UNITED
STATES SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549


________________




Form
10-K/A


(Amendment
No. 1)





(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, 2008


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.
      Employerincorporation
      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 filero
                Accelerated
      filer oNon-accelerated filero(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
xNo
o





The
aggregate market value of the voting and non voting common equity held by
non-affiliates of the Registrant was $11,757,213 based on the number of shares
held by non-affiliates as of February 12, 2009, and based on the reported last
sale price of common stock on June 30, 2008, 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
February 12, 2009, there were 10,090,635 shares of the Registrant’s Common Stock
outstanding.





DOCUMENTS INCORPORATED BY
REFERENCE





Not
applicable.





COSINE
COMMUNICATIONS, INC.





FORM
10-K/A


Year
Ended December 31, 2008





TABLE
OF CONTENTS





PagePart
      IItem
      1.
                              Business
                              1Item
      1A
                              Risk
      Factors
                              4Item
      1B
                              Unresolved
      Staff Comments
                              7Item
      2.
                              Properties
                              7Item
      3.
                              Legal
      Proceedings
                              7Item
      4.
                              Submission
      of Matters to a Vote of Security Holders
                              8Part
      IIItem
      5.
                              Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities
                              9Item
      6.
                              Selected
      Financial Data
                              11Item
      7.
                              Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                              12Item
      7A.
                              Quantitative
      and Qualitative Disclosures about Market Risk
                              19Item
      8.
                              Financial
      Statements and Supplementary Data
                              20Item
      9.
                              Changes
      in and Disagreements with Accountants on Accounting and Financial
      Disclosures
                              39Item
      9A.
                              Controls
      and Procedures
                              39Item
      9B.
                              Other
      Information
                              39Part
      IIIItem
      10.
                              Directors,
      Executive Officers and Corporate Governance
                              40Item
      11.
                              Executive
      Compensation
                              42Item
      12.
                              Security
      Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters
                              46Item
      13.
                              Certain
      Relationships and Related Transactions and Director
      Independence
                              48Item
      14.
                              Principal
      Accountant Fees and Services
                              49Part
      IVItem
      15.
                              Exhibits
      and Financial Statement Schedules
                              50Signatures
                              51Exhibit
      Index
                              52


i


EXPLANATORY
NOTE




This
Amendment No. 1 (the “Amendment”) on Form 10-K/A amends the Annual Report
on Form 10-K of CoSine Communications, Inc. (“CoSine”, “Company”, “our”, “we”,
or “us”) for the year ended December 31, 2008, which was filed with
the Securities and Exchange Commission on February 18, 2009 (the “Initial
Filing”).  We are filing this Amendment for the limited purpose of (i)
amending Items 10, 11, 12, 13 and 14 to reflect the inclusion of the information
required by the Form 10-K and (ii) conforming cross references to such
information as contained in Parts I and II of the Initial Filing, as we will not
file our definitive proxy statement within 120 days of the end of our
fiscal year ended December 31, 2008.




For the
convenience of the reader, this Amendment sets forth the Annual Report on Form
10-K, as amended, in its entirety. Except with respect to amending Items 10, 11,
12, 13 and 14 and cross references thereto, this Amendment does not modify or
update disclosures and financial statements contained in or reflect events
occurring after the filing of the Initial Filing. This Amendment should be read
in conjunction with the Company’s other filings made with the Securities and
Exchange Commission subsequent to the date of the Initial Filing.





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 4to 7ofthis 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 2009.





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.


1





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.





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. 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. The Service Agreement became effective as of July 1, 2007
and was renewed on July 1, 2008.





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 serves 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.


2





Prior
Business





Until
September 2004, we developed, marketed and sold a communications platform
designed to enable carrier network service providers to rapidly deliver a
portfolio of communications services to business and consumer
customers.  We marketed our carrier network products 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.





Products,
Services and Technology





Until
late 2004, we were a supplier of network carrier products and
services.  We formally discontinued our product lines 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 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.  At December 31, 2007 and 2008, 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, 2008.





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,
2008.





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.   We had no employees
in research and development at December 31, 2008.





We
have not incurred any research and development expenses for the years ended
December 31, 2008, 2007 and 2006, respectively.





Manufacturing





We
ceased all manufacturing activities in December 2004 and had no employees in
manufacturing at December 31, 2008.





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.  We had no backlog at
December 31, 2008, 2007 and 2006.


3





Competition





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





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.  We ceased providing customer support services effective
December 31, 2006.





Employees





We
had no employees at December 31, 2008.





Executive
Officers of the Registrant





Terry
R. Gibson, 55, 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, 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





Our
Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on
Form 8-K and amendments to reports filed pursuant to Sections 13(a) and 15(d) of
the Securities Exchange Act of 1934 (the "Exchange Act"), as amended, are
available, free of charge, on our Investor Relations web site at www.cosinecom.com/investorrelations.aspxas soon as
practicable after  such materials are filed with or furnished to the
Securities Exchange Commission.  The information posted on our web
site is not incorporated into this Annual Report.





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.


4


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.




In July
2005, we approved a plan to redeploy our existing resources to identify and
acquire one or more new business operations. 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
2009.




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.


5


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.


6





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
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.





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.   Effective July 1, 2007 our lease payments are made by
SP, an affiliated company, in connection with a management services
agreement.





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.


7





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.  On
August 31, 2005, the Court preliminarily approved the settlement. In December
2006, the appellate court overturned the certification of classes in the six
test cases that were selected by the underwriter defendants and plaintiffs in
the coordinated proceedings.  Because class certification was a
condition of the settlement, it was unlikely that the settlement would receive
final Court approval.  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 and moved for class certification in the six focus
cases.  Defendants moved to dismiss the amended complaints and have
opposed class certification.  On March 26, 2008, the Court denied the
defendants’ motion to dismiss the amended complaints.   It is
uncertain whether there will be any revised or future settlement.





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.   On March 26, 2008, the Court largely
denied the defendants’ motion to dismiss the amended complaints. It is uncertain
whether there will be any revised or future settlement.   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, filed in the 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.  The plaintiff, Vanessa Simmonds,
has filed similar lawsuits in the District Court for the Western District of
Washington alleging short-swing trading in the stock of 54 other
companies.  On July 25, 2008, a majority of the named issuer
companies, including CoSine, jointly filed a motion to dismiss plaintiff's
claims. The motion to dismiss was heard on January 16, 2009, and we are awaiting
a ruling.





Even
if the above 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 disputes and legal proceedings
involving contractual obligations, employment relationships, and other
matters.  Except as described above, we do not believe there are any
pending or threatened disputes or 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.


8


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 2008 and 2007.  Our common stock was
de-listed from NASDAQ National Market System on June 15, 2005.  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
                        
                        
                        Low2007First
      quarter
                        
                        $
                        3.75
                        
                        
                        $
                        2.94Second
      quarter
                        
                        $
                        3.70
                        
                        
                        $
                        3.32Third
      quarter
                        
                        $
                        3.57
                        
                        
                        $
                        2.86Fourth
      quarter
                        
                        $
                        2.96
                        
                        
                        $
                        2.462008First
      quarter
                        
                        $
                        2.75
                        
                        
                        $
                        2.20Second
      quarter
                        
                        $
                        2.85
                        
                        
                        $
                        2.40Third
      quarter
                        
                        $
                        2.70
                        
                        
                        $
                        2.45Fourth
      quarter
                        
                        $
                        2.35
                        
                        
                        $
                        1.55





Stockholders





According
to the records of our transfer agent, at February 12, 2009 we had approximately
345 shareholders of record.  The majority of our shares are held in
approximately 2,800 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.


9


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, 2008:





EQUITY
COMPENSATION PLAN INFORMATION





Number of Securities
                                                                      
                                                                      
                                                                      
                                                                      
                                                                      
                                                                      
                                                                      Number of Securitiesto be Issued Upon
                                                                      
                                                                      
                                                                      Weighted-Average
                                                                      
                                                                      
                                                                      Remaining Available forExercise of Outstanding
                                                                      
                                                                      
                                                                      Exercise Price of
                                                                      
                                                                      
                                                                      Future Issuance UnderOptions, Warrants and
                                                                      
                                                                      
                                                                      Outstanding Options,
                                                                      
                                                                      
                                                                      Equity CompensationPlan category
                                                                      
                                                                      Rights
                                                                      
                                                                      
                                                                      Warrants and Rights
                                                                      
                                                                      
                                                                      Plans (1)Equity
      compensation plans approved by stockholders
                                                                      
                                                                      
                                                                      161,000
                                                                      (2)
                                                                      
                                                                      $
                                                                      7.28
                                                                      (2)
                                                                      
                                                                      1,922,735
                                                                      (3)Equity
      compensation plans not approved by stockholders (4)
                                                                      
                                                                      
                                                                      —
                                                                      
                                                                      
                                                                      
                                                                      —
                                                                      
                                                                      
                                                                      893,990Total
                                                                      
                                                                      
                                                                      161,000
                                                                      
                                                                      
                                                                      $
                                                                      7.28
                                                                      
                                                                      
                                                                      2,
      816,725





(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 44,000 shares subject to outstanding options under the Director
      Plan.(3)
              Includes
      1,918,735 shares available for future issuance under the 2000 Stock Plan,
      and 4,000 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.


10


Item
6.  Selected
Financial Data





The
selected financial data below should be read in conjunction with “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” and
our financial statements and the related notes. The selected statements of
operations data for the years ended December 31, 2008, 2007 and 2006 and the
selected balance sheet data as of December 31, 2008 and 2007, are derived from,
and are qualified by reference to, the audited financial statements included
elsewhere in this Annual Report on Form 10-K.  The selected statements
of operations data for the fiscal years ended prior to December 31, 2006, and
the selected balance sheet data prior to December 31, 2007, are derived from our
audited 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.





Years
      Ended December 31,2008
                            
                            
                            2007
                            
                            
                            2006
                            
                            
                            2005
                            
                            
                            2004(In
      thousands, except per share data)Statements
      of Operations Data:Revenue
                            
                            $
                            —
                            
                            
                            $
                            —
                            
                            
                            $
                            1,361
                            
                            
                            $
                            3,315
                            
                            
                            $
                            9,675Cost
      of revenue
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            1,663
                            
                            
                            
                            2,049
                            
                            
                            
                            7,086Gross
      profit (loss)
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (302
                            )
                            
                            
                            1,266
                            
                            
                            
                            2,589Operating
      expenses:Research
      and development
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            103
                            
                            
                            
                            15,078Sales
      and marketing
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            105
                            
                            
                            
                            10,052General
      and administrative
                            
                            
                            721
                            
                            
                            
                            781
                            
                            
                            
                            1,316
                            
                            
                            
                            3,227
                            
                            
                            
                            6,064Restructuring
      and impairment charges
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (91
                            )
                            
                            
                            8,909Total
      operating expenses
                            
                            
                            721
                            
                            
                            
                            781
                            
                            
                            
                            1,316
                            
                            
                            
                            3,344
                            
                            
                            
                            40,103Loss
      from operations
                            
                            
                            (721
                            )
                            
                            
                            (781
                            )
                            
                            
                            (1,618
                            )
                            
                            
                            (2,078
                            )
                            
                            
                            (37,514
                            )Other
      income (expense):Interest
      income
                            
                            
                            678
                            
                            
                            
                            1,180
                            
                            
                            
                            1,101
                            
                            
                            
                            678
                            
                            
                            
                            489Interest
      expense
                            
                            
                            —
                            
                            
                            
                            —
                            
                            
                            
                            (4
                            )
                            
                            
                            —
                            
                            
                            
                            (3
                            )Other
                            
                            
                            28
                            
                            
                            
                            —
                            
                            
                            
                            918
                            
                            
                            
                            (46
                            )
                            
                            
                            (276
                            )Total
      other income
                            
                            
                            706
                            
                            
                            
                            1,180
                            
                            
                            
                            2,015
                            
                            
                            
                            632
                            
                            
                            
                            210Income
      (loss) before income tax provision (benefit)
                            
                            
                            (15
                            )
                            
                            
                            399
                            
                            
                            
                            397
                            
                            
                            
                            (1,446
                            )
                            
                            
                            (37,304
                            )Income
      tax provision (benefit)
                            
                            
                            —
                            
                            
                            
                            ( 17
                            )
                            
                            
                            ( 52
                            )
                            
                            
                            ( 228
                            )
                            
