Description
Filed with the SEC from June 28 to July 4:
Network Equipment Technologies (NWK)
Kopp Investment Advisors decreased its holdings to 2,843,136 shares (9.3%), after it sold 1,716,831 shares from April 30 through June 27 in a range of $0.96 to $1.32. Kopp also disclosed buying 51,750 shares from April 30 through June 7 in a range of $1.03 to $1.17.
BUSINESS OVERVIEW
Overview
Network Equipment Technologies, Inc. (NET), founded in 1983, develops and sells high performance networking equipment optimized for real-time communications. For more than a quarter of a century, NET has delivered solutions for multi-service networks requiring high degrees of versatility, security and performance. Today, the company is focused on providing secure real-time communications for unified communications (UC), session-initiation protocol (SIP) trunking, enterprise mobility, and IP-based multi-service networking. In 2007, in order to enhance our lineup of voice over IP (VoIP) offerings, we acquired Quintum Technologies and its Tenor product line.
Our enterprise customer base includes large enterprises adopting UC and small- to mid-sized businesses (SMBs) implementing real-time communications. Our government customers include a variety of federal and international agencies and organizations, including civilian and defense agencies and resellers to such entities. In addition to our direct sales capabilities, we have developed relationships with integrators, resellers, and vendors of related technologies in order to help drive our enterprise business. Our global support and service organization, along with third-party service organizations, provides installation and other professional services, a variety of maintenance programs, technical assistance, and customer training.
Today, our solutions are focused on enabling our enterprise and government customers to cost-effectively migrate to next-generation IP networks utilizing real-time communications, including unified communications platforms, cloud-based voice, secure voice applications, and high-speed multiservice wide area networking (WAN) transport networks. Our newest product offering, the UX Series, was purpose-built for the unified communications and enterprise session border controller (E-SBC) markets to enable adoption of new communication technologies and services. Our voice solutions include the VX Series and the Tenor product lines of switching media gateways. Our legacy multi-service solutions include the Promina platform and the NX Series high speed multi-service network exchange platform.
The UX Series is an enhanced gateway with an embedded server that acts as a survivable branch appliance (SBA), which is a key component for remote-site survivability. The UX Series interoperates with our VX Series and Tenor products and was specifically designed to support upstream deployments with advanced features that give customers high levels of flexibility, scalability, quality of experience, and investment protection through interoperability. The VX Series and Tenor product lines provide enterprise customers with voice interoperability solutions that enable existing private branch exchange (PBX) and IP-PBX systems to work together with new UC platforms and IP-based service provider networks offering SIP trunking services. The VX Series also provides IP-based solutions to government agencies requiring high bandwidth efficiency and call performance for secure voice communications. The Tenor product line also provides traditional VoIP switching gateway solutions for SMBs and smaller branch offices within large enterprises.
Our legacy multi-service solutions include the Promina, NX1000 and NX5010 platforms. The Promina product line has been serving government agencies and large enterprises for many years, providing industry-leading network reliability and security. The NX Series products are high-performance networking platforms that provide high-grade data transfer and enable secure grid computing. Our NX1000 platform provides an extensive, compact, wide-area network (WAN) switching solution that enables applications to integrate and aggregate into IP-based networks. The NX5010 platform enables high-speed, secure interconnection and extension of geographically distributed grid computing clusters and storage area networks (SANs).
Our consolidated financial information for the last three fiscal years is set forth under Item 8 – Financial Statements and Supplementary Data. We use consolidated financial information in determining how to allocate resources and assess performance. For this reason, we have determined that we are engaged in a single reportable segment.
Industry Background
Telecommunications networks have evolved rapidly over the past few decades. Initially, there was a shift away from public networks and application-specific networks to integrated private networks. Circuit-switching technologies, such as time-division multiplexing (TDM), were used to achieve cost savings while maintaining high reliability. Later, higher bandwidths were achieved using switched digital services such as Integrated Services Digital Network (ISDN) and frame relay. Today, the Internet protocol, which uses packet switching for broadband networking, is used for an increasing portion of telecommunications traffic.
There is still currently a small market for circuit-switched products, particularly for networks requiring the most secure and reliably deterministic communications. Due to inherent bandwidth limitations, however, use of circuit-switched networking has been declining for a number of years, while IP-based networking has grown dramatically.
With the advent of IP-based technologies, traditionally separate voice and data environments have converged. VoIP offers both cost savings and added functionality, and its use by consumers, enterprises, telecommunication service providers and others has grown significantly in recent years. Recent innovations also allow IP-based connections to include services not available on traditional voice-only networks, such as instant messaging (IM) and video conferencing. Encryption and other security enhancements can now mitigate the risks of using open packet-routed networks.
The adoption of new technologies has led to a proliferation of communications equipment and devices such as PBXs, mobile phones, and desktop-PC clients, along with a multitude of communications tools such as e-mail, voicemail, calendaring, as well as IM and conferencing, which are increasingly combined as unified communications. To address this complexity, a number of large information technology vendors including Microsoft, HP and IBM have developed strategies and platforms aimed at integrating these various forms of communication. Any solution must be able to access the hardware of existing telephony networks as well as new wired and wireless IP telephony services and devices. For unified communications to work effectively, the communication connectivity must be device-, application-, and network-independent. In addition, businesses typically require capabilities for remote office support and survivability, security, high call-processing performance, and the ability to handle special routing and administration needs.
Enterprises looking to further cut their communications costs may opt to implement UC in a hosted environment, in which case they will typically want to deploy a network demarcation device like an enterprise session border controller (E-SBC). An E-SBC can secure their enterprise communications when deploying hosted UC, can interwork with existing infrastructure, and can provide survivability options in case the connectivity to the service provider goes down. An enterprise deploying an E-SBC can also run various value added business applications on the single device.
Business Strategy
Our strategy is to provide customers with intelligent, multi-service network and VoIP platforms for the secure session mediation of voice, video, and data traffic that are designed to:
● enable unified communications;
● support intelligent connectivity of new and legacy communications equipment;
● support a broad array of communication protocols and new communications technologies, including SIP trunking and session border control;
● extend the viability of legacy communications systems and facilitate network evolution;
● reduce the risks associated with introducing new network technologies into customers’ operations.
The following are key elements of our strategy:
Align with partner-driven UC strategies . We are focused on expanding our network of global partners with the scale and expertise to address UC market opportunities. Microsoft, HP, Dell and other large hardware and software vendors are pursuing strategies and products for the UC market. As a technology enabler of their strategies, we have worked and will continue to work closely with these companies. Microsoft has been a customer of ours for several years. This relationship has helped us to align our product development and resources to support Microsoft’s unified communications strategy and, as a result, we believe we are positioned to partner with other Microsoft solution providers. Through alliances with well-respected systems integrators and resellers, we are establishing channels for our products into the enterprise and government markets.
Leverage our incumbent market position. We were a pioneer of the concept of multi-service networking and have been delivering these mission-critical capabilities for more than 25 years. The installed base and revenue contribution from our earlier product lines are declining, but these product lines continue to generate a significant portion of our revenue. We intend to leverage our installed customer base for future sales of our new platforms.
Design and develop industry leading communications equipment . We consider technological and product leadership to be critical to our future success. We have broad experience with mixed-service and multi-protocol networks, enabling us to develop solutions for a wide range of applications. We have extensively refined the features and technologies of our more mature products over their long product lifecycles. We strive to leverage this technological background to develop new products and additional functionality for existing products to meet our customers’ escalating requirements, specifically for VoIP conversion and secure voice applications. We believe that our newer products are helping accelerate the communications industry's rapid transition to software.
