. We are in the process of evaluating and addressing these matters, and are unable to determine their materiality until that evaluation is complete.

PART II - OTHER INFORMATION


Item 1.
Legal Proceedings.

We are subject to legal claims and litigation in the ordinary course of business, including but not limited to product liability, and employment and intellectual property claims. The outcome of any such matters is currently not determinable. If one or more of the matters listed below or otherwise is ultimately determined not in our favor, it could have a material adverse effect on our consolidated financial position or results of operations in the period in which they occur.
 Stock Option Litigation
In June 2008, the Company announced that our Board of Directors, based on information provided by management, and in consultation with management, concluded that the financial statements and the related reports of our independent public accountants should not be relied upon due to the Company's intention to restate its financial results from 2002 through 2008 to correct its accounting for option grants and other issues. The Board of Directors appointed a Special Committee of independent directors, along with independent legal counsel and outside accounting experts, to investigate the issues, and a restatement of the Company's financial statements was filed in its Annual Report on Form 10-K for the year ended December 31, 2008 in October 2009.
From June to August 2008, five purported stockholder derivative and securities class action lawsuits were filed in the U.S. District Court in the Central District of California and one derivative lawsuit was filed in the Superior Court of the State of California against the Company and certain of our current and former officers and directors. The five lawsuits filed in the Central District of California were consolidated. Claims were asserted under Section 10(b) and 20(a) of the Exchange Act, and Rule 10b-5 promulgated thereunder. The allegations set forth in the complaints were based on facts disclosed in our press release of June 5, 2008, which stated that the Company's financial statements

29


could not be relied on due to the Company's historical stock option practices and related accounting. The complaints sought to recover from the defendants unspecified compensatory and punitive damages, to require the Company to undertake reforms to corporate governance and internal control procedures, to obtain an accounting of stock option grants found to be improper, to impose a constructive trust over stock options and proceeds derived therefrom, to disgorge from any of the defendants who received allegedly improper stock options the profits obtained therefrom, to rescind improperly priced options and to recover costs of suit, including legal and other professional fees and other equitable relief. In November 2010, the judge overseeing the securities class action lawsuits gave final approval to a stipulated $10 million settlement agreement, which was covered by our director and officer insurance policies. 
Motions to dismiss the defendants were heard in the second half of 2010 in both the federal and California state derivative lawsuits, and certain defendants and claims were dismissed. Discovery continues in these matters. The Company and plaintiffs in the federal and state derivative lawsuits have attended mediations but have not been successful in reaching a settlement of these claims.
 Fiberxon Acquisition Litigation
In July 2007, we purchased Fiberxon, Inc., and the purchase agreement included possible post-acquisition obligations on MRV. We filed an affirmative lawsuit in the California Superior Court in March 2009 against a) former stockholders of Fiberxon, seeking to cancel a potential deferred consideration obligation of approximately $31.5 million, and b) certain former executives, directors and stockholders of Fiberxon, alleging fraud and other claims. We entered into a Settlement Agreement and Release in December 2009 with Yoram Snir, personally and in his capacity as Stockholders' Agent for the former stockholders of Fiberxon. Pursuant to the settlement agreement, the Company has fully settled any obligation to pay the first $18 million of potential deferred consideration. This amount was reserved for set-off in the original merger agreement, and the former Fiberxon stockholders, pursuant to the settlement, were entitled to their pro rata portion of the $1.5 million settlement amount. Additionally, we agreed to pay up to $4.5 million to settle claims relating to the remaining $13.5 million of the potential deferred compensation. The second portion of the settlement is with the former stockholders directly, and to date, stockholders holding 67% of the former shares have elected to participate in this portion of the settlement.
We maintained the California Superior Court action with four remaining defendants, and in December 2010, the court issued a default judgment against them in the amount of $57.4 million. However, the court set aside this judgment in April 2011 at the request of the defendants. In addition, in 2010, four former stockholders, who owned approximately 27% of the former Fiberxon and who did not participate in the second portion of the settlement, initiated litigation in Beijing, PRC against MRV, Source Photonics LLC and other related parties alleging a claim for approximately $3.7 million, representing these former stockholders' pro rata amount of the $13.5 million portion of the potential deferred compensation. In connection with the sale by MRV of Source Photonics in October 2010, we agreed to indemnify the buyer against certain litigation, including these actions. 
The results of any litigation are inherently uncertain, and there can be no assurance that we will prevail in the litigation matters stated above or otherwise. We plan to pursue our claims and defenses vigorously and expect that some of the litigation matters discussed above will be protracted and costly.
 
Item 1A.
Risk Factors

For a more complete understanding of the risks associated with an investment in our securities, you should carefully consider and evaluate all of the information in this Form 10-Q, in combination with the more detailed description of our business in our 2011 Form 10-K. There have been no material changes in the Risk Factors as previously disclosed in our 2011 Form 10-K.


Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

None.
Item 3. Defaults Upon Senior Securities

None.



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Item 4. Mine Safety Disclosures

None.


Item 6.
Exhibits

(a)
Exhibits


No.
Description
 
 
 
 
31.1

 
Certification of the Principal Executive Officer required by Rule 13a-14(a) of the Exchange Act (filed herewith)
 
 
31.2

 
Certification of the Principal Financial Officer required by Rule 13a-14(a) of the Exchange Act (filed herewith)
 
 
32.1

 
Certifications of the Principal Executive and Financial Officers pursuant to 18 U.S.C. Section 1350 (furnished herewith)
 
 
101.INS

 
XBRL Instance Document (furnished herewith)
 
 
101.SCH

 
XBRL Taxonomy Extension Schema Document (furnished herewith)
 
 
101.CAL

 
XBRL Taxonomy Calculation Linkbase Document (furnished herewith)
 
 
101.LAB

 
XBRL Taxonomy Label Linkbase Document (furnished herewith)
 
 
101.PRE

 
XBRL Taxonomy Presentation Linkbase Document (furnished herewith)
 
 
101.DEF

 
XBRL Taxonomy Extension Definition Document (furnished herewith)

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SIGNATURES

Pursuant to the requirements of the Exchange Act, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized on May 10, 2012.


 
MRV COMMUNICATIONS, INC.
 
 
 
/s/ Barry Gorsun
 
Barry Gorsun
 
Chief Executive Officer
 
Principal Executive Officer
 
 
 
/s/ Stephen Garcia
 
Stephen Garcia
 
Chief Financial Officer
 
Principal Financial Officer

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