# ** **

# **UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

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

## ** **

### **FORM 10-K**

### ** **

**ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)**

## **OF THE SECURITIES EXCHANGEACT OF 1934**

## ** **

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

## ** **

**CommissionFile Number 0-25882**

 

**EZENIA!INC.**

(Exact name 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,including zip code)

 

**(603)589-7600**

(Registrant’s telephone number, including area code)

 

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

 

**None**

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

**Common Stock $.01 par value**

 

| Indicate by  check mark if the Registrant is a well-known seasoned issuer, as defined in  Rule 405 of the Securities Act                                                                                                                                                                                                                                                     |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                                              |   | Yes  o** **     No   x |
| Indicate by  check mark if the Registrant is not required to file reports pursuant to  Section 13 or 15(d) of the Act                                                                                                                                                                                                                                                   |
|                                                                                                                                                                                                                                                                                                                                                                              |   | Yes  o** **     No   x |
| Indicate by  check mark whether the Registrant (1) has filed all reports required to  be filed by Section 13 or 15(d) of the Securities Exchange Act of  1934 during the preceding 12 months (or for such shorter period that the  Registrant was required to file such reports), and (2) has been subject  to such filing requirements for the past 90 days. |
|                                                                                                                                                                                                                                                                                                                                                                              |   | Yes  x     No   o |

 

Indicate by checkmark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-Kis not contained herein, and will not be contained, to the best of Registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-K or any amendment to this Form 10-K.     o

 

**Indicate by check mark whether the Registrant is a largeaccelerated filer, an accelerated filer, a non-accelerated filer or a smallerreporting company.  See the definitionsof “large accelerated filer”, “accelerated filer” and “smaller reportingcompany” in Rule 12b-2 of the Exchange Act.**

** **
| **Large Accelerated Filer **o | ** ** | **Accelerated Filer **o | ** ** | **Non-Accelerated Filer ***                   | ** ** | **Smaller Reporting Company** x |
|------------------------------------|------------|------------------------------|------------|----------------------------------------------------|------------|--------------------------------------|
| ** **                         | ** ** | ** **                   | ** ** | **(Do not check if a smaller  reporting company)** | ** ** | ** **                           |

** **

**Indicate by checkmark whether the Registrant is a shellcompany (as defined in Rule 12b-2 of the Exchange Act)                                          Yes  **o     No   x

** **

** The aggregate market value of the voting andnon-voting common stock held by non-affiliates of the Registrant was$19,404,253 (computed by reference to the price at which the Registrant’scommon stock was last sold on the OTC Bulletin Board on June 30, 2007).**

** **

**The number of shares outstandingof the Registrant’s common stock as of March 26, 2008 was 14,610,092**.

 

**DOCUMENTS INCORPORATED BYREFERENCE**

Portions of thedefinitive Proxy Statement to be delivered to Stockholders in connection withthe Annual Meeting of stockholders to be held May 27, 2008 areincorporated by reference into Part III hereof. With the exception of theportion of such Proxy Statement that is expressly incorporated herein, suchProxy Statement shall not be deemed filed as part of this Annual Report on Form 10-K.

 

 

 

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**Ezenia!Inc.**

**2007 Form 10-KAnnual Report**

**Table ofContents**

 
| ** ** | ** **                                                                                                          | **Page**   |
|------------|---------------------------------------------------------------------------------------------------------------------|------------|
|       | **PART I**                                                                                                     | ** ** |
| Item 1.    | Business                                                                                                            | 3          |
| Item 1A.   | Risk Factors                                                                                                        | 9          |
| 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                                                                                            | 15         |
| Item 7.    | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                         | 16         |
| Item 7A.   | Quantitative  and Qualitative Disclosures about Market Risk                                                         | 25         |
| Item 8.    | Financial  Statements and Supplementary Data                                                                        | 26         |
| Item 9.    | Changes in and  Disagreements with Accountants on Accounting and Financial Disclosure                               | 43         |
| Item 9A.   | Controls and  Procedures                                                                                            | 43         |
| Item 9B.   | Other Information                                                                                                   | 44         |
|       |                                                                                                                |       |
|       | **PART III**                                                                                                   | ** ** |
|       |                                                                                                                |       |
| Item 10.   | Directors and  Executive Officers of the Registrant                                                                 | 44         |
| Item 11.   | Executive  Compensation                                                                                             | 45         |
| Item 12.   | Security  Ownership of Certain Beneficial Owners and Management and Related Stockholder  Matters                    | 45         |
| Item 13.   | Certain  Relationships and Related Transactions                                                                     | 46         |
| Item 14.   | Principal  Accountant Fees and Services                                                                             | 46         |
|       |                                                                                                                |       |
| ** ** | **PART IV**                                                                                                    | ** ** |
|       |                                                                                                                |       |
| Item 15.   | Exhibits and  Financial Statements Schedules                                                                        | 46         |
|       |                                                                                                                |       |
| Signatures |                                                                                                                | 49         |

 

The Company’s trademarks include Ezenia!, the Ezenia! Logo,InfoWorkSpace, LaunchPad, and Encounter.  All other trademarks referred to in this document are the property oftheir 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 andmarkets products that enable organizations to provide technically advancedhigh-quality group communication to commercial, governmental, consumer andinstitutional users. Ezenia’s 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.

 

Ezenia offers one of the most comprehensive commercially availablelines of group communication products. Ezenia’s InfoWorkSpace software product (“IWS”) enables voicecommunication, instant messaging, white boarding, virtual workspaces, and videoacross a wide range of networks including local area networks, and wide areanetworks.  Furthermore, because Ezeniaproducts are well suited for operating from a small enclave environs to largemulti-locations on public networks, they can be deployed with relative ease atsmall sites or in locations with a large number of users.  Users can be virtually anywhere on the planetso long as they have network access.

 

Ezenia historically has sold the legacyvideoconferencing products worldwide through resellers, integrators andmarketers of video collaboration, and networking solutions, and will continueto do so as long as demand exists.  Morerecently, Ezenia has sold IWS  andrelated services to customers in the federal government, mostly in theDepartment of Defense (“DoD”) and the intelligence community, either directly,or in many instances, in partnership with the premier defense contractorsand/or integrators.  It is in Ezenia’sinterest to leverage these partnerships with well-established contractorsand/or integrators to further expand the deployment and provide the support ofIWS in large-scale opportunities.

 

***CompanyBackground and Evolution — True Collaboration versus Videoconferencing***

*** ***

In 1991, Ezenia,known at the time as VideoServer, designed, developed, manufactured, and soldMultipoint Control Systems or Units (“MCS” or “MCU”) for both thecircuit-oriented, Integrated Services Digital Network -based andpacket-switched, Internet Protocol -based videoconferencing applications.Ezenia’s MCS was unique at the time with its PC-based, flexible hardware designapproach and system configurations, leveraging commercial off-the-shelf baseoperating systems.  At that time,traditional videoconferencing vendors concentrated mostly on the development ofmore and more sophisticated, standard-based endpoints to be used inpoint-to-point videoconferencing.  Ezeniafocused its business, not on the endpoints, but on systems deployed in theinfrastructure backroom, to enable three or more sites or parties involved invideoconferencing to properly communicate among themselves, by switching videosources based on audio processing of current and immediately precedingspeakers. Ezenia’s technical advantages were derived by masking andcompensating for incompatibilities between endpoints from differentmanufacturers, algorithmic transcoding, compensation for different bandwidthrequirements, and simultaneous multi-windowed video arrangements on the monitorknown as “Hollywood Squares”, just to name a few.

 

In the late 1990’s,Ezenia fully realized the limitations and narrow applications of itsvideoconferencing products which, among many deficiencies, are monolithic,require highly specialized support and services, stand apart from the normaloffice environment that most 

 

 

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informationworkers are accustomed to, and do not provide a solution to the need to trulycollaborate and disseminate information in real-time.  Contrary to how most videoconferencingvendors would like to indoctrinate potential customers, video — in particulartalking heads as in the case of most video conferences — was and is, now morethan ever, far from being the “piece de resistance” of true, meaningfulreal-time collaboration. Furthermore, its monolithic approach, whereby youeither get a successful videoconference session or get nothing, relegates allother more critical collaboration activities second to video talkingheads.  Most importantly, the lack ofpresence awareness detection and the inability to leverage the web for ease ofaccess prevent flexible, on-demand, free-flowing collaboration sessions wherebyparticipants can come, go, or be invited at will.

 

In March 2001,Ezenia completed the first phase of its transformation with the acquisition ofthe IWS business from General Dynamics. As an application solution and technology built on top of Placeware’s(see “Third-Party Technology” below) web conferencing technology, IWS:

 

·                  Allows users to be aware of the online presence of colleagues, enablestrue multimedia collaboration sessions starting with the simplest instantmessaging (keyboard-to-keyboard) and expanding to the most complexall-encompassing (mouse-to-mouse) sharing and dissemination of mission criticalinformation simultaneously with in-session, super-imposed audio conferencingand/or video streaming;

·                  Leverages commercially off-the-shelf base operating systems such as theWindows and Solaris platforms; and

·                  Fits into the virtual office environment that most information workersare familiar with.

 

The use and growth of real-time collaborative technologies withincommercial or governmental enterprises, while still early in its adoptioncurve, are beginning to accelerate.  Theinvestment in information and collaborative technologies helps customersflatten their organizations, improve enterprise wide communication, shorten thedecision-making process, and facilitate real-time reactions to criticalissues.  Rather than just providingaccess to inert data stored on a server, the goal today is to find ways toenable information workers to collaborate and share their expertise to deriveknowledge from databases 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.

 

Ezenia is moving forward with this strategy and expects to  introduce a stream of new products in thenext several years that will broadly enhance our already comprehensivecapabilities.  We intend to concentrateon technical advancements that allow users the ability to convey criticalinformation that must be delivered and do it in a way that ensures security toour customers.

 

**Products**

 

Ezenia’s expertise is in developing products that deliver highly secureand flexible support for informational collaboration, in-session audioconferencing, and video streaming capabilities across a wide range ofplatforms.  The Company’s products havebeen designed with a scaleable, modular architecture to give customers theflexibility to add capacity, processing power, and conferencing features as thecustomer network and application requirements grow. Using a common set ofhardware and software building blocks, customers can choose from a wide rangeof product configurations that differ in capacity, price, network connectivityand features, all of which share the same operating software user interface.Products may be configured for use in customer premises environments or may beconfigured with specialized packaging for use in a telephone carrier’s centraloffice setting.  The Company believes akey differentiator for its products is the built-in robust security features,allowing them to be installed in some of the highest clearance and securitysites in the market.

 

 

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*** ***

 

***InfoWorkSpace***

 

IWS is a comprehensive suite of collaboration applications designed toallow any organization to more efficiently communicate, particularly whenattempting to work as, and within, a group. From an overall perspective, IWS, when used effectively can reduce or eveneliminate dependency on travel, traditional video conferencing, traditionalaudio conferencing and the phone, and even e-mail and file servers.  Essentially, IWS is like a corporate campusor enterprise whose resources can be accessed by an information worker throughhis 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, including the U.S. intelligence community, the U.S.Joint Forces Command, and various branches of the U.S. Armed Forces includingthe Marines, Navy, Air Force and Army, have leveraged the flexibility of IWS toaid in a myriad of missions.  From dailymission briefs to medivac procedures in Afghanistan to operational support inFallujah, IWS has increasingly become a vital part of the U.S. defensenetwork.  The stability, scalability andsecurity of IWS allow our customers to depend on our software to completemission-critical assignments and save lives in some of the world’s mostdangerous areas.

 

At a basic level, IWS is a cross-platform solution in a box, supportingboth UNIX and Windows base operating systems. A standard software suite comes complete with our server software package,database, application server, and user directory along with a number ofancillary add-ons.  This suite provides aself-sufficient workgroup environment for a user base of up to several hundredusers.  However, with a few simple systemconfigurations, IWS servers can be federated in such a way that multipleservers can trust one another in order to support collaboration across anenterprise with thousands of participants.

 

IWS securityinfrastructure is built upon the best practices that have been in use inoperating systems for decades.  Much likea UNIX administrator can limit access to a directory or even a file to alimited set of users, IWS administrators can lock rooms down to restrict usersfrom seeing sensitive data that is outside their area of responsibility.  Permission-based access allows administratorsto finely tune a user’s access profile to the file level.  Data can be encrypted using standard SSLprotocols and access can be controlled with PKI and X.509 certificates.  All data within the application can beaudited and searched for specific words or patterns of words.  IWS provides a high level of securitycapabilities and a safety net to capture any breaches that may arise from humanerrors.

 

The stability,scalability, flexibility and security capabilities of IWS are criticallyimportant for our customers, but the true power of IWS is in its collaborationapplications.  Users can participate inan interactive conference with absolutely no set up procedures.  This is a significant leap forward from wherethe industry was just a few years ago, using videoconferences as the onlyinteractive medium.  IWS eliminates theneed to have a heavy piece of hardware at each terminal point of collaboration,to schedule a conference with a bridge operator, or to have  a whole new network infrastructure to supportan 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 aroom, either by joining or being invited into a session, participants can havean audio conference straight from the software. With IWS, no set up is required and no additional cost is incurred.  Participants even can be in multiple rooms atthe same time, offering a more productive virtual environment than in thephysical world.  Participants can shareand work on documents from the file cabinet associated with a room.  Users can have an interactive white boardsession and save the results.  Users alsocan manage their calendar and participate in message boards and save thatinformation to the server where they can access it any time from any place.

