**UNITED
      STATES SECURITIES AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**









**Form
      10-K**





**(Mark
      One)**





**x**
            **ANNUAL
                REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                ACT OF
                1934**





**For
      the fiscal year ended December 31, 2007**


**or**





**o**
            **TRANSITION
                REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                ACT OF
                1934**





**For
      the transition period
      from                          
to                          
..**





**Commission
      File Number 000-30715**





**CoSine
      Communications, Inc.**


*(Exact
      name of registrant as specified in its charter)*





**Delaware**
            **94-3280301***(State
                or other jurisdiction of*
            *(I.R.S.
                Employer**incorporation
                or organization)*
            *Identification
                Number)*




**61
                East Main Street, Suite B**
              **Los
                Gatos, California**
            **95030***(Address
                of principal executive offices)*
            *(Zip
                Code)*





**Registrant’s
      telephone number including area code:**


**(408)
      399-6494**





**Securities
      Registered Pursuant to Section 12(b) of the Act:**


**None**





**Securities
      Registered Pursuant to Section 12(g) of the Act:**


**Common
      Stock, $.0001 Par Value**


*(Title
      of each class)*





Indicate
      by check mark if the Registrant is a well-known seasoned issuer, as defined
      in
      Rule 405 of the Securities Act.


Yes
      o No x





Indicate
      by check mark if the Registrant is not required to file reports pursuant to
      Section 13 or Section 15(d) of the Act.


Yes
      o No x





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




Indicate
      by check mark if disclosure of delinquent filers pursuant to Item 405 of
      Regulation S-K is not contained herein, and will not be contained, to the best
      of registrant’s knowledge, in definitive proxy or information statements
      incorporated by reference in Part III of this Form 10-K or any amendment to
      this
      Form 10-K. o





Indicate
      by check mark whether the Company is a large accelerated filer, an accelerated
      filer, a non-accelerated filer, or a small reporting company. See definition
      of
“large accelerated filer,” “accelerated filer” and “small reporting company” in
      Rule 12b-2 of the Exchange Act:







Large
              accelerated filer o
            Accelerated
              filer oNon-accelerated
              filer o (Do not check if
              a smaller reporting company)
            Small reporting company x




Indicate
      by check mark whether the Registrant is a shell company (as defined in Rule
      12b-2 of the Act). Yes
      x  No o





The
      aggregate market value of the voting and non voting common equity held by
      non-affiliates of the Registrant was $15,412,353 based on the number of shares
      held by non-affiliates as of March 1, 2008, and based on the reported last
      sale
      price of common stock on June 30, 2007, which is the last business day of the
      Registrant’s most recently completed second fiscal quarter. Shares of stock held
      by officers, directors and 5 percent or more stockholders have been excluded
      in
      that such persons may be deemed to be affiliates. This determination of
      affiliate status is not necessarily a conclusive determination for other
      purposes.





As
      of
      March 1, 2008, there were 10,090,635 shares of the Registrant’s Common Stock
      outstanding.





**DOCUMENTS
      INCORPORATED BY REFERENCE**





Portions
      of the Proxy Statement for our 2008 Annual Meeting of Shareholders are
      incorporated into Part III of this Form 10-K.







**COSINE
      COMMUNICATIONS, INC.**





**FORM
      10-K**


**Year
      Ended December 31, 2007**





**TABLE
      OF CONTENTS**





**Page****Part
                I**Item
                1.
            
            Business
            
            3Item
                1A
            
            Risk
                Factors
            
            6Item
                1B
            
            Unresolved
                Staff Comments
            
            10Item
                2.
            
            Properties
            
            10Item
                3.
            
            Legal
                Proceedings
            
            10Item
                4.
            
            Submission
                of Matters to a Vote of Security Holders
            
            11**Part
                II**Item
                5.
            
            Market
                for Registrant’s Common Equity, Related Stockholder Matters and Issuer
                Purchases of Equity Securities
            
            11Item
                6.
            
            Selected
                Financial Data
            
            13Item
                7.
            
            Management’s
                Discussion and Analysis of Financial Condition and Results of
                Operations
            
            14Item
                7A.
            
            Quantitative
                and Qualitative Disclosures about Market Risk
            
            21Item
                8.
            
            Financial
                Statements and Supplementary Data
            
            23Item
                9.
            
            Changes
                in and Disagreements with Accountants on Accounting and Financial
                Disclosure
            
            43Item
                9A.
            
            Controls
                and Procedures
            
            44Item
                9B.
            
            Other
                Information
            
            44**Part
                III**Item
                10.
            
            Directors,
                Executive Officers and Corporate Governance
            
            44Item
                11.
            
            Executive
                Compensation
            
            45Item
                12.
            
            Security
                Ownership of Certain Beneficial Owners and Management and Related
                Stockholder Matters
            
            45Item
                13.
            
            Certain
                Relationships and Related Transactions and Director
                Independence
            
            45Item
                14.
            
            Principal
                Accountant Fees and Services
            
            45**Part
                IV**Item
                15.
            
            Exhibits
            
            45Financial
                Statement Schedules
            
            45Signatures
            
            47Exhibit
                Index
            
            48




2




**SAFE
      HARBOR STATEMENT UNDER**


**PRIVATE
      SECURITIES LITIGATION REFORM ACT OF 1995**





This
      Annual Report on Form 10-K contains forward-looking statements. We use words
      such as "anticipate," "believe," "plan," "expect," "future," "intend" and
      similar expressions to identify forward-looking statements. These
      forward-looking statements are subject to certain risks and uncertainties that
      could cause actual results to differ materially from those reflected in the
      forward-looking statements. Factors that might cause such a difference include,
      but are not limited to, failure to achieve revenue growth and profitability,
      our
      ability to identify and acquire new business operations, the time and costs
      required to identify and acquire new business operations, management and board
      interest in and distraction due to identifying and acquiring new business
      operations, and the reactions, either positive or negative, of investors and
      others to our strategic direction and to any specific business opportunity
      selected by us, all as are discussed in more detail in the section entitled
      "Risk Factors" on pages 7 to 11 of this report, as well as the other risk
      factors discussed in that section. Readers are cautioned not to place undue
      reliance on these forward-looking statements, which reflect management’s
      opinions only as of the date hereof. We undertake no obligation to revise or
      publicly release the results of any revision to these forward-looking
      statements. Readers should carefully review the risk factors described in other
      documents that we file from time to time with the Securities and Exchange
      Commission, including the Quarterly Reports on Form 10-Q that we file in fiscal
      year 2008.





**PART
      I**





**Item
      1.** ***Business***





**Overview**





CoSine
      Communications, Inc. ("CoSine" or the "Company," which may be referred to as
      "we," "us" or "our") was incorporated in California on April 14, 1997 and in
      August 2000 was reincorporated in the State of Delaware. We were a provider
      of
      carrier network equipment products and services until the fourth quarter of
      fiscal year 2004 during which time we discontinued our product lines, took
      actions to lay off most of our employees, terminated contract manufacturing
      arrangements, contractor and consulting arrangements and various facility
      leases, and sold, scrapped or wrote-off our inventory, property, and equipment.
      From the fourth quarter of fiscal year 2004 through December 31, 2006, our
      business consisted primarily of a customer support capability for our
      discontinued products provided by a third party. In March 2006, we sold the
      rights to our patent portfolio, and in November 2006, we sold the remaining
      intellectual property rights to our carrier network equipment products and
      services. We terminated all customer service operations effective December
      31,
      2006 and do not intend to offer customer support services for our discontinued
      products in the future. We are currently attempting to redeploy our existing
      assets by identifying and acquiring one or more new business operations with
      existing or prospective taxable earnings that can be offset by use of our net
      operating loss carry-forwards (“NOLs”). No candidate for acquisition has yet
      been identified, and no assurance can be given that we will find suitable
      candidates, and if we do, that we will be able to utilize our existing NOLs.





**Current
      Business**





In
      July
      2005 after discontinuing our product lines, we completed a comprehensive review
      of strategic alternatives, including a sale of the Company, a sale or licensing
      of intellectual property, a redeployment of our assets into new business
      ventures, or a winding-up and liquidation of the business and a return of
      capital. Our board of directors approved a plan to enhance stockholder value
      by
      redeploying our existing assets and resources to identify and acquire one or
      more new business operations, while continuing to support our existing
      customers. With the termination of our customer service operations effective
      December 31, 2006, our current business involves the redeployment of our
      existing assets to acquire one or more operating businesses with existing or
      prospective taxable earnings that can be offset by use of our NOLs. No candidate
      for acquisition has yet been identified, and no assurance can be given that
      we
      will find suitable candidates, and if we do, that we will be able to utilize
      our
      existing NOLs.





To
      protect our NOLs, on September 1, 2005, we entered into a stockholders rights
      plan which provided for a dividend distribution of one preferred share purchase
      right for each outstanding share of our common stock which, when exercisable,
      would allow its holder to purchase from us one one-hundredth of a share of
      our
      Series A Junior Participating Preferred Stock, par value $0.0001, for a purchase
      price of $3.00. Each fractional share of this preferred stock would give the
      stockholder approximately the same dividend, voting and liquidation rights
      as
      does one share of our common stock. The purchase rights become exercisable
      after
      the acquisition or attempted acquisition of 5% or more of our outstanding common
      stock without the prior approval of our board of directors. The dividend was
      paid to our stockholders of record at the close of business on September 12,
      2005. Our board of directors adopted the stockholders rights plan to protect
      stockholder value by protecting our stockholders from coercive takeover
      practices or takeover bids that are inconsistent with their best interests,
      and
      by protecting our ability to carry forward our NOLs.




3
 
  On
          August
          31, 2007, we amended the stockholders rights plan. The amendment extends
          the
          expiration date of the purchase rights from September 1, 2007 until September
          1,
          2009, unless earlier redeemed, exchanged, or amended by the board of directors.
          The amendment was not made in response to any pending takeover bid for
          us.
 
 To
          further protect our NOLs, at our 2005 Annual Meeting of Stockholders, the
          stockholders approved an amendment to our Certificate of Incorporation.
          The
          amendment restricts certain acquisitions of our securities which could
          impair or
          limit our ability to utilize our NOLs. Although the transfer restrictions
          imposed on our securities are intended to reduce the likelihood of an
          impermissible ownership change, no assurance can be given that such restrictions
          would prevent all transfers that would result in an impermissible ownership
          change. This amendment generally restricts and requires prior approval
          of our
          board of directors of direct and indirect acquisitions of our equity securities
          if such an acquisition will affect the percentage of our capital stock
          that is
          treated as owned by a 5% stockholder. The restrictions will generally only
          affect persons trying to acquire a significant interest in our common stock
          in
          order to help assure the preservation of our NOLs.


In
      efforts to reduce our operating expenses while executing our redeployment
      strategy, on June 15, 2007, our board of directors approved an agreement (the
      “Services Agreement”) with SP Corporate Services, LLC (“SP”) pursuant to which
      SP provides us, on a non-exclusive basis, a full range of executive, financial
      and administrative support services and personnel, including the services of
      a
      Chief Executive Officer, Chief Financial Officer, Secretary, Principal Executive
      Officer, and Principal Accounting Officer, maintenance of our corporate office
      and records, periodic reviews of transactions in our stock to assist in
      preservation of our NOLs, and related executive, financial, accounting, and
      administrative support services. The Service Agreement became effective as
      of
      July 1, 2007. Under the Services Agreement, we pay SP a monthly fee of $17,000
      in exchange for SP's services. SP is responsible for compensating and providing
      all applicable employment benefits to any SP personnel in connection with
      providing services under the Services Agreement. We reimburse SP for reasonable
      and necessary business expenses of ours incurred by SP, and we are responsible
      for payment of fees related to audit, tax, legal, stock transfer, insurance
      broker, investment advisor, and banking services provided to us by third party
      advisors. The Services Agreement has a term of one year and automatically renews
      for successive one year periods unless otherwise terminated by either party.
      The
      Services Agreement is also terminable by us upon the death of Terry R. Gibson
      or
      his resignation as our Chief Executive Officer, Chief Financial Officer or
      Secretary of the Company. Under the Services Agreement, SP and its personnel
      are
      entitled to the same limitations on liability and indemnity rights available
      under our charter documents to any other person performing such services for
      us.
      During fiscal year 2007, prior to the effectiveness of the Services Agreement,
      we incurred approximately $24,500 per month in performing the services which
      are
      to be performed by SP under the Services Agreement.




SP
      is
      affiliated with Steel Partners II, L.P., our largest stockholder, by virtue
      of
      SP’s President, Warren Lichtenstein, serving as the sole executive officer and
      managing member of Steel Partners, L.L.C., the general partner of Steel Partners
      II, L.P. SP is a wholly owned subsidiary of Steel Partners Ltd., also controlled
      by Mr. Lichtenstein.




Pursuant
      to the Services Agreement, Terry R. Gibson terminated his employment with us,
      effective as of June 30, 2007, but continues to serve as our Chief Executive
      Officer, Chief Financial Officer, Secretary, Principal Executive Officer, and
      Principal Accounting Officer as an employee of SP. SP is responsible for
      compensating Mr. Gibson, including providing him with all applicable employment
      benefits to which he may be entitled, for his serving as our Chief Executive
      Officer, Chief Financial Officer, Secretary, Principal Executive Officer, and
      Principal Accounting Officer and for any other services he may provide to us
      under the Services Agreement.





**Prior
      Business**





Until
      September 2004, we developed, marketed and sold a communications platform
      referred to as our IP Service Delivery Platform. Our product was designed to
      enable carrier network service providers to rapidly deliver a portfolio of
      communication services to business and consumer customers. We marketed our
      IP
      Service Delivery Platform through our direct sales force and through resellers
      to network service providers in Asia, Europe and North America.





We
      did
      not generate sufficient revenue to fund our communications platform product
      operations and were unable to increase our revenue in order to reduce our cash
      consumption and remain a viable and competitive supplier of communications
      platform products. We formally discontinued our communications platform products
      in fiscal year 2004 and ceased all our related customer support services as
      of
      December 31, 2006.




4


**Products,
      Services and Technology**





Prior
      to
      discontinuing the sale of our products in September 2004, we were a supplier
      of
      carrier network equipment which we referred to as our IP Service Delivery
      Platform. Our IP Service Delivery Platform consisted of hardware elements:
      a
      chassis, including our IPSX 9500 and IPSX 3500 Service Processing Switches,
      and
      sub-systems known as our IPSGs; and software components consisting of our
      InVision and InGage software. We formally discontinued our IP Service Delivery
      Platform in fiscal year 2004, sold the rights to our patent portfolio in March
      2006, sold the remaining rights to our carrier network intellectual property
      in
      November 2006 and ceased all our related customer support services as of
      December 31, 2006.




**Customers**





Effective
      December 31, 2006, we ceased all customer service operations. During the year
      ended December 31, 2006, we recognized revenue from seven customers. Sprint,
      AT&T and Rogers Telecom accounted for 58%, 19% and 11% of our revenue,
      respectively. Geographically, our revenue was distributed as follows: North
      America 89% and Europe 11% (See Note 1 of the Notes to Consolidated Financial
      Statements). A small number of customers accounted for a substantial portion
      of
      our revenues, and the loss of any one customer would have a material impact
      on
      our results of operations. At December 31, 2007, we had no
      customers.





**Sales
      and Marketing**





We
      ceased
      all sales and marketing activities in September 2004. We had no sales and
      marketing employees at December 31, 2007.





**Customer
      Service and Support**





Beginning
      in the fourth quarter of fiscal 2004, we provided transition support services
      to
      our existing customers through a third party contractor. We ceased providing
      customer support services effective December 31, 2006. We had no employees
      in
      customer service and support at December 31, 2007.





**Research
      and Development**





We
      ceased
      all research and development activities in September 2004, other than to offer
      our existing customers transition support services, as provided by a third
      party
      contractor through December 31, 2006. At December 31, 2007, we had no employees
      in research and development.





Our
      research and development expenses, including non-cash charges related to equity
      issuances, totaled nil, nil and $0.1 million for the years ended December 31,
      2007, 2006 and 2005, respectively.





**Manufacturing**





We
      ceased
      all manufacturing activities in December 2004 and had no employees in
      manufacturing at December 31, 2007.





**Backlog**





Historically,
      our backlog included purchase orders from customers with approved credit status,
      representing products and services we planned to deliver within 12 months,
      plus
      our then current balance of deferred revenue. At December 31, 2007, 2006 and
      2005, we had no backlog.





**Competition**





We
      provided transition support services for our discontinued products to our
      existing customers beginning in the fourth quarter of fiscal 2004 through
      December 31, 2006 at which time we terminated all such services. Due to the
      fact
      that our transition support services were limited to our own discontinued
      products and the limited period of availability for those transition support
      services, we did not foresee any material competition for our transition support
      services.




5




With
      the
      termination of our customer service operations effective December 31, 2006,
      our
      current business involves the redeployment of our existing assets to acquire
      one
      or more operating businesses with existing or prospective taxable earnings
      that
      can be offset by use of our NOLs. No candidate for acquisition has yet been
      identified, and no assurance can be given that we will find suitable candidates,
      and if we do, that we will be able to utilize our existing NOLs. We are
      encountering competition from other entities seeking to acquire profitable
      businesses. Such entities include private equity companies, blank check
      companies, leveraged buyout funds, as well as operating businesses seeking
      acquisitions. Many of these entities are well established and have extensive
      experience identifying and effecting business combinations directly or through
      affiliates. Moreover, many of these entities possess greater financial,
      technical, human, and other resources than us.




**Intellectual
      Property**





We
      have
      relied on copyright, patent, trade secret, and trademark law to protect our
      intellectual property. In March 2006, we sold the rights to our patent portfolio
      for cash consideration of $180,000, retaining a royalty-free license allowing
      us
      to continue to use our former patent portfolio in support of our existing
      customers. In November 2006, we sold the remaining intellectual property rights
      related to our carrier networking products and services for consideration of
      $80,000, retaining rights to support our existing customers through December
      31,
      2006.





**Employees**





We
      have
      no employees at December 31, 2007.





**Executive
      Officers of the Registrant**





Terry
      R.
      Gibson, 54, has served as our Chief Executive Officer since January 16, 2005,
      as
      our Secretary since September 23,2004, and as our Executive Vice President
      and
      Chief Financial Officer since joining us in 2002. Mr. Gibson is a Managing
      Director of SP Corporate Services, LLC (“SP”) an affiliate of Steel Partners II,
      L.P., our largest shareholder. Pursuant to a service agreement between the
      Company and SP, effective July 1, 2007, Mr. Gibson terminated his employment
      with us and joined SP as a Managing Director, however, he continues to serve as
      our Chief Executive Officer, Chief Financial Officer, Secretary, Principal
      Executive Officer, and Principal Accounting Officer as an employee of SP. Prior
      to joining us, Mr. Gibson served as Chief Financial Officer of Calient Networks,
      Inc. from May 2000 to December 2001. He served as Chief Financial Officer of
      Ramp Networks, Inc. from March 1999 to May 2000 and as Chief Financial Officer
      of GaSonics, International, from June 1996 through March 1999. He has also
      served as Vice President and Corporate Controller of Lam Research Corporation
      from February 1991 through June 1996. Mr. Gibson holds a B.S. in Accounting
      from
      the University of Santa Clara. ****





**Available
      Information**





We
      file
      annual reports, quarterly reports, proxy statements and other documents with
      the
      Securities and Exchange Commission ("SEC") under the Securities Exchange Act
      of
      1934 (the "Exchange Act"). The public may read and copy any materials that
      we
      file with the SEC at the SEC's Public Reference Room at 450 Fifth Street N.W.,
      Washington, D.C. 20549. The public may obtain information on the operation
      of
      the public Reference Room by calling the SEC at 1-800-SEC-0330. Also, the SEC
      maintains an Internet site that contains reports, proxy and information
      statements, and other information regarding issuers, including us, that file
      electronically with the SEC. The public can obtain any documents that we file
      with the SEC at http://www.sec.gov.





**Item
      1A.** ***Risk
      Factors***





Our
      future results and the market price for our stock are subject to numerous risks,
      many of which are driven by factors that we cannot control or predict. The
      following discussion, as well as other sections of this Annual Report on Form
      10-K including Item 7 – Management's Discussion and Analysis of Financial
      Condition and Results of Operations, describes certain risk factors related
      to
      our business. You should carefully consider the risk factors described below
      in
      conjunction with the other information in this document.