Leverage relationships with distribution partners and key technology providers. In addition to direct sales to large enterprise and government customers, we are expanding our relationships with resellers, distributors, and other vendors. We enter agreements with technology suppliers to supplement our internal development efforts and may enter agreements with original equipment manufacturers for penetration into specific markets. We also seek relationships with systems integrators, software solutions providers, and large incumbent vendors globally that can facilitate success in global enterprise networks, expansion of our sales channel, and participation in major government projects.
Provide value-added service and system integration capabilities . Since our inception, we have viewed customer service and support as a key element of our overall strategy and a critical component for our long-term relationship with customers. Customers around the world turn to us not only for the reliability and performance of our products but also for our comprehensive support services that optimize the value of those products.
Our Products
Voice and Mobility Products
Our voice and mobility platforms include our UX Series mediation platform, our VX Series switches, our Tenor gateways and our SmartSIP software.
UX Series - our new high performance mediation platform:
The UX Series of products are built on our next generation, high-performance mediation platform that was purpose built for unified communications, enterprise session border controller (E-SBC) for SIP Trunking and multi service business gateway markets. The UX2000 addresses needs of enterprise headquarters or large branch offices. With the introduction of our latest product in the series, the UX1000, we have expanded our offering to cater to the needs of smaller enterprise branch offices.
The UX2000 is a modular rack unit system that was purpose-built for unified communications, E-SBC, and multi-service business gateway applications. The UX2000 is equipped with up to six high performance DSPs and two telecom card slots with a choice of 2, 4, or 8 port DS1 cards, offering the industry’s best mediation processing for IP-to-TDM, IP-to-IP, or TDM-to-TDM solutions. An optional server-class application solutions module (ASM) with a high-performance Intel core i7 processor can also be added for third-party application support. The UX2000 core features a 24Gbps, non-blocking, IP-core backplane capable of routing more than 35 million packets per second.
The UX2000 is architected to meet the demands of any size branch office and can scale to up to 1,000 users. Its design flexibility provides unique capabilities for an invest-as-you-grow model and allows for future growth both in terms of the number of users supported as well as in the number of applications deployed. The modular architecture is designed to support scaling up of digital signal processing capacity and Time Division Multiplexing (TDM) interconnections providing deployment flexibility. Enterprises can now deploy a single device for all networking and communication needs and save both capital and operational expenses. In contrast to media gateways, which can have severely degraded call capacities during high complexity media processing operations, the UX2000 can support up to 600 simultaneous transcoded and encrypted calls. By supporting a variety of protocols, advanced security, and codec transcoding, the UX2000 enables a distributed enterprise to cost-effectively implement unified communications across the enterprise.
The UX2000 offers powerful quality of experience features, industry leading voice quality, intelligent call routing, call forking, and comprehensive PBX interoperability. As with the VX Series, directory-based call routing is built directly into the UX Series platform. The UX2000 is fully managed using a Web-based management interface with remote management capability, providing a solution for remote sites/branch offices that have minimal IT support. The UX2000 is qualified for Microsoft Lync Server 2010 as an Enhanced gateway and acts as a Survivable Branch Appliance – a key component of the Microsoft Lync Server topology. The UX2000 connects Microsoft Lync Server 2010 to SIP Trunking service providers as well as to legacy PBX and IP-PBX equipment. In the event WAN network failure occurs, the UX2000 provides survivability through the PSTN. The Survivable Branch Appliance application on the UX2000 ensures that local unified communication services are available so that the branch office continues to operate even when the IP network to the headquarters/datacenter is unavailable.
When deployed as an E-SBC, the UX2000 provides defense against malicious attacks in addition to providing transcoding, service assurance, data routing, WAN access, and survivability.
The UX1000 is built with the same modular design as the UX2000 and runs the same software as the UX2000. The UX1000 addresses the needs of small to medium enterprise branch offices. The UX1000 has an application solutions module (ASM) that is available in a choice of processor speeds. With its qualification as a Microsoft Lync SBAv2, the UX1000 is capable of virtualizing business applications to run side-by-side with the Lync SBA thus providing a cost-effective solution for even smaller branch offices. The UX1000 supports connecting analog devices like fax machines directly to UX1000, a feature that is often needed by smaller branch offices, and also supports interfaces like BRI (Basic Rate Interface) and FXO (Foreign eXchange Office Interface) which are common infrastructure requirements for enterprise branch office communication.
The UX1000 is also ideal as customer premise equipment for enterprises opting for a hosted UC solution. Its E-SBC function protects enterprise borders from security threats, its multi-service business gateway functions help reduce server count and consolidate network services, its flexible architecture allows interoperability with existing devices in enterprise networks and it has cost effective solutions to help enterprises deploy value added business applications without having to increase their server count.
In fiscal 2012, our UX Series products accounted for 18.7% of product revenue. In fiscal 2011, when UX series products were first offered for sale, these products accounted for less than 10% of product revenue.
The VX Series – our voice exchange platform:
The VX Series enables high-performance, secure VoIP communications. The VX Series is a fully-integrated multi-service voice switch, which can be deployed to integrate unified communications, SIP Trunking services, VoIP and VoIP-based systems into legacy voice network infrastructures. With its remote survivability features, the VX Series provides continuous, local call service and intelligent trunk routing in the event of network connectivity failures. It can also be integrated into existing mission critical networks as well as deployed as the primary solution in greenfield applications.
The VX Series product line consists of the VX1800, VX1200, VX900, VX900T, and the VX400. The VX platform supports from 1 to 32 T1 or E1 ports, and 6 Ethernet ports (2 Gig-Ethernet ports on VX1800), making it a compelling solution for enterprises, government entities and service providers looking to deploy IP-based voice networks. The VX Series combines the functionality of a Session Border Controller (SBC), media gateway, call control component, SS7/C7 signaling point, and H.323/SIP inter-working device in a single compact chassis. The VX Series supports a wide range of voice and call routing features. All of these are backed by key components that ensure the platform and the calls moving across it are secure. Conformance to the latest VoIP signaling and call control standards, such as SIP and H.323, guarantees interoperability within multivendor VoIP deployments. The VX Series provides scalable, high-performance IPSEC, SRTP and TLS encryption for VoIP communications.
To address the needs of the U.S. federal government, the VX Series provides a VoIP-based secure voice solution with high bandwidth efficiency and call performance. A high bandwidth utilization rate is particularly important in expensive, limited bandwidth situations such as satellite links. The VX Series also enables the use of secure calls on IP networks and end-to-end tactical-to-fixed site connectivity. Key features that enable high-quality secure voice calls include data compression, forward error correction, echo cancellation and jitter correction – all critical factors when operating in tactical, high-latency or unpredictable network environments. For tactical deployment, the VX Series is available in form factors small enough to fit into a backpack.
The VX Series (VX900, VX1200 and VX1800) is a JITC-certified Deployed Network Element (D-NE) and provides advanced MLPP, SCIP relay, and security features that are in line with the new AS-SIP UCR definition. Additionally, the VX Series offers a robust implementation of V.150 Universal Modem Relay that communicates between newly deployed secure IP phones and secure analog communications devices. The VX Series has been proven by use in DoD, NATO, and first responder deployments. The VX Series product line has been selected by the federal government to enable next-generation voice features and to continue to capitalize on existing voice assets while assuring the strict security and reliability standards required in DoD voice systems.
The VX Series switches have been qualified under the Microsoft Unified Communications Open Interoperability Program for Microsoft Exchange Unified Messaging, Microsoft Office Communications Server 2007, and Microsoft Office Communications Server 2007 Release 2, and Microsoft Lync Server 2010. The VX Series is also interoperable with Broadsoft Broadworks R16.SP1, which enables service providers to offer scalable SBC and media gateway solutions for enterprises seeking carrier hosted VoIP cloud services.
