ShoreTel Inc. Director Gary James Daichendt bought 91900 shares on 2-06-2012 at $ 5.47
We are a leading provider of brilliantly simple business communication solutions. Our Unified Communications (UC) and Contact Center solutions are based on our award-winning Internet Protocol (IP) business phone system (IP-PBX). We offer organizations of all sizes integrated voice, video, data and mobile communications on an open, distributed IP architecture and switch-based hardware platform which enable multi-site enterprises to be served by a single system. Our solutions enable a single point of management, easy installation and a high degree of scalability and reliability. They also provide end-users with a consistent, full suite of features across the enterprise, regardless of location, which helps IT management meet growing demands for powerful communication capabilities. As a result, we believe our solutions enable enhanced end-user productivity and provide lower total cost of ownership and higher customer satisfaction than alternative systems.
Our business communication solutions are comprised of hardware and software components including ShoreTel Voice Switches, ShoreTel IP Phones, ShoreTel Appliances and ShoreTel Software Applications for system management and user interfaces. The mobility component of our UC solution is comprised of an appliance coupled with system management and end-user software. Our mobility offering is platform agnostic in that it works with the ShoreTel IP-PBX but also works across several leading IP-PBXs and UC systems on the market today, including Cisco, Avaya, Mitel, and Microsoft Lync. Our mobility enterprise customers include multi-site Fortune 500 companies. As of June 30, 2011, we had sold our IP phone system with integrated unified communications and contact center capabilities to approximately 18,000 enterprise customers. We sell our solutions through our extensive network of over 900 distributors and resellers.
We have achieved broad industry recognition for our technology and high customer satisfaction. We have won the â€śbest overallâ€ť CustomerSat Achievement award (ACE) for three years in a row. For the last eight years, IT executives surveyed by Nemertes Research, an independent research firm, have rated ShoreTel the Best IP Telephony Provider.
We were originally incorporated in California in September 1996, and reincorporated in Delaware in June 2007. ShoreTel is based in Sunnyvale, California, and has regional offices in Austin, Texas; Maidenhead, United Kingdom; Sydney, Australia; and Singapore.
We provide business communication solutions for the enterprise. Our solutions are based on our distributed software architecture and appliance-based hardware platform that enable a single system to serve multi-site enterprises. This architecture provides high network reliability and allows for a single view for management and administration across all sites of a multi-site enterprise. System administrators can make changes anywhere throughout the system through a Web-browser interface that presents a user-friendly view of the systemâ€™s configuration. Our architecture also provides end-users with a consistent and full set of features across an enterprise, regardless of location.
We introduced our first suite of products in 1998 and have continued to add features and functionality since then. We offer an IP phone system with integrated unified communications (including mobility) and contact center capabilities. We also offer the mobility component of our UC solution on a stand-alone basis to businesses without a ShoreTel IP-PBX platform. Our solutions are composed of hardware and software components including ShoreTel Voice Switches, ShoreTel IP Phones, ShoreTel Software applications encompassing system management and end-user applications. As new software versions of our solutions have been released, existing enterprise customers have been able to upgrade their switches, phones and applications, allowing them to preserve their ShoreTel investment.
IP Phone System
The ShoreTel IP Phone system provides call routing, voice processing, messaging, voice conferencing, and other core voice services for business communications. Our solution contains several advanced UC features that we include without additional cost, including a desktop client and unified messaging features.
â€˘ShoreTel IP Phones : We offer a range of innovative, high performance phones to meet the needs of the different types of end-users across the enterprise. Our phones are designed to provide a superior combination of ergonomics, sound quality and appearance. We offer a variety of phones that vary by user interface style and size, sound quality, line capacity and Gigabit Ethernet support. A large color touch screen graphical user interface with haptic feedback is available to provide a rich user experience and high functionality. Beam forming microphones are used to provide enhanced speakerphone sound quality. ShoreTel IP Phones are designed to function without any configuration, simplifying installation. Remote workers can also utilize ShoreTel IP Phones using an integrated Virtual Private Network (VPN) feature and mobile workers can select Wi-Fi phones that work with the open interfaces of the system.
â€˘ShoreTel Voice Switches: We offer a range of switches of varying capabilities to meet the needs of enterprises of all sizes. The modular nature of our switches allows our enterprise customers to easily expand their system capacity by deploying additional switches across their network. Our switches provide call management functionality. Each switch in the system is capable of independently establishing and terminating calls without relying on a centralized call control server. As a result, enterprise unified communications can survive a variety of LAN, WAN and hardware failures. The high reliability of our switches is enhanced by two key design features: (i) the use of flash memory instead of disk drives and (ii) running an embedded operating system optimized for real-time processing, such as call management. Unlike disk drives, flash memory does not rely on mechanical movement, and therefore is less likely to break down and cause our systems to fail. Furthermore, our embedded operating system enables a higher performing and more reliable software platform relative to server-centric IP systems because it is optimized for real-time processing. The reliability of the system can be further improved by adding an additional switch to the headquarters location to create â€śn+1â€ť redundancy, rather than requiring a dedicated back-up switch for each primary switch to improve reliability as needed by alternative systems. In addition, our switches connect to the public telephone network through one of several interfaces, including high-density T1 and E1 interfaces.
â€˘ShoreTel Director: ShoreTel Director provides enterprises with a single point of system management, enabling IT administrators to view and manage the entire system of the enterprise from any location using a single application. A new end userâ€™s extension, mailbox and automated attendant profile can be added from a single management screen, avoiding the additional work required with most Private Branch Exchanges (PBXs), voice mail systems and automated attendants.
â€˘Unified Messaging: Our Unified Messaging solution integrates our voicemail application with Microsoft Outlook. This enables end users to receive, send, be notified of and play voice mail messages through their Microsoft Outlook email.
â€˘Automated Attendant: Our Automated Attendant solution provides end users with a 24-hour automated call answering and routing capability that enables the enterprise to direct callers to appropriate individuals, workgroups or messages
â€˘Small Business Edition: Our Small Business Edition (SBE) solution is targeted for smaller enterprises who are in their early stages or are currently operating on a relatively smaller scale than our enterprise customers. The solution is a bundled solution consisting limited user licenses, voice switches, server, and feature licenses. This solution allows our customers to economically scale our products and solutions as their organizations begin to grow and expand.
ShoreTel Unified Communications provide advanced communications to business including voice calling, instant messaging, unified messaging, device agnostic mobility capability, desktop collaboration and video. The solution includes voice telephones, switching infrastructure, end-user interfaces, and platform software.
â€˘ShoreTel Communicator : ShoreTel Communicator is a powerful UC application for users across an organization, whether an operator, a contact center agent, a knowledge worker or a road warrior. Available on multiple operating systems, ShoreTel Communicator makes it easy for people to communicate any way they choose: by video, voice (wired or wireless), instant messaging (IM), and more. One single interface makes training simple and reduces the IT workload because there is just a single application to support, and no additional servers to deploy and maintain.
â€˘ShoreTel Conferencing Bridge: ShoreTel Conferencing Bridge enables enterprises to conduct large audio conferences and provides collaboration tools for application sharing, desktop sharing, instant messaging and end-user presence information.
â€˘Microsoft Integrationâ„˘ : For customers seeking to leverage their investment in Microsoftâ€™s Unified Communications portfolio, ShoreTel offers a range of integration options. Users can leverage their Microsoft Exchange messaging platform and Microsoft Officeâ„˘.
ShoreTel Contact Center includes a range of options including agent phones, switching infrastructure, end-user interfaces, and platform software. The solution features call handling, self-service, multi-media, and reporting capabilities.
Contact Center applications provide a range of features to satisfy the needs of all sizes of organizations, from basic call center capabilities to sophisticated distributed multimedia contact center capabilities. Contact Center enables organizations to route incoming contacts to the most appropriate agent in a multisite contact center, regardless of location.
â€˘Workgroups: Workgroups is a licensing option for our contact center solution used for basic contact center needs.
ShoreTel Mobility extends the capabilities of a desk phone and unified communications capabilities to leading smartphones and allows the user to communicate from any location, including office, home or through hotspots, enabling access to any cellular or WiFi network, simply and cost effectively.
â€˘ShoreTel Mobility Router: The ShoreTel Mobility Router is a scalable network appliance that fuses enterprise wireless LANs, carrier cellular networks, IP telephony and location technology to extend voice and UC to mobile devices. The router allows users to make and receive calls from both the enterprise and personal mobile phone numbers and automatically selects the best network (Wi-Fi or cellular) with fast and automatic network handover, to optimize cost, call quality and battery life.
â€˘ShoreTel RoamAnywhere Client: ShoreTel Mobilityâ€™s RoamAnywhere Client for mobile devices is designed to extend UC applications with location technology information to single- and dual-mode (WiFi and cellular) mobile handsets. End users can use enterprise deskphone features such as extension dialing, call transfer and directory query on their smartphones. Additionally, they can make and receive calls from both enterprise and personal cellular numbers while the best network (Wi-Fi or cellular) is automatically selected. Seamless and automatic network handover helps call continuity across networks, and moves calls to Wi-Fi when available, thereby reducing mobile costs.