6




***We
      have sold our operating assets, our patent portfolio, and our intellectual
      property and are executing a redeployment strategy. There can be no assurance
      that the redeployment strategy will increase shareholder value, and we may
      decide to liquidate.***




Between
      September 2004 and December 2004, we announced the termination of most of our
      employees and that our products had been formally discontinued to facilitate
      the
      strategic alternatives then in consideration and ceased all operations other
      than a customer service and support capability. In July 2005, we completed
      a
      comprehensive review of strategic alternatives and approved a plan to redeploy
      our existing resources to identify and acquire one or more new business
      operations, while continuing to support our existing customers and continuing
      to
      offer our intellectual property for license or sale. In March 2006, we sold
      the
      rights to our patent portfolio, and in November 2006, we sold the remaining
      intellectual property rights related to our carrier network equipment products
      and services. In December 2006, we discontinued our customer service business.
      If we are not successful in executing our redeployment strategy we will continue
      to incur operating losses and negative cash flow and may at some point decide
      to
      liquidate and return the net proceeds to our stockholders. In the case of a
      liquidation or bankruptcy, we would need to hold back or distribute assets
      to
      cover liabilities before paying stockholders, which may therefore reduce or
      delay the proceeds that stockholders may receive for their ownership in us.
      However, we believe we have adequate cash resources to continue to realize
      our
      assets and discharge our liabilities as a company through
      2008.




***Failure
      to execute our redeployment strategy could cause our stock price to decline.***




Our
      stock
      price may decline due to any or all of the following potential occurrences:





·
            we
                may not be able to find suitable acquisition candidates or may not
                be able
                to acquire suitable candidates with our limited financial
                resources;





·
            we
                may not be able to utilize our existing NOLs to offset future
                earnings;





·
            we
                may have difficulty retaining our board of directors or attracting
                suitable qualified candidates should a director
                resign.





***We
      will incur significant costs in connection with our evaluation of suitable
      acquisition candidates.***





As
      part
      of our plan to redeploy our assets, our management is seeking, analyzing and
      evaluating potential acquisition and merger candidates. We will incur
      significant costs, such as due diligence and legal and other professional fees
      and expenses, as part of these redeployment efforts. Notwithstanding these
      efforts and expenditures, we cannot give any assurance that we will identify
      an
      appropriate acquisition opportunity in the near term, or at all.





***We
      will likely have no operating history in our new line of business, which is
      yet
      to be determined, and therefore we will be subject to the risks inherent in
      establishing a new business.***





We
      have
      not identified what our new line of business will be and, therefore, we cannot
      fully describe the specific risks presented by such a business. It is likely
      that we will have had no operating history in the new line of business and
      it is
      possible that the target company may have a limited operating history in its
      business. Accordingly, there can be no assurance that our future operations
      will
      generate operating or net income, and as such our success will be subject to
      the
      risks, expenses, problems, and delays inherent in establishing a new line of
      business for us. The ultimate success of such new business cannot be
      assured.





***We
      may be unable to realize the benefits of our net operating loss carry-forwards
      ("NOLs").***





NOLs
      may
      be carried forward to offset federal and state taxable income in future years
      and eliminate income taxes otherwise payable on such taxable income, subject
      to
      certain adjustments. Based on current federal corporate income tax rates, our
      NOLs and other carry-forwards could provide a benefit to us, if fully utilized,
      of significant future tax savings. However, our ability to use these tax
      benefits in future years will depend upon the amount of our otherwise taxable
      income. If we do not have sufficient taxable income in future years to use
      the
      tax benefits before they expire, we will lose the benefit of these NOLs
      permanently. Consequently, our ability to use the tax benefits associated with
      our substantial NOLs will depend significantly on our success in identifying
      suitable acquisition candidates, and once identified, successfully consummating
      an acquisition of these candidates.





Additionally,
      if we underwent an ownership change, the NOLs would be subject to an annual
      limit on the amount of the taxable income that may be offset by our NOLs
      generated prior to the ownership change. If an ownership change were to occur,
      we may be unable to use a significant portion of our NOLs to offset taxable
      income. In general, an ownership change occurs when, as of any testing date,
      the
      aggregate of the increase in percentage points is more than 50 percentage points
      of the total amount of a corporation's stock owned by "5-percent stockholders,"
      within the meaning of the NOLs limitations, whose percentage ownership of the
      stock has increased as of such date over the lowest percentage of the stock
      owned by each such "5-percent stockholder" at any time during the three-year
      period preceding such date. In general, persons who own 5% or more of a
      corporation's stock are "5-percent stockholders," and all other persons who
      own
      less than 5% of a corporation's stock are treated, together, as a single, public
      group "5-percent stockholder," regardless of whether they own an aggregate
      of 5%
      of a corporation's stock.




7




The
      amount of NOLs that we have claimed has not been audited or otherwise validated
      by the U.S. Internal Revenue Service (“IRS”). The IRS could challenge our
      calculation of the amount of our NOLs or our determinations as to when a prior
      change in ownership occurred and other provisions of the Internal Revenue Code
      may limit our ability to carry forward our NOLs to offset taxable income in
      future years. If the IRS was successful with respect to any such challenge,
      the
      potential tax benefit of the NOLs to us could be substantially
      reduced.





***Certain
      transfer restrictions implemented by us to preserve our net operating loss
      carryforwards may not be effective or may have some unintended negative
      effects.***





On
      November 15, 2005, at our 2005 Annual Meeting of Stockholders, our stockholders
      approved an amendment to our Amended and Restated Certificate of Incorporation
      to restrict certain acquisitions of our securities in order to help assure
      the
      preservation of our NOLs. The amendment generally restricts direct and indirect
      acquisitions of our equity securities if such acquisition will affect the
      percentage of our capital stock that is treated as owned by a "5-percent
      stockholder."





Although
      the transfer restrictions imposed on our capital stock are intended to reduce
      the likelihood of an impermissible ownership change, there is no guarantee
      that
      such restrictions would prevent all transfers that would result in an
      impermissible ownership change. The transfer restrictions also will require
      any
      person attempting to acquire a significant interest in us to seek the approval
      of our board of directors. This may have an "anti-takeover" effect because
      our
      board of directors may be able to prevent any future takeover. Similarly, any
      limits on the amount of capital stock that a stockholder may own could have
      the
      effect of making it more difficult for stockholders to replace current
      management. Additionally, because the transfer restrictions will have the effect
      of restricting a stockholder's ability to dispose of or acquire our common
      stock, the liquidity and market value of our common stock might
      suffer.





***We
      could be required to register as an investment company under the Investment
      Company Act of 1940, which could significantly limit our ability to operate
      and
      acquire an established business.***





The
      Investment Company Act of 1940 (the "Investment Company Act") requires
      registration, as an investment company, for companies that are engaged primarily
      in the business of investing, reinvesting, owning, holding, or trading
      securities. We have sought to qualify for an exclusion from registration
      including the exclusion available to a company that does not own "investment
      securities" with a value exceeding 40% of the value of its total assets on
      an
      unconsolidated basis, excluding government securities and cash items. This
      exclusion, however, could be disadvantageous to us and/or our stockholders.
      If
      we were unable to rely on an exclusion under the Investment Company Act and
      were
      deemed to be an investment company under the Investment Company Act, we would
      be
      forced to comply with substantive requirements of the Investment Company Act,
      including: (i) limitations on our ability to borrow; (ii) limitations on our
      capital structure; (iii) restrictions on acquisitions of interests in associated
      companies; (iv) prohibitions on transactions with affiliates; (v) restrictions
      on specific investments; (vi) limitations on our ability to issue stock options;
      and (vii) compliance with reporting, record keeping, voting, proxy disclosure,
      and other rules and regulations. Registration as an investment company would
      subject us to restrictions that would significantly impair our ability to pursue
      our fundamental business strategy of acquiring and operating an established
      business. In the event the SEC or a court took the position that we were an
      investment company, our failure to register as an investment company would
      not
      only raise the possibility of an enforcement action by the SEC or an adverse
      judgment by a court, but also could threaten the validity of corporate actions
      and contracts entered into by us during the period we were deemed to be an
      unregistered investment company. Moreover, the SEC could seek an enforcement
      action against us to the extent we were not in compliance with the Investment
      Company Act during any point in time.





***We
      may issue a substantial amount of our common stock in the future which could
      cause dilution to new investors and otherwise adversely affect our stock
      price.***





A
      key
      element of our growth strategy is to make acquisitions. As part of our
      acquisition strategy, we may issue additional shares of common stock as
      consideration for such acquisitions. These issuances could be significant.
      To
      the extent that we make acquisitions and issue our shares of common stock as
      consideration, your equity interest in us will be diluted. Any such issuance
      will also increase the number of outstanding shares of common stock that will
      be
      eligible for sale in the future. Persons receiving shares of our common stock
      in
      connection with these acquisitions may be more likely to sell off their common
      stock, which may influence the price of our common stock. In addition, the
      potential issuance of additional shares in connection with anticipated
      acquisitions could lessen demand for our common stock and result in a lower
      price than might otherwise be obtained. We may issue common stock in the future
      for other purposes as well, including in connection with financings, for
      compensation purposes, in connection with strategic transactions, or for other
      purposes.




8




***Our
      customers may sue us because we discontinued our products and may not meet
      all
      our contractual commitments.*** ****




Certain
      of our customer contracts contained provisions relating to the availability
      of
      products, spare parts, and services for periods up to ten years. We have worked
      with our customers to aid in a smooth transition, but our customers may choose
      to sue us for breach of contract.




***If
      our products contain defects, we may be subject to significant liability claims
      from customers, distribution partners, and the end-users of our products and
      incur significant unexpected expenses and lost sales.*** ****




Our
      products are technically complex and can be adequately tested only when put
      to
      full use in large and diverse networks with high amounts of traffic. They have
      in the past contained, and may in the future contain, undetected or unresolved
      errors or defects. Despite extensive testing, errors, defects, or failures
      may
      be found in our products. If this happens, we may experience product returns,
      increased service and warranty costs, any of which could have a material adverse
      effect on our business, financial condition, and results of operations.
      Moreover, because our products are designed to provide critical communications
      services, we may receive significant liability claims. We attempted to include
      in our agreements with customers and distribution partners provisions intended
      to limit our exposure to liability claims. However, such provisions may not
      be
      effective in any or all cases or under any or all scenarios, and they may not
      preclude all potential claims resulting from a defect in one of our products
      or
      from a defect related to the installation or operation of one of its products.
      Although we maintain product liability and errors and omissions insurance
      covering certain damages arising from implementation and use of their products,
      our insurance may not cover all claims sought against us. Liability claims
      could
      require us to spend significant time and money in litigation or to pay
      significant damages. As a result, any such claims, whether or not successful,
      could seriously damage our business prospects.




***If
      we became involved in an intellectual property dispute, we could be subject
      to
      significant liability and the time and attention of our management could be
      diverted from pursuing strategic alternatives.*** ****




We
      may
      become a party to litigation in the future because others may allege
      infringement of their intellectual property. These claims and any resulting
      lawsuits could subject us to significant liability for damages. These lawsuits,
      regardless of their merits, likely would be time-consuming and expensive to
      resolve and would divert management’s time and attention. Any potential
      intellectual property litigation alleging our infringement of a third-party’s
      intellectual property also could force us to:




·
            obtain
                from the owner of the infringed intellectual property right a license
                to
                sell the relevant technology, which license may not be available
                on
                reasonable terms, or at all; or




·
            redesign
                those products or services that use the infringed
                technology.




**If****we
      cannot obtain director and officer liability insurance in acceptable amounts
      for
      acceptable rates, we may have difficulty recruiting and retaining qualified
      directors and officers.**





Like
      most
      other public companies, we carry insurance protecting our officers and directors
      against claims relating to the conduct of our business. This insurance covers,
      among other things, the costs incurred by companies and their management to
      defend against and resolve claims relating to management conduct and results
      of
      operations, such as securities class action claims. These claims typically
      are
      expensive to defend against and resolve. We pay significant premiums to acquire
      and maintain this insurance, which is provided by third-party insurers, and
      we
      agree to underwrite a portion of such exposures under the terms of the insurance
      coverage. One consequence of the current economic downturn and decline in stock
      prices has been a substantial increase in the number of securities class actions
      and similar claims brought against public corporations and their management,
      including the company and certain of its current and former officers and
      directors. Consequently, insurers providing director and officer liability
      insurance have in recent periods sharply increased the premiums they charge
      for
      this insurance, raised retentions (that is, the amount of liability that a
      company is required to pay to defend and resolve a claim before any applicable
      insurance is provided), and limited the amount of insurance they will provide.
      Moreover, insurers typically provide only one-year policies. The insurance
      policies that may cover any current securities claims against us have a $500,000
      retention. As a result, the costs we incur in defending such claims will not
      be
      reimbursed until they exceed $500,000 .
      The policies
      that would cover any future claims may not provide any coverage to us and may
      cover the directors and officers only in the event we are unwilling or unable
      to
      cover their costs in defending against and resolving any future claims. As
      a
      result, our costs in defending any future claims could increase significantly.
      Particularly in the current economic environment, we cannot assure you that
      in
      the future we will be able to obtain sufficient director and officer liability
      insurance coverage at acceptable rates and with acceptable deductibles and
      other
      limitations. Failure to obtain such insurance could materially harm our
      financial condition in the event that we are required to defend against and
      resolve any future or existing securities class actions or other claims made
      against us or our management arising from the conduct of our operations.
      Further, the inability to obtain such insurance in adequate amounts may impair
      our future ability to retain and recruit qualified officers and
      directors.




9


***Our
      earnings are sensitive to fluctuations in interest
      rates.***




Our
      business no longer generates any revenues as we ceased all customer operations
      as of December 31, 2006. Our net income depends on the amount of interest paid
      on the investment of our cash in cash equivalents and other short term
      investments. Accordingly, our earnings are subject to risks and uncertainties
      surrounding changes in the interest rate environment





**Item
      1B.** ***Unresolved
      Staff Comments***





None.





**Item
      2.** ***Properties***





We
      lease approximately 1,000 square feet of office space in Los Gatos, California
      under an operating lease.





**Item
      3.** ***Legal
      Proceedings***




On
      November 15, 2001, we, along with certain of our officers and directors, were
      named as defendants in a class action shareholder complaint filed in the United
      States District Court for the Southern District of New York, now captioned
      In re
      CoSine Communications, Inc. Initial Public Offering Securities Litigation,
      Case
      No. 01 CV 10105. The complaint generally alleges that various investment bank
      underwriters engaged in improper and undisclosed activities related to the
      allocation of shares in our initial public offering. The complaint brings claims
      for the violation of several provisions of the federal securities laws against
      those underwriters, and also against us and each of the directors and officers
      who signed the registration statement relating to the initial public offering.
      The plaintiffs seek unspecified monetary damages and other relief. Similar
      lawsuits concerning more than 300 other companies' initial public offerings
      were
      filed during 2001, and this lawsuit is being coordinated with those actions
      in
      the Southern District of New York before Judge Shira A. Scheindlin.




On
      or
      about July 1, 2002 an omnibus motion to dismiss was filed in the coordinated
      litigation on behalf of the issuer defendants, of which we and our named officer
      and directors are a part, on common pleading issues. In October 2002, pursuant
      to stipulation by the parties, the Court entered an order dismissing our named
      officers and directors from the action without prejudice. On February 19, 2003,
      the Court dismissed the Section 10(b) and Rule 10b-5 claims against us but
      did
      not dismiss the Section 11 claims against us.




In
      June
      2004, a stipulation of settlement and release of claims against the issuer
      defendants, including us, was submitted to the court for approval. The terms
      of
      the settlement, if approved, would dismiss and release all claims against the
      participating defendants (including us). In exchange for this dismissal, D&O
      insurance carriers would agree to guarantee a recovery by the plaintiffs from
      the underwriter defendants of at least $1 billion, and the issuer defendants
      would agree to an assignment or surrender to the plaintiffs of certain claims
      the issuer defendants may have against the underwriters. On August 31, 2005,
      the
      Court issued an order granting preliminary approval of the settlement. On April
      24, 2006, the court held a fairness hearing in connection with the motion for
      final approval of the settlement but has yet to rule on this
      motion.




On
      December 5, 2006, the Court of Appeals for the Second Circuit reversed the
      Court's October 2004 order certifying a class in six test cases that were
      selected by the underwriter defendants and plaintiffs in the coordinated
      proceedings. On June 25, 2007, the Court entered an order terminating the
      proposed settlement based upon a stipulation among the parties to the
      settlement. Plaintiffs
      have filed amended master allegations and amended complaints in the six focus
      cases, which
      the
      defendants in those cases have moved to dismiss.  Plaintiffs
      have also moved for class certification in the six focus cases, which the
      defendants in those cases have opposed . It
      is
      uncertain whether there will be any revised or future settlement. If a
      settlement is not consummated, we intend to defend the lawsuit vigorously.
      However, we cannot predict its outcome with certainty. If we are not successful
      in our defense of this lawsuit, we could be forced to make significant payments
      to the plaintiffs and their lawyers, and such payments could have a material
      adverse effect on our business, financial condition, and results of operations
      if not covered by our insurance carrier. Even if these claims are not
      successful, the litigation could result in substantial costs and divert
      management's attention and resources, which could adversely affect our business,
      results of operations, and financial position.




10




On
      October 9, 2007, a purported CoSine shareholder filed a complaint for violation
      of Section 16(b) of the Securities Exchange Act of 1934, which prohibits
      short-swing trading, against our IPO underwriters. The complaint, Vanessa
      Simmonds v. The Goldman Sachs Group, et al., Case No. C07-1629, filed in
      District Court for the Western District of Washington, seeks the recovery of
      short-swing profits. We are named as a nominal defendant. No monetary recovery
      is sought from us.




In
      the
      ordinary course of business, we are involved in legal proceedings involving
      contractual obligations, employment relationships, and other matters. Except
      as
      described above, we do not believe there are any pending or threatened legal
      proceedings that will have a material impact on our financial position or
      results of operations.





**Item
      4.** ***Submission
      of Matters to a Vote of Security Holders***





None.





**PART
      II**





**Item
      5.** ***Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases
      of Equity Securities***





**Market
      Information**





Our
      common stock currently trades in the over the counter market and is quoted
      on
      the Pink Sheets Electronic Quotation Service under the symbol “COSN.PK.” Our
      common stock had been traded on the NASDAQ National Market under the symbol
      COSN
      from our initial public offering in September 2000 through June 15, 2005, when
      we were de-listed from the NASDAQ National Market System. There was no public
      market for our common stock prior to our September 2000 initial public offering.





The
      following table sets forth the high and low sales price of our common stock
      in
      the years ended December 2006 and 2007. Our common stock was de-listed from
      NASDAQ National Market System on June 15, 2005. Our common stock is traded
      in
      the over-the-counter market. The following table sets forth the range of high
      and low bid information of our common stock. The high and low bid quotations
      reflect inter-dealer prices, without retail mark-up, mark-down, or commission,
      and may not represent actual transactions.





**High**
            
            **Low****2007**First
                quarter
            
            $
            3.75
            
            $
            2.94Second
                quarter
            
            $
            3.70
            
            $
            3.32Third
                quarter
            
            $
            3.57
            
            $
            2.86Fourth
                quarter
            
            $
            2.96
            
            $
            2.46**2006**First
                quarter
            
            $
            2.55
            
            $
            2.31Second
                quarter
            
            $
            2.70
            
            $
            2.35Third
                quarter
            
            $
            2.85
            
            $
            2.42Fourth
                quarter
            
            $
            3.40
            
            $
            2.58





**Stockholders**





According
      to the records of our transfer agent, at March 1, 2008 we had approximately
      282
      shareholders of record. The majority of our shares are held in approximately
      4,100 customer accounts held by brokers and other institutions on behalf of
      stockholders.





**Dividends**





To
      date,
      we have not declared or paid any cash dividends on our common stock. Our current
      policy is to retain future earnings, if any, for use in the operations, and
      we
      do not anticipate paying any cash dividends in the foreseeable
      future.





11





**Securities
      Authorized for Issuance under Equity Compensation Plans**





The
      following table summarizes equity compensation plans that were approved and
      not
      approved by the stockholders as of December 31, 2007:





**EQUITY
      COMPENSATION PLAN INFORMATION**


**Number of Securities**
              
              
              
              **Number of Securities****to be Issued Upon**
              
              **Weighted-Average**
              
              **Remaining Available for****Exercise of Outstanding**
              
              **Exercise Price of**
              
              **Future Issuance Under****Options, Warrants and**
              
              **Outstanding Options,**
              
              **Equity Compensation****Plan category**
              
              **Rights**
              
              **Warrants and Rights**
              
              **Plans (1)**Equity
                  compensation plans approved by stockholders
              
              
              153,000
              (2)
              $
              7.52
              (2)
              
              1,934,455
              (3)Equity
                  compensation plans not approved by stockholders (4)
              
              
              —
              
              
              —
              
              
              1,000,000Total
              
              
              153,000
              
              $
              7.52
              
              
              2,934,455




(1)
            These
                numbers exclude shares listed under the column heading "Number of
                Securities to be Issued Upon Exercise of Outstanding Options, Warrants
                and
                Rights."


