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# **UNITED STATES SECURITIES AND EXCHANGE COMMISSION**

## **WASHINGTON, D.C. 20549**

## ** **

### **FORM 10-K**

### ** **

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

## ** **

## **For the year ended December 31, 2008**

## ** **

**Commission File Number 0-25882**

 

**EZENIA! INC.**

(Exactname of registrant as specified in its charter)

 

| **DELAWARE**                                                    | ** ** | **04-3114212**                           |
|-----------------------------------------------------------------|------------|------------------------------------------|
| (State or other  jurisdiction of incorporation or organization) |       | (I.R.S. employer identification  number) |

 

## **14 Celina Ave, Suite 17-18, Nashua, New Hampshire03063**

(Address of principal executive offices, includingzip code)

 

**(603) 589-7600**

(Registrant’stelephone number, including area code)

 

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SecuritiesRegistered Pursuant to Section 12(b) of the Act:

**None**

 

SecuritiesRegistered Pursuant to Section 12(g) of the Act:

**CommonStock $.01 par value**

**PreferredStock Purchase Rights**

 

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

Yes   o** **    No   x

 

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

Yes   o** **    No   x

 

Indicate by check mark whether the Registrant (1) has filed allreports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the Registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days.                                                                      Yes   x** **    No   o

 

Indicate by check mark if disclosure of delinquent filers pursuant toItem 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 informationstatements incorporated by reference in Part III of this Form 10-K orany amendment to this Form 10-K.           x

 

Indicate by check mark whether the Registrant is a large acceleratedfiler, an accelerated filer, a non-accelerated filer or a smaller reportingcompany.  See the definitions of “largeaccelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2of the Exchange Act.       Large AcceleratedFiler  o      Accelerated Filer  o      Non-Accelerated Filer  o      Smaller Reporting Company  x

 

Indicate by checkmark whether the Registrant is a shell company (asdefined in Rule 12b-2 of the Exchange Act)

Yes   o** **    No   x

 

The aggregate market value of the voting and non-voting common stockheld by non-affiliates of the Registrant was $6,889,362 (computed by referenceto the price at which the Registrant’s common stock was last sold on the OTCBulletin Board on June 30, 2008).

 

The number of shares outstanding of the Registrant’s common stock as ofMarch 23, 2009 was 14,658,217.

 

**DOCUMENTSINCORPORATED BY REFERENCE**

 

Portions of the definitive Proxy Statement to be delivered tostockholders in connection with the Annual Meeting of Stockholders to be held May 26,2009 are incorporated by reference into Part III hereof. With theexception of the portion of such Proxy Statement that is expressly incorporatedherein, such Proxy Statement shall not be deemed filed as part of this AnnualReport on Form 10-K.

 

 

 

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**Ezenia! Inc.**

**2008 Form 10-K Annual Report**

**Table of Contents**

 
| ** **        | ** **                                                                                                          | **Page** |
|-------------------|---------------------------------------------------------------------------------------------------------------------|----------|
| **PART I**   |
|              |                                                                                                                |     |
| Item  1.          | Business                                                                                                            | 3        |
| Item  1A.         | Risk  Factors                                                                                                       | 8        |
| Item 1B           | Unresolved  Staff Comments                                                                                          | 12       |
| Item 2.           | Description of  Property                                                                                            | 12       |
| Item 3.           | Legal Proceedings                                                                                                   | 12       |
| Item 4.           | Submission  of Matters to Vote of Security Holders                                                                  | 12       |
|              |                                                                                                                |     |
| **PART II**  |
|              |                                                                                                                |     |
| Item 5.           | Market for  Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases  of Equity Securities | 13       |
| Item 6.           | Selected Financial  Data                                                                                            | 14       |
| Item 7.           | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                         | 15       |
| Item 7A.          | Quantitative  and Qualitative Disclosures about Market Risk                                                         | 23       |
| Item 8.           | Financial  Statements and Supplementary Data                                                                        | 23       |
| Item 9            | Changes in  and Disagreements with Accountants on Accounting and Financial Disclosure                               | 39       |
| Item 9A           | Controls and  Procedures                                                                                            | 40       |
| Item 9B           | Other Information                                                                                                   | 40       |
|              |                                                                                                                |     |
| **PART III** |
|              |                                                                                                                |     |
| Item 10.          | Directors  and Executive Officers of the Registrant                                                                 | 41       |
| Item 11.          | Executive  Compensation                                                                                             | 41       |
| Item 12.          | Security  Ownership of Certain Beneficial Owners and Management and Related Stockholder  Matters                    | 41       |
| Item 13.          | Certain  Relationships and Related Transactions                                                                     | 42       |
| Item 14.          | Principal  Accountant Fees and Services                                                                             | 42       |
|              |                                                                                                                |     |
| **PART IV**  |
|              |                                                                                                                |     |
| Item 15.          | Exhibits and  Financial Statements Schedules                                                                        | 42       |
|              |                                                                                                                |     |
| Signatures        |                                                                                                                | 45       |

 

The Company’s trademarksinclude Ezenia!, the Ezenia! Logo, InfoWorkSpace, LaunchPad, and Encounter.   All other trademarks referred to in thisdocument are the property of their respective companies.

 

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**PART I**

 

**This Annual Report on Form 10-Kcontains forward-looking statements within the meaning of Section 27A ofthe Securities Act of 1933, as amended, and Section 21E of the SecuritiesExchange Act of 1934, as amended.  Actualresults could differ materially from those set forth in the forward-lookingstatements.  Certain factors that mightcause such a difference are discussed in this report, including in Item 1A “RiskFactors” beginning on page 9.**

 

**ITEM 1. BUSINESS**

 

Founded in 1991,Ezenia! Inc., a Delaware corporation (“Ezenia”, “we”, or the “Company”),develops and markets products that enable organizations to provide technicallyadvanced high-quality group communication to commercial, governmental, consumerand institutional users. Our products allow individuals and groups, regardlessof proximity constraints, to interact and share information in a natural,spontaneous way — voice-to-voice, face-to-face, mouse-to-mouse, orkeyboard-to-keyboard flexibly, securely and in real-time. Using our products,individuals can interact through a natural meeting experience, allowing groupsto work together effectively and disseminate vital information quickly in anextremely secure manner using advanced technology for both network security anddata encryption.

 

We offer one of the most comprehensive commercially available lines ofgroup communication products.  OurInfoWorkSpace software product (“IWS”) enables voice communication, instantmessaging, white boarding, virtual workspaces, and video across a wide range ofnetworks including local area networks, and wide area networks.  Furthermore, because our products are wellsuited for operating from small enclave environments to large multi-locationson public networks, they can be deployed with relative ease at small sites orin locations with a large number of users. Users can be virtually anywhere on the planet so long as they have networkaccess.

 

We sold IWS and related servicesto customers in the federal government, mostly in the Department of Defense (“DoD”)and the intelligence community, either directly, or in many instances, inpartnership with the premier defense contractors and/or integrators.  It is in our interest to leverage thesepartnerships with well-established contractors and/or integrators to furtherexpand the deployment and provide the support of IWS in large-scaleopportunities.

 

***Company Background and Evolution —True Collaboration versus Videoconferencing***

 

In 1991, Ezenia, known at the time as VideoServer, designed, developed,manufactured, and sold Multipoint Control Systems or Units (“MCS” or “MCU”) forboth the circuit-oriented, Integrated Services Digital Network -based andpacket-switched, Internet Protocol -based videoconferencing applications. OurMCS was unique at the time with its PC-based, flexible hardware design approachand system configurations, leveraging commercial off-the-shelf base operatingsystems.  At that time, traditionalvideoconferencing vendors concentrated mostly on the development of more andmore sophisticated, standard-based endpoints to be used in point-to-pointvideoconferencing.  We focused ourbusiness, not on the endpoints, but on systems deployed in the infrastructure backroom,to enable three or more sites or parties involved in videoconferencing toproperly communicate among themselves, by switching video sources based onaudio processing of current and immediately preceding speakers. Our technicaladvantages were derived by masking and compensating for incompatibilitiesbetween endpoints from different manufacturers, algorithmic transcoding,compensation for different bandwidth requirements, and simultaneousmulti-windowed video arrangements on the monitor known as “Hollywood Squares,”just to name a few.

 

In the late 1990’s, we fully realized the limitations and narrowapplications of our videoconferencing products which, among many deficiencies,are monolithic, require highly specialized support and services, stand apartfrom the normal office environment that most information workers are accustomedto, and do not provide a solution to the need to truly collaborate anddisseminate information in real time. Contrary to how most videoconferencing vendors would like to indoctrinatepotential customers, video — in particular talking heads as in the case of most

 

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video conferences — was and is, now more than ever, far from being the “piecede resistance” of true, meaningful real-time collaboration. Furthermore, itsmonolithic approach, whereby you either get a successful videoconferencesession or get nothing, relegates all other more critical collaborationactivities second to video talking heads. Most importantly, the lack of presence awareness detection and theinability to leverage the web for ease of access, prevent flexible, on-demand,free-flowing collaboration sessions whereby participants can come, go, or beinvited at will.

 

In March 2001, we completed the first phase of our transformationwith the acquisition of the IWS business from General Dynamics.  As an application solution and technologybuilt on top of Placeware’s (see “Third-Party Technology” below) webconferencing technology, IWS:

 

·                  Allows users tobe aware of the online presence of colleagues, enables true multimediacollaboration sessions starting with the simplest instant messaging(keyboard-to-keyboard) and expanding to the most complex all-encompassing(mouse-to-mouse) sharing and dissemination of mission critical informationsimultaneously with in-session, super-imposed audio conferencing and/or videostreaming;

 

·                  Leveragescommercially off-the-shelf base operating systems such as the Windows andSolaris platforms; and

 

·                  Fits into thevirtual office environment with which most information workers are familiar.

 

The use and growth ofreal-time collaborative technologies within commercial or governmentalenterprises, while still early in their adoption curve, are beginning to accelerate.  The investment in information andcollaborative technologies helps customers flatten their organizations, improveenterprise wide communication, shorten the decision-making process, andfacilitate real-time reactions to critical issues.  Rather than just providing access to inertdata stored on a server, the goal today is to find ways to enable informationworkers to collaborate and share their expertise to derive knowledge fromdatabases in real-time and in a secure environment.  Collaborative technologies are about creatinginformational value through better, faster and more efficient human interactionand cooperation, not just more data. Businesses and governmental organizations today need solutions that makeit easier for people to work together, share information and expertise,coordinate activities across departments, networks, agencies, buildingcomplexes, facilities spread all over the country, and field deployments aroundthe world.

 

We are moving forwardwith this strategy and expect to introduce new improvements and products in thefuture that are intended to broadly enhance our already comprehensivecapabilities.  We intend to concentrateon technical advancements that allow users to convey critical information thatmust be delivered and that ensures security to our customers.

 

**Products**

 

Our expertise is indeveloping products that deliver highly secure and flexible support forinformational collaboration, in-session audio conferencing, and video streamingcapabilities across a wide range of platforms. Our products have been designed with a scaleable, modular architectureto give customers the flexibility to add capacity, processing power, andconferencing features as the customer network and application requirementsgrow. Using a common set of hardware and software building blocks, customerscan choose from a wide range of product configurations that differ in capacity,price, network connectivity and features, all of which share the same operatingsoftware user interface. Products may be configured for use in customerpremises environments or may be configured with specialized packaging for usein a telephone carrier’s central office setting. We believe a keydifferentiator for our products is the built-in robust security features, whichallows them to be installed in some of the highest clearance and security sitesin the market.

 

***InfoWorkSpace***

 

IWS is a comprehensivesuite of collaboration applications designed to allow any organization to moreefficiently communicate, particularly when attempting to work as, and within, agroup.  From an overall perspective, IWS,when used effectively can reduce or even eliminate dependency on travel,traditional video conferencing, traditional audio conferencing and the phone,and even e-mail and file servers. Essentially, IWS presents and 

 

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enables a corporatecampus or enterprise whose resources can be accessed by an information workerthrough his or her own desktop or laptop PC. Users can browse through the virtual campus, facility, or building tolocate the room to be used for a meeting, or just pick the needed contact(s) andinitiate the meeting with the click of the mouse.

 

Our customers, includingthe U.S. intelligence community, the U.S. Joint Forces Command, and variousbranches of the U.S. Armed Forces including the Marines, Navy, Air Force andArmy, have leveraged the flexibility of IWS to aid in a myriad ofmissions.  From daily mission briefs tomedevac procedures in Afghanistan to operational support in Iraq, IWS hasincreasingly become a vital part of the U.S. defense network.  The stability, scalability and security ofIWS allow our customers to depend on our software to complete mission-criticalassignments and save lives in some of the world’s most dangerous areas.

 

At a basic level, IWS isa cross-platform solution in a box, supporting both UNIX and Windows baseoperating systems. A standard software suite comes complete with our serversoftware package, database, application server, and user directory along with anumber of ancillary add-ons. This suite provides a self-sufficient workgroupenvironment for a user base of up to several hundred users. However, with a fewsimple system configurations, IWS servers can be federated in such a way thatmultiple servers can trust one another in order to support collaboration acrossan enterprise with thousands of participants.

 

IWSsecurity infrastructure is built upon the best practices that have been in usein operating systems for decades.  Muchlike a UNIX administrator can restrict access to a directory or even a file toa limited set of users, IWS administrators can lock rooms down to prevent usersfrom seeing sensitive data that is outside their area of responsibility.Permission-based access allows administrators to finely tune a user’s accessprofile to the file level.  Data can beencrypted using standard SSL protocols and access can be controlled with PKIand X.509 certificates.  All data withinthe application can be audited and searched for specific words or patterns ofwords.  IWS provides a high level ofsecurity capabilities and a safety net to capture any breaches that may arisefrom human errors.

 

Thestability, scalability, flexibility and security capabilities of IWS arecritically important for our customers, but the true power of IWS is in itscollaboration applications.  Users canparticipate in an interactive conference with absolutely no set upprocedures.  This is a significant leapforward from where the industry was just a few years ago, usingvideoconferences as the only interactive medium.  IWS eliminates the need to have a heavy pieceof hardware at each terminal point of collaboration, to schedule a conferencewith a bridge operator, or to have a whole new network infrastructure tosupport an interactive conferencing capability. Information workers, once logged into IWS, can initiate a conference bygoing to a virtual room and inviting the participants as needed.  Rooms are either pre-defined or created ondemand as needs dictate. Once inside a room, either by joining or being invitedinto a session, participants can have an audio conference straight from thesoftware. With IWS, no set up is required and no additional cost isincurred.  Participants even can be inmultiple rooms at the same time, offering a more productive virtual environmentthan in the physical world. Participants can share and work on documents fromthe file cabinet associated with a room. Users can have an interactivewhiteboard session and save the results. Users also can manage their calendarsand participate in message boards and save that information to the server wherethey can access it at any time from any place.

 

Ahigh-level summary of IWS features and functions is listed below:

 

·                  Textchat, in a one-to-one arrangement, in a conference environment, or in multiplecombinations of one-on-one and/or conference environments;

 

·                  Audiochat, in a one-to-one arrangement, in a conference environment, or in multiplecombinations of one-on-one and/or conference environments;

 

·                  Interactivewhiteboard which all users can see and modify in real time;

 

·                  Applicationsharing which allows the screen view of any application on any desktop orlaptop PC of any information worker to be broadcasted to all otherparticipants;

 

·                  Securedfile cabinet, from which permission-based access allows for documents to bestored, retrieved, and monitored at any time from any place;

 

·                  EZinFORM,a forms manager designed for an agency to document a task order where multiplesites and people are deployed on a mission that requires rapid updates tocritical events;

 

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·                  EZinCMD,a unit commander can consolidate views and people into a critical command andcontrol battlefield situation for rapid response;

 

·                  Multi-Levelsecurity allows users of one security level to have real-time collaborationsessions with users at another security level;

 

·                  SSLand PKI encryption, which, when configured, renders traffic secure across thewire;

 

·                  Fullsystem auditing, which allows all data and actions to be audited andsearchable;

 

·                  Informalmeetings, a lightweight application that provides all interactive capabilities;

 

·                  Virtualcampuses, buildings, offices and persistent meetings, a robust all encompassingapplication that provides rich, secure scalable real-time collaborativecapabilities and recreates the office environment with facilities like filecabinet, document storage and retrieval message board, calendaring, etc.; and

 

·                  Virtualauditorium-style meetings with geographically dispersed presenter panels andlarge audiences, coupled with full function multimedia presentations andrecordings, including in-band audio, as well as seating control and assignment,private sidebar discussions, moderator control, audience Q&A sessions, etc.

 

###### **Market and Channels**

###### ** **

Wemarket our IWS products and related services to customers within the U.S.federal government, primarily to the DoD and to the intelligence communityworldwide. We also provide these products and services to the defense andintelligence organizations of foreign allies of the U. S. government.

 

IWSproducts and services are licensed on an annual subscription and renewal basis,during which software updates and basic technical support are included as partof base offerings. Enhanced service offerings are also offered in asubscription model. Training, installation, and customization are sold on an “asneeded” basis.

 

Theworldwide government marketplace is best understood as a matrix of customers,sales vehicles (contracts), and sales channels. We employ a sales model which is an analog to this government marketmatrix. IWS products and related services are available to specific segments ofthe government, using various vehicles, including our GSA Schedule, andmultiple channels both directly, with our own sales force, and indirectly withpartners such as General Dynamics, Harris Corporation, Science and ApplicationsInternational Corporations, and Northrop Grumman, among others.

 

Duringthe year ended December 31, 2008, approximately 45% of our sales of IWSand related services were through our indirect channels. Our top end-user customersfor IWS products and related services in 2008 were the Armed Forces, andintelligence, and security agencies. Sales to these customers accounted forapproximately 36%, and 38%, respectively, of total revenue in 2008.

 

We conduct our sales andmarketing activities from our principal offices in Nashua, New Hampshire, andSterling, Virginia.

 

###### **Research and Product Development**

###### ** **

We believe that our future success depends on our ability to continueto enhance and expand our existing enterprise collaboration products and todevelop new products that maintain our technology leadership. We have investedand will continue to invest in the development of products and coretechnologies while also leveraging the integration of “best-of-breed” softwarecomponents through strategic partnerships. Extensive product development inputis obtained via direct feedback from end users and suggested improvements fromstrategic partners and resellers.  Wecarefully monitor the migration of industry standards and remain committed todeveloping products utilizing such standards. This includes the development of interoperable collaboration products tomeet either industry needs and/or DoD-driven interoperability criteria, whilemaintaining a keen focus on the security aspects of enterprise collaboration,including solutions in the web conferencing arena.

 

As of December 31, 2008, our research and development staffconsisted primarily of software engineers augmented with U.S.-based andU.S.-citizen software contractors. Many of our software engineers carry eithersecret or top-secret levels of security clearance. Our research and developmentexpenditures were approximately $2.1 million and $2.4 million in 2008 and 2007,respectively, representing approximately 32% and 26% of revenue, respectively.