We offer businesses the option to enhance their communications by enabling the integration of best in breed business applications including several customer relationship management (CRM) solutions, such as Salesforce.com, Microsoft Dynamics, Netsuite and RightNow, as well as cost recovery applications, including Equitrak, Copitrak, and Lexis/Nexis Time Matters. These integrations are designed to improve the productivity of end users that use these applications by seamlessly integrating communications capabilities into their data-driven workflow. Customers or partners can create additional business integrations using the open interfaces of the system available for developers through the ShoreTel Innovation Network.
We complement our product offerings with a broad range of services to help us maintain and expand our relationships with enterprise customers and distribution partners. Our product support contracts provide us with recurring revenue. Typically, our resellers provide many of these services, with ShoreTel providing manufacturer and escalation support as needed, or if requested by the enterprise customer, we provide these services directly.
ShoreTel Global Services include support, training, system design and installation, and professional services including:
â€˘Our support services include Web-based access support services and tools, access to technical support engineers, hardware replacement and software updates. These services are offered under support contracts with terms of up to five years.
â€˘Training services include certification programs for resellers, training programs at enterprise customer or reseller locations and self-paced, computer-based desktop training programs.
â€˘System design and installation services include the assessment of unified communications, contact center and mobility requirements of a particular enterprise, the configuration of systems to meet customer specifications and maximize operating efficiencies, management of the installation, and the subsequent testing and implementation of our systems.
â€˘Professional services include catalogue and custom software development to extend system capabilities, enable UC integration with other enterprise applications, streamline business processes and address enterprise customer-specific business opportunities and collaborate with third party developers through ShoreTelâ€™s SDK program, the ShoreTel Innovation Network.
Our systems are based on a combination of our proprietary software, industry-standard interfaces and protocols, and customized and off-the-shelf hardware components. We have developed proprietary technologies that are critical to the operation of the servers and ShoreTel Voice Switches within our systems and provide our systems with the properties that distinguish them from alternative IP systems.
Our enterprise customers include small, medium and large companies and public institutions in a wide range of vertical markets, including professional services, financial services, government, education, health care, manufacturing, non-profit organizations, and technology industries. As of June 30, 2011, we had sold our IP unified communications systems to approximately 18,000 enterprise customers.
We believe that maintaining the highest possible levels of customer satisfaction is critical to our ability to retain existing and gain new enterprise customers. We believe that satisfied enterprise customers will purchase more of our products and serve as advocates for our systems, and we work closely with them as they deploy and use our systems. We follow implementations with a formal review with the enterprise customer that involves contacts with our internal staff and third-party technical personnel. We take prompt action to resolve any issues that might have been identified. We also have frequent follow-up contacts with our enterprise customers to promptly resolve issues and ensure that they are fully satisfied with their system. We also survey enterprise customers that use our technical support services to ensure that high-quality support services are being provided. Through this process, we gain valuable insights into the existing and future requirements of our enterprise customersâ€™ activities and this helps us develop product enhancements that address the evolving requirements of enterprises.
Additionally, to promote high-quality support throughout our services organization, we measure key performance indicators and operational metrics of our services organization, including call answer times, call abandon rates, customer satisfaction with technical support, time to issue resolution, call interaction quality, as well as customer satisfaction with system implementation, training services and technical support, and use the results to direct the management of our services organization.
We also monitor our enterprise customersâ€™ satisfaction with our channel partners by surveying our enterprise customers after the system is installed. We actively encourage our channel partners to maintain and improve our enterprise customersâ€™ levels of satisfaction. We also monitor our channel partnersâ€™ satisfaction with ShoreTel, as their satisfaction with and advocacy of ShoreTel is also very important to our success.
Sales and Marketing
We sell our products and services primarily through an extensive network of channel partners, including distributors. As of June 30, 2011, we had over 900 channel partners in our network. These channel partners range in size from single-site, regional firms with specialized products and services to multi-national firms that provide a full range of IT products and services including the top three U.S. telecommunication carriers: AT&T, Verizon and Qwest/CenturyLink. Our channel partners market and sell our products into both the large and small-to-medium enterprise markets.
We maintain a sales organization that recruits, qualifies and trains new channel partners, participates in sales presentations to potential enterprise customers and assesses customer feedback to assist in developing product roadmaps. As part of our increased focus on sales to large accounts, we also have a major accounts program whereby sales personnel assist our channel partners in selling to and providing support for large enterprise customer accounts. No single channel partner or value-added distributor accounted for ten percent or more of our total revenue in fiscal 2011.
We believe our channel partner network allows us to effectively sell our systems without the need to build large dedicated in-house sales and service capabilities. We continue to work with existing channel partners to expand their sales of our systems and to recruit new channel partners with a focus on increasing market coverage.
Our internal marketing team focuses on increasing our â€śBrilliantly Simpleâ€ť brand awareness, communicating product advantages and generating qualified leads for our sales force and channel partners. In addition to providing marketing materials, we communicate product and service offerings through email and direct mail campaigns, print and Web-based advertising, press releases and Web-based demonstrations.
Our backlog at June 30, 2011, 2010 and 2009 was approximately $6.1 million, $9.1 million and $5.7 million respectively. Our backlog consists of orders received from value-added resellers but not shipped before the end of the quarter in which the order was received, and excludes orders from distributors, as we recognize product revenue on sales made through distributors upon sell-through to our value-added resellers. Although we believe that the orders included in the backlog are firm, all orders are subject to possible rescheduling by customers and some orders may be cancelled by customers, and we may elect to allow such cancellations without penalty to the customer. Therefore, we do not believe that our backlog, as of any particular date, is necessarily indicative of actual revenue for any future period.
Research and Development
We believe that our ability to enhance our current products, develop and introduce new products on a timely basis, maintain technological competitiveness and meet enterprise customer requirements is essential to our success. To this end, we have assembled a team of engineers with expertise in various fields, including voice and IP communications, unified communications network design, data networking and software engineering. Our principal research and development activities are conducted in Sunnyvale, California and Austin, Texas. We have invested significant time and financial resources into the development of our architecture, including our switches and related software. We intend to continue to expand our product offerings, improve the features available on our products and integrate our systems with third-party enterprise applications. Research and development expenses were $45.5 million, $33.6 million, and $30.7 million in fiscal years 2011, 2010 and 2009, respectively.
Peter Blackmore has served as our chief executive officer and a board member since December 2010. Prior to joining ShoreTel, Mr. Blackmore was president, chief executive officer and a member of the board of directors of UTStarcom, Inc., an internet protocol company, from July 2008 to September 2010. From July 2007 to July 2008, Mr. Blackmore was president and chief operating officer for UTStarcom. Before this position, Mr. Blackmore was executive vice president of Unisys Corporation, from February 2005 to July 2007. From 1991 to August 2004, Mr. Blackmore served in various roles at Compaq Computer Corporation and Hewlett-Packard Company (HP), most recently as executive vice president of the Customer Solutions Group at HP from May 2004 through August 2004, and as executive vice president of the Enterprise Systems Group at HP from 2002 through May 2004. Prior to the merger of Compaq and HP, Mr. Blackmore served as executive vice president of worldwide sales and service of Compaq from 2000 through 2002 and senior vice president of worldwide sales and marketing of Compaq from 1998 through 2000. Mr. Blackmore has also served as a member of the board of directors of MEMC Electronic Materials, Inc. since 2006.
Qualifications to serve as director: As chief executive officer of ShoreTel, Mr. Blackmore has the ultimate operational and management responsibilities for our business. As a result, Mr. Blackmore is highly knowledgeable about the state of our business, the risks we face, and managementâ€™s plans for executing our growth strategy. Mr. Blackmore brings a range of experience in a variety of hardware, software and services companies. He brings Internet protocol-based telecommunications industry knowledge from his service as chief executive officer of UTStarcom. Mr. Blackmore also brings to the Board significant past professional experience in technology sales and marketing, international business, global channel development, and mergers and acquisitions, which we believe benefit our growth strategy. In addition, he has experience serving in the highest levels of executive management of both large public companies and a high growth, smaller public company. Mr. Blackmoreâ€™s board experience also exposes him to best practices and approaches that are beneficial to ShoreTel and the companyâ€™s stockholders.
Kenneth D. Denman has served as a director of ShoreTel since May 2007. Mr. Denman served as chief executive officer and a director of Openwave Systems, Inc. from November 2008 to September 2011. Prior to Openwave, Mr. Denman served as chief executive officer of iPass, Inc. a platform-based enterprise mobility services company, from October 2001 until November 2008. From January 2000 to March 2001, Mr. Denman served as president and chief executive officer of AuraServ Communications Inc., a managed service provider of broadband voice and data applications. From August 1998 to May 2000, Mr. Denman served as senior vice president, national markets group of MediaOne, Inc., a broadband cable and communications company. From June 1996 to August 1998, Mr. Denman served as chief operating officer, Wireless, at MediaOne International, a broadband and wireless company. Mr. Denman holds a B.S. in accounting from Central Washington University and an M.B.A. in finance and international business from the University of Washington. Mr. Denman is a member of the advisory board at the University of Washingtonâ€™s Michael G. Foster School of Business.