 

A high-level summary ofIWS features and functions is listed below:

 

·            Text chat, in a one-to-one arrangement, in aconference environment, or in multiple combinations of one-on-one and/orconference environments;

·            Audio chat, in a one-to-one arrangement, in aconference environment, or in multiple combinations of one-on-one and/orconference environments;

·            Interactive whiteboard which all users can see andmodify in real time;

·            Application sharing allowing the screen view of anyapplication on any desktop or laptop PC of any

 

 

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information worker to bebroadcasted to all other participants;

·            Secured file cabinet, from which permission-basedaccess allows for documents to be stored, retrieved, and monitored at any timefrom any place;

·            EZinFORM, a forms manager designed for an agency todocument a task order where multiple sites and people are deployed on a missionthat requires rapid updates to critical events;

·            EZinCMD, a unit commander can consolidate views andpeople into a critical command and control battlefield situation for rapidresponse;

·            Multi-Level security allows users of one securitylevel to have real-time collaboration sessions with users at another securitylevel;

·            SSL and PKI encryption, which, when configured,renders traffic secure across the wire;

·            Full system auditing, which allows all data andactions to be audited and searchable;

·            Instant messaging, a lightweight application thatprovides all interactive capabilities; and

·            Virtual meeting area, a more robust application thatprovides both real-time collaborative capabilities as well as static functionslike file cabinet, message board, and calendaring.

 

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

###### ** **

Ezenia markets its IWS products and relatedservices to customers within the U.S. federal government, primarily to the DoDand to the  intelligence communityworldwide.  Ezenia also provides theseproducts and services to the defense and intelligence organizations of foreignallies of the U. S. government.

 

IWS products and services are licensed on anannual subscription and renewal basis, during which software updates and basictechnical support are included as part of base offerings. Enhanced serviceofferings are also offered in a subscription model. Training, installation, andcustomization are sold on an “as needed” basis.

 

The worldwide government marketplace is bestunderstood as a matrix of customers, sales vehicles (contracts), and saleschannels.  Ezenia employs a sales modelwhich is an analog to this government market matrix. IWS products and relatedservices are available to specific segments of the government, using variousvehicles, including Ezenia’s own GSA Schedule, and multiple channels bothdirectly, with the Company’s own sales force, and indirectly.  For indirect channels, Ezenia partners withGeneral Dynamics, SAIC, and Northrop Grumman among others.

 

During the year ended December 31, 2007,approximately 35% of our sales of IWS and related services were through ourindirect channels.  Ezenia’s top threeend-user customers for IWS products and related services in 2007 were the U.S.Air Force, U.S. Joint Forces Command, and the Defense Intelligence Agency.Sales to these customers accounted for approximately 27%, 18% and 12%, respectively,of total revenue in 2007.

 

Meanwhile, our legacy MCS sales are primarilyrelated to international customers and end-users.   In 2007, Ezenia delivered these productsthrough distributors, dealers, vertical market resellers, and systemsintegrators, as well as directly to end-users. Revenue from international markets accounted for lessthan 1% and 2% of our revenue for the years ended December 31, 2007 and2006, respectively.

 

Ezenia conducts its sales and marketing activities from its principaloffices in Nashua, New Hampshire, and Sterling, Virginia.

 

###### **Research and ProductDevelopment**

###### ** **

Ezenia believesthat its future success depends on its ability to continue to enhance andexpand its existing enterprise collaboration products and to develop newproducts that maintain its technology leadership. Ezenia has invested and willcontinue to invest in the development of products and core technologies whilealso leveraging the integration of “best-of-breed” software components throughstrategic partnerships.Extensive product

 

 

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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 31,2007, Ezenia’s research and development staff consisted primarily of softwareengineers augmented with U.S.-based and U.S.-citizen software contractors. Manyof our software engineers carry either secret or top-secret levels of securityclearance. The Company’s research and development expenditures wereapproximately $2.4 million and $1.7 million in 2007 and 2006, respectively,representing approximately 26%  and 13%of revenue, respectively.

 

We account for researchand development 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 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 InfoWorkSpacesoftware product.  In connection withthis development effort, a total of $140 thousand of costs were capitalized andare being amortized on a straight-line method over the remaining estimatedeconomic life of the product, which we have determined to be 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 tomanufacturing. Costs incurred after technological feasibility is establishedhave historically not been material, and accordingly, were expensed whenincurred in these instances.

 

###### **Customer Support andService**

###### ** **

Ezenia provides technical support and services to its resellers anddirect customers. A high level of continuing service and support is critical toour objective of developing long-lasting relationships with customers andpartners. Ezenia’s partners and resellers offer a broad range of supportincluding installation, maintenance and on-site and headquarters-leveltechnical support of products to their end-user customers. Ezenia provides acomprehensive service program including problem management, training,diagnostic tools, software updates and upgrades, as well as spare partsprograms to facilitate and supplement the efforts of our partners andresellers.

 

Ezenia offers a technical support hotline to its resellers andcustomers, which is staffed by our network engineers who generally provideeither immediate or same-day responses to most questions. As our products havebuilt-in remote diagnostic capabilities, most problems can be diagnosed withoutincurring travel or on-site visits. When necessary, however, support engineersare dispatched to the customer’s facility for critical situations. All of oursupport engineers carry various levels of security clearance.

 

**ThirdParty Technology**

 

Ezenia licensestechnology from third parties, including software which is integrated withinternally developed software, and used in our products to perform keyfunctions.  There can be no assurancethat functionally similar technology will continue to be available on commerciallyreasonable terms in the future, or at all. In particular, in April 2007 we entered into a new agreement withMicrosoft Corporation, with an effective date of January 1, 2007, toextend an existing software distribution license agreement through December 2008.The software distribution license agreement allows us to integrate Microsoft’sLive Communication software into our IWS product line.

 

 

 

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****Competition****

 

The market formultimedia collaboration is an emerging segment with a variety of either newvendors entering the competitive landscape or old vendors from existingindustries, such as legacy videoconferencing, attempting to claim a new turf.Furthermore, multimedia collaboration can also be grouped into two main groups:real-time synchronous solutions versus asynchronous products such as antiquatedLotus Notes. While most vendors adopt the client-server architecture, a veryfew insist on the merit of peer-to-peer. Still yet, large vendors offer bothtypes of products. From another perspective, vendors could be classified intotwo classes of providers. The first group provides customer-premise solutionswhile the second implements a hosted environment.

 

Even though Ezenia’sbusiness primarily focuses on the real-time synchronous, client-server,customer-premise market segment within the government, depending upon thepossible perspectives, various vendors could be considered as likely competitors.From the legacy videoconferencing industry, Polycom, RADvision and Tandberg arelegitimate contenders. Established industry giants such as AOL, Cisco, EMC,Google, IBM, Microsoft, Oracle, and, more recently, Adobe with its acquisitionof Macromedia, among others, offer a wide variety of solutions ranging fromsimple instant messaging to complete offerings. In addition, a multitude ofsmaller and well respected companies such as WebEx, Raindance, Saba, Jabber,Interwise, and others constitute a new breed of emerging contenders in thisintensely contested market segment.

 

Many of thesecompanies, as well as other current and potential competitors, havesubstantially greater financial, technical, and sales and marketing resourcesthan Ezenia. If we are unable to retain our existing customers in the U.S.government, or are unable to convince a sufficient number of new companies orcustomers with an interest in collaborative technologies to adopt our IWScollaborative software product over alternative technologies marketed by ourcompetitors, our financial results will suffer, through price reductions andloss of market share.

 

The principalcompetitive factors in the market for multimedia collaboration are, and shouldcontinue to be, breadth of capabilities, security, scalability, reliability,price, performance, network management capabilities, customer support andinteroperability. We plan to compete by offering the best-of-breed enterprisesolutions encompassing all of these factors. However, we cannot be certain that potential customers will be attractedto our products, especially if our competitors invest substantially more moneyinto their products and technology.

 

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

###### ** **

Ezenia relies on acombination of contractual rights, trade secrets and copyright laws toestablish and protect its intellectual property rights. We believe that,because of the rapid pace of technological change in the data communicationsand telecommunications industries, intellectual property protection for ourproducts is only one factor in our success, complementing the knowledge,abilities and experience of our employees, the frequency of our productenhancements, our relationships with our partners, our relationships with ourcustomers and their satisfaction with the performance of IWS, the effectivenessof our marketing activities, and the responsiveness and quality of ourservices.

 

In October 2002,Ezenia sold all patents and pending applications related to itsvideoconferencing products to Tandberg Telecom AS. Ezenia granted Tandberg a fully paid, non-exclusive, non-transferablelicense under the patents and pending applications relating to itsvideoconferencing technology (the “video patent portfolio”). Additionally, weretained a fully paid, non-exclusive, non-transferable license for our use inconnection with our videoconferencing and enterprise collaboration products.

 

###### **Employees**

 

At December 31,2007, Ezenia employed 37 people, including 13 in research and development, 8 incustomer support, 8 in sales and marketing, and 8 in finance andadministration. None of our employees are represented by a labor organization. Ezenia’s success 

 

 

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depends, to a significant degree, upon the continuing contributions ofits key management, sales, marketing and research and development personnel,many of whom would be difficult to replace, including Khoa Nguyen, the Company’sChief Executive Officer and President. We do not carry key-man life insuranceon any of our employees, including Mr. Nguyen. We do not have employmentcontracts with our key personnel other than Mr. Nguyen. We believe thatour future success will depend in large part upon our ability to attractadditional key employees and retain our key employees.

 

**Availability of Filings**

 

You may access, free of charge, through ourwebsite at www.ezenia.com, our Annual Report on Form 10-K, QuarterlyReports on Form 10-Q, Current Reports on Form 8-K and any amendmentsto such reports, all filed pursuant to Section 13(a) and 15(d) ofthe Securities Exchange Act of 1934, as amended. The information contained onour web site is not incorporated by reference into this document and should notbe considered a part of this report. Our web site address is included in thisdocument as an inactive textual reference only.

 

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

###### ** **

The risks and uncertainties described below are not the only ones thatwe face. Additional risks and uncertainties that we are unaware of, or that wecurrently deem immaterial, also may become important factors that affect ourcompany in the future. If any of these risks were to occur, our business,financial condition, or results of operations could be materially and adverselyaffected. This section includes or refers to certain forward-looking statements;you should read the explanation of the qualifications and limitations on suchforward-looking statements found in the section captioned “Management’sDiscussion and Analysis of Financial Condition and Results of Operations.”

 

***               *****Wemay be unable to sustain profitability**.

 

                As further described under “Management’sDiscussion and Analysis of Financial Condition and Results of Operations”,despite our net loss in 2007, management believes that our continuingoperations and cash and available resources will enable us to remain a viableentity.****However, we can provide no assurances that we will achieve our goal ofconsistent quarterly revenue and profit growth, both of which are largelydependent on whether we can meet our future new order bookings targets. If weare unable to secure new orders, we may not be able to generate sufficientrevenue and may not be able to achieve and maintain profitability.

 

**        A significant portion of our revenue isattributable to a small number of  majorcustomers-****none of whom is obligated to continue to useour products and services.**

 

        Whilewe are focusing efforts on broadening our customer base, sales to a relativelysmall number of customers within the U.S. government, specifically within theDoD and the intelligence community, have accounted for a significant portion ofrevenue. This concentration of customers may cause revenue and operatingresults to fluctuate from quarter-to-quarter based on major customers’requirements, and the timing of their orders and shipments. Our agreements withcustomers generally do not include minimum purchase commitments or exclusivityarrangements. Our operating results could be materially and adversely affectedif any present or future major customer were to choose to reduce its level of orders,were to change to another vendor for purchases of a similar product (as withthe U.S. Army in 2007) were to realize a reduction in approved funding forcollaborative technologies, or were to delay paying or fail to pay amounts dueto us.

 

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

 

 

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        We utilize certain technology which we license from thirdparties, including software which is integrated with internally developedsoftware, and use in our products to perform 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 2007Ezenia entered into a new agreement with Microsoft Corporation to extend anexisting software distribution license agreement through December 2008. Thesoftware distribution license agreement allows us to integrate Microsoft’s LiveCommunication software with our proprietary software, to create IWS. Loss ofaccess to this third-party technology could result in material harm to ourbusiness and results of operations.

 

**        Our success depends upon marketacceptance of Internet-based collaboration products, in general, and our IWSproduct, in particular.**

 

        Salesof real-time collaboration products account for substantially all of ourrevenue. As a result, our success depends, to a significant extent, on theacceptance and the rate of adoption of Internet-based collaboration products,in general, and our IWS product, in particular. 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 havehistorically been within certain organizations of the U.S. government andintelligence community, we are pursuing the sale of our products in thecommercial market as well.  There can beno assurance of success in the commercial market for IWS, or other productsthat we may introduce, in 2008 or beyond. In addition, future prices that weare able to obtain for our products may decrease as a result of new productintroductions by others, price competition, technological change or otherfactors.