 

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We account for research anddevelopment costs in accordance with several accounting pronouncements,including Statement of Financial Accounting Standards (“SFAS”) No. 2, *“Accounting forResearch and Development Costs,”* and SFAS No. 86, *“Accounting for theCosts of Computer Software to be Sold, Leased, or Otherwise Marketed”*.SFAS No. 86 specifies that costs incurred internally in researching anddeveloping a computer software product should be charged to expense untiltechnological feasibility has been established for the product. Oncetechnological feasibility is established, all software costs should becapitalized until the product is available for general release tocustomers.  During the quarter ended March 31,2006, we released Version 3.0 of our InfoWorkSpace software product.  In connection with this development effort, atotal of $140,000 was capitalized and amortized on a straight-line method overthe remaining estimated economic life of the product, which was determined tobe two years.

 

Judgment is required indetermining when technological feasibility of a product is established. In mostcases, we have determined that technological feasibility for our softwareproducts/updates is reached shortly before the products are released toproduction. Costs incurred after technological feasibility have historicallynot been material, and accordingly, were expensed when incurred in theseinstances

 

###### **Customer Support and Service**

###### ** **

We provide technicalsupport and services to our resellers and direct customers. A high level ofcontinuing service and support is critical to our objective of developing long-lastingrelationships with customers and partners. Our partners and resellers offer abroad range of support including installation, maintenance and on-site andheadquarters-level technical support of products to their end-user customers.We provide a comprehensive service program including problem management,training, diagnostic tools, software updates and upgrades, as well as spareparts programs to facilitate and supplement the efforts of our partners andresellers.

 

We offer a technicalsupport hotline to our resellers and customers, which is staffed by our networkengineers who generally provide either immediate or same-day responses to mostquestions. As our products have built-in remote diagnostic capabilities, mostproblems can be diagnosed without incurring travel expenses for on-site visits.When necessary, however, support engineers are dispatched to the customer’sfacility for critical situations. All of our support engineers carry variouslevels of security clearance.

 

**Third-Party Technology**

 

We license technology from third-parties, including software which isintegrated with internally developed software, and used in our products toperform key functions.  There can be noassurance that functionally similar technology will continue to be available oncommercially reasonable terms in the future, or at all.  In particular, in April 2007 we enteredinto a new agreement with Microsoft Corporation, with an effective date of January 1,2007, to extend an existing software distribution license agreement through December 2008.This agreement was subsequently amended to, among other things, extend thepayment terms through June 2011. The software distribution licenseagreement allows us to integrate Microsoft’s Live Communication software intoour IWS product line.

 

****Competition****

 

The market for multimedia collaboration is an emerging segment with newvendors entering the competitive landscape and old vendors from existingindustries. Furthermore, multimedia collaboration can also be grouped into twomain groups: real-time synchronous solutions versus asynchronous products.  While most vendors adopt the client-serverarchitecture, some insist on the merit of peer-to-peer. Still yet, largevendors offer both types of products. From another perspective, vendors couldbe classified into two classes of providers: The first group provides customer-premise solutions while the secondimplements a hosted environment.

 

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Even though our business primarily focuses on the real-timesynchronous, client-server, customer-premise market segment within thegovernment, depending upon the possible perspectives, various vendors could beconsidered as likely competitors, including Adobe, Cisco, EMC, IBM, Oracle,etc., in this intensely contested market segment.

 

Many of these companies, as well as other current and potentialcompetitors, have substantially greater financial, technical, and sales andmarketing resources than us. If we are unable to retain our existing customersin the U.S. government, or are unable to convince a sufficient number of newcompanies or customers with an interest in collaborative technologies to adoptour IWS collaborative software product over alternative technologies marketedby our competitors, our financial results will suffer, through price reductionsand loss of market share.

 

The principal competitive factors in the market for multimediacollaboration are security, scalability, reliability, price, performance,network management capabilities, integration, breadth of capabilities, customersupport and interoperability. We plan to compete by offering the best-of-breedenterprise solutions encompassing all of these factors.  However, we cannot be certain that potentialcustomers will be attracted to our products, especially if our competitorsinvest substantially more money into their products and technology.

 

###### **Proprietary Rights**

###### ** **

We rely on a combination of contractual rights, trade secrets andcopyright laws to establish and protect our intellectual property rights. Webelieve that, because of the rapid pace of technological change in the datacommunications and telecommunications industries, intellectual propertyprotection for our products is only one factor in our success, complementingthe knowledge, abilities and experience of our employees, the frequency of ourproduct enhancements, our relationships with our partners, our relationshipswith our customers and their satisfaction with the performance of IWS, theeffectiveness of our marketing activities, and the responsiveness and qualityof our services.

 

###### **Employees**

###### ** **

At December 31, 2008, we employed 38 people on a full-time basis.None of our employees is represented by a labor organization.

 

Our success depends, to a significant degree,upon the continuing contributions of our key management, sales, marketing andresearch and development personnel, many of whom would be difficult to replace,including Khoa Nguyen, our Chief Executive Officer and President.  We do not carry key-man life insurance on anyof our employees, including Mr. Nguyen. We do not have employment contracts with our key personnel other than Mr. Nguyen.We believe that our future success will depend in large part upon our abilityto attract additional key employees and retain our key employees.

 

**Availability of Filings**

 

You may access, free ofcharge, through our website at www.ezenia.com, our Annual Report on Form 10-K,Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and anyamendments to such reports, all filed pursuant to Section 13(a) and15(d) of the Securities Exchange Act of 1934, as amended (the “ExchangeAct”). The information contained on our web site is not incorporated byreference into this document and should not be considered a part of thisreport.  Our web site address is includedin this document as an inactive textual reference only.

 

###### **ITEM 1A. RISK FACTORS**

###### ** **

The risks and uncertainties described beloware not the only ones that we face. Additional risks and uncertainties of whichwe are unaware, or that we currently deem immaterial, also may become importantfactors that affect our company in the future. If any of these risks were tooccur, our business, financial condition, or results of operations could bematerially and adversely affected. This section includes or refers to certainforward-looking statements; you should read the explanation of thequalifications and limitations on such forward-looking statements found in thesection captioned “Management’s Discussion and Analysis of Financial Conditionand Results of Operations.”

 

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**Recent adverse economic and market conditions may result infurther budgetary constraints within the defense and intelligence communities,as well as a downturn in spending on real-time collaboration solutions by otherusers, that could adversely affect our revenues and results of operations.**

 

Unfavorable changes ineconomic and market conditions, including inflation, recession, or otherchanges, may result in further budgetary constraints on governmental users, andlower spending by commercial, consumer and institutional users, of real-timecollaboration solutions. If demand for real-time collaboration productsdeclines significantly, or government or corporate spending for those productsdeclines, our business, results of operations, and financial condition would beadversely affected. Challenging economic conditions also may impair the abilityof our customers to pay for products and services they have purchased. Theadverse effects of any sustained downturn in spending on our operating resultsmay be exacerbated by our investment in expanding our sales, service,engineering, and marketing organizations, which may continue despite any suchdownturn. There is no assurance that, if operations were to deteriorate andadditional financing were to become necessary, we would be able to obtainfinancing in amounts sufficient to meet operating requirements or at termswhich are satisfactory and which allow us to remain competitive.

 

**We may be unable to return to profitability**.

 

As further described under “Management’s Discussionand Analysis of Financial Condition and Results of Operations”, despite our netloss in 2008, management believes that its existing cash and other resourcesare sufficient to fund operations for at least the next 12 months. However, we can provide no assurances that wewill achieve our goal of consistent quarterly revenue and profit growth, bothof which are largely dependent on whether we can meet our future new orderbookings targets. If we are unable to secure new orders, we may not be able togenerate sufficient revenue and may not be able to return to profitability.

 

**A significant portion of our revenue is attributable to asmall number of major customers,****none of whom is obligated to continue to use our products and services.**

 

While we are focusingefforts on broadening our customer base, sales to a relatively small number ofcustomers within the U.S. government, specifically within the DoD and theintelligence community, have accounted for a significant portion of revenue.  This concentration of customers may causerevenue and operating results to fluctuate from quarter-to-quarter based onmajor customers’ requirements, and the timing of their orders and shipments.Our agreements with customers generally do not include minimum purchasecommitments or exclusivity arrangements. Our operating results could be materially and adversely affected if anypresent major customer were to reduce its level of orders, change to anothervendor, realize a reduction in approved funding for collaborative technologies,or delay paying or fail to pay amounts due to us.

 

**Thecontinued redirection of budget funds and increased competition within ourDepartment of Defense customer base would negatively impact our results ofoperations and financial condition.**

 

We believe our revenue hasdeclined due to the redirections of the IT budget by DISA to competingsolutions selected for the Net-Centric Enterprise Services (NCES) programs. Webelieve that, while there are potential opportunities for limited recovery andnew sales in our existing DOD customer base, the redirection of budget fundsand the promotion of competing solutions by DISA will continue to result in thereduction of renewals and elimination of new purchases of IWS by our customers,thereby creating losses within our core business. Coupled with the currentlydifficult economic conditions which lengthen the business development and salesactivities on the commercial segment, we anticipate continued downward pressureon revenue and profitability for the foreseeable future.

 

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**Loss of access to certain third-partytechnology utilized in our products could materially harm our business.**

 

Weutilize certain technology which we license from third parties, includingsoftware which is integrated with internally developed software, and use in ourproducts to perform key functions.  Therecan be no assurance that functionally similar technology will continue to beavailable on commercially reasonable terms in the future, or at all.  In April 2007 we entered into a newagreement with Microsoft Corporation to extend an existing softwaredistribution license agreement through December 2008. This agreement wassubsequently amended to, among other things, extend its payment terms through June 2011.  This software distribution license agreementallows us to integrate Microsoft’s Live Communication software with ourproprietary software, to create IWS. Loss of access to this third-party technology could result in materialharm to our business and results of operations.

 

**Our success depends upon market acceptance of ourcollaboration products.**

 

Sales of real-timecollaboration products account for substantially all of our revenue. As aresult, our success depends on the acceptance and the rate of adoption ofInternet-based collaboration products, in general, and our IWS product, inparticular.  We can provide no assurancethat any of the markets for our products will develop to the extent, in themanner, or at the rate anticipated by us. In particular, while our sales have historically been within certainorganizations of the U.S. government and intelligence community, we are pursuingthe sale of our products in the commercial market as well.  There can be no assurance of success in thecommercial market for IWS, or other products that we may introduce in 2009 orbeyond. In addition, future prices that we are able to obtain for our productsmay decrease as a result of new product introductions by others, pricecompetition, technological change or other factors.

 

**If we are unable to adapt to the rapid pace of change in ourmarket, our business could be adversely affected.**

 

Our market is characterizedby changing technology, emerging industry standards, evolving networkdevelopments and product introductions. The adoption rate of new technologies and products may adversely impactnear-term growth of the conferencing market as users evaluate the alternatives.For 2009 we plan to continue investments in the enhancement and development ofour current and new products to address the evolving technology landscape.  Our success will depend, in part, upon ourability through continued investments to maintain technological leadership, toenhance our existing product offerings, and to develop new products thatachieve market acceptance.

 

**Our results of operations would suffer if we are unable toeffectively compete in the market for multimedia collaboration products.**

 

The market for multimediacollaboration products is highly competitive. A number of companies haveintroduced competitive products. Furthermore, the market may attract newentrants. Some competitors have longer operating histories and greaterfinancial, technical, sales, and marketing resources.  If we were unable to retain our existingcustomers, or convince a sufficient number of new customers to adopt ourcollaborative software products over competitive alternatives, our financial resultswould suffer.

 

The principal competitivefactors in the market for multimedia collaboration are, and should continue tobe, breadth of capabilities, demonstrated interoperability, price, performance,network management capabilities, reliability, scalability, customer support andsecurity.  We plan to compete by offeringcollaboration and enterprise products with a broad range of capabilities andhigh performance.  However, we cannot becertain that potential customers will be attracted to our products, especiallyif competitors were to invest substantially more money into their products andtechnology.

 

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**If werelease products containing defects or experience delays in releasing newproducts, our competitive position could be adversely effected.**

 

As part of our strategy, weexpect to release new products and new versions of our existing products.  Even if our new versions of existing productscontain the features and functionality that our customers desire, if we areunable to timely introduce these new products or product releases, ourcompetitive position will be harmed.  Wecan provide no assurances that we will be able to successfully complete thedevelopment of currently planned or future products or product releases in atimely manner.  Also, due to thecomplexity of our products, internal quality assurance testing and customertesting of pre-commercial releases may reveal product performance issues ordesirable product enhancements that could cause delays in development andrelease of future products or current upgrades of our existing products.

 

**The loss of or failure to retain or attract talented directors,officers and personnel could harm our business.**

 

Our success depends, to asignificant degree, upon the continuing contributions of our key management,sales, marketing, and research and development personnel, some of whom would bedifficult to replace, including Khoa Nguyen, our Chief Executive Officer andPresident.  We do not carry key-man life insurance on anyof our employees, including Mr. Nguyen. We do not haveemployment contracts with our key personnel other than Mr. Nguyen. Webelieve that our future success will depend in large part upon our ability toretain and attract such key employees.

 

Currently, we have fivedirectors on our Board of Directors, three of whom meet the standards forindependence as specified by the SEC and the national stock exchanges.  Historically, we have strived to have anaudit committee comprised of at least three independent directors, as requiredby the national stock exchanges.  Currently,we have two directors serving on our audit committee.  We are continuing in our attempts to identifyadditional qualified individuals to serve as independent directors.  However, highly-qualified individuals may notbe available or willing to serve as directors and there can be no assurancethat we will be able to identify, recruit and ultimately secure the services ofsuch individuals in a timely manner or at all.

 

**The trading price of our commonstock may continue to be volatile, which may adversely affect our business, andinvestors in our common stock may experience substantial losses.**

 

The market price of ourcommon stock, like that of other technology companies, is highly volatile andis subject to wide fluctuations in response to quarterly variations inoperating results, or other events or factors. Our stock price may also beaffected by broader market trends unrelated to our performance.  Due to this volatility, investors in ourcommon stock may experience substantial losses.

 

**Our common stock is traded on the OTC Bulletin Board, making it a less liquid investment than if it were traded on a national securities exchange.**

 

The shares of our common stock were delisted from The Nasdaq National Market in August 2003 and are now traded on the OTC Bulletin Board. As a result, an investor may find it more difficult to dispose of our stock due to low trading volume or obtain accurate quotations as to the market value of our stock. In addition, we are subject to Rule 15c2-11 promulgated by the SEC. If we fail to meet criteria set forth in such Rule (for example, by failing to file periodic reports as required by the Exchange Act), various practice requirements are imposed on broker-dealers who sell securities governed by the Rule to persons other than established customers and accredited investors. For these types of transactions, the broker-dealer must make a special suitability determination for the purchaser and have received the purchaser’s written consent to the transactions prior to sale. Consequently, the Rule may have a material adverse effect on the ability of broker-dealers to sell our securities, which may materially affect the ability of stockholders to sell the securities in the secondary market. The listing of our securities on the OTC Bulletin Board may make it more difficult for investors to trade in our securities, which could lead to further declines in our share price. Our shares being traded on the OTC Bulletin Board also makes it more difficult for us to raise additional capital, as we may incur additional costs under state blue-sky laws if we were to sell additional securities.

 

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###### **ITEM 1B. UNRESOLVED STAFF COMMENTS**

###### ** **

###### **Thereare no unresolved staff comments as of the date of this report.**

###### ** **

###### **ITEM 2. DESCRIPTION OF PROPERTY**

###### ** **

Our corporate office andprincipal research, development and manufacturing facility is located inNashua, New Hampshire, in an approximately 12,000 square foot facility.  We currently lease this facility pursuant toa lease agreement that terminates in 2010. We also have a sales office locatedin Sterling, Virginia, which we lease pursuant to a lease agreement thatterminates in 2010.  During 2007, wecompleted our consolidation of our Colorado Springs and Nashua facilities inNashua, New Hampshire. We currently lease office space in Colorado Springsunder an operating lease that terminates in November 2011.  The Colorado facility is currently availablefor sublease.

 

###### **ITEM 3. LEGAL PROCEEDINGS**

###### ** **

We are subject to various legal proceedings and claims that arise inthe ordinary course of business. We believe that the outcomes of these matterswill not materially and adversely affect our business, financial position orfinancial results.

 

###### **ITEM 4. SUBMISSION OFMATTERS TO VOTE OF SECURITY HOLDERS**

###### ** **

There were no matters submitted during thefourth quarter of 2008 to a vote of security holders through solicitation ofproxies or otherwise.

 

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**PART II**

 

**ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY,RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITYSECURITIES**

 

Since 2003, ourcommon stock has been quoted on the OTC Bulletin Board, under the symbol “EZEN.OB”.  The following table sets forth, for theperiods indicated, the high and low bid or sale prices per share of our commonstock as reported on the OTC Bulletin Board.

 
| ** **                    | ** ** | **Quarter ended** | ** ** |
|-------------------------------|------------|------------------------|------------|
| ** **                    | ** ** | **March 31**      | ** ** | **June 30** | ** ** | **September 30** | ** ** | **December 31** | ** ** |
| 2008                          | ** ** | ** **             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Common stock price - high     |       | $                      | 0.75       |   | $ | 0.65 |   | $ | 0.47 |   | $ | 0.35 |   |
| Common stock price — low |       | $                      | 0.52       |   | $ | 0.46 |   | $ | 0.30 |   | $ | 0.05 |   |
| ** **                    | ** ** | ** **             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| 2007                          | ** ** | ** **             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Common stock price - high     |       | $                      | 2.43       |   | $ | 1.80 |   | $ | 1.66 |   | $ | 1.01 |   |
| Common stock price — low |       | $                      | 1.61       |   | $ | 1.10 |   | $ | 0.85 |   | $ | 0.66 |   |

 

As of March 16,2009, we had approximately 112 stockholders of record. This does not reflectpersons or entities that hold their stock in nominee or “street” name throughvarious brokerage firms. We have not paid dividends on our common stock and weanticipate that we will reinvest future earnings, if any, and therefore, do notintend to pay dividends in the foreseeable future.

 

See Part III, Item12 for information regarding securities authorized for issuance under ourequity compensation plans.