                            
                            33Net
      income (loss)
                            
                            $
                            (15
                            )
                            
                            $
                            416
                            
                            
                            $
                            449
                            
                            
                            $
                            (1,218
                            )
                            
                            $
                            37,337
                            )Basic
      net income (loss) per common share
                            
                            $
                            0.00
                            
                            
                            $
                            0.04
                            
                            
                            $
                            0.04
                            
                            
                            $
                            (0.12
                            )
                            
                            $
                            (3.70
                            )Diluted
      net income (loss) per common share
                            
                            $
                            0.00
                            
                            
                            $
                            0.04
                            
                            
                            $
                            0.04
                            
                            
                            $
                            (0.12
                            )
                            
                            $
                            (3.70
                            )Shares
      used in computing basic net income (loss) per common share
                            
                            
                            10,091
                            
                            
                            
                            10,091
                            
                            
                            
                            10,091
                            
                            
                            
                            10,094
                            
                            
                            
                            10,082Shares
      used in computing diluted net income (loss) per common
    share
                            
                            
                            10,091
                            
                            
                            
                            10,115
                            
                            
                            
                            10,096
                            
                            
                            
                            10,094
                            
                            
                            
                            10,082Balance
      Sheet Data:Cash,
      cash equivalents and short-term investments
                            
                            $
                            23,152
                            
                            
                            $
                            23,119
                            
                            
                            $
                            22,857
                            
                            
                            $
                            23,166
                            
                            
                            $
                            24,913Working
      capital
                            
                            
                            23,019
                            
                            
                            
                            22,927
                            
                            
                            
                            22,477
                            
                            
                            
                            22,353
                            
                            
                            
                            23,214Total
      assets
                            
                            
                            23,282
                            
                            
                            
                            23,231
                            
                            
                            
                            23,036
                            
                            
                            
                            23,840
                            
                            
                            
                            27,823Total
      stockholders’ equity
                            
                            
                            23,022
                            
                            
                            
                            22,930
                            
                            
                            
                            22,477
                            
                            
                            
                            22,603
                            
                            
                            
                            23,364


Quarterly
financial information (unaudited):




2008
                                                            
                                                            
                                                            20071st
                                                              Quarter
                                                            
                                                            
                                                            2nd
                                                              Quarter
                                                            
                                                            
                                                            3rd
                                                              Quarter
                                                            
                                                            
                                                            4th
                                                              Quarter
                                                            
                                                            
                                                            1st
                                                              Quarter
                                                            
                                                            
                                                            2nd
                                                              Quarter
                                                            
                                                            
                                                            3rd
                                                              Quarter
                                                            
                                                            
                                                            4th
                                                              Quarter(In
      thousands, except per share data)Revenue
                                                            
                                                            $
                                                            —
                                                            
                                                            
                                                            $
                                                            —
                                                            
                                                            
                                                            $
                                                            —
                                                            
                                                            
                                                            $
                                                            —
                                                            
                                                            
                                                            $
                                                            —
                                                            
                                                            
                                                            $
                                                            —
                                                            
                                                            
                                                            $
                                                            —
                                                            
                                                            
                                                            $
                                                            —Gross
      profit (loss)
                                                            
                                                            
                                                            —
                                                            
                                                            
                                                            
                                                            —
                                                            
                                                            
                                                            
                                                            —
                                                            
                                                            
                                                            
                                                            —
                                                            
                                                            
                                                            
                                                            —
                                                            
                                                            
                                                            
                                                            —
                                                            
                                                            
                                                            
                                                            —
                                                            
                                                            
                                                            
                                                            —Net
      income (loss)
                                                            
                                                            $
                                                            53
                                                            
                                                            
                                                            $
                                                            22
                                                            
                                                            
                                                            $
                                                            2
                                                            
                                                            
                                                            $
                                                            (92
                                                            )
                                                            
                                                            $
                                                            94
                                                            
                                                            
                                                            $
                                                            122
                                                            
                                                            
                                                            $
                                                            127
                                                            
                                                            
                                                            $
                                                            73Basic
      and diluted net income (loss) per  share
                                                            
                                                            $
                                                            0.01
                                                            
                                                            
                                                            $
                                                            0.00
                                                            
                                                            
                                                            $
                                                            0.00
                                                            
                                                            
                                                            $
                                                            (.01
                                                            )
                                                            
                                                            $
                                                            0.01
                                                            
                                                            
                                                            $
                                                            0.01
                                                            
                                                            
                                                            $
                                                            0.01
                                                            
                                                            
                                                            $
                                                            0.01


11


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”).





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.  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.





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, 2008
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 financial statements, which have been prepared in accordance with
U.S. generally accepted accounting principles.  The preparation of
these financial statements requires us to make estimates and judgments that
affect the reported amounts of assets, liabilities, revenue and expenses, and
related 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  financial
statements.





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.


12





Through
December 31, 2006, our business consisted primarily of customer service
revenue.  We recorded revenue as earned for customer service revenue
once we satisfied ourselves that collection from the customer were
probable.  If we could not satisfy ourselves that collection was
probable, we deferred revenue recognition until we collected
payment.




Fair
Value Measurements





Effective
January 1, 2008, we adopted Statement of Financial Accounting Standards (SFAS)
No. 157, “Fair Value Measurements” (“SFAS No. 157”) to measure the fair value of
our financial assets and financial liabilities.  SFAS No. 157 defines fair
value as the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the
measurement date.





SFAS
No. 157 establishes a fair value hierarchy that distinguishes between (1) market
participant assumptions developed based on market data obtained from independent
sources (observable inputs) and (2) an entity’s own assumptions about market
participant assumptions developed based on the best information available in the
circumstances (unobservable inputs).  The fair value hierarchy consists of
three broad levels, which gives the highest priority to unadjusted quoted prices
in active markets for identical assets or liabilities (Level 1) and the lowest
priority to unobservable inputs (Level 3).  The three levels of the fair
value hierarchy under SFAS No. 157 are described below:





Level
1:  Quoted prices (unadjusted) in active markets for identical assets or
liabilities.  We used Level 1 assumptions for our cash and cash equivalents
and short term investments, which are traded in an active market.  The
valuations are based on quoted prices that are readily and regularly available
in an active market, and accordingly, a significant degree of judgment is not
required.





Level
2:  Directly or indirectly observable market based inputs used in models or
other valuation methodologies.  As of December 31, 2008, we did not have
any Level 2 financial assets or liabilities.




Level 3:
Unobservable inputs that are supported by little or no market data and require
the use of significant management judgment.  As of December 31, 2008, we
did not have any Level 3 financial assets or liabilities.





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.


13





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 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
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).





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 recognized product revenue at the time of
shipment or delivery (depending on shipping terms), assuming that persuasive
evidence of an arrangement existed, the sales price was fixed or determinable
and collection was probable, unless we had future obligations for installation
or require customer acceptance, in which case revenue was deferred until these
obligations were met.  Our product incorporated software that was not
incidental to the related hardware and, accordingly, we recognized revenue in
accordance with the American Institute of Certified Public Accountants issued
Statement of Position 97-2 “Software Revenue Recognition.”  For
arrangements that included the delivery of multiple elements, the revenue was
allocated to the various products based on “vendor-specific objective evidence”
(VSOE) of fair value.  We established VSOE based on either the price
charged for the product when the same product was 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 was recognized upon shipment or acceptance, if
required.  Revenue from one-year term licenses was 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, was provided under separate support
services agreements.  In cases where the support services were sold as
part of an arrangement including multiple elements, we allocated revenue to the
support service based on the VSOE of the service and recognized it on a
straight-line basis over the service period.  Revenue from consulting
and training services was recognized as the services were provided.





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





Revenue
from customers by geographic region for the years ended December 31, 2008, 2007
and 2006 was as follows, in thousands:




2008
                  
                  
                  %
                  
                  
                  2007
                  
                  
                  %
                  
                  
                  2006
                  
                  
                  %North
      America
                  
                  $
                  —
                  
                  
                  
                  —
                  
                  
                  $
                  —
                  
                  
                  
                  —
                  
                  
                  $
                  1,211
                  
                  
                  
                  89
                  %Asia/Pacific
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —Europe
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  150
                  
                  
                  
                  11
                  %Total
      revenue
                  
                  $
                  —
                  
                  
                  
                  —
                  
                  
                  $
                  —
                  
                  
                  
                  —
                  
                  
                  $
                  1,361
                  
                  
                  
                  100
                  %




Hardware,
software and service revenue for the years ended December 31, 2008, 2007, and
2006 was as follows, in thousands:





2008
                
                
                %
                
                
                2007
                
                
                %
                
                
                2006
                
                
                %Hardware
                
                $
                —
                
                
                
                —
                
                
                $
                —
                
                
                
                —
                
                
                $
                —
                
                
                
                —Software
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —Service
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                1,361
                
                
                
                100
                %Total
      revenue
                
                $
                —
                
                
                
                —
                
                
                $
                —
                
                
                
                —
                
                
                $
                1,361
                
                
                
                100
                %





We
had no revenue in 2008 or 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 18 to 19 and "Risk Factors"
section on pages4to
7.


14





Non-Cash
Charges and Credits Related to Equity Issuances





We
amortized $34,000, $39,000 and $140,000 of non-cash charges related to equity
issuances to cost of revenue, operating expenses and interest expense, for the
years ended December 31, 2008, 2007 and 2006, respectively.





Below is
a reconciliation of non-cash charges related to equity issuances for the years
ended December 31, 2008, 2007, and 2006, affecting our cost of revenue,
operating expenses and interest expense, in thousands:





Years ended December 31,2008
                  
                  
                  2007
                  
                  
                  2006Amortization
      of charges related to warrants or stock options issued to non-employees in
      conjunction with lease, debt, and reseller
      agreements
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  100Employee
      stock-based compensation
                  
                  
                  34
                  
                  
                  
                  39
                  
                  
                  
                  40Net
      non-cash charges related to equity issuances
                  
                  $
                  34
                  
                  
                  $
                  39
                  
                  
                  $
                  140





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 was 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, no revenue 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.





Gross
Profit





For the
years ended December 31, 2008, 2007, and 2006, gross profit (loss) was nil, nil
and ($0.3) million, respectively.





The
decrease in gross profit for the year ended December 31, 2007 compared to
December 31, 2006 is due to the cessation of all business activities as of
December 31, 2006.





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.


15





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.





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 $721,000, $781,000 and $1,316,000 for the years
ended December 31, 2008, 2007, and 2006, respectively.





General
and administrative expense decreased by $60,000, $535,000 and $1,911,000 for the
years ended December 31, 2008, 2007, and 2006, 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
$34,000, $39,000 and $40,000 for the years ended December 31, 2008, 2007 and
2006, respectively.





Interest
Income and Other Expense





For the
year ended December 31, 2008, interest income was $678,000 as compared to $1.2
million at December 31, 2007 and $1.1 million at December 31,
2006.  The decrease is due to lower interest rates in 2008 as compared
to 2007 and 2006.





Other
Income





For
the year ended December 31, 2006, other income includes primarily $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, 2008, 2007, and 2006, respectively, interest expense
was nil, nil and $4,000.


16


Income
Tax Provision





Credits
for income taxes of nil, ($17,000), and ($52,000) for the years ended December
31, 2008, 2007, and 2006, 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 and 2006 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





In 2006,
we completed the wrap-up of our carrier services business.  We also
sold the remaining assets of our carrier networks products business with sale of
our patent portfolio in March 2006 and the sale of the rights to the related
intellectual property in November 2006 (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 $23.2 million in cash and short term investments at
December 31, 2008 and on our cost reduction activities, 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 Financial Statements.  See “Outlook” on pages 18
to 19 and “Risk Factors” on pages 4to
7, 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, 2008, cash, cash equivalents and short-term investments were $23.2
million, as compared to $23.1 million at December 31, 2007.





Operating
Activities





We
used $40,000 in cash in operations in the year ended December 31, 2008,
generated $264,000 cash from operations in the year ended December 31, 2007, and
used $334,000 in cash for operations for the year ended December 31,
2006.  The reduction in cash generated from operations in 2008 as
compared to 2007 is due to the decline in interest income in 2008 as compared to
2007. The improvement in 2007 as compared to 2006 is due primarily due to
decreases in accrued liabilities in 2006 as we completed our restructuring
activities.