The VXe software release offers enhanced value to enterprise voice customers by reducing the network infrastructure footprint and lowering the operational and capital costs for UC deployments. This solution is suited to large enterprises with multi-site locations such as banks, retail stores, and professional services firms that typically have multi-site requirements.
In fiscal 2012, 2011, and 2010, our VX Series and predecessor products accounted for 23.2%, 35.3% and 22.3% of product revenue, respectively.
Tenor product line – our multipath VoIP gateways:
The Tenor product line provides basic gateway support for Microsoft's unified communications (UC) platforms. The Tenor gateways have been qualified under the Microsoft Unified Communications Open Interoperability Program for Microsoft Exchange Unified Messaging, Microsoft Office Communications Server 2007 and Microsoft Office Communications Server 2007 Release 2. In addition, for Microsoft Lync deployments, the Tenor AF and AX Series products are used as Lync analog station gateways to provide Lync connectivity to analog endpoints. Tenor products also support applications of other major VoIP system and services vendors.
Tenor products support general business VoIP applications where there is no need for premium VX Series product features such as high speed signaling and media security, programmable call processing, integrated SBC functions, or Microsoft Active Directory-based integration. Like the VX Series, Tenor products support any-to-any multipath switching, provide branch office survivability, and are designed to simplify deploying VoIP applications into existing legacy voice networks. The Tenor product line also has a broad set of interfaces and configurations that allow them to be integrated into nearly any type of existing voice network, supporting as few as two analog ports and as many as 32 T1/E1 trunks or 960 VoIP calls.
The Tenor AF and AX Series VoIP gateways offer enterprises using analog ports an easy, cost-effective way to capitalize on the power of VoIP. These highly adaptable solutions work with traditional PBXs, legacy analog equipment, IP PBXs and IP phones, and SIP-based communications environments. For enterprises using ISDN lines, the Tenor BX integrates VoIP gateway functionality with intelligent call routing, multipath architecture, and QoS support. Enterprises can benefit from a variety of valuable applications such as PBX extension, remote office connectivity, long distance consolidation and call centers. With the Tenor DX VoIP gateways, enterprises and service providers can also deploy numerous VoIP applications such as SIP trunking, wholesale VoIP termination, calling cards, tandem switching and least cost routing.
In fiscal 2012, 2011, and 2010, Tenor products accounted for 24.4%, 18.6% and 16.6% of product revenue, respectively.
SmartSIP software – SIP for Lync and OCS:
Our SmartSIP application supports the new direction of collaboration in the workplace where real-time, integrated communications are driving increased productivity throughout the enterprise. SmartSIP allows wireless, DECT, and standard SIP phones to be provisioned and used as extensions in a Microsoft Lync Server 2010 deployment. The SmartSIP application is built using Microsoft Unified Communications Managed API (UCMA) to address the interoperability of Wireless, DECT and legacy SIP endpoints with Microsoft unified communications. SmartSIP reduces operating expenses by automatically provisioning the endpoints.
Multi-service Networking Products
Our multi-service networking platforms include Promina and the NX Series network exchange platforms.
Promina – our established multi-service access platform:
Our Promina family of multi-service access products integrates voice, data, image and video traffic across a single network infrastructure. The Promina platform, tailored to circuit-switched networks, provides mission-critical support for a wide variety of communications applications and traffic types, including ATM, frame relay, IP, and ISDN signaling. Promina products offer a broad range of user-side interfaces, enabling standards-based connection of communications equipment, whether located at a service provider’s switching facility or at an enterprise or government customer’s premises.
The Promina platform features advanced network management services, which provide a high degree of visibility into network operations. For fault tolerance and high network reliability, our Promina products can be configured with redundant power, common logic, and trunk interfaces. These products incorporate distributed network intelligence that allows the network to quickly and automatically reroute traffic in the event of failure of a component.
The Promina product family includes a range of systems for various node sizes, with various processor, application, and interface modules. Our Promina networks are monitored and controlled by netMS, an integrated network management solution. We also offer an IP trunk interface for Promina, enabling direct IP connections to the Promina platform.
MANAGEMENT DISCUSSION FROM LATEST 10K
This discussion and analysis should be read in conjunction with the consolidated financial statements and the accompanying notes included in this Form 10-K. Statements contained in this discussion that are not historical facts are forward-looking statements within the meaning of the federal securities laws that relate to future events or our future financial performance. A forward-looking statement may contain words such as “plans,” “hopes,” “believes,” “estimates,” “will,” “continue to,” “expect to,” “anticipate that,” “to be,” or “can affect.” Forward-looking statements are based upon management expectations, forecasts and assumptions that involve risks and uncertainties that may cause actual results to differ materially from those expressed or implied in the forward-looking statements. Many factors may cause actual results to vary including, but not limited to, the factors identified in this discussion. The Company expressly disclaims any obligation or undertaking to revise or publicly release any updates or revisions to any forward-looking statement contained in this discussion except as required by law. Investors should carefully review the risk factors described in this document along with other documents the Company files from time to time with the Securities and Exchange Commission (SEC).
Critical Accounting Policy Judgments and Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires that we make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Such estimates and assumptions, which we evaluate on an on-going basis, include, but are not limited to: assumptions related to contracts that have multiple elements, the allowances for sales returns and potentially uncollectible accounts receivable, the valuation of inventory, warranty costs, the valuation allowance on deferred tax assets, certain reserves and accruals, and assumptions related to stock-based compensation. We base our estimates on historical experience and other assumptions that we believe are reasonable under the circumstances. Actual results could differ from those estimates.
Management has discussed the development and selection of these critical accounting estimates with the Audit Committee of our Board of Directors and the Audit Committee has reviewed the foregoing disclosure. Changes in estimates used in these and other items could have a material effect on our financial statements.
We believe the following critical accounting policies affect the more significant judgments and estimates used in the preparation of our financial statements:
Revenue Recognition: The Company derives revenue primarily from the sales of hardware, software, services, post-contract support (PCS), and professional services. PCS typically includes unspecified software updates and upgrades on an if-and-when available basis and telephone and internet access to technical support personnel.
In October 2009, the Financial Accounting Standards Board (FASB) amended the accounting standards for revenue recognition to remove tangible products containing software components and non-software components that function together to deliver the product’s essential functionality from the scope of industry specific software revenue recognition guidance. In October 2009, the FASB also amended the standards for multiple deliverable revenue arrangements to:
(i)provide updated guidance on whether multiple deliverables exist, how the deliverables in an arrangement should be separated, and how the arrangement consideration should be allocated among its elements;
(ii)require an entity to allocate the revenue using estimated selling prices (ESP) of the deliverables if there is no vendor specific objective evidence (VSOE) or third party evidence of selling price (TPE); and
(iii)eliminate the use of the residual method and require an entity to allocate revenue using the relative selling price method.
This new accounting guidance became applicable to the Company beginning the first quarter of its fiscal 2012. The Company adopted this guidance for transactions that were entered into or materially modified on or after March 26, 2011 using the prospective basis of adoption.
Product revenue is recognized when the Company has a contract with its customer, the product has been shipped as required by the contract and risk of loss has passed to its customer, the price is fixed or determinable, and the collectability of the related receivable is probable. If the customer has a right of acceptance and the Company has not yet obtained acceptance, revenue is deferred until the terms of acceptance are satisfied. When product revenue is deferred, the Company also defers the associated cost of goods until the revenue is recognized. The Company recognizes service revenue upon completion of the service or, for ongoing services such as PCS, ratably over the period of the contract.