Qualifications to serve as director: Mr. Denman is independent and possesses extensive executive experience in the technology and telecom sectors. As a chief executive officer of a telecommunications software company, Mr. Denmanâ€™s operational and strategic experiences are directly relevant to ShoreTelâ€™s operations and strategic opportunities. Mr. Denman has served on our audit committee since 2007 and therefore is familiar with our business model, our critical accounting policies and our specific accounting policies. Mr. Denmanâ€™s experience serving on the boards of other public technology companies has exposed him to best practices and approaches that are beneficial to ShoreTel and the companyâ€™s stockholders.
Mark F. Bregman has served as a director of ShoreTel since May 2007. Dr. Bregman has served as Chief Technology Officer of NeuStar, Inc., a provider of network addressing, routing and policy management, since July 2011. Dr. Bregman previously served as executive vice president and chief technology officer of Symantec Corporation, an infrastructure software company, since it acquired VERITAS Software Corporation, a provider of software and services to enable storage and backup, from July 2005 to July 2011. Prior to the acquisition of VERITAS Software, Dr. Bregman served as that companyâ€™s executive vice president, chief technology officer and acting manager of the application and service management group from September 2004 to July 2005, and as its executive vice president, product operations from February 2002 to September 2004. From August 2000 to October 2001, Dr. Bregman served as the chief executive officer of AirMedia, Inc., a wireless internet company. Prior to joining AirMedia, Dr. Bregman served a 16-year career with International Business Machines Corporation, most recently as general manager of IBMâ€™s RS/6000 and pervasive computing divisions from 1995 to August 2000. Dr. Bregman holds a B.S. in physics from Harvard College and a Ph.D. in physics from Columbia University.
Qualifications to serve as director: Dr. Bregman is independent and his more than 25 years of operational and strategic experience in the technology industry apply directly to ShoreTelâ€™s operations and strategic opportunities. His experience as the chief technology officer of a high-growth, publicly traded software company gives him valuable and firsthand insights into issues regarding the strategic development of products and services that ShoreTel offers. In addition, Dr. Bregman possesses experience with the development and protection of intellectual property assets. With his three years of prior service on the ShoreTel board, he is very familiar with our business and the specific challenges and opportunities the company faces.
Edward F. Thompson has served as a director of ShoreTel since January 2006. Mr. Thompson has served as a senior advisor to Fujitsu Limited and as a director of several Fujitsu subsidiaries or portfolio companies since 1995. From 1976 to 1994, Mr. Thompson held a series of management positions with Amdahl Corporation including chief financial officer and secretary from August 1983 to June 1994, and chief executive officer of Amdahl Capital Corporation from October 1985 to June 1994. Mr. Thompson is a member of the board of directors of Aviat Networks, Inc. (formerly Harris Stratex Networks) and InnoPath Software Inc., and also serves as chairman of the audit committees of those companies. Until June 2010, Mr. Thompson also served on the board of directors of SonicWALL, Inc. and also served as chairman of its audit committee. He is also a member of the advisory board of Santa Clara Universityâ€™s Leavey School of Business. Mr. Thompson holds a B.S. in aeronautical engineering from the University of Illinois, and an M.B.A. with an emphasis in operations research from Santa Clara University.
Qualifications to serve as director: Mr. Thompson is independent and brings over 40 years of financial expertise, corporate governance and risk management experience to ShoreTel. He also possesses extensive experience with the strategic and operational challenges of leading a global information technology company. Mr. Thompson serves as chairman of our audit committee. He qualifies as an audit committee financial expert (as defined in the applicable rules of the SEC) and is financially sophisticated within the meaning of the NASDAQ Stock Market Rules. Mr. Thompson has served on the audit committees of a number of high technology companies, including companies in the networking industry. We believe that Mr. Thompsonâ€™s board experience at other public technology companies has exposed him to best practices and approaches that are beneficial to ShoreTel and the companyâ€™s stockholders. Mr. Thompson has served on our board and audit committee since our initial public offering and is familiar with our business model, our critical accounting policies, and our specific accounting policies.
Gary J. Daichendt has served as a director of ShoreTel since April 2007 and as chairman of the board since July 2010. Mr. Daichendt has been principally occupied as a private investor since June 2005 and has been a managing member of TheoryR Properties LLC, a commercial real estate firm, since October 2002. He served as president and chief operating officer of Nortel Networks Corporation, a supplier of communication equipment, from March 2005 to June 2005. Prior to joining Nortel Networks, from 1994 until his retirement in December 2000, Mr. Daichendt served in a number of positions at Cisco Systems, Inc., a manufacturer of communications and information technology networking products, including most recently as executive vice president, worldwide operations from August 1998 to December 2000, and as senior vice president, worldwide operations from September 1996 to August 1998. Mr. Daichendt is a member of the board of directors of NCR Corporation. Mr. Daichendt holds a B.A. in mathematics from Youngstown State University and M.S. in mathematics from The Ohio State University.
Qualifications to serve as director: In addition to his extensive executive management experience at Fortune 500 companies, Mr. Daichendt is independent and brings significant expertise in sales, marketing and channel development, as well as in the telecommunications and technology industries, particularly in the specific markets and industries in which we operate. Mr. Daichendt brings to the board insights and perspectives that are directly relevant to the specific challenges and opportunities we face.
Michael Gregoire has served as a director of ShoreTel since November 2008. Mr. Gregoire has served as chairman and chief executive officer of Taleo Corporation, a talent management software company, since March 2005. Prior to Taleo, Mr. Gregoire served at PeopleSoft, an enterprise software company, from May 2000 to January 2005, most recently as executive vice president, global services. Prior to PeopleSoft, Mr. Gregoire served as managing director for global financial markets at Electronic Data Systems, Inc., a technology services provider, from 1996 to April 2000, and in various other roles from 1988 to 1996. Mr. Gregoire has a masterâ€™s degree from California Coast University, and holds a bachelorâ€™s degree in physics and computing from Wilfred Laurier University in Ontario, Canada.
Qualifications to serve as director: Mr. Gregoire is independent and brings to the board extensive executive experience with rapidly growing public companies in the software and services sectors. As a chief executive officer of a software company, Mr. Gregoireâ€™s operational and strategic experiences apply directly to issues and opportunities managed by ShoreTel on a regular basis. He also brings experience serving in the highest levels of management of both a large public company and a high growth, smaller public company. Mr. Gregoireâ€™s board experience, including the role of chairman of the board of directors of a public company, also exposed him to best practices and approaches that are beneficial to ShoreTel and the companyâ€™s stockholders. In addition, with his experience at Taleo, Mr. Gregoire brings expertise in evaluating strategic compensation, as well as strategic human resources issues and policies, particularly for technology companies.
Charles D. Kissner has served as a director of ShoreTel since April 2006, and served as our lead independent director from April 2007 to July 2010. Mr. Kissner currently serves as chairman of the board of Aviat Networks, Inc., formerly Harris Stratex Networks, Inc., a provider of wireless transmission systems. Mr. Kissner served as chief executive officer and chairman of Aviat Networks from June 2010 to July 2011. Previously, he served as chairman of Stratex Networks from July 1995 to January 2007 and as its president and chief executive officer from July 1995 to May 2000 as well as from October 2001 to May 2006. Prior to joining Stratex Networks, Mr. Kissner served as vice president and general manager of M/A-Com, Inc., a manufacturer of radio and microwave communications products, as executive vice president of Fujitsu Network Switching of America, Inc., a telecommunications switching manufacturer, and as president and chief executive officer of Aristacom International, Inc., a provider of computer/telephony integration solutions. Mr. Kissner also previously held several executive positions at AT&T for over thirteen years. He previously served on the board of Meru Networks, a technology leader in the enterprise wireless systems market and on the board of directors of SonicWALL, Inc., a provider of internet security products. Mr. Kissner currently serves on the board of KQED Public Media, the largest public broadcaster in the United States. He holds a B.S. in industrial management and engineering from California State Polytechnic University and an M.B.A. from Santa Clara University.
Qualifications to serve as director: Mr. Kissner is independent and possesses over 30 years of management, operating, and corporate governance experience in the technology and telecom sectors. As a chief executive officer of a public communications company, Mr. Kissnerâ€™s operational and strategic experiences are directly relevant to issues faced by ShoreTel on a regular basis. He also possesses extensive experience with the strategic and operational challenges of leading a global company. We believe that Mr. Kissnerâ€™s board experience on the boards of directors of other public technology companies has exposed him to best practices and approaches that are beneficial to ShoreTel and the companyâ€™s stockholders. Mr. Kissner has served on our board, governance and nominating committee, and audit committee since our initial public offering and is familiar with our corporate governance, business model, critical accounting policies, and specific accounting policies.
MANAGEMENT DISCUSSION FROM LATEST 10K
We are a leading provider of IP telecommunications solutions for enterprises. Our solution is comprised of our switches, IP phones and software applications. We were founded in September 1996 and shipped our first system in 1998. Since that time, we have continued to develop and enhance our product line. Our acquisition of Agito Networks, Inc. (â€śAgitoâ€ť) , a leader in platform-agnostic enterprise mobility, in the second quarter of fiscal 2011, expands our existing mobile solution with the vision of allowing users to communicate on any device, such as a desk phone, mobile phone, or computer, at any location using any cellular or Wi-Fi network simply and cost effectively.
Our phone and switch products are manufactured by contract manufacturers located in United States and in China. Our contract manufacturers provide us with a range of operational and manufacturing services, including component procurement, final testing and assembly of our products, which allows us to scale our business without the significant capital investment and on-going expenses required to establish and maintain a manufacturing operation.
