##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 
 Form 10-Q
 
  þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
 For the Quarter ended March 31, 2007
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from  to.
 Commission File Number: 000-21240
 NEOWARE, INC.
 (Exact name of registrant as specified in its charter)
 Delaware(State or other jurisdiction of 
incorporation or organization)
    
    23-2705700(IRS Employer Identification No.)
 3200 Horizon Drive
King of Prussia, Pennsylvania 19406  (Address of principal executive offices)
 (610) 277-8300  (Registrants telephone number including area code)
 þ o
  o þ o
 o þ




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##### 



NEOWARE, INC.
 INDEX
 PAGEPART I. FINANCIAL INFORMATIONItem 1. Consolidated Financial Statements (unaudited)Condensed Consolidated Balance Sheets as of March 31, 2007 and June 30, 2006
    
    
    3Consolidated Statements of Operations for the Three and Nine Months Ended March 31, 2007 and 2006
    
    
    4Consolidated Statements of Cash Flows for the Three and Nine Months Ended March 31, 2007 and 2006
    
    
    5Notes to Consolidated Financial Statements
    
    
    6Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    14Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    26Item 4. Controls and Procedures
    
    
    26PART II. OTHER INFORMATIONItem 1A. Risk Factors
    
    
    26Item 6. Exhibits
    
    
    39Signatures
    
    
    40CERTIFICATION OF CHIEF EXECUTIVE OFFICERCERTIFICATION OF CHIEF FINANCIAL OFFICERCERTIFICATION OF CEO PURSUANT TO 18 U.S.C. SECTION 1350CERTIFICATION OF CFO PURSUANT TO 18 U.S.C. SECTION 1350




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NEOWARE, INC.
 
 CONDENSED CONSOLIDATED BALANCE SHEETS   (unaudited)
 March 31,
    
    
    June 30,2007
    
    
    2006ASSETSCurrent assets:Cash and cash equivalents
    
    $
    90,283
    
    
    $
    19,328Restricted cash
    
    
    385
    
    
    
    Short-term investments
    
    
    29,700
    
    
    
    94,798Accounts receivable, net
    
    
    16,349
    
    
    
    16,877Inventories
    
    
    5,903
    
    
    
    7,734Prepaid income taxes
    
    
    4,503
    
    
    
    1,544Prepaid expenses and other
    
    
    2,722
    
    
    
    1,687Deferred income taxes
    
    
    1,866
    
    
    
    1,866Total current assets
    
    
    151,711
    
    
    
    143,834Property and equipment, net
    
    
    1,568
    
    
    
    1,586Goodwill
    
    
    37,223
    
    
    
    37,761Intangibles, net
    
    
    9,712
    
    
    
    12,175Deferred income taxes
    
    
    4,026
    
    
    
    4,156Other
    
    
    81
    
    
    
    61$
    204,321
    
    
    $
    199,573LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    6,464
    
    
    $
    8,989Accrued compensation and benefits
    
    
    3,130
    
    
    
    2,021Other accrued expenses
    
    
    4,587
    
    
    
    4,159Restructuring reserve
    
    
    419
    
    
    
    600Income taxes payable
    
    
    167
    
    
    
    158Deferred revenue
    
    
    1,591
    
    
    
    973Total current liabilities
    
    
    16,358
    
    
    
    16,900Deferred income taxes
    
    
    811
    
    
    
    755Deferred revenue
    
    
    315
    
    
    
    316Total liabilities
    
    
    17,484
    
    
    
    17,971Stockholders equity:Preferred stock
    
    
    
    
    
    
    Common stock
    
    
    20
    
    
    
    20Additional paid-in capital
    
    
    163,803
    
    
    
    158,671Treasury stock, 100,000 shares at cost
    
    
    (100
    )
    
    
    (100
    )Accumulated other comprehensive income
    
    
    2,216
    
    
    
    556Retained earnings
    
    
    20,898
    
    
    
    22,455Total stockholders equity
    
    
    186,837
    
    
    
    181,602$
    204,321
    
    
    $
    199,573
  3




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NEOWARE, INC.
 
 CONSOLIDATED STATEMENTS OF OPERATIONS   (unaudited)
 Three Months Ended
    
    
    Nine Months EndedMarch 31,
    
    
    March 31,2007
    
    
    2006
    
    
    2007
    
    
    2006Net revenues
    
    $
    22,070
    
    
    $
    27,787
    
    
    $
    67,406
    
    
    $
    83,666Cost of revenuesCost of products (includes stock-based compensation
expense of $28 and $20 for the three months and $80 and $60 for the nine months ended March 31, 2007 and
2006)
    
    
    13,513
    
    
    
    15,353
    
    
    
    41,127
    
    
    
    47,051Amortization of intangibles
    
    
    343
    
    
    
    338
    
    
    
    1,018
    
    
    
    913Total cost of revenues
    
    
    13,856
    
    
    
    15,691
    
    
    
    42,145
    
    
    
    47,964Gross profit
    
    
    8,214
    
    
    
    12,096
    
    
    
    25,261
    
    
    
    35,702Operating expensesSales and marketing
    
    
    4,451
    
    
    
    4,295
    
    
    
    13,933
    
    
    
    12,864Research and development
    
    
    1,557
    
    
    
    1,645
    
    
    
    4,927
    
    
    
    4,446General and administrative
    
    
    2,710
    
    
    
    2,451
    
    
    