Revenue on sales through resellers is recognized upon transfer of title to the reseller. Many of the sales to the Company’s resellers are based upon firm commitments from their end customer; as a result, these resellers carry little or no inventory of NET products. For the Company’s Promina, VX, NX and UX products, NET’s customers generally do not have the right to return the equipment. For the Company’s Tenor product line, NET customers are subject to agreements allowing for limited rights of return and price protection. Accordingly, revenues are reduced for the Company’s estimates of liability related to these rights. The estimate for returns is recorded at the time the related sale is recognized and is adjusted periodically based on historical rates of returns and other related factors. The reserves for price protection are recorded at the time these programs are offered. Price protection is estimated based on specific programs, expected usage and historical experience.
The new revenue recognition guidance does not generally change the units of accounting for the Company’s revenue transactions. All of the products and services continue to qualify as separate units of accounting. The Company analyzes all of its products, software and services and considers the features and functionalities of the individual elements and the stand-alone sales of those individual components among other factors, to determine which elements are essential or non-essential to the overall functionality of the networking equipment. The Company’s core software (herein after referred to as ‘essential software’) is integrated with hardware and is essential to the functionality of the networking equipment. The Company’s sale of additional software provides increased features and functions, but is not essential to the overall functionality of the networking equipment (herein after referred to as ‘non-essential software’).
For transactions entered into prior to the first quarter of fiscal 2012, the Company recognized revenue based on the Financial Accounting Standards Board (FASB) Accounting Standards Codification (ASC) Topic 985-605 (formerly referred to as Statement of Position No. 97-2, Software Revenue Recognition ). In accordance with ASC 985-605, the Company utilized the residual method to determine the amount of product revenue to be recognized. Under the residual method, the fair value of the undelivered elements, such as PCS, is deferred and the remaining portion of the arrangement consideration is recognized as product revenue. VSOE of fair value is limited to the price charged when the same element is sold separately. VSOE of fair value is established for PCS and professional services based on the volume and pricing of the stand-alone sales within a narrow range. The fair value of the post-contractual support is recognized on a straight-line basis over the term of the related support period, which is typically one month to three years.
For transactions entered into or materially modified on or after the beginning of the first quarter of fiscal 2012, the total arrangement fees were allocated to all the deliverables based on their respective relative selling prices. The relative selling price is determined using VSOE when available. When VSOE cannot be established, the Company attempts to determine the TPE for the deliverables. TPE is determined based on competitor prices for similar deliverables when sold separately by the competitors. Generally the Company’s product offerings differ from those of its competitors and comparable pricing of its competitors is often not available. Therefore, the Company is typically not able to determine TPE. When the Company is unable to establish selling price using VSOE or TPE, the Company uses ESP in its allocation of arrangement fees. The ESP for a deliverable is determined as the price at which the Company would transact if the products or services were sold on a stand-alone basis.
The Company has been able to establish VSOE for its PCS and professional services based on the volume and the pricing of the stand-alone sales for these services within a narrow range.
The Company has determined the ESP of its products and services for which VSOE has not been established based on an analysis of (i) the list price, which represents a component of the Company’s current go-to market strategy, as established by senior management taking into consideration factors such as geography and the competitive and economic environment and (ii) an analysis of the historical pricing with respect to both the Company’s bundled and stand-alone sales of each product or service.
The Company’s multiple element arrangements may include non-essential software deliverables that are subject to the industry specific software revenue recognition guidance. The revenue for these multiple element arrangements is allocated to the non-essential software deliverables and the non-software deliverables based on the relative selling prices of all of the deliverables in the arrangement using the hierarchy in the new revenue accounting guidance. As the Company has not been able to obtain VSOE for all of the non-essential software deliverables in the arrangement, revenue allocated to such non-essential software elements is recognized using the residual method in accordance with industry specific software revenue recognition guidance as the Company was able to obtain VSOE for the undelivered elements bundled with such non-essential software elements. Under the residual method, the amount of revenue recognized for the delivered non-essential software elements equaled the total allocated consideration less the VSOE of any undelivered elements bundled with such non-essential software elements.
The change from the residual to the relative selling price method did not have a material impact on the allocation of revenue to the arrangement deliverables, nor did the Company change its assessment of the deliverables contained within its revenue arrangements. The adoption of the new revenue accounting guidance was not material to the Company’s financial results for the year ended March 30, 2012.
Allowance for Sales Returns: A reserve for sales returns is established primarily for our reseller and distributor customers, based on actual historical product returns. If the actual future returns differ from historical levels, our revenue could be adversely affected.
Allowance for Doubtful Accounts: The allowance for doubtful accounts receivable is based on our assessment of the collectability of specific customer accounts and the aging of accounts receivable. If there is a deterioration of a major customer’s credit worthiness or actual defaults are higher than our historical experience, we may have to increase our allowance for doubtful accounts receivable, and our operating expenses could be adversely affected. Credit losses have historically been within our expectations and the allowances for doubtful accounts receivable that were established.
Inventory and Contract Manufacturer Liabilities: Under an agreement with our primary contract manufacturer, Plexus Corp. (Plexus), we maintain a level of control over parts procurement, design, documentation, and selection of approved suppliers. We are generally liable for any termination or cancellation of product orders, as well as excess and obsolete material, which can result, for example, from an engineering change, product obsolescence, or inaccurate component forecasting. Under the agreement, Plexus is to procure raw materials and begin manufacturing of products in accordance with our forecasts. If certain purchased raw materials or certain work-in-process items are held for greater than 90 days, we must make deposits on the aging inventory, although Plexus must make efforts to minimize our liability for the aging inventory, including returning materials to suppliers, canceling orders with suppliers, or using materials to manufacture product for its other customers. If raw material or in-process inventories are still unused and have been held for more than nine months, we must take ownership and pay for the aged inventory. Alternatively, if there is forecasted demand for such inventory, we must pay a management fee for Plexus to retain such inventory. If the forecasted demand does not materialize we must take ownership and pay for such inventory. This activity may increase our owned inventories. The term of our agreement with Plexus currently runs to December 31, 2012, with automatic renewal for additional one-year terms unless either party gives notice of intent not to renew, and subject to either party’s right to terminate upon six month’s notice.
At March 30, 2012, our deposit on inventory held by Plexus was $ 2.3 million, of which $1.3 million had been charged to a reserve for excess inventory. The deposit, including the related reserve, is included in prepaid expenses and other assets in the consolidated balance sheets.
We value inventory at the lower of cost (first-in, first-out) or market. If we believe that demand no longer allows us to sell our inventory above cost, or at all, we establish reserves to write down inventory to market value or write off excess or obsolete inventory. To the extent that a severe decline in forecasted demand occurs, or we experience a higher incidence of inventory obsolescence due to rapidly changing technology and customer requirements, we may incur significant charges for excess inventory. We use estimates to allocate manufacturing overhead to inventory which is expensed when the inventory is sold to the end customer.
Long-lived assets: Depreciable assets are assigned estimated lives ranging from three to ten years. We review long-lived assets, including intangible assets with finite lives, property and equipment, and other assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Conditions that would necessitate an impairment assessment might include a significant decline in the market price of an asset or asset group, a significant adverse change in the extent or manner in which an asset or asset group is being used, the loss of legal ownership or title to the asset, significant negative industry or economic trends or the presence of other factors that would indicate that the carrying amount of an asset or asset group is not recoverable. We consider a long-lived asset to be impaired if the estimated undiscounted future cash flows resulting from the use of the asset and its eventual disposition are not sufficient to recover the carrying value of the asset. If we deem an asset to be impaired, the amount of the impairment loss represents the excess of the asset’s carrying value compared to its estimated fair value.