We sell our products primarily through channel partners that market and sell our systems to enterprises across all industries, including small, medium and large companies and public institutions. We believe our channel strategy allows us to reach a larger number of prospective enterprise customers more effectively than if we were to sell directly. The number of our authorized channel partners grew to over 900 as of June 30, 2011, representing approximately 13% year-over-year growth. Our c hannel partners typically purchase products directly from us or from our value-added distributors. Our internal sales and marketing personnel support these channel partners in their selling efforts. In some circumstances, the enterprise customer will purchase products directly from us, but in these situations we typically compensate the channel partner for its sales efforts. At the request of the channel partner, we often ship our products directly to the enterprise customer.
Most channel partners perform installation and implementation services for the enterprises that use our systems. Generally, our channel partners provide the post-contractual support to the enterprise customer by providing first-level support services and purchasing additional services from us under a post-contractual support contract. For channel partners without support capabilities or that do not desire to provide support, we offer full support contracts to provide all of the support to enterprise customers. Our channel partners may provide managed services offerings to the enterprise customer under which the channel partner may purchase our products and services and, in turn, charge the enterprise customer a monthly subscription fee to access those products and services. In addition, we have begun to engage some of our channel partners to purchase our products and services from us under a monthly managed services model.
During the second quarter of fiscal 2011, we entered into arrangements with two major value-added distributors to distribute our comprehensive line of business communication solutions to channel partners in the United States in what we refer to as a â€śtwo-tierâ€ť distribution model. We believe that the two-tier distribution model allows us to better serve our existing channel partners, to reach a larger number of prospective enterprise customers more effectively and to position us to continue to build momentum and capture increased market share in the IP telephony, mobility and UC markets. Furthermore, the two-tier distribution model allows us to scale our business operations without making significant investments in product distribution facilities, thus allowing us to manage our cost structure. We plan to seek relationships with additional value-added distributors in the future.
Although, we have historically sold our systems primarily to small and medium sized enterprises, in recent years, we have been expanding our sales and marketing activities to increase our focus on larger enterprise customers, including the creation of a major accounts program whereby our sales personnel assist our channel partners to sell to large enterprise accounts. As of June 30, 2011, we had sold our products to approximately 18,000 enterprise customers, representing close to a 30% year-over-year growth. To the extent, we continue to successfully acquire larger enterprise customers in the United States and worldwide, we expect our sales cycle to increase, and the demands on our sales and support infrastructure to increase.
We are headquartered in Sunnyvale, California and have sales, customer support, general and administrative and engineering functions in Austin, Texas. The majority of our personnel work at these locations. Sales, engineering, and support personnel are also located throughout the United States and, to a lesser extent, in Canada, the United Kingdom, Ireland, Germany, Belgium, Spain, Hong Kong, Singapore and Australia. While most of our customers are located in the United States, we have continued to achieve growth in revenue from international sales, which accounted for approximately 13% of our total revenue for fiscal 2011 compared with 10% and 7% in fiscal 2010 and 2009, respectively. We expect sales to customers in the United States will continue to comprise the majority of our sales in the foreseeable future.
In fiscal 2011, we continued to grow our market share of the IP telephony market, both in the United States and worldwide. Our total revenue increased to $200.1 million in fiscal 2011 from $148.5 million in fiscal 2010, primarily driven by sales to new customers. Our operating expenses increased to $145.6 million in fiscal 2011 from $109.5 million in fiscal 2010, primarily due to increases in compensation expenses related to growth in headcount (including stock-based based compensation). In fiscal 2011, we increased our headcount by 32%, with most of the growth in headcount coming from additions to our sales, product development and support workforce to support efforts to grow our sales channel and to enhance our product development activities, among other things. The acquisition of Agito also contributed to the increase in operating expenses primarily due to increases in compensation expense associated with employees hired from Agito, as well as non-recurring acquisition related expenses.
Key Business Metrics
We monitor a number of key metrics to help forecast growth, establish budgets, measure the effectiveness of our sales and marketing efforts and to measure operational effectiveness.
Initial and repeat sales orders. Our goal is to attract a significant number of new enterprise customers and to encourage existing enterprise customers to purchase additional products and support. Many enterprise customers make an initial purchase and deploy additional sites at a later date, and also purchase additional products and support as their businesses expand. As our installed enterprise customer base has grown, a larger portion of orders has come from existing enterprise customers. In fiscal year 2011, order volume from existing enterprise customers represented approximately 53% of total order volume compared with 56% and 54% in fiscal 2010 and 2009, respectively.
Deferred revenue. Deferred revenue relates to the timing of revenue recognition for specific transactions based on delivery of service, support, specific commitments, product and services delivered to our value-added distributors that have not sold through to resellers, and other factors. Deferred revenue primarily consists of billings or payments received in advance of revenue recognition from our transactions and are recognized as the revenue recognition criteria are met. Nearly all system sales include the purchase of post-contractual support contracts with terms of up to five years, and our renewal rates on these contracts have been high historically. We recognize support revenue on a ratable basis over the term of the support contract. Since we receive payment for support in advance of recognizing the related revenue, we carry a deferred revenue balance on our consolidated balance sheet. This deferred revenue helps provide predictability to our future support and services revenue. Our deferred revenue balance at June 30, 2011 was $37.7 million, of which $26.4 million is expected to be recognized within one year.
Gross margin. Our gross margin for products is primarily affected by our ability to reduce hardware costs faster than the decline in average overall system sales prices. We strive to increase our product gross margin by reducing hardware costs through product redesign and volume discount pricing from our suppliers. In general, product gross margin on our switches is greater than product gross margin on our IP phones. As the prices and costs of our hardware components have decreased over time, our software components, which have lower costs than our hardware components, have represented a greater percentage of our overall margin on system sales. We consider our ability to monitor and manage these factors to be a key aspect of maintaining product gross margins and increasing our profitability.
Gross margin for support and services is slightly lower than gross margin for products, and is impacted primarily by labor-related expenses. The primary goal of our support and services function is to ensure a high level of customer satisfaction and our investments in support personnel and infrastructure are made with this goal in mind. We expect that as our installed enterprise customer base grows, we may be able to slightly improve gross margin for support and services through economies of scale. However, the timing of additional investments in our support and services infrastructure could materially affect our cost of support and services revenue, both in absolute dollars and as a percentage of support and services revenue and total revenue, in any particular period.
Operating expense management. Our operating expenses are comprised primarily of compensation and benefits for our employees. Accordingly, increases in operating expenses historically have been primarily related to increases in our headcount. We intend to expand our workforce to support our anticipated growth, and therefore, our ability to forecast revenue is critical to managing our operating expenses.
Basis of Presentation
Revenue. We derive our revenue from sales of our IP telecommunications systems and related support and services. Our typical system includes a combination of IP phones, switches and software applications. Channel partners buy our products directly from us or from our value-added distributors. Prices to a given channel partner for hardware and software products depend on that channel partnerâ€™s volume and customer satisfaction levels, as well as our own strategic considerations. In circumstances where we sell directly to the enterprise customer in transactions that have been assisted by channel partners, we report our revenue net of any associated payment to the channel partners that assisted in such sales. This results in recognized revenue from a direct sale approximating the revenue that would have been recognized from a sale of a comparable system through a channel partner. Product revenue has accounted for 80%, 79%, and 81% of our total revenue for 2011, 2010 and 2009, respectively.
Support and services revenue primarily consists of post-contractual support, and to a lesser extent revenue from training services, professional services and installations that we perform. Post-contractual support includes software updates which grant rights to unspecified software license upgrades and maintenance releases issued during the support period. Post-contractual support also includes both Internet- and phone-based technical support. Revenue from post-contractual support is recognized ratably over the contractual service period.
Cost of revenue. Cost of product revenue consists primarily of hardware costs, royalties and license fees for third-party software included in our systems, salary and related overhead costs of operations personnel, freight, warranty costs and provision for excess inventory. The majority of these costs vary with the unit volumes of products sold. Cost of support and services revenue consists of salary and related overhead costs of personnel engaged in support and service activities.
Research and development expenses. Research and development expenses primarily include personnel costs, outside engineering costs, professional services, prototype costs, test equipment, software usage fees and facilities expenses. Research and development expenses are recognized when incurred. We capitalize development costs incurred from determination of technological feasibility through general release of the product to customers. We are devoting substantial resources to the development of additional functionality for existing products and the development of new products and related software applications. We intend to continue to make significant investments in our research and development efforts because we believe they are essential to maintaining and improving our competitive position. Accordingly, we expect research and development expenses to continue to increase in absolute dollars.
Sales and marketing expenses. Sales and marketing expenses primarily include personnel costs, sales commissions, travel, marketing promotional and lead generation programs, branding and advertising, trade shows, sales demonstration equipment, professional services fees and allocated facilities expenses. We plan to continue to invest in development of our distribution channel by increasing the size of our field sales force to enable us to expand into new geographies and further increase our sales to large enterprise customers. We plan to continue investing in our domestic and international marketing activities to help build brand awareness and create sales leads for our channel partners. We expect that sales and marketing expenses will increase in absolute dollars and remain our largest operating expense category.