(2)
              Includes
                  5,000 shares subject to outstanding options under the 1997 Stock
                  Plan,
                  112,000 shares subject to outstanding options under the 2000 Stock
                  Plan,
                  and 36,000 shares subject to outstanding options under the Director
                  Plan.
 (3)
                Includes
                    1,924,455 shares available for future issuance under the 2000
                    Stock Plan,
                    and 10,000 shares available for future issuance under the Director
                    Plan.
 (4)
                  The
                      only equity compensation plan not approved by stockholders
                      is the 2002
                      Stock Plan (the "2002 Plan"). The board of directors adopted
                      the 2002 Plan
                      in January 2002 to make available for issuance certain shares
                      of our
                      common stock that have been (i) previously issued pursuant
                      to the exercise
                      of stock options granted under the 1997 Plan and (ii) subsequently
                      reacquired by us pursuant to repurchase rights contained in
                      restricted
                      stock purchase agreements or pursuant to optionee defaults
                      on promissory
                      notes issued in connection with the exercise of such options
                      ("Reacquired
                      Shares"). Under the terms of the 1997 Plan and the 2000 Plan,
                      these
                      Reacquired Shares would not otherwise have been available for
                      reissuance.
                      No shares that were not previously issued under the 1997 Plan
                      and
                      subsequently reacquired by us have been or will be reserved
                      for issuance
                      under the 2002 Plan. A maximum of 1,000,000 shares may be reserved
                      for
                      issuance under the 2002 Plan. An aggregate of 335,791 shares
                      were
                      initially reserved for issuance under the 2002 Plan upon its
                      adoption.
                      These shares consisted of Reacquired Shares as of the date
                      of adoption.
                      Additional shares that become Reacquired Shares after the date
                      of adoption
                      of the 2002 Plan, up to a maximum of 664,209 additional shares,
                      will also
                      become available for issuance under the 2002 Plan. The provisions
                      of the
                      2002 Plan are substantially similar to those of the 2000 Plan,
                      except that
                      the 2002 Plan does not permit the grant of awards to officers
                      or directors
                      and does not permit the grant of Incentive Stock Options. The
                      2002 Plan
                      provides for the grant of nonstatutory stock options to employees
                      (excluding officers) and consultants. Stock options granted
                      under the 2002
                      Plan will be at prices not less than the fair value of the
                      common stock at
                      the date of grant. The term of each option, generally 10 years
                      or less,
                      will be determined by CoSine.
 **Use
            of Proceeds of Registered Securities**





On
      September 25, 2000, in connection with our initial public offering, a
      Registration Statement on Form S-1 (File No. 333-35938) was declared effective
      by the Securities and Exchange Commission, pursuant to which 1,150,000 shares
      of
      our common stock were offered and sold for our account at a price of $230 per
      share, generating gross offering proceeds of $264.5 million. The managing
      underwriters were Goldman, Sachs & Co., Chase Securities Inc., Robertson
      Stephens, Inc. and JP Morgan Securities Inc. Our initial public offering closed
      on September 29, 2000. The net proceeds of the initial public offering were
      approximately $242.5 million after deducting approximately $18.5 million in
      underwriting discounts and approximately $3.5 million in other offering
      expenses.





We
      did
      not pay directly or indirectly any of the underwriting discounts or other
      related expenses of the initial public offering to any of our directors or
      officers, any person owning 10% or more of any class of our equity securities,
      or any of our affiliates. We have used approximately $220 million
      of the funds from the initial public offering to fund our operations. We expect
      to use the remaining net proceeds for general corporate purposes, including
      funding our operations, our working capital needs, and potential acquisitions
      pursuant to our redeployment strategy. Pending further use of the net proceeds,
      we have invested them in short-term, interest-bearing, investment-grade
      securities.




12


**Item
      6.** ***Selected
      Financial Data***





The
      selected consolidated financial data below should be read in conjunction with
      “Management’s Discussion and Analysis of Financial Condition and Results of
      Operations” and our consolidated financial statements and the related notes. The
      selected consolidated statements of operations data for the years ended December
      31, 2007, 2006 and 2005 and the selected consolidated balance sheet data as
      of
      December 31, 2007 and 2006, are derived from, and are qualified by reference
      to,
      the audited consolidated financial statements included elsewhere in this Annual
      Report on Form 10-K. The selected consolidated statements of operations data
      for
      the fiscal years ended prior to December 31, 2005, and the selected consolidated
      balance sheet data prior to December 31, 2006, are derived from our audited
      consolidated financial statements that are not included in this Annual Report
      on
      Form 10-K. The historical results presented below are not necessarily indicative
      of future results.


**Year
                  Ended December 31,****2007**
              
              **2006**
              
              **2005**
              
              **2004**
              
              **2003****(In
                  thousands, except per share data)****Consolidated
                  Statements of Operations Data:**Revenue
              
              $
              —
              
              $
              1,361
              
              $
              3,315
              
              $
              9,675
              
              $
              14,621Cost
                  of revenue
              
              
              —
              
              
              1,663
              
              
              2,049
              
              
              7,086
              
              
              6,765Gross
                  profit (loss)
              
              
              —
              
              
              (302
              )
              
              1,266
              
              
              2,589
              
              
              7,856Operating
                  expenses:Research
                  and development
              
              
              —
              
              
              —
              
              
              103
              
              
              15,078
              
              
              21,756Sales
                  and marketing
              
              
              —
              
              
              —
              
              
              105
              
              
              10,052
              
              
              13,808General
                  and administrative
              
              
              781
              
              
              1,316
              
              
              3,227
              
              
              6,064
              
              
              7,226Restructuring
                  and impairment charges
              
              
              —
              
              
              —
              
              
              (91
              )
              
              8,909
              
              
              336Total
                  operating expenses
              
              
              781
              
              
              1,316
              
              
              3,344
              
              
              40,103
              
              
              43,126Loss
                  from operations
              
              
              (781
              )
              
              (1,618
              )
              
              (2,078
              )
              
              (37,514
              )
              
              (35,270
              )Other
                  income (expense):Interest
                  income
              
              
              1,180
              
              
              1,101
              
              
              678
              
              
              489
              
              
              1,296Interest
                  expense
              
              
              —
              
              
              (4
              )
              
              —
              
              
              (3
              )
              
              (224
              )Other
              
              
              —
              
              
              918
              
              
              (46
              )
              
              (276
              )
              
              (447
              )Total
                  other income
              
              
              1,180
              
              
              2,015
              
              
              632
              
              
              210
              
              
              625Income
                  (loss) before income tax provision (credit)
              
              
              399
              
              
              397
              
              
              (1,446
              )
              
              (37,304
              )
              
              (34,645
              )Income
                  tax provision (credit)
              
              
              (17
              )
              
              (52
              )
              
              (228
              )
              
              33
              
              
              287Net
                  income (loss)
              
              $
              416
              
              $
              449
              
              $
              (1,218
              )
              $
              (37,337
              )
              $
              (34,932
              )Basic
                  net income (loss) per common share
              
              $
              0.04
              
              $
              0.04
              
              $
              (0.12
              )
              $
              (3.70
              )
              $
              (3.57
              )Diluted
                  net income (loss) per common share
              
              $
              0.04
              
              $
              0.04
              
              $
              (0.12
              )
              $
              (3.70
              )
              $
              (3.57
              )Shares
                  used in computing basic net income (loss) per common share
              
              
              10,091
              
              
              10,091
              
              
              10,094
              
              
              10,082
              
              
              9,791Shares
                  used in computing diluted net income (loss) per common
                  share
              
              
              10,115
              
              
              10,096
              
              
              10,094
              
              
              10,082
              
              
              9,791**Consolidated
                  Balance Sheet Data:**Cash,
                  cash equivalents and short-term investments
              
              $
              23,119
              
              $
              22,857
              
              $
              23,166
              
              $
              24,913
              
              $
              57,752Working
                  capital
              
              
              22,927
              
              
              22,477
              
              
              22,353
              
              
              23,214
              
              
              59,705Total
                  assets
              
              
              23,231
              
              
              23,036
              
              
              23,840
              
              
              27,823
              
              
              73,426Accrued
                  rent
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              2,078Total
                  stockholders’ equity
              
              
              22,930
              
              
              22,477
              
              
              22,603
              
              
              23,364
              
              
              61,174





13




**Quarterly
      financial information (unaudited):**


**2007**
              
              **2006****1st**
                **Quarter**
              
              **2nd**
                **Quarter**
              
              **3****rd**
                **Quarter**
              
              **4****th**
                **Quarter**
              
              **1st**
                **Quarter**
              
              **2nd**
                **Quarter**
              
              **3****rd**
                **Quarter**
              
              **4****th**
                **Quarter****(In
                  thousands, except per share data)**Revenue
              
              $
              —
              
              $
              —
              
              $
              —
              
              $
              —
              
              $
              579
              
              $
              520
              
              $
              134
              
              $
              128Gross
                  profit (loss)
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              9
              
              
              (13
              )
              
              (232
              )
              
              (66
              )Net
                  income (loss)
              
              $
              94
              
              $
              122
              
              $
              127
              
              $
              73
              
              $
              (126
              )
              $
              205
              
              $
              (225
              )
              $
              595Basic
                  and diluted net income (loss) per share
              
              $
              0.01
              
              $
              0.01
              
              $
              0.01
              
              $
              0.01
              
              $
              (0.01
              )
              $
              0.02
              
              $
              (0.02
              )
              $
              0.05




**Item
        7.** ***Management’s
        Discussion and Analysis of Financial Condition and Results of
        Operations***





**OVERVIEW**





Our
      strategy is to enhance stockholder value by pursuing opportunities to redeploy
      our assets through an acquisition of one or more operating businesses with
      existing or prospective taxable earnings that can be offset by use of our net
      operating loss carry-forwards (“NOLs”). In 2006, we completed the wrap-up of our
      carrier services business, providing customer support services for our
      discontinued products through December 31, 2006, at which time we terminated
      all
      customer support offerings. We also sold the remaining assets of our carrier
      network products business with the sale of our patent portfolio in March 2006
      and the sale of the rights to the related intellectual property in November
      2006.





We
      were a
      provider of carrier network equipment products and services until the fourth
      quarter of fiscal year 2004 during which time we discontinued our product lines,
      took actions to lay off most of our employees, terminated contract manufacturing
      arrangements, contractor and consulting arrangements and various facility
      leases, and sold, scrapped or wrote-off our inventory, property and equipment.
      In July 2005, we completed a comprehensive review of strategic alternatives,
      including a sale of the Company, a sale or licensing of intellectual property,
      a
      redeployment of our assets into new business ventures, or a winding-up and
      liquidation of the business and a return of capital. At that time, the board
      of
      directors approved the strategy of redeploying our existing resources to
      identify and acquire one or more new business operations, while continuing
      to
      support our existing customers and continuing to offer our intellectual property
      for license or sale.





Due
      to
      the adoption of our redeployment strategy, the information appearing below,
      which relates to prior periods, may not be indicative of the results that may
      be
      expected for any subsequent periods. The year ended December 31, 2007 primarily
      reflects, and future periods prior to a redeployment of our assets are expected
      to primarily reflect, general and administrative expenses and transaction
      expenses associated with the continuing administration of the Company and its
      efforts to redeploy its assets.





**CRITICAL
      ACCOUNTING POLICIES AND ESTIMATES**





**General**





Our
      discussion and analysis of our financial condition and results of operations
      are
      based on our consolidated financial statements, which have been prepared in
      accordance with U.S. generally accepted accounting principles. The preparation
      of these consolidated financial statements requires us to make estimates and
      judgments that affect the reported amounts of assets, liabilities, revenue
      and
      expenses, and related disclosures of contingent assets and liabilities. On an
      ongoing basis, we evaluate our estimates, including those related to revenue
      recognition, allowance for doubtful accounts, inventory valuation, long-lived
      assets, warranties and equity issuances. Additionally, the audit committee
      of
      our board of directors reviews these critical accounting estimates at least
      annually. We base our estimates on historical experience and on various other
      assumptions that we believe to be reasonable under the circumstances. These
      estimates form the basis for certain judgments about the carrying values of
      assets and liabilities that are not readily apparent from other sources. Actual
      results may differ from these estimates.





The
      following accounting policies are significantly affected by the judgments and
      estimates we use in the preparation of our consolidated financial
      statements.




14


**Revenue
      Recognition**





Historically,
      prior to discontinuing our products, most of our sales were generated from
      complex arrangements. Recognizing revenue in these arrangements required our
      making significant judgments, particularly in the areas of customer acceptance
      and collectibility.





Certain
      of our historic product sales arrangements required formal acceptance by our
      customers. In such cases, we did not recognize revenue until we received formal
      notification of acceptance. Although we worked closely with our customers to
      help them achieve satisfaction with our products prior to and after acceptance,
      the timing of customer acceptance could greatly affect the timing of the
      recognition of our revenue.





While
      the
      end user of our product was normally a large network service provider, we also
      sold products and services through small resellers and to small network service
      providers in Asia, Europe, and North America. To recognize revenue before we
      received payment, we were required to assess that collection from the customer
      was probable. If we could not satisfy ourselves that collection was probable,
      we
      deferred revenue recognition until we collected payment.





Through
      December 31, 2006, our business consisted primarily of customer service revenue.
      We record revenue as earned for customer service revenue once we satisfy
      ourselves that collection from the customer is probable. If we cannot satisfy
      ourselves that collection is probable, we defer revenue recognition until we
      collect payment.





**Impact
      of Equity Issuances on Operating Results**





Equity
      issuances have a material impact on our operating results. The equity issuances
      that have affected operating results to date include warrants granted to
      customers and suppliers, stock options granted to employees and consultants,
      and
      stock issued in lieu of cash compensation to suppliers.





Our
      cost
      of revenue, operating expenses and interest expense were affected significantly
      by charges related to warrants and options issued for services.





In
      the
      second quarter of 2004, we issued to a reseller a warrant to acquire 254,489
      shares of our common stock at an exercise price of $4.65 per share. The warrant
      had a two-year term beginning May 28, 2004 and vested ratably over the term.
      If
      during the two-year term (1) any person or entity had acquired a greater than
      50% interest in us or the ownership or control of more than 50% of our voting
      stock or (2) we had sold substantially all of our intellectual property assets,
      the warrant would have become exercisable. Even if the reseller did not
      immediately exercise the warrant upon the occurrence of such an event that
      made
      the warrant exercisable (a “trigger event”), the reseller would have been
      entitled to securities, cash and property to which it would have been entitled
      upon the consummation of the trigger event, less the aggregate price applicable
      to the warrant. We calculated the fair value of the warrant to be approximately
      $487,000 using the Black-Scholes option pricing model, using a volatility factor
      of .97, a risk-free interest rate of 2.5%, and an expected life of two years.
      The fair value of the warrant was being amortized over the two-year expected
      life of the warrant. During the years ended December 31, 2006 and 2005, we
      amortized $100,000 and $339,000, respectively, to cost of revenue. The warrant
      was fully amortized in the year ended December 31, 2006 and the warrant expired
      unexercised in May 2006.





**Income
      Taxes**





We
      account for income taxes using the liability method under which deferred tax
      assets and liabilities are determined based on the difference between the
      financial statement and tax bases of assets and liabilities using enacted tax
      rates in effect for the year in which the differences are expected to affect
      taxable income. Valuation allowances are established when necessary to reduce
      deferred tax assets to the amounts expected to be realized. We
      adopted the provisions of Financial Accounting Standards Board (FASB)
      Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an
      interpretation of FASB statement 109, on January 1, 2007.  This
      Interpretation clarifies the accounting for income taxes by prescribing the
      minimum recognition threshold a tax position is required to meet before being
      recognized in our consolidated financial statements.  The Interpretation
      also provides guidance for the measurement and classification of tax positions,
      interest and penalties, and requires additional disclosure on an annual
      basis.  The cumulative effect of the change had no impact on the
      consolidated balance sheet or statement of operations. Following implementation,
      the ongoing recognition of changes in measurement of uncertain tax positions
      will be reflected as a component of income tax expense. Interest and penalties
      incurred associated with unresolved income tax positions will continue to be
      included in other income (expense).




15


**RESULTS
      OF OPERATIONS**





**Revenue**





We
      ceased
      all customer operations on December 31, 2006. In
      2005 and 2006, our revenues were earned primarily from our customer service
      contracts. We
      recognize product revenue at the time of shipment or delivery (depending on
      shipping terms), assuming that persuasive evidence of an arrangement exists,
      the
      sales price is fixed or determinable and collection is probable, unless we
      have
      future obligations for installation or require customer acceptance, in which
      case revenue is deferred until these obligations are met. Our product
      incorporates software that is not incidental to the related hardware and,
      accordingly, we recognize revenue in accordance with the American Institute
      of
      Certified Public Accountants issued Statement of Position 97-2 “Software Revenue
      Recognition.” For arrangements that include the delivery of multiple elements,
      the revenue is allocated to the various products based on “vendor-specific
      objective evidence” (VSOE) of fair value. We establish VSOE based on either the
      price charged for the product when the same product is sold separately or for
      products not yet sold separately, based on the list prices of such products
      individually established by management with the relevant authority to do so.





Revenue
      from perpetual software licenses is recognized upon shipment or acceptance,
      if
      required. Revenue from one-year term licenses is recognized on a straight-line
      basis over the one-year license term. Post-delivery technical support, such
      as
      on-site service, phone support, parts and access to software upgrades, when
      and
      if available, is provided under separate support services agreements. In cases
      where the support services are sold as part of an arrangement including multiple
      elements, we allocate revenue to the support service based on the VSOE of the
      service and recognize it on a straight-line basis over the service period.
      Revenue from consulting and training services is recognized as the services
      are
      provided.





Amounts
      billed in excess of revenue recognized are included as deferred revenue in
      the
      accompanying consolidated balance sheets.




Revenue
      from customers by geographic region for the years ended December 31, 2007,
      2006,
      and 2005 was as follows, in thousands:





2007
                  
                  %
                  
                  2006
                  
                  %
                  
                  2005
                  
                  %North America
                  
                  $
                  —
                  
                  
                  —
                  
                  $
                  1,211
                  
                  
                  89
                  %
                  $
                  1,901
                  
                  
                  57
                  %Asia/Pacific
                  
                  
                  —
                  
                  
                  —
                  
                  
                  —
                  
                  
                  —
                  
                  
                  617
                  
                  
                  19
                  %Europe
                  
                  
                  —
                  
                  
                  —
                  
                  
                  150
                  
                  
                  11
                  %
                  
                  797
                  
                  
                  24
                  %Total revenue
                  
                  $
                  —
                  
                  
                  —
                  
                  $
                  1,361
                  
                  
                  100
                  %
                  $
                  3,315
                  
                  
                  100
                  %





Hardware,
      software and service revenue for the years ended December 31, 2007, 2006, and
      2005 was as follows, in thousands:


2007
              
              %
              
              2006
              
              %
              
              2005
              
              %Hardware
              
              $
              —
              
              
              —
              
              $
              —
              
              
              —
              
              $
              26
              
              
              1
              %Software
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              190
              
              
              6
              %Services
              
              
              —
              
              
              —
              
              
              1,361
              
              
              100
              %
              
              3,099
              
              
              93
              %Total revenue
              
              $
              —
              
              
              —
              
              $
              1,361
              
              
              100
              %
              $
              3,315
              
              
              100
              %




We
      had no revenues in 2007, as we discontinued all service offerings at December
      31, 2006.





In
      2006, all of our revenue was earned from our customer service contracts. The
      decline in revenue as compared to the prior year is due to the fact that our
      customers continued their transition from the discontinued CoSine products
      to
      other suppliers and, as a result, the demand for our services decreased during
      the year. See
      "Outlook" section on pages 21 to 23 and "Risk Factors" section on pages 7 to
      11.





In
      2005, our revenues were earned primarily from our customer service contracts.
      Hardware revenue consisted of a $26,000 sale of previously written-down
      equipment and software revenue consisted of $190,000 for sales of nonexclusive
      software licenses. Our customers purchased service contracts for their installed
      systems while they planned and executed their transition from our networking
      systems to other suppliers.




16




As
      of
      December 31, 2007, 2006, and 2005, we deferred
      nil, nil and $0.1 million, respectively, of revenue from contracts that
      we immediately invoiced but which provide for subsequent customer acceptance,
      consulting services, and post-contract support services.





**Non-Cash
      Charges and Credits Related to Equity Issuances**





We
      amortized $39,000, $140,000 and $339,000 of non-cash charges related to equity
      issuances to cost of revenue, operating expenses and interest expense, for
      the
      years ended December 31, 2007, 2006 and 2005, respectively.





Below
      is
      a reconciliation of non-cash charges related to equity issuances for the years
      ended December 31, 2007, 2006, and 2005, affecting our cost of revenue,
      operating expenses and interest expense, in thousands:


Year
                  ended December 31,2007
              
              2006
              
              2005Amortization
                  of charges related to warrants or stock options issued to non-employees
                  in
                  conjunction with lease, debt, and reseller agreements
              
              $
              —
              
              $
              100
              
              $
              339Employee
                  stock-based compensation
              
              
              39
              
              
              40
              
              
              —Net
                  non-cash charges related to equity issuances
              
              $
              39
              
              $
              140
              
              $
              339




Equity-related
      charges, which are largely dependent on our quarterly stock price, may cause
      our
      expenses to materially fluctuate from quarter-to-quarter and
      year-to-year.