    10,022
    
    
    
    7,614Amortization of intangibles
    
    
    491
    
    
    
    586
    
    
    
    1,670
    
    
    
    1,377Abandoned acquisition costs
    
    
    12
    
    
    
    
    
    
    
    874
    
    
    
    Total operating expenses (includes stock-based
compensation expense of $814 and $760 for the
three months and $3,767 and $2,239 for the nine
months ended March 31, 2007 and 2006)
    
    
    9,221
    
    
    
    8,977
    
    
    
    31,426
    
    
    
    26,301Operating income (loss)
    
    
    (1,007
    )
    
    
    3,119
    
    
    
    (6,165
    )
    
    
    9,401Foreign exchange gain (loss)
    
    
    (13
    )
    
    
    (12
    )
    
    
    (57
    )
    
    
    64Interest income, net
    
    
    1,044
    
    
    
    507
    
    
    
    2,979
    
    
    
    998Income (loss) before income taxes
    
    
    24
    
    
    
    3,614
    
    
    
    (3,243
    )
    
    
    10,463Income taxes (benefit)
    
    
    1,123
    
    
    
    1,301
    
    
    
    (1,686
    )
    
    
    3,767Net income (loss)
    
    $
    (1,099
    )
    
    $
    2,313
    
    
    $
    (1,557
    )
    
    $
    6,696Earnings (loss) per share:Basic
    
    $
    (0.05
    )
    
    $
    0.13
    
    
    $
    (0.08
    )
    
    $
    0.40Diluted
    
    $
    (0.05
    )
    
    $
    0.12
    
    
    $
    (0.08
    )
    
    $
    0.38Weighted average number of common
shares outstanding:Basic
    
    
    20,000
    
    
    
    18,023
    
    
    
    19,969
    
    
    
    16,931Diluted
    
    
    20,000
    
    
    
    18,848
    
    
    
    19,969
    
    
    
    17,474
  4




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NEOWARE, INC.
 
 CONSOLIDATED STATEMENTS OF CASH FLOWS   (unaudited)
 Nine Months EndedMarch 31,2007
    
    2006Cash flows from operating activities:Net income (loss)
    
    $
    (1,557
    )
    
    $
    6,696Adjustments to reconcile net income to net cash
provided by operating activities:Amortization of intangibles
    
    
    2,688
    
    
    
    2,290Depreciation
    
    
    410
    
    
    
    302Non-cash share-based compensation
    
    
    3,847
    
    
    
    2,299Deferred income taxes
    
    
    138
    
    
    
    Changes in operating assets and liabilities- net of
effect from acquisition:Restricted cash
    
    
    (385
    )
    
    
    Accounts receivable
    
    
    613
    
    
    
    (4,239
    )Inventories
    
    
    1,831
    
    
    
    465Prepaid expenses and other
    
    
    (3,948
    )
    
    
    378Accounts payable
    
    
    (2,535
    )
    
    
    3,104Accrued compensation and benefits
    
    
    1,102
    
    
    
    764Other accrued expenses
    
    
    193
    
    
    
    (2,413
    )Income taxes payable
    
    
    1
    
    
    
    (2,282
    )Deferred revenue
    
    
    595
    
    
    
    108Net cash provided by operating activities
    
    
    2,993
    
    
    
    7,472Cash flows from investing activities:Purchase of short-term investments
    
    
    (128,200
    )
    
    
    (74,228
    )Sales of short-term investments
    
    
    193,274
    
    
    
    33,226Purchases of property and equipment
    
    
    (418
    )
    
    
    (1,412
    )Purchase of Visara thin client business
    
    
    
    
    
    
    (2,107
    )Purchase of TeleVideo thin client business
    
    
    
    
    
    
    (3,520
    )Acquisition of Maxspeed, net of cash acquired
    
    
    1,674
    
    
    
    (12,053
    )Net cash provided by (used in) investing activities
    
    
    66,330
    
    
    
    (60,094
    )Cash flows from financing activities:Proceeds from issuance of common stock, net of expenses
    
    
    (3
    )
    
    
    71,236Exercise of stock options
    
    
    640
    
    
    
    6,014Excess tax benefit from share-based payment
arrangements
    
    
    648
    
    
    
    1,733Net cash provided by financing activities
    
    
    1,285
    
    
    
    78,983Effect of foreign exchange rate changes on cash
    
    
    347
    
    
    
    (158
    )Increase in cash and cash equivalents
    
    
    70,955
    
    
    
    26,203Cash and cash equivalents, beginning of period
    
    
    19,328
    
    
    
    8,285Cash and cash equivalents, end of period
    
    $
    90,283
    
    
    $
    34,488Supplemental disclosures:Cash paid for income taxes
    
    $
    451
    
    
    $
    5,226
  5




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NEOWARE, INC.
 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
 Note 1. Basis of Presentation
  Note 2. Recent Accounting Pronouncements
 How Taxes Collected
from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement
(That Is, Gross versus Net Presentation)
 Accounting for Uncertainty in Income Taxesan interpretation of FASB Statement No. 10 .
 Fair Value Measurements
 Considering the
Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial
Statements
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The Fair Value Option for Financial
Assets and Financial Liabilities
 Note 3. Equity-Based Compensation
 Accounting for Employee Stock Award Plans
 Share-Based Payment, Accounting for Stock Based
Compensation, and superseded APB Opinion No. 25, Accounting for Stock Issued to Employees Statement of Cash
Flows
 Classification of Stock-Based Compensation Expense
  Three Months Ended
    