General and administrative expenses. General and administrative expenses primarily relate to our executive, finance, human resources, legal and information technology organizations. General and administrative expenses primarily consist of personnel costs, professional fees for legal, accounting, tax, compliance and information systems, travel, recruiting expense, software amortization costs, depreciation expense and facilities expenses. As we expand our business, we expect general and administrative expenses to increase in absolute dollars.
Other income (expense). Other income (expense) primarily consists of interest earned on cash, cash equivalents and short-term investments, gains and losses on foreign currency translations and transactions, as well as other miscellaneous items affecting our operating results.
Income tax benefit (provision). Income tax benefit (provision) includes federal, state and foreign tax on our income. Since our inception, we have accumulated substantial net operating loss and tax credit carryforwards. We account for income taxes under an asset and liability approach. Deferred income taxes reflect the impact of temporary differences between assets and liabilities recognized for financial reporting purposes and such amounts recognized for income tax reporting purposes, net operating loss carryforwards and other tax credits measured by applying current enacted tax laws. Valuation allowances are provided when necessary to reduce deferred tax assets to an amount that is more likely than not to be realized.
Cash flows from operating activities
Our cash flows from operating activities are significantly influenced by our cash expenditures to support the growth of our business in areas such as research and development, sales and marketing and administration. Our operating cash flows are also influenced by our working capital needs to support growth and fluctuations in inventory, accounts receivable, vendor accounts payable and other assets and liabilities. We procure finished goods inventory from our contract manufacturers and typically pay them in 30 days. We extend credit to our channel partners and typically collect in 30 to 60 days, although these time periods can vary and can be longer. In some cases, we prepay for license rights to third-party products which we incorporate into our products, in advance of such sales.
Cash flow provided by operating activities decreased by $9.9 million in fiscal 2011, primarily due to higher spending to support our growth, growth in inventory values, as well as factors related to timing of our cash collections and payment of our liabilities. Cash provided by operating activities consisted of net loss of $11.5 million, adjusted by non-cash items of $16.5 million and cash used by changes in assets and liabilities of $3.6 million, which primarily consisted of (i) an increase of $9.1 million in accounts receivable, attributable to higher revenue in fiscal 2011 and timing of cash collections, (ii) increase of $8.7 million in inventory, primarily due to anticipated demand for our solutions in relation to lead times to produce such product by our contract manufacturers, as well as a purposeful build-up of inventory to mitigate any supply chain disruption resulting from the natural disaster in Japan in March 2011 (iii) a combined decrease of $2.3 million in accounts payable, and accrued liabilities and others, partially offset by (iv) an increase of $8.9 million in deferred revenue, driven by higher post-contractual support billings resulting from the increase in our installed base (v) a decrease of $4.8 million in prepaid assets and other current assets, reflecting timing of expense recognition and (vi) an increase of $2.7 million in accrued employee compensation.
Cash flow provided by operating activities increased by $3.7 million in fiscal 2010, primarily due to higher revenue growth and factors related to timing. Cash provided by operating activities consisted of net loss of $12.8 million, adjusted by non-cash items of $13.7 million and cash provided by changes in assets and liabilities of $10.3 million, which primarily consisted of (i) an increase of $6.2 million in deferred revenue mainly due to the deferral of revenue from sales of post contractual support contracts exceeding the associated revenue recognized on new contracts in fiscal 2010, (ii) a net combined increase of $8.1 million in accounts payable, accrued liabilities, and accrued employee compensation, mainly due to timing (iii) a decreases in inventories of $1.9 million, partially offset by (iv) a $3.1 increase in accounts receivable, due to higher revenue in fiscal 2010 and timing of cash collections, and (v) a net increase of $2.8 million in prepaid expense and other assets.
Cash flow provided by operating activities decreased by $0.8 million in fiscal 2009, primarily due to factors related to timing. Cash used in operating activities consisted of net loss of $12.7 million, adjusted by non-cash items of $12.7 million and cash provided by changes in assets and liabilities of $7.5 million, which primarily consisted of an increase of $3.8 million in deferred revenue; and a net combined increase of $3.5 million in accounts payable, accrued liabilities, and accrued employee compensation.
Cash flows from investing activities
We have classified our investment portfolio as available for sale and our investments are made with a policy of capital preservation and liquidity as the primary objectives. We may hold investments to maturity; however, we may sell an investment at any time if the quality rating of the investment declines, the yield on the investment is no longer attractive or we are in need of cash. Because we invest only in investment securities that are highly liquid with a ready market, we believe that the purchase, maturity or sale of our investments has no material impact to our overall liquidity.
Net cash flow provided by investing activities was $12.6 million in fiscal 2011, primarily comprised of $33.7 million proceeds from the sales and maturities of investments, offset by $11.4 million used in the acquisition of Agito, $5.9 million used to purchase property and equipment, $3.1 million used to purchase investment securities, and $0.8 million used to purchase intangible assets.
We used $19.7 million in investing activities in fiscal 2010, primarily comprised of $23.8 million used to purchase investment securities, $4.6 million used to purchase property and equipment and $1.4 million used to purchase intangible assets, partially offset by proceeds of $10.1 million from the sale and maturities of investments.
We used $5.5 million in investing activities in fiscal 2009, primarily comprised of $35.1 million used to purchase investment securities, $4.1 million used to purchase intangible assets and $1.8 million used to purchase property and equipment, partially offset by proceeds of $35.5 million from the sale and maturities of investments.
Cash flows from financing activities
Cash flow provided by financing activities in fiscal 2011 was $7.4 million, primarily consisted of proceeds of $7.9 million from the exercise of stock options, offset by $0.5 million used to pay taxes on vested and released stock awards.
Cash flow provided by financing activities in fiscal 2010 was $3.2 million, primarily consisted of proceeds of $3.1 million from the exercise of stock options and $0.2 million of excess tax benefit from stock options exercised, offset by $0.1 million used to pay taxes on vested and released stock awards.
MANAGEMENT DISCUSSION FOR LATEST QUARTER
We are a leading provider of IP telecommunications solutions for enterprises. Our solution is comprised of our ShoreGear switches, ShorePhone IP phones and ShoreWare software applications. We were founded in September 1996 and shipped our first system in 1998. We have continued to develop and enhance our product line since that time. Our acquisition of Agito Networks, Inc. (â€śAgitoâ€ť), a leader in platform-agnostic enterprise mobility, in the second quarter of fiscal 2011, expands our existing mobile solution with the vision of allowing users to communicate on any device, such as a desk phone, mobile phone, or computer, at any location using any cellular or Wi-Fi network simply and cost effectively.
We sell our products using single-tier or two-tier distribution channel to enterprises across all industries, including small, medium and large companies and public institutions. Our single-tier distribution channel consists of resellers that usually sell our products to end customers. Resellers usually do not stock our products and do not have rights of return. Our two-tier distribution channel consists of value-added distributors that stock and sell our products to other resellers or to end customers. The value-added distributors have limited rights of return. We refer to our resellers and value-added distributors collectively as â€śchannel partnersâ€ť.
We believe our channel strategy allows us to reach a larger number of prospective enterprise customers more effectively than if we were to sell directly. As of December 31, 2011, we worked with over 1,000 channel partners to sell our products. Our internal sales and marketing personnel support these channel partners in their selling efforts. In some circumstances, the enterprise customer will purchase products directly from us, but in these situations we typically compensate the channel partner for its sales efforts. At the request of the channel partner, we will ship our products directly to the enterprise customer.
Most channel partners generally perform installation and implementation services for the enterprises that use our systems. In most cases, our channel partners provide the post-contractual support to the enterprise customer by providing first-level support services and purchasing additional services from us under a post-contractual support contract. For channel partners without support capabilities or that do not desire to provide support, we offer full support contracts to provide all of the support to enterprise customers. Our channel partners may provide managed services offerings to the enterprise customer under which the channel partner may purchase our products and services and, in turn, charge the enterprise customer a monthly subscription fee to access those products and services. In addition, we have begun to engage some of our channel partners to purchase our products and services from us under a monthly managed services model.
We outsource the manufacturing of our products to contract manufacturers. Our outsourced manufacturing model allows us to scale our business without the significant capital investment and on-going expenses required to establish and maintain a manufacturing operation. Our phone and switch products are manufactured by contract manufacturers located in Austin, Texas and in China. Our contract manufacturers provide us with a range of operational and manufacturing services, including component procurement, final testing and assembly of our products. We work closely with our contract manufacturers to manage the cost of components, since our total manufacturing costs are directly tied to component costs. We regularly provide forecasts to our contract manufacturers, and we order products from our contract manufacturers based on our projected sales levels well in advance of receiving actual orders from our enterprise customers. We seek to maintain sufficient levels of finished goods inventory to meet our forecasted product sales with limited levels of inventory to compensate for unanticipated shifts in sales volume and product mix.
Although we have historically sold our systems primarily to small and medium sized enterprises, we have expanded our sales and marketing activities to increase our focus on larger enterprise customers. Accordingly, we have a major accounts program whereby our sales personnel assist our channel partners to sell to large enterprise accounts, and we coordinate with our channel partners to enable them to better serve large multi-site enterprises. To the extent we are successful in penetrating larger enterprise customers; we expect that the sales cycle for our products will increase, and that the demands on our sales and support infrastructure will also increase.