**Cost
      of Revenue**





Cost
      of
      revenue includes all costs of producing our sold products, including the costs
      of outsourced manufacturing, software royalties, shipping, warranties, related
      manufacturing overhead costs and the costs of providing our service offerings,
      including personnel engaged in providing maintenance and consulting services
      to
      our customers. To the extent that the value of inventory is written down, this
      is reflected in cost of revenue. We have also incurred non-cash charges and
      credits related to equity issuances including amortization of a warrant issued
      to a reseller in 2004. We outsourced the majority of our manufacturing and
      repair operations and customer support capabilities. A significant portion
      of
      our cost of revenue consists of payments to our contract manufacturers and
      third
      party customer support service provider. Historically, we conducted
      manufacturing engineering, final assembly, configuration testing, and
      documentation control at our facilities in Redwood City,
      California.





There
      were no customer operations effective December 31, 2006 and no charges to cost
      of revenue after that date.





Cost
      of
      revenue for the year ended December 31, 2006 was $1.7 million. Cost of revenue
      included $1.6 million for the cost of our third party customer support service
      provider, and $0.1 million for amortization of a warrant issued to a reseller
      in
      2004.




Cost
      of
      revenue for the year ended December 31, 2005 was $2.0 million, or 61.8% of
      revenue. Cost of revenue included $1.7 million or 83% for the cost of our third
      party customer support service provider, and $0.3 million or 17% for
      amortization of a warrant issued to a reseller in 2004.





**Gross
      Profit**





For
      the
      years ended December 31, 2007, 2006, and 2005, gross profit (loss) was nil,
      ($0.3) million and $1.3 million, respectively.





The
      decrease in gross profit for the year ended December 31, 2006 compared to
      December 31, 2005 is due to the decline in revenue and to the fact that the
      resources needed to provide the support services could not be reduced to fully
      offset the revenue decline.





17




**Research
      and Development Expenses**





Research
      and development expenses consist primarily of salaries and related personnel
      costs, fees paid to contractors and outside service providers, and the costs
      of
      laboratory equipment and prototypes related to the design, development and
      testing of our products. We discontinued all research and development in
      2005.





Research
      and development expenses were nil, nil and $0.1 million for the years ended
      December 31, 2007, 2006, and 2005, respectively.





**Sales
      and Marketing Expenses**





Sales
      and
      marketing expenses consist primarily of salaries and related expenses for
      personnel engaged in sales, marketing and customer evaluations, as well as
      the
      costs associated with customer evaluations and trials and other promotional
      and
      marketing expenses. We discontinued all sales and marketing in 2005. Sales
      and
      marketing expenses were nil, nil and $0.1 million for the years ended December
      31, 2007, 2006, and 2005, respectively.





**General
      and Administrative Expenses**





General
      and administrative expenses consist primarily of salaries and related expenses
      for executive, finance, legal, accounting, and human resources personnel as
      well
      as other corporate expenses, including non-cash charges related to equity
      issuances.





General
      and administrative expenses were $0.8 million, $1.3 million and $3.2 million
      for
      the years ended December 31, 2007, 2006, and 2005, respectively.





General
      and administrative expense decreased by $0.5 million, $1.9 million and $2.8
      million for the years ended December 31, 2007, 2006, and 2005, respectively.
      The
      decreases are due primarily to our decision in September 2004 to discontinue
      our
      products and lay off all of our employees to conserve cash. The majority of
      our
      general and administrative employees were laid off in October and November
      of
      2004, and substantially all employees were laid-off by December 31, 2004.
      Between December 31, 2004 and July 1, 2007, our administrative functions were
      performed by our chief executive officer and a consultant.





As
      of
      July 1, 2007, our administrative functions are performed under an agreement
      (the
“Services Agreement”) with SP Corporate Services, LLC (“SP”) pursuant to which
      SP provides us, on a non-exclusive basis, a full range of executive, financial,
      and administrative support services and personnel, including the services of
      our
      executive officers. The Service Agreement became effective as of July 1, 2007.
      Pursuant to the Services Agreement, Terry R. Gibson terminated his employment
      with us, effective as of June 30, 2007, but continues to serve as our Chief
      Executive Officer, Chief Financial Officer, Secretary, Principal Executive
      Officer, and Principal Accounting Officer as an employee of SP. Under the
      Services Agreement, we pay SP a monthly fee of $17,000 in exchange for SP's
      services. SP is responsible for compensating and providing all applicable
      employment benefits to any SP personnel, including Mr. Gibson, in connection
      with providing services under the Services Agreement. We reimburse SP for
      reasonable and necessary business expenses of ours incurred by SP, and we are
      responsible for payment of fees related to audit, tax, legal, stock transfer,
      insurance broker, investment advisor, and banking services provided to us by
      third party advisors. The Services Agreement has a term of one year and
      automatically renews for successive one year periods unless otherwise terminated
      by either party. The Services Agreement is also terminable by us upon the death
      of Terry R. Gibson or his resignation as our Chief Executive Officer, Chief
      Financial Officer, or Secretary of the Company. Under the Services Agreement,
      SP
      and its personnel are entitled to the same limitations on liability and
      indemnity rights available under our charter documents to any other person
      performing such services for us.





General
      and administrative non-cash charges (credits) related to equity issuances were
      $39,000, $40,000 and nil for the years ended December 31, 2007, 2006 and 2005,
      respectively.





**Interest
      Income and Other Expense**





For
      the
      year ended December 31, 2007, interest income was $1.2 million as compared
      to
      $1.1 million at December 31, 2006 and $0.7 million at December 31, 2005. The
      increase is due to higher interest rates in 2007 and 2006 as compared to 2005.





18




**Other
      Income**





For
      the
      year ended December 31, 2006, other income includes $640,000 gain on liquidation
      of foreign subsidiaries. The gain is due to the cumulative effect of gains
      and
      losses on translation of foreign subsidiaries’ financial statements into United
      States dollars. The gain, which had been deferred prior to the year ended
      December 31, 2006, was recognized in 2006 with the liquidation of the
      subsidiaries. The liquidations were completed in connection with the cessation
      of our service operations. Other income in 2006 also included $180,000 and
      $80,000 in connection with the sale of our patent portfolio and intellectual
      property, respectively.





**Interest
      Expense**





For
      the
      years ended December 31, 2007, 2006, and 2005, respectively, interest expense
      was nil, $4,000 and nil.





**Income
      Tax Provision**





Credits
      for income taxes of ($17,000), ($52,000), and ($228,000) for the years ended
      December 31, 2007, 2006, and 2005, respectively, were comprised entirely of
      foreign corporate income taxes, which are a function of our operations in
      subsidiaries in various countries. The credits in 2007, 2006, and 2005 relate
      to
      the liquidation of foreign subsidiaries, and completion of the related tax
      settlements.





We
      have
      not recognized any benefit from the future use of net operating loss
      carry-forwards for these periods, or for any other periods, since our
      incorporation. We are not recognizing the potential tax benefits of our net
      operating loss carry-forwards because we do not have sufficient evidence that
      we
      will generate adequate profits to use them.





Use
      of
      the net operating loss and tax credit carry-forwards may be subject to
      substantial annual limitation due to the ownership change limitations provided
      by the Internal Revenue Code of 1986, and similar state provisions. The annual
      limitation may result in the expiration of net operating loss and tax credit
      carry-forwards before utilization.





**LIQUIDITY
      AND CAPITAL RESOURCES**





Through
      December 31, 2006, our business consisted primarily of a customer support
      capability for our discontinued products provided by a third party. We
      terminated our customer service offerings at December 31, 2006. In March 2006,
      we signed an agreement to sell the rights to our patent portfolio for cash
      consideration of $180,000 and in November 2006 we sold the rights to our
      intellectual property for $80,000 (see Note 7 of the Notes to Consolidated
      Financial Statements). We have adopted a strategy of seeking to enhance
      stockholder value by pursuing opportunities to redeploy our assets through
      an
      acquisition of one or more operating businesses with existing or prospective
      taxable earnings that can be offset by use of our net operating loss
      carry-forwards. Based on our $23.1 million in cash and short term investments
      at
      December 31, 2007 and on our cost reduction activities over the past two years,
      we believe that we possess sufficient liquidity and capital resources to fund
      our operations and working capital requirements for at least the next 12 months.
      However, our restructuring activities and our new redeployment of assets
      strategy raise substantial doubt as to our ability to continue as a going
      concern. See “Liquidity and Redeployment Strategy” in Note 1 of the Notes to
      Consolidated Financial Statements. See “Outlook” on pages 21 to 23 and “Risk
      Factors” on pages 7 to 11, which describes our redeployment of assets
      strategy.





We
      will
      continue to prepare our financial statements on the assumption that we will
      continue as a going concern, which contemplates the realization of assets and
      liquidation of liabilities in the normal course of business. As such, the
      financial statements do not include any adjustments to reflect possible future
      effects of the recoverability and classification of assets or the amounts and
      classification of liabilities that may result from any decisions made with
      respect to an assessment of our strategic alternatives. If at some point we
      were
      to decide to pursue alternative plans, we may be required to present the
      financial statements on a different basis. As an example, if we were to decide
      to pursue a liquidation and return of capital, it would be appropriate to
      prepare and present financial statements on the liquidation basis of accounting,
      whereby assets are valued at their estimated net realizable values and
      liabilities are stated at their estimated settlement amounts.





**Cash,
      Cash Equivalents and Short-Term Investments**





At
      December 31, 2007, cash, cash equivalents and short-term investments were $23.1
      million, as compared to $22.9 million at December 31, 2006.





19




**Operating
      Activities**





We
      generated $264,000 cash from operations in the year ended December 31, 2007,
      used $334,000 in cash for operations for the year ended December 31, 2006,
      and
      used $1.8 million from the cash used for operations in 2005. The improvement
      is
      due primarily to the $416,000 net income in 2007 and the $449,000 in net income
      in 2006 as compared to a $1.2 million net loss in 2005, partially offset by
      decreases in accrued liabilities as we completed our restructuring
      activities.




**Investing
      Activities**





For
      the
      year ended December 31, 2007, we generated $7.2 million in cash from investing
      activities. For the year ended December 31, 2006, we used $6.9 million in cash
      to fund an increase in our short term investments. For the year ended December
      31, 2005, we generated $5.0 million in cash from investing activities.





**Financing
      Activities**





**** We
      had no
      financing activities during the years ended December 31, 2007, 2006, or
      2005.





**Off-Balance
      Sheet Arrangements**





We
      have
      no off-balance sheet arrangements that have or are reasonably likely to have
      a
      current or future material affect.





**Contractual
      Obligations**





We
      have
      future financial obligations related to (1) an operating lease and
      (2) purchase obligations. These obligations as of December 31, 2007
      are summarized as follows, (in thousands of dollars):


**ContractualObligations**
              ****
              **Total**
              
              **2008**
              
              **2009-2010**
              
              **2011-2012**
              
              **After
                  2012**Unconditional
                  purchase obligations
              
              $
              102.0
              
              $
              102.0
              
              
              
              
              $
              $—
              
              $
              —Operating
                  leases
              
              
              53.0
              
              
              40.0
              
              
              13.0
              
              
              —
              
              
              —Total
                  contractual cash obligations
              
              $
              155.0
              
              $
              142.0
              
              $
              13.0
              
              $
              0.0
              
              $
              0.0





Our
      operating lease obligations as of December 31, 2007 consist of an office lease
      expiring at the end of April in 2009.




Our
      unconditional purchase obligations relate to executive,
      financial and administrative support services, and personnel provided
      by SP Corporate Services LLC under an a greement
      which became effective as of July 1, 2007 (the "Services Agreement"). Under
      the
      Services Agreement, we pay SP Corporate Services LLP a monthly fee of $17,000
      in
      exchange for SP Corporate Services LLP’s services. The Services Agreement has a
      term of one year and automatically renews for successive one year periods unless
      otherwise terminated by either party.





**OUTLOOK**





Our
      board
      of directors, on completion of a comprehensive review of strategic alternatives,
      has approved a plan to redeploy our existing resources to identify and acquire
      one or more new business operations. Our redeployment strategy will involve
      the
      acquisition of one or more operating businesses with existing or prospective
      taxable earnings that can be offset by use of our net operating loss
      carry-forwards (“NOLs”). As of this date, no candidate has been identified, and
      no assurance can be given that we will find suitable candidates, and if we
      do,
      that we will be able to utilize our existing NOLs.





20




At
      December 31, 2007, we had $23.1 million in cash and short-term investments.
      Cash
      generated by operations during the year ended December 31, 2007 was $264,000.
      We
      believe we possess sufficient liquidity and capital resources to fund our
      operations and working capital requirements for at least the next 12 months.





**Recent
      Accounting Pronouncements**





In
      September 2006, the Financial Accounting Standards Board (“FASB”) issued FASB
      Statement No. 157, Fair Value Measurements, or SFAS 157. The standard
      provides guidance for using fair value to measure assets and liabilities. The
      standard also responds to investors’ requests for expanded information about the
      extent to which companies measure assets and liabilities at fair value, the
      information used to measure fair value, and the effect of fair value
      measurements on earnings. The standard applies whenever other standards require
      or permit assets or liabilities to be measured at fair value. The standard
      does
      not expand the use of fair value in any new circumstances. SFAS 157 must be
      adopted prospectively as of the beginning of the year it is initially applied.
      SFAS 157 is effective for financial statements issued for fiscal years
      beginning after November 15, 2007, and interim periods within those fiscal
      years. We are still evaluating the impact this standard will have on our
      financial position or results of operations.





In
      February 2007, the FASB issued FASB Statement No. 159, The Fair Value Option
      for
      Financial Assets and Financial Liabilities—Including an Amendment of FASB
      Statement No. 115 (“SFAS 159”). SFAS 159 creates a “fair value option” under
      which an entity may elect to record certain financial assets or liabilities
      at
      fair value upon their initial recognition. Subsequent changes in fair value
      would be recognized in earnings as those changes occur. The election of the
      fair
      value option would be made on a contract-by contract basis and would need to
      be
      supported by concurrent documentation or a preexisting documented policy. SFAS
      159 requires an entity to separately disclose the fair value of these items
      on
      the balance sheet or in the footnotes to the financial statements and to provide
      information that would allow the financial statement user to understand the
      impact on earnings from changes in the fair value. SFAS 159 is effective for
      us
      beginning with fiscal year 2008. We are currently evaluating the impact that
      the
      adoption of SFAS 159 will have on our consolidated financial
      statements.




In
      December 2007, the FASB issued Statement of Financial Accounting Standards
      No. 141 (revised 2007), ** Business
      Combinations ** (“SFAS 141(R)”).
      SFAS 141(R) changes accounting for acquisitions that close beginning in
      2009. More transactions and events will qualify as business combinations and
      will be accounted for at fair value under the new standard. SFAS 141(R)
      promotes greater use of fair values in financial reporting. Some of the changes
      will introduce more volatility into earnings. SFAS 141(R) is effective for
      fiscal years beginning on or after December 15, 2008. We are currently
      assessing the impact that SFAS 141(R) may have on our financial position,
      results of operations, and cash flows.




In
      December 2007, the FASB issued Statement of Financial Accounting Standards
      No. 160, Noncontrolling Interests in Consolidated Financial
      Statements ** (“SFAS 160”), an amendment of ARB No. 51. SFAS 160 will change
      the accounting and reporting for minority interests which will be
      recharacterized as noncontrolling interests and classified as a component of
      equity. SFAS 160 is effective for fiscal years beginning on or after
      December 15, 2008. SFAS 160 requires retroactive adoption of the
      presentation and disclosure requirements for existing minority interests. We
      are
      currently assessing the impact that SFAS 160 may have on our financial
      position, results of operations, and cash flows.





In
      December 2007, the FASB issued EITF Issue 07-1 Accounting for Collaborative
      Arrangements (EITF 07-1). Collaborative arrangements are agreements between
      parties to participate in some type of joint operating activity. The task force
      provided indicators to help identify collaborative arrangements and provides
      for
      reporting of such arrangements on a gross or net basis pursuant to guidance
      in
      existing authoritative literature. The task force also expanded disclosure
      requirements about collaborative arrangements. Conclusions within EITF 07-1
      are
      to be applied retroactively. We are currently assessing the impact that EITF
      07-1 may have on our financial position, results of operations, and cash
      flows.





**Item
      7A.** ***Quantitative
      and Qualitative Disclosures about Market Risk***





**Interest
      Rate Sensitivity**





We
      do not
      currently use derivative financial instruments for speculative trading or
      hedging purposes. In addition, we maintain our cash equivalents in government
      and agency securities, debt instruments of financial institutions and
      corporations, and money market funds. Our exposure to market risks from changes
      in interest rates relates primarily to corporate debt securities. We place
      our
      investments with high quality credit issuers and, by policy, limit the amount
      of
      the credit exposure to any one issuer.





21




Our
      general policy is to limit the risk of principal loss and ensure the safety
      of
      invested funds by limiting market and credit risk. All highly-liquid investments
      with a maturity of less than three months at the date of purchase are considered
      to be cash equivalents, and all investments with maturities of three months
      or
      greater are classified as available-for-sale and considered to be short-term
      investments.





A
      sensitivity analysis was performed on our December 31, 2007 investment portfolio
      based on a modeling technique that measures hypothetical fair market value
      changes that would result from a parallel shift in the yield curve of plus
      100
      basis points. Based on this analysis, a hypothetical 100 basis point increase
      in
      interest rates would result in a $21,000 decrease in the fair value of our
      investments in debt securities as of December 31, 2007.





**Exchange
      Rate Sensitivity**





Currently,
      all of our revenue and all of our expenses are denominated in U.S. dollars.




22


**Item
      8.** ***Financial
      Statements and Supplementary Data***





**REPORT
      OF BURR, PILGER & MAYER LLP, INDEPENDENT REGISTERED PUBLIC ACCOUNTING
      FIRM**





To
      the
      Board of Directors and Stockholders of


CoSine
      Communications, Inc.




We
      have
      audited the accompanying consolidated balance sheets of CoSine Communications,
      Inc. and its subsidiary (the “Company”) as of December 31, 2007, and 2006 and
      the related consolidated statements of operations, stockholders’ equity, and
      cash flows for each of the three years in the period ended December 31, 2007.
      Our audits also included the financial statement schedule listed in Item
      15(a)(2) as of and for the years ended December 31, 2007, 2006, and 2005. The
      consolidated financial statements and financial statement schedule are the
      responsibility of the Company’s management. Our responsibility is to express an
      opinion on these consolidated financial statements and financial statement
      schedule based on our audits.




We
      conducted our audits in accordance with the standards of the Public Company
      Accounting Oversight Board (United States). Those standards require that we
      plan
      and perform the audit to obtain reasonable assurance about whether the financial
      statements are free of material misstatement. The Company is not required to
      have, nor have we been engaged
      to perform, an audit of the Company's internal control over financial reporting.
      Our audits included consideration of internal control over financial reporting
      as a basis for designing audit procedures that are appropriate in the
      circumstances, but not for the purpose of expressing an opinion on the
      effectiveness of the Company's internal control over financial reporting.
      Accordingly, we express no such opinion. An
      audit
      also includes examining, on a test basis, evidence supporting the amounts and
      disclosures in the financial statements, assessing the accounting principles
      used and significant estimates made by management, as well as evaluating the
      overall financial statement presentation. We believe that our audits provide
      a
      reasonable basis for our opinion.




In
      our
      opinion, the consolidated financial statements referred to above present fairly,
      in all material respects, the financial position of CoSine Communications,
      Inc.
      and its subsidiary as of December 31, 2007 and 2006 and the results of their
      operations and their cash flows for each of the three years in the period ended
      December 31, 2007 in conformity with accounting principles generally accepted
      in
      the United States of America. Also, in our opinion, the related financial
      statement schedule as of and for the years ended December 31, 2007, 2006, and
      2005, when considered in relation to the consolidated financial statements
      taken
      as a whole, presents fairly, in all material respects, the information set
      forth
      therein.





As
      discussed in Note 1 and Note 7 to the consolidated financial statements, on
      January 1, 2007 the Company changed its method of accounting for uncertain
      tax
      positions as a result of adopting Financial Accounting Standards Board
      Interpretation No. 48, “Accounting for Uncertainty in Income Taxes - an
      Interpretation of FASB Statement No. 109”.





As
      discussed in Note 1 to the consolidated financial statements, the Company’s
      actions in September 2004 in connection with its ongoing evaluation of strategic
      alternatives, to terminate most of its employees and discontinue production
      activities in an effort to conserve cash raise substantial doubt about its
      ability to continue as a going concern. Management’s plans as to these matters
      are also described in Note 1. The consolidated financial statements do not
      include any adjustments to reflect the possible future effects on the
      recoverability and classification of assets or the amount and classification
      of
      liabilities that may result from the outcome of this uncertainty.