 

**        If we are unable to adapt to the rapidpace of change in our market, our business could be adversely affected.**

 

        Themarket for our products is characterized by rapidly changing technology,evolving industry standards, emerging network architectures and frequent newproduct introductions. The adoption rate of new technologies and products mayadversely impact near-term growth of the conferencing market as users evaluatethe alternatives. We have invested, and for 2008 plan to continue to invest, inproduct development and products incorporating certain of these newtechnologies. Many other companies are also developing products incorporatingthese new technologies that are competitive with our current and futureofferings. Our success will depend, in part, upon our ability through continuedinvestments to maintain technological leadership, to enhance and expand ourexisting product offerings, and to select and develop in a timely manner newproducts that achieve market acceptance.

 

**        Our results of operations would sufferif we are unable to effectively compete in the market for multimediacollaboration products.**

 

        Themarket for multimedia collaboration products is highly competitive. We expectcompetition to increase significantly in the future, as the market for similarproducts is expected to significantly expand. A number of companies haveintroduced products that are competitive with our products, and the rapidlyevolving nature of the markets in which we compete may attract other newentrants, as they perceive opportunities. Some of our current and potentialcompetitors have longer operating histories and greater financial, technical,sales, and marketing resources.  If weare unable to retain our existing customers in the U.S. government, or wereunable to convince a sufficient number of new companies or customers with aninterest in collaborative technologies to adopt our IWS collaborative softwareproduct over alternative technologies marketed by our competitors, ourfinancial results would suffer.

 

        Theprincipal competitive factors in the market for multimedia collaboration are,and should continue to be, breadth of capabilities, demonstratedinteroperability, price, performance, network management capabilities,reliability, scalability, customer support and security. We plan to compete byoffering collaboration and enterprise products with a broad range of capabilitiesand high performance. However, we cannot be certain that potential customerswill be attracted to our products, especially if competitors were to investsubstantially more money into their products and technology.

 

 

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

 

        Aspart of our strategy, we expect to release new products and new versions of ourexisting products.  Even if our newversions of existing products contain the features and functionality that ourcustomers desire, if we are unable to timely introduce these new products orproduct releases, our competitive position will be harmed. We can provide noassurances that we will be able to successfully complete the development ofcurrently planned or future products or product releases in a timely manner. Also,due to the complexity of our products, internal quality assurance testing andcustomer testing of pre-commercial releases may reveal product performanceissues or desirable product enhancements that could cause delays in developmentand release of future products or current upgrades of our existing products.

 

**        The loss of our senior executives andkey personnel or our failure to recruit talented directors, officers andpersonnel could harm our business.**

 

        Oursuccess depends, to a significant degree, upon the continuing contributions ofour key management, sales, marketing, and research and development personnel,many of whom would be difficult to replace, including Khoa Nguyen, our ChiefExecutive Officer and President. We do not carry key-man lifeinsurance on any of 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 toattract and retain such key employees.

 

        Currently,we have five directors on our Board, four of whom meet the standards forindependence as specified by the SEC and the national stock exchanges. Historically,we have strived to have an audit committee comprised of at least threeindependent directors, as required by the national stock exchanges. Currently,we have two directors serving on our audit committee. We are continuing in ourattempts to identify additional qualified individuals to serve as independentdirectors of our company. However, highly-qualified individuals may not beavailable or willing to serve as directors to companies like Ezenia, and therecan be no assurance that we will be able to identify, recruit and ultimatelysecure the services of such individuals in a timely manner or at all.

 

**        The trading price of ourcommon stock may continue to be volatile, which may adversely affect ourbusiness, and investors in our common stock may experience substantial losses.**

 

The market price of our common stock, like that of other technologycompanies, is highly volatile and is subject to wide fluctuations in responseto quarterly variations in operating results, announcements of technologicalinnovations or new products by us or our competitors, or other events or factors.Our stock price may also be affected by broader market trends unrelated to ourperformance. Due to this volatility, investors in our common stock mayexperience substantial losses.

 

**        Our common stock is tradedon the OTC Bulletin Board, making it a more illiquid investment than if it weretraded on a national securities exchange.**

 

**       **The shares of our common stock were delisted from TheNasdaq National Market in August 2003 and are now traded on the OTCBulletin Board. As a result, an investor may find it more difficult to disposeof our stock due to low trading volume or obtain accurate quotations as to themarket value of our stock. In addition, we are subject to Rule 15c2-11promulgated by the SEC. If Ezenia fails to meet criteria set forth in such Rule (forexample, by failing to file periodic reports as required by the Exchange Act),various practice requirements are imposed on broker-dealers who sell securitiesgoverned by the Rule to persons other than established customers andaccredited investors. For these types of transactions, the broker-dealer mustmake a special suitability

 

 

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determination for thepurchaser and have received the purchaser’s written consent to the transactionsprior to sale. Consequently, the Rule may have a material adverse effecton the ability of broker-dealers to sell our securities, which may materiallyaffect the ability of stockholders to sell the securities in the secondarymarket. The listing of our securities on the OTC Bulletin Board may make itmore difficult for investors to trade in our securities, which could lead tofurther declines in our share price. Our shares being traded on the OTCBulletin 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 selladditional securities.

 

###### **ITEM 1B. UNRESOLVED STAFFCOMMENTS**

###### ** **

###### **There are no unresolved staff comments as of the date ofthis report.**

###### ** **

###### **ITEM 2. DESCRIPTION OFPROPERTY**

###### ** **

Ezenia’s corporate office and principal research, development andmanufacturing facility is located in Nashua, New Hampshire, in an approximately12,000 square foot facility.  Ezeniacurrently leases this facility pursuant to a lease agreement that terminates in2010. Ezenia also has a sales office located in Sterling, Virginia, which itleases pursuant to a lease agreement that terminates in 2010. During 2007, theCompany completed its consolidation of its Colorado Springs and Nashuafacilities in Nashua, New Hampshire. The Colorado facility is currentlyavailable to lease.

 

###### **ITEM3. LEGAL PROCEEDINGS**

###### ** **

The Companyinstituted a bid-protest action against the U.S. Army in the U.S. Court ofFederal Claims on October 31, 2007, alleging that the U.S. Army awarded orintends to award improper sole-source or brand name contracts related tocollaboration software in violation of the Competition in Contracting Act andthe Federal Acquisition Regulation requirements.  The case was dismissed in early December 2007.

 

###### **ITEM4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS**

###### ** **

There were no matters submitted during the fourth quarter of 2007 to avote of security holders through solicitation of proxies or otherwise.

 

 

 

12

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**PART II**

 

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

 

Since 2003, Ezenia’scommon 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** | ** ** |
| 2007                            |       |              |       |   |   |   |   |   |   |
| Common stock price —  high |       | $                 | 2.43       |   | $ | 1.80 |   | $ | 1.66 |   | $ | 1.01 |   |
| Common stock price —  low  |       | $                 | 1.61       |   | $ | 1.10 |   | $ | 0.86 |   | $ | 0.66 |   |

 
|                            |   |   |   |   |   |   |   |   |   |
|---------------------------------|--------|--------|--------|--------|--------|--------|--------|--------|--------|
| 2006                            |   |   |   |   |   |   |   |   |   |
| Common stock price —  high |   | $      | 3.73   |   | $      | 3.50   |   | $      | 3.10   |   | $ | 2.06 |   |
| Common stock price —  low  |   | $      | 2.30   |   | $      | 2.60   |   | $      | 1.35   |   | $ | 1.51 |   |

 

As of March 26, 2008, Ezenia had approximately 112 stockholders ofrecord. This does not reflect persons or entities that hold their stock innominee or “street” name through various brokerage firms. Ezenia has not paiddividends on its common stock. Ezenia anticipates it will reinvest futureearnings, if any, and therefore, does not intend to pay dividends in theforeseeable future.

 

See Part III, Item 12 for information regarding securitiesauthorized for issuance under Ezenia’s equity compensation plans.

 

 

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**StockPerformance Graph**

 

                The following graph compares the change in the shareholder return on theCompany’s common stock against the return for the Nasdaq Stock Market Index,and the Nasdaq Computer and Data Processing Index (SIC Code 737), as calculatedby the Center for Research in Security Prices at the University of Chicago, forthe period beginning December 31, 2002 and ending December 31,2007.  For purposes of this graph, it isassumed that the value of the investment in our common stock and in each indexwas $100 on December 31, 2000 and that all dividends were reinvested.

 

**Comparison of Five — Year Cumulative Total Returns**

**Performance Graph for**

**EZENIA, INC.**

** **

** **

****

 

 

 

**Legend**

** **
| **Symbol**                        | ** ** | **CRSP  Total Returns Index for:**                                              | ** ** | **12/2002** | ** ** | **12/2003** | ** ** | **12/2004** | ** ** | **12/2005** | ** ** | **12/2006** | ** ** | **12/2007** | ** ** |
|-----------------------------------|------------|---------------------------------------------------------------------------------|------------|-------------|------------|-------------|------------|-------------|------------|-------------|------------|-------------|------------|-------------|------------|
| ** **                        | ** ** | ** **                                                                      | ** ** | ** **  | ** ** | ** **  | ** ** | ** **  | ** ** | ** **  | ** ** | ** **  | ** ** | ** **  | ** ** |
| ———— ■  |       | EZENIA, INC.                                                                    |       | 100.0       |       | 192.3       |       | 792.3       |       | 1853.8      |       | 1561.5      |       | 523.1       |       |
|                              |       |                                                                            |       |        |       |        |       |        |       |        |       |        |       |        |       |
| — — —  « |       | Nasdaq Stock Market (US  Companies)                                             |       | 100.0       |       | 149.5       |       | 162.7       |       | 166.2       |       | 182.6       |       | 198.0       |       |
|                              |       |                                                                            |       |        |       |        |       |        |       |        |       |        |       |        |       |
| -----------            |       | Nasdaq Computer and Data Processing Stocks  SIC 7370—7379 US & Foreign |       | 100.0       |       | 131.8       |       | 145.3       |       | 150.2       |       | 168.7       |       | 206.1       |       |

 
| **Notes:** |   |
|------------|--------|
|       | A.     |   | The lines represent monthly index levels derived from compounded  daily returns that include all dividends. |
|       | B.     |   | The indexes are reweighted daily, using the market capitalization on  the previous trading day. |
|       | C.     |   | If the monthly interval, based on the fiscal year — ended, is not a  trading day, the preceding trading day is used. |
|       | D.     |   | The index level for all series was set to $100.0 on 12/31/2002 |
|       | E.     |   | Data was provided by the client from 8—31—03 to 12—31—07 |
|            |        |  |  |  |

 

 

 

 

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###### ** **

###### **Issuer Purchases ofEquity Securities**

###### ** **

                During the fourthquarter of 2007, the Company purchased shares of its common stock as outlinedin the following table:

 

| **Period**                | ** ** | **Total Number   of Shares Purchased** | ** ** | **Average Price Paid Per Share** | ** ** | **Total Number of Shares   Purchased as Part of Publicly Announced Program** | ** ** | **Maximum Dollar Amount of Shares that May Yet Be Purchased Under  the Program** | ** ** |
|---------------------------|------------|----------------------------------------|------------|----------------------------------|------------|-----------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------|------------|
| October 1-31, 2007   |       | —                                 |       | —                           |       | —                                                                            |       | $                                                                                     | 1,000,000  |   |
| November 1-30,  2007 |       | 99,100                                 |       | 0.85                             |       | 99,100                                                                            |       | 916,202                                                                               |       |
| December 1-31,  2007 |       | —                                 |       | —                           |       | —                                                                            |       | 916,202                                                                               |       |
| Total                     |       | 99,100                                 |       | 0.85                             |       | 99,100                                                                            |       | 916,202                                                                               |       |
|                           |            |                                        |            |                                  |            |                                                                                   |            |                                                                                       |            |  |

 

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(1)          The Company’s Board ofDirectors has approved a stock repurchase program. Under the program, theCompany is authorized to repurchase up to $1 million of outstanding shares ofits common stock.  This authority may be exercised from time to timethrough November 2008, and in such amounts as market conditions warrant.The repurchases may be made on the open market, in block trades or otherwise.The program may be suspended or discontinued at any time.

 

 

###### **ITEM 6. SELECTEDFINANCIAL DATA**

###### ** **

The selected consolidated financial datashould be read in conjunction with “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations” and our audited consolidatedfinancial statements.