 

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###### **ITEM 6. SELECTED FINANCIAL DATA**

###### ** **

The selected consolidated financial data should be read in conjunctionwith “Management’s Discussion and Analysis of Financial Condition and Resultsof Operations” and our audited consolidated financial statements.

 
| ** **                                                            | ** ** | ** **                                 | ** ** | ** **        | ** ** | ** **        | ** ** | ** **        | ** ** | ** **  | ** ** |
|-----------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------|------------|-------------------|------------|-------------------|------------|-------------|------------|
| ** **                                                            | ** ** | **Year ended December 31,** | ** ** |
| **(In thousands, except per share amounts)** | ** ** | **2008**                                   | ** ** | **2007 (1)** | ** ** | **2006 (2)** | ** ** | **2005 (3)** | ** ** | **2004(4)** | ** ** |
| **OPERATING DATA**                                                    |       |                                       |       |              |       |              |       |              |       |        |       |
| Revenue                                                               |       | $                                          | 6,683      |              | $          | 8,988             |       | $                 | 13,192     |        | $          | 13,175 |   | $ | 10,391 |   |
|                                                                  |       |                                       |       |              |       |              |       |              |       |        |       |
| Operating income (loss)                                               |       | (3,126                                     | )          | (4,410            | )          | 2,899             |       | 3,511             |       | 1,807       |       |
|                                                                  |       |                                       |       |              |       |              |       |              |       |        |       |
| Income (loss) before income  taxes                                    |       | (3,069                                     | )          | (3,836            | )          | 3,405             |       | 3,712             |       | 1,757       |       |
|                                                                  |       |                                       |       |              |       |              |       |              |       |        |       |
| Net income (loss)                                                     |       | (3,069                                     | )          | (4,547            | )          | 3,918             |       | 3,803             |       | 3,184       |       |
| Net income (loss) per share:                                          |       |                                       |       |              |       |              |       |              |       |        |       |
| Basic                                                                 |       | (0.21                                      | )          | (0.31             | )          | 0.27              |       | 0.26              |       | 0.23        |       |
| Diluted                                                               |       | (0.21                                      | )          | (0.31             | )          | 0.26              |       | 0.25              |       | 0.22        |       |
|                                                                  |       |                                       |       |              |       |              |       |              |       |        |       |
| **BALANCE SHEET DATA**                                                |       |                                       |       |              |       |              |       |              |       |        |       |
| Cash and cash equivalents                                             |       | $                                          | 6,774      |              | $          | 9,395             |       | $                 | 12,059     |        | $          | 9,405 |   | $ | 5,520 |   |
| Total current assets                                                  |       | 8,856                                      |       | 13,598            |       | 19,482            |       | 16,864            |       | 11,921      |       |
| Stockholders’ equity (deficit)                                   |       | 5,420                                      |       | 7,773             |       | 11,901            |       | 7,932             |       | 3,838       |       |

 

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(1) 2007amounts include a charge of $1.45 million to reserve for excess purchasecommitments under the Microsoft license agreement, which was recorded as acomponent of cost of product revenue, and income tax expense of $711,000primarily related to an increase in the valuation allowance for deferred taxassets recorded in 2006 and 2005.

 

(2) 2006amounts include a tax benefit of $513,000 , or $0.04 per share, related to areduction in the valuation allowance associated with deferred tax assets ofapproximately $579,000  offset byapproximately $66,000  of current federaland state tax expense.

 

(3) 2005amounts include a tax benefit of $91,000 , or $0.01per share, related to areduction in the valuation allowance associated with deferred tax assets.

 

(4) 2004amounts include a tax benefit of $1.4 million, or $0.10 per share, related to anet benefit of approximately $819,000  asa result of the ITC settlement, and approximately $608,000  relating to a tax refund for tax years 1996,1997, and 1998.

 

**Quarterly financial information (unaudited)**

 
| ** **             | ** ** | **Quarter ended** | ** ** |
|------------------------|------------|------------------------|------------|
| ** **             | ** ** | **March 31**      | ** ** | **June 30** | ** ** | **September 30** | ** ** | **December 31** | ** ** |
| 2008                   | ** ** | ** **             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenue                |       | $                      | 1,811      |   | $ | 1,739 |   | $ | 1,745 |   | $ | 1,388 |   |
|                   |       |                   |       |   |   |   |   |   |   |
| Gross profit           |       | 1,122                  |       | 1,063 |   | 1,076 |   | 847 |   |
| Loss from operations   |       | (587                   | )          | (920 | ) | (747 | ) | (872 | ) |
| Net (loss)             |       | $                      | (553       | ) | $ | (883 | ) | $ | (748 | ) | $ | (885 | ) |
| Net (loss) per share:  |       |                   |       |   |   |   |   |   |   |
| Basic                  |       | $                      | (0.04      | ) | $ | (0.06 | ) | $ | (0.05 | ) | $ | (0.06 | ) |
| Diluted                |       | $                      | (0.04      | ) | $ | (0.06 | ) | $ | (0.05 | ) | $ | (0.06 | ) |
|                   |       |                   |       |   |   |   |   |   |   |
| 2007                   |       |                   |       |   |   |   |   |   |   |
| Revenue                |       | $                      | 2,668      |   | $ | 2,479 |   | $ | 2,022 |   | $ | 1,819 |   |
|                   |       |                   |       |   |   |   |   |   |   |
| Gross profit           |       | 1,478                  |       | 1,355 |   | (155 | ) | 995 |   |
| Income from operations |       | (133                   | )          | (446 | ) | (2,252 | ) | (1,579 | ) |
| Net income (loss)      |       | $                      | 16         |   | $ | (266 | ) | $ | (2,096 | ) | $ | (2,201 | ) |
| Net (loss) per share:  |       |                   |       |   |   |   |   |   |   |
| Basic                  |       | $                      | —     |   | $ | (0.02 | ) | $ | (0.14 | ) | $ | (0.15 | ) |
| Diluted                |       | $                      | —     |   | $ | (0.02 | ) | $ | (0.14 | ) | $ | (0.15 | ) |

 

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**ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OFFINANCIAL CONDITION AND RESULTS OF OPERATIONS**

** **

**Safe Harbor For ForwardLooking Statements**

 

*Management’s Discussion and Analysis ofFinancial Condition and Results of Operations (“MD&A”) should be read inconjunction with the Consolidated Financial Statements and Notes included inItem 8 of this Annual Report. MD&A contains “forward-looking” statementsand information which involve risks and uncertainties.  Statements indicating that we “expect,” “estimate,”“believe,” “are planning,” “plan to,” “intend” or “will” are forward-looking,as are other statements**concerningour business strategy, our proposed new product offerings, key differentiatorsin our market, changes in the competitive landscape, future financial results,our ability to generate cash and to meet our working capital needs, and otherevents that have not yet occurred. These forward-looking statements are neitherpromises nor guarantees, but involve risks and uncertainties that may causeactual results to differ materially from those in the forward-lookingstatements. Factors that may cause such differences include, but are notlimited to, the impact of global economic and political conditions on ourbusiness, our ability to maintain or accurately forecast revenue growth, ourhistory of liquidity concerns and operating losses,  customer acceptance of our IWS product andother new products, our ability to compete in an intensely competitive market,our ability to develop and introduce new products or enhancements on scheduleand that respond to customer requirements and rapid technological change, ourdependence on the U.S. government as our largest customer, budgetaryconstraints within the defense and intelligence communities, our ability toselect and implement appropriate business models, plans and strategies and toexecute on them, our ability to identify, hire, train, motivate, and retainhighly qualified management/other key personnel and our ability to managechanges and transitions in management/other key personnel, our reliance onthird-party technology, and unauthorized use or misappropriation of ourintellectual property, as well as the risk factors discussed in Item 1A of thisAnnual Report and in other periodic reports filed with the SEC.  Readers should not place undue reliance onany such forward-looking statements, which speak only as of the date they aremade. We disclaim any obligation to publicly update or revise any suchstatement to reflect any change in our expectations or in events, conditions,or circumstances on which any such statements may be based, or that may affectthe likelihood that actual results will differ from those contained in theforward-looking statements.*

 

**Overview**

 

In 2008, revenuewas down 26% when compared to the year ended December 31, 2007.  We experienced an operating loss of $3.1million in 2008 compared to an operating loss of $4.4 million in 2007, and anet loss of $3.1 million in 2008 compared to net loss of $4.5 million in 2007,resulting in a loss of $0.21 per share in 2008, compared to a loss of $0.31 pershare in 2007.  Revenue relating to ourIWS product decreased approximately 20% in 2008 compared to 2007.  Gross profit increased 12% when compared to 2007as a result of a charge in 2007 of $1.45 million to reserve for excess purchasecommitments with Microsoft. Operating expenses decreased $0.9 million to $7.2million for 2008, as compared to $8.1 million for the year ended December 31,2007. The decrease of our operating expenses in 2008 was a result of ourspending reductions in all areas of the company in response to decliningrevenue. Our other income decreased by approximately $500,000 year over year aswe saw a decrease in our interest earned due to lower interest rates and alower average cash balance. In 2007, we had an income tax expense of $711,000which reflected an increase in our deferred tax valuation allowance incompliance with Statement of Financial Accounting Standards (“SFAS”) No. 109*“Accounting for Income Taxes” (“SFAS No.109”).*

 

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In 2007 we entered into a new agreement with Microsoft to extend anexisting software distribution license agreement through December 2008.  Under the agreement, we were required topurchase a minimum of $1.7 million during 2007 and $2.75 million of licensesduring 2008, plus purchase an additional $0.5 million over the life of the twoyear agreement. During 2007 we reviewed our forecast for license sales over thebalance of the agreement and recorded a charge of $1.45 million to reserve foran excess purchase commitment.  The chargewas recorded as a component of cost of product revenue during the year ended December 31,2007.

 

In December 2008, the Microsoft agreement was amended to extendthe term through June 2011 and reduce the remaining purchase commitment to$2.75 million, $154,000 of which was satisfied during 2008.  The amended agreement requires that we  make minimum payments of $1.0 million, $1.1million and $0.5 million during 2009, 2010 and 2011, respectively.  In addition to the remaining $2.6 millionlicense purchase commitment, we have approximately $670,000  of prepaid licenses on hand that have yet tobe deployed to customers.  During 2008we  continued to experience a decline inthe volume of our customer license renewals. As of December 31, 2008, the we reviewed our forecast for licensesales through the amended term (June 2011) and believe that the $1.45million reserve remains the appropriate reserve for the excess purchasecommitment.   The computation of theexcess purchase commitment reserve requires management to make certain assumptionsregarding future license renewals and sales growth.  Actual results may differ materially frommanagement’s estimates.

 

Although our revenue has declined as a result of the redirections of ITbudget by the Defense Information System Agency (DISA), coupled with thecurrently difficult economic conditions which lengthen the business developmentand sales activities on the commercial segment, our immediate focus is tocontinue to enhance our existing various collaborative product and serviceofferings and to develop and ultimately deploy the next generation of productsand services, via aggressive and concentrated sales, service, engineering, andmarketing efforts. We plan to continue to vigorously defend and endeavor toprotect our customer base within the military and intelligence community, whilepursuing new opportunities with various agencies and first responders dealingwith the threat of terrorism and natural disasters, as well as emergingcommercial applications. This focus is subject to change as the driving influencein our future direction is based on the needs and requirements of our customerbase, both current and future, and may be adversely affected by currenteconomic and market conditions.

 

**Critical Accounting Policies**

 

****The discussion and analysis of our financialcondition and results of operations are based upon our financial statements,which have been prepared in accordance with accounting principles generallyaccepted in the United States. The preparation of these financial statementsrequires us to make estimates and judgments that affect the reported amounts ofassets, liabilities, revenue and expenses and related disclosure of contingentassets and liabilities. On an on-going basis, we evaluate our estimates,including those related to revenue recognition, bad debts, inventories, incometaxes and warranty obligations. We base our estimates on historical experienceand on various other assumptions that we believe to be reasonable under thecircumstances, the results of which form the basis for making judgments aboutthe carrying value of assets and liabilities that are not readily apparent fromother sources. Actual results may differ from these estimates under differentassumptions or conditions. We believe the following critical accounting policiesand the related judgments and estimates affect the preparation of ourconsolidated financial statements.****

 

****RevenueRecognition****

 

****Product revenue consists of sales of IWS softwarelicenses and maintenance agreements, IWS product related training, installation,and consulting, and video products. Revenue from sales of IWS software license and maintenance agreements isrecognized ratably over the subscription software license contract  periods, which are generally one year,pursuant to the guidance provided by Statement of Position (“SOP”) 97-2, *“Software Revenue Recognition”* (“SOP 97-2”), issued by theAmerican Institute of Certified Public Accountants (“AICPA”).  Revenue from IWS training, installation, andconsulting services are recognized as the services are performed provided thereis vendor specific objective evidence of fair value which is the price chargedwhen the services are sold separately.****

 

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****Product development revenue relates to contractsinvolving customization of the IWS product according to a customer’sspecifications.  We account for productdevelopment revenue in conformity with the guidance provided by SOP 81-1, *“Accounting For Performance of Construction Type and Certain ProductionType Contracts”* issued by the AICPA. When reliable estimates are available for the costs and effortsnecessary to complete the product development and the contract does not includecontractual milestones or other acceptance criteria, product developmentrevenue is recognized under the percentage-of-completion contract method basedupon input measures, such as hours.  Whensuch estimates are not available, we defer all revenue recognition until wehave completed the contract and have no further obligations to thecustomer.  Revenue associated withcontracts for product development revenue with milestone-based deliverablesrequiring a customer’s acceptance is recognized upon the customer’s acceptancein accordance with the terms of the contract. The associated cost recognition with these deliverables or milestones isdeferred until the terms of acceptance are satisfied and revenue is recognized.Certain of our product development contracts are subject to government auditand retroactive adjustment of the direct and indirect costs used to determinethe contract billings.  Productdevelopment revenue and accounts receivable reported in the financialstatements are recorded at the amount expected to be received.  Product development revenue is adjusted toactual upon final audit and retroactive adjustment.  Estimated contractual allowances are providedbased on management’s evaluation of current contract terms.****

 

****Products and software licenses are sold without anycontractual right of return by the customer. Deferred revenue represents amounts received from customers undersubscription software licenses, maintenance agreements, or for product sales inadvance of revenue recognition.  Judgments are required in evaluating thecreditworthiness of our customers.  Inall instances, revenue is not recognized until we have determined, at theoutset of the arrangement that collectability is reasonably assured.  Amounts billed to customers related toshipping and handling charges are recorded upon shipment and the related costsare included in cost of goods sold.****

 

****Allowancefor Doubtful Accounts****

 

****Our policy is to maintain allowances for estimatedlosses resulting from the inability of our customers to make required payments.Credit limits are established through a process of reviewing the financialhistory and stability of each customer. Where appropriate, we obtain creditrating reports and financial statements of the customer when determining ormodifying their credit limits. We regularly evaluate the collectability of ourtrade receivable balances based on a combination of factors. When a customer’saccount balance becomes past due, we initiate dialogue with the customer todetermine the cause. If it is determined that the customer will be unable tomeet its financial obligation to us, such as in the case of a bankruptcyfiling, deterioration in the customer’s operating results or financialposition, or other material events impacting the customer’s business, we recorda specific allowance to reduce the related receivable to the amount we expectto recover given all information presently available.****

 

****At December 31, 2008, our accounts receivablebalance of approximately $0.8 million is reported net of allowances ofapproximately $28,000. We believe our reported allowances are adequate. If thefinancial conditions of our customers were to deteriorate, however, resultingin their inability to make payments, we may need to record additional allowances,which would result in additional expenses being recorded for the period inwhich such determination was made.****

 

**Accounting for Share-BasedCompensation**

 

We have stock option plansthat provide for the purchase of our common stock by certain of our employeesand directors. Effective January 1, 2006, we adopted SFAS No. 123R, *“Share-Based Payment,”* and began recognizingcompensation expense for our share-based payments based on the fair value ofthe awards. Share-based payments include stock option grants under our stockoption plans.

 

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Thedetermination of the fair value of share-based payment awards on the date of grantinclude the expected life of the award, the expected stock price volatilityover the expected life of the awards, expected dividend yield, and risk-freeinterest rate. Expected volatilities are based on historical volatility of ourcommon stock.  We base the expected termof the options on our historical option exercise data with a minimum lifeexpectancy equal to the vesting period of the option.  We base the risk-free interest rate on theU.S. Treasury yield in effect at the time of the grant for a term closest tothe expected life of the options. Expected dividend yield is not considered aswe have not made any dividend payments and have no plans of doing so in theforeseeable future. Forfeitures are estimated based upon our historicalexperience. This estimate is adjusted periodically based on the extent to whichactual forfeitures differ, or are expected to differ, from the previousestimate.

 

We recorded $703,000 and$475,000 of share based compensation expense in 2008 and 2007, respectively.

 

****IncomeTaxes****

 

****The calculation of tax assets and liabilitiesinvolves significant judgment in estimating the impact of uncertainties in theapplication of complex tax laws. Deferred tax assets and liabilities are determined at the end of eachyear based on the future tax consequences that can be attributed to netoperating loss and credit carryovers as well as the differences between thefinancial statement carrying amounts of existing assets and liabilities andtheir respective tax bases.  The deferredtax assets are reduced by a valuation allowance if it is more likely than notthat the tax benefits will not be realized. The realization of deferred tax assets is dependant upon the generationof future taxable income.  In determiningthe valuation allowance, we consider past performance, expected future taxableincome, and qualitative factors when estimating future taxable income.  Our forecast of expected future taxableincome is for future periods that can be reasonably estimated.  Changes in results that differ materiallyfrom our current expectations may cause us to change our judgment on futuretaxable income. These changes, if any, may require us to adjust our existingtax valuation allowance higher or lower than the amount we have previouslyrecorded.****

 

****Based upon our assessment of current and futuretaxable income, and our analysis of the future tax consequences attributable tonet operating loss and credit carryovers at December 31, 2006 and 2005, wereleased approximately $579,000 and $138,000 of valuation allowance againstdeferred tax assets in 2006 and 2005, respectively, resulting in a net deferredtax asset of approximately $717,000 as of December 31, 2006.****

 

****As of December 31, 2007, we concluded that theactual realization  of the net deferredtax asset balance of $717,000 was in question due to the loss in 2007 and theuncertainty of future taxable income.  Wetherefore provided a full reserve against the deferred tax assets in 2007,which has remained unchanged as of December 31, 2008.****

 

**Resultsof Operations — Years Ended December 31, 2008 and 2007**

 

## **Revenue**

## ** **

## **Revenue declined 26% in 2008 to approximately $6.7 millionwhen compared to 2007. Product revenue related to IWS declined approximately$1.7 million or 20%, while product development revenue declined byapproximately $638,000 as only one new small contract was awarded to us in2008. Product development revenue is revenue related to product customizationwork performed for customers seeking enhancements to our current product.  The decline in license revenue in 2008 wasthe result of a shortfall in license renewals primarily due to DISA (DefenseInformation Systems Agency) and the second NCES (Net-Centric EnterpriseServices) contract award to our competitor, which resulted in a number of ourexisting customers not renewing their licenses and/or reducing the number oflicenses used. We believe that if we successfully execute on our strategy, wewill be able to compensate for this decline in license renewals by theintroduction of our product to new customers.**

 

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## **Gross profit**

## ** **

## **Cost of revenue includes material costs, costs ofthird-party software licenses, direct labor and overhead, customer supportcosts, and engineering and development costs associated with sponsored andcustomized product development revenue. Gross profit as a percentage of revenueincreased in 2008 to 61.5%, from 40.9% in 2007. The increase in gross profit isprimarily attributed to a charge in 2007 of $1.45 million to reserve for excesspurchase commitments under the Microsoft license agreement as well as anincrease in gross margin in 2008 related to product development work. The $1.45million charge was recorded as a component of cost of product revenue during2007. Development revenue for 2008 includes $67,000 related to the completionof reviews of our development projects from 2004 to 2007, and the release ofassociated revenue reserves. This revenue has no corresponding cost andcontributes to a higher margin overall in 2008.**

 

**Researchand development**

 

Researchand development expenses include payroll, employee benefits, otherheadcount-related costs, and miscellaneous costs associated with productdevelopment. Research and development expenses decreased to approximately $2.1million in the year ended December 31, 2008, from approximately $2.4million in 2007. This decrease is primarily attributable to a reduction ofemployees, supply and consulting costs.