    
    Nine Months EndedMarch 31,
    
    
    March 31,2007
    
    
    2006
    
    
    2007
    
    
    2006Cost of revenues
    
    $
    28
    
    
    $
    20
    
    
    $
    80
    
    
    $
    60Selling and marketing
    
    
    351
    
    
    
    283
    
    
    
    1,061
    
    
    
    829Research and development
    
    
    102
    
    
    
    98
    
    
    
    291
    
    
    
    306General and administrative
    
    
    361
    
    
    
    379
    
    
    
    2,415
    
    
    
    1,104$
    842
    
    
    $
    780
    
    
    $
    3,847
    
    
    $
    2,299
 Tax Effect related to Stock-Based Compensation Expense
  Valuation Assumptions for Options Granted during Fiscal 2007
  7




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Expected term
    
    
    5.1 to 5.5 yearsExpected volatility
    
    
    66.8 to 76.7
    %Weighted average volatility
    
    
    74.0
    %Risk-free rate
    
    
    4.5 - 5.1
    %
  Equity Compensation Plans
     8




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Weighted
    
    Remaining
    
    IntrinsicAverage
    
    Contractual
    
    ValueShares
    
    Exercise Price
    
    Term (years)
    
    (in thousands)Outstanding as of June 30, 2006
    
    
    1,956,568
    
    
    $
    12.75Granted
    
    
    435,000
    
    
    
    13.15Exercised
    
    
    (78,096
    )
    
    
    8.19Terminated
    
    
    (280,250
    )
    
    
    14.12Outstanding as of March 31, 2007
    
    
    2,033,222
    
    
    
    12.82
    
    
    
    6.7
    
    
    $
    635Options exercisable at March 31, 2007
    
    
    1,087,577
    
    
    $
    13.63
    
    
    
    5.0
    
    
    $
    294Options expected to vest at March 31, 2007
    
    
    672,921
    
    
    $
    11.89
    
    
    
    8.6
    
    
    $
    243Options available for future grants at
March 31, 2007
    
    
    1,437,770
   .
  WeightedAverage GrantShares
    
    Date Fair ValueUnvested as of June 30, 2006
    
    
    11,290
    
    
    $
    13.29Vested
    
    
    (5,646
    )
    
    
    13.29Unvested as of March 31, 2007
    
    
    5,644
    
    
    
    13.29
  Note 4. Reclassification and Revision
  9




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##### Table of Contents



June 30, 2006
    
    As Reported
    
    Adjustment
    
    As AdjustedCash and cash equivalents
    
    $
    86,223
    
    
    $
    (66,895
    )
    
    $
    19,328Short-term investments
    
    
    27,903
    
    
    
    66,895
    
    
    
    94,798Net cash used in investing activities
    
    
    (11,257
    )
    
    
    (66,895
    )
    
    
    (78,152
    )Increase in cash and cash equivalents
    
    
    77,938
    
    
    
    (66,895
    )
    
    
    11,043
 March 31, 2006
    
    As Reported
    
    Adjustment
    
    As AdjustedNet cash used in investing activities
    
    
    (12,154
    )
    
    
    (47,940
    )
    
    
    (60,094
    )Increase in cash and cash equivalents
    
    
    74,143
    
    
    
    (47,940
    )
    
    
    26,203
 Note 5. Goodwill and Intangible Assets
   March 31, 2007GrossEstimated
    
    
    Carrying
    
    
    Accumulated
    
    
    Net Carryinguseful life
    
    
    Amount
    
    
    Amortization
    
    
    AmountTradenames
    
    Indefinite
    
    $
    369
    
    
    $
    
    
    
    $
    369Non-compete agreements
    
    2-5 years
    
    
    1,690
    
    
    
    799
    
    
    
    891Customer relationships
    
    2-5 years
    
    
    7,384
    
    
    
    3,138
    
    
    
    4,246Distributor relationships
    
    5 years
    
    
    2,325
    
    
    
    2,288
    
    
    
    37Acquired technology
    
    5-10 years
    
    
    7,465
    
    
    
    3,296
    
    
    
    4,169$
    19,233
    
    
    $
    9,521
    
    
    $
    9,712
 June 30, 2006GrossEstimated
    
    
    Carrying
    
    
    Accumulated
    
    
    Net Carryinguseful life
    
    
    Amount
    
    
    Amortization
    
    
    AmountTradenames
    
    Indefinite
    
    $
    360
    
    
    $
    
    
    
    $
    360Non-compete agreements
    
    2-5 years
    
    
    1,700
    
    
    
    448
    
    
    
    1,252Customer relationships
    
    2-5 years
    
    
    7,350
    
    
    
    2,031
    
    
    
    5,319Distributor relationships
    
    5 years
    
    
    2,325
    
    
    
    2,079
    
    
    
    246Acquired technology
    
    5-10 years
    
    
    7,506
    
    
    
    2,508
    
    
    
    4,998$
    19,241
    
    
    $
    7,066
    
    
    $
    12,175
  Non-compete agreements
    
    2.0 yearsCustomer relationships
    
    3.2 yearsDistributor relationships
    
    1.5 yearsAcquired technology
    
    3.2 years
  10




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Three Months Ended
    
    
    Nine Months EndedMarch 31,
    
    
    March 31,2007
    
    
    2006
    
    
    2007
    
    
    2006Non-compete agreements
    
    $
    124
    
    
    $
    127
    
    
    $
    381
    
    
    $
    240Customer relationships
    
    
    360
    
    
    