Investing
Activities





We
used $3.5 million in investing activities for the year ended December 31, 2008
due to net purchases of short-term investments. For the year ended December 31,
2007, we generated $7.2 million in cash from investing activities due to net
sales and maturities of short-term investments. For the year ended December 31,
2006, we used $6.9 million in cash to fund an increase in our short term
investments.


17


Financing
Activities





We
had no financing activities during the years ended December 31, 2008, 2007, or
2006.





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, 2008
are summarized as follows, (in thousands of dollars):





Contractual
                        Obligations
                      
                      Total
                      
                      
                      2009
                      
                      
                      2010
                      
                      
                      
                      2011-2012
                      
                      
                      After
      2012Unconditional
      purchase obligations
                      
                      $
                      89.0
                      
                      
                      $
                      89.0
                      
                      
                      $
                      —
                      
                      
                      $
                      —
                      
                      
                      $
                      —Operating
      leases
                      
                      
                      13.0
                      
                      
                      
                      13.0
                      
                      
                      
                      —
                      
                      
                      
                      —
                      
                      
                      
                      —Total
      contractual cash obligations
                      
                      $
                      102.0
                      
                      
                      $
                      102.0
                      
                      
                      $
                      0.0
                      
                      
                      $
                      0.0
                      
                      
                      $
                      0.0





Our
operating lease obligations as of December 31, 2008 consist of an office lease
expiring at the end of April 2009.  However, effective July 1, 2007
our lease payments are made by SP Corporate Services LLC, as affiliated company,
in connection with a management services agreement.





Our
unconditional purchase obligations relate to executive, financial and
administrative support services, and personnel provided by SP Corporate Services
LLC under an agreement 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.





At
December 31, 2008, we had $23.2 million in cash and short-term
investments.  Cash used by operations during the year ended December
31, 2008 was $40,000. 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
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 did not make any elections for fair value
accounting and therefore, we did not record a cumulative-effect adjustment to
our opening accumulated deficit balance.


18




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. This issue is effective for financial statements
issued for fiscal years beginning after December 15, 2008 and is to be applied
retrospectively for all collaborative arrangements existing as of the effective
date. We are currently assessing the impact that EITF 07-1 may have on our
financial position, results of operations, and cash flows.





In
October 2008, the FASB issued FASB Staff Position No. 157-3, (“Determining
the Fair Value of a Financial Asset When the Market for That Asset Is Not
Active” (“FSP 157-3”)). FSP 157-3 clarifies the application of SFAS 157 in a
market that is not active and provides an example to illustrate key
considerations in determining the fair value of a financial asset when the
market for that financial asset is not active. FSP 157-3 became effective
immediately, including prior periods for which financial statements have
not been issued. Therefore, the Company adopted the provisions of FSP 157-3 in
its financial statements in the quarter ended December 31, 2008. The adoption
did not have an impact on the Company's results or operations or financial
condition.





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.





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, 2008 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 $42,000 decrease in the fair value
of our investments in debt securities as of December 31, 2008.





Exchange
Rate Sensitivity





All of
our revenue, all of our expenses and all of our other income are denominated in
U.S. dollars.


19


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 balance sheets of CoSine Communications, Inc. the
“Company”) as of December 31, 2008, and 2007 and the related statements of
operations, stockholders’ equity, and cash flows for each of the three years in
the period ended December 31, 2008. The financial statements are the
responsibility of the Company’s management. Our responsibility is to express an
opinion on these financial statements 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 financial statements referred to above present fairly, in all
material respects, the financial position of CoSine Communications, Inc. as of
December 31, 2008 and 2007 and the results of its operations and its flows for
each of the three years in the period ended December 31, 2008 in conformity with
accounting principles generally accepted in the United States of
America.





As
discussed in Note 1 and Note 6 to the 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 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 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


February
17, 2009


20


COSINE
COMMUNICATIONS, INC.





BALANCE
SHEETS


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





December
      31,
                                  2008
                                
                                
                                December
      31,
                                  2007ASSETSCurrent
      assets:Cash
      and cash equivalents
                                
                                $
                                9,155
                                
                                
                                $
                                12,709Short-term
      investments
                                
                                
                                13,997
                                
                                
                                
                                10,410Interest
      receivable
                                
                                
                                96
                                
                                
                                
                                73Prepaid
      expenses and other current assets
                                
                                
                                31
                                
                                
                                
                                36Total
      current assets
                                
                                
                                23,279
                                
                                
                                
                                23,228Long
      term deposit
                                
                                
                                3
                                
                                
                                
                                3$
                                23,282
                                
                                
                                $
                                23,231LIABILITIES
      AND STOCKHOLDERS' EQUITYCurrent
      liabilities:Accounts
      payable
                                
                                $
                                207
                                
                                
                                $
                                204Other
      accrued liabilities
                                
                                
                                53
                                
                                
                                
                                97Total
      current liabilities
                                
                                
                                260
                                
                                
                                
                                301Commitments
      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, 2008 and 2007
                                
                                
                                1
                                
                                
                                
                                1Additional
      paid-in capital
                                
                                
                                539,060
                                
                                
                                
                                539,026Accumulated
      other comprehensive income
                                
                                
                                88
                                
                                
                                
                                15Accumulated
      deficit
                                
                                
                                (516,127
                                )
                                
                                
                                (516,112
                                )Total
      stockholders' equity
                                
                                
                                23,022
                                
                                
                                
                                22,930$
                                23,282
                                
                                
                                $
                                23,231





See
accompanying notes to financial statements.


21





COSINE
COMMUNICATIONS, INC.





STATEMENTS
OF OPERATIONS


(In
thousands, except for per share data)





Years Ended December 31,2008
                    
                    
                    2007
                    
                    
                    2006Revenue:Product
                    
                    $
                    —
                    
                    
                    $
                    —
                    
                    
                    $
                    —Service
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    1,361Total
      revenue
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    1,361Cost
      of revenue (1)
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    1,663Gross
      profit (loss)
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (302
                    )Operating
      expenses:General
      and administrative (2)
                    
                    
                    721
                    
                    
                    
                    781
                    
                    
                    
                    1,316Total
      operating expenses
                    
                    
                    721
                    
                    
                    
                    781
                    
                    
                    
                    1,316Loss
      from operations
                    
                    
                    (721
                    )
                    
                    
                    (781
                    )
                    
                    
                    (1,618
                    )Other
      income (expense):Interest
      income
                    
                    
                    678
                    
                    
                    
                    1,180
                    
                    
                    
                    1,101Interest
      expense
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (4
                    )Other
      (3)
                    
                    
                    28
                    
                    
                    
                    —
                    
                    
                    
                    918Total
      other income
                    
                    
                    706
                    
                    
                    
                    1,180
                    
                    
                    
                    2,015(Loss)
      income before income tax benefit
                    
                    
                    (15
                    )
                    
                    
                    399
                    
                    
                    
                    397Income
      tax  (benefit)
                    
                    
                    —
                    
                    
                    
                    ( 17
                    )
                    
                    
                    ( 52
                    )Net
      (loss) income
                    
                    $
                    (15
                    )
                    
                    $
                    416
                    
                    
                    $
                    449Basic
      net income (loss) per share
                    
                    $
                    (0.00
                    )
                    
                    $
                    0.04
                    
                    
                    $
                    0.04Diluted
      net income (loss) per share
                    
                    $
                    (0.00
                    )
                    
                    $
                    0.04
                    
                    
                    $
                    0.04Shares
      used to calculate net income (loss) per share:Basic
                    
                    
                    10,091
                    
                    
                    
                    10,091
                    
                    
                    
                    10,091Diluted
                    
                    
                    10,091
                    
                    
                    
                    10,115
                    
                    
                    
                    10,096


__________




(1)
              Cost
      of revenue includes nil, nil and $100 of non-cash charges related to
      equity issuances in 2008, 2007, and 2006, respectively.(2)
              General
      and administrative expenses include $34, $39 and $40 in non-cash charges
      related to equity issuances in 2008, 2007, and 2006,
      respectively.(3)
              Other
      income includes gain on disposal of subsidiaries of $640 in
      2006.








See
accompanying notes to financial statements.


22





COSINE
COMMUNICATIONS, INC.


STATEMENTS
OF STOCKHOLDERS’ EQUITY


(In
thousands, except share data)




AccumulatedAdditional
                  
                  
                  Other
                  
                  
                  
                  
                  
                  TotalCommon
      Stock
                  
                  
                  Paid-in
                  
                  
                  Comprehensive
                  
                  
                  Accumulated
                  
                  
                  Stockholders’Shares
                  
                  
                  Amount
                  
                  
                  Capital
                  
                  
                  Income
                  
                  
                  Deficit
                  
                  
                  EquityBalance
      at December 31, 2005
                  
                  
                  10,090,635
                  
                  
                  $
                  1
                  
                  
                  $
                  538,947
                  
                  
                  $
                  632
                  
                  
                  $
                  (516,977
                  )
                  
                  $
                  22,603Stock
      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
                  )
                  
                  
                  22,477Stock
      based compensation
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  39
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  39Components
      of comprehensive income (loss):Net
      income
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  416
                  
                  
                  
                  416Unrealized
      gain (loss) on investments, net of tax
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (2
                  )
                  
                  
                  —
                  
                  
                  
                  (2
                  )Total
      comprehensive income (loss)
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (2
                  )
                  
                  
                  416
                  
                  
                  
                  414Balance
      at December 31, 2007
                  
                  
                  10,090,635
                  
                  
                  
                  1
                  
                  
                  
                  539,026
                  
                  
                  
                  15
                  
                  
                  
                  (516,112
                  )
                  
                  
                  22,930Stock
      based compensation
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  34
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  34Components
      of comprehensive income (loss):Net
      loss
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (15
                  )
                  
                  
                  (15
                  )Unrealized
      gain on investments, net of tax
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  73
                  
                  
                  
                  —
                  
                  
                  
                  73Total
      comprehensive income
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  73
                  
                  
                  
                  (15
                  )
                  
                  
                  57Balance
      at December 31, 2008
                  
                  
                  10,090,635
                  
                  
                  $
                  1
                  
                  
                  $
                  539,060
                  
                  
                  $
                  88
                  
                  
                  $
                  (516,127
                  )
                  
                  $
                  23,022





See
accompanying notes to financial statements.


23





COSINE
COMMUNICATIONS, INC.





STATEMENTS
OF CASH FLOWS


(In
thousands)





Years Ended December 31,2008
                    
                    
                    2007
                    
                    
                    2006Operating
      activities:Net
      (loss) income
                    
                    $
                    (15
                    )
                    
                    $
                    416
                    
                    
                    $
                    449Adjustments
      to reconcile net (loss) income to net cash (used) generated in operating
      activities:Stock
      compensation expense
                    
                    
                    34
                    
                    
                    
                    39
                    
                    
                    
                    40Amortization
      of warrants issued for services
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    100Gain
      on liquidation of foreign subsidiaries
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (640
                    )Change
      in operating assets and liabilities:Accounts
      receivable trade
                    
                    
                    —
                    
                    
                    
                    55
                    
                    
                    
                    41Interest
      receivable
                    
                    
                    (23
                    )
                    
                    
                    (5
                    )
                    
                    
                    141Prepaid
      expenses and other current assets
                    
                    
                    5
                    
                    
                    
                    20
                    
                    
                    
                    63Long-term
      deposits and other assets
                    
                    
                    —
                    
                    
                    
                    (3
                    )
                    
                    
                    150Accounts
      payable
                    
                    
                    3
                    
                    
                    
                    (116
                    )
                    
                    
                    83Other
      accrued liabilities
                    
                    
                    (44
                    )
                    
                    
                    (142
                    )
                    
                    
                    (635
                    )Deferred
      revenue
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    (126
                    )Net
      cash (used) generated in operating activities
                    
                    
                    ( 40
                    )
                    
                    
                    264
                    
                    
                    
                    (334
                    )Investing
      activities:Purchase
      of short-term investments
                    
                    
                    (30,729
                    )
                    
                    
                    (27,318
                    )
                    
                    
                    (20,013
                    )Proceeds
      from sales and maturities of short-term investments
                    
                    
                    27,215
                    
                    
                    
                    34,556
                    
                    
                    
                    13,137Net
      cash (used in) generated in investing activities
                    
                    
                    ( 3,514
                    )
                    
                    
                    7,238
                    
                    
                    
                    (6,876
                    )Net
      (decrease) increase in cash and cash equivalents
                    
                    
                    (3,554
                    )
                    
                    
                    7,502
                    
                    
                    
                    (7,210
                    )Cash
      and cash equivalents at the beginning of the period
                    
                    
                    12,709
                    
                    
                    
                    5,207
                    
                    
                    
                    12,417Cash
      and cash equivalents at the end of the period
                    
                    $
                    9,155
                    
                    
                    $
                    12,709
                    
                    
                    $
                    5,207Supplemental
      information:Cash
      paid for interest
                    
                    $
                    —
                    
                    
                    $
                    —
                    
                    
                    $
                    4





See
accompanying notes to financial statements.