Warranty Accruals: We warrant hardware product, generally for twelve months, and software, generally for 90 days. The software warranty entitles the customer to bug fixes but not software upgrades during the warranty period. Our methodology is to accrue warranty expense based on historical expense trends calculated as a percentage of product sales. Actual expenses are charged against the accrual in the period they are incurred. On a quarterly basis, the warranty accrual is analyzed for adequacy based on actual trends and subsequent adjustments are made as necessary.
Stock-based Compensation: We recognize stock-based compensation expense for all share-based payment awards including employee stock options and restricted stock awards. We value stock-based compensation expense for expected-to-vest stock-based awards under the single-option approach and we amortize stock-based compensation expense on a straight-line basis, net of estimated forfeitures. We recognize the value of the portion of the award that is ultimately expected to vest over the requisite service periods in our consolidated statements of operations.
We estimate the fair value of stock options granted using the Black-Scholes option-pricing formula and a single option award approach. The fair value is amortized on a straight-line basis over the requisite service periods of the awards, which is generally the vesting period. Our computation of expected volatility is based on historical volatility commensurate with the expected term of the options. The risk-free interest rate used in the Black-Scholes option-pricing formula is based on the implied yield currently available on U.S. Treasury securities with an equivalent remaining term commensurate with the expected term of the options. The expected dividend assumption is based on our current expectation that we will not pay out cash dividends in the foreseeable future. We estimated the expected term of options granted in fiscal 2012, 2011 and 20010 using vesting periods of awards and historical data such as past experience and post-vesting cancellations. We believe these calculations provide reasonable estimates of expected life for stock–based awards to employees.
Deferred Taxes: We determine our income taxes in each of the jurisdictions in which we operate which involves estimating our actual current tax expense together with assessing temporary differences resulting from recognition of items for income tax and accounting purposes. These differences result in deferred tax assets and liabilities. We must then assess the likelihood that our deferred tax assets will be recovered from taxable income during the carryback period or in the future, and to the extent we believe that recovery is not likely, we must establish a valuation allowance. Our most significant deferred tax assets are net operating losses, for which we provide a valuation allowance based on our estimation of the likelihood of recovery. FASB ASC Topic 740, Income Taxes, provides for the recognition of deferred tax assets if realization of such assets is more likely than not to occur. Based upon the weight of available evidence, which included the Company’s historical operating performance and reported cumulative net losses, we provided a full valuation allowance against our U.S. and most of our foreign net deferred tax assets. There is no valuation allowance against our UK deferred tax assets. We reassess the need for our valuation allowance on a quarterly basis.
Tax years from 1998 in the U.S. and 2006 in our primary foreign jurisdictions remain open for examination. Although the timing of resolution and closure of audits is highly uncertain, we do not believe it is reasonably possible that the unrecognized tax benefits would materially change in the next twelve months.
Fiscal 2012 compared to fiscal 2011
Total operating expenses were down slightly in fiscal 2012 primarily due to reduced facilities costs following renewal of our headquarters facility lease at more favorable rates, partially offset by additional costs due to an extended duration of the fiscal year by the addition of an extra week in the second fiscal quarter to normalize the fiscal year end date.
Sales and marketing expense was lower due to reductions of $804,000 in payroll-related costs (other than sales commissions), $277,000 in allocated facilities costs, and $174,000 in consulting costs following conversions of certain consultants to employees (though with an offsetting increase in payroll-related costs). These cost savings were partially offset by an increase of $339,000 in sales commissions, as a result of realization of certain individual sales targets, and by an increase of $82,000 in administrative costs, consisting principally of audit and payroll processing fees relating to foreign sales offices.
Research and development expense was lower due to reductions of $513,000 in allocated facilities costs, $134,000 in depreciation expense as many capital assets came to the end of their depreciation lives over the past two years and $57,000 in employment-related costs. These cost decreases were partially offset by increases of $320,000 and $81,000, respectively in consulting costs and engineering related expenses, principally for development activities related to the UX1000 product, released late in the fiscal year.
General and administrative expense was lower as a result of $1.4 million of additional legal fees incurred in fiscal 2011 but not fiscal 2012 for an internal investigation of export-related activities, and also as a result of reductions of $454,000 in compensation-related costs and $226,000 in allocated facilities costs. These cost decreases were partially offset by increases of $654,000 in consulting costs and $491,000 in outside services fees, principally due to changes in the timing of recognition for costs related to audit and tax services.
Restructure and other costs of $1.4 million and $281,000 for fiscal 2012 and fiscal 2011, respectively, related to net charges for employee separation costs related to corporate restructuring activities.
Fiscal 2011 compared to fiscal 2010
Total operating expenses were slightly lower in fiscal 2011 due principally to the effect of cost control measures and reduced facilities costs following the renewal, in the second quarter of fiscal 2011, of our headquarters facility lease at favorable rates. These cost savings were partially offset by legal costs incurred for an internal investigation regarding compliance with U.S. export laws.
Sales and marketing expense was down slightly in fiscal 2011 due to reduced employee compensation costs, which were down $569,000. A principal reason for the difference is that in fiscal 2010 we incurred employee separation costs of $714,000 in connection with the retirement of our former federal sales executive, and had no similar charges in fiscal 2011. Also, sales commissions were lower by $220,000 due to reduced bookings, and costs for consultants and temporary employees were $93,000 lower. Also contributing to the reduction in compensation costs, some technical sales support staff were moved to our service organization following termination of the CACI arrangement.
Offsetting these decreases, stock compensation expense, direct payroll costs and miscellaneous other payroll costs increased by $443,000 principally due to higher average headcount. Other operating costs for sales and marketing also increased by a total of $504,000. Costs for marketing materials and travel and entertainment were higher by a total of $311,000, reflecting product launch and deployment activities for our UX Series product. Costs for products deployed for sales and marketing purposes, such as those provided for use in Microsoft Training Centers, were higher by $167,000. Miscellaneous other costs were higher by $195,000. These cost increases were partially offset by reduced allocations of facilities costs, which were lower by $169,000.
Research and development expense in fiscal 2011 was approximately equal to 2010 expense, although with significant increases and decreases in specific costs. Employee compensation for research and development was higher by $1.3 million, largely due to UX Series development programs, including additional costs for consultants and temporary employees of $785,000. Also, stock compensation expense increased by $429,000 due to the issuance of stock awards tied to new product milestones, and direct payroll costs increased by $65,000, largely due to higher average headcount. These increases were offset by reduced expenditures in the following areas: engineering-related expenses were lower by $566,000, principally because fiscal 2010 results included substantial costs for prototype and expensed material used in development activities; depreciation expense was lower by $266,000, as many of the Company’s capital assets came to the end of their depreciation lives over the past two years; allocations of facilities costs were lower by $507,000; and miscellaneous other costs were higher by $43,000.
General and administrative expense was lower in fiscal 2011. The largest single reason for the difference is that in fiscal 2010 we incurred one-time employee separation costs of $878,000 in connection with the departure of our former Chief Financial Officer and there were no similar charges in fiscal 2011. Other reasons for the decline were: outside consulting costs were lower by $530,000 due principally to lower professional service fees; other payroll-related costs, including stock-based compensation, were lower by $229,000; allocations of facilities costs were lower by $254,000; and miscellaneous other costs that included bad debt, bank fees, and accretion charges for our vacated facility, were lower by $170,000.These decreases were offset by higher legal fees, which increased by $752,000 due principally to costs for an internal investigation of our export-related activities, which was performed by outside counsel.