    358
    
    
    
    1,080
    
    
    
    833Distributor relationships
    
    
    7
    
    
    
    116
    
    
    
    209
    
    
    
    349Acquired technologies
    
    
    343
    
    
    
    323
    
    
    
    1,018
    
    
    
    868$
    834
    
    
    $
    924
    
    
    $
    2,688
    
    
    $
    2,290
   FutureYear Ending June 30,
    
    AmortizationRemainder of fiscal 2007
    
    $
    8302008
    
    
    3,2792009
    
    
    2,8432010
    
    
    1,8732011
    
    
    4942012
    
    
    24$
    9,343
 Note 6. Comprehensive Income
  Three Months Ended
    
    
    Nine Months EndedMarch 31,
    
    
    March 31,2007
    
    
    2006
    
    
    2007
    
    
    2006Net income (loss)
    
    $
    (1,099
    )
    
    $
    2,313
    
    
    $
    (1,557
    )
    
    $
    6,696Foreign currency translation adjustment
    
    
    127
    
    
    
    306
    
    
    
    1,660
    
    
    
    (467
    )Comprehensive income (loss)
    
    $
    (972
    )
    
    $
    2,619
    
    
    $
    103
    
    
    $
    6,229
 Note 7. Revenue Recognition
 Software Revenue Recognition
  11




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Note 8. Major Customers and Dependence on Suppliers
  Three Months Ended
    
    Nine Months EndedMarch 31,
    
    March 31,2007
    
    2006
    
    2007
    
    2006Net revenuesNorth American distributor
    
    
    10
    %
    
    
    *
    
    
    
    10
    %
    
    
    *Lenovo
    
    
    *
    
    
    
    18
    %
    
    
    *
    
    
    
    18
    %
 March 31,
    
    June 30,2007
    
    2006Accounts receivableCustomer A
    
    
    *
    
    
    
    17
    %Billing agent for Lenovo
    
    
    *
    
    
    
    11
    %
 
 (*)
    
    Amounts do not exceed 10% for such period    12




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##### Table of Contents



Note 9. Inventories
  March 31,
    
    
    June 30,2007
    
    
    2006Purchased components and subassemblies
    
    $
    1,407
    
    
    $
    3,243Finished goods
    
    
    4,496
    
    
    
    4,491$
    5,903
    
    
    $
    7,734
  Note 10. Income Taxes
  Note 11. Short-term Borrowings
  Note 12. Earnings per Share
  13




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##### Table of Contents



Three Months Ended
    
    
    Nine Months EndedMarch 31,
    
    
    March 31,2007
    
    
    2006
    
    
    2007
    
    
    2006Net income (loss)
    
    $
    (1,099
    )
    
    $
    2,313
    
    
    $
    (1,557
    )
    
    $
    6,696Weighted average shares outstanding:Basic
    
    
    20,000
    
    
    
    18,023
    
    
    
    19,969
    
    
    
    16,931Effect of dilutive employee stock options
    
    
    
    
    
    
    825
    
    
    
    
    
    
    
    543Diluted
    
    
    20,000
    
    
    
    18,848
    
    
    
    19,969
    
    
    
    17,474Earnings (loss) per common share:Basic
    
    $
    (0.05
    )
    
    $
    0.13
    
    
    $
    (0.08
    )
    
    $
    0.40Diluted
    
    $
    (0.05
    )
    
    $
    0.12
    
    
    $
    (0.08
    )
    
    $
    0.38
  Three Months Ended
    
    Nine Months EndedMarch 31,
    
    March 31,2007
    
    2006
    
    2007
    
    2006Common stock equivalents
    
    
    1,097
    
    
    
    23
    
    
    
    1,017
    
    
    
    115
  Note 13. Guarantees
 Indemnifications
  Warranty
   Accrued warranty cost at June 30, 2006
    
    $
    1,177Settlement of warranties
    
    
    (479
    )Provisions for warranties
    
    
    332Accrued warranty cost at March 31, 2007
    
    $
    1,030
 
 Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
 Overview
   14




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®
   Strategy
  
    
    Continue to invest in technology development.We believe that we have developed and
acquired the technology to enable a more powerful, secure and cost-effective thin computing
architecture. We have more than a 15-year history of developing this technology including
those of the companies we have acquired. We believe that the current market interest in
thin client computing as a replacement for desktop PCs is due in part to the increase of
virtualization technology and that our technical strength and IP in thin client and
virtualization technologies will enable us to compete more effectively and take full
advantage of the growing opportunity. We will continue to invest in technology development
to maintain our competitive position and drive market share growth.
    
    Focus on the enterprise.We believe the most significant market segment for the thin
client solution is the enterprise customer. As a result, we have focused our development,
sales and marketing efforts on small, medium and large enterprises across a diverse set of
vertical markets. Our access to this highly attractive market is considerably enhanced by
our relationships with our alliance and distribution partners. We will continue to make
significant investments to attract additional enterprise customers and gain market share.
These investments will include additions to the sales teams primarily in the United States
and Europe, as well as additional marketing personnel and programs designed to stimulate
thin client awareness and lead generation.
    