24


COSINE
COMMUNICATIONS, INC.





NOTES
TO 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, 2008, 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.





Use
of Estimates





The
preparation of 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 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 financial statements in the
period of determination.





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.


25





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.





Guarantees





Wemay 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 balance sheets as of December 31, 2008, 2007, and
2006.





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 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.




Fair
Value Measurement




On
January 1, 2008, we adopted Statement of Financial Accounting Standards No. 157,
“Fair Value Measurements” (“SFAS 157”), which defines fair value,
establishes a framework for using fair value to measure assets and liabilities,
and expands disclosures about fair value measurements. SFAS 157 applies whenever
other statements require or permit assets or liabilities to be measured at fair
value. SFAS 157 is effective for fiscal years beginning after November 15, 2007,
except for nonfinancial assets and liabilities that are recognized or disclosed
at fair value in the financial statements on a nonrecurring basis, for which
application has been deferred for one year.


26






The
following table summarizes our financial assets measured at fair value on a
recurring basis in accordance with SFAS 157 as of December 31, 2008 (in
thousands) with comparative balances as of December 31, 2007:




December 31,
2008




Amortized
      Cost
                  
                  
                  Unrealized
      Gain /
                    (Loss)
                  
                  
                  Fair
      Value
                  
                  
                  Significant
      Other
                    Observable
      Inputs
                    (Level
      1)Assets:Cash
      equivalents:Money
      market funds
                  
                  $
                  9,074
                  
                  
                  $
                  —
                  
                  
                  $
                  9,074
                  
                  
                  $
                  9,074Short-term
      investments:Commercial  paper
                  
                  $
                  2,645
                  
                  
                  $
                  3
                  
                  
                  
                  2,648
                  
                  
                  $
                  2,648Corporate
      obligations
                  
                  
                  4,725
                  
                  
                  
                  (12
                  )
                  
                  
                  4,713
                  
                  
                  
                  4,713U.S.
      governmental  agency notes
                  
                  
                  6,539
                  
                  
                  
                  97
                  
                  
                  
                  6,636
                  
                  
                  
                  6,636Total
                  
                  $
                  13,909
                  
                  
                  $
                  88
                  
                  
                  $
                  13,997
                  
                  
                  $
                  13,997Liabilities
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  —




December 31,
2007




Amortized
      Cost
                  
                  
                  Unrealized
      Gain /
                    (Loss)
                  
                  
                  Fair
      Value
                  
                  
                  Significant
      Other
                    Observable
      Inputs
                    (Level
      1)Assets:Cash
      equivalents:Money
      market funds
                  
                  $
                  9,074
                  
                  
                  $
                  —
                  
                  
                  $
                  12,635
                  
                  
                  $
                  12,635Short-term
      investments:Commercial  paper
                  
                  $
                  6,165
                  
                  
                  $
                  18
                  
                  
                  
                  6,183
                  
                  
                  $
                  6,183Corporate
      obligations
                  
                  
                  4,230
                  
                  
                  
                  (3
                  )
                  
                  
                  4,227
                  
                  
                  
                  4,227Total
                  
                  $
                  10,395
                  
                  
                  $
                  15
                  
                  
                  $
                  10,410
                  
                  
                  $
                  10,410Liabilities
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  —
                  
                  
                  $
                  —


27




Our
financial assets are valued using market prices on active markets (level 1).
Level 1 instrument valuations are obtained from real-time quotes for
transactions in active exchange markets involving identical
assets.  At December 31, 2008, we did not have any assets with
instrument valuations which are not obtained from readily-available pricing
sources for comparable instruments (level 2) or assets without observable market
values that would require a high level of judgment to determine fair value
(level 3).




The
carrying amounts of certain of the Company’s financial
instruments including cash, interest receivable and accounts payable approximate
fair value due to their short maturities.





As of
December 31, 2008 and 2007, there were net unrealized gains of $88,000 and
$15,000, respectively. All available-for-sale securities have contractual
maturities of one year or less.





We manage
our investments as a single portfolio of highly marketable securities that is
intended to be available to meet our current cash requirements.  We
have no investments in auction rate securities.





The gross
unrealized gain related to our portfolio of available-for-sale securities were
primarily due to increase in fair value of debt securities as a result of the
change in interest rates during 2008 and 2007.





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 financial statements as of December 31, 2008, 2007 and 2006
reflect the impact of SFAS 123(R). In accordance with the modified prospective
transition method, the Company’s 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, 2008, 2007 and 2006 was $34,000, $39,000 and $40,000
respectively, which consisted of stock-based compensation expense related to
employee stock options.





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 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 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
statements of operations for the years ended December 31, 2008, 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 statement of operations for the years ended December 31, 2008,
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.


28


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 the 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.





Revenue
Recognition





In 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.





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
No. 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 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
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).





Net
(Loss) Income 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.


29





The
following table presents the calculation of basic and diluted net loss per share
for each year (in thousands, except per share data):


Years
      ended December 31,2008
                      
                      
                      2007
                      
                      
                      2006Numerator:Net
      (loss) income
                      
                      $
                      (15
                      )
                      
                      $
                      416
                      
                      
                      $
                      449Denominator:Weighted
      average shares outstanding for basic (loss) income
      per share
                      
                      
                      10,091
                      
                      
                      
                      10,091
                      
                      
                      
                      10,091Add:
      effect of dilutive securities – stock options
                      
                      
                      —
                      
                      
                      
                      24
                      
                      
                      
                      5Weighted
      average shares used in basic and diluted net(loss)  income
      per share
                      
                      
                      10,091
                      
                      
                      
                      10,115
                      
                      
                      
                      10,096Basic
      net (loss)  income per share
                      
                      $
                      (0.00
                      )
                      
                      $
                      0.04
                      
                      
                      $
                      0.04Diluted
      net (loss) income per share
                      
                      $
                      (0.00
                      )
                      
                      $
                      0.04
                      
                      
                      $
                      0.04





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 165,000,35,000, and 26,000for
the years ended December 31, 2008, 2007, and 2006 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, 2008, 2007,
and 2006 were as follows (in thousands):


Region
                    
                    Revenue2008Europe
                    
                    $
                    —Japan
                    
                    
                    —North
      America
                    
                    
                    —$
                    02007Europe
                    
                    $
                    —Japan
                    
                    
                    —North
      America
                    
                    
                    —$
                    02006Europe
                    
                    $
                    150Japan
                    
                    
                    —North
      America
                    
                    
                    1,211$
                    1,361


Recent
Accounting Pronouncements





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 did not make any elections for fair value
accounting and therefore, we did not record a cumulative-effect adjustment to
our opening accumulated deficit balance.


30




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. This issue is effective for
financial statements issued for fiscal years beginning after December 15, 2008
and is to be applied retrospectively for all collaborative arrangements existing
as of the effective date. We are currently assessing the impact that EITF 07-1
may have on our financial position, results of operations, and cash
flows.





In
October 2008, the FASB issued FASB Staff Position No. 157-3, (“Determining
the Fair Value of a Financial Asset When the Market for That Asset Is Not
Active” (“FSP 157-3”)). FSP 157-3 clarifies the application of SFAS 157 in a
market that is not active and provides an example to illustrate key
considerations in determining the fair value of a financial asset when the
market for that financial asset is not active. FSP 157-3 became effective
immediately, including prior periods for which financial statements have
not been issued. Therefore, the Company adopted the provisions of FSP 157-3 in
its financial statements in the quarter ended December 31, 2008. The adoption
did not have an impact on the Company's results or operations or financial
condition.





2.  Leases





We lease
our facilities under an operating lease which expires in 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 5).





Rent
expense was nil, $55,000 and $83,000 for the years ended December 31, 2008,
2007, and 2006, respectively, and is calculated on a straight-line
basis.





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.


31





In June
2004, a stipulation of settlement and release of claims against the issuer
defendants, including us, was submitted to the Court for approval.  On
August 31, 2005, the Court preliminarily approved the settlement. In December
2006, the appellate court overturned the certification of classes in the six
test cases that were selected by the underwriter defendants and plaintiffs in
the coordinated proceedings.  Because class certification was a
condition of the settlement, it was unlikely that the settlement would receive
final Court approval.  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 and moved for class certification in the six focus
cases.  Defendants moved to dismiss the amended complaints and have
opposed class certification.  On March 26, 2008, the Court denied the
defendants’ motion to dismiss the amended complaints.   It is
uncertain whether there will be any revised or future settlement.





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.   On March 26, 2008, the Court largely
denied the defendants’ motion to dismiss the amended complaints. It is uncertain
whether there will be any revised or future settlement.   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, filed in the 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.  The plaintiff, Vanessa Simmonds,
has filed similar lawsuits in the District Court for the Western District of
Washington alleging short-swing trading in the stock of 54 other
companies.  On July 25, 2008, a majority of the named issuer
companies, including CoSine, jointly filed a motion to dismiss plaintiff's
claims. The motion to dismiss was heard on January 16, 2009, and we are awaiting
a ruling.




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.





We
also have unconditional purchase obligations that relate to executive, financial
and administrative support services and personnel provided by SP Corporate
Services LLC under an agreement which became effective as of July 1, 2007 (the
Services Agreement”).  Under the Services Agreement, we pay SP
Corporate Services LLC a monthly fee of $17,000 in exchange for SP Corporate
Service LLC’s services, rent and personnel.  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
was renewed as of July 1, 2008 for an additional one year term.  For
2009, our total future obligation under this service agreement would be
$102,000.





4.  Stockholders’
Equity





Common
Stock





We have
authorized shares of common stock for future issuance at each year end as
follows (in thousands):





2008
                        
                        
                        2007Stock
      options:Options
      outstanding
                        
                        
                        161
                        
                        
                        
                        153Available
      for future
      grants
                        
                        
                        2,816
                        
                        
                        
                        2,934Warrants
      outstanding
                        
                        
                        4
                        
                        
                        
                        42,981
                        
                        
                        
                        3,091


32





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, 2008 and 2007, respectively, a total of1,922,455shares 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, 2008 and 2007,
a total of 893,990
shares were available for future options grants 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 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, 2008, and 2007, a total of 48,000 shares of
common stock have been authorized for issuance under the Director’s
Plan.  At December 31, 2008 and 2007, a total of 4,000 and 10,000shares, 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.


33





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 2008 and 2007 was as follows (in thousands except per share
data):





Year
      Ended
                        December
      31,
                        2008
                      
                      
                      Year
      Ended
                        December
      31,
                        2007Stock-based
      compensation expense
                      
                      $
                      34
                      
                      
                      $
                      39Tax
      effect on stock-based compensation
                      
                      
                      -
                      
                      
                      
                      -Net
      effect on net income
                      
                      $
                      34
                      
                      
                      $
                      39Effect
      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.





At
December 31, 2008, the Company had the following stock plans:




Shares
                    Available for
                    Grant
                  
                  
                  Options
                    Outstanding2000
      Stock Option Plan
                  
                  
                  1,918,735
                  
                  
                  
                  112,0001997
      Stock Option Plan
                  
                  
                  —
                  
                  
                  
                  5,0002002
      Stock Option Plan
                  
                  
                  893,990
                  
                  
                  
                  —Directors’
      Option Plan
                  
                  
                  4,000
                  
                  
                  
                  44
      ,000Totals
                  
                  
                  2,816,725
                  
                  
                  
                  161,000





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 1.24% 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.


34





As of
December 31, 2008, we had an unrecorded deferred stock compensation balance
related to stock options of approximately  $36,000 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 1.24% for our options. Accordingly, as
of December 31, 2008, 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 $35,000 after estimated forfeitures.




During
the fiscal year ended December, 31 2008, there were stock option grants for a
total of 8,000 shares, with an exercise price of $ 2.65 per share, the market
price on the date of grant.