MANAGEMENT DISCUSSION FOR LATEST QUARTER
Our Business
Network Equipment Technologies, Inc. (“NET”), founded in 1983, develops and sells high performance networking equipment optimized for real-time communications. For more than a quarter of a century, NET has delivered solutions for multi-service networks requiring high degrees of versatility, security and performance. Today, the company is focused on providing secure real-time communications for unified communications (“UC”), session-initiation protocol (“SIP”) trunking, enterprise mobility, and IP-based multi-service networking. In 2007, in order to enhance our lineup of voice over IP (“VoIP”) offerings, we acquired Quintum Technologies and its Tenor product line.
Our enterprise customer base includes large enterprises adopting UC and small- to mid-sized businesses (“SMBs”) implementing real-time communications. Our government customers include a variety of federal and international agencies and organizations, including civilian and defense agencies and resellers to such entities. In addition to our direct sales capabilities, we have developed relationships with integrators, resellers, and vendors of related technologies in order to help drive our enterprise business. Our global support and service organization, along with third-party service organizations, provides installation and other professional services, a variety of maintenance programs, technical assistance, and customer training.
Today, our solutions are focused on enabling our enterprise and government customers to cost-effectively migrate to next-generation IP networks utilizing real-time communications, including unified communications platforms, cloud-based voice, secure voice applications, and high-speed multiservice wide area networking (“WAN”) transport networks. Our newest product offering, the UX Series, was purpose-built for the unified communications and enterprise “session border controller” markets to enable adoption of new communication technologies and services. Although sales of the UX Series product line to date still comprise but a small amount of our overall sales, we continue to expand the suite of UX Series products. Our voice solutions include the VX Series and the Tenor lines of switching media gateways. Our legacy multi-service solutions include the Promina platform and the NX Series high speed multi-service network exchange platform.
The UX Series is an enhanced gateway with an embedded server that acts a survivable branch appliance, which is a key component for remote-site survivability. The UX Series interoperates with our VX Series and Tenor products and was specifically designed to support upstream deployments with advanced features that give customers high levels of flexibility, scalability, quality of experience, and investment protection through interoperability. The VX Series and Tenor product lines provide enterprise customers with voice interoperability solutions that enable existing private branch exchange (“PBX”) and IP-PBX systems to work together with new UC platforms and IP-based service provider networks offering SIP trunking services. The VX Series also provides IP-based solutions to government agencies requiring high bandwidth efficiency and call performance for secure voice communications. The Tenor product line also provides traditional VoIP switching gateway solutions for SMBs and smaller branch offices within large enterprises.
Our legacy multi-service solutions include the Promina, NX1000 and NX5010 platforms. The Promina product line has been serving government agencies and large enterprises for many years, providing industry-leading network reliability and security. The NX Series products are high-performance networking platforms that provide high-grade data transfer and enable secure grid computing. Our NX1000 platform provides an extensive, compact, WAN switching solution that enables applications to integrate and aggregate into IP-based networks. The NX5010 platform enables high-speed, secure interconnection and extension of geographically distributed grid computing clusters and storage area networks.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires that we make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Such estimates and assumptions, which we evaluate on an on-going basis, include, but are not limited to: assumptions related to contracts that have multiple elements, the allowances for sales returns and potentially uncollectible accounts receivable, the valuation of inventory, warranty costs, the valuation allowance on deferred tax assets, certain reserves and accruals, estimated lives of depreciable assets, and assumptions related to stock-based compensation. We base our estimates on historical experience and other assumptions that we believe are reasonable under the circumstances. Actual results could differ from those estimates.
The third quarter of fiscal 2012 compared to the third quarter of fiscal 2011
Sales and marketing expense:
Sales and marketing expense decreased by $584,000. Payroll-related costs were lower by $555,000, due to lower stock compensation expense, lower sales commissions, and the effect of the re-assignment of some technical sales support staff to our service organization in December 2010. Allocated facilities costs were lower by $80,000. These cost decreases were partially offset by other marketing costs, which were higher by $50,000 due to costs relating to deployments, in the third quarter of fiscal 2012, of UX1000 field trial products for sales and marketing purposes.
Research and development expense:
Research and development expense decreased by $164,000. Payroll related costs were approximately equal to those incurred in the third quarter of fiscal 2011 as the effect of increased research and development headcount was largely offset by lower stock compensation expense. Other research and development costs were lower by $92,000, principally due to costs related to UX1000 development activities incurred in the third quarter of fiscal 2011 but not in fiscal 2012. Allocated facilities costs were lower by $60,000.
General and administrative expense:
General and administrative expense was higher by $66,000. Consulting costs increased by $161,000 and outside services fees, principally for audit and tax services increased by $225,000. These cost increases were partially offset by payroll related costs, which were lower by $116,000 due primarily to lower stock compensation expense. Legal costs were lower by $170,000 as costs were incurred in fiscal 2011 but not fiscal 2012 for an internal investigation of export-related activities. Allocated facilities costs were lower by $38,000.
The nine months ended December 30, 2011 compared to the nine months ended December 24, 2010
Sales and marketing expense:
Sales and marketing expense was lower by $668,000. Payroll-related costs were lower by $654,000 due to lower stock compensation expense and the effect of the re-assignment of some technical sales support staff to our service organization in December 2010. Allocated facilities costs were lower by $253,000. Consulting costs were lower by $124,000 due to the effect of conversions of certain consultants to employees. These cost increases were partially offset by higher sales commissions, which were up by $212,000. Costs relating to consignment reserves increased by $75,000 and administrative costs relating to foreign sales offices increased by $65,000.
Research and development expense:
Research and development expense was higher by $139,000. Payroll costs were higher by $699,000 due to increased headcount and the extra week in the second quarter of fiscal 2012. Consulting costs increased by $507,000 due to UX1000 development activities. Recruiting and relocation costs were higher by $77,000 due to recruiting costs for new hires. Engineering related expenses, which consisted principally of UX1000 development activities, were $84,000 higher. These cost increases were partially offset by lower stock compensation expense, which decreased by $688,000. Allocated facilities costs decreased by $424,000. Depreciation expense decreased by $107,000 as many capital assets came to the end of their depreciation lives over the past two years.
General and administrative expense:
General and administrative expense was lower by $724,000. Legal costs were lower by $1.3 million as costs were incurred in fiscal 2011 but not fiscal 2012 for an internal investigation of export-related activities. Stock compensation expense was lower by $440,000. Allocated facilities costs were lower by $174,000. These cost decreases were partially offset by a $623,000 increase in consulting costs and an increase of $523,000 in outside services fees, principally due to changes in the timing of recognition for costs related to audit and tax services. Payroll-related costs were higher by $140,000 due to the effect of the extra week in the second quarter of fiscal 2012.
Liquidity and Capital Resources
Historically, our primary sources of liquidity and capital resources have been our cash and investment balances, cash provided by operating activities and debt financing activities.
Cash balances: As of December 30, 2011, cash and cash equivalents, short-term investments and restricted cash were $36.9 million, as compared to $61.4 million as of March 25, 2011. At December 30, 2011, these amounts were invested 42% in U.S. Treasury notes and government agency investments and cash equivalents.
Cash flow from operating activities:
Net cash used by operating activities was $23.2 million in the first nine months of fiscal 2012 compared to $11.4 million in the comparable prior year period.
The increase in net cash used in operating activities resulted principally from changes in asset and liability balances, the greater net loss in fiscal 2012, and, to a lesser extent, by changes in non-cash activities.
Changes in asset and liability balances contributed $4.6 million to the increase in cash used in operating activities. This was principally due to accounts receivable balances, which declined in the first nine months of fiscal 2011 but increased in the first nine months of fiscal 2012. The effect of the greater net loss in fiscal 2012 contributed an additional $4.9 million. Changes in non-cash activities, principally stock compensation expense, contributed another $2.4 million. Stock compensation expense was lower in fiscal 2012 primarily because, at the end of fiscal 2011, the Company ended its program of granting restricted stock to offset salary reductions.