We are headquartered in Sunnyvale, California and have sales, customer support, general and administrative and engineering functions in Austin, Texas. The majority of our personnel work at these locations. Sales, engineering, and support personnel are located throughout the United States and, to a lesser extent, in the United Kingdom, Germany, Belgium, Spain, Hong Kong, Singapore, Mexico, Australia, Canada and India. Most of our enterprise customers are located in the United States. Revenue from international sales was 12% and 12% of our total revenue for the three months ended December 31, 2011 and 2010, respectively and was 12% and 11% of our total revenue for the six months ended December 31, 2011 and 2010, respectively. Although we intend to focus on increasing international sales and expect those revenues to grow faster than the overall company revenue, we expect that sales to enterprise customers in the United States will continue to comprise the significant majority of our sales.
Key Business Metrics
We monitor a number of key metrics to help forecast growth, establish budgets, measure the effectiveness of sales and marketing efforts and measure operational effectiveness.
Initial and repeat sales orders. Our goal is to attract a significant number of new enterprise customers and to encourage existing enterprise customers to purchase additional products and support. Many enterprise customers make an initial purchase and deploy additional sites at a later date, and also buy additional products and support as their businesses expand. As our installed enterprise customer base has grown we have experienced an increase in revenue attributable to existing enterprise customers, which currently represents a significant portion of our total revenue.
Deferred revenue . Deferred revenue relates to the timing of revenue recognition for specific transactions based on service, support, specific commitments, product and services delivered to our value-added distributors that have not sold through to resellers, and other factors. Deferred revenue primarily consists of billings or payments received in advance of revenue recognition from the Companyâ€™s transactions described above and are recognized as the revenue recognition criteria are met. Nearly all system sales include the purchase of post-contractual support contracts with terms of up to five years, and the rate of renewal on these contracts have been high historically. We recognize support revenue on a ratable basis over the term of the support contract. Since we receive payment for support in advance of our recognizing the related revenue, we carry a deferred revenue balance on our consolidated balance sheet. This deferred revenue helps provide predictability to our future support and services revenue. Accordingly, the level of purchases of post-contractual support with our product sales is an important metric for us along with the renewal rates for these services. Our deferred revenue balance at December 31, 2011 was $45.2 million, consisting of $8.2 million of deferred product revenue and $37.0 million of deferred support and services revenues, of which $33.0 million is expected to be recognized within one year.
Gross margin. Our gross margin for products is primarily affected by our ability to reduce hardware costs faster than the decline in average overall system prices and our channels sales mix as we expand our two-tier distribution channel in the domestic market. Since sales channeled through our distributors typically have a lower margin than sales made directly to our resellers, we have experienced a decline in our gross margins as the two-tier channel grows. We continue to work on introducing new lower cost hardware which will help improve our product gross margin. In general, product gross margin on our switches is greater than product gross margin on our IP phones. We consider our ability to monitor and manage these factors to be a key aspect of maintaining product gross margin and increasing our profitability.
Gross margin for support and services is impacted primarily by the growth in revenue, personnel costs and labor related expenses. The primary goal of our support and services function is to ensure maximum customer satisfaction and our investments in support personnel and infrastructure are made with this goal in mind. We expect that as our installed enterprise customer base grows, we will be able to maintain our gross margin for support and services. However, the timing of additional investments in our support and services infrastructure could materially affect our cost of support and services revenue, both in absolute dollars and as a percentage of support and services revenue and total revenue, in any particular period.
Operating expenses. Our operating expenses are comprised primarily of compensation and benefits for our employees and, therefore, the increase in operating expenses has been primarily related to increases in our headcount. We intend to expand our workforce to support our anticipated growth, and therefore our ability to forecast and increase revenue is critical to managing our operating expenses and profitability.
Basis of Presentation
Revenue. We derive our revenue from sales of our IP telecommunications systems and related support and services. Our typical system includes a combination of IP phones, switches and software applications. Prices to a given channel partner for hardware and software products depend on that channel partnerâ€™s volume and certain certifications, as well as our own strategic considerations.
Support and services revenue primarily consists of post-contractual support, and to a lesser extent revenue from training services, professional services and installations that we perform. Post-contractual support includes software updates which grant rights to unspecified software license upgrades and maintenance releases issued during the support period. Post-contractual support also includes both Internet-and phone-based technical support. Post-contractual support revenue is recognized ratably over the contractual service period.
Cost of revenue. Cost of product revenue consists primarily of hardware costs, royalties and license fees for third-party software included in our systems, salary and related overhead costs of operations personnel, freight, warranty costs and provision for excess inventory. The majority of these costs vary with the unit volumes of product sold. Cost of support and services revenue consists of salary and related costs of personnel engaged in support and services.
Research and development expenses . Research and development expenses primarily include personnel costs, outside engineering costs, professional services, prototype costs, test equipment, software usage fees and facilities expenses. Research and development expenses are recognized when incurred. We are devoting substantial resources to the development of additional functionality for existing products and the development of new products and related software applications.
Sales and marketing expenses. Sales and marketing expenses primarily include personnel costs, sales commissions, travel, marketing promotional and lead generation programs, our annual partner conference, advertising, trade shows, demonstration equipment, professional services fees and facilities expenses. We plan to continue to invest in development of our distribution channel by increasing the size of our field sales force to enable us to expand into new geographies and further increase our sales to large enterprise customers. We plan to continue investing in our domestic and international marketing activities to help build brand awareness and create sales leads for our channel partners. We expect that sales and marketing expenses will increase in absolute dollars and remain our largest operating expense category.
General and administrative expenses. General and administrative expenses relate to our executive, finance, human resources, legal and information technology organizations. Expenses primarily include personnel costs, professional fees for legal, accounting, tax, compliance and information systems, travel, allowance for doubtful accounts, recruiting expense, software amortization costs, depreciation expense and facilities expenses. As we expand our business, we expect to increase our general and administrative expenses.
Other income (expense). Other income (expense) primarily consists of interest earned on cash, cash equivalents and short-term investments, gains and losses on foreign currency translations and transactions, as well as other miscellaneous items affecting our operating results.
Provision for income tax. Provision for income tax includes federal, state and foreign tax on our taxable income. Since our inception, we accumulated substantial net operating loss and tax credit carryforwards. We account for income taxes under an asset and liability approach. Deferred income taxes reflect the impact of temporary differences between assets and liabilities recognized for financial reporting purposes and such amounts recognized for income tax reporting purposes, net operating loss carry-forwards and other tax credits measured by applying currently enacted tax laws. Valuation allowances are provided when necessary to reduce deferred tax assets to an amount that is more likely than not to be realized.
Critical Accounting Policies and Estimates
The preparation of our financial statements and related disclosures in conformity with generally accepted accounting principles in the United States of America, or GAAP, requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. These estimates and assumptions are based on historical experience and various other factors that we believe are reasonable under the circumstances. We consider our accounting policies related to revenue recognition, stock-based compensation and accounting for income taxes to be critical accounting policies. A number of significant estimates, assumptions, and judgments are inherent in our determination of when to recognize revenue, how to estimate the best evidence of selling price for revenue recognition and the calculation of stock-based compensation expense. We base our estimates and judgments on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results could differ materially from these estimates. Management believes there have been no significant changes during the six months ended December 31, 2011 to the items that we disclosed as our critical accounting policies and estimates in Managementâ€™s Discussion and Analysis of Financial Condition and Results of Operations in our 2011 Annual Report on Form 10-K filed with the Securities and Exchange Commission. For a description of those accounting policies, please refer to our 2011 Annual Report on Form 10-K.
Thanks for joining us today as we report our second quarter 2012 financial results. We will also be discussing Shore Telâ€™s planned acquisition of M5 Networks, which was also announced today. We have posted slides regarding this acquisition on the landing page of the IR section on our website.
Joining me on the call today are, ShoreTelâ€™s CEO, Peter Blackmore; and Chief Financial Officer, Mike Healy; Kevin Gavin our Chief Marketing Officer will join us in our question-and-answer session.
Before we begin, Iâ€™ll remind you that during todayâ€™s call, management will make forward-looking statements within the meaning of the Safe Harbor provision of Federal Securities Laws regarding the companyâ€™s anticipated future revenue, gross margins, operating expenses and other financial and business-related information. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those projected.
Additional information concerning the risk factors that could cause actual results to differ materially from those in the forward-looking statements can be found in the companyâ€™s Annual Report on Form 10-K for the fiscal year ended June 30, 2011, and in todayâ€™s press release.
The information in this conference call related to projections or other forward-looking statements is based on managementâ€™s current expectations. The company does not intend to update its forward-looking statements should circumstances change. As a matter of policy, ShoreTel does not comment on financial guidance during the quarter unless it is done in a public forum.
We will be discussing both GAAP and non-GAAP results throughout this call, and I ask you to refer to our press release issued today for the reconciliation between these amounts. Our non-GAAP numbers exclude stock-based compensation charges, amortization of intangible assets, and the related tax impact.
One final housekeeping item, we are currently planning on presenting at the Pacific Crest and Stifel Nicolaus Conferences in February and the Sidoti and Wedbush Conferences in March. Also short term we will be holding an investor day at AT&T Park in San Francisco on March 14th from 1:00 p.m. to 5:00 p.m. I hope you will attend as we do a deeper dive into our business.