 

**Salesand marketing**

 

Salesand marketing expenses include payroll, employee benefits, and otherheadcount-related costs associated with sales and marketing personnel alongwith expenses pertaining to advertising, tradeshows, seminars, and othermarketing-related programs.  Sales andmarketing expenses of approximately $2.0 million in 2008 remained consistentfrom those in the year ended December 31, 2007.

 

**Generaland administrative**

 

Generaland administrative costs include payroll, employee benefits, and otherheadcount-related costs associated with the finance, human resources,management information systems, and other administrative headcount, and legaland investor relations costs, and other administrative fees.  General and administrative expenses decreased14% to approximately $2.4 million in the year ended December 31, 2008,from approximately $2.8 million in 2007.  The decrease is primarily related to decreases in headcount relatedcosts and legal and professional expenses offset by increases in share-basedcompensation expenses.  During 2007, wealso initiated an unsuccessful bid-protest action against the U.S. Departmentof the Army with regard to the second NCES contract.  We incurred legal fees related to thisaction, which were not repeated in 2008.

 

**Occupancyand other facilities-related expenses**

 

Occupancyand other facilities-related expenses decreased 36% to approximately $317,000in the year ended December 31, 2008, from approximately $493,000 in 2007.These costs include rent expense and other operating costs associated with ourheadquarters in Nashua, New Hampshire, and our sales offices in Sterling,Virginia. This decrease is primarily due to the consolidation of the Coloradooffice with the New Hampshire office.

 

**Restructuring charge**

 

We recorded a $215,000 charge to operations in 2007 in recognition ofour consolidation of our Colorado Springs and Nashua facilities in Nashua, NewHampshire, which was completed in December 2007. An additionalrestructuring charge of $219,000 was recorded in 2008, as we have experienceddelays in finding a subtenant for the Colorado facility. The charge representsthe estimated future costs of the lease pertaining to the Colorado Springsfacility, net of expected sublease proceeds.

 

**Interestincome**

 

Interestincome consists of interest on cash and cash equivalents.  Interest income decreased to approximately$155,000 in 2008 from approximately $545,000 in 2007. The decrease in 2008 wasprimarily related to a decrease in the interest rates and a reduced cashbalance.

 

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** **

**Other income**

** **

**Otherincome consists primarily of gains and losses related to short term mutual fundinvestments. In 2008, we incurred a decline in the market value of our shortterm investments of approximately $98,000 from a gain of approximately $29,000in 2007.**

** **

**Income tax benefit**

** **

**Due tothe uncertainty of future taxable income, we have not recorded an income taxbenefit for the losses incurred in 2008 and 2007. In 2007, we recorded anincome tax provision of $717,000 related to the increase in the valuationallowance for deferred tax assets that were recorded in 2006 and 2005.**

** **

**Liquidity and Capital Resources**

 

**At December 31,2008, we had cash and cash equivalents of approximately $6.8 million. **Weincurred a loss from operations of approximately $3.1 million for the yearended December 31, 2008, and a net loss for the year of approximately $3.1million, as compared with an operating loss in 2007 of approximately $4.4million, and a net loss of approximately $4.5 million in 2007.

** **

**We used cash for operations of$2.6 million in fiscal year 2008 compared to expending cash of $2.3 million in2007. Cash expended for operating activities in 2008 was primarily the resultof a net loss and a decline in deferred revenue, offset by a decrease inaccounts receivable and non-cash items such as depreciation, and share-basedcompensation. Cash used by operating activities in 2007 was primarily theresult of a net loss and a decline in deferred revenue offset by decreases inaccounts receivable and prepaid software licenses, and non-cash items such asdepreciation, amortization of capitalized software and share basedcompensation.**

** **

**We invested approximately $45,000in property and equipment in fiscal 2008 compared to $266,000 in fiscal 2007.We generated cash from financing activities of $13,000 in 2008 as compared to$28,000 in 2007 primarily from proceeds of sales of our common stock pursuantto our various stock plans.  In November 2007,we implemented the first stock repurchase under the stock repurchase programauthorized by our Board of Directors. The amount spent on the repurchases in 2007 was $84,000. There were nostock repurchases in 2008.**

** **

Welease our primary facility in Nashua, New Hampshire, under an operating lease,which expires in June 2010. In July 2007, we signed an additionallease for 6,000 square feet adjacent to our existing rented space in Nashua,New Hampshire.  This lease will expire inAugust 2010. We also have leased office space, located in Sterling,Virginia which expires in 2010.  Futureminimum lease obligations at December 31, 2008, under all of thesenon-cancelable operating leases are $120,000 in 2009 and $64,000 in 2010.

 

InSeptember 2007, we announced our plan to consolidate our Colorado Springsand Nashua facilities in Nashua, New Hampshire by the end of 2007.  We recorded a restructuring charge of$215,000 to cover the expected lease payments of the Colorado Springs facility,net of expected proceeds. In 2008 we reassessed our exposure in considerationof the current real estate market and interest in the space to-date bypotential subtenants.  Based on theresulting conclusions, we recorded an additional restructuring charge of$219,000 was taken in 2008. The space is leased by us through November 2011and is currently available for subleasing. We estimate that we will have to pay$287,000, net of expected sublease income, over the remaining lease term. Ourgross remaining obligation on the lease, including estimated operatingexpenses, is approximately $453,000.

 

In April 2007, we entered into a new agreement with Microsoft toextend an existing software distribution license agreement through December 2008.  Under the agreement, we are required topurchase a minimum of $1.7 million and $2.75 million of licenses during 2007and 2008 respectively, plus purchase an additional $0.5 million over the lifeof the two year agreement. During 2007 we reviewed our forecast for licensesales over the balance of the agreement and recorded a charge of $1.45 millionto reserve for an excess purchase commitment. The charge was recorded as a component of cost of product revenue duringthe year ended December 31, 2007.

 

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In December 2008, the Microsoft agreement was amended to extendthe term through June 2011 and reduce the remaining purchase commitment to$2.75 million, $154,000 of which was satisfied during 2008.  The amended agreement requires that we makeminimum payments of $1.0 million, $1.1 million and $0.5 million during 2009,2010 and 2011, respectively.  In additionto the remaining $2.6 million license purchase commitment, we haveapproximately $670,000 of prepaid licenses on hand that have yet to be deployedto customers.  During 2008 we continuedto experience a decline in the volume of our customer license renewals.  As of December 31, 2008, we reviewed ourforecast for license sales through the amended term (June 2011) andbelieve that the $1.45 million reserve remains the appropriate reserve for theexcess purchase commitment.   Thecomputation of the excess purchase commitment reserve requires management tomake certain assumptions regarding future license renewals and salesgrowth.  Actual results may differmaterially from management’s estimates.

 

We include standardintellectual property indemnification provisions in our licensing agreements inthe ordinary course of business. Pursuant to our product license agreements, wewill indemnify, hold harmless, and agree to reimburse the indemnified party forlosses suffered or incurred by the indemnified party, generally businesspartners or customers, in connection with certain patent, copyright or otherintellectual property infringement claims by third parties with respect to ourproducts. Other agreements with our customers provide indemnification forclaims relating to property damage or personal injury resulting from theperformance of services by us or our subcontractors. Historically, our costs todefend lawsuits or settle claims relating to such indemnity agreements havebeen insignificant. Accordingly, the estimated fair value of theseindemnification provisions is immaterial.

 

**In May 2003, after failing to comply with certaincontinued listing standards for the NASDAQ SmallCap Market, includingmaintaining a minimum bid price of at least $1.00 per share, or the requirementto have a minimum of $2.5 million in stockholders equity, we received adelisting notification from NASDAQ. After exercising our right for an appeal of this determination to aNASDAQ Listing Qualifications Panel, the Panel determined to delist oursecurities from The NASDAQ Stock Market in August 2003. Since then, ourcommon stock has been quoted on the OTC Bulletin Board.  The market value and liquidity of our commonstock, as well as our ability to raise additional capital, has been and maycontinue to be materially adversely affected by this delisting decision.**

** **

**Operating costs are continually under review and adjustedaccordingly. With the decline in revenue in 2008, we took the necessary stepsto reduce spending to the appropriate levels. We are committed to continue making the necessary improvements to ourinfrastructure in 2009 which we believe is necessary in order to competesuccessfully in the ever-increasingly competitive collaborative software market.**

** **

**Order bookings, which are purchase orders placed bycustomers, are not recorded as revenue or recognized as revenue until allrequirements of that order are satisfied, although the cash flow received fromthese orders may more closely follow the receipt date of the order.  Accordingly, management believes that itsexisting cash resources will be sufficient to fund its anticipated workingcapital and capital expenditure needs for at least the next twelve months.**

** **

Thefollowing table summarizes our outstanding contractual obligations:

 
| **(in thousands)**       | ** ** | **2009** | ** ** | **2010** | ** ** | **2011** | ** ** | **Total** | ** ** |
|-------------------------------|------------|----------|------------|----------|------------|----------|------------|-----------|------------|
| Operating leases              |       | $        | 217        |     | $          | 153      |       | $         | 98         |   | $ | 468 |   |
|                          |       |     |       |     |       |     |       |      |       |
| Microsoft License Agreement   |       | 1,040    |       | 1,080    |       | 476      |       | 2,596     |       |
|                          |       |     |       |     |       |     |       |      |       |
| Total contractual obligations |       | $        | 1,257      |     | $          | 1,233    |       | $         | 574        |   | $ | 3,064 |   |

 

We estimatesublease rental for the property in the amount of $20,000 in 2009, $48,000 in2010 and $44,000 in 2011.

 

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**Recent Accounting pronouncements**

 

Weadopted the provisions of Financial Accounting Standards Board (“FASB”)Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN48”) an interpretation of SFAS 109 on January 1, 2007.  We have determined that the realization of$2.0 million in federal tax credits is in doubt.  As a result of the implementation of FIN 48,we would have recognized a $2.0 million increase in the liability forunrecognized tax benefits had we recognized any benefit associated with thecredits in prior periods.  However, dueto past net operating losses, no benefit has been recognized; accordingly, noliability has been recognized.  As aresult, at the adoption date of FIN 48, January 1, 2007 and also at December 31,2007 and December 31, 2008 we had no unrecognized tax benefits.

 

AtDecember 31, 2008, we had federal and state net operating loss (“NOL”)carryforwards of $64.5 million and $14.1 million, respectively, expiring atvarious dates through 2028. Utilization of the NOL carryforwards may be subjectto a substantial annual limitation due to ownership change limitations thathave occurred previously or that could occur in the future provided by Section 382of the Internal Revenue Code of 1986, as well as similar state provisions.These ownership changes may limit the amount of NOL that can be utilizedannually to offset future taxable income and tax, respectively. In general, anownership change, as defined by Section 382, results from transactionsincreasing the ownership of certain stockholders or public groups in the stockof a corporation by more than 50 percentage points over a three-year period.Since our formation, we have raised capital through the issuance of capitalstock on several occasions which, combined with the purchasing stockholders’subsequent disposition of those shares, may have resulted in a change ofcontrol, as defined by Section 382, or could result in a change of controlin the future upon subsequent disposition. We have not currently completed astudy to assess whether a change of control has occurred or whether there havebeen multiple changes of control since our formation due to the significantcomplexity and cost associated with such study and due to the possibility of additionalchanges in control in the future. If we have experienced a change of control atany time since our formation, utilization of our NOL carryforwards would besubject to an annual limitation under Section 382. Further, until a studyis completed and any limitation known, no amounts are being presented as anuncertain tax position under FIN 48.

 

Werecognize interest and penalties related to uncertain tax positions in incometax expense.  As of December 31,2008, we had no accrued interest or penalties related to uncertain taxpositions.

 

Thetax years 2004 through 2007 remain open to examination by the major taxingjurisdictions to which we are subject. The Internal Revenue Service completedan audit of our consolidated federal income tax return for the 2005 tax yearwith no adjustments.

 

InSeptember 2006, the FASB issued SFAS No. 157, *“Fair ValueMeasurements”* (SFAS No. 157).   SFAS No. 157defines fair value, establishes a framework for measuring fair value andexpands fair value measurement disclosures. In February 2008, the FASBissued FASB Staff Position (“FSP”) FAS 157-1, *“Applicationof FASB Statement No. 157 to FASB Statement No. 13 and OtherAccounting Pronouncements That Address Fair Value Measurements for Purposes ofLease Classification or Measurement under Statement 13”* and FSPFAS 157-2, *“Effective Date of FASB Statement No. 157.”*Collectively, the FSPs defer the effective date of SFAS 157 to fiscal yearsbeginning after November 15, 2008 for nonfinancial assets and nonfinancialliabilities except for items that are recognized or disclosed at fair value ona recurring basis at least annually, and amend the scope of SFAS 157. Weadopted SFAS 157 in 2008 except for those items specifically deferred under FSPFAS 157-2. We are currently evaluating the impact of the full adoption ofSFAS 157 on our consolidated financial statements.

 

InDecember 2007, the FASB issued SFAS No. 141R, “*BusinessCombinations”* (“SFAS No. 141R”). SFAS No. 141Rexpands the scope of acquisition accounting to all transactions under whichcontrol of a business is obtained. Principally, SFAS No. 141Rrequires that contingent consideration as well as contingent assets andliabilities be recorded at fair value on the acquisition date and that certaintransaction and restructuring costs be expensed. SFAS No. 141R iseffective for fiscal years beginning after December 15, 2008. Asapplication of this statement is prospective and applicable to businesscombinations that occur after its effective date, we do not anticipate thatSFAS No. 141R will have a material, if any, impact on our consolidatedfinancial position and results of operations.

 

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**ITEM 7A. QUANTITATIVE ANDQUALITATIVE DISCLOSURES ABOUT MARKET RISK**

** **

Todate, we have not utilized derivative financial instruments or derivativecommodity instruments. We invest cash in highly liquid investments, consistingof highly rated U.S. and state government securities, commercial paper andshort-term money market funds. These investments are subject to minimal creditand market risk and we have no debt other than our contractual leaseobligations. A 10% change in interest rates would not have a material impact onour financial position, operating results or cash flows. We have closed ourforeign offices, and sales to foreign customers from the United States are inU.S. dollars.  Therefore, we have nosignificant foreign currency risk.

 

**ITEM 8. FINANCIALSTATEMENTS AND SUPPLEMENTARY DATA**

 

**INDEX**

** **
| ** **                                                                                                    | ** ** | **Page** |
|---------------------------------------------------------------------------------------------------------------|------------|----------|
| **Report of Independent Registered Public Accounting  Firm**                                                  | ** ** | **24**   |
| **Consolidated Balance Sheets as of December 31,  2008 and 2007**                                        | ** ** | **25**   |
| **Consolidated Statements of Operations for the years  ended December 31, 2008 and 2007**                | ** ** | **26**   |
| **Consolidated Statements of Stockholders’ Equity for  the years ended December 31, 2008 and 2007** | ** ** | **27**   |
| **Consolidated Statements of Cash Flows for the years  ended December 31, 2008 and 2007**                | ** ** | **28**   |
| **Notes to the Consolidated Financial Statements**                                                            | ** ** | **29**   |

 

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**REPORT OF INDEPENDENT****REGISTERED PUBLIC ACCOUNTINGFIRM**

 

The Board ofDirectors and Stockholders of

Ezenia! Inc.:

 

We have auditedthe accompanying consolidated balance sheets of Ezenia! Inc. and subsidiariesas of December 31, 2008 and 2007 and the related consolidated statementsof operations, stockholders’ equity and cash flows for the years thenended.  Our audits also included thefinancial statement schedule listed in the accompanying index at Item 15.  These financial statements and schedule arethe responsibility of the Company’s management. Our responsibility is toexpress an opinion on these financial statements and schedule based on ouraudits.

 

We conducted ouraudits in accordance with the auditing standards of the Public CompanyAccounting Oversight Board (United States). Those standards require that weplan and perform the audits to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. The Company is notrequired to have, nor were we engaged to perform, an audit of its internalcontrols over financial reporting.  Ouraudits included consideration of internal control over financial reporting as abasis for designing audit procedures that are appropriate in the circumstances,but not for the purpose of expressing an opinion on the effectiveness of theCompany’s internal control over financial reporting.  Accordingly, we express no such opinion.  An audit also includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements, assessing the accounting principles used and significant estimatesmade by management, as well as evaluating the overall financial statementpresentation. We believe that our audits provide a reasonable basis for ouropinion.

 

In our opinion,the consolidated financial statements referred to above present fairly, in allmaterial respects, the consolidated financial position of Ezenia! Inc. andsubsidiaries as of December 31, 2008 and 2007 and the consolidated resultsof their operations and their cash flows for the years then ended in conformitywith accounting principles generally accepted in the United States ofAmerica.  Also, in our opinion, therelated financial statement schedule, when considered in relation to the basicconsolidated financial statements taken as a whole, presents fairly in allmaterial respects the information set forth therein.

 

/s/ VITALE, CATURANO & COMPANY, P.C.