 

 

(Inthousands, except per share amounts)

 
| ** **                          | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------|------------|----------------------------------|------------|
| ** **                          | ** ** | **2007 (1)**                     | ** ** | **2006 (2)** | ** ** | **2005 (3)** | ** ** | **2004 (4)** | ** ** | **2003(5)** | ** ** |
| **OPERATING  DATA**                 | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenue                             |       | $                                | 8,988      |   | $ | 13,192 |   | $ | 13,175 |   | $ | 10,391 |   | $ | 8,217 |   |
| Operating income (loss)             |       | (4,410                           | )          | 2,899 |   | 3,511 |   | 1,807 |   | (1,117 | ) |
| Income (loss) before income  taxes  |       | (3,836                           | )          | 3,405 |   | 3,712 |   | 1,757 |   | (1,095) |   |
|                                |       |                             |       |   |   |   |   |   |   |   |   |
| Net income (loss)                   |       | (4,547                           | )          | 3,918 |   | 3,803 |   | 3,184 |   | (828) |   |
| Net income (loss) per share:        |       |                             |       |   |   |   |   |   |   |   |   |
| Basic                               |       | (0.31                            | )          | 0.27 |   | 0.26 |   | 0.23 |   | (0.06 | ) |
| Diluted                             |       | (0.31                            | )          | 0.26 |   | 0.25 |   | 0.22 |   | (0.06 | ) |
| **BALANCE  SHEET DATA**             | ** ** | ** **                       | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Cash and cash equivalents           |       | $                                | 9,395      |   | $ | 12,059 |   | $ | 9,405 |   | $ | 5,520 |   | $ | 2,316 |   |
| Total current assets                |       | 13,598                           |       | 19,482 |   | 16,864 |   | 11,921 |   | 7,082 |   |
| Stockholders’ equity (deficit) |       | 7,773                            |       | 11,901 |   | 7,932 |   | 3,838 |   | 552 |   |

 

----

 

(1) 2007 amounts include a charge of $1.45 million to reserve forexcess purchase commitments under the Microsoft agreement, which was recordedas a component of cost of product revenue, and income tax expense of $711thousand primarily related to an increase in the valuation allowance fordeferred tax assets recorded in 2006 and 2005.

 

 

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(2) 2006 amounts include a tax benefit of $513 thousand, or $0.04per share, related to a reduction in the valuation allowance associated withdeferred tax assets of approximately $579 thousand offset by approximately $66thousand of current federal and state tax expense.

 

(3) 2005 amounts include a tax benefit of $91 thousand, or$0.01per share, related to a reduction in the valuation allowance associatedwith deferred tax assets.

 

(4) 2004 amounts include a tax benefit of $1.4 million, or $0.10per share, related to a net benefit of approximately $819 thousand as a resultof the ITC settlement, and approximately $608 thousand relating to a tax refundfor tax years 1996, 1997, and 1998.

 

(5) 2003 amounts include a tax benefit of $267 thousand or $0.02per share, related to a change in the estimate for potential liabilitiesrelated to federal and state income taxes paid in prior years.

 

**Quarterly financialinformation (unaudited)**

 
| ** **             | ** ** | **Quarter ended** | ** ** |
|------------------------|------------|-------------------|------------|
| ** **             | ** ** | **March 31** | ** ** | **June 30** | ** ** | **September 30** | ** ** | **December 31** | ** ** |
| 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 income per share:  |       |              |       |   |   |   |   |   |   |
| Basic                  |       | $                 | —     |   | $ | (0.02 | ) | $ | (0.14 | ) | $ | (0.15 | ) |
| Diluted                |       | $                 | —     |   | $ | (0.02 | ) | $ | (0.14 | ) | $ | (0.15 | ) |
| 2006                   |       |              |       |   |   |   |   |   |   |
| Revenue                |       | $                 | 3,649      |   | $ | 3,569 |   | $ | 2,976 |   | $ | 2,998 |   |
| Gross profit           |       | 2,458             |       | 2,412 |   | 1,969 |   | 1,928 |   |
| Income from operations |       | 1,034             |       | 954 |   | 467 |   | 444 |   |
| Net income             |       | $                 | 1,406      |   | $ | 987 |   | $ | 510 |   | $ | 1,015 |   |
| Net income per share:  |       |              |       |   |   |   |   |   |   |
| Basic                  |       | $                 | 0.10       |   | $ | 0.07 |   | $ | 0.03 |   | $ | 0.07 |   |
| Diluted                |       | $                 | 0.09       |   | $ | 0.07 |   | $ | 0.03 |   | $ | 0.07 |   |

 

 

**ITEM 7. MANAGEMENT’SDISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS**

** **

**Safe Harbor For Forward Looking Statements**

 

*Management’s Discussionand Analysis of Financial Condition and Results of Operations (“MD&A”)should be read in conjunction with the Consolidated Financial Statements andNotes included in Item 8 of this Annual Report. MD&A contains “forward-looking”statements and information which involve risks and uncertainties.  Statements indicating that we “expect,” “estimate,”‘believe,” “are planning,” or “plan to,” are forward-looking, as are otherstatements**concerning our business strategy, expansionof our sales, service, engineering and marketing organization, keydifferentiators in our market, changes in the competitive landscape, futurefinancial results, product development and offerings, our ability to generatecash and to meet our working capital needs, and other events that have not yetoccurred. These forward-looking statements are neither promises nor guarantees,but involve risks and uncertainties that may cause actual results to differmaterially from those in the forward-looking statements. Factors that may causesuch differences include, but are not limited to, our ability to*

 

 

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*maintainor accurately forecast revenue growth, our history of liquidity concerns andoperating losses,  customer acceptance ofour InfoWorkSpace version 3.0 product and other new products, our ability tocompete in an intensely competitive market, our ability to develop andintroduce new products or enhancements on schedule and that respond to customerrequirements and rapid technological change, our dependence on the U.S.government as our largest customer,  ourability to select and implement appropriate business models, plans andstrategies and to execute on them, our ability to identify, hire, train,motivate, and retain highly qualified management/other key personnel and ourability to manage changes and transitions in management/other key personnel,the impact of global economic and political conditions on our business, ourreliance on third-party technology, and unauthorized use or misappropriation ofour intellectual property, as well as the risk factors discussed in Item 1A ofthis Annual 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 2007, revenue was down 32% when compared to the year ended December 31, 2006.  We also experienced an operating loss of($4.4) million in 2007 compared to an operating profit of $2.9 million in 2006,and a net loss of ($4.5) million in 2007 compared to net income of $3.9 millionin 2006, resulting in a loss per share of ($0.31) in 2007, compared to earningsof $0.27 per share in 2006.  Revenuerelating to our IWS product decreased approximately 31% in 2007 compared to2006.  IWS-related revenue accounted forapproximately 99% of total revenues and we continue to see a decline in revenuerelated to our legacy videoconferencing product line as expected, with totalrevenue of approximately $7 thousand, down 89% from approximately $87 thousandin 2006.  Gross profit declined 58% whencompared to 2006 as a result of a charge of $1.45 million to the reserve forexcess purchase commitments with Microsoft and reduced service and installationrevenue along with reduced product development revenue. Operating expenses as apercentage of revenue increased to approximately 90% for 2007, as compared toapproximately 44% for the year ended December 31, 2006.  Operating expense increases in 2007 were theresult of our investments in research & development to expand IWSfunctionality, along with investments in our sales and marketinginfrastructure. Our other income increased by approximately 13% year over yearas we saw an increase in our interest earned due to improved interest rates.There was income tax expense of $711 thousand for 2007 when compared to the nettax benefit of $513 thousand for 2006.

 

In April 2007, the Company entered into a new agreement withMicrosoft to extend an existing software distribution license agreement through2008.  Under the agreement, the Companywas required to purchase a minimum of $1.7 million of product during 2007, andwill be required to purchase a minimum of $2.75 million during 2008, with anadditional $0.5 million over the life of the agreement.  After a review of the current forecast forlicense sales for the balance of the agreement, the Company recorded a chargeof $1.45 million to reserve for excess purchase commitments under the Microsoftagreement.  The charge was recorded as acomponent of cost of product revenue. The Company is continuing its efforts to maximize utilization oflicenses on hand and licenses under commitment. The computation of the excess purchase commitment reserve requiresmanagement to make certain assumptions regarding future license renewals andsales growth.  Actual results may differmaterially from management’s estimates.

 

In June 2007, we released IWS version 3.0.6 which includes anincreased array of  features andcapabilities that bring new benefits and flexibility to both end users andsystem administrators.  This versionincludes Ezenia’s dynamically-downloadable client capability, EZinFORM forbetter management of team activities, EXinCMD for faster decision-making inreal-time, more flexible license management options and improved securitycapability and compliance with critical standards.

 

In January 2008, we released IWS version 3.0.6.1 ServerFederation.  Our defense and intelligencecustomers often need to create large, dispersed work teams that crossdepartmental boundaries.  When they usefederated servers, IWS virtual workspaces can be accessed by the usersconnected anywhere in the federation. The primary effect of federation is it increases the presence andawareness by combining all the named users across the multitude of thefederation.

 

 

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Our current business focus is to continue theenhancement of our various collaborative product and service offerings, and tocontinue the development and ultimately the deployment of the next generationproducts and services, while continuing our investment in expanding our sales,service, engineering, and marketing organizations.  We will continue to focus on expanding ourcustomer base within the DoD and Intelligence community, while pursuing newopportunities with various agencies and first responders dealing with thethreat of terrorism and natural disasters, as well as being opportunistic onpotential commercial applications.   Thisfocus is subject to change as the driving influence in our future directionwill be based on the needs of our customer base, both current and future.  The market for multi-media collaborationproducts is highly competitive and we expect both competition and the overallmarket for competitive products to significantly increase in the future.  In addition, some of our current andpotential competitors have longer operating histories and greater financial,technical, sales, and marketing resources. If we are unable to retain our existing customers in the U.S.government, or we are unable to convince a sufficient number of new companiesor customers with an interest in collaborative technologies to adopt the IWScollaborative software product over alternative technologies marketed by ourcompetitors, our financial results would suffer.  We believe that the key differentiatingfactors in the market will continue to be breadth of capabilities, demonstratedinteroperability, price, performance, network management capabilities,reliability, scalability, customer support and security.

 

**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 of America. The preparation of these financialstatements requires us to make estimates and judgments that affect the reportedamounts of assets, liabilities, revenue and expenses and related disclosure ofcontingent assets and liabilities. On an on-going basis, we evaluate ourestimates, including those related to revenue recognition, bad debts,inventories, income taxes and warranty obligations. We base our estimates onhistorical experience and on various other assumptions that we believe to bereasonable under the circumstances, the results of which form the basis formaking judgments about the carrying value of assets and liabilities that arenot readily apparent from other sources. Actual results may differ from theseestimates under different assumptions or conditions. We believe the followingcritical accounting policies and the related judgments and estimates affect thepreparation of our consolidated financial statements.****

 

****Revenue Recognition****

 

****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 licenseand maintenance agreements is recognized ratably over the subscription softwarelicense contract  periods, which aregenerally one year, pursuant to the guidance provided by Statement of Position(“SOP”) 97-2, *“Software Revenue Recognition”*issued by the American 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 (“VSOE”) of fair value which is the pricecharged 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”*(“SAB 104”), issued by the Securities and Exchange Commission.****

 

****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****

 

 

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****provided by SOP 81-1, *“AccountingFor Performance of Construction Type and Certain Production Type Contracts”*issued by the AICPA.  When reliableestimates are available for the costs and efforts necessary to complete theproduct development and the contract does not include contractual milestones orother acceptance criteria, product development revenue is recognized under thepercentage of completion contract method based upon input measures, such ashours.  When such estimates are notavailable, we defer all revenue recognition until we have completed thecontract and have no further obligations to the customer.  Revenue associated with contracts for productdevelopment revenue with milestone-based deliverables requiring a customer’sacceptance is recognized upon the customer’s acceptance in accordance withterms of the contract.  The associatedcost recognition with these deliverables or milestones is deferred until theterms of acceptance are satisfied and revenue is recognized. Certain of ourproduct development contracts are subject to government audit and retroactiveadjustment of the direct and indirect costs used to determine the contractbillings.  Product development revenuesand accounts receivable reported in the financial statements are recorded atthe 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.****

 

****Service revenue represents sales of servicecontracts related to the maintenance of the Company’s legacy video productline.  Maintenance revenue is deferredand recognized ratably over the term of the applicable agreement.****

 

****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 thatcollectibility is reasonably assured. Amounts billed to customers related to shipping and handling charges arerecorded upon shipment and the related costs are included in cost of goodssold.****

 

****Allowance for 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 collectibility 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 financial position,or other material events impacting the customer’s business, we record aspecific allowance to reduce the related receivable to the amount we expect torecover given all information presently available.****

 

****At December 31, 2007, our accounts receivablebalance of approximately $2.5 million is reported net of allowances ofapproximately $413 thousand.  We believeour reported allowances are adequate.  Ifthe financial conditions of our customers were to deteriorate, however,resulting in their inability to make payments, we may need to record additionalallowances, which would result in additional expenses being recorded for theperiod in which such determination was made.****

 

**Accountingfor Share-Based Compensation**

 

Wehave stock option plans that provide for the purchase of our common stock bycertain of our employees and directors. Effective January 1, 2006, weadopted SFAS No. 123R, *“Share-Based Payment”*,and began recognizing compensation expense for our share-based payments basedon the fair value of the awards. Share-based payments include stock optiongrants under our stock option plans.

 

 

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The determination of the fair value of share-based payment awards onthe date of grant include the expected life of the award, the expected stockprice volatility over the expected life of the awards, expected dividend yield,and risk-free interest rate. Expected volatilities are based on historicalvolatility of our common stock.  We basethe expected term of the options on our historical option exercise data with aminimum life expected 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 the foreseeablefuture. Forfeitures are estimated based upon our historical experience. Thisestimate is adjusted periodically based on the extent to which actualforfeitures differ, or are expected to differ, from the previous estimate.

 

TheCompany recorded $475 thousand and $422 thousand of share based compensationexpense in 2007 and 2006, respectively.