With that Iâ€™ll turn the call over to Peter.
Thank you, Tonya, and thanks to all of you for joining us today. We are very excited both with our second quarter achievements as well as with our planned acquisition of M5 Networks which I shall provide more detail about later on the call.
First, I shall discuss the performance of our current premise based IP-PBX business during the quarter. In the second fiscal quarter of 2012 ShoreTel generated record revenues of $58 million, an increase of 22% of the second quarter of fiscal 2011 and an 8% increase from the previous quarter. Non-GAAP gross margins were 66.1% down slightly from last quarter. We posted non-GAAP net income of $1.4 million or $0.03 per share which represents a significant improvement of the last yearâ€™s loss of $0.02 per share.
We were pleased with our revenue achievements in what is typically a seasonally strong second quarter. We saw a solid improvement in demand from our U.S. regional partners this quarter in line with our expectations. Revenues from our U.S. service providers were also up in the quarter growing 20% sequentially.
We are continuing to deliver international growth with our international business growing 27% over the second quarter of last year, and up 6% sequentially. As itâ€™s typical in our seasonally strong quarters, revenue from new customers grew as a percentage of our overall business to 52% up from 46% in the first quarter and at its highest level since fiscal 2008. Once again, we saw solid growth in our ShoreTel Mobility product line with a revenue increase of over 30% sequentially in the quarter.
We continue to be pleased with a customer and partner reaction to this growing area of our business. This quarter we also announced an agreement with Hewlett-Packard to make ShoreTel Mobility part of HPâ€™s fixed mobile convergence solution portfolio. With the addition of HP as a reseller of ShoreTel Mobility we continue to extend the reach of our mobility solutions.
We are pleased that ShoreTel and HP will have their respective mobility solutions featured at the upcoming Enterprise Connect Conference in March which will be held in Orlando.
Now, let me provide some perspective on the market place. We were pleased to see the broader U.S. Enterprise IP Telephony market as well as the U.S. pure IP Telephony market return to growth in the September 2011 quarter after three quarters of modest declines. According to Synergy Research the U.S. Enterprise IP Telephony market grew approximately 9% in the September of 2011 quarter which is the most recent data available.
The worldwide Enterprise IP Telephony market also grew approximately 8% from the June 2011 quarter. ShoreTelâ€™s market share within both worldwide and the United States have grown significantly year-over-year. We expect to build these market share gains and continue to close the gap between our current number three position and the number two player in the U.S.
Partner recruitment remains a top priority to support our growth ambitions. During the second quarter we signed a total of 60 new partners around the world, 38 of which came through our relationship with ScanSource. A few examples of significant additions include, Howard Industries which has revenues in excess of $1 billion. It is the largest employer in the state of Mississippi and is primarily focused on the government and education sectors.
It selected ShoreTel as its exclusive UC provider. We also added Netversant [ph] which focuses on mobility, enterprise communications, infrastructure, and security. With a strong national presence Netversant has over 600 employees throughout the United States.
Finally, we signed a new partnership with mindSHIFT Technologies which has offices throughout the east coast, an area where ShoreTel is still underpenetrated. mindSHIFT is known for its strong integration capabilities and for having a significant number of fortune 100 customers.
We also added a record of nearly 1300 new customers in the quarter, a sequential increase of 24% over quarter one. A few notable new customer examples include a significant win with First Republic Bank who will be rolling out ShoreTelâ€™s UC solution including a ShoreTel Mobility to approximately 3000 of its employees at 65 sites throughout the United States.
We were also recently chosen by Brown and Coldwell, one of the largest environmental and civil engineering firms in the country. Brown and Coldwell shows ShoreTel chose Microsoft Link, and will be installing ShoreTel in 45 locations with over 1500 users.
We also signed Security Bank, our first financial services win in the Philippines. Security Bank is one of the Philippines top 10 private domestic universal banks. Security Bank purchased the ShoreTel UC solution including our Enterprise Contact Center for approximately 1000 its employees.
This quarter we also reached a significant milestone. Our total number of licenses sold worldwide surpassed two million as of the end of the quarter. We are pleased to have achieved this milestone in record time as we announced reaching our one millionth license just eight quarters ago. This achievement and the results we delivered this quarter demonstrate our momentum.
The strength and our cooperation create opportunities which bring me to our second announcement today. Our planned acquisition of M5 Networks. For those of you not familiar with M5, it is a privately held, hosted, UC company that offers voice over IP and UC as a hosted service. M5â€™s primary focus is on customers with between 50 and 500 seats. It has more than 2000 customers with over 60,000 recurring revenue seats in the United States. M5 has 200 employees and it is headquartered in New York City.
M5 is a recognized leader in the hosted UC market and was recently given a visionary position in Gartnerâ€™s Magic Quadrant for UC as a service in North America. We are very excited about this compelling acquisition for a number of reasons. First, it allows ShoreTel to strengthen our clear leadership position in on-premise unified communications by adding a proven hosted UC solution in the fast growing but still fragmented cloud telephony market. Gartner estimates that the hosted UC market is $700 million today and expects it to grow at a 36% compounded annual growth rate to $2.2 billion in 2015.
Secondly, after eight months of performing an extensive buy versus bill review we determined that the secret source in hosted UC is not just a well developed R&D solution, but more fundamentally experienced in running a very different business model.
The reasons we chose M5 are its low churn rate, its high average revenue per unit or ARPU, its very competitive customer acquisition cost, and its expertise in running in 7x24 datacenters.
I want to emphasize that the management skills required to run a hosted business are in many ways different from those necessary for the on-premise business. For us to build this expertise would have taken time and investment and would certainly have involved distraction and therefore risk to our current business. We therefore determined the best way to enter this market quickly and establish a strong position is to find a company with a proven business model, a significant recurring revenue stream, a good management team, and then bringing that organization into ShoreTel as a new business unit.
After looking at many companies we selected M5 as the ideal entry into this market. After a very diligent review of their assets we believe they have some of the best matrix in the hosted business. M5 also has a passion for brilliant simplicity and a focus on customer satisfaction. Both of these are very synergistic with the ShoreTel DNA.
Finally, this acquisition provides a recurring revenue stream that makes our revenues inherently more predictable. Approximately 80% of M5 revenues last year were recurring in nature. Therefore, with the addition of their business, the combined company is expected to have recurring revenues of over 30%, significantly improving our visibility and adding more predictability to our quarterly revenue.
For some time, we have viewed the hosted UC market as complementary to the premise based business we have today. The IP telephony and UC markets are evolving quickly, and we have seen a growing number of prospective customers interested in the flexibility that you see as a service office. This corresponds with the overall market trends towards cloud based services. We believe that with the addition of M5 we will be able to capitalize all these trends and accelerate the growth rate of our overall business.
We view and finds hosted UC service as a natural extension of ShoreTelâ€™s brilliantly simple product offering. With the addition of M5, ShoreTel will now be able to live up to customerâ€™s interest, either a world class on-premise UC system as weâ€™ve offered for years or a hosted cloud UC service allowing customers to pay on a monthly basis.
ShoreTel will be uniquely positioned to give customers ultimate choice. We do know that customers tend to make a decision to buy on-premise or hosted before they approach the vendor. Today we obviously miss out on those hosted market opportunities. With M5 we can now answer these needs with no compromise.
For those customers who are unsure whether a premise based solution or a hosted solution is the best fit for their business, we shall be able to provide unbiased advice to help find the ideal solution. In short, ShoreTel will now be able to offer both solutions each of which is well differentiated from competitors based on the brilliant simplicity and high customer satisfaction we offer. ShoreTelâ€™s premise based solution will continue to be sold through our strong reseller base with no changes to that distribution model.
I do want to emphasize that there will be no changes to our current distribution model for our current business. The hosted solution will operate as a separate business unit led by Dan Hoffman, M5 CEO. We shall keep the go-to-market model they have today for their hosted business which is a combination of direct and channel referral. ShoreTel resellers will be able to add the hosted business to their portfolio once they are certified. This will enable them to compliment their on-premise revenues with a highly profitable recurring revenue stream.
Since I began at ShoreTel a little over a year ago, I have strongly believed that the company needed a cloud UC offering to complement our on-premise business. Since our strategy presentation to the board in June, the management team and I have worked diligently to identify the best entry into this attractive market. I am very excited by the opportunity that a combination of ShoreTel and M5 presents.
Iâ€™ll remind you that the market for premise based PBX systems is $6 billion dollars today and growing in single digits. ShoreTel has momentum and we plan to continue to gain market share by growing our core business significantly faster than the growth of the overall on-premise IP-PBX market.
The addition of a cloud UC offering this is a very important strategic move for our company. We are entering the market at exactly the right time whilst it is still in its early stages and clearly fragmenting allowing us to build a leadership position. I am confident that the combination of ShoreTel and M5 will create a winning proposition that is unmatched in the market place. Now, I shall turn the call over to Mike.
Thanks Peter. First I will review some of the key financial metrics for the second quarter and then I will provide more financial details regarding our planned M5 acquisition. And then finally I will discuss our guidance for our third quarter 2012.
Total revenues of $58 million for Q2 were segmented as follows. Product revenues were $46.3 million, up 10% from the first quarter. Service and support revenue which were 20% of overall revenues were up slightly from Q1 at $11.7 million and up 20% year-over-year.