 

Boston,Massachusetts

March 23,2009

 

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**Consolidated Balance Sheets**

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

 
| ** **                                                                                                                                                               | ** ** | **December 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                               | ** ** | **2008**              | ** ** | **2007** | ** ** |
| **Assets**                                                                                                                                                               |       |                  |       |   |   |
| Current assets                                                                                                                                                           |       |                  |       |   |   |
| Cash and cash equivalents                                                                                                                                                | ** ** | **$**                 | **6,774**  | ** ** | **$** | **9,395** | ** ** |
| Accounts receivable, less allowances of $28 at  December 31, 2008 and $413 at December 31, 2007                                                                | ** ** | **771**               | ** ** | **2,479** | ** ** |
| Prepaid software licenses                                                                                                                                                | ** ** | **1,125**             | ** ** | **1,417** | ** ** |
| Prepaid expenses and other current assets                                                                                                                                | ** ** | **186**               | ** ** | **292** | ** ** |
| Total current assets                                                                                                                                                     | ** ** | **8,856**             | ** ** | **13,583** | ** ** |
| Deposits                                                                                                                                                                 | ** ** | **15**                | ** ** | **15** | ** ** |
| Prepaid licenses, net of current portion                                                                                                                                 | ** ** | **—**            | ** ** | **169** | ** ** |
| Capitalized software, net                                                                                                                                                | ** ** | **—**            | ** ** | **18** | ** ** |
| Equipment and improvements, net                                                                                                                                          | ** ** | **243**               | ** ** | **380** | ** ** |
| Total assets                                                                                                                                                             | ** ** | **$**                 | **9,114**  | ** ** | **$** | **14,165** | ** ** |
|                                                                                                                                                                     |       |                  |       |   |   |
| **Liabilities and stockholders’ equity**                                                                                                                            |       |                  |       |   |   |
| Current liabilities                                                                                                                                                      |       |                  |       |   |   |
| Accounts payable                                                                                                                                                         | ** ** | **$**                 | **257**    | ** ** | **$** | **497** | ** ** |
| Accrued expenses                                                                                                                                                         | ** ** | **1,674**             | ** ** | **1,885** | ** ** |
| Employee compensation and benefits                                                                                                                                       | ** ** | **150**               | ** ** | **266** | ** ** |
| Accrued restructuring charges                                                                                                                                            | ** ** | **287**               | ** ** | **215** | ** ** |
| Deferred revenue                                                                                                                                                         | ** ** | **1,326**             | ** ** | **3,512** | ** ** |
| Total current liabilities                                                                                                                                                | ** ** | **3,694**             | ** ** | **6,375** | ** ** |
| Deferred revenue, net of current portion                                                                                                                                 | ** ** | **—**            | ** ** | **17** | ** ** |
|                                                                                                                                                                     |       |                  |       |   |   |
| Commitments and contingencies (Note 5)                                                                                                                                   |       |                  |       |   |   |
|                                                                                                                                                                     |       |                  |       |   |   |
| Stockholders’ equity:                                                                                                                                               |       |                  |       |   |   |
| Preferred stock, $.01 par value; 2,000,000 shares  authorized; none issued and outstanding                                                                               | ** ** | **—**            | ** ** | **—** | ** ** |
| Common stock, $.01 par value; 40,000,000 shares  authorized; 15,417,754 issued and 14,658,217 outstanding in 2008; 15,360,629  issued and 14,601,092 outstanding in 2007 | ** ** | **154**               | ** ** | **154** | ** ** |
| Capital in excess of par value                                                                                                                                           | ** ** | **65,586**            | ** ** | **64,870** | ** ** |
| Accumulated deficit                                                                                                                                                      | ** ** | **(57,375**           | **)**      | **(54,306** | **)** |
| Treasury stock; 759,537 shares at cost in 2008 and  2007                                                                                                                 | ** ** | **(2,945**            | **)**      | **(2,945** | **)** |
| ** **                                                                                                                                                               | ** ** | **5,420**             | ** ** | **7,773** |   |
| **Total liabilities and stockholders’ equity**                                                                                                                      | ** ** | **$**                 | **9,114**  | ** ** | **$** | **14,165** | ** ** |

 

*See accompanying notes.*

 

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**Consolidated Statements of Operations**

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

 
| ** **                                       | ** ** | **Year ended December 31,** | ** ** |
|--------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                       | ** ** | **2008**                                   | ** ** | **2007** | ** ** |
| **Revenue**                                      |       |                                       |       |   |   |
| Product revenue                                  | ** ** | **$**                                      | **6,570**  | ** ** | **$** | **8,232** | ** ** |
| Product development revenue                      | ** ** | **113**                                    | ** ** | **751** | ** ** |
| Service revenue                                  | ** ** | **—**                                 | ** ** | **5** | ** ** |
| ** **                                       | ** ** | **6,683**                                  | ** ** | **8,988** |   |
| **Costs of revenue**                             |       |                                       |       |   |   |
| Cost of product revenue                          | ** ** | **2,556**                                  | ** ** | **4,746** | ** ** |
| Cost of product development  revenue             | ** ** | **19**                                     | ** ** | **569** | ** ** |
| Cost of service revenue                          | ** ** | **—**                                 | ** ** | **—** | ** ** |
| ** **                                       | ** ** | **2,575**                                  | ** ** | **5,315** |   |
| **Gross profit**                                 | ** ** | **4,108**                                  | ** ** | **3,673** | ** ** |
|                                             |       |                                       |       |   |   |
| **Operating expenses**                           |       |                                       |       |   |   |
| Research and development                         | ** ** | **2,084**                                  | ** ** | **2,361** | ** ** |
| Sales and marketing                              | ** ** | **2,024**                                  | ** ** | **2,021** | ** ** |
| General and administrative                       | ** ** | **2,408**                                  | ** ** | **2,802** | ** ** |
| Depreciation                                     | ** ** | **182**                                    | ** ** | **191** | ** ** |
| Occupancy and other facilities  related expenses | ** ** | **317**                                    | ** ** | **493** | ** ** |
| Restructuring charge                             | ** ** | **219**                                    | ** ** | **215** | ** ** |
| Total operating expenses                         | ** ** | **7,234**                                  | ** ** | **8,083** | ** ** |
| **Loss from operations**                         | ** ** | **(3,126**                                 | **)**      | **(4,410** | **)** |
|                                             |       |                                       |       |   |   |
| Other income (expense)                           |       |                                       |       |   |   |
| Interest income                                  | ** ** | **155**                                    | ** ** | **545** | ** ** |
| Other                                            | ** ** | **(98**                                    | **)**      | **29** | ** ** |
| ** **                                       | ** ** | **57**                                     | ** ** | **574** |   |
| Loss before income taxes                         | ** ** | **(3,069**                                 | **)**      | **(3,836** | **)** |
| Provision for income taxes                       | ** ** | **—**                                 | ** ** | **711** | ** ** |
| **Net loss**                                     | ** ** | **$**                                      | **(3,069** | **)** | **$** | **(4,547** | **)** |
| **Basic and diluted loss per  share:**           |       |                                       |       |   |   |
| Basic                                            | ** ** | **$**                                      | **(0.21**  | **)** | **$** | **(0.31** | **)** |
| Diluted                                          | ** ** | **$**                                      | **(0.21**  | **)** | **$** | **(0.31** | **)** |
| **Weighted average common shares:**              |       |                                       |       |   |   |
| Basic                                            | ** ** | **14,646,006**                             | ** ** | **14,672,808** | ** ** |
| Diluted                                          | ** ** | **14,646,006**                             | ** ** | **14,672,808** | ** ** |

 

*See accompanying notes.*

 

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**Consolidated Statements ofStockholders’ Equity**

(In thousands, except for share related data)

 
| ** **                                 | ** ** | ** **            | ** ** | ** **                 | ** ** | **Capital**        | ** ** | ** **   | ** ** | ** **             | ** **  | **Total**  | ** ** |
|--------------------------------------------|------------|-----------------------|------------|----------------------------|------------|--------------------|------------|--------------|------------|------------------------|-------------|------------|------------|
| ** **                                 | ** ** | **Common Stock** | ** ** | **in Excess of** | ** ** | **Accumulated**    | ** ** | **Treasury** | ** ** | **Stockholders’** | ** **  |
| ** **                                 | ** ** | **Shares**            | ** ** | **Par Value**         | ** ** | **Par Value** | ** ** | **Deficit**  | ** ** | **Stock**              | ** **  | **Equity** | ** ** |
|                                       |       |                  |       |                       |       |               |       |         |       |                   |        |       |       |
| **BALANCES AS OF DECEMBER 31,  2006**      |       | 14,650,737            |       | $                          | 153        |               | $          | 64,368       |       | $                      | (49,759     | )          | $          | (2,861 | ) | $ | 11,901 |   |
|                                       |       |                  |       |                       |       |               |       |         |       |                   |        |       |       |
| Stock issued under employee  benefit plans |       | 49,455                |       | 1                          |       | 27                 |       | —       |       | —                 |        | 28         |       |
| Treasury stock purchase                    |       | (99,100               | )          | —                     |       | —             |       | —       |       | (84                    | )           | (84        | )          |
| Stock based compensation  expense          |       | —                |       | —                     |       | 475                |       | —       |       | —                 |        | 475        |       |
| Net loss                                   |       | —                |       | —                     |       | —             |       | (4,547       | )          | —                 |        | (4,547     | )          |
|                                       |       |                  |       |                       |       |               |       |         |       |                   |        |       |       |
| **BALANCES AS OF DECEMBER 31,  2007**      |       | 14,601,092            |       | 154                        |       | 64,870             |       | (54,306      | )          | (2,945                 | )           | 7,773      |       |
|                                       |       |                  |       |                       |       |               |       |         |       |                   |        |       |       |
| Stock issued under employee  benefit plans |       | 57,125                |       | —                     |       | 13                 |       | —       |       | —                 |        | 13         |       |
| Stock based compensation  expense          |       | —                |       | —                     |       | 703                |       | —       |       | —                 |        | 703        |       |
| Net loss                                   |       | —                |       | —                     |       | —             |       | (3,069       | )          | —                 |        | (3,069     | )          |
|                                       |       |                  |       |                       |       |               |       |         |       |                   |        |       |       |
| **BALANCES AS OF DECEMBER 31,  2008**      | ** ** | **14,658,217**        | ** ** | **$**                      | **154**    | ** **         | **$**      | **65,586**   | ** ** | **$**                  | **(57,375** | **)**      | **$**      | **(2,945** | **)** | **$** | **5,420** | ** ** |

 

*See accompanying notes.*

 

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**Consolidated Statements of CashFlows**

(In thousands)

 
| ** **                                                                                         | ** ** | **Year ended December 31,** | ** ** |
|----------------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|
| ** **                                                                                         | ** ** | **2008**                                   | ** ** | **2007** | ** ** |
| **Operating activities**                                                                           |       |                                       |       |   |   |
| Net loss                                                                                           | ** ** | **$**                                      | **(3,069** | **)** | **$** | **(4,547** | **)** |
| Adjustments to reconcile net loss to net cash used  for operating activities:                      |       |                                       |       |   |   |
|                                                                                               |       |                                       |       |   |   |
| Depreciation                                                                                       | ** ** | **182**                                    | ** ** | **191** | ** ** |
| Amortization of capitalized software                                                               | ** ** | **18**                                     | ** ** | **70** | ** ** |
| Share-based compensation                                                                           | ** ** | **703**                                    | ** ** | **475** | ** ** |
| Deferred taxes                                                                                     | ** ** | **—**                                 | ** ** | **717** | ** ** |
| Changes in operating assets and liabilities:                                                       |       |                                       |       |   |   |
| Accounts receivable                                                                                | ** ** | **1,708**                                  | ** ** | **1,101** | ** ** |
| Prepaid software licenses                                                                          | ** ** | **461**                                    | ** ** | **1,760** | ** ** |
| Prepaid expenses and other current assets                                                          | ** ** | **106**                                    | ** ** | **49** | ** ** |
| Accounts payable, accrued expenses, employee and  compensation benefits, and accrued restructuring | ** ** | **(495**                                   | **)**      | **180** | ** ** |
| Deferred revenue                                                                                   | ** ** | **(2,203**                                 | **)**      | **(2,338** | **)** |
| Net cash used for operating activities                                                             | ** ** | **(2,589**                                 | **)**      | **(2,342** | **)** |
|                                                                                               |       |                                       |       |   |   |
| **Investing activities**                                                                           |       |                                       |       |   |   |
| Purchases of equipment and improvements                                                            | ** ** | **(45**                                    | **)**      | **(266** | **)** |
| Purchase of treasury stock                                                                         | ** ** | **—**                                 | ** ** | **(84** | **)** |
| Net cash used for investing activities                                                             | ** ** | **(45**                                    | **)**      | **(350** | **)** |
|                                                                                               |       |                                       |       |   |   |
| **Financing activities**                                                                           |       |                                       |       |   |   |
| Proceeds from stock issued under employee benefit  plans                                           | ** ** | **13**                                     | ** ** | **28** | ** ** |
| Net cash provided by financing activities                                                          | ** ** | **13**                                     | ** ** | **28** | ** ** |
|                                                                                               |       |                                       |       |   |   |
| Change in cash and cash equivalents                                                                | ** ** | **(2,621**                                 | **)**      | **(2,664** | **)** |
| Cash and cash equivalents at beginning of year                                                     | ** ** | **9,395**                                  | ** ** | **12,059** | ** ** |
| Cash and cash equivalents at end of year                                                           | ** ** | **$**                                      | **6,774**  | ** ** | **$** | **9,395** | ** ** |
| Supplementary disclosure of cash flow information:                                                 |       |                                       |       |   |   |
| Interest paid                                                                                      | ** ** | **$**                                      | **1**      | ** ** | **$** | **2** | ** ** |
| Income taxes refunded                                                                              | ** ** | **$**                                      | **(17**    | **)** | **$** | **(18** | **)** |

 

*Seeaccompanying notes.*

 

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**Notes tothe Consolidated Financial Statements**

 

**1.  Nature of Business and Basis of Presentation**

 

Ezenia! Inc. (“Ezenia”, “we”,or the “Company”) operates in one business segment, which is the design,development, production, marketing and sale of real-time group collaborationand communication solutions for corporate and governmental networks andeBusiness.  Founded in 1991, we developand market products that enable organizations to provide high-quality groupcommunication and collaboration capabilities to commercial, governmental,consumer and institutional users. Our products allow individuals and groups,regardless of proximity constraints, to interact and share information in anatural, spontaneous way — voice-to-voice, face-to-face, mouse-to-mouse, orkeyboard-to-keyboard, flexibly, securely and in real time.  Using our products, individuals can interactthrough a natural meeting experience, allowing groups to work togethereffectively and disseminate vital information quickly in a secureenvironment.  .

 

Theconsolidated financial statements include the accounts of Ezenia and its whollyowned subsidiaries Ezenia International, Inc. and Ezenia Latin America, Inc. All significant inter-company transactions and balances have beeneliminated.  All assets and liabilities of Ezenia’s foreign subsidiariesare translated at the rate of exchange at the end of the year, while sales andexpense are translated at the average rate in effect during the year.  Thenet effect of these translation adjustments was immaterial for all periodspresented.

 

**2.  Summary of Significant Accounting Policies**

 

**Use of Estimates**

 

The preparation of thefinancial statements in conformity with accounting principles generallyaccepted in the United States requires management to make estimates andassumptions that affect the reported amounts of assets and liabilities, anddisclosure of contingent assets and liabilities, if any, at the date of thefinancial statements and the reported amounts of revenue and expenses duringthe reporting period.  Actual resultscould differ from these estimates.

 

###### **Revenue Recognition**

 

****Product revenue consists of sales of InfoWorkSpace (“IWS”)software licenses and maintenance agreements, IWS product related training,installation, and consulting, and video products.  Revenue from sales of IWS software licensesand maintenance agreements is recognized ratably over the subscription softwarelicense contract periods, which are generally one year, pursuant to theguidance provided by Statement of Position (“SOP”) 97-2, *“SoftwareRevenue Recognition”* issued by the American Institute of CertifiedPublic Accountants (“AICPA”). Revenue from IWS training, installation, and consultingservices are recognized as the services are performed because we believe wehave established vendor specific objective evidence of fair value based on theprice charged when the services are sold separately.****

 

****Revenue from video product sales is recognized uponshipment to the customer and the fulfillment of all contractual terms andconditions, pursuant to the guidance provided by Staff Accounting Bulletin (“SAB”)No. 104, *“Revenue Recognition in Financial Statements”*issued by the Securities and Exchange Commission.****

 

****Product development revenue relates to contractsinvolving customization of the IWS product according to customerspecifications.  We account for productdevelopment revenue in conformity with the guidance provided by SOP 81-1, *“Accounting For Performance of Construction Type and Certain ProductionType Contracts”* issued by the AICPA. When reliable estimates are available for the costs and effortsnecessary to complete the product development and the contract does not includecontractual milestones or other acceptance criteria, product developmentrevenue is recognized under the percentage-of-completion contract method basedupon input measures, such as hours.  Whensuch estimates are not available, we defer all revenue recognition until wehave completed the contract and have no further obligations to thecustomer.  Revenue associated withcontracts for product development revenue with milestone-based deliverablesrequiring a customer’s acceptance is recognized upon the customer’s acceptancein accordance with terms of the contract. The associated cost recognition with these deliverables or milestones isdeferred until the terms of acceptance are satisfied and revenue is recognized. ****

 

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****As of December 31, 2008 and 2007, we had nounbilled receivables or deferred costs related to milestone contracts. Certainof our product development contracts are subject to government audit andretroactive adjustment of the direct and indirect costs used to determine thecontract billings.  Product developmentrevenue and accounts receivable reported in the financial statements arerecorded at the amount expected to be received. Product development revenue is adjusted to actual upon final audit andretroactive adjustment.  Estimatedcontractual allowances are provided based on management’s evaluation of currentcontract terms. During 2008, the government completed a review of the 2004-2007development contracts. Based upon these reviews we recorded $67,000 of revenuewhich had initially been deferred pending the completion of the reviews.****

 

****Products and software licenses are sold without anycontractual right of return by the customer. Deferred revenue represents amounts received from customers undersubscription software licenses, maintenance agreements, or for product sales inadvance of revenue recognition. Judgments are required in evaluating the creditworthiness of ourcustomers.  In all instances, revenue isnot recognized until we have determined, at the outset of the arrangement thatcollectability is reasonably assured. Amounts billed to customers related to shipping and handling charges arerecorded as revenue upon shipment and the related costs are included in cost ofgoods sold.****

 

###### **Third-Party Technology**

###### ** **

Our IWS productincorporates third-party technology in the form of software licenses, which wepurchase from other software vendors. Software licenses purchased from vendors are reported as prepaidlicenses and, when deployed, amortized to cost of revenue over the subscriptionperiod, which is generally one year.

 

###### **Advertising**

###### ** **

Advertising costs areincluded in sales and marketing expense. We use our website as our main form of advertising along withparticipating in various industry-related trade shows and currently do notincur material advertising costs. Advertising costs are expensed as incurred.Advertising expense was approximately $17,000 and $24,000 in fiscal years 2008and 2007, respectively.

 

###### **Cash Equivalents**

###### ** **

We consider all highlyliquid investments with a maturity of 90 days or less at the date of purchase,or investments that can be converted to cash quickly such as mutual funds, tobe cash equivalents.

 

###### **Financial Instruments and Concentrations of CreditRisk**

###### ** **

Our financial instrumentsconsist primarily of cash and cash equivalents, trade receivables, accountspayable and accrued expenses.  Thecarrying value of these financial instruments approximates fair value due totheir short term to maturity.  Financialinstruments, which potentially subject us to concentrations of credit risk, arecash equivalents and accounts receivable.

 

Major financialinstitutions maintain all our cash equivalents. At times, balances may exceedfederally insured limits. Wehave not experienced any losses in such accounts, and believe we are notexposed to any significant credit risk on cash and cash equivalents.  Concentration of credit risk withrespect to accounts receivable is limited to certain customers to whom we makesubstantial sales.  To reduce risk, weroutinely assess the financial strength of our customers.  We maintain an allowance for doubtfulaccounts based on accounts past due according to contractual terms andhistorical collection experience.  Actuallosses when incurred are charged to the allowance.  Write-offs related to accounts receivablehave been within management’s expectations.

 

Revenue from one customeraccounted for approximately 35% of total revenue in 2008 and 33% of totalrevenue in 2007.  Accounts receivablefrom this customer accounted for approximately 29% and 3% of the balances at December 31,2008 and 2007, respectively. A second customer accounted for approximately 28%of total revenue in 2008 and 16% of total revenue in 2007.  This customer’s accounts receivable balanceaccounted for approximately 43% and 28% of the balance at December 31,2008 and 2007, respectively.  A thirdcustomer accounted for approximately 10% of total revenue in 2008 and 8% oftotal revenue in 2007. Revenue from international markets was immaterial in2008 and 2007, respectively.

 

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###### **Equipment and Improvements**

###### ** **

Equipment andimprovements are stated at cost and depreciated using the straight-line methodover the following estimated useful lives:

 
| Computer software and equipment |   | 3 years                                         |   |
|---------------------------------|--------|-------------------------------------------------|--------|
| Office equipment                |   | 5 years                                         |   |
| Furniture and fixtures          |   | 5 years                                         |   |
| Leasehold improvements          |   | Shorter of lease term  or estimated useful life |   |

 

Repairs andmaintenance costs are expensed as incurred.