    Enhance channel partnerships. To expand our access to customers, we have developed
relationships with third parties that we believe have strong market positions and customer
relationships. We have developed alliances with IBM, Lenovo, NEC and ClearCube, and other
distributors and resellers, all of which sell our products to their customers. We have
launched our reseller program to increase sales though our channel partners. We are
introducing promotional programs and pricing incentives to expand our customer base in this
area and gain market share.
    
    Expand and deepen our geographic footprint.Our business was historically focused on the
U.S. market. In fiscal year 2004, we determined to expand our global footprint as part of a
strategic expansion of our development and integration organization through the
acquisitions of Maxspeed, Mangrove, Qualystem and ThinTune, as well as through partnerships
with global distributors such as NEC, ClearCube and local providers. As a result, we now
have a global footprint, with operations primarily in the US and Europe. We believe that
international markets will be a significant source of growth and we intend to continue to
increase our presence by expanding our reseller relationships and through select
acquisitions.
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##### Table of Contents




    
    Grow our business through strategic acquisitions.Our acquisition strategy has been
focused on expanding our geographic reach, acquiring businesses with technologies that
increase our ownership of core intellectual property, and with products that can be sold
through our existing channels to the same end-user customers, leveraging our existing
organization. We have also sought to augment our software development resources and add to
our integration capability on a global basis. We intend to continue to pursue select
strategic acquisitions in the future.
    
    Capitalize on the growing adoption of industry-standard and open-source technologies. We
believe that many enterprise customers are seeking industry-standard technologies, not
proprietary solutions that require them to use a single vendor. As a result, we integrate
our products into industry-standard solutions, and utilize open-source and other
industry-standard technologies. In our supply chain we leverage the high volumes of the PC
industry and PC supply chain techniques to lower our costs. We believe our commitment to
open-source, cross-platform and industry-standard software technologies, and our use of the
high volume supply chain efficiencies of the PC industry, represent significant
differentiators and competitive advantages for us.
 Recent Acquisitions
   ®
    Financial Highlights
  Three Months Ended
    
    Nine Months EndedMarch 31,
    
    March 31,2007
    
    2006
    
    2007
    
    2006Net revenues (in thousands)
    
    $
    22,070
    
    
    $
    27,787
    
    
    $
    67,406
    
    
    $
    83,666% Change
    
    
    (21
    %)
    
    
    46
    %
    
    
    (19
    %)
    
    
    50
    %Gross profit margin
    
    
    37
    %
    
    
    44
    %
    
    
    38
    %
    
    
    43
    %Diluted earnings (loss) per share
    
    $
    (0.05
    )
    
    $
    0.12
    
    
    $
    (0.08
    )
    
    $
    0.38
  16




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Critical Accounting Policies and Estimates
  
    
    Revenue recognition
    
    Valuation of long-lived and intangible assets and goodwill
    
    Accounting for income taxes
    
    Stock based compensation
  17




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##### Table of Contents



Revenue Recognition
  Multiple Element Arrangements
 Software Revenue Recognition
  The Fee is Fixed or Determinable
  Collection is Probable
  Stock Rotation Rights and Price Protection
  Valuation of Long-Lived and Intangible Assets and Goodwill
  Goodwill and Other Intangible Assets
 18




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##### Table of Contents




    
    First, we compare the carrying amount of our reporting unit, which is the book value of
the entire company, to the fair value of our reporting unit. If the carrying amount of our
reporting unit exceeds its fair value, we have to perform the second step of the process.
If not, no further testing is needed.
    
    If the second part of the analysis is required, we allocate the fair value of our
reporting unit to all assets and liabilities as if the reporting unit had been acquired in
a business combination at the date of the impairment test. We then compare the implied fair
value of our reporting units goodwill to its carrying amount. If the carrying amount of
our reporting units goodwill exceeds its fair value, we recognize an impairment loss in an
amount equal to that excess.
 Accounting for the Impairment or Disposal of Long-Lived Assets.
  
    
    Our net book value compared to our market capitalization;
    
    Significant adverse economic and industry trends;
    
    Significant decrease in the market value of the asset;
    
    The extent that we use an asset or changes in the manner that we use it; and
    
    Significant changes to the asset since we acquired it.
  Accounting for Income Taxes
  19




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##### Table of Contents



Stock-Based Compensation
 Accounting for
Stock Issued to Employees, Accounting for Stock-Based Compensation Accounting for Stock-Based Compensation  Transition and Disclosure
 Share-Based Payment,
  Three Months Ended
    
    
    Nine Months EndedMarch 31,
    
    
    March 31,2007
    
    
    2006
    
    
    2007
    
    
    2006Cost of revenues
    
    $
    28
    
    
    $
    20
    
    
    $
    80
    
    
    $
    60Selling and marketing
    
    
    351
    
    
    
    283
    
    
    
    1,061
    
    
    
    829Research and development
    
    
    102
    
    
    
    98
    
    
    
    291
    
    
    
    306General and administrative
    
    
    361
    
    
    
    379
    
    
    
    2,415
    
    
    
    1,104$
    842
    
    
    $
    780
    
    
    $
    3,847
    
    
    $
    2,299
   20




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##### Table of Contents



Results of Operations
 Net Revenues
 Three Months Ended
    
    
    
    
    
    Nine Months EndedMarch 31,
    
    
    
    
    
    March 31,%2007
    
    2006
    
    % Change
    
    2007
    
    2006
    
    ChangeNet revenues
    
    $
    22,070
    
    
    $
    27,787
    
    
    