Our international revenues grew 6% to $7.2 million and represented 12% of total revenue. We saw a growth from all of our geographies during the quarter with Australia showing the larger sequential increase.
Business from our service providers bounced back nicely in the quarter growing 20% sequentially posting a 32% increase over Q2 last year. Our newer service provider Windstream showed the largest quarter over quarter increase. As a group service providers represent 12% of business in the quarter as well. Our largest vertical segments in the quarter were financial, professional services, and entertainment. We saw growth in nearly every segment with the exception of government and education which was down in Q2 after a strong Q1.
Itâ€™s also notable that we had solid growth in customers between the 500 and 5000 user range during the quarter as we continue to penetrate large enterprise customers. We sold a 134,000 end user licenses up from a 113,000 in Q2 as of last year. As Peter mentioned we added a record 1300 new customers in the quarter bringing our cumulative customers sold to over 20,000.
Our total non-GAAP gross margins were 66.1% in Q2, our non-GAAP product gross margins were 65.7% in the quarter, down 60 basis points from last quarter. Approximately half of that decline related to an increase in the percentage of our volume shift through our North American bets, which climbed to 34% of our total billings in Q2, solid evidence that ScanSource transition is going well. As expected, we did not see a significant amount of revenue through our newest bid Ingram Micro in the second quarter where we expect them to ramp in the second half of our fiscal year.
The balance of decline in the product gross margins was due to product mix shifts and the increase in business from new customers which have a slightly lower gross margin in the quarter. Our non-GAAP service from support gross margins remains very strong at 68%.
Our non-GAAP operating expenses was $36.6 million flat with last quarter mostly due to reduction in employee benefit cost and a decrease in G&A expenses related to reduced professional fee. These were offset by labor increases associated with hiring of 22 employees in the quarter. Our GAAP operating expenses were $40.2 million and included a $500,000 settlement on an outstanding patent infringement claim as well as stock compensation charges and amortization of purchase intangibles.
We are pleased that our revenue performance in our seasonally strong Q2 combined with prudent management of operating expense allowed us to return to a non-GAAP profit. For the second quarter our non-GAAP profit was $1.4 million or $0.03 per diluted share. This strong achievement also allowed us to be profitable on a non-GAAP basis for the whole first half of our fiscal year.
Our GAAP net loss was $2.5 million or a loss of $0.05 per share including approximately $3.3 million of stock based compensation charges and $250,000 in amortization of intangible assets.
Balance Sheet highlights from Q2 included solid cash flow from operations of over $6 million ending the quarter with cash inserts from investments of a $115.9 million. This follows a strong performance in Q1 and brings our total cash flow from operations to $10 million for the first half of fiscal year 2012. Accounts receivable increased only $1.5 million or 5% to $30.9 million on increased revenue topped with another great collections effort.
Days Sales Outstanding or DSOs were down slightly to 36 days. Inventory increased by $2.4 million to 22.6, mostly due to shipments to our North American distributors that had not followed through by the end of December. Total deferred revenue increased by 14% or 5.5 to $45.2 million driven by continued sales and maintenance contracts to our customers and increase in billings related to our North American bids.
Capital expenditures of $984,000 were higher than in the past quarters due to investments in two lean item contract manufacturer as well as equipment for our QA labs. Depreciation and amortization expenses were approximately $1.6 million for the quarter.
As of December 31st we had 700 employees up 22 from the first quarter. Total sales quota-carrying headcount grew by 10, to 211 at the end of Q2.
Next, let me give you some more details on the planned M5 transaction. Keeping in mind we expect the transaction to close by the end of March 2012. Under the terms of definitive agreement, M5 shareholders will receive $84.1 million in cash and $9.5 million shares of ShoreTel stock which is valued at $62.2 million bringing the total initial consideration to $146.3 million.
In addition, the M5 shareholders are entitled to contingent consideration of up to $13.7 million. The contingent payments are payable over the next two years after closing, and are based on achievement of certain revenue performance milestones for the year ended December 31st, 2012. Hence the cash consideration of $84 million is a significant portion of our outstanding cash balance. We are planning to finance a portion of the purchase price with a line of credit revolver that we plan to close in conjunction with the acquisition.
After funding the initial consideration, drawing down some of the lines of credit and paying transaction fees we finally have close to $50 million of cash in short term investments on the balance sheet. In terms of overall revenue and cost, M5 is just starting the ride for the calendar year 2011 that ended December. But we donâ€™t quite have final numbers from them yet. We expect for 2011 M5 will report revenue in the high $40 million range. It would be close to 50% growth year-over-year.
In terms of profitability, we have been investing for growth and running that close to cash flow break even in calendar 2011. Although we plan to run M5 as a separate business unit, we expect a number of revenue and cost synergies over time including leveraging some of our 600 channeled partners in the U.S. to extend M5 channel, casting leads for customers who prefer a hosted solution that we previously cannot address, adding the ShoreTel phones into the M5 product offerings, and taking our world class mobility offering into the clouds.
Over time we will be taking advantage of our UC product capabilities and extend them into our new hosted offering. In terms of cost synergies we will have the normal kind of activities you would expect mostly in the G&A areas like reduced audit and tax fees, insurance benefits, reduced interest expense on the M5 books and the overlap of certain positions.
We also plan to invest in few specific areas like, we plan to accelerate product development to make sure that ShoreTel phone product line is compatible with the hosted solution, enhance and scale their operating infrastructure. We will also have normal cost related to renaming and brand building as we transition M5 to the ShoreTel brand, and finally we need to ensure this division is SOX compliant by next year.
Based on our current projections and initial assumptions regarding these synergies, and excluding onetime transaction fees, we expect the acquisition to be modestly dilutive in calendar year 2012 and then slightly accretive to our earnings by the end of our fiscal year 2013, which is June 2013. We plan to share more with you about this new business at our March 14th annuals day.
Now, before I turn in the call back to Peter, Iâ€™ll discuss our outlook for the March quarter for our current business which excludes any impact from the pending acquisition of M5 including transaction fees. Based on our backlog entering the quarter our sales pipeline forecast in business book today we expect revenue for the second quarter to be in the range of $53 to $57 million. This guidance reflects a seasonal booking downturn in Q3 which we have experienced in the last few years. Some caution around the UC spending environment as others in our space have been mentioning and a slight downturn in our business expected from our service provider group.
We expect non-GAAP gross margins to be in the range of 65.5% to 66.5%. GAAP gross margins are expected to be approximately a 100 basis points lower due to inclusion of $400,000 in stock based compensation charges. We expect non-GAAP operating expense to be in the range of $38 million to $39 million, and we expect GAAP operating expenses to be in the range of $41 million to $42 million including approximately $3 million in stock-based compensation expenses.
The reason for our expected increase in operating expenses in the March 2012 quarter are the following: First, we will see an increase in our employee benefit cost due to the reset of payroll taxes that occur at the beginning of every calendar year. Second, labor and incentive compensation costs will increase due to the hiring of 22 employees in Q2 and a similar amount of hiring in Q3 which will mostly be in our North America sales through.
I do want to point out that we will incur a substantial amount of onetime fees upon closing the M5 transaction including bankerâ€™s fees, legal accounting valuation and tax cost. We will qualify these fees in the quarter we close, but on a preliminary basis expecting them to be in excess of $4 million.
The accounting for these transaction fees will be to expense them in the quarter the deal closes which will clearly call out on the P&Ls so you can adjust them as onetime charges. We plan to provide a lot more details around M5 and we expect to be able to give you a much better idea of timing on closing as well as how it will affect our financial model going forward at our Investor Day on Mach 14.
I look forward to seeing you at the home of the 2010 World Champion San Francisco Giants. With that let me turn it back to Peter for some closing remarks.
Thank you Mike. Quarter two was a good quarter for ShoreTel as we continue to execute on our strategy. Specifically we returned to profitability on a non-GAAP basis for the quarter and the fiscal year to-date we delivered both record revenues and a record number of new customers.
As you heard from Mike our quarter three guidance reflects a seasonal quarter three decline. However, we continue to expect robust quarter four revenues to close our fiscal year. While 20% annual revenue growth remains a reachable goal with a very strong quarter four, given our current outlook we believe it is prudent to signal that a more realistic growth percentage is moderately under 20%. At our March Analyst Day we shall do two things.
First, we shall provide details on the M5 business model which I think you will find very exciting, and second we shall also update you on our growth expectations going forward. As a management team we understand our current revenue growth projection is not what we have planned. We are committed to strong revenue growth with leverage and plan to make the appropriate changes to get back on track.
There is a clear correlation between our sales force growth and our revenue growth, and therefore we are committed to invest in sales and lead generation resources as a first priority this is other operating expenditures. The March investor event will give us a great opportunity to talk through this in more detail.
In closing I want to reiterate how excited we are about combining with M5. M5 allows us to quickly enter the fast growing but highly fragmented hosted UC market at the right time with a well respected and industry leading solution.
In summary, we shall continue our legacy of offering the best product with the highest customer satisfaction in both the on-premise and now the hosted area in UC market. In my view ShoreTel has never been better positioned. With that I shall turn the call back to the operator for the question-and-answer portion of the call. Operator?