 

****Income Taxes****

 

****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, Ezenia considers past performance, expected futuretaxable income, and qualitative factors which Ezenia considers to beappropriate to be considered in estimating future taxable income.  Ezenia’s 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 thousand and $138 thousand of valuation allowanceagainst deferred tax assets in 2006 and 2005, respectively, resulting in a netdeferred tax asset of approximately $717 thousand as of December 31, 2006.****

 

****As of December 31, 2007, we believe that therealizability of the net deferred tax asset balance of $717 thousand is inquestion due to the loss in 2007 and the uncertainty of future taxableincome.  We therefore provided a fullreserve against the deferred tax assets in 2007.****

 

**Results of operations**

 

As disclosed in Note 2 of the Notes to the Consolidated FinancialStatements, the 2006 financial results included a cumulative effect adjustmentfor adjustments previously deemed immaterial in our revenue and cost of salesamortization for our IWS product line and a non-material correction of the 2005income tax provision.  The cumulativeeffect adjustment results from applying the provisions of SAB No. 108, “*Considering the Effects of Prior Year Misstatements When QuantifyingMisstatements in Current Year Financial Statements”* (“SAB No. 108”).  We adopted SAB No. 108 at December 31,2006 and for the year then ended. Historically, the amortization of the InfoWorkSpace deferred revenue andthe related cost of sales was done using the Full Month Convention ofamortization, whereby a full month of revenue and prepaid license cost wasamortized in the month of license shipment, regardless of the day of the monthon which the product was shipped.  Thishad the effect of accelerating revenue and cost recognition.  Prior to the adoption of SAB No. 108, weused the “rollover” method described therein in evaluating the materiality offinancial statements’ adjustments related to the license revenue and prepaidlicense cost amortization.  We determinedthe impact from the adjustment to be immaterial to current and prior periods’financial results under the “rollover” method. However, we have evaluated the 

 

 

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adjustment using the dual approach method described in SAB No. 108and accordingly, as of January 1, 2006, we recorded a cumulative effectadjustment to increase the deferred revenue balance by $358 thousand andincrease the prepaid software license cost by $70 thousand, with acorresponding net charge to retained earnings of $288 thousand.  During 2006 we also identified a $100thousand error in our 2005 tax provision related primarily to incomeapportionments for state taxes.  Webelieve that this adjustment is immaterial to both 2005 and 2006 operatingresults.  In accordance with SAB No. 108,this error was corrected as of January 1, 2006 by recording an adjustmentto increase the income tax accrual by $100 thousand, with a correspondingcharge to retained earnings of $100 thousand. In accordance with SAB No. 108, reported results for periods priorto January 1, 2006 have not been adjusted.

 

The 2006 financial statements were affected by these adjustmentsthrough a $149 thousand increase in product revenue, with a correspondingincrease of $25 thousand in cost of product revenue and a $99 thousand increasein the income tax benefit.

 

## **Revenue**

 

## **Revenue declined 32% in 2007 toapproximately $9.0 million when compared to 2006. Product revenue related toIWS declined approximately $3.6 million or 31%, while product developmentrevenue declined by approximately $500 thousand. Product development revenue isrevenue related to product customization work performed for customers seekingenhancements to our current product. This decline in license revenue in 2007 was primarily the result of ashortfall in license renewals and a loss of segments of the U.S. Army.  The Company believes that this decline inrevenue is temporary and intends to compensate for this decline by theintroduction of our product to new customers. Our legacy videoconferencing products and related service revenuecontinued to decline to approximately $10 thousand (less than 1% of totalrevenue) in 2007 from approximately $87 thousand (less than 1% of totalrevenue) in 2006.  We expect to see acontinued decline in videoconferencing-related products and services revenue.**

## ** **

## **Grossprofit**

 

## **Cost of revenue includes materialcosts, costs of third-party software licenses, assembly labor and overhead,customer support costs, and engineering and development costs associated withproduct development revenue. Gross profit as a percentage of revenue decreasedin 2007, to 40.9%, from 66.5% in 2006. The decrease in gross profit isprimarily attributed to reduced IWS licensing volume and services  as well as a decrease in margin related toproduct development work recognized from 57.8% in 2006 to 24.2% in 2007, as theresult of a development contract in 2007 with a high third party content.  In addition the Company recorded a charge of$1.45 million to reserve for excess purchase commitments under its Microsoftagreement.  The charge was recorded as acomponent of cost of product revenue.**

## ** **

**Research and development**

 

Research and development expenses include payroll, employee benefits,other headcount related costs, and miscellaneous costs associated with productdevelopment. Research and development expenses increased to approximately $2.4million in the year ended December 31, 2007, from approximately $1.7million in 2006. The increase in spending in 2007 when compared to 2006 isprimarily related to an increase in personnel related costs, travel andconsulting costs.  This increased spendingwas intended as we continue to build our infrastructure to meet the needs ofour customers.

 

**Sales and marketing**

 

Sales and marketing expenses include payroll, employee benefits, andother headcount related costs associated with sales and marketing personnel andadvertising, tradeshows, seminars, and other marketing-related programs.  Sales and marketing expenses increased 43% toapproximately $2.0 million in 2007, from approximately $1.4 million in the yearended December 31, 2006. The increase is primarily related to increases inpersonnel related costs as well as consulting costs. This increased spendingwas intended as we continue to build our infrastructure to reach new marketsand expand our sales.

 

 

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**General and administrative**

 

General and administrative costs include payroll, employee benefits,and other headcount-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 increased26% to approximately $2.8 million in the year ended December 31, 2007,from approximately $2.2 million in 2006.  The increase is primarily related to increases in stock basedcompensation expense and legal and professional expenses.  During 2007, we continued our Sarbanes Oxleycompliance work along with the bid-protest action against the U.S. Departmentof the Army, as discussed in Part I, Item 3  of this Annual Report.

 

**Occupancy and other facilities-related expenses**

 

Occupancy and other facilities-related expenses increased 19% toapproximately $493 thousand in the year ended December 31, 2007, fromapproximately $413 thousand in 2006. These costs include rent expense and otheroperating costs associated with our headquarters in Nashua, New Hampshire, andour sales and development offices in Colorado and in Virginia. The increase in2007 is primarily due to an increase in rental expense in our Colorado facilitydue to our expansion there in 2006 and our expansion in the Nashua, NewHampshire facility in 2007 due to the consolidation of the Colorado office withthe New Hampshire office at the end of 2007.

 

**Restructuring charge**

 

The Company recorded a $215 thousand chargeto operations in 2007 in recognition of its consolidation of its ColoradoSprings and Nashua facilities in Nashua, New Hampshire.  The charge represents the estimated futurecosts of the lease pertaining to the Colorado Springs facility which theCompany is no longer using.  Theconsolidation was completed in December 2007.

 

**Interest income**

 

Interest income consists of interest on cash and cash equivalents.  Interest income increased 11% toapproximately $545 thousand in 2007 from approximately $491 thousand in 2006.The increase in 2007 was primarily related to an increase in the interest ratesin the earlier part of the year.

 

**Otherincome**

** **

**Other income consists primarilyof gains related to short term mutual fund investments, sales of previouslywritten off assets, and other miscellaneous non-operating income.**

** **

**Incometax benefit**

** **

**Due to the loss in 2007 and theuncertainty of future taxable income, the Company has recorded an income taxexpense of $717 thousand related to the increase in the valuation allowance fordeferred tax assets recorded in 2006 and 2005. The amount reported as current income tax benefit in 2006 is comprisedof approximately $66 thousand, in both estimated federal alternative minimumtax expense and estimated state income tax arising from states where theCompany conducts business and files a return, offset by a deferred tax benefitof approximately $579 thousand associated with the release of a portion of theCompany’s valuation allowance**

** **

**Liquidity and Capital Resources**

 

**At December 31, 2007, we hadcash and cash equivalents of approximately $9.4 million. **Weincurred a loss from operations of approximately ($4.4) million for the yearended December 31, 2007, and a net loss for the year of approximately($4.5) million, as compared with an operating profit in 2006 of approximately$2.9 million, and a net profit of approximately $3.9 million in 2006.

** **

**We expended cash for operations of $2.3 million infiscal year 2007 compared to generating cash of $2.9 million in 2006. Cashexpended for operating activities in 2007 was primarily the result of a netloss, a decline in deferred revenue, accounts receivable, prepaid software,prepaid expenses, accrued expenses and employee compensation and benefits,offset by an increase in accounts payable, accrued restructuring, and non cashitems such as depreciation, amortization of capitalized software and sharebased compensation. Increases in cash provided by operating activities in 2006were primarily the result of increases in net income, a decrease in accounts**

** **

** **

**22**

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** **

**receivable, and increases in accounts payable,accrued expenses, and share-based compensation offset by uses of workingcapital attributable to an increase in prepaid software licenses and deferredtaxes and a decrease in deferred revenue.**

** **

**The Company invested approximately $266 thousand inproperty and equipment in fiscal 2007 compared to $162 thousand in fiscal 2006.The Company generated cash from financing activities of $28 thousand in 2007 ascompared to $17 thousand in 2006 primarily from proceeds of sales of theCompany’s common stock pursuant to the Company’s various stock plans.  In November 2007, the Companyimplemented the first stock repurchase under the stock repurchase programauthorized by the Board of Directors in October.  The amount spent on the repurchase in 2007was $84 thousand.**

** **

We lease our primary facility in Nashua, New Hampshire, under anoperating lease, which expires in June 2010. In July 2007, we signedan additional lease for 6,000 square feet adjacent to our existing rented spacein Nashua, New Hampshire.  This leasewill expire in August 2010. We also have leased office space, located inSterling, Virginia for our sales force which expires in 2010.  Future minimum lease obligations at December 31,2007, under all of these non-cancelable operating leases are approximately $120thousand in 2008, $120 thousand in 2009, and $50 thousand in 2010.

 

In September 2007, the Company announced its plan to consolidateits Colorado Springs and Nashua facilities in Nashua, New Hampshire by the endof 2007.  The Company recorded arestructuring charge of $215 thousand to cover the expected lease payments ofthis facility.  The space is currentlyavailable for subleasing.

 

In April 2007, we entered into a new agreement with Microsoft toextend an existing software distribution license agreement through 2008.  Under the agreement, the Company was requiredto purchase a minimum of $1.7 million of product licenses during fiscal year2007, and will be required to purchase a minimum of $2.75 million of productlicenses during fiscal year 2008, with an additional $0.5 million over the lifeof the agreement.

 

After a review of the current forecast for license sales for thebalance of the agreement, the Company recorded a charge of $1.45 million toreserve for excess purchase commitments under the Microsoft agreement.  The charge was recorded as a component ofcost of product revenue during September 2007.  The Company is continuing its efforts tomaximize utilization of licenses on hand and licenses under commitment.  The computation of the excess purchasecommitment reserve requires management to make certain assumptions regardingfuture license renewals, and sales growth. Actual results may differ materially from management’s estimates.

 

Weinclude standard intellectual property indemnification provisions in ourlicensing agreements in the ordinary course of business. Pursuant to ourproduct license agreements, we will indemnify, hold harmless, and agree toreimburse the indemnified party for losses suffered or incurred by theindemnified party, generally business partners or customers, in connection withcertain patent, copyright or other intellectual property infringement claims bythird parties with respect to our products. Other agreements with our customersprovide indemnification for claims relating to property damage or personalinjury resulting from the performance of services by Ezenia or its subcontractors.Historically, our costs to defend lawsuits or settle claims relating to suchindemnity agreements have been insignificant. Accordingly, the estimated fairvalue of these indemnification provisions is immaterial.

 

**In May 2003,after failing to comply with certain continued listing standards for the NASDAQSmallCap Market, including maintaining a minimum bid price of at least $1.00per share, or the requirement for Ezenia to have a minimum $2.5 million instockholders equity, Ezenia received a delisting notification from NASDAQ.  After exercising its right for an appeal ofthis determination to a NASDAQ Listing Qualifications Panel, the Paneldetermined to delist Ezenia’s securities from The NASDAQ Stock Market in August 2003.Since then, Ezenia’s common stock has been quoted on the OTC BulletinBoard.  The market value and liquidity ofEzenia’s common stock, as well as Ezenia’s ability to raise additional capital,has been and may continue to be materially adversely affected by this delistingdecision.**

** **

** **

**23**

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** **

**Operatingcosts were in line with our expectations for the year ended December 31,2007 as we began making the necessary investments in building and expanding ourinfrastructure.  We are committed tocontinue making the necessary improvements to our infrastructure in 2008 whichwe believe is necessary in order to compete successfully in the ever increasingcompetitive collaborative market.**

** **

**Orderbookings, which are purchase orders placed by customers, are not recorded asrevenue or recognized as revenue until all requirements of that order aresatisfied, although the cash flow received from these orders may more closelyfollow the receipt date of the order. Accordingly, management believes that its existing cash resources willbe sufficient to fund its anticipated working capital and capital expenditureneeds for at least the next twelve months.**

** **

The following table summarizes our outstanding contractual obligations:

 
| **(in  thousands)**            | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **Total** | ** ** |
|--------------------------------|------------|----------|------------|----------|------------|----------|------------|-----------|------------|
| Operating leases               |       | $        | 120        |     | $          | 120      |       | $         | 50         |   | $ | 290 |   |
| Microsoft                      |       | 3,250    |       | —   |       | —   |       | 3,250     |       |
| Total contractual  obligations |       | $        | 3,370      |     | $          | 120      |       | $         | 50         |   | $ | 3,540 |   |

 

**RecentAccounting pronouncements**

 

We adopted the provisions of FASB Interpretation No. 48, “Accountingfor Uncertainty in Income Taxes” (“FIN 48”) an interpretation of FASB StatementNo. 109 (“SFAS 109”) on January 1, 2007. FIN 48 addresses the determination of whether tax benefits claimed orexpected to be claimed on a tax return should be recorded in the financialstatements. Under FIN 48, we may recognize the tax benefit from an uncertaintax position only if it is more likely than not that the tax position will besustained on examination by the taxing authorities, based on the technicalmerits of the position. The tax benefits recognized in the financial statementsfrom such a position should be measured based on the largest benefit that has agreater than fifty percent likelihood of being realized upon ultimatesettlement. FIN 48 also provides guidance on derecognition, classification,interest and penalties on income taxes, accounting in interim periods andrequires increased disclosures. At the date of adoption, and as of December 31,2007, the Company does not have a liability for unrecognized tax benefits. 