As of
December 31, 2008, the unrecorded stock-based compensation balance related to
stock options was $36,000 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,
                      2008
                    
                    
                    Fiscal
      Year
                      Ended
                      December
      31,
                      2007
                    
                    
                    Fiscal
      Year
                      Ended
                      December 31,
                      2006Dividend
      yield
                    
                    
                    0.00
                    %
                    
                    
                    0.00
                    %
                    
                    
                    0.00
                    %Volatility
                    
                    
                    0.41
                    
                    
                    
                    0.39
                    
                    
                    
                    0.40Risk
      free interest rate
                    
                    
                    3.20.
                    %
                    
                    
                    4.89
                    %
                    
                    
                    5.00
                    %Expected
      life
                    
                    6.25
      years
                    
                    
                    6.25
      years
                    
                    
                    6.25 years





Summary
Stock Option Plan Activity





Stock
activity under the Stock Option Plans was as follows (in thousands, except per
share data):





Options OutstandingShares
                          Available
      for
                          Grant
                        
                        
                        Shares
                        
                        
                        Weighted-
                          Average
                          Price
      Per
                          ShareBalance
      as of December 31, 2004
                        
                        
                        2,378
                        
                        
                        
                        590
                        
                        
                        $
                        8.88Repurchased
                        
                        
                        10
                        
                        
                        
                        —Granted
                        
                        
                        (112
                        )
                        
                        
                        112
                        
                        
                        
                        2.56Exercised
                        
                        
                        0
                        
                        
                        
                        0Canceled
                        
                        
                        555
                        
                        
                        
                        (555
                        )
                        
                        
                        8.88Balance
      as of December 31, 2005
                        
                        
                        2,831
                        
                        
                        
                        147
                        
                        
                        
                        8.37Granted
                        
                        
                        (6
                        )
                        
                        
                        6
                        
                        
                        
                        2.45Canceled
                        
                        
                        6
                        
                        
                        
                        (6
                        )
                        
                        
                        18.88Balance
      as of December 31, 2006
                        
                        
                        2,831
                        
                        
                        
                        147
                        
                        
                        
                        7.69Granted
                        
                        
                        (6
                        )
                        
                        
                        6
                        
                        
                        
                        3.50Balance
      as of December 31, 2007
                        
                        
                        2,825
                        
                        
                        
                        153
                        
                        
                        
                        7.52Granted
                        
                        
                        (8
                        )
                        
                        
                        8
                        
                        
                        
                        2.65Balance
      as of December 31, 2008
                        
                        
                        2,817
                        
                        
                        
                        161
                        
                        
                        
                        7.28





The
aggregate intrinsic value of stock options outstanding at December 31, 2008 is
nil.  The aggregate intrinsic value of options vested and expected to
vest is nil at December 31, 2008 and the weighted average contractual life is 6
years. The aggregate intrinsic value of options exercisable at December 31, 2008
is nil and the weighted average contractual life is 6 years.


35





The
following table summarizes information concerning options outstanding and
exercisable at December 31, 2008 (in thousands, except per share
data):





Options Outstanding
                        
                        
                        Options ExercisableWeighted-Average
                        
                        
                        Weighted-
                        
                        
                        
                        
                        
                        Weighted-Number
                        
                        
                        Remaining
                        
                        
                        Average
                        
                        
                        Number
                        
                        
                        AverageRange
      of
                        
                        Of
                        
                        
                        Contractual
                        
                        
                        Exercise
                        
                        
                        Of
                        
                        
                        ExerciseExercise Prices
                        
                        Shares
                        
                        
                        Life (Years)
                        
                        
                        Price
                        
                        
                        Shares
                        
                        
                        Price$2.15
      - $2.60
                        
                        
                        118
                        
                        
                        
                        6.8
                        
                        
                        $
                        2.55
                        
                        
                        
                        106
                        
                        
                        $
                        2.57$2.61
      - $3.50
                        
                        
                        14
                        
                        
                        
                        8.9
                        
                        
                        
                        3.01
                        
                        
                        
                        -
                        
                        
                        
                        -$3.51
      - $5.20
                        
                        
                        4
                        
                        
                        
                        4.3
                        
                        
                        
                        5.20
                        
                        
                        
                        4
                        
                        
                        
                        5.20$5.21
      - $6.96
                        
                        
                        12
                        
                        
                        
                        4.8
                        
                        
                        
                        6.96
                        
                        
                        
                        12
                        
                        
                        
                        6.96$6.97
      - $8.80
                        
                        
                        4
                        
                        
                        
                        3.4
                        
                        
                        
                        8.80
                        
                        
                        
                        4
                        
                        
                        
                        8.80$8.81
      - $22.30
                        
                        
                        4
                        
                        
                        
                        2.5
                        
                        
                        
                        22.30
                        
                        
                        
                        4
                        
                        
                        
                        22.30$22.31
      - $120.00
                        
                        
                        5
                        
                        
                        
                        1.7
                        
                        
                        
                        120.00
                        
                        
                        
                        5
                        
                        
                        
                        120.00$2.15
      - $120.00
                        
                        
                        161
                        
                        
                        
                        6.41
                        
                        
                        $
                        7.28
                        
                        
                        
                        135
                        
                        
                        $
                        8.16





Exercisable
options at December 31, 2008 and 2007 were 135,000 and 136,000 shares,
respectively, at weighted average exercise prices of $8.16 and $8.13 per share,
respectively.





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.





At
December 31, 2008, 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
$204,000 and $102,000 for such services for the years ended December 31, 2008
and 2007, respectively, and owed SP Corporate Services LLC nil at December 31,
2008 and 2007.


36


6.  Income
Taxes





The
benefits for income taxes of nil, $(17,000), and $(52,000) for the years ended
December 31, 2008, 2007, and 2006 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 income (loss) before income taxes are explained below (in
thousands):





2008
                    
                    
                    2007
                    
                    
                    2006U.S.
      federal tax benefit at federal statutory rate
                    
                    $
                    (5
                    )
                    
                    $
                    142
                    
                    
                    $
                    170Loss
      for which a tax benefit is currently recognizable
                    
                    
                    5
                    
                    
                    
                    (142
                    )
                    
                    
                    (170
                    )Reduction
      of foreign tax accrual
                    
                    
                    —
                    
                    
                    
                    (17
                    )
                    
                    
                    (52
                    )Total
      provision
                    
                    $
                    —
                    
                    
                    $
                    (17
                    )
                    
                    $
                    (52
                    )





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
      31,2008
                      
                      
                      2007Deferred
      tax assets (liabilities):Net
      operating loss carryforwards
                      
                      $
                      132,830
                      
                      
                      $
                      133,585Equity
      related charges
                      
                      
                      (193
                      )
                      
                      
                      (193
                      )Tax
      credit carryforwards
                      
                      
                      8,435
                      
                      
                      
                      8,435Capitalized
      research and development
                      
                      
                      3,490
                      
                      
                      
                      4,652Capital
      loss carryforward
                      
                      
                      31,784
                      
                      
                      
                      61,134Accruals
      and reserves not currently deductible
                      
                      
                      (3
                      )
                      
                      
                      7Total
      deferred tax assets (liabilities)
                      
                      
                      176,343
                      
                      
                      
                      207,620Valuation
      allowance
                      
                      
                      (176,343
                      )
                      
                      
                      (207,620
                      )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 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.





The
Company’s practice is to recognize interest and/or penalties related to income
tax matters in income tax expense. As of December 31, 2008, 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, 2008 are currently offset
by a full valuation allowance.





Tax years
2005 through 2008 and 2004 through 2008 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 decreased by $31,277,000 in 2008 and increased by $3,737,000
in 2007.





As of
December 31, 2008, 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 $213,000,000, which
will begin to expire in 2009 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.


37





As of
December 31, 2008 and 2007, 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 expired in fiscal 2008 since it was 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
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.





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





Worldwide
                  Workforce
                  Reduction
                
                
                Lease
                  Terminations
                
                
                Software
                  License
                  Terminations
                
                
                TotalDecember
      2004 restructuring charges
                
                $
                619
                
                
                $
                2,918
                
                
                $
                1,037
                
                
                $
                4,574Cash
      payments
                
                
                (66
                )
                
                
                (3,900
                )
                
                
                —
                
                
                
                (3,966
                )Write-offs
                
                
                —
                
                
                
                982
                
                
                
                —
                
                
                
                982Provision
      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
                
                $
                —
                
                
                $
                —
                
                
                $
                —
                
                
                $
                —


38


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





None.





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, 2008.





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.
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.


39


PART
III





Item
10.  Directors and
Executive Officers of the Registrant





OUR
EXECUTIVE OFFICERS





Terry R.
Gibson, 55, has served as a director and Chief Executive Officer of the Company
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, an affiliate of Steel
Partners II, L.P., our largest shareholder.  Pursuant to a services
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.  Mr. Gibson also currently serves as a director of
Point Blank Solutions, Inc., a manufacturer of body armor
systems.  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.





OUR
DIRECTORS





The names
of our directors and their ages, titles and biographies as of April 1, 2009
appear below:





Name
                      
                      Age
                      
                      PositionDonald
      Green
                      
                      77
                      
                      Chairman
      of the Board of DirectorsCharles
      J. Abbe
                      
                      67
                      
                      DirectorJack
      L. Howard
                      
                      47
                      
                      DirectorTerry
      R. Gibson
                      
                      55
                      
                      Director,
      President, Chief Executive Officer, Chief Financial Officer and
      Secretary





Donald
Green, 77, has served as Chairman of CoSine's Board of Directors since March
2002 and as a director since June 1999. Mr. Green was a co-founder of Advanced
Fibre Communications, Inc., a provider of multi-service access solutions for the
telecommunications industry, and served as its Chairman of the Board from May
1999 until his retirement in September 2001, and also served as Chief Executive
Officer from May 1992 to May 1999. Mr. Green is a director of Redcondor, Inc., a
managed service provider of highly resilient email security systems for
businesses, education, government agencies and service
providers.   Mr. Green is a director of Triaccess Technologies,
Inc., a designer and marketer of video semiconductors.   Mr.
Green holds a higher national certificate in electrical engineering from
Willesdon Technical College.





Charles
J. Abbe, 67, has served as a director of CoSine since August 2000. Until his
retirement in June 2001, Mr. Abbe has served as President and Chief Operating
Officer of JDS Uniphase Corporation, a designer, developer and manufacturer of
fiber optic products, since April 2000, following the merger of Optical Coating
Laboratory, Inc. with JDS Uniphase in February of the same year. Mr. Abbe served
as Optical Coating Laboratory’s President and Chief Executive Officer from April
1998 to March 2000, as its President from November 1997 to April 1998 and as its
Vice President and General Manager for North America and Asia from April 1996 to
November 1997. Mr. Abbe currently serves as a director and chairman of the Audit
Committee of Cymer, Inc., a semiconductor equipment company, and a director of
OPNEXT, Inc., a fiber optic technology company. Mr. Abbe holds a B.S. and an
M.S. in chemical engineering from Cornell University and an M.B.A. from Stanford
University.





Jack L.
Howard, 47, has served as a director of CoSine since July 25,
2005.  Mr. Howard is the President of Steel Partners LLC (“Steel
Partners”), a global management firm, and has been associated with Steel
Partners and its affiliates since 1993.  Mr. Howard co-founded Steel
Partners II, L.P., a private investment partnership, in 1993.  He has
been a registered principal of Mutual Securities, Inc., a NASD registered
broker-dealer, since 1989.  Mr. Howard has served as the Chief
Operating Officer of SP Acquisition Holdings, Inc. (“SP Acquisition”), a company
formed for the purpose of acquiring one or more businesses or assets, since June
2007 and has served as its Secretary since February 2007.  He also
served as a director of SP Acquisition from February 2007 to June 2007 and as
its Vice-Chairman from February 2007 to August 2007.  Mr. Howard has
been a director of WHX Corporation, a diversified industrial products
manufacturing company, since July 2005.  He has served as a director
(currently Chairman) of Adaptec, Inc., a storage solutions provider, since
December 2007.  Mr. Howard served as Chairman of the Board of a
predecessor entity of WebFinancial L.P. (“Web L.P.”), a diversified holding
company with interests in a variety of businesses, from June 2005 to December
2008, as a director from 1996 to December 2008 and its Vice President from 1997
to December 2008.  From 1997 to May 2000, he also served as Secretary,
Treasurer and Chief Financial Officer of Web L.P.’s predecessor
entity.  He has served as a director of NOVT Corporation, a former
developer of advanced medical treatments for coronary and vascular disease,
since April 2006.  He has served as a director of CoSine
Communications, Inc., a former global telecommunications equipment supplier,
since July 2005.  He served as Chairman of the Board and Chief
Executive Officer of Gateway Industries, Inc., a provider of database
development and web site design and development services, from February 2004 to
April 2007 and as Vice President from December 2001 to April
2007.