Cash flow from investing activities:
Net cash provided by investing activities was $25.2 million in the first nine months of fiscal 2012 compared to $12.6 million in the comparable prior year period. The principal reason for this change was the net effect upon cash of purchases, sales and maturities of short-term investments. These activities provided net cash of $25.6 million and $15.5 million in fiscal 2012 and 2011, respectively.
We used the cash provided by investing activities in fiscal 2012 principally to fund operating activities.
Cash flow from financing activities:
Net cash used in financing activities was $353,000 in fiscal 2012 compared to $621,000 in fiscal 2011.
The principal financing activity in both fiscal 2012 and fiscal 2011 was repurchases of common stock from employees to satisfy withholding-tax obligations.
In the normal course of business, we enter into contractual commitments to purchase services, materials, components, and finished goods from suppliers, mainly our primary contract manufacturer, Plexus. Under our agreement with Plexus, we maintain a level of control over parts procurement, design, documentation, and selection of approved suppliers. We are generally liable for any termination or cancellation of product orders, as well as excess and obsolete material, which can result, for example, from an engineering change, product obsolescence, or inaccurate component forecasting. Under the agreement, Plexus is to procure raw materials and begin manufacturing of products in accordance with our forecasts. If certain purchased raw materials or certain work-in-process items are held for greater than 90 days, we must make deposits on the aging inventory, although Plexus must make efforts to minimize our liability for the aging inventory, including returning materials to suppliers, canceling orders with suppliers, or using materials to manufacture product for its other customers. If raw material or in-process inventories are still unused and have been held for more than nine months, we must take ownership and pay for the aged inventory. Alternatively, if there is forecasted demand for such inventory, we must pay a management fee for Plexus to retain such inventory. If the forecasted demand does not materialize we must take ownership and pay for such inventory. This activity may increase our owned inventories. The term of our agreement with Plexus currently runs to December 31, 2012, with automatic renewal for additional one-year terms unless either party gives notice of intent not to renew, and subject to either party’s right to terminate upon six month’s notice.
At December 30, 2011, Plexus held inventory related to our products. Our deposit relating to this inventory was $2.7 million and reserves relating to this deposit were $1.2 million. Both the deposit and the related reserves are included in prepaid expenses and other assets on the condensed consolidated balance sheets. Additional deposits may be required under the terms of the agreement.
Other contingencies : In 2010, we learned that some of our products may have been exported or re-exported in violation of U.S. export laws. Consequently, we performed an internal investigation of our export-related activities, which was conducted by outside counsel. Early in fiscal 2011, we reported a limited portion of the matter, regarding export of encryption items that may have required an export license prior to shipment, to the U.S. Department of Commerce, Bureau of Industry & Security (“BIS”). That portion has been closed with the issuance of a warning letter and no penalty. In September 2011, we reported the results of the rest of the internal investigation to BIS and to the U.S. Department of the Treasury, Office of Foreign Assets Control (“OFAC”). The disclosure relates to (i) a number of Tenor gateways that were sold to foreign distributors or resellers in non-sanctioned countries and subsequently came within the possession of persons located in sanctioned countries, (ii) related technical support, and (iii) certain e-mail referrals. These transactions all relate to the Quintum Tenor product line and largely relate to activity that occurred prior to NET’s December 2007 acquisition of Quintum. The Company has never had any agreement, commercial arrangement, or other contacts with the governments of sanctioned countries; has no current contacts with sanctioned countries; and has procedures and processes to ensure that no such contact occurs in the future. As a result of the discovery of the events subject to the internal investigation, we have enhanced our export compliance program and implemented more stringent export control procedures. If the U.S. government finds that we have violated one or more export control laws or trade sanctions, we could be subject to various penalties. By statute, these penalties can include but are not limited to fines of up to $250,000 for each violation, denial of export privileges, and debarment from participation in U.S. government contracts; and any assessment of penalties could also hurt the Company’s reputation, create negative investor sentiment, and affect the Company’s share value. We believe, however, that our cooperation with the U.S. government, our immediate attention to rectifying the issues, and other factors provide a basis for mitigating any penalty that might be imposed. Although it is reasonably possible that we could incur a loss as a result of penalties relating to these events, we cannot at this time determine an estimated cost, if any, or range of costs, for any such penalties or fines that may be incurred upon resolution of this matter. Accordingly, we have not made a provision for this matter.
Liquidity : We believe that our existing cash, cash equivalents and short-term investments will be sufficient to fund operations for at least the next twelve months. However, if the effects of our restructuring commenced in January 2012 are not materially consistent with our expectations, we may encounter cash flow and liquidity issues during that period. We will continue to assess our cash consumption, and our liquidity position. At any time, if we determine that it is necessary, we will evaluate our alternatives and take appropriate steps to address liquidity issues, either by further reducing cash consumption, raising additional capital, or a combination of measures. If additional capital is needed we cannot be assured that it will be available to us and, if we are unable to raise it or raise it on acceptable terms, we may have to delay, reduce the scope of, or eliminate some or all of our research and development programs or other operations, which may include delaying further development of our products; or reduce marketing, customer support or other resources devoted to our products or operations. Any of these developments could harm our business, results of operations, or financial condition.
Off-balance sheet arrangements : Other than the commitments described above, there are no other off-balance sheet arrangements that are reasonably likely to materially affect our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
CONF CALL
Leigh Salvo
Welcome everyone to our call this afternoon during which we will discuss results for Network Equipment Technologies' Fourth Quarter of Fiscal Year 2012. With me today are David Wagenseller, our CEO and Karen Carte, our CFO. In keeping with the Safe Harbor provisions of the Private Securities Litigation Reform Act, I want to remind everyone that we'll be making forward looking statements and projects today, including those relating to future revenue, operating results and financial conditions.
Investors are cautioned that these statements are based on current estimates and assumptions that involve risks and uncertainties that might cause actual results to differ materially from those expressed or implied in the forward-looking statements.
These risks and uncertainties may include our ability to develop and commercialize new products and product enhancements, success in buy our sales channels, challenges of managing inventory and production of products, federal government budget matters and procurement decisions, circumstances regarding specific sales that can affect the recognition of revenue, our ability to retain employees and maintain business functions following recent restructuring and other risks, including those identified in the company's filings with the SEC, including Forms 10-K and 10-Q and in other press releases and communications.
The company disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise. Additionally, though an audio archive of this call will be available on the company's website for at least 12 months, the statements made on this conference call are only made as of May 9th, 2012 and we disclaim any duty or intention to update forward-looking statements.
In addition to financial measures presented in accordance with GAAP, we'll also be discussing certain non-GAAP financial measures that are adjusted from results based on GAAP to exclude certain expenses, gains and losses. These non-GAAP measures should not be considered a substitute for or superior to GAAP results. Please refer to the press release issued today for reconciliation's to GAAP and further detail regarding non-GAAP measures. The press release is posted on our website.
Our agenda today begins with David Wagenseller, who will comment on our business and operations. Karen Carte will then comment on the quarter and year's financial results, and then we'll open the call for your questions.
At this time, I'll turn the call over to David.
David Wagenseller
Thank you Leigh. Welcome to those of you on the call. I'd like to start by discussing the Company's current financial position and where I see our strongest prospects for growth. Fiscal 2012 was a turning point for the company. For the first time in recent history product revenue from our Enterprise business outweighed our Federal business. In fact, in Q4 approximately two-thirds of our product revenue came from Enterprise customers and a significant portion of our product revenue growth is coming from sales of our next generation Unified Communication platform.