 

**Research and Development Costs**

** **

We account for research anddevelopment costs in accordance with several accounting pronouncements,including Statementof Financial Accounting Standard (“SFAS”) No. 2, *“Accounting forResearch and Development Costs”*, and SFAS No. 86, *“Accounting for theCosts of Computer Software to be Sold, Leased, or Otherwise Marketed”*.  SFAS No. 86 specifies that costsincurred internally in researching and developing a computer software productshould be charged to expense until technological feasibility has beenestablished for the product. Once technological feasibility is established, allsoftware costs should be capitalized until the product is available for generalrelease to customers.  During the quarterended March 31, 2006, we released version 3.0 of our IWS softwareproduct.  In connection with thisdevelopment effort, a total of $140,000 of costs were capitalized and amortizedon a straight-line basis over the estimated economic life of the product, whichwe determined to be two years. The carrying value at December 31, 2008 iszero.

 

Judgment is required indetermining when technological feasibility of a product is established. In mostcases, we have determined that technological feasibility for our softwareproducts/updates is reached shortly before the products are released tomanufacturing. Costs incurred after technological feasibility is establishedhave historically not been material, and accordingly, were expensed whenincurred in these instances.

 

**Income Taxes**

** **

****Deferred tax assets and liabilities are determinedat the end of each year based on the future tax consequences that can beattributed to net operating loss and credit carryovers as well as thedifferences between the financial statement carrying amounts of existing assetsand liabilities and their respective tax bases. The deferred tax assets are reduced by a valuation allowance if it ismore likely than not that the tax benefits will not be realized.  The realization of deferred tax assets isdependent upon the generation of future taxable income.  In determining the valuation allowance, weconsider past performance, expected future taxable income, and qualitativefactors which we consider to be appropriate to be considered in estimatingfuture taxable income.  Our forecast ofexpected future taxable income is for future periods that can be reasonably estimated.  Results that differ materially from ourcurrent expectations may cause us to change our judgment on future taxableincome. These changes, if any, may require us to adjust our existing taxvaluation allowance higher or lower than the amount we have recorded.****

 

****As of December 31, 2007, we concluded that therealization of the net deferred tax asset balance of $717,000 was uncertain dueto the loss in 2007 and the uncertainty of future taxable income.  We therefore provided a full reserve againstthe deferred tax assets in 2007, which has remained unchanged as of December 31,2008.****

 

###### **Net Loss Per Share**

###### ** **

We report net loss pershare in accordance with SFAS No. 128, “*Earnings perShare*.” Diluted earnings per share include the effect of dilutivestock options.

 

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Shares used in computingbasic and diluted net loss per share are as follows:

 
| ** **                                               | ** ** | **2008**   | ** ** | **2007**   | ** ** |
|----------------------------------------------------------|------------|------------|------------|------------|------------|
| Basic                                                    |       | 14,646,006 |       | 14,672,808 |       |
| Effect of assumed exercise of  stock options             |       | —     |       | —     |       |
| Diluted                                                  |       | 14,646,006 |       | 14,672,808 |       |
| Outstanding options excluded  as impact is anti-dilutive |       | 3,239,157  |       | 2,747,066  |       |

 

###### **Accounting for Share-Based Compensation**

 

We account for share-basedcompensation expense in accordance with SFAS No. 123R, *“Accounting for Stock-Based Compensation,”* and the SEC StaffAccounting Bulletin (“SAB”) 107, *“Share-based Payment.”*Under SFAS No. 123R, share-based compensation expense reflects the fairvalue of share-based awards measured at the grant date and recognized over therelevant service period. SAB 107 providesguidance related to share-based payment transactions with non-employees,valuation methods (including assumptions such as expected volatility andexpected term), and the classification of compensation expense, among othermatters. We estimate the fair value of each stock-based award on themeasurement date using the Black-Scholes option valuation model. TheBlack-Scholes option valuation model incorporates assumptions as to stock pricevolatility, the expected life of options, a risk-free interest rate anddividend yield. We recognize share-based compensation expense on astraight-line basis over the requisite service period of the award, which isgenerally four years.

 

Forthe years ended December 31, 2008 and 2007, we recorded share-basedcompensation expense in the consolidated statements of operations as follows:

 
| ** **                 | ** ** | **Year Ended**             | ** ** | **Year Ended**             | ** ** |
|----------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| **(in thousands)**         | ** ** | **December 31, 2008** | ** ** | **December 31, 2007** | ** ** |
| Cost of revenue            |       | $                               | 23         |                            | $          | 13 |   |
| Research and development   |       | 63                              |       | 50                              |       |
| Sales and marketing        |       | 79                              |       | 27                              |       |
| General and administrative |       | 538                             |       | 385                             |       |
|                       |       | $                               | 703        |                            | $          | 475 |   |

 

Weestimate the fair value of each option award issued under the plans on the dateof grant using a Black-Scholes based option-pricing model that uses theassumptions noted in the following table. Expected volatilities are based on historical volatility of our commonstock.  We base the expected term of theoptions on our historical option exercise data with a minimum life expectedequal to the vesting period of the option. We base the risk-free interest rate on the U.S. Treasury yield in effectat the time of the grant for a term closest to the expected life of theoptions.

 
| ** **              | ** ** | **Year ended December 31,** | ** ** |
|-------------------------|------------|--------------------------------------------|------------|
| ** **              | ** ** | **2008**                                   | ** ** | **2007** | ** ** |
| Expected volatility     |       | 69.33%-92.39%                              |       | 93.13%-93.75% |   |
| Risk-free interest rate |       | 1.52%-3.35%                                |       | 2.93%-3.84% |   |
| Expected life in years  |       | 4.0                                        |       | 4.0 |   |
| Expected dividend yield |       | None                                       |       | None |   |
|                         |            |                                            |            |  |  |  |

** **

**Basedon the above assumptions, the weighted average estimated fair value of optionsgranted in fiscal years 2008 and 2007 was $0.37 and $1.33 per share,respectively.  We estimated forfeituresrelated to option grants at an annual rate of 30% per year and true up foractual forfeitures each reporting period.**

** **

**Otherreasonable assumptions about these factors could provide different estimates offair value.  Future changes in stockprice volatility, life of options, interest rates, forfeitures and dividendpractices, if any, may require changes in our assumptions, which couldmaterially affect the calculation of fair value.**

 

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**Totalunrecognized share-based compensation expense related to unvested stockoptions, expected to be recognized over a weighted average period of 1.32years, amounted to $1.1 million at December 31, 2008.**

** **

**Theweighted average exercise price of stock options exercised for the year ended December 31,2008 was $0.23.  The total intrinsicvalue of stock options exercised for the years ended December 31, 2008 and2007 was $20,000 and $55,000, respectively.**

** **

**Recent Accounting Pronouncements**

 

In September 2006, theFASB issued SFAS No. 157, *“Fair Value Measurements”*(“SFAS No. 157”).  SFAS No. 157 defines fair value, establishesa framework for measuring fair value and expands fair value measurementdisclosures. In February 2008, the FASB issued FASB Staff Position (“FSP”) FAS 157-1,*“Application of FASB Statement No. 157 to FASBStatement No. 13 and Other Accounting Pronouncements That Address FairValue Measurements for Purposes of Lease Classification or Measurement underStatement 13,”* and FSP FAS 157-2, *“EffectiveDate of FASB Statement No. 157.”* Collectively, the FSPs deferthe effective date of SFAS 157 to fiscal years beginning after November 15,2008 for nonfinancial assets and nonfinancial liabilities except for items thatare recognized or disclosed at fair value on a recurring basis at leastannually, and amend the scope of SFAS 157. We adopted SFAS 157 in 2008 exceptfor those items specifically deferred under FSP FAS 157-2. We arecurrently evaluating the impact of the full adoption of SFAS 157 on ourconsolidated financial statements.

 

InDecember 2007, the FASB issued SFAS No. 141R, “*BusinessCombinations”* (“SFAS No. 141R”). SFAS No. 141Rexpands the scope of acquisition accounting to all transactions under whichcontrol of a business is obtained. Principally, SFAS No. 141Rrequires that contingent consideration as well as contingent assets andliabilities be recorded at fair value on the acquisition date and that certaintransaction and restructuring costs be expensed. SFAS No. 141R iseffective for fiscal years beginning after December 15, 2008. Asapplication of this statement is prospective and applicable to businesscombinations that occur after its effective date, we do not anticipate thatSFAS No. 141R will have a material, if any, impact on our consolidatedfinancial position and results of operations.

 

**3.**                                      Equipment and Improvements

** **

Property andequipment are recorded at cost less accumulated depreciation andamortization.  Depreciation is calculatedusing the straight-line method over the useful lives of the respective assets.  Leasehold improvements are amortized over theshorter of the estimated useful lives of the improvements or the remaininglease term. For the years ended December 31, 2008 and 2007, equipment andimprovements consisted of the following:

 
| **(in thousands)**                   | ** ** | **2008** | ** ** | **2007** | ** ** |
|-------------------------------------------|------------|----------|------------|----------|------------|
| Computer equipment and purchased software |       | $        | 441        |     | $          | 387 |   |
| Office equipment                          |       | 34       |       | 34       |       |
| Furniture and fixtures                    |       | 51       |       | 76       |       |
| Leasehold improvements                    |       | 192      |       | 176      |       |
| Total equipment and improvements          |       | $        | 718        |     | $          | 673 |   |
| Less: accumulated depreciation            |       | (475     | )          | (293     | )          |
| Total equipment and improvements, net     |       | $        | 243        |     | $          | 380 |   |

 

Depreciationexpense for the years ended December 31, 2008 and 2007 was $182,000 and$191,000 respectively.  Also included indepreciation expense for the year ended December 31, 2007 is a $24,000write-off related to the assets of our closed Colorado facility.

 

**4.****                                      IncomeTaxes**

 

Weadopted the provisions of FASB Interpretation No. 48, “*Accounting for Uncertainty in Income Taxes*” (“FIN 48”) aninterpretation of FASB Statement No. 109 (“SFAS No. 109”) on January 1,2007.  We have determined that therealization of $2.4 million in federal tax credits is in doubt. As a result ofthe implementation of FIN 48, we would have recognized a $2.4 million increasein the liability for unrecognized tax benefits had we recognized any benefitassociated with the credits in prior periods. However, due to past netoperating losses, no benefit has been recognized; accordingly, no liability hasbeen recognized. As a result, at the adoption date of FIN 48, January 1,2007 and also at December 31, 2008, we had no unrecognized tax benefits.

 

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AtDecember 31, 2008, we had federal and state net operating loss (“NOL”)carryforwards of $64.4 million and $14.1 million, expiring at various datesthrough 2028. Utilization of the NOL carryforwards may be subject to asubstantial annual limitation due to ownership change limitations that haveoccurred previously or that could occur in the future provided by Section 382of the Internal Revenue Code of 1986, as well as similar state provisions.These ownership changes may limit the amount of NOL that can be utilizedannually to offset future taxable income and tax, respectively. In general, anownership change, as defined by Section 382, results from transactionsincreasing the ownership of certain stockholders or public groups in the stockof a corporation by more than 50 percentage points over a three-year period.Since our formation, we have raised capital through the issuance of capitalstock on several occasions which, combined with the purchasing stockholders’subsequent disposition of those shares, may have resulted in a change of control,as defined by Section 382, or could result in a change of control in thefuture uponsubsequentdisposition. We have not currently completed a study to assess whether a changeof control has occurred or whether there have been multiple changes of controlsince our formation due to the significant complexity and cost associated withsuch study and due to the possibility of additional changes in control in thefuture. If we have experienced a change of control at any time since ourformation, utilization of our NOL carryforwards would be subject to an annuallimitation under Section 382. Further, until a study is completed and anylimitation known, no amounts are being presented as an uncertain tax positionunder FIN 48.

 

Werecognize interest and penalties related to uncertain tax positions in incometax expense.  As of December 31,2008, we had no accrued interest or penalties related to uncertain taxpositions.

 

Thetax years 2000 through 2007 remain open to examination by the major taxingjurisdictions to which we are subject. The Internal Revenue Service completedan audit of our consolidated federal income tax return for the 2005 tax yearwith no adjustments.

** **

The provision (benefit)for income taxes is as follows:

** **
| ** **                 | ** ** | **Year ended December 31,** | ** ** |
|----------------------------|------------|--------------------------------------------|------------|
| **(in thousands)**    | ** ** | ** **                                 | **2008**   | ** ** | **2007** | ** ** |
|                       |       |                                       |       |   |   |
| Current                    |       |                                       |       |   |   |
| Federal                    |       | $                                          | (1403      | ) | (3,115 | ) |
| State                      |       | (229                                       | )          | (519 | ) |
|                       |       |                                       |       |   |   |
| Total current              |       | (1,632                                     | )          | (3,634 | ) |
| Deferred                   |       |                                       |       |   |   |
| Federal                    |       | 1,403                                      |       | 3,782 |   |
| State                      |       | 229                                        |       | 563 |   |
|                       |       |                                       |       |   |   |
| Total deferred             |       | 1,632                                      |       | 4,345 |   |
|                       |       |                                       |       |   |   |
| Total tax expense(benefit) |       | $                                          | —     |   | 711 |   |
|                            |            |                                            |            |  |  |  |  |

 

**In2007 we recorded an income tax provision of $717,000 related to the increase inthe valuation allowance for deferred tax assets that were recorded in 2006 and2005. Due to the uncertainty of future taxable income, we have not recorded anincome tax benefit for the losses incurred in 2008 and 2007.**

 

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Ourdeferred tax assets consist of the following:

 
| ** **                                     | ** ** | **December 31, 2008** | ** ** | **December 31, 2007** | ** ** |
|------------------------------------------------|------------|---------------------------------|------------|---------------------------------|------------|
| Deferred Tax Assets:  (in thousands) | ** ** | ** **                      | ** ** | ** **                      | ** ** |
| Net Operating Loss Carryforwards               |       | $                               | 22,432     |                            | $          | 20,771 |   |
| Purchased intangibles                          |       | 3,243                           |       | 3,754                           |       |
| Tax Credit Carryforwards                       |       | 2,546                           |       | 2,541                           |       |
| Reserves, accruals and allowances              |       | 147                             |       | 237                             |       |
| Capitalized Research and Development Costs     |       | 75                              |       | 151                             |       |
| Deferred Revenue                               |       | 1                               |       | 70                              |       |
| Depreciation and Amortization                  |       | 78                              |       | 53                              |       |
| Other                                          |       | 618                             |       | 331                             |       |
| Total Gross Deferred Tax Asset                 |       | 29,140                          |       | 27,908                          |       |
| Valuation Allowance                            |       | (29,140                         | )          | (27,908                         | )          |
| Net Deferred Tax Asset                         |       | $                               | —     |                            | $          | — |   |

 

AtDecember 31, 2008, we had domestic federal NOL carryforwards ofapproximately $64.4 million available to reduce future taxable income, whichexpire at various dates beginning in 2019 through 2028.  We also havefederal research and development tax credit carryforwards of approximately $2.4million at December 31, 2008 available to reduce future tax liabilitieswhich expire at various dates beginning in 2019 through 2028.  We havestate NOL carryforwards of approximately $14.1 million available to reducefuture state taxable income, which expire at various dates beginning in 2009through 2028.

 

As described above underthe provisions of the Internal Revenue Code, certain substantial changes in ourownership may result in a limitation on the amount of NOL carryforwards andresearch and development credit carryforwards which may be utilized annually tooffset future taxable income and taxes payable.

 

As required by SFAS No. 109,our management has evaluated the positive and negative evidence bearing uponthe realizability of our deferred tax assets, which are comprised principallyof NOL carryforwards, research and experimentation credit carryforwards, andcapitalized start up expenditures and research and development expendituresamortizable over 60 months on a straight-line basis.  Management has determined at this time thatit is more likely than not that we will not recognize the benefits of ourfederal and state deferred tax assets and, as a result, a valuation allowanceof approximately $29.1 million has been established at December 31, 2008and approximately $27.9 million at December 31, 2007, respectively.Management has concluded at this time that the net deferred tax asset isappropriate, and that it is more likely than not that the remaining netdeferred tax asset will not be realized.

 

A reconciliation of theexpected income tax (benefit) computed using the federal statutory income taxrate to our effective income tax rate is as follows for the years ended December 31,2008 and 2007.

 
| **(in thousands)**                           | ** ** | ** ** | **December 31, 2008** | ** ** | **December 31, 2007** | ** ** |
|---------------------------------------------------|------------|------------|---------------------------------|------------|---------------------------------|------------|
|                                              |       |       |                            |       |                            |
| Income tax computed at federal statutory tax rate |       | $          | (1,044                          | )          | $                               | (1,304     | ) |
|                                              |       |       |                            |       |                            |
| State taxes, net of federal benefit               |       | (200       | )                               | 245        |                            |
|                                              |       |       |                            |       |                            |
| Change in valuation allowance                     |       | 1,232      |                            | 2,007      |                            |
|                                              |       |       |                            |       |                            |
| R&D and other credits                         |       | (31        | )                               | (31        | )                               |
|                                              |       |       |                            |       |                            |
| Permanent differences and other                   |       | 43         |                            | (206       | )                               |
|                                              |       |       |                            |       |                            |
| Total                                             |       | $          | —                          |       | $                               | 711        |   |

 

***5.******                                     *Commitmentsand Contingencies**

 

Welease our primary facility in Nashua, New Hampshire, under an operating lease,which expires in June 2010. In July 2007, we signed an additionallease for 6,000 square feet adjacent to our existing rented space in Nashua,New Hampshire.  These leases will expirein August 2010. We also have leased office space, located in Sterling, 

 

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Virginiafor our sales force which expires in 2010. Future minimum lease obligations at December 31, 2008, under all ofthese non-cancelable operating leases are approximately $217,000 in 2009 and$153,000 in 2010 and $98,000 in 2011.  Weestimate sublease rental for the Colorado Springs facility in the amounts of$20,000 in 2009, $48,000 in 2010 and $44,000 in 2011.

 

InDecember 2007, we completed the closure of our Colorado Springsfacility.  We recorded a restructuringcharge of $215,000 to cover the expected lease payments of this facility, netof expected proceeds. In 2008, we reassessed our exposure in consideration ofthe current real estate market and interest in the space to-date by potentialsubtenants. Based on the resulting conclusions, we recorded an additionalrestructuring charge of $219,000 during the year. The space is leased through November 2011and is currently available for subleasing. We estimate that we will have to pay$287,000, net of expected sublease rental, over the remaining lease term. Ourgross remaining obligation on the lease, including estimated operatingexpenses, is approximately $453,000.

 

Theadjustments to the accrued restructuring liability related to the shutdown ofthe Colorado facility for the period ended December 31, 2008 were asfollows (in thousands):

 
| Restructuring balance as of December 31, 2007 |   | $    | 215    |   |
|----------------------------------------------------|--------|------|--------|--------|
| Cash payments                                      |   | (147 | )      |
| Additional liability recorded                      |   | 219  |   |
| Restructuring liability at December 31, 2008  |   | $    | 287    |   |

 

InApril 2007, we entered into a new agreement with Microsoft to extend anexisting software distribution license agreement through December 2008.  Under the agreement, we were required topurchase a minimum of $1.7 million and $2.75 million of licenses during 2007and 2008 respectively, plus purchase an additional $0.5 million over the lifeof the two year agreement. During 2007 we reviewed our forecast for licensesales over the balance of the agreement and recorded a charge of $1.45 millionto reserve for an excess purchase commitment. The charge was recorded as a component of cost of product revenue duringthe year ended December 31, 2007.