40





Terry R.
Gibson's biography is set forth above in this Part III, Item 10 under the
heading "Our Executive Officers."





Each of
our directors was elected to be a director for a one-year term at the Company's
annual meeting of stockholders held on May 8, 2008.  There are no
family relationships among any of our directors or executive
officers.





Stockholder
Nominations for Director





The Board
of Directors will consider director candidates recommended by stockholders if
submitted in writing to the Chairman of the Board of Directors, c/o Terry R.
Gibson, Corporate Secretary, 61 East Main Street, Suite B, Los Gatos, California
95030.





Audit
Committee of the Board.





Our Board
of Directors currently has an Audit Committee, which is comprised of Messrs.
Green, Abbe and Howard and is chaired by Mr. Green. The Audit Committee oversees
our accounting and financial reporting processes and the audit of our financial
statements, reviews our internal accounting procedures, appoints, compensates,
retains and oversees the independent accountants, reviews and approves all audit
and non-audit services performed by the independent accountants, reviews with
the independent accountants the scope and results of their annual examination of
our consolidated financial statements, and performs the other functions
specified in the Audit Committee Charter.





The Board
of Directors has determined that Mr. Abbe is an "Audit Committee Financial
Expert" as defined in applicable rules of the Securities and Exchange
Commission.  Our Board of Directors has also determined that Messrs.
Green and Abbe meet the definition of "independence" as defined in Rule 4350(d)
of the NASDAQ Manual of Marketplace Rules as applicable to audit committees of
"listed" companies and meet all additional independence requirements set forth
in Rule 10A-3(b)(1) of the Securities Exchange Act of 1934, as amended,
applicable to audit committees of "listed" companies, subject to their receipt
of ordinary-course compensation for serving as members of such committees
permitted under Rule 10A-3(b)(1)(iv).  As our stock is not "listed,"
within the meaning of Rule 10A-3, the members of our Audit Committee are not
required to be "independent."





Due to
Mr. Howard's relationship with Steel Partners II, L.P., our largest stockholder,
our Board of Directors does not deem him an “independent director” as defined in
Rule 4350(d).





SECTION
16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE





Section
16(a) of the Securities Exchange Act of 1934 requires our directors and
executive officers, and persons who beneficially own more than 10 percent of a
registered class of our equity securities, to file with the Securities and
Exchange Commission initial reports of ownership and reports of changes in
ownership of our common stock and other equity securities. Officers, directors
and greater than 10 percent beneficial stockholders are required by the
regulations of the Securities and Exchange Commission to furnish us with copies
of all Section 16(a) forms they file. To our knowledge, based solely on review
of the copies of such reports furnished to us and written representations that
no other reports were required, during the fiscal years ended December 31, 2008,
our officers, directors and greater than 10 percent beneficial owners complied
with all Section 16(a) filing requirements, except that on December 15, 2008, J
Howard, Inc. filed a Form 3 reporting, as of July 25, 2005, direct ownership of
170,300 shares of our common stock and membership in a Section 13(d) group, with
Steel Partners II, L.P., that beneficially owned in excess of 10 percent of our
equity securities.


41


CODE
OF ETHICS





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.  The full
text of our Code of Business Conduct and Ethics is published on the Investor
Relations – Corporate Governance section of our web site at www.cosinecom.com.  We
intend to disclose future amendments to certain provisions of our Code of
Business Conduct and Ethics, or waivers of such provision granted to officers
and directors, on this web site within four business days following the date of
such amendments or waiver.





Item
11.  Executive
Compensation





EXECUTIVE
OFFICER COMPENSATION





Summary
Compensation





Historically,
the Compensation Committee of the Board of Directors (the “Committee”) was
responsible for establishing, implementing and monitoring adherence of executive
compensation with our compensation philosophy.  The Committee
determined the overall compensation of our executive officers, including the
Chief Executive Officer, oversaw the administration of executive compensation
programs and ensured that executive compensation was fair, reasonable and
competitive.  The Committee was dissolved effective November 6, 2008,
and the full Board of Directors assumed its responsibilities.





In
efforts to reduce our operating expenses while executing our redeployment
strategy, effective July 1, 2007, our Board of Directors approved the retention
of SP Corporate Services, LLC to provide us, on a non-exclusive basis, a full
range of executive, financial and administrative support services and personnel,
including the services of all our executive officers.  Our objective
in retaining SP Corporate Services, LLC was to maintain continuity in management
while minimizing our operating expenses during the execution of our redeployment
strategy.  In retaining SP Corporate Services, LLC, we determined the
total compensation, overhead and administrative expenses associated with
employing staff and executive officers to provide internally all necessary
executive, financial and administrative support services and personnel
requirements to be substantially more expensive than the expense at which we
could obtain similar services from SP Corporate Services, LLC.  During
fiscal year 2008, we paid SP Corporate Services, LLC $204,000, or $17,000 per
month, for all of our customary executive, financial and administrative support
services, rent and personnel.  Prior to retaining SP Corporate
Services, LLC, we incurred approximately $24,500 per month for equivalent
services.





Mr.
Gibson has served as our Chief Financial Officer since January 2002, as our
Secretary since September 23, 2004, and as a director and Chief Executive
Officer since January 16, 2005.  Mr. Gibson was employed by us from
January 2002 until he terminated employment on January 3, 2005, although
continuing to serve as an executive officer and consultant.  On
October 6, 2005, Mr. Gibson was rehired as an employee at an annual salary of
$225,000 per year, at which time he was also granted options to purchase 100,000
shares of our common stock, of which 50,000 shares were immediately exercisable
with the balance vesting over the next three years.  Due to decreasing
responsibilities as a result of our discontinuing our products and customer
support services and his devotion of time to other ventures, Mr. Gibson's annual
salary was reduced to $200,000 effective June 1, 2006 and to $150,000 effective
November 1, 2006.  Effective June 30, 2007, Mr. Gibson terminated
employment with us and began serving as our sole executive officer as an
employee of SP Corporate Services, LLC.  Since July 1, 2007, SP
Corporate Services, LLC has been responsible for all of Mr. Gibson's
employment-related compensation and benefits.  Since July 1, 2007, we
have only compensated Mr. Gibson for serving as a non-employee director of
CoSine through annual non-employee director stock option grants.  Mr.
Gibson is not paid any cash compensation for serving on our Board of
Directors.





We did
not pay Mr. Gibson any employment-related compensation in fiscal year 2008.
During the fiscal year 2008, we incurred $204,000 for services performed by SP
Corporate Services, LLC, which included a full range of executive, financial and
administrative support services and personnel, including the services of Mr.
Gibson as our Chief Executive Officer, Chief Financial Officer, Secretary,
Principal Executive Officer and Principal Accounting Officer, maintenance of our
corporate office and records, rent, periodic reviews of transactions in our
stock to assist in preservation of our NOLs, and related executive, financial,
accounting and administrative support services.





42








SUMMARY
COMPENSATION TABLE





Fiscal
                          
                          Salary
                          
                          
                          Option
                            Awards
                          
                          
                          All
      OtherCompensation
                          
                          
                          TotalName
      and Principal Position
                          
                          Year
                          
                          ($)
                          
                          
                          ($)
      (1)
                          
                          
                          ($)(2)(3)
                          
                          
                          ($)Terry
      R. Gibson
                          
                          2008
                          
                          
                          -
                          
                          
                          
                          27,246
                          
                          
                          
                          204,000
                          
                          
                          
                          231,246Director,
      President, Chief Executive Officer Executive, Chief Financial Officer and
      Secretary
                          
                          2007
                          
                          
                          75,000
                          
                          
                          
                          27,283
                          
                          
                          
                          108,312
                          
                          
                          
                          210,595


_____________________________





(1)
            The
      amounts in the column entitled “Option Awards” reflect the dollar amount
      recognized for financial statement reporting purposes for the fiscal year
      ended December 31, 2008, in accordance with FAS 123(R) of awards pursuant
      to the 2000 Stock Plan and thus includes amounts from awards granted prior
      to 2008.  For 2008, the amounts in the column entitled “Option
      Awards” also reflect awards under the 2000 Director Option Plan in
      connection with Mr. Gibson serving as a non-employee director of CoSine.
      Assumptions used in the calculation of these amounts for fiscal years
      ended December 31, 2007 and 2008 are included in note 4 of our audited
      financial statements for the fiscal year ended December 31, 2008, included
      in this Annual Report on Form
10-K/A.


(2)
            For
      2007, this amount includes, for reference purposes only, the aggregate
      dollar amount paid to SP Corporate Services, LLC in 2007 for providing all
      our executive, financial and administrative support services and personnel
      requirements, including but not limited to those of Mr. Gibson, and
      thereimbursement of
      Mr. Gibson's family health care insurance while an employee of CoSine for
      2007 in the amount of $6,312.


(3)
            For
      2008, this amount includes, for reference purposes only, the aggregate
      dollar amount paid to SP Corporate Services, LLC in 2008 for its providing
      all our executive, financial and administrative support services and
      personnel requirements, including but not limited to those of Mr. Gibson,
      and compensation paid to Mr. Gibson for serving as a non-employee director
      of CoSine. See below in this Part III, Item 11 under the heading
      "Compensation of Directors." As Mr. Gibson was an employee of SP Corporate
      Service, LLC during fiscal year 2008, we did not provide him with any
      family health care insurance or other employee
  benefits.





Grants
of Plan Based Awards




No stock
option or other equity-based grants were made by us to our executive officer
during fiscal year 2008, except in his capacity as a non-employee
director.  See below in this Part III, Item 11 under the heading
"Compensation of Directors."




Outstanding
Equity Awards at Fiscal Year-End





The
following table provides information relating to stock options, stock awards and
incentive plan awards of each of the Named Executive Officers outstanding as of
December 31, 2008.




OUTSTANDING
EQUITY AWARDS AT FISCAL YEAR-END TABLE





Option AwardsName
                
                Number
      of
                  Securities
                  Underlying
                  Unexercised
                  Options
                  (#)
                  Exercisable
                
                
                Number
      of
                  Securities
                  Underlying
                  Unexercised
                  Options
                  (#)(2)
                  Unexercisable
                
                
                Option
                  Exercise
                  Price
                  ($)
                
                Option
                  Expiration
                  DateTerry
      R. Gibson
                
                
                100,000
                (1)
                
                
                -
                
                
                $
                2.60
                
                10/06/20152,000
                (2)
                
                $
                2.65
                
                5/8/2018


_____________________________





(1)
            The
      options represent options to purchase 100,000 shares of our common stock
      granted on October 6, 2005, of which 50,000 shares were immediately
      exercisable with the balance vesting over the next three years of a
      ten-year term.


(2)
            The
      options represent options to purchase 2,000 shares of our common stock
      granted on May 8, 2008 for serving as a non-employee director of CoSine,
      of which each vest on the fourth anniversary of the date of
      grant.  See below in this Part III, Item 11 under the heading
      "Compensation of Directors."





Option
Exercises and Stock Vested





No stock
options were exercised by our executive officers nor did any stock awards vest
during fiscal 2008.


43





Pension
Benefits





We do not
maintain any plan that provides for pension benefits to our executive
officers.





Nonqualified
Defined Contribution and Other Nonqualified Deferred Compensation
Plans





We do not
maintain any defined contribution or other plan providing for the payment of
deferred compensation to our executive officers.





Potential
Payments Upon Termination or Change in Control





Terry R.
Gibson, our sole executive officer, does not have an employment agreement or
other arrangement with us that provides for termination, severance or
change-in-control payments or benefits. The vesting of all outstanding stock
options to purchase 100,000 shares of our common stock as granted to Mr. Gibson
on October 6, 2005, which were otherwise subject to accelerated vesting
provisions, are now fully vested.