/s/
      Burr,
      Pilger & Mayer LLP





Palo
      Alto, California


March
      12,
      2008





23





**COSINE
      COMMUNICATIONS, INC.**





**CONSOLIDATED
      BALANCE SHEETS**


**(In
      thousands, except for share and per share data)**





**December
                31,****2007**
            
            **December
                31,****2006****ASSETS**Current
                assets:Cash
                and cash equivalents
            
            $
            12,709
            
            $
            5,207Short-term
                investments
            
            
            10,410
            
            
            17,650Accounts
                receivable:Trade
                (net of allowance for doubtful accounts of nil at December 31, 2007
                and
                2006, respectively)
            
            
            —
            
            
            55Other
            
            
            73
            
            
            68Prepaid
                expenses and other current assets
            
            
            36
            
            
            56Total
                current assets
            
            
            23,228
            
            
            23,036Long
                term deposit and other
            
            
            3
            
            
            —$
            23,231
            
            $
            23,036**LIABILITIES
                AND STOCKHOLDERS' EQUITY**Current
                liabilities:Accounts
                payable
            
            $
            204
            
            $
            320Other
                accrued liabilities
            
            
            97
            
            
            239Total
                current liabilities
            
            
            301
            
            
            559Commitments
                and contingencies (Notes 2 and 3)Stockholders'
                equity:Preferred
                stock, no par value, 3,000,000 shares authorized, no shares issued
                and
                outstanding
            
            
            —
            
            
            —Common
                stock, $0.0001 par value, 22,000,000 shares authorized; 10,090,635
                shares
                issued and outstanding at December 31, 2007 and 2006
            
            
            1
            
            
            1Additional
                paid-in capital
            
            
            539,026
            
            
            538,987Accumulated
                other comprehensive income
            
            
            15
            
            
            17Accumulated
                deficit
            
            
            (516,112
            )
            
            (516,528
            )Total
                stockholders' equity
            
            
            22,930
            
            
            22,477$
            23,231
            
            $
            23,036





See
      accompanying notes to consolidated financial statements.


24





**COSINE
      COMMUNICATIONS, INC.**





**CONSOLIDATED
      STATEMENTS OF OPERATIONS**


**(In
      thousands, except for per share data)**





**Year Ended December 31,****2007**
            
            **2006**
            
            **2005**Revenue:Product
            
            $
            —
            
            $
            —
            
            $
            216Service
            
            
            —
            
            
            1,361
            
            
            3,099Total
                revenue
            
            
            —
            
            
            1,361
            
            
            3,315Cost
                of revenue (1)
            
            
            —
            
            
            1,663
            
            
            2,049Gross
                profit (loss)
            
            
            —
            
            
            (302
            )
            
            1,266Operating
                expenses:Research
                and development
            
            
            —
            
            
            —
            
            
            103Sales
                and marketing
            
            
            —
            
            
            —
            
            
            105General
                and administrative (2)
            
            
            781
            
            
            1,316
            
            
            3,227Restructuring
                and impairment charges
            
            
            —
            
            
            —
            
            
            (91
            )Total
                operating expenses
            
            
            781
            
            
            1,316
            
            
            3,344Loss
                from operations
            
            
            (781
            )
            
            (1,618
            )
            
            (2,078
            )Other
                income (expense):Interest
                income
            
            
            1,180
            
            
            1,101
            
            
            678Interest
                expense
            
            
            —
            
            
            (4
            )
            
            —Other
                (3)
            
            
            —
            
            
            918
            
            
            (46
            )Total
                other income
            
            
            1,180
            
            
            2,015
            
            
            632Income
                (loss) before income tax benefit
            
            
            399
            
            
            397
            
            
            (1,446
            )Income
                tax (benefit)
            
            
            (
                17
            )
            
            (
                52
            )
            
            (228
            )Net
                income (loss)
            
            $
            416
            
            $
            449
            
            $
            (1,218
            )Basic
                net income (loss) per share
            
            $
            0.04
            
            $
            0.04
            
            $
            (
                0.12
            )Diluted
                net income (loss) per share
            
            $
            0.04
            
            $
            0.04
            
            $
            (
                0.12
            )Shares
                used to calculate net income (loss) per share:Basic
            
            
            10,091
            
            
            10,091
            
            
            10,094Diluted
            
            
            10,115
            
            
            10,096
            
            
            10,094


__________


(1)
            Cost
                of revenue includes nil, $100 and $339 of non-cash charges related
                to
                equity issuances in 2007, 2006, and 2005,
                respectively.


(2)
            General
                and administrative expenses include $39 and $40 in non-cash charges
                related to equity issuances in 2007 and 2006, respectively and nil
                in
                2005.


(3)
            Other
                includes gain on disposal of subsidiaries of nil, $640 and nil in
                2007,
                2006 and 2005, respectively.





See
      accompanying notes to consolidated financial statements.




25


**COSINE
      COMMUNICATIONS, INC.**


**CONSOLIDATED
      STATEMENTS OF STOCKHOLDERS’ EQUITY**


**(In
      thousands, except share data)**


**Common
                  Stock**
              
              **Additional**
                **Paid-in**
              
              **Notes**
                **Receivable**
                **From**
              
              **Accumulated**
                **Other**
                **Comprehensive**
              
              **Accumulated**
              
              **Total**
                **Stockholders’****Shares**
              
              **Amount**
              
              **Capital**
              
              **Stockholders**
              
              **Income**
              
              **Deficit**
              
              **Equity****Balance
                  at January 1, 2005**
              
              
              **10,159,790**
              
              **$**
              **1**
              
              **$**
              **540,028**
              
              **$**
              (1,520
              )
              **$**
              **614**
              
              **$**
              (515,759
              )
              **$**
              **23,364**Repurchase
                  of unvested shares
              
              
              (69,155
              )
              
              —
              
              
              (1,520
              )
              
              1,520
              
              
              —
              
              
              —
              
              
              —Valuation
                  of warrant
              
              
              —
              
              
              —
              
              
              439
              
              
              —
              
              
              —
              
              
              —
              
              
              439Components
                  of comprehensive loss:Net
                  loss
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              (1,218
              )
              
              (1,218
              )Unrealized
                  gain on investments, net of tax
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              20
              
              
              —
              
              
              20Translation
                  adjustment, net of tax
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              (2
              )
              
              —
              
              
              (
                  2
              )Total
                  comprehensive income ( loss)
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              18
              
              
              (1,218
              )
              
              (1,200
              )**Balance
                  at December 31, 2005**
              
              
              **10,090,635**
              
              
              **1**
              
              
              **538,947**
              
              
              **—**
              
              
              **632**
              
              
              (516,977
              )
              
              **22,603**Stock
                  based compensation
              
              
              —
              
              
              —
              
              
              40
              
              
              —
              
              
              —
              
              
              —
              
              
              40Components
                  of comprehensive income (loss):Net
                  income
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              449
              
              
              449Unrealized
                  gain on investments, net of tax
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              25
              
              
              **—**
              
              
              25Translation
                  adjustment, net of tax
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              (640
              )
              
              —
              
              
              (640
              )Total
                  comprehensive income ( loss)
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              (615
              )
              
              449
              
              
              (166
              )**Balance
                  at December 31, 2006**
              
              
              **10,090,635**
              
              
              **1**
              
              
              **538,987**
              
              
              **—**
              
              
              **17**
              
              
              (516,528
              )
              
              **22,477**Stock
                  based compensation
              
              
              —
              
              
              —
              
              
              39
              
              
              —
              
              
              —
              
              
              —
              
              
              39Components
                  of comprehensive income (loss):Net
                  income
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              416
              
              
              416Unrealized
                  gain on investments, net of tax
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              (2
              )
              
              **—**
              
              
              (2
              )Total
                  comprehensive income ( loss)
              
              
              —
              
              
              —
              
              
              —
              
              
              —
              
              
              (2
              )
              
              416
              
              
              414**Balance
                  at December 31, 2007**
              
              
              **10,090,635**
              
              **$**
              **1**
              
              **$**
              **539,026**
              
              **$**
              **—**
              
              **$**
              **15**
              
              **$**
              (516,112
              )
              **$**
              **22,930**





See
      accompanying notes to consolidated financial statements.




26





**COSINE
      COMMUNICATIONS, INC.**





**CONSOLIDATED
      STATEMENTS OF CASH FLOWS**


**(In
      thousands)**





**Year
                Ended December 31,****2007**
            
            **2006**
            
            **2005****Operating
                activities:**Net
                income (loss)
            
            $
            416
            
            $
            449
            
            $
            (1,218
            )Adjustments
                to reconcile net income (loss) to net cash used in operating
                activities:Allowance
                for doubtful accounts
            
            
            —
            
            
            —
            
            
            (90
            )Gain
                on sale of fixed assets
            
            
            —
            
            
            —
            
            
            (67
            )Stock
                compensation expense
            
            
            39
            
            
            40
            
            
            —Amortization
                of warrants issued for services
            
            
            —
            
            
            100
            
            
            339Gain
                on liquidation of foreign subsidiaries
            
            
            —
            
            
            (640
            )
            
            —Other
            
            
            —
            
            
            —
            
            
            18Change
                in operating assets and liabilities:Accounts
                receivable (trade)
            
            
            55
            
            
            41
            
            
            1,322Other
                receivables
            
            
            (5
            )
            
            141
            
            
            274Prepaid
                expenses and other current assets
            
            
            20
            
            
            63
            
            
            830Long-term
                deposits and other assets
            
            
            (3
            )
            
            150
            
            
            —Accounts
                payable
            
            
            (116
            )
            
            83
            
            
            (15
            )Provision
                for warranty liability
            
            
            —
            
            
            —
            
            
            (157
            )Accrued
                compensation
            
            
            —
            
            
            —
            
            
            (412
            )Accrued
                other liabilities
            
            
            (142
            )
            
            (635
            )
            
            (2,255
            )Deferred
                revenue
            
            
            —
            
            
            (126
            )
            
            (383
            )Net
                cash generated (used) in operating activities
            
            
            264
            
            
            (334
            )
            
            (1,814
            )**Investing
                activities:**Proceeds
                from sale of property and equipment
            
            
            —
            
            
            —
            
            
            67Purchase
                of short-term investments
            
            
            (27,318
            )
            
            (20,013
            )
            
            (14,089
            )Proceeds
                from sales and maturities of short-term investments
            
            
            34,556
            
            
            13,137
            
            
            19,050Net
                cash provided by (used in) investing activities
            
            
            7,238
            
            
            (6,876
            )
            
            5,028Net
                (decrease) increase in cash and cash equivalents
            
            
            7,502
            
            
            (7,210
            )
            
            3,214Cash
                and cash equivalents at the beginning of the period
            
            
            5,207
            
            
            12,417
            
            
            9,203Cash
                and cash equivalents at the end of the period
            
            $
            12,709
            
            $
            5,207
            
            $
            12,417**Supplemental
                information:**Cash
                paid for interest
            
            $
            —
            
            $
            4
            
            $
            —Income
                taxes paid
            
            $
            —
            
            $
            —
            
            $
            7Cancellation
                of notes receivable due to repurchase of unvested stock
            
            $
            —
            
            $
            —
            
            $
            1,520





See
      accompanying notes to consolidated financial statements.




27




**COSINE
        COMMUNICATIONS, INC.**
 
 **NOTES
        TO CONSOLIDATED FINANCIAL STATEMENTS**
 
 **1.
        Summary of Significant Accounting Policies**
 
 ***Description
        of Business***
 
 CoSine
        Communications, Inc. ("CoSine" or the "Company," which may be referred to
        as
        "we," "us," or "our") was incorporated in California on April 14, 1997 and
        in
        August 2000 was reincorporated in the State of Delaware. We were a provider
        of
        carrier network equipment products and services until the fourth quarter
        of
        fiscal year 2004 during which time we discontinued our product lines, took
        actions to lay off most of our employees, terminated contract manufacturing
        arrangements, contractor and consulting arrangements and various facility
        leases, and sold, scrapped or wrote-off our inventory, property and equipment.
        As a result of these activities, our business consisted primarily of a customer
        support capability for our discontinued products provided by a third party.
        We
        continued such support activities through December 31, 2006, at which time
        we
        ceased all customer support services. In 2006 we sold our patent portfolio
        and
        the intellectual property related to our carrier products and service business.
        We continue to seek to redeploy our existing resources to identify and acquire
        one or more new business operations with existing or prospective taxable
        earnings that can be offset by use of our net operating loss carry-forwards
        ("NOLs").
 
 ***Liquidity
        and Redeployment Strategy***
 
 The
        accompanying financial statements have been prepared in conformity with U.S.
        generally accepted accounting principles, which contemplate continuation
        of the
        Company as a going concern. However, at December 31, 2007, we have an
        accumulated deficit of $516 million. As of December 31, 2006, we ceased our
        customer service capability. Our actions in the fourth quarter of fiscal
        year
        2004 to terminate most of our employees and discontinue production activities
        in
        an effort to conserve cash raise substantial doubt about our ability to continue
        as a going concern. The financial statements do not include any adjustments
        to
        reflect the possible future effects relating to the recoverability and
        classification of the recorded asset amounts or amounts and classification
        of
        liabilities that might result from the outcome of this uncertainty.
 
 In
        July
        2005, we completed a comprehensive review of strategic alternatives, including
        a
        sale of CoSine, a sale or licensing of intellectual property, a redeployment
        of
        our assets into new business ventures, or a winding-up and liquidation of
        the
        business and a return of capital. The board of directors approved a plan
        to
        redeploy our existing resources to identify and acquire one or more new business
        operations, while continuing to support our existing customers and continuing
        to
        offer our intellectual property for license or sale. We continued to provide
        customer support services through December 31, 2006, at which time we terminated
        customer support operations. During 2006, we sold the rights to our patent
        portfolio and the intellectual property related to our carrier products and
        service business. We continue to pursue our redeployment strategy, which
        involves the acquisition of one or more operating businesses with existing
        or
        prospective taxable earnings that can be offset by use of our NOLs.
 
 ***Basis
        of Consolidation***
 
 The
        consolidated financial statements include all of the accounts of CoSine and
        our
        wholly owned subsidiary. All significant intercompany balances and transactions
        have been eliminated.
 
 ***Use
        of Estimates***
 
 The
        preparation of consolidated financial statements in conformity with U.S.
        generally accepted accounting principles requires management to make estimates
        and assumptions that affect the amounts reported in the consolidated financial
        statements and the accompanying notes. Actual results could differ from these
        estimates. Estimates are used in accounting for, but are not limited to,
        revenue
        recognition, allowance for doubtful accounts, inventory valuations, long-lived
        asset valuations, accrued liabilities including warranties, and equity
        issuances. Estimates and assumptions are reviewed periodically and the effects
        of revisions are reflected in the consolidated financial statements in the
        period of determination.
  28
  ***Significant
        Concentrations***
 
 Financial
        instruments that potentially subject us to concentrations of credit risk
        primarily consist of cash, cash equivalents, and short-term investments.
        We
        mitigate investment risk by investing only in government and high quality
        corporate securities and by limiting the amount of exposure to any one
        issuer. **** Deposits
        held with financial institutions may exceed the amount of insurance provided
        on
        such deposits **.** We
        are
        exposed to credit risks in the event of default by these institutions to
        the
        extent of the amount recorded on the balance sheet. We have not experienced
        any
        material losses on deposits of cash and cash equivalents.
 
 We
        ceased all customer service operations effective December 31, 2006. For the
        year
        ended December 31, 2006, we recognized revenue from three customers who
        accounted for 58%, 19% and 11% of total revenue, respectively. At December
        31,
        2006 we had two customers who accounted for 67% and 27% of total trade accounts
        receivable, respectively. For the year ended December 31, 2005, we recognized
        revenue from two customers who accounted for 43% and 15% of total revenue,
        respectively. At December 31, 2005, we had three customers who accounted
        for
        52%, 28% and 14% of total accounts receivable, respectively. We do not
        require collateral and maintain adequate reserves for potential credit
        losses.
 
 ***Guarantees***
 
 We may
        enter into certain types of contracts that require that we indemnify parties
        against certain third party claims that may arise. These contracts primarily
        relate to: (i) certain agreements with our officers, directors and
        employees, under which we may be required to indemnify such persons for
        liabilities arising out of their employment relationship, (ii) contracts under which we may be required to indemnify customers against loss
        or
        damage to property or persons as a result of willful or negligent conduct
        by our
        employees or sub-contractors, (iii) contracts under which we may be required
        to
        indemnify customers against third party claims that our product infringes
        a
        patent, copyright or other intellectual property right and, (iv) procurement
        or
        license agreements under which we may be required to indemnify licensors
        or
        vendors for certain claims that may be brought against them arising from
        our
        acts or omissions with respect to the supplied products or
        technology.
 
 Generally,
        a maximum obligation is not explicitly stated. Because the obligated amounts
        associated with this type of agreement are not explicitly stated, the overall
        maximum amount of the obligation cannot be reasonably estimated. Historically,
        we have not been obligated to make payments for these obligations, and no
        liabilities have therefore been recorded for these obligations on our
        consolidated balance sheets as of December 31, 2007, 2006, and
        2005.
 
 ***Cash,
        Cash Equivalents and Short-Term Investments***
 
 We
        consider all highly liquid investments purchased with original maturities
        of
        three months or less from the date of purchase to be cash equivalents.
        Investments with maturities in excess of three months and less than one year
        are
        considered to be short-term investments. We determine the appropriate
        classification of cash equivalents and investment securities at the time
        of
        purchase. We have classified our marketable securities as available-for-sale
        securities in the accompanying consolidated financial statements.
        Available-for-sale securities are carried at fair value, with unrealized
        gains
        and losses reported in a separate component of stockholders’ equity. Realized
        gains and losses and declines in value judged to be other-than-temporary,
        if
        any, on available-for-sale securities are included in interest income. Interest
        on securities classified as available-for-sale is also included in interest
        income. The cost of securities sold is based on the specific identification
        method.
 
 We
        invest
        excess cash in U.S. government and agency securities, debt instruments of
        financial institutions and corporations, and money market funds with strong
        credit ratings. We have established guidelines about the diversification
        of our
        investments and their maturities.
  29
  Short-term
        investments including cash equivalents and short-term investments were as
        follows (in thousands):
 
 **December
                  31,****2007**
              
              **2006**Money
                  market funds
              
              $
              12,635
              
              $
              5,079Corporate
                  obligations
              
              
              4,227
              
              
              16,150Commercial
                  paper
              
              
              6,183
              
              
              —Government
                  securities
              
              
              —
              
              
              1,50023,045
              
              
              22,729Amounts
                  classified as cash equivalents
              
              
              (12,635
              )
              
              (
                  5,079
              )$
              10,410
              
              $
              17,650
 
 As
        of
        December 31, 2007 and 2006, there were net unrealized gains of $15,000 and
        $17,000, respectively. All available-for-sale securities have contractual
        maturities of one year or less.
 
 ***Allowance
        for Doubtful Accounts***
 
 We
        maintain allowances for doubtful accounts for estimated losses resulting
        from
        the inability of our customers to pay their invoices. In order to estimate
        the
        appropriate level of this allowance, we analyze historical bad debts, customer
        concentrations, current customer credit-worthiness, current economic trends,
        and
        changes in customer payment patterns.
 
 ***Stock-Based
        Compensation***
 
 On
        January 1, 2006, the Company adopted Statement of Financial Accounting Standards
        No. 123 (revised 2004), “Share-Based Payment,” (“SFAS 123(R)”) which
        requires the measurement and recognition of compensation expense for all
        share-based payment awards made to employees and directors, including employee
        stock options based on estimated fair values. SFAS 123(R) supersedes the
        Company’s previous accounting under Accounting Principles Board Opinion
        No. 25, “Accounting for Stock Issued to Employees” (“APB 25”) for periods
        beginning in 2006. In March 2005, the Securities and Exchange Commission
        issued
        Staff Accounting Bulletin No. 107 (“SAB 107”) relating to SFAS 123(R). The
        Company has applied the provisions of SAB 107 in its adoption of SFAS 123(R).
  The
        Company adopted SFAS 123(R) using the modified prospective transition method.
        The Company’s consolidated financial statements as of December 31, 2007 and 2006
        reflect the impact of SFAS 123(R). In accordance with the modified prospective
        transition method, the Company’s consolidated financial statements for prior
        periods have not been restated to reflect, and do not include, the impact
        of
        SFAS 123(R). Stock-based compensation expense recognized under SFAS 123(R)
        for
        the years ended December 31, 2007 and 2006 was $39,000 and $40,000 respectively,
        which consisted of stock-based compensation expense related to employee stock
        options. No stock-based compensation expense related to employee stock options
        was recognized for the year ended December 31, 2005.
 
 SFAS
        123(R) requires companies to estimate the fair value of share-based payment
        awards on the date of grant using an option-pricing model. The value of the
        portion of the award that is ultimately expected to vest is recognized as
        expense over the requisite service periods in the Company’s consolidated
        statements of operations. Prior to the adoption of SFAS 123(R), the Company
        accounted for stock-based awards to employees and directors using the intrinsic
        value method in accordance with APB 25 as allowed under Statement of Financial
        Accounting Standards No. 123, “Accounting for Stock-Based Compensation”
(“SFAS 123”). Under the intrinsic value method, no stock-based compensation
        expense had been recognized in the Company’s consolidated statements of
        operations because the exercise price of the Company’s stock options granted to
        employees and directors equaled the fair market value of the underlying stock
        at
        the date of grant.
 