    (21
    %)
    
    $
    67,406
    
    
    $
    83,666
    
    
    
    (19
    %)
      Three Months Ended
    
    Nine Month EndedMarch 31,
    
    March 31,2007
    
    2006
    
    2007
    
    2006Net revenuesNorth American distributor
    
    
    10
    %
    
    
    *
    
    
    
    10
    %
    
    
    *Lenovo
    
    
    *
    
    
    
    18
    %
    
    
    *
    
    
    
    18
    %
 
 (*)
    
    Amounts do not exceed 10% for such period Cost of Revenues and Gross Profit Margin
 Three Months Ended
    
    
    
    
    
    
    Nine Months EndedMarch 31,
    
    
    
    
    
    
    March 31,2007
    
    
    2006
    
    
    % Change
    
    
    2007
    
    
    2006
    
    
    % ChangeCost of products
    
    $
    13,513
    
    
    $
    15,353
    
    
    
    (12
    %)
    
    $
    41,127
    
    
    $
    47,051
    
    
    
    (13
    %)Amortization of
intangibles
    
    
    343
    
    
    
    338
    
    
    
    1
    %
    
    
    1,018
    
    
    
    913
    
    
    
    12
    %Total cost of revenues
    
    
    13,856
    
    
    
    15,691
    
    
    
    (12
    %)
    
    
    42,145
    
    
    
    47,964
    
    
    
    (12
    %)Gross profit margin
    
    
    37
    %
    
    
    44
    %
    
    
    
    
    
    
    38
    %
    
    
    43
    %
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Selling and Marketing
 Three Months Ended
    
    
    
    
    
    Nine Months EndedMarch 31,
    
    
    
    
    
    March 31,%2007
    
    2006
    
    % Change
    
    2007
    
    2006
    
    ChangeSelling and marketing
    
    $
    4,451
    
    
    $
    4,295
    
    
    
    4
    %
    
    $
    13,933
    
    
    $
    12,864
    
    
    
    8
    %As a percentage of revenue
    
    
    20
    %
    
    
    15
    %
    
    
    
    
    
    
    21
    %
    
    
    15
    %
     Research and Development
 Three Months Ended
    
    
    
    
    
    Nine Months EndedMarch 31,
    
    
    
    
    
    March 31,2007
    
    2006
    
    % Change
    
    2007
    
    2006
    
    % ChangeResearch and development
    
    $
    1,557
    
    
    $
    1,645
    
    
    
    (5
    %)
    
    $
    4,927
    
    
    $
    4,446
    
    
    
    11
    %As a percentage of revenue
    
    
    7
    %
    
    
    6
    %
    
    
    
    
    
    
    7
    %
    
    
    5
    %
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General and Administrative
 Three Months Ended
    
    
    
    
    
    Nine Months EndedMarch 31,
    
    
    
    
    
    March 31,%2007
    
    2006
    
    % Change
    
    2007
    
    2006
    
    ChangeGeneral and administrative
    
    $
    2,710
    
    
    $
    2,451
    
    
    
    11
    %
    
    $
    10,022
    
    
    $
    7,614
    
    
    
    32
    %As a percentage of revenue
    
    
    12
    %
    
    
    9
    %
    
    
    
    
    
    
    15
    %
    
    
    9
    %
     Amortization of Intangibles
 Three Months Ended
    
    
    
    
    
    Nine Months EndedMarch 31,
    
    
    
    
    
    March 31,%2007
    
    2006
    
    % Change
    
    2007
    
    2006
    
    ChangeAmortization of intangibles
    
    $
    491
    
    
    $
    586
    
    
    
    (16
    %)
    
    $
    1,670
    
    
    $
    1,377
    
    
    
    21
    %As a percentage of revenue
    
    
    2
    %
    
    
    2
    %
    
    
    
    
    
    
    3
    %
    
    
    2
    %
  23




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##### Table of Contents



Abandoned Acquisition Costs
  Interest Income
 Three Months Ended
    
    
    
    
    
    Nine Months EndedMarch 31,
    
    
    
    
    
    March 31,%2007
    
    2006
    
    % Change
    
    2007
    
    2006
    
    ChangeInterest income, net
    
    $
    1,044
    
    
    $
    507
    
    
    
    106
    %
    
    $
    2,979
    
    
    $
    998
    
    
    
    198
    %As a percentage of revenue
    
    
    5
    %
    
    
    2
    %
    
    
    
    
    
    
    4
    %
    
    
    1
    %
  Income Tax Expense (Benefit)
 Three Months Ended
    
    
    
    
    
    Nine Months EndedMarch 31,
    
    
    
    
    
    March 31,2007
    
    2006
    
    % Change
    
    2007
    
    2006
    
    % ChangeIncome tax expense
(benefit)
    
    $
    1,123
    
    
    $
    1,301
    
    
    
    (14
    %)
    
    $
    (1,686
    )
    
    $
    3,767
    
    
    
    (145
    %)As a percentage of revenue
    
    
    5
    %
    
    
    5
    %
    
    
    
    
    
    
    (3
    %)
    
    
    5
    %
 - -
 Liquidity and Capital Resources
   Cash flows provided by operating activities:
 24




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##### Table of Contents



Cash flows provided by investing activities:
 Cash flows provided by financing activities:
 Contractual Obligations
  Remainder
    