During the past year, we consistently grew our customer base, continued on a path of product innovation, and established significant partner relationship around the world. The acceptance of our new UX series platform is high. These are all positive signal that we are on the right track. However, our overall financial performance in the past fiscal year did not fully reflect the success in our Enterprise business due largely to the accelerated decline of our federal Government business.
We took decisive action to provided financial stability in the near term and to maintain the assets and capabilities need for growth in fiscal year 2013 and beyond. These recent actions represent major restructuring and resizing of our operations. Thee changes along with some additional cost reduction efforts give us a line of sight to reach cash flow break even in the September time from which is our second fiscal quarter.
A clear indicator that we're moving in the right direction with our cash balance at the end of the fourth quarter which declined a comparatively small $1.8 million in the prior quarter. A big improvement over the prior three quarters where we dropped on average $8.2 million each quarter. Of course we are equally focused on growing thee top line over the past year we consistently added 50 to 60 new customers per quarter with 75 in the fourth quarter totaling approximately 250 new customers for the full fiscal year. Many of our new [inaudible] start with initial site deployment which don't translate into significant revenue during the deployment, planning stage but lay the foundation for future roll outs and reoccurring revenue stream. We are there for carefully optimistic in our revenue ramp gets deeper as the project roll out broadens.
Here are some additional details that I want to share as I am encouraged by the traction we are seeing from enterprise customers seeking UC solutions. New customer highlights in the quarter included, and this is just a sample, a number of North American Airlines which serves plenty domestics and international destinations in the Pacific region. One of the top five international postal carriers worldwide. The UK division of one of the largest audit financial consultant firms in the world. One of the world's largest providers of security products based in Europe. A French multi-faceted utility company. A British multinational asset management company, and a major video game software developer headquartered in Japan. We are seeing success in existing relationships. For an example with a tier one system integration carrier partner, we increased the rate of deployment for a global roll out for a multinational company ad added support services to the contract. We are also seeing repeat business from recent UC customers which is encouraging.
Partnerships are a key element of our strategy for growing sales. We have many high quality partners such as Microsoft, Dell and HP. During the quarter we announced a strategic initiative with British Telecom to simplify the deployment and installation of Microsoft Lync greatly reducing the time it takes for service providers and large enterprises to deploy advance UC solutions. Utilizing any piece UX series platform, British Telecom will provide best in class managed and professional solutions that add value to on-premise enterprise applications systems. We are working closely with another European carrier in a similar collaboration that I hope to be able to announce shortly.
Some of the major technology shifts currently affecting our market involve the adoption of cloud services, the broad use of mobile devices in corporate networks and the growth of very large data sets which raises the complexity of information access. I see NET playing an important role in helping our partners address these issues in three target markets, which are unified communications, SIP trunking and cloud-based services. Together with our partners, we enable state-of-the-art cost effective collaboration and unified communications for our customers in these rapidly evolving segments.
Turning to product development, the UX products family is the future of NET. We will continue to invest in development efforts to add additional features to functionality that allows business to grow with best in class products. As announced yesterday, we now have general availability of release 2001 of the UX series platform. This is significant for NET, as it adds two new interfaces, it enables us to address broader needs for deployment of enhanced UC solutions to small enterprise branch offices on a global basis.
Finally, I will comment on the steps we've taken to stabilize the business and to focus our efforts on the enterprise market through unified communications. These actions were difficult but necessary. I believe we are in a better position today to serve the needs of our partners, customers, employees and shareholders. We now have significant relationships with customers and partners in place in a safe platform for our UX series is complete.
As we move forward into the new fiscal year, execution against our plan will be a priority. We expect to manage our solutions in the enterprise market in the next fiscal year and we think our federal government business at current revenue levels. We also expect to maintain a consistent win rate in the enterprise market to seek growth from both the new customers and from existing customers that are expanding the UT footprint. As I noted earlier, I expect to achieve cash flow break even in the second fiscal quarter of 2013 through revenue growth and prudent cost management.
I would now like to introduce Karen Carte, our acting CFO. Karen joined NET in August of 2010 in the role of Vice President and Chief Accounting Officer. With my appointment to the CEO role, Karen was the immediate perfect choice for the CFO role.
Karen Carte
Thank you, David. In the press release issued today and available on our website, we reported the following financial results for the fourth quarter of fiscal 2012. Total revenue for the fourth quarter of fiscal 2012, was $11.2 million as compared to $12.5 million in the fiscal year 2011. Total product revenue was $7.3 million in the fourth fiscal quarter as compared to $8.6 million in the comparable period of the period year. Looking at product revenue by customer type, Enterprise revenue increased 35% for the $4.9 million while enlivenment revenue fell 51% to $2.4 million. Total revenue for fiscal year 2012 was $50.2 million a year-over-year decrease of 17%. Product revenue for the fiscal 2012 year was $35.1 million as compared to $45.9 million in the prior year. Product revenue from our Enterprise business was $22.5 million an in crease of 45% from the prior fiscal year. Product revenue from sales of our [voice] products for UC applications continues to increase as we see more new UC customer wins each quarter.
Fiscal year 2012 product revenue from our government business was $12.6 million a decrease of 59% from the prior fiscal year as the referral government continues to reduce defense spending and investment in legacy networks. As a result, the product revenue mix for the year was 64% Enterprise and 36% Government as compared to 34% Enterprise and 66% Government in the prior year.
Total service and other revenue was $15 million for fiscal 2012, up 6% compared to fiscal 2011. Gross margins was 25.5% in the fourth quarter and 33.3% for fiscal year 2012. Gross margin was negatively affected during the fourth quarter due to 1.5 million of additional inventory reserves we took for our prominent product line. Excluding this inventory charge, gross margins for the quarter would have been 38.6%.
Product gross margin in Q4 was reported at 12.2%. But net of the inventory adjustments product gross margins were a much better 32.2% which is consistent with prior quarters. Service and other gross margin continues to be strong at 50.6% in the fourth quarter compared to 50.3% in the previous quarter.
Turning the operating expense during the fourth quarter we announced a range of cost savings measures to be implemented during calendar year 2012. In the fourth quarter we incurred a $1.4 million restructuring charge for [segments] related expanses. Operating expense net as a restructuring charge was 10.6 million in the fourth quarter compared to 11.6 million of FY '11. For the full year, operating expense net of the restructured charge was $47.1 million compared to $49.3 million in fiscal 2011. Going forward, we expect additional savings due to the restructuring plan implemented in Q4.
Total company headcount today is 163 employees, compared to 250 employees at the end of Q3.
The company reported a net loss in Q4 of $9.8 million, or $0.32 per share, and a net loss for fiscal 2012 of $34.1 million, or $1.12 per share. On a non-GAAP basis, the net loss for the fourth quarter was $7.6 million, or $0.25 per share, and the net loss for fiscal 2012 was $29.5 million, or $0.97 per share.
Cash, restricted cash, and investment balances are $35.1 million at the end of Q4, down $1.8 million from the end of Q3. The improvement in the cash burn rate is primarily due to changes in working capital and reductions in the operating expenses. We expect our cash burn to increase in Q1 due to one-time expenses for severance payment, bond interest payments, and corporate insurance premiums; however, we expect the cost savings measures recently implemented to subsequently decrease our cash burn to meet our goal of cash flow breakeven in the second fiscal quarter ending September 28th, 2012.
Accounts Receivable were $7.5 million, as compared to $11.6 million at the end of Q3. The decrease was primarily from three large accounts from collections have been delayed from the previous quarter and then came in during the fourth quarter. DSO was in our expected range between 60 to 70 days.
Operator, this concludes our prepared remarks. We'd like to open the call now to Q&A.
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Fund Letters