 Stock-based
        compensation expense recognized during the current period is based on the
        value
        of the portion of share-based payment awards that is ultimately expected
        to vest
        during the period. Stock-based compensation expense recognized in the Company’s
        consolidated statements of operations for the year ended December 31, 2007
        and
        2006 included compensation expense for share-based payment awards granted
        prior
        to, but not yet vested as of December 31, 2005 based on the grant date fair
        value estimated in accordance with the pro forma provisions of SFAS 123,
        and
        compensation expense for the share-based payment awards granted subsequent
        to
        December 31, 2005 based on the grant date fair value estimated in accordance
        with the provisions of SFAS 123(R). As stock-based compensation expense
        recognized in the consolidated statement of operations for the year ended
        December 31, 2007 and 2006 is based on awards ultimately expected to vest,
        it
        has been reduced for estimated forfeitures. SFAS 123(R) requires forfeitures
        to
        be estimated at the time of grant and revised, if necessary, in subsequent
        periods if actual forfeitures differ from those estimates. In the Company’s pro
        forma information required under SFAS 123 for the periods ended prior to
        January
        1, 2006, the Company accounted for forfeitures as they occurred.
  30
  Upon
        adoption of SFAS 123(R), the Company selected the Black-Scholes option-pricing
        model (“Black-Scholes model”) to determine the fair value of share-based awards
        granted beginning in fiscal 2006, the same model which was previously used
        for
        the Company’s pro forma information required under SFAS 123. The Company’s
        determination of fair value of share-based payment awards on the date of
        grant
        using an option-pricing model is affected by the Company’s stock price as well
        as assumptions regarding a number of complex and subjective variables. These
        variables include, but are not limited to, the Company’s expected stock price
        volatility over the term of the awards, and actual and projected employee
        stock
        option exercise behaviors. Expected volatilities are based on the historical
        volatility of the Company’s common stock. The Company uses historical data to
        estimate option exercise and employee terminations. The expected term of
        the
        options granted represents the period of time that options are expected to
        be
        outstanding, based on historical information. The risk-free interest rate
        is
        based on the U.S Treasury zero-coupon issues with remaining terms similar
        to the
        expected term of the Company’s equity awards. The Company does not anticipate
        paying any cash dividends in the foreseeable future and therefore used an
        expected dividend yield of zero. All of our stock compensation is accounted
        for
        as an equity instrument.
 
 *Prior
        to the Adoption of SFAS 123(R)*
 
 In
        2005,
        the Company accounted for stock-based employee compensation arrangements
        in
        accordance with provisions of APB Opinion No. 25, Accounting for Stock Issued
        to
        Employees, (“APB 25”), as interpreted by FASB Interpretation No. 44 (“FIN 44”),
        Accounting for Certain Transactions Involving Stock Compensation—an
        Interpretation of APB 25, Emerging Issues Task Force No. 00-23 (“EITF 00-23”),
        Issues related to the Accounting for Stock Compensation under APB 25 and
        FIN 44,
        and Financial Accounting Standards Board Interpretation (“FIN”) No. 28,
        Accounting for Stock Appreciation Rights and Other Variable Stock Option
        or
        Award Plans, and complied with the disclosure provisions of SFAS 148, Accounting
        for Stock-Based Compensation—Transition and Disclosure—an amendment of SFAS 123
        (“SFAS 148”). Under APB 25, compensation expense was based on the difference, if
        any, on the date of the grant, between the fair value of the Company’s stock and
        the exercise price. SFAS 123, Accounting for Stock Based Compensation, (“SFAS
        123”) as amended by SFAS 148 requires a “fair value” based method of accounting
        for an employee stock option or similar equity instrument. Had compensation
        cost
        for the Company’s stock-based compensation plan been determined based on the
        fair value at the grant date for awards for 2005 consistent with the provisions
        of SFAS 123, the Company’s net loss would have been increased to the pro forma
        amounts indicated below (in thousands, except per share data):
 
 Year Ended
                December 31,
                2005Net
                  loss, as reported
              
              $
              (1,218
              )Add:
                  Stock-based employee compensation expense, net of tax, included
                  in
                  reported net loss
              
              
              —Deduct:
                  Stock-based employee compensation expense determined under fair
                  value
                  method for all stock option grants (SFAS 123 expense), net of
                  tax
              
              
              (43
              )Pro
                  forma net loss
              
              $
              (1,261
              )Basic
                  and diluted net loss per share, as reported
              
              $
              (0.12
              )Pro
                  forma basic and diluted net loss per share
              
              $
              (0.12
              )
  31
  ***Revenue
        Recognition***
 
 In
        2005 and 2006, our revenues were earned primarily from our customer service
        contracts. We
        recognize product revenue at the time of shipment, assuming that persuasive
        evidence of an arrangement exists, the sales price is fixed or determinable
        and
        collection is probable, unless we have future obligations for installation
        or
        require customer acceptance, in which case revenue is deferred until these
        obligations are met. Our product incorporates software that is not incidental
        to
        the related hardware and, accordingly, we recognize revenue in accordance
        with
        the American Institute of Certified Public Accountants Statement of Position
        97-2 “Software Revenue Recognition.” For arrangements that include the delivery
        of multiple elements, the revenue is allocated to the various products based
        on
“vendor-specific objective evidence (“VSOE”)” of fair value. We establish VSOE
        based on either the price charged for the product when the same product is
        sold
        separately or for products not yet sold separately, based on the list prices
        of
        such products individually established by management with the relevant authority
        to do so.
 
 Revenue
        from perpetual software licenses is recognized upon shipment or acceptance,
        if
        required. Revenue from one-year term licenses is recognized on a straight-line
        basis over the one-year license term. Post delivery technical support, such
        as
        on-site service, phone support, parts and access to software upgrades, when
        and
        if available, is provided by us under separate support services agreement.
        In
        cases where the support service is sold as part of an arrangement including
        multiple elements, we allocate revenue to the support service based on the
        VSOE
        of the services and recognize it on a straight-line basis over the service
        period. Revenue from consulting and training services is recognized as the
        services are provided.
 
 Amounts
        billed in excess of revenue recognized are included as deferred revenue in
        the
        accompanying consolidated balance sheets.
 
 ***Cost
        of Revenue***
 
 Cost
        of
        revenue is comprised primarily of material, labor, overhead, shipping costs,
        subcontractor costs, warranty costs, and inventory write-downs. In addition,
        cost of revenue includes non-cash charges or credits related to equity
        issuances.
 
 ***Research
        and Development***
 
 Research
        and development expenditures, consisting primarily of materials, labor and
        overhead costs for the development and testing of prototypes, and salaries
        and
        related personnel costs associated with independent research, are generally
        charged to operations as incurred.
 
 Statement
        of Financial Accounting Standards No. 86, “Accounting for the Costs of Computer
        Software to be Sold, Leased or Otherwise Marketed,” requires the capitalization
        of certain software development costs subsequent to the establishment of
        technological feasibility. Based on our product development process,
        technological feasibility is established upon the completion of a working
        model.
        We ceased all research and development activities in March 2005. Capitalizable
        costs incurred after achieving technological feasibility have not been
        significant for any development project. Accordingly, we have charged all
        such
        costs to research and development expense in the periods they were
        incurred.
 
 ***Advertising
        Expense***
 
 Advertising
        costs are expensed as incurred. For the years ended December 31, 2007, 2006,
        and
        2005, we incurred no expense for advertising.
 
 ***Income
        Taxes***
  We
        account for income taxes using the liability method under which deferred
        tax
        assets and liabilities are determined based on the difference between the
        financial statement and tax bases of assets and liabilities using enacted
        tax
        rates in effect for the year in which the differences are expected to affect
        taxable income. Valuation allowances are established when necessary to reduce
        deferred tax assets to the amounts expected to be realized. We
        adopted the provisions of Financial Accounting Standards Board (FASB)
        Interpretation No. 48, Accounting for Uncertainty in Income Taxes, an
        interpretation of FASB Statement 109, on January 1, 2007.  This
        Interpretation clarifies the accounting for income taxes by prescribing the
        minimum recognition threshold a tax position is required to meet before being
        recognized in our consolidated financial statements.  The Interpretation
        also provides guidance for the measurement and classification of tax positions,
        interest and penalties, and requires additional disclosure on an annual
        basis.  The cumulative effect of the change had no impact on the
        consolidated balance sheet or statement of operations. Following implementation,
        the ongoing recognition of changes in measurement of uncertain tax positions
        will be reflected as a component of income tax expense. Interest and penalties
        incurred associated with unresolved income tax positions will continue to
        be
        included in other income (expense).
  32
  ***Net
        Income (Loss) Per Share***
 
 Basic
        net
        income (loss) per share is calculated based on the weighted average number
        of
        common shares outstanding during the periods presented, less the weighted
        average shares outstanding that are subject to our right of repurchase. Diluted
        net loss per share gives effect to the dilutive effect of common stock
        equivalents consisting of stock options and warrants (calculated using the
        treasury stock method) and convertible preferred stock.
 
 The
        following table presents the calculation of basic and diluted net loss per
        share
        for each year (in thousands, except per share data):
  **Year
                  ended December 31,****2007**
              
              **2006**
              
              **2005**Numerator:Net
                  income (loss)
              
              $
              416
              
              $
              449
              
              $
              (1,218
              )Denominator:Weighted
                  average shares outstanding for basic income (loss) per
                  share
              
              
              10,091
              
              
              10,091
              
              
              10,094Add:
                  effect of dilutive securities – stock options
              
              
              24
              
              
              5
              
              
              —Weighted
                  average shares used in basic and diluted netincome
                  (loss) per share
              
              
              10,115
              
              
              10,096
              
              
              10,094Basic
                  net income (loss) per share
              
              $
              0.04
              
              $
              0.04
              
              $
              (0.12
              )Diluted
                  net income (loss) per share
              
              $
              0.04
              
              $
              0.04
              
              $
              (0.12
              )
 
 During
        all periods presented, we had stock options and warrants outstanding that
        could
        potentially dilute earnings per share in the future, but were excluded from
        the computation
        of diluted net loss per share, as their effect would have been antidilutive.
        These shares amounted to 35,000, 26,000, and 436,000 for
        the
        years ended December 31, 2007, 2006, and 2005 respectively.
 
 ***Segment
        Reporting***
 
 We
        operate in only one segment: IP Service Delivery Platforms. Substantially
        all of
        our assets are located in the United States.
 
 Revenues
        from customers by geographic region for the years ended December 31, 2007,
        2006,
        and 2005 were as follows (in thousands):
  **Region**
              
              **Revenue****2007**Europe
              
              $
              —Japan
              
              
              —North
                  America
              
              
              —$
              —**2006**Europe
              
              $
              150Japan
              
              
              —North
                  America
              
              
              1,211$
              1,361**2005**Europe
              
              $
              797Japan
              
              
              527South
                  Korea
              
              
              90North
                  America
              
              
              1,901$
              3,315
  33
  ***Recent
        Accounting Pronouncements***
 
 In
        September 2006, the FASB issued FASB Statement No. 157, Fair Value
        Measurements, or SFAS 157. The standard provides guidance for using fair
        value to measure assets and liabilities. The standard also responds to
        investors’ requests for expanded information about the extent to which companies
        measure assets and liabilities at fair value, the information used to measure
        fair value, and the effect of fair value measurements on earnings. The standard
        applies whenever other standards require or permit assets or liabilities
        to be
        measured at fair value. The standard does not expand the use of fair value
        in
        any new circumstances. SFAS 157 must be adopted prospectively as of the
        beginning of the year it is initially applied. SFAS 157 is effective for
        financial statements issued for fiscal years beginning after November 15,
        2007, and interim periods within those fiscal years. We are still evaluating
        the
        impact this standard will have on our financial position or results of
        operations
 
 In
        February 2007, the FASB issued FASB Statement No. 159, The Fair Value Option
        for
        Financial Assets and Financial Liabilities—Including an Amendment of FASB
        Statement No. 115 (“SFAS 159”). SFAS 159 creates a “fair value option” under
        which an entity may elect to record certain financial assets or liabilities
        at
        fair value upon their initial recognition. Subsequent changes in fair value
        would be recognized in earnings as those changes occur. The election of the
        fair
        value option would be made on a contract-by-contract basis and would need
        to be
        supported by concurrent documentation or a preexisting documented policy.
        SFAS
        159 requires an entity to separately disclose the fair value of these items
        on
        the balance sheet or in the footnotes to the financial statements and to
        provide
        information that would allow the financial statement user to understand the
        impact on earnings from changes in the fair value. SFAS 159 is effective
        for us
        beginning with fiscal year 2008. We are currently evaluating the impact that
        the
        adoption of SFAS 159 will have on our consolidated financial
        statements.
  In
        December 2007, the FASB issued Statement of Financial Accounting Standards
        No. 141 (revised 2007), Business Combinations ** (“SFAS 141(R)”).
        SFAS 141(R) changes accounting for acquisitions that close beginning in
        2009. More transactions and events will qualify as business combinations
        and
        will be accounted for at fair value under the new standard. SFAS 141(R)
        promotes greater use of fair values in financial reporting. Some of the changes
        will introduce more volatility into earnings. SFAS 141(R) is effective for
        fiscal years beginning on or after December 15, 2008. We are currently
        assessing the impact that SFAS 141(R) may have on our financial position,
        results of operations, and cash flows.
  In
        December 2007, the FASB issued Statement of Financial Accounting Standards
        No. 160, Noncontrolling Interests in Consolidated Financial Statements
        (“SFAS 160”), an amendment of ARB No. 51. SFAS 160 will change
        the accounting and reporting for minority interests which will be
        recharacterized as noncontrolling interests and classified as a component
        of
        equity. SFAS 160 is effective for fiscal years beginning on or after
        December 15, 2008. SFAS 160 requires retroactive adoption of the
        presentation and disclosure requirements for existing minority interests.
        We are
        currently assessing the impact that SFAS 160 may have on our financial
        position, results of operations, and cash flows.
  In
        December 2007, the FASB issued EITF Issue 07-1 Accounting for Collaborative
        Arrangements (EITF 07-1). Collaborative arrangements are agreements between
        parties to participate in some type of joint operating activity. The task
        force
        provided indicators to help identify collaborative arrangements and provides
        for
        reporting of such arrangements on a gross or net basis pursuant to guidance
        in
        existing authoritative literature. The task force also expanded disclosure
        requirements about collaborative arrangements. Conclusions within EITF 07-1
        are
        to be applied retrospectively. We are currently assessing the impact that
        EITF
        07-1 may have on our financial position, results of operations, and cash
        flows.
 
 ***Reclassifications***
  Certain
        prior year amounts have been reclassified to conform to the current year
        presentation. The reclassification had no effect on total assets or net loss.
 
 **2.
        Leases**
 
 We
        lease
        our facilities under an operating lease which expires in late April, 2009
        with
        annual rental of $40,000. Effective July 1, 2007 our lease payments are made
        by
        SP Corporate Services LLC, an affiliated company, in connection with a
        management services agreement (See Note 6).
  Rent
        expense was $20,000, $55,000 and $83,000 for the years ended December 31,
        2007,
        2006, and 2005, respectively, and is calculated on a straight-line
        basis.
  34
  **3.
        Commitments and Contingencies**
  On
        November 15, 2001, we, along with certain of our officers and directors,
        were
        named as defendants in a class action shareholder complaint filed in the
        United
        States District Court for the Southern District of New York, now captioned
        in re
        CoSine Communications, Inc. Initial Public Offering Securities Litigation,
        Case
        No. 01 CV 10105. The complaint generally alleges that various investment
        bank
        underwriters engaged in improper and undisclosed activities related to the
        allocation of shares in our initial public offering. The complaint brings
        claims
        for the violation of several provisions of the federal securities laws against
        those underwriters, and also against us and each of the directors and officers
        who signed the registration statement relating to the initial public offering.
        The plaintiffs seek unspecified monetary damages and other relief. Similar
        lawsuits concerning more than 300 other companies' initial public offerings
        were
        filed during 2001, and this lawsuit is being coordinated with those actions
        in
        the Southern District of New York before Judge Shira A. Scheindlin.
  On
        or
        about July 1, 2002 an omnibus motion to dismiss was filed in the coordinated
        litigation on behalf of the issuer defendants, of which we and our named
        officer
        and directors are a part, on common pleading issues. In October 2002, pursuant
        to stipulation by the parties, the Court entered an order dismissing our
        named
        officers and directors from the action without prejudice. On February 19,
        2003,
        the Court dismissed the Section 10(b) and Rule 10b-5 claims against us but
        did
        not dismiss the Section 11 claims against us.
  In
        June
        2004, a stipulation of settlement and release of claims against the issuer
        defendants, including us, was submitted to the court for approval. The terms
        of
        the settlement, if approved, would dismiss and release all claims against
        the
        participating defendants (including us). In exchange for this dismissal,
        D&O
        insurance carriers would agree to guarantee a recovery by the plaintiffs
        from
        the underwriter defendants of at least $1 billion, and the issuer defendants
        would agree to an assignment or surrender to the plaintiffs of certain claims
        the issuer defendants may have against the underwriters. On August 31, 2005,
        the
        Court issued an order granting preliminary approval of the settlement. On
        April
        24, 2006, the Court held a fairness hearing in connection with the motion
        for
        final approval of the settlement but has yet to rule on this
        motion.
  On
        December 5, 2006, the Court of Appeals for the Second Circuit reversed the
        court's October 2004 order certifying a class in six test cases that were
        selected by the underwriter defendants and plaintiffs in the coordinated
        proceedings. On June 25, 2007, the Court entered an order terminating the
        proposed settlement based upon a stipulation among the parties to the
        settlement. Plaintiffs
        have filed amended master allegations and amended complaints in the six focus
        cases, which
        the
        defendants in those cases have moved to dismiss.  Plaintiffs
        have also moved for class certification in the six focus cases, which the
        defendants in those cases have opposed.  It
        is
        uncertain whether there will be any revised or future settlement. If the
        settlement is not consummated, we intend to defend the lawsuit vigorously.
        However, we cannot predict its outcome with certainty. If we are not successful
        in our defense of this lawsuit, we could be forced to make significant payments
        to the plaintiffs and their lawyers, and such payments could have a material
        adverse effect on our business, financial condition, and results of operations
        if not covered by our insurance carrier.
 
 On
        October 9, 2007, a purported CoSine shareholder filed a complaint for violation
        of Section 16(b) of the Securities Exchange Act of 1934, which prohibits
        short-swing trading, against the Company's IPO underwriters. The complaint,
        Vanessa Simmonds v. The Goldman Sachs Group, et al., Case No. C07-1629, in
        District Court for the Western District of Washington, seeks the recovery
        of
        short-swing profits. The Company is named as a nominal defendant. No recovery
        is
        sought from the Company.
  Even
        if
        these claims are not successful, the litigation could result in substantial
        costs and divert management's attention and resources, which could adversely
        affect our business, results of operations, and financial position.
  In
        the
        ordinary course of business, we are involved in legal proceedings involving
        contractual obligations, employment relationships, and other matters. Except
        as
        described above, we do not believe there are any pending or threatened legal
        proceedings that will have a material impact on our financial position or
        results of operations.
 
 Our
        unconditional purchase obligations relate to executive,
        financial and administrative support services, and personnel provided
        by SP Corporate Services LLC under an a greement
        which became effective as of July 1, 2007 (the "Services Agreement"). Under
        the
        Services Agreement, we pay SP Corporate Services LLP a monthly fee of $17,000
        in
        exchange for SP Corporate Services LLP’s services. The Services Agreement has a
        term of one year and automatically renews for successive one year periods
        unless
        otherwise terminated by either party. ****
  35
 
 **4.
        Stockholders’ Equity**
 
 ***Common
        Stock***
 
 We
        have
        authorized shares of common stock for future issuance at each year end as
        follows (in thousands):
 
 **2007**
              
              **2006**Stock
                  options:Options
                  outstanding
              
              
              153
              
              
              147Available
                  for future grants
              
              
              2,934
              
              
              2,940Warrants
                  outstanding
              
              
              4
              
              
              43,091
              
              
              3,091
 
 ***1997
        Stock Option Plan***
 
 In
        October 1997, the board of directors adopted the 1997 Stock Plan (“1997 Plan”)
        for issuance of common stock and grants of options for common stock to
        employees, consultants, and directors. Incentive stock options granted under
        the
        plan were at prices not less than the fair value of stock at the date of
        grant,
        except in the case of a sale to a person who owned stock representing more
        than
        10% of all the voting power of all classes of our stock, in which case the
        purchase price was 110% of the fair market value of the common stock on the
        date
        of grant. Nonstatutory stock options granted under the 1997 Plan were at
        prices
        not less than 85% of the fair value of stock at the date of grant, except
        in the
        case of a sale to a person who owned stock representing more than 10% of
        all the
        voting power of all classes of stock of CoSine, in which case the purchase
        price
        was 110% of the fair market value of the common stock on the date of grant.
        Options granted under the 1997 Plan generally vested over four years at a
        rate
        of 25% one year from the grant date and ratably monthly thereafter and were
        to
        expire 10 years after the grant, or earlier upon termination. Options could
        be
        granted with different vesting terms.
 