    
    2008 and
    
    
    2010 and
    
    
    2012 andTotal
    
    
    of 2007
    
    
    2009
    
    
    2011
    
    
    thereafterProduct purchase obligations
    
    $
    9,782
    
    
    $
    9,782
    
    
    $
    
    
    
    $
    
    
    
    $
    Operating leases
    
    
    3,187
    
    
    
    258
    
    
    
    1,462
    
    
    
    900
    
    
    
    567Other purchase obligations
    
    
    579
    
    
    
    474
    
    
    
    105
    
    
    
    
    
    
    
    $
    13,548
    
    
    $
    10,514
    
    
    $
    1,567
    
    
    $
    900
    
    
    $
    567
    Off Balance Sheet
  Forward-Looking Statements
  25




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##### Table of Contents



Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
 Item 4 Controls and Procedures
   
 PART II OTHER INFORMATION
 
 Item 1A. Risk Factors
  Our success depends on our ability to attract, retain and grow our business with large enterprise
customers, and the long sales cycle with these customers makes planning and inventory management
difficult and future financial results less predictable.
  26




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##### Table of Contents




    
    our sales personnel generally need to explain and demonstrate the benefits of a
large-scale deployment of our products to potential and existing customers prior to sale;
    
    our technical personnel typically spend a significant amount of time assisting potential
customers in their testing and evaluation of our products and services and in integrating
the products to suit their needs;
    
    our large-scale customers are typically large and medium size organizations that
carefully research their technology needs and the many potential projects prior to making
capital expenditures for IT infrastructure; and
    
    before making a purchase, our potential customers usually must obtain approvals from
various levels of decision makers within their organizations, and this process can be
lengthy.
  Our success may depend on our ability to attract, retain and grow our business with small and
medium sized customers.
  Because we rely on resellers and distributors, including IBM and Lenovo, to sell our products, our
revenues could be negatively impacted if these companies do not continue to purchase products from
us.
   27




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##### Table of Contents



Our strategy depends on expanding and diversifying our distribution channels and if we fail in
these efforts, our business could be adversely affected.
  28




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##### Table of Contents



If we are unable to continue generating substantial revenues from international sales and
effectively managing our international operations our business could be adversely affected.
 , ,
  Our business is dependent on customer adoption of thin client devices as an alternative to personal
computers, and a decrease in their rates of adoption could adversely affect our ability to increase
our revenues.
   Our acquisition and alliance activities could disrupt our ongoing business, and we may not be able
to successfully complete and integrate future acquisitions we may complete, which may materially
adversely affect our growth and our operating results.
  29




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##### Table of Contents



Because we depend on sole source, limited source and foreign source suppliers for the design and
manufacture of our thin client products and for key components in our thin client products, we are
susceptible to supply shortages that could prevent us from shipping customer orders on time, if at
all, and result in lost sales. In addition, our outsourcing activities for other functions may fail
to reduce costs and may disrupt operations.
    30




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##### Table of Contents



Our ability to accurately forecast our quarterly sales is limited, although our costs are
relatively fixed in the short term, and we expect our business to be affected by rapid
technological change, which may adversely affect our quarterly operating results.
   
    
    Linearity  Our quarterly sales have historically reflected a pattern in which a
disproportionate percentage of sales occur in the last month of the quarter due to typical
customer buying patterns in the IT industry. This pattern makes prediction of revenues and
earnings for each financial period especially difficult and uncertain and increases the
risk of unanticipated variations in quarterly results and financial condition;
    
    Significant Orders  We are subject to variances in our quarterly operating results
because of the fluctuations in the timing of our receipt of large orders. If even a small
number of large orders are delayed until after a quarter ends, or do not materialize, our
operating results could vary substantially from quarter to quarter and net income could be
substantially less than expected. Conversely, if even a small number of large orders are
completed in an earlier quarter than that which was anticipated, our revenues and net
income could be substantially higher than expected, making it possible that sales and net
income in future periods may decline sequentially. Further, if orders substantially exceed
predicted demand, we may not be able to fulfill all of the orders received in the last few
weeks of the quarter;
    
    Seasonality  We have experienced seasonal reductions in business activity in some
quarters based upon customer activity and based upon our partners seasonality. This
pattern has generally resulted in lower sales in our first and third quarters than in the
prior sequential quarters; and
 31




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##### Table of Contents




    
    Stock-based compensation expense  Starting in the quarter ended September 30, 2005, we
began recording stock-based compensation expense as calculated under SFAS No. 123R. The
non-cash impact of stock-based compensation expense during fiscal 2006 was $3.4 million and
is expected to be $4.7 million in fiscal 2007. Such amounts may change as a result of
additional grants, forfeitures, modifications in assumptions and other factors.
  
    
    the growth and changing requirements of the thin client segment of the PC market;
    
    the quality, price, performance and total cost of ownership of our products compared to
personal computers;
    
    the availability, price, quality and performance of competing products and technologies;
    
    the timely development and introduction of new and enhanced products; and
    
    the successful development of our relationships with software providers, original
equipment manufacturers and existing and potential channel partners.
  Our inventory management is complex as we sell a significant mix of products and our revenues and
gross margins could suffer if we fail to manage the issues properly.
  Our gross margins can vary significantly, based upon a variety of factors. If we are unable to
sustain adequate gross margins we may be unable to reduce operating expenses in the short term,
resulting in losses.
 .
 32