 

At December 31, 2007, the Company had federal and state netoperating loss (“NOL”) carryforwards of $60.3 million and $7.3 million,expiring at various dates through 2027. Utilization of the NOL carryforwardsmay be subject to a substantial annual limitation due to ownership changelimitations that have occurred previously or that could occur in the futureprovided by Section 382 of the Internal Revenue Code of 1986, as well assimilar state provisions. These ownership changes may limit the amount of NOLthat can be utilized annually to offset future taxable income and tax,respectively. In general, an ownership change, as defined by Section 382,results from transactions increasing the ownership of certain stockholders orpublic groups in the stock of a corporation by more than 50 percentage pointsover a three-year period. Since the Company’s formation, the Company has raisedcapital through the issuance of capital stock on several occasions which,combined with the purchasing stockholders’ subsequent disposition of thoseshares, may have resulted in a change of control, as defined by Section 382,or could result in a change of control in the future upon subsequentdisposition. The Company has not currently completed a study to assess whethera change of control has occurred or whether there have been multiple changes ofcontrol since the Company’s formation due to the significant complexity andcost 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 Company 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.

 

 

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We recognize interest and penalties related to uncertain tax positionsin income tax expense.  As of December 31,2007, we had no accrued interest or penalties related to uncertain taxpositions.

 

The tax years 1999 through 2006 remain open to examination by the majortaxing jurisdictions to which we are subject. The Internal Revenue Service iscurrently conducting an audit of our consolidated federal income tax return forthe 2005 tax year.

 

In September 2006,the Staff of the SEC issued SAB No. 108, *“Consideringthe Effects of Prior Year Misstatements when Quantifying Misstatements inCurrent Year Financial Statements.”* SAB No. 108 provides guidance on the consideration of the effectsof prior year misstatements in quantifying current year misstatements for thepurpose of determining whether the current year’s financial statements arematerially misstated.  SAB No. 108is effective for fiscal years ending after November 15, 2006.  We adopted SAB No. 108 as of January 1,2006.  The impact of the adoption isdiscussed in Note 2 to the Consolidated Financial Statements.

 

InSeptember 2006, the FASB issued SFAS No. 157, *“Fair ValueMeasurements”* (“SFAS No. 157”). Among other requirements, SFAS No. 157 defines fair value andestablishes a framework for measuring fair value and also expands disclosureabout the use of fair value to measure assets and liabilities.  SFAS No. 157 is effective beginning thefirst fiscal year that begins after November 15, 2007.  The FASB has deferred the effective date of SFAS No. 157 for all nonfinancial assets and nonfinancial liabilities,except those that are recognized or disclosed at fair value in the financialstatements on a recurring basis. We are required to adopt SFAS No. 157 on January 1,2008.  We do not expect the adoption of SFAS No. 157 will have a material impact on our financial position orresults of operations.

 

In February 2007, the FASB issued SFAS No. 159, *“The Fair Value Option for Financial Assets and Financial Liabilities - Including an amendment of FASB Statement No.  115”*(“SFAS No. 159”). SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. SFAS No. 159 is effective for financial statements issued beginning with the first quarter of 2008. The adoption of SFAS No. 159 is not expected to have a material impact on the Company’s consolidated results of operations and financial conditions.

 

In December 2007, the FASB issued SFAS No. 141R, *Business Combinations* (“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. The Companyis currently evaluating the potential impact of the adoption of SFAS No. 141Ron the Company’s consolidated financial position and results of operations.

 

**ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK**

 

To date, Ezenia has not utilized derivative financial instruments orderivative commodity instruments. Ezenia invests cash in highly liquidinvestments, consisting of highly rated U.S. and state government securities,commercial paper and short-term money market funds. These investments aresubject to minimal credit and market risk and Ezenia has no debt other than itscontractual lease obligations. A 10% change in interest rates would not have amaterial impact on Ezenia’s financial position, operating results or cashflows. We have closed our foreign offices, and sales to foreign customers fromthe United States are in U.S. dollars. Therefore, Ezenia has no significant foreign currency risk.

 

 

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** **

**ITEM 8. FINANCIALSTATEMENTS AND SUPPLEMENTARY DATA**

** **

**INDEX**

 
| ** **                                                                                                | ** ** | **Page**   |
|-----------------------------------------------------------------------------------------------------------|------------|------------|
| ** **                                                                                                | ** ** | ** ** |
| Report  of Independent Registered Public Accounting Firm                                                  |       | 27         |
| Consolidated  Balance Sheets as of December 31, 2007 and 2006                                        |       | 28         |
| Consolidated  Statements of Operations for the years ended December 31, 2007 and 2006                |       | 29         |
| Consolidated Statements of Stockholders’ Equity for  the years ended December 31, 2007 and 2006 |       | 30         |
| Consolidated Statements of Cash Flows for the years  ended December 31, 2007 and 2006                |       | 31         |
| Notes to the Consolidated Financial Statements                                                            |       | 32         |

 

 

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**REPORT OF INDEPENDENT****REGISTERED PUBLIC ACCOUNTING FIRM**

 

The Board ofDirectors and Stockholders of

Ezenia! Inc.:

 

We have auditedthe accompanying consolidated balance sheets of Ezenia! Inc. and subsidiariesas of December 31, 2007 and 2006 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 our audits in accordance with the auditing standards ofthe Public Company Accounting Oversight Board (United States). Those standardsrequire that we plan and perform the audit to obtain reasonable assurance aboutwhether the financial statements are free of material misstatement. The Companyis not required to have, nor were we engaged to perform, an audit of itsinternal controls over financial reporting. Our audit included consideration of internal control over financialreporting as a basis for designing audit procedures that are appropriate in thecircumstances, but not for the purpose of expressing an opinion on theeffectiveness of the Company’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 statement presentation.We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion,the consolidated financial statements referred to above present fairly, in allmaterial respects, the consolidated financial position of Ezenia! Inc. and subsidiariesat December 31, 2007 and 2006 and the consolidated results of theiroperations and their cash flows for the years then ended in conformity withaccounting principles generally accepted in the United States of America.  Also, in our opinion, the related financialstatement schedule, when considered in relation to the basic financialstatements taken as a whole, presents fairly in all material respects theinformation set forth therein.

 

As discussed in Note 2 to the consolidated financial statements,the Company recorded a cumulative effect adjustment as of January 1, 2006,in connection with the adoption of Securities and Exchange Commission StaffAccounting Bulletin No. 108, “Considering the Effects of Prior YearMisstatements when Quantifying Misstatements in Current Year FinancialStatements”.

 
| /s/ VITALE,  CATURANO & COMPANY, Ltd. |   |
|------------------------------------------------|--------|
|                                           |   |
| Boston,  Massachusetts                         |   |
| March 21,  2008                           |   |

 

 

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**Consolidated Balance Sheets**

 
| ** **                                                                                                                                                               | ** ** | **December 31,** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|
| **(In  thousands, except for share related data)**                                                                                                                       | ** ** | **2007**              | ** ** | **2006** | ** ** |
| **Assets**                                                                                                                                                               | ** ** | ** **            | ** ** | ** ** | ** ** |
| Current assets                                                                                                                                                           |       |                  |       |   |   |
| Cash and cash equivalents                                                                                                                                                | ** ** | **$**                 | **9,395**  |   | $ | 12,059 |   |
| Accounts receivable, less allowances of $413 at  December 31, 2007 and December 31, 2006                                                                       | ** ** | **2,479**             |       | 3,580 |   |
| Prepaid software licenses                                                                                                                                                | ** ** | **1,417**             |       | 2,770 |   |
| Prepaid expenses and other current assets                                                                                                                                | ** ** | **307**               |       | 356 |   |
| Deferred tax assets                                                                                                                                                      | ** ** | **—**            |       | 717 |   |
| Total current assets                                                                                                                                                     | ** ** | **13,598**            |       | 19,482 |   |
| Prepaid licenses, net  of current portion                                                                                                                                | ** ** | **169**               |       | 576 |   |
| Capitalized software,  net                                                                                                                                               | ** ** | **18**                |       | 87 |   |
| Equipment and  improvements, net                                                                                                                                         | ** ** | **380**               |       | 304 |   |
| Total assets                                                                                                                                                             | ** ** | **$**                 | **14,165** |   | $ | 20,449 |   |
|                                                                                                                                                                     |       |                  |       |   |   |
| **Liabilities and stockholders’  equity**                                                                                                                           | ** ** | ** **            | ** ** | ** ** | ** ** |
| Current liabilities                                                                                                                                                      |       |                  |       |   |   |
| Accounts payable                                                                                                                                                         | ** ** | **$**                 | **497**    |   | $ | 1,917 |   |
| Accrued expenses                                                                                                                                                         | ** ** | **1,885**             |       | 535 |   |
| Employee compensation and benefits                                                                                                                                       | ** ** | **266**               |       | 229 |   |
| Accrued restructuring charges                                                                                                                                            | ** ** | **215**               |       | — |   |
| Deferred revenue                                                                                                                                                         | ** ** | **3,512**             |       | 5,675 |   |
| Total current liabilities                                                                                                                                                | ** ** | **6,375**             |       | 8,356 |   |
| Deferred revenue, net of current portion                                                                                                                                 | ** ** | **17**                |       | 192 |   |
| Commitments and  contingencies (Note 5)                                                                                                                                  |       |                  |       |   |   |
|                                                                                                                                                                     |       |                  |       |   |   |
| Stockholders’ equity:                                                                                                                                               |       |                  |       |   |   |
| Preferred stock, $.01 par value; 2,000,000 shares  authorized; none issued and outstanding                                                                               | ** ** | **—**            |       | — |   |
| Common stock, $.01 par value; 40,000,000 shares  authorized; 15,360,629 issued and 14,601,092 outstanding in 2007; 15,311,174  issued and 14,650,737 outstanding in 2006 | ** ** | **154**               |       | 153 |   |
| Capital in excess of par value                                                                                                                                           | ** ** | **64,870**            |       | 64,368 |   |
| Accumulated deficit                                                                                                                                                      | ** ** | **(54,306**           | **)**      | (49,759 | ) |
| Treasury stock; 759,537 shares at cost in 2007; and  660,437 in 2006                                                                                                     | ** ** | **(2,945**            | **)**      | (2,861 | ) |
|                                                                                                                                                                     | ** ** | **7,773**             |       | 11,901 |   |
| **Total liabilities and  stockholders’ equity**                                                                                                                     | ** ** | **$**                 | **14,165** |   | $ | 20,449 |   |

 

*See accompanying notes.*

 

 

28

----

 

 

**Consolidated Statements of Operations**

 
| ** **                                                       | ** ** | **Year ended December 31,** | ** ** |
|------------------------------------------------------------------|------------|----------------------------------|------------|
| **(In  thousands, except for share and per share related data)** | ** ** | **2007**                         | ** ** | **2006** | ** ** |
| **Revenue**                                                      | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Product revenue                                                  | ** ** | **$**                            | **8,232**  |   | $ | 11,856 |   |
| Product development revenue                                      | ** ** | **751**                          |       | 1,268 |   |
| Service revenue                                                  | ** ** | **5**                            |       | 68 |   |
|                                                             | ** ** | **8,988**                        |       | 13,192 |   |
| **Costs of  revenue**                                            | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Cost of product revenue                                          | ** ** | **4,746**                        |       | 3,870 |   |
| Cost of product development  revenue                             | ** ** | **569**                          |       | 535 |   |
| Cost of service revenue                                          | ** ** | **—**                       |       | 20 |   |
|                                                             | ** ** | **5,315**                        |       | 4,425 |   |
| **Gross  profit**                                                | ** ** | **3,673**                        |       | 8,767 |   |
| ** **                                                       | ** ** | ** **                       | ** ** | ** ** | ** ** |
| **Operating  expenses**                                          | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Research and development                                         | ** ** | **2,361**                        |       | 1,723 |   |
| Sales and marketing                                              | ** ** | **2,021**                        |       | 1,411 |   |
| General and administrative                                       | ** ** | **2,802**                        |       | 2,216 |   |
| Depreciation                                                     | ** ** | **191**                          |       | 105 |   |
| Occupancy and other facilities  related expenses                 | ** ** | **493******                      |       | 413 |   |
| Restructuring charge                                             | ** ** | **215**                          |       | — |   |
| Total operating expenses                                         | ** ** | **8,083**                        |       | 5,868 |   |
| **Income  (loss) from operations**                               | ** ** | **(4,410**                       | **)**      | 2,899 |   |
|                                                             |       |                             |       |   |   |
| Other  income                                                    |       |                             |       |   |   |
| Interest income                                                  | ** ** | **545**                          |       | 491 |   |
| Other                                                            | ** ** | **29**                           |       | 15 |   |
|                                                             | ** ** | **574**                          |       | 506 |   |
| Income  (loss) before income taxes                               | ** ** | **(3,836**                       | **)**      | 3,405 |   |
| Income  tax expense (benefit)                                    | ** ** | **711**                          |       | (513 | ) |
| **Net  income (loss)**                                           | ** ** | **$**                            | **(4,547** | **)** | $ | 3,918 |   |
| **Basic and  diluted earnings (loss) per share:**                | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Basic                                                            | ** ** | **$**                            | **(0.31**  | **)** | $ | 0.27 |   |
| Diluted                                                          | ** ** | **$**                            | **(0.31**  | **)** | $ | 0.26 |   |
| **Weighted average common shares:**                              |       |                             |       |   |   |
| Basic                                                            | ** ** | **14,672,808**                   |       | 14,638,488 |   |
| Diluted                                                          | ** ** | **14,672,808**                   |       | 15,048,132 |   |