 Effective
        upon the initial public offering, the 1997 Plan was terminated and the shares
        reserved and unissued under the 1997 Plan were reserved for issuance under
        the
        2000 Plan.
 
 ***2000
        Stock Option Plan***
 
 In
        May
        2000, the board of directors adopted the 2000 Stock Plan (“2000 Plan”). The 2000
        Plan was approved by our shareholders before the completion of the initial
        public offering. The 2000 Plan provides for the grant of incentive stock
        options
        to employees, and for the grant of nonstatutory stock options and stock purchase
        rights to employees, directors, and consultants. Incentive stock options
        granted
        under the 2000 Plan will be at prices not less than the fair value of the
        common
        stock at the date of grant. The term of each option will be determined by
        the
        administrator of the plan, generally 10 years or less.
 
 We
        have
        authorized 2,215,779 shares of common stock for issuance under the 2000 Plan.
        At
        December 31, 2007 and 2006, respectively, a total of
        1,924,455 shares
        were available for future options grants under the 2000 Plan.
 
 ***2002
        Stock Option Plan***
 
 In
        January 2002, the board of directors adopted the 2002 Stock Plan (“2002 Plan”).
        The purpose of the 2002 Plan is to make available for issuance certain shares
        of
        common stock that have been (i) previously issued pursuant to the exercise
        of
        stock options granted under the 1997 Plan and (ii) subsequently reacquired
        by us
        pursuant to repurchase rights contained in restricted stock purchase agreements
        or pursuant to optionee defaults on promissory notes issued in connection
        with
        the exercise of such options (“Reacquired Shares”). Under the terms of the 1997
        Plan and the 2000 Plan, these Reacquired Shares would not otherwise have
        been
        available for reissuance. Only shares that were previously issued under the
        1997
        Plan and subsequently reacquired by us have been or will be reserved for
        issuance under the 2002 Plan.
 
 We
        have
        authorized up to a maximum of 1,000,000 shares of common stock for issuance
        of
        Reacquired Shares under the 2002 Plan. At December 31, 2007 and 2006, a total of
        1,000,000 sh ares
        were
        available for future options grants under the 2002 Plan,
        respectively.
  36
  The
        provisions of the 2002 Plan are substantially similar to those of the 2000
        Plan,
        except that the 2002 Plan does not permit the grant of awards to officers
        or
        directors and does not permit the grant of Incentive Stock Options. The 2002
        Plan provides for the grant of nonstatutory stock options to employees
        (excluding officers) and consultants. Stock options granted under the 2002
        Plan
        will be at prices not less than the fair value of the common stock at the
        date
        of grant. The term of each option, generally 10 years or less, will be
        determined by the administrator of the Plan.
 
 ***2000
        Director Option Plan***
 
 In
        May
        2000, the board of directors adopted the 2000 Director Option Plan (“Director’s
        Plan”), which was effective upon the closing of the initial public offering. At
        December 31, 2007, and 2006, a total of 48,000 shares of common stock have
        been
        authorized for issuance under the Director’s Plan. At December 31, 2007 and
        2006, a total of
        10,000 and 16,000 shares,
        respectively, were available for future options grants under the Director’s
        Plan.
 
 The
        Director’s Plan will automatically grant an option to purchase 8,000 shares of
        common stock to each non-employee director when he or she is first elected
        to
        our board of directors following the initial public offering. The Director’s
        Plan also provided that each non-employee director who had been a member
        of the
        board of directors for at least six months before the date of each annual
        stockholders’ meeting would receive an automatic annual grant of options to
        acquire 2,000 shares of common stock.
 
 The
        options have an exercise price per share equal to the fair market value of
        common stock at the date of grant and have a term of 10 years. Initial options
        vest and become exercisable in four equal annual increments immediately
        following the date of grant. Later additional options granted vest and become
        exercisable on the fourth anniversary of the date of grant.
 
 ***Impact
        of the Adoption of SFAS No. 123 (R)***
 
 We
        elected to adopt the modified prospective application method as provided
        by SFAS
        No. 123 (R). The effect of recording stock-based compensation for the years
        ended 2007 and 2006 was as follows (in thousands except per share data):
 
 **Year Ended**
                **December 31,**
                **2007**
              
              **Year Ended**
                **December 31,**
                **2006**Stock-based
                  compensation expense
              
              $
              39
              
              $
              40Tax
                  effect on stock-based compensation
              
              
              -
              
              
              -Net
                  effect on net income
              
              $
              39
              
              $
              40Effect
                  on basic and diluted net income per share
              
              $
              0.00
              
              $
              0.00
 
 Under
        the 1997, 2000, and 2002 stock option plans, the Board of Directors has the
        authority to determine the type of option and the number of shares subject
        to
        each option. The exercise price is generally equal to fair value of the
        underlying stock at the date of grant. Options generally become exercisable
        over
        a four-year period and, if not exercised, expire ten years from the date
        of
        grant. The 1997 Plan was terminated in connection with our initial public
        offering in 2000, and the shares reserved and unissued under the 1997 Plan
        were
        reserved for issuance under the 2000 Plan.
 
 Under
        the
        Director’s Option Plan, option grants are made to new non-employee directors and
        to continuing non-employee directors pursuant to the terms contained in the
        Director Stock Option Plan Agreement. The exercise price is equal to fair
        value
        of the underlying stock at the date of grant. Initial options vest in four
        equal
        annual increments immediately following the date of grant and the subsequent
        options vest on the fourth anniversary of the date of grant. The options,
        if not
        exercised, expire ten years from date of grant.
  37
 
 At
        December 31, 2007, the Company had the following stock plans:
  **Shares**
                **Available for**
                **Grant**
              
              **Options**
                **Outstanding**2000
                  Stock Option Plan
              
              
              1,924,000
              
              
              117,0002002
                  Stock Option Plan
              
              
              1,000,000
              
              
              —Directors’
                  Option Plan
              
              
              10,000
              
              
              36,000Totals
              
              
              2,934,000
              
              
              153,000
 
 As
        of
        January 1, 2006, we had an unrecorded deferred stock compensation balance
        related to stock options of approximately $139,000 before estimated forfeitures.
        In our pro forma disclosures prior to the adoption of SFAS No. 123 (R), we
        accounted for forfeitures upon occurrence. SFAS No. 123 (R) requires forfeitures
        to be estimated at the time of grant and revised if necessary in subsequent
        periods if actual forfeitures differ from those estimates. Based on our analysis
        of historical experience and review of current option holders, we have assumed
        an annual forfeiture rate of 2.5% for our options. Accordingly, as of January
        1,
        2006, we estimated that the stock-based compensation for the awards not expected
        to vest was approximately $13,000, and therefore, the unrecorded deferred
        stock-based compensation balance related to stock options was adjusted to
        approximately $126,000 after estimated forfeitures.
 
 As
        of
        December 31, 2007, we had an unrecorded deferred stock compensation balance
        related to stock options of approximately $71,000 before estimated forfeitures.
        In our pro forma disclosures prior to the adoption of SFAS No. 123 (R), we
        accounted for forfeitures upon occurrence. SFAS No. 123 (R) requires forfeitures
        to be estimated at the time of grant and revised if necessary in subsequent
        periods if actual forfeitures differ from those estimates. Based on our analysis
        of historical experience and review of current option holders, we have assumed
        an annual forfeiture rate of 2.5% for our options. Accordingly, as of December
        31, 2007, we estimated that the stock-based compensation for the awards not
        expected to vest was approximately $1,000, and therefore, the unrecorded
        deferred stock-based compensation balance related to stock options was adjusted
        to approximately $70,000 after estimated forfeitures.
  During
        the fiscal year ended December, 31 2007, there were stock option grants for
        a
        total of 6,000 shares, with an exercise price of $3.50 per share, the market
        price on the date of grant.
 
 As
        of
        December 31, 2007, the unrecorded stock-based compensation balance related
        to
        stock options was $70,000 and will be recognized over an estimated weighted
        average amortization period of 2 years.
 
 ***Valuation
        Assumptions***
 
 The
        fair
        value of our options was estimated at the grant date using the Black-Scholes
        option pricing model with the following weighted average assumptions:
 
 **Fiscal Year**
                **Ended December**
                **31,**
              
              **Fiscal Year**
                **Ended December**
                **31,**
              
              **Fiscal Year**
                **Ended December**
                **31,****2007**
              
              **2006**
              
              **2005**Weighted
                  average fair value of shares granted
              
              $
              1.65
              
              $
              1.17
              
              $
              1.07Dividend
                  yield
              
              
              0.00
              %
              
              0.00
              %
              
              0.00
              %Volatility
              
              
              0.39
              
              
              0.40
              
              
              0.47Risk
                  free interest rate
              
              
              4.89
              %
              
              5.00
              %
              
              4.02
              %Expected
                  life
              
              
              6.25
                  years
              
              
              6.25
                  years
              
              
              4
                  years
  38
  ***Summary
        Stock Option Plan Activity***
 
 Stock
        activity under the Stock Option Plans was as follows (in thousands, except
        per
        share data):
 
 **Options Outstanding****Shares**
                **Available for**
                **Grant**
              
              **Shares**
              
              **Weighted-**
                **Average**
                **Price Per**
                **Share****Balance
                  as of December 31, 2004**
              
              
              2,487
              
              
              590
              
              $
              8.88Repurchased
              
              
              10
              
              
              —Granted
              
              
              (112
              )
              
              112
              
              
              2.56Exercised
              
              
              0
              
              
              0Canceled
              
              
              555
              
              
              (
                  555
              )
              
              8.88**Balance
                  as of December 31, 2005**
              
              
              2,940
              
              
              147
              
              
              8.37Granted
              
              
              (6
              )
              
              6
              
              
              2.45Canceled
              
              
              6
              
              
              (6
              )
              
              18.88**Balance
                  as of December 31, 2006**
              
              
              2,940
              
              
              147
              
              
              7.69Granted
              
              
              (6
              )
              
              6
              
              
              3.50**Balance
                  as of December 31, 2007**
              
              
              2,934
              
              
              153
              
              $
              7.52
 
 The
        aggregate intrinsic value of stock options outstanding at December 31, 2007
        is
        $23,000. The aggregate intrinsic value of options vested and expected to
        vest is
        $23,000 at December 31, 2007 and the weighted average contractual life is
        7
        years. The aggregate intrinsic value of options exercisable at December 31,
        2007
        is $18,500 and the weighted average contractual life is 7 years.
 
 The
        following table summarizes information concerning options outstanding and
        exercisable at December 31, 2007 (in thousands, except per share
        data):
 
 **Options Outstanding****Weighted-**
              
              
              
              **Options Exercisable****Average**
              
              **Weighted-**
              
              
              
              **Weighted-****Number**
              
              **Remaining**
              
              **Average**
              
              **Number**
              
              **Average****Range of**
              
              **Of**
              
              **Contractual**
              
              **Exercise**
              
              **Of**
              
              **Exercise****Exercise Prices**
              
              **Shares**
              
              **Life (Years)**
              
              **Price**
              
              **Shares**
              
              **Price**$2.15-2.60
              
              
              118
              
              
              7.8
              
              $
              2.56
              
              
              107
              
              $
              2.583.50
              
              
              6
              
              
              9.5
              
              
              3.50
              
              
              -
              
              
              -5.20
              
              
              4
              
              
              5.4
              
              
              5.20
              
              
              4
              
              
              5.206.96
              
              
              12
              
              
              5.8
              
              
              6.96
              
              
              12
              
              
              6.968.80
              
              
              4
              
              
              4.4
              
              
              8.80
              
              
              4
              
              
              8.8022.30
              
              
              4
              
              
              3.5
              
              
              22.30
              
              
              4
              
              
              22.30120.00
              
              
              5
              
              
              2.7
              
              
              120.00
              
              
              5
              
              
              120.00$2.15-120.00
              
              
              153
              
              
              7.25
              
              $
              7.52
              
              
              136
              
              $
              8.13
 
 Exercisable
        options at December 31, 2007 and 2006 were 136,000 and 74,000 shares,
        respectively, at weighted average exercise prices of $8.13 and $12.47 per
        share,
        respectively. Options vested and expected to vest at December 31, 2007 were
        139,000 at a weighted average exercise price of $7.41.
 
 ***Warrants***
 
 In
        the
        second quarter of 2004, we issued to a reseller a warrant to acquire 254,489
        shares of our stock at an exercise price of $4.65 per share. The warrant
        had a
        two-year term beginning May 28, 2004 and vested ratably over the term. If
        during
        the two-year term (1) any person or entity had acquired a greater than 50%
        interest in CoSine or the ownership or control of more than 50% of the voting
        stock of CoSine or (2) we had sold substantially all of our intellectual
        property assets, the warrant would have become fully exercisable. Even if
        the
        reseller did not immediately exercise the warrant upon the occurrence of
        such an
        event that made the warrant fully exercisable (a “trigger event”), the reseller
        would have been entitled to securities, cash and property to which it would
        have
        been entitled to upon the consummation of the trigger event, less the aggregate
        price applicable to the warrant. We calculated the fair value of the warrant
        to
        be approximately $487,000 using the Black-Scholes valuation method, using
        a
        volatility factor of 0.97, a risk-free interest rate of 2.5%, and an expected
        life of two years. The fair value of the warrant was amortized over the two-year
        life of the warrant. During the year ended December 31, 2007, 2006, and 2005,
        we
        amortized nil, $100,000 and $339,000 to cost of sales, respectively. The
        fair
        value of this warrant was fully amortized in 2006 and the warrant expired
        in May
        2006.
  39





At
      December 31, 2007, warrants to purchase 3,750 shares of common stock at $80.00
      per share were outstanding.




**5.
      Related Parties**




During
      2006 and 2005, we, working with Steel Partners II, L.P. (“Steel Partners”), an
      entity that owns or controls 45% of our common stock, conducted a review of
      our
      historical net operating losses and a review of our ownership changes since
      our
      inception. The study was initiated to determine the effect, if any, of such
      ownership changes on the availability of our net operating loss carry-forwards.
      Steel Partners incurred direct expenses, primarily outside legal fees, in the
      amount of $42,000 and $40,728 in the years ended December 31, 2006 and 2005,
      respectively, in connection with the study and we have reimbursed them for
      these
      costs. At December 31, 2006, there were no amounts due to Steel
      Partners.





In
      July
      2007, we contracted with SP Corporate Services, LLC, an entity owned by an
      affiliate of Steel Partners, to provide management and other administrative
      services, including the services of our Chief Executive and Chief Financial
      Officer. On approval of the contract by the independent members of our board
      of
      directors, our Chief Executive, Chief Financial Officer, and Secretary
      terminated his employment with us and became a Managing Director of SP Corporate
      Services LLC, effective July 1, 2007. We paid a total of $ 102,000 for such
      services for the year ended December 31, 2007 and owed SP Corporate Services
      LLC
      $0 at December 31, 2007.





**6.
      Income Taxes**





The
      benefits for income taxes of $(17,000), $(52,000), and $(228,000) for the years
      ended December 31, 2007, 2006 ,and 2005 respectively, are comprised entirely
      of
      foreign corporate income taxes. The difference between the benefit for income
      taxes and the amounts computed by applying the federal statutory income tax
      rate
      to the losses before income taxes are explained below (in
      thousands):





**2007**
            
            **2006**
            
            **2005**U.S.
                federal tax benefit at federal statutory rate
            
            $
            142
            
            $
            170
            
            $
            (353
            )Loss
                for which no tax benefit is currently recognizable
            
            
            —
            
            
            
            
            
            125Loss
                for which a tax benefit is currently recognizable
            
            
            (142
            )
            
            (170
            )
            
            —Non-cash
                charges related to equity issuances
            
            
            —
            
            
            —
            
            
            —Reduction
                of foreign tax accrual
            
            
            (17
            )
            
            (52
            )
            
            —Total
                provision
            
            $
            (17
            )
            $
            (52
            )
            $
            (228
            )





Deferred
      income taxes reflect the net tax effects of temporary differences between the
      carrying amounts of assets and liabilities for financial reporting purposes
      and
      the amounts used for income tax purposes. Significant components of our deferred
      tax assets (liabilities) are as follows (in thousands):





**December
                31,****2007**
            
            **2006**Deferred
                tax assets (liabilities):Net
                operating loss carryforwards
            
            $
            133,585
            
            
            128,632Equity
                related charges
            
            
            (193
            )
            
            (193
            )Tax
                credit carryforwards
            
            
            8,435
            
            
            8,435Inventory
                reserve
            
            
            -
            
            
            157Capitalized
                research and development
            
            
            4,652
            
            
            5,815Capital
                loss carryforward
            
            
            61,134
            
            
            61,011Accruals
                and reserves not currently deductible
            
            
            7
            
            
            26Total
                deferred tax assets (liabilities)
            
            
            207,620
            
            
            203,883Valuation
                allowance
            
            
            (207,620
            )
            
            (203,883
            )Net
                deferred tax assets (liabilities)
            
            $
            —
            
            $
            —




The
      Company adopted FASB Interpretation No. 48, “Accounting for Uncertainty in
      Income Taxes-an Interpretation of FASB Statement 109” (“FIN 48”), on
      January 1, 2007. As a result of the implementation of FIN 48, the
      Company did not recognize any adjustment to the liability for uncertain tax
      positions and therefore did not record any adjustment to the beginning balance
      of accumulated deficit on the consolidated balance sheet. As of the date of
      adoption, the Company recorded no reduction to deferred tax assets for
      unrecognized tax benefits and therefore did not record any adjustment to the
      beginning balance of accumulated deficit on the balance sheet.




40




The
      Company’s practice is to recognize interest and/or penalties related to income
      tax matters in income tax expense. As of December 31, 2007, the Company had
      no
      accrued interest and/or penalties. The Company does not anticipate a significant
      change to its unrecognized tax benefits over the next twelve months. The
      unrecognized tax benefits may change during the next year for items that arise
      in the ordinary course of business. The unrecognized tax benefits at the end
      of
      December 31, 2007 are currently offset by a full valuation allowance.





Tax
      years
      2004 through 2006 and 2003 through 2006 are subject to examination by the
      federal and state tax authorities, respectively. There are no income tax
      examinations currently in process.





Statement
      of Financial Accounting Standards No. 109, “Accounting for Income Taxes”
provides for the recognition of deferred tax assets if realization of the
      deferred tax assets is more likely than not. Based upon the weight of available
      evidence, which includes CoSine’s historical operating performance and the
      reported cumulative net losses in all prior years, CoSine has provided a full
      valuation allowance against its net deferred tax assets. The valuation allowance
      increased by $3,737,000 in 2007 and by $31,510,000 in 2006.




As
      of
      December 31, 2007, we had federal net operating loss carryforwards of
      approximately $353,000,000, which will begin to expire in 2018 if not utilized
      and state net operating loss carryforwards of approximately $225,000,000, which
      will begin to expire in 2007 if not utilized. Due to the “change in ownership”
provisions of the Internal Revenue Code, the availability of our net operating
      loss and credit carryforwards may be subject to an annual limitation in future
      periods. Based on our review of historical “changes of control,” the maximum
      amount of federal net operating loss carryforwards subject to “change of
      control” limitations at December 31, 2007 was less than $3.0 million.





As
      of
      December 31, 2007 and 2006, we also had federal and state research and
      development tax credit carryforwards of approximately $7,113,000 and $7,967,000,
      respectively. The federal tax credit carryforwards will expire at various dates
      beginning in 2013, if not utilized. The state credits do not
      expire.





During
      fiscal 2006, we liquidated various foreign subsidiaries resulting in a capital
      loss carryforward of approximately $79,152,000. These losses may only be offset
      against future capital gains and will expire in fiscal 2011 if not utilized.
      During fiscal 2003, we liquidated a certain subsidiary, resulting in a capital
      loss carryforward of approximately $73,375,000. These losses may only be offset
      against future capital gains and will expire in fiscal 2008 if not
      utilized.





***7*** **.
      Sale of Intellectual Property**





In
      March
      2006, we signed agreements to sell the rights to our patent portfolio for
      $180,000 and in November 2006 we sold the rights to our intellectual property
      for $80,000. These amounts were recorded as other income for the year ended
      December 31, 2006.





**8.
      Restructuring and Impairment Charges**





***Restructuring
      Charges***





*December
      2004 Restructuring*





**** In
      the
      quarter ended December 31, 2004, we continued our previously announced actions
      to terminate the remainder of our workforce, with a charge of $619,000,
      terminate the lease of our facilities in Redwood City, California, for a net
      charge of $2,522,000, representing a cash payment of $3,763,000, forfeiture
      of a
      $420,000 lease deposit, plus the write-off of $388,000 unamortized value of
      warrants issued in connection with the original execution of the lease, net
      of
      accrued rent of $2,049,000, and terminated our office lease in Japan for a
      net
      charge of $396,000. In addition, we accrued $1,037,000 for the termination
      of
      non-cancelable software license agreements, as the licenses were not expected
      to
      be used in the ongoing operations.