The
vesting of all outstanding stock options to purchase 2,000 shares of our common
stock granted to Mr. Gibson on May 8, 2008 in connection with his service as a
non-employee director of CoSine will fully accelerate in the event of our merger
with or into another corporation or the sale of all or substantially all of our
assets if the options are not assumed or if the options are assumed and Mr.
Gibson's status as our director or a director of the successor corporation, as
applicable, is terminated other than upon his voluntary
resignation.





The
following table represents the “in-the-money” or intrinsic value of those shares
subject to stock options held by Terry R. Gibson, our sole executive officer, as
of December 31, 2008 for which vesting would be accelerated under the
circumstances described in the preceding paragraph, calculated based on a
closing sale price of $1.75 per share on December 31, 2008 minus the exercise
price of $2.65 per share.





Name
                        
                        Voluntary
                          Resignation
      on
                          12/31/08
                          ($)
                        
                        
                        For
      Cause
                          Resignation
      on
                          12/31/08
                          ($)
                        
                        
                        Involuntary
      Not for
                          Cause
      Resignation
                          on
      12/31/08
                          ($)
                        
                        
                        Involuntary
      Not For
                          Cause
      Constructive
                          Resignation
      on
                          12/31/08
                          ($)Terry
      R. Gibson
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -
                        
                        
                        
                        -




COMPENSATION
OF DIRECTORS





Cash
Compensation.





Each
non-employee director, other than Mr. Gibson, receives a quarterly retainer in
the amount of $2,000.  In addition, each non-employee director, other
than Mr. Gibson, receives $1,000 for attending a Board of Directors meeting in
person, $500 for attending a committee meeting in person, and $250 for attending
a Board of Directors or committee meeting by telephone. We do not compensate
directors for committee meetings held together with a Board of Directors
meeting. We reimburse directors for travel and other expenses incurred in
attending Board of Directors and committee meetings.





Stock Option
Grants.





Each
non-employee director who is first appointed or elected after September 26, 2000
(the date of our initial public offering) will automatically receive under our
2000 Director Option Plan an option to acquire 8,000 shares of our common stock.
These initial options will vest in four equal annual installments. Under the
2000 Director Option Plan, each non-employee director in office for at least six
months before each annual meeting of stockholders will receive an additional
option to acquire 2,000 shares of our common stock. These subsequent options
will vest on the fourth anniversary of the date of grant. Both the initial and
subsequent options fully accelerate in the event of our merger with or into
another corporation or the sale of all or substantially all of our assets if the
options are not assumed or if the options are assumed and the option holder's
status as our director or a director of the successor corporation, as
applicable, is terminated other than upon his or her voluntary
resignation.  We may also grant directors’ options or restricted stock
under our 2000 Stock Plan.


44





Non-employee
directors received option grants during 2008 as listed in the table below. The
options granted each vest on the fourth anniversary of the date of
grant.





Director
Summary Compensation





The
following table summarizes the total compensation awarded to, earned by, or paid
for services rendered to us during the fiscal years ended December 31, 2008 by
each person who served as one of our non-employee directors at any time during
fiscal year 2008.




Name
                
                Fees
      Earned or Paid
                  in
      Cash
                  ($)
                
                
                Option
      Awards
                  ($) (1)
                
                
                Total
                  ($)Charles
      J. Abbe
                
                
                9,000
                
                
                
                1,823
                
                
                
                10,823Donald
      Green
                
                
                9,000
                
                
                
                1,823
                
                
                
                10,823Jack
      L. Howard
                
                
                9,000
                
                
                
                3,108
                
                
                
                12,108Terry
      R. Gibson (2)
                
                
                -
                
                
                
                27,246
                
                
                
                27,246


___________________________





(1)
            The
      amounts in the column entitled “Option Awards” reflect the dollar amount
      recognized for financial statement reporting purposes for the fiscal year
      ended December 31, 2008, in accordance with FAS 123(R) of awards pursuant
      to the 2000 Director Option Plan and the 2000 Stock Plan and thus include
      amounts from awards granted prior to 2008.  Assumptions used in
      the calculation of this amount for fiscal years ended December 31, 2007
      and 2008 are included in note 4 of our audited financial statements for
      the fiscal year ended December 31, 2008, included in this Annual Report on
      Form 10-K/A.


(2)
            Mr.
      Gibson receives no cash retainer for attending Board of Director or
      committee meetings.


45


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





SECURITY
OWNERSHIP OF MANAGEMENT AND CERTAIN BENEFICIAL OWNERS





The following table sets forth certain information regarding the beneficial
ownership of the Company’s Common Stock as of March 17, 2009, unless otherwise
noted, by: (i) each person or entity who is known by the Company to own
beneficially 5% or more of the Company’s outstanding Common Stock;
(ii) each director of the Company; (iii) the executive officers named
in the Summary Compensation Table set forth in this Part III, Item 12 under the
heading in the “Executive Officer Compensation” (the “Named Executive
Officers”); and (iv) all directors and executive officers of the Company
who were serving on the Board of Directors and/or were in office as of March 17,
2009 as a group.





Shares
      of Common StockBeneficially
      Owned(2)Percent
      ofName
      and Address of Beneficial Owner(1)
                        
                        Number
                        
                        
                        Class(3)5%
      StockholdersSteel
      Partners II, L.P. (4)
                        
                        
                        2,631,384
                        
                        
                        
                        26.1
                        %590
      Madison Avenue, 32nd
      FloorNew
      York, NY 10022WHX
      CS Corp. (5)
                        
                        
                        1,898,337
                        
                        
                        
                        18.8
                        %555
      Theodore Fremd AvenueRye,
      New York 10580Empyrean
      Capital Partners, LP (6)
                        
                        
                        859,800
                        
                        
                        
                        7.9
                        %10250
      Constellation Boulevard, Suite 2950Los
      Angeles, CA 90667Directors
      and Named Executive OfficersTerry
      R. Gibson, Director, Chief Executive Officer, Chief Financial Officer and
      Secretary (7)
                        
                        
                        100,000
                        
                        
                        
                        *Charles
      J. Abbe, Director(8)
                        
                        
                        20,200
                        
                        
                        
                        *Donald
      Green, Chairman(9)
                        
                        
                        42,484
                        
                        
                        
                        *Jack
      L. Howard, Director (10)
                        
                        
                        253,425
                        
                        
                        
                        2.5
                        %All
      directors and current executive officers as a group (4
      persons)(11)
                        
                        
                        416,109
                        
                        
                        
                        4.1
                        %


____________________________


*
            Less
      than 1%.




(1)
                  Unless
      otherwise indicated, the address for each listed stockholder is
      c/o CoSine Communications, Inc., 61 East Main Street, Suite B, Los
      Gatos, CA 95030. Except as otherwise indicated, and subject to community
      property laws where applicable, the persons named in the table have sole
      voting and investment power with respect to all shares of common stock
      shown as beneficially owned by them.(2)
                  Beneficial
      ownership is determined in accordance with the rules promulgated by the
      Securities and Exchange Commission. Under such rules, beneficial ownership
      includes any shares as to which the individual or entity has sole or
      shared voting power or investment power and any shares as to which the
      individual or entity has the right to acquire beneficial ownership within
      60 days after March 17, 2009 (or as of May 16, 2009) through the
      exercise of any stock option or other right. Shares of common stock
      subject to options that are presently exercisable or exercisable within
      60 days after March 17, 2009 are deemed to be beneficially owned by
      the person holding such options for the purpose of computing the
      percentage of ownership of such person, but are not treated as outstanding
      for the purpose of computing the percentage of any other
      person.(3)
                  Percentage
      of beneficial ownership is based on 10,090,635 shares of common stock
      outstanding as of March 17, 2009, adjusted as required by rules
      promulgated by the Securities and Exchange
  Commission.


46





(4)
                  All
      2,631,384 shares of the Company are held in the name of Steel Partners II,
      L.P., a Delaware limited partnership. WebFinancial, L.P., a Delaware
      limited partnership, is the sole limited partner of Steel Partners II,
      L.P.  Steel Partners II Master Fund, L.P., a Cayman Islands
      exempted limited partnership, owns 99% of the limited partnership
      interests in WebFinancial, L.P.   Steel Partners LLC, a
      Delaware limited liability company, has been delegated the exclusive power
      to vote and dispose of the 2,631,384 shares held by Steel Partners II,
      L.P.  Warren G. Lichtenstein is manager of Steel Partners
      LLC.  By virtue of these relationships, each of Steel Partners
      II, L.P., Steel Partners LLC, WebFinancial, L.P. and Mr. Lichtenstein may
      be deemed to hold sole voting and investment power over all 2,631,384
      shares.  Jack L. Howard is president of Steel Partners
      LLC.  Mr. Howard also controls EMH Howard, LLC and J Howard,
      Inc. and, in such capacities, holds sole voting and investment power over
      500 shares of the Company stock held by EMH Howard, LLC and 170,300 shares
      of the Company stock held by J Howard, Inc. Mr. Howard also holds 76,625
      shares of the Company in an IRA SEP over which he is deemed to hold sole
      voting and investment powers and is the beneficial owner of 6,000 shares
      that are subject to exercisable options.    Mr. Howard
      is also a director of the Company.  Terry R. Gibson is a
      Managing Director of SP Corporate Services, LLC, a company affiliated with
      Steel Partners II, L.P. and a director and the sole executive officer of
      the Company.   The information in this footnote is based on
      a Schedule 13D/A filed on January 5, 2009 on behalf of Steel Partners
      II, L.P., Steel Partners II Master Fund, L.P., Steel Partners LLC,
      WebFinancial L.P., Mr. Lichtenstein, Mr. Howard, Mr. Gibson, EMH Howard,
      LLC and J Howard, Inc.(5)
                  WHX
      CS Corp., a Delaware corporation, and WHX Corporation, a Delaware
      corporation, each has sole power to vote and to dispose of the 1,898,337
      shares. WHX CS Corp. is a wholly owned subsidiary of WHX Corporation.
      Steel Partners II, L.P., a Delaware limited liability company, is a
      majority stockholder of WHX Corporation.  WebFinancial, L.P., a
      Delaware limited partnership, is the sole limited partner of Steel
      Partners II, L.P.; Steel Partners II Master Fund, L.P., a Cayman Islands
      exempted limited partnership, owns 99% of the limited partnership
      interests in WebFinancial, L.P.; Steel Partners LLC, a Delaware limited
      liability company, has been delegated the exclusive power to vote and
      dispose of the securities held by Steel Partners II, L.P.; Jack L. Howard
      is president of Steel Partners LLC; and  Warren G. Lichtenstein
      is manager of Steel Partners LLC, as explained in footnote 4
      above.  Glen M. Kassan is a Managing Director and operating
      partner of Partners LLC.  John H. McNamara, Jr. is a Managing
      Director and investment professional of Partners LLC.  John J.
      Quicke is a Managing Director and operating partner of Partners
      LLC.  Messrs. Lichtenstein, Howard, Kassan, McNamara and Quicke
      are also directors of WHX.   WHX CS Corp. and WHX Corporation
      disclaim beneficial ownership of the shares held by Steel Partners II,
      L.P., Steel Partners LLC and Mr. Lichtenstein, as described in footnote 4
      above.  The information in this footnote is based upon the
      Schedule 13D filed on November 1, 2005 and a Form 3 filed on November
      2, 2005 on behalf of WHX CS Corp. and WHX Corporation, a Schedule 13D/A
      filed as to WHX Corporation on January 6, 2009 on behalf of Steel Partners
      II, L.P., Steel Partners II Master Fund L.P., Steel Partners LLC,
      WebFinancial L.P., EMH Howard, LLC, Warren G. Lichtenstein, Jack L.
      Howard, Glen M. Kassan, John H. McNamara, Jr. and John J. Quicke, and a
      Schedule 13D/A filed on January 5, 2009 on behalf of Steel Partners
      II, L.P., Steel Partners II Master Fund, L.P., Steel Partners LLC,
      WebFinancial L.P., Mr. Lichtenstein, Mr. Howard, Mr. Gibson, EMH Howard,
      LLC and J Howard, Inc., as described in footnote 4
  above,(6)
                  Of
      the 859,800 shares, 366,746 shares are held directly by Empyrean Capital
      Fund, LP ("ECF") which has shared voting and investment power over such
      shares and 493,054 shares are held by Empyrean Capital Overseas Fund, Ltd.
      ("ECOF") which has shared voting and investment power over such shares.
      Empyrean Capital Partners, LP ("ECP”) is the investment manager for ECF
      and ECOF and in such capacity holds shared voting and investment power
      over all 859,800 shares. Empyrean Capital, LLC is the general partner of
      ECP and in such capacity holds shared voting and investment power over all
      859,800 shares. Empyrean Associates, LLC ("EA") is the general partner of
      ECF and in such capacity holds shared voting and investment power over
      366,746 shares. Amos Meron and Michael Price are the managing members of
      EC and EA and in such capacities share voting and investment power over
      all 859,800 shares. The information in this footnote is based upon the
      Schedule 13G/A filed February 17, 2009 on behalf of Messrs. Meron and
      Price, EC, EA, ECP, ECF, and ECOF.(7)
                  All
      100,000 shares are subject to exercisable options.  Mr. Gibson
      is also a Managing Director of SP Corporate Services, LLC, a company
      affiliated with Steel Partners II, L.P. and a director and the sole
      executive officer of the Company.(8)
                  Of
      the 20,200 shares, 17,000 are subject to exercisable options, and 3,200
      shares are owned directly by Mr. Abbe.(9)
                  Of
      the 42,484 shares, 12,000 are subject to exercisable options, 16,046
      shares are owned directly by Mr. Green, 173 shares are owned directly by
      Green Venture Capital I, L.P. and 14,265 shares are owned directly by
      Green Venture Capital II, L.P. Mr. Green is the general partner of Green
      Venture Capital I, L.P. and Green Venture Capital II, L.P. Mr. Green
      disclaims beneficial ownership of the shares owned directly by Green
      Venture Capital I, L.P. and Green Venture Capital II, L.P., except to the
      extent of his pecuniary interest in the shares.(10)
                  Of
      the 253,425 shares, 6,000 are subject to exercisable
      options.  Mr. Howard is also the director of and controls EMH
      Howard, LLC and J Howard, Inc. and, in such capacities, holds sole voting
      and investment power over 500 shares of the Company stock held by EMH
      Howard, LLC and 170,300 shares of the Company stock held by J Howard, Inc.
      Mr. Howard also holds 76,625 shares of the Company in an IRA SEP over
      which he is deemed to hold sole voting and investment
      powers.  Mr. Howard, a director of the Company, is
      President of Steel Partners LLC.  Steel Partners LLC has been
      delegated the exclusive power to vote and dispose of the 2,631,384 shares
      held by Steel Partners II, L.P. as explained in footnote 4
      above.  The information in this footnote is based a
      Schedule 13D/A filed on January 5, 2009 on behalf of Steel Partners
      II, L.P., Steel Partners II Master Fund, L.P., Steel Partners LLC,
      WebFinancial L.P., Mr. Lichtenstein, Mr. Howard, Mr. Gibson, EMH Howard,
      LLC and J Howard, Inc.(11)
                  Of
      the 416,109 shares, 3,200 shares are owned by Mr. Abbe, as explained
      in footnote 7 above, 30,484 shares are owned by Mr. Green, Green Venture
      Capital I, L.P. and Green Venture Capital II, L.P as explained in
      footnote 8 above, 247,425 shares are owned by Mr. Howard, EMH Howard,
      LLC and J Howard, Inc. as explained in footnote 10 above, and an
      additional 135,000 shares are subject to options that are exercisable
      within 60 days of March 17, 2009 all of which will be vested as of
      May 16, 2009.