 

*See accompanying notes.*

 

 

29

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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,  2005**      |       | 14,587,949       |       | $                | 152        |            | $          | 63,930       |       | $                      | (53,289     | ) | $ | (2,861 | ) | $ | 7,932 |   |
|                                       |       |             |       |             |       |            |       |         |       |                   |        |   |   |
| Cumulative effect adjustment  (see note 2) |       |             |       |             |       |            |       | (388         | )          |                   |        | (388 | ) |
| Stock issued under employee  benefit plans |       | 62,788           |       | 1                |       | 16              |       |         |       |                   |        | 17 |   |
| Stock based compensation  expense          |       |             |       |             |       | 422             |       |         |       |                   |        | 422 |   |
| Net income                                 |       |             |       |             |       |            |       | 3,918        |       |                   |        | 3,918 |   |
|                                       |       |             |       |             |       |            |       |         |       |                   |        |   |   |
| **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** | ** ** |

 

*Seeaccompanying notes.*

 

 

30

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**ConsolidatedStatements of Cash Flows**

(In thousands)

 
| ** **                                                                                | ** ** | **Year ended December 31,** | ** ** |
|-------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                | ** ** | **2007**                         | ** ** | **2006** | ** ** |
| Operating activities                                                                      | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net income (loss)                                                                         | ** ** | **$**                            | **(4,547** | **)** | $ | 3,918 |   |
| Adjustments to reconcile net income (loss) to net  cash provided by operating activities: |       |                             |       |   |   |
|                                                                                      |       |                             |       |   |   |
| Depreciation                                                                              | ** ** | **191**                          |       | 105 |   |
| Amortization of capitalized software                                                      | ** ** | **70**                           |       | 53 |   |
| Share-based compensation                                                                  | ** ** | **475**                          |       | 422 |   |
| Bad debt (recoveries)                                                                     | ** ** | **—**                       |       | (16 | ) |
| Deferred taxes                                                                            | ** ** | **717**                          |       | (579 | ) |
| Changes in operating assets and liabilities:                                              |       |                             |       |   |   |
| Accounts receivable                                                                       | ** ** | **1,101**                        |       | 969 |   |
| Prepaid software licenses                                                                 | ** ** | **1,760**                        |       | (799 | ) |
| Prepaid expenses and other current assets                                                 | ** ** | **49**                           |       | (45 | ) |
| Accounts payable, accrued expenses, and employee and  compensation benefits               | ** ** | **180**                          |       | 527 |   |
| Deferred revenue                                                                          | ** ** | **(2,338**                       | **)**      | (1,616 | ) |
| Net cash provided by  (used for) operating activities                                     | ** ** | **(2,342**                       | **)**      | 2,939 |   |
|                                                                                      |       |                             |       |   |   |
| **Investing activities**                                                                  | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Purchases of equipment  and improvements                                                  | ** ** | **(266**                         | **)**      | (162 | ) |
| Purchase of treasury  stock                                                               | ** ** | **(84**                          | **)**      | — |   |
| Net cash used for  investing activities                                                   | ** ** | **(350**                         | **)**      | (302 | ) |
|                                                                                      |       |                             |       |   |   |
| **Financing activities**                                                                  | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Proceeds from stock  issued under employee benefit plans                                  | ** ** | **28**                           |       | 17 |   |
| Net cash provided by  financing activities                                                | ** ** | **28**                           |       | 17 |   |
|                                                                                      |       |                             |       |   |   |
| Change in cash and cash  equivalents                                                      | ** ** | **(2,664**                       | **)**      | 2,654 |   |
| Cash and cash  equivalents at beginning of year                                           | ** ** | **12,059**                       |       | 9,405 |   |
| Cash and cash  equivalents at end of year                                                 | ** ** | **$**                            | **9,395**  |   | $ | 12,059 |   |
| Supplementary  disclosure of cash flow information:                                       |       |                             |       |   |   |
| Interest paid                                                                             | ** ** | **$**                            | **2**      |   | $ | 3 |   |
| Income taxes (refunded) paid                                                              | ** ** | **$**                            | **(18**    | **)** | $ | 296 |   |
|                                                                                           |            |                                  |            |  |  |  |  |  |

*Seeaccompanying notes.*

 

31

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**Notes to the Consolidated Financial Statements**

 

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

 

Ezenia! Inc. (“Ezenia”,“we”, or the “Company”) operates in one business segment, which is the design,development, manufacturing, marketing and sale of conferencing and real-timecollaboration solutions for corporate and governmental networks andeBusiness.   Founded in 1991, Ezeniadevelops and markets products that enable organizations to provide high-qualitygroup communication and collaboration capabilities to commercial, governmental,consumer and institutional users. Ezenia’s products allow individuals andgroups, regardless of proximity constraints, to interact and share informationin a natural, spontaneous way — voice-to-voice, face-to-face, mouse-to-mouse,or keyboard-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 secure environment.

 

The consolidated financial statements include the accounts of Ezeniaand its wholly owned subsidiaries.  Allsignificant inter-company transactions and balances have been eliminated.  All assets and liabilities of Ezenia’sforeign subsidiaries are translated at the rate of exchange at the end of theyear, while sales and expense are translated at the average rate in effectduring the year.  The net effect of thesetranslation adjustments was immaterial for all periods presented.

 

**2.  Summaryof Significant Accounting Policies**

 

**Use ofEstimates**

The preparation ofthe financial statements in conformity with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions 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, andconsulting services are recognized as the services are performed because theCompany believes we have established vendor specific objective evidence (“VSOE”)of fair value based on the price 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 with contractsfor product development revenue with milestone-based deliverables requiring acustomer’s acceptance is recognized upon the customer’s acceptance inaccordance with terms of the contract. The associated cost recognition with these deliverables or milestones isdeferred until the terms of acceptance****

**** ****

****32****

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**** ****

****are satisfied and revenue is recognized.  As of December 31, 2007 and 2006, we hadno unbilled receivables or deferred costs related to milestone contracts.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.****

 

****Service revenue represents sales of servicecontracts related to the maintenance of video products.  Maintenance revenue is deferred andrecognized ratably over the term of the applicable agreement.****

 

****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 thatcollectibility 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**

Ezenia’s IWS product incorporates third party technology in the form ofsoftware licenses, which we purchase from other software vendors.  Software licenses purchased from vendors arereported as prepaid licenses and, when deployed, amortized to cost of revenueover the subscription period, which is generally one year.

 

###### **Advertising**

Advertising costsare included in sales and marketing expense. Ezenia uses its website as its main form of advertising along withparticipating in various industry related trade shows and currently does notincur material advertising costs. Advertising costs are expensed as incurred.Advertising expense approximated $24 thousand and $49 thousand in fiscal years2007 and 2006, respectively.

 

###### **Cash equivalents**

Ezenia considersall highly liquid investments with a maturity of 90 days or less at the date ofpurchase, or investments that can be converted to cash quickly such as mutualfunds, to be cash equivalents.

 

###### **Financial instruments andconcentrations of credit risk**

Ezenia’s financialinstruments consist primarily of cash and cash equivalents, trade receivables,accounts payable and accrued expenses. The carrying value of these financial instruments approximates fairvalue due to their short term to maturity. Financial instruments, which potentially subject Ezenia toconcentrations of credit risk, are cash equivalents and accounts receivable.

 

Major financialinstitutions maintain all the Company’s cash equivalents.  Concentration of credit risk with respect toaccounts receivable is limited to certain customers to whom Ezenia makessubstantial sales.  To reduce risk, we routinelyassess the financial strength of our customers. Ezenia maintains an allowance for doubtful accounts based on accountspast due according to contractual terms and historical collection experience.  Actual losses when incurred are charged tothe allowance.  Write-offs related toaccounts receivable have been within management’s expectations.

 

Revenue from onecustomer accounted for approximately 27% of total revenue in 2007 and 17% oftotal revenue in 2006.  Accountsreceivable from this customer accounted for approximately 4% and 17% of thebalances at December 31, 2007 and 2006, respectively. A second customeraccounted for approximately 18% of total revenue in 2007 and 17% of totalrevenue in 2006.  The accounts receivablebalance accounted for approximately 49% and 28% of the balances at December 31,2007 and 2006, respectively.  A thirdcustomer accounted for approximately 12% of total revenue in 2007 and 10% oftotal revenue in 2006.  The accountsreceivable balance accounted for approximately 33% and 31% at December 31,2007 and 2006 respectively.  Revenue frominternational markets was approximately $40 thousand and $209 thousand in 2007and 2006, respectively.

 

33

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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 and maintenance costs are expensed as incurred.

 

**Researchand development costs**

We account for researchand development 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 InfoWorkSpacesoftware product.  In connection withthis development effort, a total of $140 thousand of costs were capitalized andare being amortized on a straight-line basis over the remaining estimatedeconomic life of the product, which we have determined to be 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 tomanufacturing. Costs incurred after technological feasibility is establishedhave historically not been material, and accordingly, were expensed whenincurred in these instances.

 

**Incometaxes**

****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.  The Company’sforecast of expected future taxable income is for future periods that can bereasonably estimated.  Results thatdiffer materially from our current expectations may cause us to change ourjudgment on future taxable income. These changes, if any, may require us toadjust our existing tax valuation allowance higher or lower than the amount wehave recorded.****

 

****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 thousand and $138 thousand of valuation allowanceagainst deferred tax assets in 2006 and 2005, respectively,  resulting in a net deferred tax asset ofapproximately $717 thousand as of December 31, 2006.****

 

****As of December 31, 2007 we believe that therealizability of the net deferred tax asset balance of $717 thousand is inquestion due to the loss in 2007 and the uncertainty of future taxableincome.  We therefore provided a fullreserve against the deferred tax assets in 2007.****

 

34

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###### ** **

###### **Net income (loss) per share**

###### ** **

The Companyreports net income (loss) per share in accordance with SFAS No. 128, “*Earnings per Share*.” Diluted earnings per share include theeffect of dilutive stock options.

 

Shares used incomputing basic and diluted net income (loss) per share are as follows:

 
| ** **                                                     | ** ** | **2007**   | ** ** | **2006**   |
|----------------------------------------------------------------|------------|------------|------------|------------|
| Basic                                                          |       | 14,672,808 |       | 14,638,488 |
| Effect of assumed exercise of  stock options                   |       | —     |       | 409,644    |
| Diluted                                                        |       | 14,672,808 |       | 15,048,132 |
| Outstanding options excluded  as  impact is anti-dilutive |       | 2,747,066  |       | 1,486,608  |

 

###### **Accounting for share-basedcompensation**

###### ** **

InDecember 2004, the Financial Accounting Standards Board (“FASB”) issuedSFAS No. 123R, *“Share-Based Payment”*(“SFAS No. 123R”).  ThisStatement is a revision of SFAS 123, “*Accountin*g *for Stock-Based Compensation*” (“SFAS 123”), and supersedesAccounting Principles Board Opinion No. 25, “*Accountingfor Stock Issued to Employees*” (“APB 25”), and its relatedimplementation guidance. SFAS No. 123R establishes standards fortransactions in which an entity exchanges its equity instruments for goods orservices.  This standard requires apublic entity to measure the cost of employee services received in exchange foran award of equity instruments based on the grant date fair value of the awardand recognize that cost over the period that such services are performed.  This eliminates the exception to account forsuch awards using the intrinsic method previously allowable under APB 25.   The Company adopted SFAS No. 123R on January 1,2006 under the modified-prospective transition method.