 

InDecember 2008, the Microsoft agreement was amended to extend the termthrough June 2011 and reduce the remaining purchase commitment to $2.75million, $154,000 of which was satisfied during 2008.  The amended agreement requires that we makeminimum payments of $1.0 million, $1.1 million and $0.5 million during 2009,2010 and 2011, respectively.  In additionto the remaining $2.6 million license purchase commitment, we have approximately$670,000 of prepaid licenses on hand that have yet to be deployed tocustomers.  During 2008 we continued toexperience a decline in the volume of our customer license renewals.  As of December 31, 2008, we reviewed ourforecast for license sales through the amended term (June 2011) and believethat the $1.45 million reserve remains the appropriate reserve for the excesspurchase commitment.  The computation ofthe excess purchase commitment reserve requires management to make certainassumptions regarding future license renewals and sales growth.  Actual results may differ materially frommanagement’s estimates.

 

**6.****                                      StockholdersEquity**

 

We have authorized2,000,000 shares of undesignated preferred stock. Each series of preferredstock shall have such rights, preferences, privileges and restrictions,including voting rights, dividend rights, conversion rights, redemptionprivileges and liquidation preferences as determined by the Board of Directors.

 

**ShareRepurchase Program**

 

InOctober 2007, the Board authorized the repurchase up to $1.0 million ofcommon stock.  This authority wasexercised from time to time through November 2008. As of December 31,2008, we had purchased $84,000 of our common stock. The authorization periodhas expired.

 

**7.****                                     ****Benefit Plans**

 

###### **Stock Option Plans**

###### ** **

Our Amended and Restated1991 Stock Incentive Plan (the “1991 Plan”) provided for the sale or award ofcommon stock, or the grant of incentive stock options or nonqualified stockoptions for the purchase of common 

 

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stock, up to 6,090,541shares to our officers, employees and consultants.  The 1991 Plan terminated on March 31,2001, and no further options have been granted under the 1991 Plan subsequentto that date.  At December 31, 2008,there were 489,000 shares of common stock reserved for issuance upon exerciseof outstanding options granted under the 1991 Plan.

 

Our 2001 Stock IncentivePlan was approved and adopted by the Board on April 11, 2001 (the “2001Plan”). The 2001 Plan provided for the sale or award of common stock, or thegrant of non-qualified stock options for the purchase of common stock, up to5,000,000 shares to our officers, directors, employees and consultants.  Vesting of options granted under the 2001Plan accelerates upon a change of control or acquisition as defined in the 2001Plan. The 2001 Plan terminated on December 31, 2004 and no further optionshave been granted under the 2001 Plan subsequent to that date.  At December 31, 2008, there were 19,750shares of common stock reserved for issuance upon exercise of outstandingoptions granted under the 2001 Plan.

 

Our 2004 Stock IncentivePlan was approved and adopted by the Board on December 31, 2004 (the “2004Plan”). The 2004 Plan provides for the sale or award of common stock or thegrant of non-qualified stock options for the purchase of common stock, up to7,500,000 shares to our officers, directors, employees and consultants. TheBoard administers the 2004 Plan, and the terms of grants and awards madepursuant to the 2004 Plan.  Vesting ofoptions granted under the 2004 Plan accelerates upon a change of control oracquisition as defined in the 2004 Plan. The 2004 Plan will terminate on December 31,2014.  At December 31, 2008, therewere 2,696,407 shares of common stock reserved for issuance upon exercise ofoutstanding options granted under the 2004 Plan.

 

In April 1995,the Board and stockholders approved our Non-Employee Director Stock Option Plan(the “Director Plan”), which was amended by the Board on June 5, 2002. TheDirector Plan provided that the Board, at its discretion, was permitted togrant options to non-employee directors, subject to terms and conditions asdetermined by the Board.  The DirectorPlan terminated on November 9, 2004, and no further options have beengranted under the Director Plan subsequent to that date.  At December 31, 2008, there were 34,000shares of common stock reserved for issuance upon exercise of outstandingoptions granted under the Director Plan.

 

A summary ofoption activity under the 2004 Plan, 2001 Plan, the 1991 Plan and the DirectorPlan is as follows:

 
| ** **                            | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** |
|---------------------------------------|------------|------------|------------|----------------------------------------|------------|
| Outstanding at December 31, 2006 |       | 2,396,848  |       | $                                      | 3.66       |   |
| Granted                               |       | 996,550    |       | 1.82                                   |       |
| Terminated                            |       | (596,877   | )          | 2.02                                   |       |
| Exercised                             |       | (49,455    | )          | 0.68                                   |       |
|                                  |       |       |       |                                   |       |
| Outstanding at December 31, 2007 |       | 2,747,066  |       | 3.40                                   |       |
| Granted                               |       | 1,364,600  |       | 0.63                                   |       |
| Terminated                            |       | (815,384   | )          | 2.48                                   |       |
| Exercised                             |       | (57,125    | )          | 0.23                                   |       |
|                                  |       |       |       |                                   |       |
| Outstanding at December 31, 2008 |       | 3,239,157  |       | $                                      | 2.52       |   |

 

Theweighted average remaining contractual term and the aggregate intrinsic valuefor options outstanding at December 31, 2008 were 6.77 years and $0respectively.  The weighted averageremaining contractual term and the aggregate intrinsic value for optionsexercisable at December 31, 2008 was 5.02 years and $0, respectively. Thetotal intrinsic value of stock options exercised during 2008 and 2007 was$20,000 and $55,000, respectively.

 

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Relatedinformation for options outstanding and exercisable as of December 31,2008 under these option plans is as follows:

 
| **Range of exercise prices** | ** ** | **Outstanding  Options** | ** ** | **Weighted  Average  Remaining  Contractual Life** | ** ** | **Weighted  Average  Exercise Price** | ** ** | **Exercisable  Options** | ** ** | **Weighted  Average  Exercise Price** | ** ** |
|---------------------------------------------|------------|--------------------------|------------|---------------------------------------------------------|------------|--------------------------------------------|------------|--------------------------|------------|--------------------------------------------|------------|
| $0.11                                       | -          | $0.97                    |       | 1,587,850                                               |       | 8.04                                       |       | $                        | 0.74       |                                       | 559,544    |   | $ | 0.93 |   |
|   1.01                                 | -          |   3.14         |       | 765,557                                                 |       | 7.82                                       |       | 2.03                     |       | 389,706                                    |       | 2.06 |   |
|   3.30                                 | –     |   3.30         |       | 394,750                                                 |       | 7.16                                       |       | 3.30                     |       | 267,564                                    |       | 3.30 |   |
| 3.50                                        | -          |   7.87         |       | 241,000                                                 |       | 0.33                                       |       | 7.72                     |       | 239,906                                    |       | 7.73 |   |
| 9.13                                        | –     |   9.13         |       | 250,000                                                 |       | 1.14                                       |       | 9.13                     |       | 250,000                                    |       | 9.13 |   |
|                                        |       |                     |       |                                                    |       |                                       |       |                     |       |                                       |       |
|                                        |       | 3,239,157                |       | 6.77                                                    |       | 2.52                                       |       | 1,706,720                |       | 3.71                                       |       |
|                                             |            |                          |            |                                                         |            |                                            |            |                          |            |                                            |            |  |  |  |  |

 

**Savings Plan**

 

We sponsor a savings plan for our employees, which has been qualifiedunder Section 401(k) of the Internal Revenue Code.  Eligible employees are permitted tocontribute to the 401(k) plan through payroll deductions within statutoryand plan limits.  At the discretion ofthe Board we contributed approximately $47,000 and $38,000 in 2008 and 2007,respectively.

 

**DeferredCompensation Plan**

 

EffectiveMarch 31, 2006, we adopted the Ezenia Deferred Compensation Plan (the “Plan”).Under this Plan, eligible employees may elect to defer up to 100% of their baseand incentive compensation into the Plan. We are under no obligation toestablish a fund or reserve in order to pay the benefits under the Plan exceptin the event of a change in control.  Iffunded, the plan Trustee makes all investment decisions for the Trust on behalfof the participants. We have not guaranteed a return on investment for theparticipants, however, all earnings and losses on the Plan assets are borne bythe participant.  All contributions andearnings are fully vested to the participant when made but are subject to ourcreditors in the event of bankruptcy.  Asa result, the assets held in the Plan have been recorded as cash equivalents inthe consolidated balance sheet with a corresponding liability being recorded asdeferred compensation, which is included in employee compensation and benefitsin the accompanying consolidated balance sheet. Interest earned on the Plan assets is recorded as interest income in theconsolidated statement of operations. A corresponding entry to deferredcompensation is made to increase (decrease) the amounts due the participantresulting from the changes in the asset value with an offsetting charge orcredit to general and administrative expense. Compensation expense, includingemployee deferrals, was approximately ($98,000) and $36,000 in the years ended December 31,2008 and 2007, respectively.

 

**8.****                                     ****Fair Value Measurements**

 

InSeptember 2006, the FASB issued SFAS No. 157, which defines fairvalue, establishes a framework for measuring fair value and expands fair valuemeasurement disclosures. In February 2008, the FASB issued FSPFAS 157-1, and FSP FAS 157-2, collectively, these FSPs defer theeffective date of SFAS 157 to fiscal years beginning after November 15,2008 for nonfinancial assets and nonfinancial liabilities except for items thatare recognized or disclosed at fair value on a recurring basis at leastannually, and amend the scope of SFAS 157. We adopted SFAS 157 in 2008 exceptfor those items specifically deferred under FSP FAS 157-2.

 

Asdefined in SFAS No. 157, fair value is the price that would be received tosell an asset or paid to transfer a liability in an orderly transaction betweenmarket participants at the measurement date. SFAS No. 157 establishesa fair value hierarchy that prioritizes the inputs to valuation techniques usedto measure fair value. The fair value hierarchy consists of three broad levels:

 
| · |   | Level 1:  valuations consist of unadjusted quoted prices in  active markets for identical assets and liabilities and has the highest  priority;                                                                          |
|--------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                          |
| · |   | Level 2:  valuations rely on quoted prices in markets that are  not active or observable inputs over the full term of the asset or liability;                                                                            |
|   |   |                                                                                                                                                                                                                          |
| · |   | Level 3:  valuations are based on prices or third-party or  internal valuation models that require inputs that are significant to the  fair value measurement and are less observable and thus have the lowest priority. |

 

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Theonly financial instruments reported at fair value are our cash equivalents,which include short-term mutual funds classified as trading securities, and arereported at fair value using Level 1 inputs. The unrealized gain (loss) relatedto these short-term investments amount to ($98,000) and $36,000, and isrecorded in other income (expense) for the years ended December 31, 2008and 2007, respectively.

 

**9.****                                     ****Shareholder Rights Agreement**

 

OnApril 15, 2008, we adopted a Shareholder Rights Agreement.  Pursuantto the terms of the Rights Agreement, the Board declared a dividenddistribution of one Preferred Stock Purchase Right (a “Right”) for eachoutstanding share of our common stock to shareholders of record as of the closeof business on April 16, 2008 (the “Record Date”).  In addition, oneRight will automatically attach to each share of common stock issued betweenthe Record Date and the Distribution Date (as defined in the agreement). Each Right entitles the registered holder thereof to purchase from us a unitconsisting of one ten-thousandth of a share (a “Unit”) of our Series DJunior Participating Cumulative Preferred Stock, par value $0.01 per share, ata cash exercise price of $3.00 per Unit, subject to adjustment under certainconditions specified in the Rights Agreement.

 

Initially,the Rights are not exercisable and are attached to and trade with all shares ofcommon stock outstanding as of, and issued subsequent to, the RecordDate.  The Rights will separate from the common stock and will becomeexercisable upon the occurrence of the earlier of several circumstances, asdefined in the agreement.

 

Inthe event that a Stock Acquisition Date (as defined in the agreement) occurs,proper provision will be made so that each holder of a Right (other than anAcquiring Person, as defined in the agreement, or its associates or affiliates,whose Rights shall become null and void) will thereafter have the right toreceive upon exercise, in lieu of a number of Units of Preferred Stock, thatnumber of shares of our common stock (or, in certain circumstances, includingif there are insufficient shares of common stock to permit the exercise in fullof the Rights, Units of Preferred Stock, other securities, cash or property, orany combination of the foregoing) having a market value of two times theexercise price of the Right (such right being referred to as the “SubscriptionRight”).  Upon the occurrence of any of several particular circumstances,as defined in the agreement, following the Stock Acquisition Date, each holderof a Right will thereafter have the right to receive, upon exercise, commonstock of the acquiring company having a market value equal to two times theexercise price of the Right (such right being referred to as the “Merger Right”). The holder of a Right will continue to have the Merger Right whether or notsuch holder has exercised the Subscription Right.  Rights that are or werebeneficially owned by an Acquiring Person may (under certain circumstancesspecified in the Rights Agreement) become null and void.

 

TheRights contain certain redemption rights and provisions, as defined in theagreement. On April 21, 2008 we designated 50,000 of our 2,000,000 sharesof authorized preferred stock as Series D Preferred Stock.

 

**10.****                              ****Related-Party Transactions**

 

During 2007, we engaged theCarmen Group, Inc. (“Carmen Group”) as consultants to assist in the developmentand implementation of a strategy for marketing our products to Federalpurchasers within the Department of Defense and appropriate adjacent markets.The President of the Carmen Group is the son of a member of our Board ofDirectors. We paid the Carmen Group $275,000 and $190,000 during the yearsended December 31, 2008 and 2007, respectively, for consulting services.We terminated the agreement with the Carmen Group during the fourth quarter of2008.

 

**ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING ANDFINANCIAL DISCLOSURE**

 

**None.**

 

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**ITEM 9A. CONTROLS AND PROCEDURES**

 

**Evaluation of Disclosure Controls and Procedures**

 

 As required by Rule 13a-15 under theSecurities Exchange Act of 1934, as of December 31, 2008, our management,under the supervision and with the participation of both the chief executiveofficer and the chief financial officer, carried out an evaluation of theeffectiveness of our disclosure controls and procedures.  Based on thisevaluation, our chief executive officer and chief financial officer concludedthat our disclosure controls and procedures were effective at the reasonableassurance level to ensure that the information required to be disclosed in thereports filed or submitted by us under the Securities Exchange Act of 1934 asamended, was recorded, processed, summarized, and reported within the requisitetime periods, including ensuring that such material information is accumulatedand communicated to our management to allow timely decisions regarding requireddisclosure.

 

**Changes in Internal Control Over Financial Reporting**

 

Therewere no changes in our internal control over financial reporting that occurredduring the quarter ended December 31, 2008 that materially affected, orare reasonably likely to materially affect, our internal control over financialreporting.

 

**Management’s Report on Internal Control Over FinancialReporting**

 

Managementis responsible for establishing and maintaining adequate internal control overfinancial reporting as defined in Rule 13a-15(f) of the SecuritiesExchange Act of 1934 as amended. Our internal control over financial reportingis a process designed to provide reasonable assurance regarding the reliabilityof financial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles. Ourinternal control over financial reporting includes those policies andprocedures that (i) pertain to the maintenance of records that, inreasonable detail, accurately and fairly reflect the transactions anddispositions of our assets; (ii) provide reasonable assurance that transactionsare recorded as necessary to permit preparation of financial statements inaccordance with generally accepted accounting principles, and that our receiptsand expenditures are being made only in accordance with authorizations of ourmanagement and directors; and (iii) provide reasonable assurance regardingprevention or timely detection of unauthorized acquisition, use, or dispositionof our assets that could have a material effect on the financial statements.

 

Becauseof its inherent limitations, internal control over financial reporting may notprevent or detect misstatements. Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls maybecome inadequate because of changes in conditions, or that the degree ofcompliance with the policies or procedures may deteriorate.

 

Managementhas assessed our internal control over financial reporting in relation tocriteria described in *Internal Control —Integrated Framework,*issued by the Committee of SponsoringOrganizations of the Treadway Commission. Based on this assessment using thosecriteria, we concluded that, as of December 31, 2008, our internal controlover financial reporting was effective.

 

Thisannual report does not include an attestation report of our independentregistered public accounting firm regarding internal control over financialreporting.  Management’s report was not subject to attestation by ourindependent registered public accounting firm pursuant to the rules of theSecurities and Exchange Commission that permit us to provide only management’sreport in this annual report.

 

**ITEM 9B.OTHER INFORMATION**

 

**None**

 

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**PART III**

 

**ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THEREGISTRANT**

 

The information required by Item 10 will be included in our definitiveProxy Statement to be delivered to stockholders in connection with the 2009Annual Meeting of Stockholders. Such information is hereby incorporated hereinby reference.

 

We have adopted a Code of Business Conductand Ethics (the “Code”) that applies to all of our employees, including ourexecutive officers and directors. The Code is available on our website atwww.ezenia.com.  We intend to discloseany amendments to or waivers of the Code on behalf of our Chief ExecutiveOfficer, Chief Financial Officer, Controller, and persons performing similarfunctions on our website. We shall also provide to any person without charge,upon request, a copy of the Code.  Anysuch request must be made in writing to Ezenia! Inc., c/o Investor Relations,14 Celina Ave, Suite 17-18, Nashua, New Hampshire 03063.

 

**ITEM11.  EXECUTIVE COMPENSATION**

 

The information required by Item 11 will be included in our definitiveProxy Statement to be delivered to stockholders in connection with the 2009Annual Meeting of Stockholders. Such information is hereby incorporated hereinby reference.

 

**ITEM12.  SECURITY OWNERSHIP OF CERTAINBENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS**

** **

The information required by Item 12 will be included in our definitiveProxy Statement to be delivered to stockholders in connection with the 2009Annual Meeting of Stockholders.  Suchinformation is hereby incorporated herein by reference.

 

**Equity Compensation Plan Information**

 

The following table sets forth information as of December 31, 2008regarding our equity compensation plans under which shares of our common stockare authorized for issuance.

 
| **Plan Category**                                     | ** ** | **Number of securities to be  issued upon exercise  of outstanding options,  warrants and rights** | ** ** | **Weighted-average  exercise price of  outstanding options,  warrants and rights** | ** ** | **Number of securities  remaining available for  future issuance under equity  compensation plans  (excluding securities  reflected in column (a))** | ** ** |
|------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
|                                                       |       | **(a)**                                                                                                                                              |       | **(b)**                                                                                                     |       | **(c)**                                                                                                                                                                                                          |       |
|                                                       |       |                                                                                                                                                 |       |                                                                                                        |       |                                                                                                                                                                                                             |       |
| Equity compensation plans approved by  securityholders     |       | 3,219,407                                                                                                                                            | (1)        | $                                                                                                           | 2.54       |                                                                                                                                                                                                             | 4,785,514  | (2) |
|                                                       |       |                                                                                                                                                 |       |                                                                                                        |       |                                                                                                                                                                                                             |       |
| Equity compensation plans not approved by  securityholders |       | 19,750                                                                                                                                               | (3)        | $                                                                                                           | 0.37       |                                                                                                                                                                                                             | —     |   |
|                                                       |       |                                                                                                                                                 |       |                                                                                                        |       |                                                                                                                                                                                                             |       |
| Total                                                      |       | 3,239,157                                                                                                                                            |       | $                                                                                                           | 2.52       |                                                                                                                                                                                                             | 4,785,514  |   |

 

----

**(1)**           Includes489,000 shares of common stock to be issued upon exercise of outstandingoptions under the 1991 Plan, 34,000 shares of common stock to be issued uponexercise of outstanding options under the Director Option Plan, and 2,696,407shares of common stock to be issued upon exercise of outstanding options underthe 2004 Plan.