47





EQUITY
COMPENSATION PLANS





Information
regarding securities authorized for issuance under the Company's equity
compensation plans is set forth in Part I, Item 5 above,





Item
13.  Certain
Relationships and Related Transactions and Director
Independence





Certain
Relationships and Related Transactions





Transactions with Related Persons,
Promoters and Certain Control Persons.Pursuant to an
agreement dated June 15, 2007 and renewed on July 1, 2008 (the "Services
Agreement"),  SP Corporate Services, LLC 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, rent, 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 Corporate Services, LLC
a monthly fee of $17,000 in exchange for SP Corporate Services, LLC's
services.  SP Corporate Services, LLC is responsible for compensating
and providing all applicable employment benefits to any SP Corporate Services,
LLC personnel in connection with providing services under the Services
Agreement. We reimburse SP Corporate Services, LLC for reasonable and necessary
business expenses of ours incurred by SP Corporate Services, LLC, 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
Corporate Services, LLC 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 2008, we
incurred $204,000 for services performed by SP Corporate Services, LLC under the
Services Agreement.





SP
Corporate Services, LLC is affiliated with Steel Partners II, L.P., our largest
stockholder, by virtue of SP Corporate Services, LLC’s President, Warren
Lichtenstein, serving as the managing member of Steel Partners II GP LLC, the
general partner of Steel Partners II, L.P.  SP Corporate Services, LLC
is also a wholly owned subsidiary of Steel Partners, Ltd., also controlled by
Mr. Lichtenstein.  Mr. Gibson is the Managing Director of SP Corporate
Services, LLC.





Pursuant
to the Services Agreement, Mr. Gibson, who terminated his employment with us in
2007, serves as our Chief Executive Officer, Chief Financial Officer, Secretary,
Principal Executive Officer and Principal Accounting Officer as an employee of
SP Corporate Services, LLC.  SP Corporate Services, LLC 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.





Review, Approval and Ratification of
Transactions with Related Person. Annually, each of our
directors and officers must complete a Director and Officer Questionnaire which
requires disclosure of any transactions or proposed transactions to which we are
or are to be a party and in which a director or officer, a member of his or her
immediate family or any affiliated company of such director or officer has or
will have a direct or indirect material interest.  Our full Audit
Committee is charged with reviewing and approving, or ratifying, any transaction
between or among us and any such "related person"; provided, however, to the
extent any director is the "related person" in question, such director will not
participate in any review of or vote on such a transaction.  Our
policy regarding the review, approval and ratification of such transactions with
"related persons" is in writing as set forth in the Charter of the Audit
Committee.





Director
Independence





Full Board of
Directors.Our Board of Directors
is composed of Messrs. Green, Abbe, Howard and Gibson. Our stock trades in the
over the counter market and is quoted on the Pink Sheets Electronic Quotation
Service under the symbol “COSN.PK.”  As our stock is not "listed,"
within the meaning of Rule 10A-3 of the Securities Exchange Act of 1934, as
amended, our directors are not required to be "independent" as defined in the
NASDAQ listing standards.  Our Board of Directors has nevertheless
determined that Messrs. Green and Abbe are "independent directors" as defined in
Rule 4200(a)(15) of the NASDAQ Manual of Marketplace Rules as applicable to
"listed" companies.


48





Due to
Mr. Howard's relationship with Steel Partners II, L.P., our largest stockholder,
our Board of Directors does not deem him an “independent director” as defined in
Rule 4200(a)(15).





Due to
Mr. Gibson's relationship with Steel Partners II, L.P., our largest stockholder,
by virtue of his serving as Managing Director of SP Corporate Services, LLC,
which is affiliated with Steel Partners II, L.P., our Board of Directors does
not deem him an “independent director” as defined in Rule
4200(a)(15).





Audit Committee of the
Board.Our Board of Directors currently has an Audit
Committee, which is composed of Messrs. Green, Abbe and Howard.  Our
Board of Directors has also determined that Messrs. Green and Abbe meet the
definition of "independence" as defined in Rule 4350(d) of the NASDAQ Manual of
Marketplace Rules as applicable to audit committees of "listed" companies and
meet all additional independence requirements set forth in Rule 10A-3(b)(1) of
the Securities Exchange Act of 1934, as amended, applicable to audit committees
of "listed" companies, subject to their receipt of ordinary-course compensation
for serving as members of such committees permitted under Rule
10A-3(b)(1)(iv).  As our stock is not "listed," within the meaning of
Rule 10A-3, the members of our Audit Committee are not required to be
"independent."





Due to
Mr. Howard's relationship with Steel Partners II, L.P., our largest stockholder,
our Board of Directors does not deem him an “independent director” as defined in
Rule 4350(d).





Compensation and Nominating and
Corporate Governance Committees of the Board.  Effective
November 6, 2008, the Board of Directors dissolved the Compensation Committee
and the Nominating and Corporate Governance Committee.  We believe
that the members of the Board of Directors are collectively capable of
performing the functions associated with Compensation and Nominating and
Corporate Governance Committees.  In addition, given our limited size
and operations, current lack of executive compensation requirements and level of
Board of Director participation, we believe it would be overly costly and
burdensome to continue to maintain separate Compensation and Nominating and
Corporate Governance Committees.





Until its
dissolution effective November 6, 2008, the Compensation Committee was composed
of Messrs. Green, Abbe and Howard and was chaired by
Mr. Howard.





Until its
dissolution effective November 6, 2008, theNominating and
Corporate GovernanceCommittee was composed
of Messrs. Abbe, Green and Howard and was chaired by
Mr. Abbe.





Item
      14.  Principal
      Accountant Fees and Services





Principal
Accountant Fees and Services





Aggregate
fees for professional services rendered by Burr, Pilger & Mayer LLP during
2008 and 2007 were as follows:





2008
                    
                    
                    2007Audit
      Fees - Burr, Pilger & Mayer LLP (1)
                    
                    $
                    108,875
                    
                    
                    $
                    134,000Audit
      related fees – Burr, Pilger & Mayer LLP
                    
                    
                    —
                    
                    
                    
                    —Tax
      fees (2)
                    
                    
                    23,753
                    
                    
                    
                    23,000All
      other fees
                    
                    
                    —
                    
                    
                    
                    —Total
                    
                    $
                    132,628
                    
                    
                    $
                    157,000


____________________


(1)
            Audit
      fees include fees associated with the annual audit, review of the
      Company's Annual Report on Form 10-K, and the reviews of the Company’s
      quarterly reports on Form 10-Q.


(2)
            Tax
      fees included tax compliance and tax
advice.


49


Pre-Approval
Policy and Procedures





All
professional services rendered by our independent registered public accounting
firms are required to be pre-approved by the Audit Committee.  In
fiscal years 2007 and 2008, all services were pre-approved by the Audit
Committee. The Audit Committee pre-approves and reviews audit and non-audit
services performed by our independent registered public accounting firm as well
as the fees charged by our independent registered public accounting firm for
such services. As part of its pre-approval and review of non-audit service fees,
the Audit Committee considers, among other factors, the possible effect of the
performance of such services on our independent registered public accounting
firm's independence. To avoid certain potential conflicts of interest in
maintaining our independent registered public accounting firm independence, the
law prohibits a publicly traded company from obtaining certain non-audit
services from its independent registered public accounting firm. The Audit
Committee approved all of the services provided by Burr, Pilger & Mayer LLP
in 2007 and 2008.





Item
15.  Exhibits and
Financial Statement Schedules





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





(1)
            Financial
      Statements:





PageReport
      of Independent Registered Public Accounting Firm – Burr, Pilger &
      Mayer LLP
              20Balance
      Sheets — December 31, 2008 and 2007
              21Statements
      of Operations — Years ended December 31, 2008, 2007, and
    2006
              22Statements
      of Stockholders’ Equity— Years ended December 31, 2008, 2007, and
      2006
              23Statements
      of Cash Flows — Years ended December 31, 2008, 2007, and
    2006
              24Notes
      to  Financial Statements
              25





(2)
            Financial Statement
      Schedules:





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





(3)
            Exhibits:





See
Exhibit Index on page 52.  The
Exhibits listed in the accompanying Exhibit Index are filed as part of this
Annual Report on Form 10-K/A.


50




COSINE
COMMUNICATIONS, INC.


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 April 29, 2009.
  COSINE
      COMMUNICATIONS, INC.By:
                /s/ TERRY
      R. GIBSONTerry
      R. GibsonChief Executive
      Officer
  Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been
signed on April 29, 2009 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
  *
      By:
                /s/
      Terry R. GibsonTerry
      R. Gibson, Attorney-in-Fact


51





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
      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).10.4*
              2002
      Stock Plan and forms of agreements thereunder (incorporated by reference
      to Exhibit 10.17 to Form 10-K filed March 25, 2002).10.5*
              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).10.6*
              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 (incorporated by
      reference to Exhibit 14.1 to Form 10-K filed March 14,
    2008).23.1*
              Consent
      of Independent Registered Public Accounting Firm – Burr, Pilger &
      Mayer LLP.24*
              Power
      of Attorney (incorporated by reference to the signature page of
      the Initial Filing on Form 10-K filed February 18,
2009).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.


52