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##### Table of Contents



During the past several years, we have increased operating expenses significantly as a foundation
for us to stimulate our growth and growth in our market, and we expect to increase our operating
expenses during fiscal 2007, including increases needed to implement our new sales and marketing and product development
initiatives. If we do not increase revenues or appropriately manage further increases in operating
expenses, our profitability will suffer.
  We may not generate sufficient future taxable income to allow us to realize our deferred tax
assets.
  Our business may suffer if it is alleged or found that we have infringed the intellectual property
rights of others.
   
    
    open source license terms may be ambiguous and may result in being subject to
unanticipated obligations regarding our products and technologies;
    
    competitors may have improved access to information that may help them develop
competitive products;
 33




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##### Table of Contents




    
    open source software cannot be protected under trade secret law; and
    
    it may be difficult for us to accurately determine the origin of the open source code
and whether the open source software in fact infringes third party intellectual property
rights.
 Thin client device products, like personal computers, are subject to rapid technological change due
to changing operating system software and network hardware and software configurations, and our
products could be rendered obsolete by new technologies.
  If we are unable to rapidly and successfully develop and introduce new products and manage our
inventory, we will not be able to satisfy customer demand.
 ,
  The virtualization products and solutions we are developing are based on an emerging technology and
the potential market remains uncertain and may cause delays in our sales cycles.
   We may not be able to preserve the value of our products intellectual property because other
vendors could challenge our intellectual property rights.
  34




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##### Table of Contents



We may not be able to effectively compete against PC and thin client providers as a result of their
greater financial resources and brand awareness.
   
    
    continually develop and introduce new products and services with better prices and
performance than offered by our competitors in the PC market;
    
    offer a wide range of products; and
    
    offer high-quality products and services.
   Actions taken by the SCO Group (SCO) could impact the sale of our Linux products, negatively
affecting sales of some of our products.
  35




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##### Table of Contents



In order to continue to grow our revenues, we may need to hire additional executives and personnel
and update
our IT infrastructure.
   
    
    improve existing and implement new operational, financial and management information
controls, reporting systems and procedures;
    
    hire, train and manage additional qualified personnel; and
    
    establish relationships with additional suppliers and partners while maintaining our
existing relationships.
 We rely on the services of certain key personnel, and those persons knowledge of our business and
technical expertise would be difficult to replace.
  If we determine that any of our goodwill or intangible assets, including technology purchased in
acquisitions, are impaired, we would be required to take a charge to earnings, which could have a
material adverse effect on our results of operations.
  We might repatriate cash from our foreign subsidiaries, which could result in additional income
taxes that could negatively impact our results of operations and financial position. In addition,
if foreign countries currency policies limit our ability to repatriate the needed funds, our
business and results of operations could be adversely impacted.
  36




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##### Table of Contents



Although we have generated operating profits for the past five fiscal years, we have a prior
history of losses and may experience losses in the future, which could result in the market price
of our common stock declining.
   Because some of our products use embedded versions of Microsoft Windows as their operating system,
an inability to license these operating systems on favorable terms could impair our ability to
introduce new products and maintain market share.
  Because some of our products use Linux as their operating system as well as other open source
technologies, the failure of open source developers to enhance and develop open source software
that we use could impair our ability to release new products and maintain market share.
  If our contracts with Citrix and other vendors of software applications were terminated, our
business would be materially adversely affected.
  Unforeseen environmental costs could impact our future earnings.
 .
 Recent regulations related to equity compensation could adversely affect our ability to attract and
retain key personnel and affect our operating results.
  37




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##### Table of Contents



Share-Based Payment
 In the event we are unable to satisfy regulatory requirements relating to internal controls over
financial reporting, or if these internal controls are not effective, our business and financial
results may suffer.
 .
 Errors in our products could harm our business and our operating results.
  
    
    the loss of or delay in market acceptance and sales of our products;
    
    diversion of development resources;
    
    injury to our reputation;
    
    unsaleable inventory; or
    
    increased maintenance and warranty costs.
   38




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##### Table of Contents



Our stock price can be volatile.
 ,
 The issuance of additional equity securities may have a dilutive effect on our existing
stockholders and could lead to a decline in the price of our common stock.
  Provisions in our charter documents and Delaware law may delay or prevent acquisition of us, which
could decrease the value of your shares.
  
 Item 6. Exhibits
  ExhibitNumber
    
    Description31.1
    
    Certification of Klaus Besier as President and Chief Executive Officer of Neoware, Inc.
pursuant to Section 302 of the Sarbanes-Oxley Act of 200231.2
    
    Certification of Keith D. Schneck as Executive Vice President and Chief Financial
Officer of Neoware, Inc. pursuant to Section 302 of the Sarbanes-Oxley Act of 200232.1
    
    Certification of Klaus Besier as President and Chief Executive Officer of Neoware, Inc.
pursuant to Section 906 of the Sarbanes-Oxley Act of 200232.2
    
    Certification Keith D. Schneck as Executive Vice President and Chief Financial Officer
of Neoware, Inc pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 39




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##### Table of Contents



SIGNATURES
  NEOWARE, INC.Date:  May 10, 2007
    By:
    /s/ KLAUS BESIERKlaus BesierPresident and Chief Executive OfficerDate:  May 10, 2007
    By:
    /s/ KEITH D. SCHNECKKeith D. SchneckExecutive Vice President and Chief Financial Officer 40