** **

**(2)**           Includes4,785,514 shares of common stock remaining available for future issuance underthe 2004 Plan. 

 

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**The 1991 Plan terminated on March 31,2001, the 1994 Non Employee Director Option Plan terminated on November 9,2004, and the 1995 Employee Stock Purchase Plan terminated on January 31,2005, and no additional options may be granted under these plans.**

** **

**(3)**           Representsshares of common stock to be issued upon exercise of outstanding options underthe 2001 Plan.  The 2001 Plan terminatedon December 31, 2004, and no additional options may be granted under thisplan.

** **

A description of these equity incentive plans is included in Note 7 toour Consolidated Financial Statements set forth herein.

 

**ITEM13.  CERTAIN RELATIONSHIPS AND RELATEDTRANSACTIONS; DIRECTOR INDEPENDENCE**

** **

The information required by Item 13 will beincluded in our definitive Proxy Statement to be delivered to stockholders inconnection with the 2009 Annual Meeting of Stockholders. Such information ishereby incorporated herein by reference.

 

**ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES**

 

Theinformation required by Item 14 will be included in our definitive ProxyStatement to be delivered to stockholders in connection with the 2009 AnnualMeeting of Stockholders. Such information is hereby incorporated herein byreference.

 

**PART IV**

 

**ITEM 15.  EXHIBITS, AND FINANCIAL STATEMENT SCHEDULES,AND REPORTS ON FORM 8-K**

 

**(a) Documents Filed as Part of Form 10-K**

 

**1.****            ****Consolidated FinancialStatements.**

 

The following consolidated financialstatements and supplementary data are included in Part II-Item 8 filed aspart of this report:

 

·      Report of Independent Registered PublicAccounting Firm

·      Consolidated Balance Sheets as of December 31,2008 and 2007

·      Consolidated Statements of Operations for theyears ended December 31, 2008 and 2007

·      Consolidated Statements of Stockholders’Equity for the years ended December 31, 2008 and 2007

·      Consolidated Statements of Cash Flows for theyears ended December 31, 2008 and 2007

 

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·      Notes to Consolidated Financial Statements

·      Quarterly Financial Information (unaudited)

 

**2.****            ****Financial Statement Schedule.**

 

·      Schedule II — Valuation and QualifyingAccounts

 

Schedules not listed abovehave been omitted because they are not applicable, not required or theinformation required is shown in the consolidated financial statements or thenotes thereto.

 

**3.****            ****List of Exhibits.**

 
| **Exhibit****Number** | ** ** | **Description of Exhibit**                                                                                                                                                                                 |
|-----------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                  |       |                                                                                                                                                                                                       |
| 3.1(1)                |       | Amended and Restated  Certificate of Incorporation of the Registrant.                                                                                                                                      |
| 3.2(11)               |       | Certificate of  Designations, Preferences and Rights of a Series of Preferred Stock of  the Registrant classifying and designating the Series D Junior  Participating Cumulative Preferred Stock |
| 3.3(1)                |       | Amended and Restated By-Laws  of the Registrant.                                                                                                                                                           |
| 4.1(1)                |       | Specimen Stock  Certificate.                                                                                                                                                                               |
| 4.2(12)               |       | Shareholder  Rights Agreement, dated as of April 15, 2008, between Ezenia! Inc. and  Computershare Trust Company, N.A., as Rights Agent                                                               |
| 10.1(1)+              |       | Amended and Restated 1991  Stock Incentive Plan of the Registrant.                                                                                                                                         |
| 10.2(1)               |       | Amended and Restated 1994  Non-Employee Director Option Plan of the Registrant.                                                                                                                            |
| 10.3(1)+              |       | 1995 Employee Stock  Purchase Plan of the Registrant.                                                                                                                                                      |
| 10.4(8)+              |       | 2004 Stock Incentive Plan                                                                                                                                                                                  |
| 10.5(1)               |       | License Agreement dated  January 2, 1995 between the Registrant and Datapoint Corporation.                                                                                                            |
| 10.6(1)               |       | Letter Agreement dated  December 31, 1994 between the Registrant and Fleet Bank of  Massachusetts, N.A.                                                                                               |
| 10.7(2)+              |       | Employment Agreement dated  as of November 9, 2007 between the Registrant and Khoa D. Nguyen.                                                                                                         |
| 10.8+                 |       | First Amendment to Employment Agreement between the  Registrant and Khoa D. Nguyen, dated December 11, 2008                                                                                           |
| 10.9(3)               |       | Asset Purchase Agreement  dated as of December 28, 2000 between the Registrant and General  Dynamics Government Systems Corporation, as amended.                                                      |
| 10.10(a)(4)           |       | Put Agreement dated as of  March 27, 2001 (as amended to date) by and between the Registrant and  General Dynamics Government Systems Corporation.                                                    |
| 10.10(b)(7)           |       | Agreement and Release  dated as of December 31, 2002 by and between the Registrant and General  Dynamics Government Systems Corporation.                                                              |
| 10.11(5)+             |       | 2001 Stock Incentive Plan  of the Registrant.                                                                                                                                                              |
| 10.12(6)              |       | Asset Purchase Agreement  dated as of August 1, 2002 between the Registrant and Tandberg Telecom  AS.                                                                                                 |
| 10.13(6)              |       | License Agreement dated as  of August 1, 2002 between the Registrant and Telecom AS.                                                                                                                  |
| 10.14(6)              |       | Promissory Note dated as  of August 1, 2002 made by the Registrant in favor Tandberg Telecom AS.                                                                                                      |
| 10.15(6)              |       | Security Agreement dated  as of August 1, 2002 between the Registrant and Tandberg Telecom AS.                                                                                                        |
| 10.16(6)              |       | Ezenia! License Agreement  dated as of October 30, 2002 between the Registrant and Tandberg Telecom  AS.                                                                                              |
| 10.17(9)              |       | First Amended and Restated  Software Distribution License Agreement dated January 1, 2005 by and between  Microsoft Corporation and Ezenia! Inc.                                                           |
| 10.18(10)             |       | Amendment to First Amended  and Restated Software Distribution License Agreement by and between Microsoft  Corporation and Ezenia! Inc. dated April 2007.                                             |

 

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| 10.19(11) |   | Amendment to First Amended  and Restated Software Distribution License Agreement by and between Microsoft  Corporation and Ezenia! Inc. dated December 2008.                 |
|-----------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.20+    |   | The Ezenia! Inc. Deferred Compensation Plan, as  amended and restated as of December 11, 2008                                                                                |
| 21.1      |   | Subsidiaries of the  Registrant.                                                                                                                                                  |
| 23.2      |   | Consent of Vitale,  Caturano & Company Ltd.                                                                                                                              |
| 31.1      |   | Consent of the Company’s  Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.            |
| 31.2      |   | Consent of the Company’s  Chief Financial Officer pursuant to 18 U. S.C. Section 1350, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.           |
| 32.1      |   | Certification of the  Company’s Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| 32.2      |   | Certification of the  Company’s Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |

 

Copies of any of these exhibits are availablewithout charge upon written request to Investor Relations, Ezenia! Inc., 14Celina Avenue, Suite 17-18, Nashua, NH 03063.

 

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| +    |   | Management contract for  compensatory plan or arrangement required to be filed as an exhibit to this  report pursuant to Item 15(c) of this report.                                                |
|------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (1)  |   | Incorporated by reference  from the Company’s Registration Statement on Form S-1.                                                                                                             |
| (2)  |   | Incorporated by reference  from the Company’s Form 8-K filed with the Securities and Exchange  Commission on November 14, 2007.                                                          |
| (3)  |   | Incorporated by reference  from the Company’s Form 10-K filed with the Securities and Exchange  Commission for the year ended December 31, 2000.                                         |
| (4)  |   | Incorporated by reference  from the Company’s Form 10-Q for the quarter ended September 30,  2001.                                                                                       |
| (5)  |   | Incorporated by reference  from the Company’s Registration Statement on Form S-8 filed with the  Securities and Exchange Commission on December 21, 2001.                                |
| (6)  |   | Incorporated by reference  from the Company’s Form 10-Q for the quarter ended September 30,  2002.                                                                                       |
| (7)  |   | Incorporated by reference  from the Company’s Form 10-K filed with the Securities andExchange Commission for the year ended  December 31, 2002.                                          |
| (8)  |   | Incorporated by reference  from the Company’s Form 10-K/A filed with the Securities and Exchange  Commission for the year ended December 31, 2004.                                       |
| (9)  |   | Incorporated by reference  from the Company’s Form 10-Q for the quarter ended March 31, 2005.                                                                                                 |
| (10) |   | Incorporated by reference  from the Company’s Form 10-K filed with the Securities and Exchange  Commission for the year ended December 31, 2007.                                         |
| (11) |   | Incorporated by reference  from the Company’s Registration Statement on Form 8-A, filed with the  Securities and Exchange Commission on April 21, 2008 (File  No. 000-25882)).      |
| (12) |   | Incorporated herein by  reference to the Company’s Registration Statement on Form 8-A, filed  with the Securities and Exchange Commission on April 21, 2008 (File  No. 000-25882)). |

 

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**SIGNATURES**

 

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

 
|   |   | EZENIA! INC.                                      |
|--------|--------|---------------------------------------------------|
|   |   |                                              |
|   |   |                                              |
|   |   | By:                                               | /s/ Khoa D. Nguyen |
|   |   | Khoa D. Nguyen                                    |
|   |   | Chairman, Chief Executive  Officer, and President |
|   |   |  (Principal executive  officer)              |
|   |   |                                              |
|   |   | Date: March 23, 2009                         |

 

Pursuant to the requirements of the Securities Exchange Act of 1934,this report has been signed below by the following persons on behalf of theRegistrant and in the capacities and on the dates indicated.

 
| **Signature**           | ** ** | **Title**                                              | ** ** | **Date**            |
|-------------------------|------------|--------------------------------------------------------|------------|---------------------|
|                    |       |                                                   |       |                |
|                    |       |                                                   |       |                |
| /s/ Khoa D. Nguyen      |       | Chairman, Chief Executive Officer,                     |       | March 23, 2009 |
| Khoa D. Nguyen          |       | and President (Principal executive officer)            |       |                |
|                    |       |                                                   |       |                |   |
| /s/ Ronald L. Breland   |       | Director                                               |       | March 23, 2009 |
| Ronald L. Breland       |       |                                                   |       |                |
|                    |       |                                                   |       |                |   |
| /s/ Gerald P. Carmen    |       | Director                                               |       | March 23, 2009 |
| Gerald P. Carmen        |       |                                                   |       |                |
|                    |       |                                                   |       |                |   |
| /s/ John A. McMullen    |       | Director                                               |       | March 23, 2009 |
| John A. McMullen        |       |                                                   |       |                |
|                    |       |                                                   |       |                |   |
| /s/ Robert N. McFarland |       | Director                                               |       | March 23, 2009 |
| Robert N. McFarland     |       |                                                   |       |                |
|                    |       |                                                   |       |                |   |
| /s/ Kevin M. Hackett    |       | Chief Financial Officer and                            |       | March 23, 2009 |
| Kevin M. Hackett        |       | Secretary (Principal financial and accounting officer) |       |                |

 

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**EZENIA! INC.** SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS

 
| **Column A — Description** | ** ** | **Column B**                              | ** ** | **Column C — Additions**              | ** ** | **Column D**                                | ** ** | **Column E**                                            | ** ** |
|------------------------------------------------|------------|------------------------------------------------|------------|-----------------------------------------------------------|------------|--------------------------------------------------|------------|--------------------------------------------------------------|------------|
| **Accounts Receivable Allowances**   | ** ** | **Balance At  Beginning  Of Period** | ** ** | **Charged  (Credited)  to Costs and  Expenses** | ** ** | **Charged  (credited) to  Other  Accounts** | ** ** | **Deductions  —  Uncollectible  Accounts  Written-off** | ** ** | **Balance at  End of  Period** | ** ** |
|                                           |       |                                           |       |                                                      |       |                                             |       |                                                         |       |   |   |
| Year Ended December 31, 2008              |       | $                                              | 412,909    |                                                      | —     |                                             | (67,171    | )(1)                                                         | 317,488    | (2) | $ | 28,250 |   |
|                                           |       |                                           |       |                                                      |       |                                             |       |                                                         |       |   |   |
| Year Ended December 31, 2007              |       | $                                              | 412,909    |                                                      | —     |                                             | —     |                                                         | —     |   | $ | 412,909 |   |

 

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(1)   Relates to the release of revenue-related reserves upon the completionof Product Development contract audits

(2)   Write-off of accounts receivable related to video equipment sales priorto 2006

 

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**Exhibit Index**

 
| **Exhibit****Number** | ** ** | **Description of Exhibit**                                                                                                                                                                                 |
|-----------------------|------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                  |       |                                                                                                                                                                                                       |
| 3.1(1)                |       | Amended and Restated Certificate  of Incorporation of the Registrant.                                                                                                                                      |
| 3.2(11)               |       | Certificate of  Designations, Preferences and Rights of a Series of Preferred Stock of  the Registrant classifying and designating the Series D Junior  Participating Cumulative Preferred Stock |
| 3.3(1)                |       | Amended and Restated  By-Laws of the Registrant.                                                                                                                                                           |
| 4.1(1)                |       | Specimen Stock  Certificate.                                                                                                                                                                               |
| 4.2(12)               |       | Shareholder  Rights Agreement, dated as of April 15, 2008, between Ezenia! Inc. and  Computershare Trust Company, N.A., as Rights Agent                                                               |
| 10.1(1)+              |       | Amended and Restated 1991  Stock Incentive Plan of the Registrant.                                                                                                                                         |
| 10.2(1)               |       | Amended and Restated 1994  Non-Employee Director Option Plan of the Registrant.                                                                                                                            |
| 10.3(1)+              |       | 1995 Employee Stock  Purchase Plan of the Registrant.                                                                                                                                                      |
| 10.4(8)+              |       | 2004 Stock Incentive Plan                                                                                                                                                                                  |
| 10.5(1)               |       | License Agreement dated  January 2, 1995 between the Registrant and Datapoint Corporation.                                                                                                            |
| 10.6(1)               |       | Letter Agreement dated  December 31, 1994 between the Registrant and Fleet Bank of  Massachusetts, N.A.                                                                                               |
| 10.7(2)+              |       | Employment Agreement dated  as of November 9, 2007 between the Registrant and Khoa D. Nguyen.                                                                                                         |
| 10.8+                 |       | First Amendment to Employment Agreement between the  Registrant and Khoa D. Nguyen, dated December 11, 2008                                                                                           |
| 10.9(3)               |       | Asset Purchase Agreement  dated as of December 28, 2000 between the Registrant and General Dynamics  Government Systems Corporation, as amended.                                                      |
| 10.10(a)(4)           |       | Put Agreement dated as of  March 27, 2001 (as amended to date) by and between the Registrant and  General Dynamics Government Systems Corporation.                                                    |
| 10.10(b)(7)           |       | Agreement and Release  dated as of December 31, 2002 by and between the Registrant and General  Dynamics Government Systems Corporation.                                                              |
| 10.11(5)+             |       | 2001 Stock Incentive Plan  of the Registrant.                                                                                                                                                              |
| 10.12(6)              |       | Asset Purchase Agreement  dated as of August 1, 2002 between the Registrant and Tandberg Telecom  AS.                                                                                                 |
| 10.13(6)              |       | License Agreement dated as  of August 1, 2002 between the Registrant and Telecom AS.                                                                                                                  |
| 10.14(6)              |       | Promissory Note dated as  of August 1, 2002 made by the Registrant in favor Tandberg Telecom AS.                                                                                                      |
| 10.15(6)              |       | Security Agreement dated  as of August 1, 2002 between the Registrant and Tandberg Telecom AS.                                                                                                        |
| 10.16(6)              |       | Ezenia! License Agreement  dated as of October 30, 2002 between the Registrant Tandberg Telecom AS.                                                                                                   |
| 10.17(9)              |       | First Amended and Restated  Software Distribution License Agreement dated January 1, 2005 by and between  Microsoft Corporation and Ezenia! Inc.                                                           |
| 10.18(10)             |       | Amendment to First Amended  and Restated Software Distribution License Agreement by and between Microsoft  Corporation and Ezenia! Inc. dated April 2007.                                             |
| 10.19(11)             |       | Amendment to First Amended  and Restated Software Distribution License Agreement by and between Microsoft  Corporation and Ezenia! Inc. dated December 2008.                                          |
| 10.20+                |       | The Ezenia! Inc. Deferred Compensation Plan, as  amended and restated as of December 11, 2008                                                                                                         |
| 21.1                  |       | Subsidiaries of the  Registrant.                                                                                                                                                                           |
| 23.2                  |       | Consent of Vitale,  Caturano & Company, Ltd.                                                                                                                                                      |
| 31.1                  |       | Consent of the Company’s  Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                     |
| 31.2                  |       | Consent of the Company’s  Chief Financial Officer pursuant to 18 U. S.C. Section 1350, as adopted  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                    |

 

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| 32.1 |   | Certification of the  Company’s Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
|------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 32.2 |   | Certification of the  Company’s Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as  adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |

 

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| +    |   | Management contract for  compensatory plan or arrangement required to be filed as an exhibit to this  report pursuant to Item 15(c) of this report.                                                |
|------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| (1)  |   | Incorporated by reference  from the Company’s Registration Statement on Form S-1.                                                                                                             |
| (2)  |   | Incorporated by reference  from the Company’s Form 8-K filed with the Securities and Exchange  Commission on November 14, 2007.                                                          |
| (3)  |   | Incorporated by reference  from the Company’s Form 10-K filed with the Securities and Exchange  Commission for the year ended December 31, 2000.                                         |
| (4)  |   | Incorporated by reference  from the Company’s Form 10-Q for the quarter ended September 30,  2001.                                                                                       |
| (5)  |   | Incorporated by reference  from the Company’s Registration Statement on Form S-8 filed with the  Securities and Exchange Commission on December 21, 2001.                                |
| (6)  |   | Incorporated by reference  from the Company’s Form 10-Q for the quarter ended September 30,  2002.                                                                                       |
| (7)  |   | Incorporated by reference  from the Company’s Form 10-K filed with the Securities and Exchange  Commission for the year ended December 31, 2002.                                         |
| (8)  |   | Incorporated by reference  from the Company’s Form 10-K/A filed with the Securities and Exchange  Commission for the year ended December 31, 2004.                                       |
| (9)  |   | Incorporated by reference  from the Company’s Form 10-Q for the quarter ended March 31, 2005.                                                                                                 |
| (10) |   | Incorporated by reference  from the Company’s Form 10-K filed with the Securities and Exchange  Commission for the year ended December 31, 2007.                                         |
| (11) |   | Incorporated by reference  from the Company’s Registration Statement on Form 8-A, filed with the  Securities and Exchange Commission on April 21, 2008 (File  No. 000-25882)).      |
| (12) |   | Incorporated herein by  reference to the Company’s Registration Statement on Form 8-A, filed  with the Securities and Exchange Commission on April 21, 2008 (File  No. 000-25882)). |

 

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