41





Activity
      related to the December 2004 restructuring is as follows (in
      thousands):





**Worldwide
                Workforce**
              **Reduction**
            
            **Lease****Terminations**
            
            **SoftwareLicense****Terminations**
            
            **Total**December
                2004 restructuring charges
            
            $
            619
            
            $
            2,918
            
            $
            1,037
            
            $
            4,574Cash
                payments
            
            
            (66
            )
            
            (3,900
            )
            
            —
            
            
            (3,966
            )Write-offs
            
            
            —
            
            
            982
            
            
            —
            
            
            982**Provision
                balance at December 31, 2004**
            
            
            553
            
            
            —
            
            
            1,037
            
            
            1,590Cash
                payments
            
            
            (550
            )
            
            —
            
            
            (564
            )
            
            (1,114
            )Accrual
                adjustments
            
            
            —
            
            
            —
            
            
            (23
            )
            
            (23
            )**Provision
                balance at December 31, 2005**
            
            
            3
            
            
            —
            
            
            450
            
            
            453Cash
                payments
            
            
            (3
            )
            
            —
            
            
            (450
            )
            
            (453
            )**Provision
                balance at December 31, 2006**
            
            $
            —
            
            $
            —
            
            $
            —
            
            $
            —





*September
      2004 Restructuring*





In
      September 2004, we announced actions to terminate most of our workforce,
      retaining a limited team of employees to provide customer support and handle
      matters related to the ongoing exploration of strategic alternatives. The
      specific actions include workforce reductions, with a charge of $2,872,000,
      announced discontinuance of the CoSine products, with a related charge to cost
      of sales of $3,466,000 to write inventory down to net realizable value and
      a
      $75,000 charge for unrecoverable royalties, and termination of third party
      manufacturing agreements, with a charge of $375,000.




Effective
      September 23, 2004, we approved severance agreements to Stephen Goggiano, our
      President and Chief Executive Officer, and Terry Gibson, our Chief Financial
      Officer, covering the period of August 1, 2004 through the earlier of (i)
      December 31, 2004 or (ii) the termination of their respective employments due
      to
      the elimination of their respective jobs if caused by a merger, sale,
      acquisition, liquidation, dissolution, consolidation, or similar corporate
      transaction, in exchange for their continued service to us as we explored
      strategic alternatives, including a sale of the Company, a sale or licensing
      of
      products, intellectual property, or individual assets, or a winding-up and
      liquidation of the business. In exchange for their continued service during
      this
      time period, Mr. Goggiano and Mr. Gibson each received a retention bonus equal
      to 100% of their base 2004 annual salary paid in January 2005. In addition,
      upon
      completion of these services, we agreed to pay for the cost of Mr. Goggiano's
      and Mr. Gibson's family health care coverage for a period of up to 12 months
      after termination of their respective employment. These amounts were accrued
      in
      the December 31, 2004 restructuring. These amounts were charged to restructuring
      in December 2004 and were paid in 2005.





Activity
      related to the September 2004 restructuring is as follows (in
      thousands):





**Worldwide
                Workforce****Reduction**
            
            **Write-down of
                Inventory and****Prepaid royalty**
            
            **Manufacturing
                Agreement****Termination**
            
            **Total**September
                2004 restructuring charges
            
            $
            2,872
            
            $
            3,541
            
            $
            375
            
            $
            6,788Cash
                payments
            
            
            (2,448
            )
            
            —
            
            
            (278
            )
            
            (2,726
            )Write
                offs
            
            
            —
            
            
            (3,541
            )
            
            (97
            )
            
            (3,638
            )**Provision
                balance at December 31, 2004**
            
            
            424
            
            
            —
            
            
            —
            
            
            424Cash
                payments
            
            
            (424
            )
            
            —
            
            
            —
            
            
            (424
            )**Provision
                balance at December 31, 2005**
            
            $
            —
            
            $
            —
            
            $
            —
            
            $
            —





42




***Impairment
      of Long-lived Assets***





At
      December 31, 2006 and 2005, we had sold or scrapped all of our long-lived
      assets. During 2005, we had gains of $0.1 million from the sale of previously
      written-down long-lived assets.




*2004
      Impairment Charges*




At
      June
      30, 2004, we made an assessment of our business and concluded that indicators
      of
      impairment were present at June 30, 2004. Such indicators included ongoing
      operating losses and inability to achieve sustainable revenue growth, including
      our failure to attract new customers, and our decision to evaluate strategic
      alternatives. Accordingly, we performed an impairment test of the carrying
      value
      of our long-lived assets, consisting primarily of property and equipment in
      accordance with SFAS No. 144, "Accounting for the Impairment or Disposal of
      Long-Lived Assets." Based on an undiscounted cash flow analysis, the cash flows
      expected to be generated by our long-lived assets during their estimated
      remaining useful lives were not sufficient to recover the net book value of
      the
      assets. Consequently, we obtained a valuation report outlining the estimated
      fair value of the assets, based on quoted market prices, from an independent
      appraiser and recorded an impairment charge of $2.3 million to write down the
      carrying value of the long-lived assets held for use to their fair values in
      the
      second quarter of 2004.





At
      September 30, 2004, we concluded that indicators of impairment were again
      present. Such indicators included ongoing operating losses, inability to achieve
      sustainable revenue growth, and our decision to evaluate strategic alternatives.
      Accordingly, we performed an impairment test of the carrying value of our
      long-lived assets, consisting primarily of property and equipment in accordance
      with SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived
      Assets." Based on an undiscounted cash flow analysis, the cash flows expected
      to
      be generated by our long-lived assets during their estimated remaining useful
      lives were not sufficient to recover the net book value of the assets.
      Consequently, we obtained competitive bids from qualified prospective purchasers
      to determine fair values. The fair values of the long-lived assets, as indicated
      by competitive bids, exceeded the net book value of the long-lived assets at
      September 30, 2004, accordingly, no further impairment adjustment was made
      in
      the third quarter of 2004.




**Item
      9.** ***Changes
      in and Disagreements with Accountants on Accounting and Financial
      Disclosure***





None.




43




**Item
      9A.** ***Controls
      and Procedures***





**Evaluation
      of Disclosure Controls and Procedures** ***.*** The
      Securities and Exchange Commission defines the term "disclosure controls and
      procedures" to mean a company's controls and other procedures that are designed
      to ensure that information required to be disclosed in the reports that it
      files
      or submits under the Securities Exchange Act of 1934 is recorded, processed,
      summarized, and reported, within the time periods specified in the Commission's
      rules and forms. Our Chief Executive Officer and Chief Financial Officer has
      concluded, based on the evaluation of the effectiveness of the disclosure
      controls and procedures by our management, with the participation of our Chief
      Executive Officer and Chief Financial Officer, as of the end of the period
      covered by this report, that our disclosure controls and procedures were
      effective for this purpose, except as noted below under "Changes in Internal
      Controls."




**Managements’
      annual report on internal control over financial reporting** .
      Our
      management is responsible for establishing and maintaining adequate internal
      control over financial reporting, as such term is defined in Exchange Act Rules
      13a-15(f). Because of its inherent limitations, internal control over financial
      reporting may not prevent or detect misstatements. Projections of any evaluation
      of the effectiveness to future periods are subject to the risk that controls
      may
      become inadequate because of changes in conditions, or that the degree of
      compliance with the policies and procedures may deteriorate. Our management
      with
      the participation of the Chief Executive Officer and Chief Financial Officer,
      conducted an evaluation of the effectiveness of our internal control over
      financial reporting based on the framework of Internal Control-Integrated
      Framework issued by the Committee of Sponsoring Organizations of the Treadway
      Commission. Based on our evaluation under the framework in Internal
      Control-Integrated Framework, our management concluded that our internal control
      over financial reporting was effective as of December 31, 2007.





This
      Annual Report does not include an attestation report of the Company’s registered
      public accounting firm regarding internal controls over financial reporting.
      Management’s evaluation was not subject to attestation by the Company’s
      registered public accounting firm pursuant to temporary rules of the Securities
      and Exchange Commission that permit the Company to provide only management’s
      report in the Annual Report.




**Changes
      in Internal Controls** .
      With
      respect to the most recently completed fiscal quarter, we initiated processes
      that improved our segregation of duties and enhanced our financial statement
      preparation and review processes. Other than these enhancements, there have
      been
      no changes to our internal controls which have materially affected, or are
      reasonably likely to materially affect our internal controls over financial
      reporting.




**Limitations
      on Effectiveness of Controls and Procedures.** Our
      management, including our Chief Executive Officer and Chief Financial Officer,
      does not expect that our disclosure controls and procedures or our internal
      controls will prevent all errors and all fraud. A control system, no matter
      how
      well conceived and operated, can provide only reasonable, not absolute,
      assurance that the objectives of the control system are met. Further, the design
      of a control system must reflect the fact that there are resource constraints
      and the benefits of controls must be considered relative to their costs. Because
      of the inherent limitations in all control systems, no evaluation of controls
      can provide absolute assurance that all control issues and instances of fraud,
      if any, within the Company have been detected. These inherent limitations
      include, but are not limited to, the realities that judgments in decision-making
      can be faulty and that breakdowns can occur because of simple error or mistake.
      Additionally, controls can be circumvented by the individual acts of some
      persons, by collusion of two or more people, or by management override of the
      control. The design of any system of controls also is based in part upon certain
      assumptions about the likelihood of future events and there can be no assurance
      that any design will succeed in achieving its stated goals under all potential
      future conditions. Over time, controls may become inadequate because of changes
      in conditions, or the degree of compliance with the policies or procedures
      may
      deteriorate. Because of the inherent limitations in a cost-effective control
      system, misstatements due to error or fraud may occur and not be detected.




**Item
      9B.** ***Other
      Information***





None.




**PART
      III**







**Item
      10.** ***Directors
      and Executive Officers and Corporate Governance***





Except
      as
      set forth above in Part I under “Executive Officers of the Registrant” and in
      the paragraph below, the information required by Item 10 has been omitted from
      this Annual Report on Form 10-K, and is incorporated by reference to the
      sections “Election of Directors” and “Section 16(a) Beneficial Ownership
      Reporting Compliance” in our definitive Proxy Statement for the 2008 Annual
      Meeting of Stockholders, which we will file with the Commission pursuant to
      Regulation 14A within 120 days after the end of our 2007 fiscal
      year.




44




On
      March
      11, 2008, our Board of Directors adopted an amended and restated Code of
      Business Conduct and Ethics that applies to our officers, including our
      principal executive officer, principal financial officer, principal accounting
      officer and all other officers, directors and employees in compliance with
      applicable rules of the Securities and Exchange Commission. Our Code of Business
      Conduct and Ethics is attached as an exhibit to this Annual Report. Stockholders
      may obtain copies of our Code of Business Conduct and Ethics by contacting
      the
      Secretary of CoSine Communications at the address or phone number listed on
      the
      cover page of this Annual Report.




**Item
      11.** ***Executive
      Compensation***





Information
      required by Item 11 has been omitted from this Annual Report on Form 10-K and
      is
      incorporated by reference to the section “Executive Compensation” in our
      definitive Proxy Statement for the 2008 Annual Meeting of Stockholders.





**Item
      12.** ***Security
      Ownership of Certain Beneficial Owners and Management and Related Stockholder
      Matters***





Information
      required by Item 12 has been omitted from this Annual Report on Form 10-K and
      is
      incorporated by reference to the sections “Security Ownership of Management and
      Certain Beneficial Owners” and “Equity Compensation Plan Information” in our
      definitive Proxy Statement for the 2008 Annual Meeting of Stockholders.





**Item
      13.** ***Certain
      Relationships and Related Transactions and Director
      Independence***





Information
      required by Item 13 has been omitted from this Annual Report on Form 10-K and
      is
      incorporated by reference to the section “Election of Directors” in our
      definitive Proxy Statement for the 2008 Annual Meeting of
      Stockholders.





**Item
      14.** ***Principal
      Accountant Fees and Services***





Information
      required by Item 14 has been omitted from this Annual Report on Form 10-K and
      is
      incorporated by reference to the section “Audit Committee Disclosure” in our
      definitive Proxy Statement for the 2008 Annual Meeting of
      Stockholders.





**Item
      15.** ***Exhibits
      and Financial Statement Schedules***





(a)
      The
      following documents are filed as part of this Annual Report on Form
      10-K:





(1)  *Financial
      Statements:*





**Page**Report
                of Independent Registered Public Accounting Firm – Burr, Pilger &
                Mayer LLP
            
            23Consolidated
                Balance Sheets — December 31, 2007 and 2006
            
            24Consolidated
                Statements of Operations — Years ended December 31, 2007, 2006, and
                2005
            
            25Consolidated
                Statements of Stockholders’ Equity— Years ended December 31, 2007, 2006,
                and 2005
            
            26Consolidated
                Statements of Cash Flows — Years ended December 31, 2007, 2006, and
                2005
            
            27Notes
                to Consolidated Financial Statements
            
            28





(2)  *Financial
      Statement Schedules:*





Schedule
                II — Valuation and Qualifying Accounts
            
            46





All
      other
      schedules are omitted as they are not applicable or the required information
      is
      shown in the consolidated financial statements or the notes
      thereto.





(3)  *Exhibits:*





See
      Exhibit Index on page 48. The Exhibits listed in the accompanying Exhibit Index
      are filed as part of this Annual Report on Form 10-K.





45




**COSINE
      COMMUNICATIONS, INC.**





**SCHEDULE
      II — VALUATION AND QUALIFYING ACCOUNTS**





**Classification**
            
            **Balance at**
              **Beginning of Year**
            
            **Charged to**
              **Expenses****(Credits)**
            
            **Additions**
              **(Deductions)(1)**
            
            **Balance at End**
              **of Year****(In
                thousands)**Year
                ended December 31, 2007Reserves
                for accounts receivable
            
            $
            —
            
            
            —
            
            
            —
            
            $
            —Year
                ended December 31, 2006:Reserves
                for accounts receivable
            
            $
            —
            
            $
            —
            
            
            —
            
            $
            —Year
                ended December 31, 2005:Reserves
                for accounts receivable
            
            $
            90
            
            $
            (90
            )
            $
            —
            
            $
            —





46




**SIGNATURES**





Pursuant
      to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
      1934, the Registrant has duly caused this report to be signed on its behalf
      by
      the undersigned, thereunto duly authorized, on March 13, 2008.





COSINE
              COMMUNICATIONS, INC.By:
            /s/
            Terry
                R. GibsonTerry
                R. Gibson*Chief
                Executive Officer*





**POWER
      OF ATTORNEY**





KNOW
      ALL
      PERSONS BY THESE PRESENTS, that each person whose signature appears below
      constitutes and appoints Terry Gibson his true and lawful attorneys-in-fact
      and
      agents, each with full power of substitution, for him in any and all capacities,
      to sign any and all amendments to this report, and to file the same, with all
      exhibits thereto and all other documents in connection therewith, with the
      Securities and Exchange Commission, granting unto each of said
      attorneys-in-fact, or his substitute or substitutes, and each of them, hereby
      ratifying and confirming all that such attorneys-in-fact, or any substitutes,
      may do or cause to be done by virtue hereof.





Pursuant
      to the requirements of the Securities Exchange Act of 1934, this report has
      been
      signed on March 13, 2008 by the following persons in the capacities
      indicated.


**Signature**
              
              **Title**/s/
              TERRY
                  R. GIBSON
              
              Chief
                  Executive Officer, Chief Financial Officer andTerry
                  R, Gibson
              
              Director
                  (Principal Executive Officer and Principal Accounting
                  Officer)/s/
              Donald
                  Green
              
              Chairman
                  of the Board and DirectorDonald
                  Green/s/
              Charles
                  J. Abbe
              
              DirectorCharles
                  J. Abbe/s/
              Jack
                  L. Howard
              
              DirectorJack
                  L. Howard




47




**EXHIBIT
      INDEX**





**Description**


3.2*
              
              Fourth
                  Amended and Restated Certificate of Incorporation filed with the
                  Delaware
                  Secretary of State on May 30, 2006 (incorporated by reference to
                  Exhibit
                  3.1 to Form 10-Q filed August 2, 2006).3.3*
              
              Bylaws
                  (incorporated by reference to Exhibit 3.3 to Form 8A (file no.
                  000-30715)
                  filed May 26, 2000).3.4*
              
              First
                  Amendment to Bylaws dated April 30, 2001 (incorporated by reference
                  to
                  Exhibit 3.3 to Form 10-Q filed August 13, 2001).3.5*
              
              Second
                  Amendment to Bylaws dated January 28, 2003 (incorporated by reference
                  to
                  Exhibit 3.4 to Form 10-K filed March 27, 2003).3.6*
              
              Third
                  Amendment to Bylaws dated February 2, 2004 (incorporated by reference
                  to
                  Exhibit 3.5 to Form 10-K filed March 25, 2004).3.7*
              
              Certificate
                  of Designation of Series A Junior Participating Preferred Stock,
                  as filed
                  with the Secretary of State of Delaware on September 8, 2005 (incorporated
                  by reference to Exhibit 3.1 to Form 8-K filed September 8,
                  2005).4.1*
              
              Form
                  of Rights Certificate (incorporated by reference to Exhibit 4.1
                  to Form
                  8-K filed September 8, 2005).4.2*
              
              Rights
                  Agreement, dated as of September 1, 2005, by and between CoSine
                  Communications, Inc. and Mellon Investor Services LLC (incorporated
                  by
                  reference to Exhibit 4.2 to Form 8-K filed September 8,
                  2005).4.3*
              
              First
                  Amendment to Rights Agreement by and between CoSine Communications,
                  Inc.
                  and Mellon Investor Services LLC, effective as of August 31, 2007
                  (incorporated by reference to Exhibit 10.1 to Form 8-K filed September
                  4,
                  2007).4.4*
              
              Form
                  of warrant to purchase common stock issued by the Registrant to
                  Fujitsu
                  Network Communications, Inc. dated as of May 28, 2004 (incorporated
                  by reference to Exhibit 4.1 to Form 10-Q filed August 9,
                  2004).10.1*
              
              1997
                  Stock Plan (as amended and restated) and forms of agreements thereunder
                  (incorporated by reference to Exhibit 10.5 of Registration Statement
                  on
                  Form S-1 filed April 28, 2000).10.2*
              
              2000
                  Stock Plan and forms of agreements thereunder (incorporated by
                  reference
                  to Exhibit 10.2 of Amendment No. 1 to Registration Statement on
                  Form S-1
                  filed June 6, 2000).10.3*
              
              2000
                  Employee Stock Purchase Plan and forms of agreements thereunder
                  (incorporated by reference to Exhibit 10.3 of Amendment No. 1 to
                  Registration Statement on Form S-1 filed June 6, 2000).10.4*
              
              2000
                  Director Option Plan and forms of agreements thereunder (incorporated
                  by
                  reference to Exhibit 10.4 of Amendment No. 1 to Registration Statement
                  on
                  Form S-1 filed June 6, 2000).10.5*
              
              2002
                  Stock Plan and forms of agreements thereunder (incorporated by
                  reference
                  to Exhibit 10.17 to Form 10-K filed March 25, 2002).10.6*
              
              Form
                  of Severance Agreement extended to Stephen Goggiano, President
                  and Chief
                  Executive Officer of Registrant, and Terry R. Gibson, Chief Financial
                  Officer of Registrant, as of September 23, 2004 (incorporated by
                  reference
                  to Exhibit 10.1 to Form 10-Q filed November 15, 2004).10.7*
              
              Statement
                  of Work between Registrant and Wipro Limited, dated October 14, 2004
                  (incorporated by reference to Exhibit 10.2 to Form 10-Q filed November
                  15,
                  2004).10.8*
              
              Services
                  Agreement by and between Cosine Communications, Inc. and SP Corporate
                  Services LLC, effective as of July 1, 2007 (incorporated by reference
                  to
                  Exhibit 10.1 to Form 8K filed June 19, 2007).14.1
              
              Code
                  of Business Conduct and Ethics, adopted March 11, 2008.21.1
              
              Subsidiary
                  of the Registrant23.1
              
              Consent
                  of Independent Registered Public Accounting Firm - Burr, Pilger
&
                  Mayer LLP.31.1
              
              Certification
                  of Terry R. Gibson, Chief Executive Officer and Chief Financial
                  Officer of
                  CoSine Communications, Inc., pursuant to 15 U.S.C. Section 7241,
                  as
                  adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
                  2002.32.1
              
              Certification
                  of Terry R. Gibson, Chief Executive Officer and Chief Financial
                  Officer of
                  CoSine Communications, Inc., pursuant to 18 U.S.C. Section 1350,
                  as
                  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
                  2002.




*
      Previously filed.




48