 

Priorto adopting SFAS No. 123R, we accounted for stock-based compensation underAPB 25, as permitted by SFAS No. 123. Accordingly, no stock-based compensation cost was recognized in thestatement of operations in connection with the issuance of stock options underany of our stock option plans, or through our 1995 Employee Stock Purchase Planfor periods ended prior to January 1, 2006.  We have applied the modified-prospectivemethod in adopting SFAS No. 123R. Accordingly, periods prior to adoption have not been restated and arenot directly comparable to periods after adoption.  Under the modified prospective method,compensation cost recognized subsequent to January 1, 2006 includes (a) compensationcost for all share-based payments granted prior to, but not yet vested as of January 1,2006, based on the grant date fair value estimated in accordance with theoriginal provisions of SFAS No. 123, less estimated forfeitures, and (b) compensationcost for all share-based payments granted and vested subsequent to January 1,2006, based on the grant date fair value estimated in accordance with theprovisions of SFAS No. 123R.

 

In March 2005, the Staff of the SECissued SAB 107, *“Share-based Payment”* (“SAB 107”),which expresses the view of the SEC regarding the interaction between SFAS No. 123Rand certain SEC rules and regulations concerning the valuation ofshare-based payment arrangements for public companies. In particular, SAB 107provides guidance related to share-based payment transactions withnon-employees, the transition from nonpublic to public entity status, valuationmethods (including assumptions such as expected volatility and expected term),the accounting for certain redeemable financial instrument issues undershare-based payment arrangements, the classification of compensation expense,non-GAAP financial measures, first-time adoption of SFAS No. 123R in aninterim period, capitalization of compensation costs related to share-basedpayment arrangements, the accounting for income tax effects of share-basedpayment arrangements, the accounting for income tax effects of share-basedpayment arrangements upon adoption of SFAS No. 123R, the modification ofemployee share options prior to adoption of SFAS No. 123R, and disclosuresin Management’s Discussion and Analysis of Financial Condition and Results ofOperations subsequent to adoption of SFAS No. 123R. The Company hasaccounted for its stock option grants in compliance with SAB 107.

 

35

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For the years ended December 31, 2007,and 2006, the Companyrecorded share-based compensation expense in the consolidated statements ofoperations as follows:

 

**(**in****thousands**)**

| ** **                 | ** ** | **Year Ended**             | ** ** | **Year Ended**             |
|----------------------------|------------|----------------------------|------------|----------------------------|
| ** **                 | ** ** | **December 31, 2007** | ** ** | **December 31, 2006** |
| Cost of revenue            |       | $                          | 13         |                       | $ | 5 |
| Research and development   |       | 50                         |       | 69                         |
| Sales and marketing        |       | 27                         |       | 75                         |
| General and administrative |       | 385                        |       | 273                        |
|                       |       | $                          | 475        |                       | $ | 422 |

 

We estimate the fair value of each option award issued under the planson the date of grant using a Black-Scholes based option-pricing model that usesthe assumptions 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,** | ** ** |
|-------------------------------|------------|-----------------------------|------------|
| ** **                    | ** ** | **2007**                    | ** ** | **2006** | ** ** |
|  Expected volatility     |       | 93.13%-93.75                | %          | 99.64%-110.66 | % |
|  Risk-free interest rate |       | 2.93%-3.84                  | %          | 4.28%-5.22 | % |
|  Expected life in years  |       | 4.0                         |       | 4.0 |   |
|  Expected dividend yield |       | None                        |       | None |   |

** **

**Based on the above assumptions, the weighted averageestimated fair value of options granted in fiscal years 2007 and 2006 was $1.33and $2.34 per share, respectively.  Weestimated forfeitures related to option grants at an annual rate of 30.66% peryear and true up for actual forfeitures each reporting period.**

** **

**Other reasonable assumptions about these factors couldprovide different estimates of fair value. Future changes in stock price volatility, life of options, interestrates, forfeitures and dividend practices, if any, may require changes in ourassumptions, which could materially affect the calculation of fair value.**

** **

**Total unrecognized share-based compensation expense relatedto unvested stock options, expected to be recognized over a weighted averageperiod of 1.24 years, amounted to $1.4 million at December 31, 2007.**

** **

**The weighted average exercise price of stock optionsexercised for the year ended December 31, 2007 was $0.56.  The intrinsic value of stock optionsexercised for the year ended December 31, 2007 was $55 thousand.**

** **

In November 2005, the FASB issued FASB Staff Position SFAS 123R-3 “*Transition Election Related to Accounting for Tax Effects ofShare-Based Payment Awards.”* The Company has elected to adopt the alternative transition methodprovided by this FASB Staff Position for calculating the tax effects (ifany) of stock-based compensation expense pursuant to SFAS No. 123R.  The alternative transition method includessimplified methods to establish the beginning balance of the additional paid-incapital pool related to the tax effects of employee stock-based compensation,and to determine the subsequent impact to the additional paid-in capital pooland the consolidated statements of operations and cash flows of the tax effectsof employee stock-based compensation awards that are outstanding upon adoptionof SFAS No.123R.

 

**RecentAccounting pronouncements**

** **

We adopted the provisions of FASB Interpretation No. 48, “Accountingfor Uncertainty in Income Taxes” (“FIN 48”) an interpretation of FASB StatementNo. 109 (“SFAS 109”) on January 1, 2007. FIN 48 addresses the determination of whether tax 

 

 

36

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benefits claimed or expected to be claimed on a tax return should berecorded in the financial statements. Under FIN 48, we may recognize the taxbenefit from an uncertain tax position only if it is more likely than not thatthe tax position will be sustained on examination by the taxing authorities,based on the technical merits of the position. The tax benefits recognized inthe financial statements from such a position should be measured based on thelargest benefit that has a greater than fifty percent likelihood of beingrealized upon ultimate settlement. FIN 48 also provides guidance onderecognition, classification, interest and penalties on income taxes,accounting in interim periods and requires increased disclosures. At the dateof adoption, and as of December 31, 2007, the Company does not have a liabilityfor unrecognized tax benefits.

 

At December 31, 2007, the Company had federal and state netoperating loss (“NOL”) carryforwards of $60.3 million and $7.3 million,expiring at various dates through 2027. Utilization of the NOL carryforwardsmay be subject to a substantial annual limitation due to ownership changelimitations that have occurred previously or that could occur in the futureprovided by Section 382 of the Internal Revenue Code of 1986, as well assimilar state provisions. These ownership changes may limit the amount of NOLthat can be utilized annually to offset future taxable income and tax,respectively. In general, an ownership change, as defined by Section 382,results from transactions increasing the ownership of certain stockholders orpublic groups in the stock of a corporation by more than 50 percentage pointsover a three-year period. Since the Company’s formation, the Company has raisedcapital through the issuance of capital stock on several occasions which,combined with the purchasing stockholders’ subsequent disposition of thoseshares, may have resulted in a change of control, as defined by Section 382,or could result in a change of control in the future uponsubsequent disposition. TheCompany has not currently completed a study to assess whether a change ofcontrol has occurred or whether there have been multiple changes of controlsince the Company’s formation due to the significant complexity and costassociated with such study and due to the possibility of additional changes incontrol in the future. If we have experienced a change of control at any timesince Company formation, utilization of our NOL carryforwards would be subjectto an annual limitation under Section 382. Further, until a study iscompleted and any limitation known, no amounts are being presented as anuncertain tax position under FIN 48.

 

We recognize interest and penalties related to uncertain tax positionsin income tax expense.  As of December 31,2007, we had no accrued interest or penalties related to uncertain taxpositions.

 

The tax years 1999 through 2006 remain open to examination by the majortaxing jurisdictions to which we are subject. The Internal Revenue Service iscurrently conducting an audit of our consolidated federal income tax return forthe 2005 tax year.

 

In September 2006, the Staff of the SEC issued SAB No. 108, *“Considering the Effects of Prior Year Misstatements when QuantifyingMisstatements in Current Year Financial Statements” (“*SAB No. 108*”). *SAB No. 108provides guidance on the consideration of the effects of**prioryear misstatements in quantifying current year misstatements for the purpose ofdetermining whether the current year’s financial statements are materiallymisstated.  SAB No. 108 is effectivefor fiscal years ending after November 15, 2006.  We adopted SAB No. 108 during fiscal2006.  Our 2006 financial results includea cumulative effect adjustment for adjustments previously deemed immaterial inour revenue and cost of sales amortization for our IWS product line and anon-material correction of the 2005 income tax provision.  The cumulative effect adjustment results fromapplying the provisions of SAB No. 108. Historically, the amortization of the IWS deferred revenue and therelated cost of sales was done using a full month convention of amortization,whereby a full month of revenue and prepaid license cost was amortized in the monthof license shipment, regardless of what day of the month the product wasshipped on.  This had the effect ofaccelerating revenue and cost recognition. Prior to the adoption of SAB No. 108, we used the “rollover” methoddescribed therein in evaluating the materiality of financial statements’adjustments related to the license revenue and prepaid license costamortization.  We determined the impactfrom the adjustment to be immaterial to current and prior periods’ financialresults under the “rollover” method. However, we have evaluated the adjustment using the dual approach methoddescribed in SAB No. 108 and accordingly, as of January 1, 2006, werecorded a cumulative effect adjustment to increase the deferred revenuebalance by $358 thousand and increase the prepaid software license cost by $70thousand, with a corresponding net charge to retained earnings of $288thousand.  During 2006 we also identifieda $100 thousand error in the 2005 tax provision related primarily to incomeapportionments for state taxes.  Webelieve that this adjustment is immaterial to both 2006 and 2005 operatingresults.  In accordance with SAB No. 108,the income tax error was corrected as of January 1, 2006 by recording anadjustment to increase the income tax accrual by $100 thousand, 

 

37

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with a corresponding charge to retained earnings of $100 thousand.  In accordance with SAB No. 108, reportedresults for periods prior to January 1, 2006 have not been adjusted.

 

The 2006 financialstatements were affected by these adjustments through a $149 thousand increasein product revenue, with a corresponding increase of $25 thousand in cost ofproduct revenue and a $99 thousand increase in the income tax benefit.

 

InSeptember 2006, the FASB issued SFAS No. 157, *“Fair ValueMeasurements”* (“SFAS No. 157”). Among other requirements, SFAS No. 157 defines fair value andestablishes a framework for measuring fair value and also expands disclosureabout the use of fair value to measure assets and liabilities.  SFAS No. 157 is effective beginning thefirst fiscal year that begins after November 15, 2007.  The FASB has deferred the effective date of SFAS No. 157 for all nonfinancial assets and nonfinancial liabilities,except those that are recognized or disclosed at fair value in the financialstatements on a recurring basis. We are required to adopt SFAS No. 157 on January 1,2008.  We do not expect the adoption of SFAS No. 157 will have a material impact on our financial position or resultsof operations.

 

In February 2007, the FASB issued SFAS No. 159, *“The Fair Value Option for Financial Assets and Financial Liabilities - Including an amendment of FASB Statement No.  115”*(“SFAS No. 159”). SFAS No. 159 permits entities to choose to measure many financial instruments and certain other items at fair value. SFAS No. 159 is effective for financial statements issued beginning with the first quarter of 2008. The adoption of SFAS No. 159 is not expected to have a material impact on the Company’s consolidated results of operations and financial condition.

 

In December 2007, the FASB issued SFAS No. 141R, *Business Combinations* (“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. The Companyis currently evaluating the potential impact of the adoption of SFAS No. 141Ron the Company’s consolidated financial position and results of operations.

 

**3.**                                      Equipment andImprovements

** **

Property and equipment are recorded at cost less accumulateddepreciation and amortization. Depreciation is calculated using the straight-line method over theuseful lives of the respective assets. Leasehold improvements are amortized over the shorter of the estimateduseful lives of the improvements or the remaining lease term. For the yearsended December 31, 2007 and 2006, equipment and improvements consisted ofthe following:

 
| **(in  thousands)**                        | ** ** | **2007** | ** ** | **2006** | ** ** |
|--------------------------------------------|------------|----------|------------|----------|------------|
| Computer equipment and  purchased software |       | $        | 387        |     | $          | 306 |   |
| Office equipment                           |       | 34       |       | 46       |       |
| Furniture and fixtures                     |       | 76       |       | 40       |       |
| Leasehold improvements                     |       | 176      |       | 69       |       |
| Total equipment and improvements           |       | $        | 673        |     | $          | 461 |   |
| Less: accumulated depreciation             |       | (293     | )          | (157     | )          |
| Total equipment and improvements, net      |       | $        | 380        |     | $          | 304 |   |

 

Depreciation expense for the years ended December 31, 2007 and2006 was $191 thousand and $105 thousand respectively.  Also included in depreciation expense for theyear ended December 31, 2007 was a $24 thousand write-off related to theassets of the Company’s closed Colorado facility.

 

**4.****                                     ****Income taxes**

 

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

 

 

38

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| ** **                  |   | **Year ended  December 31** |   |
|-----------------------------|--------|----------------------------------|--------|
| **(in thousands)**          |   | **2007**                         |   | **2006** |   |
|                        |   |                             |   |   |   |   |   |
| Current                     |   |                             |   |   |   |   |   |
|                        |   | Federal                          |   | $ | — |   | $ | 15 |   |
|                        |   | State                            |   | (6 | ) | 51 |   |
|                        |   |                             |   |   |   |   |   |
|                        |   | Total current                    |   | (6 | ) | 66 |   |
| Deferred                    |   |                             |   |   |   |   |   |
|                        |   | Federal                          |   | 667 |   | (560 | ) |
|                        |   | State                            |   | 50 |   | (19 | ) |
|                        |   |                             |   |   |   |   |   |
|                        |   | Total deferred                   |   | 717 |   | (579 | ) |
|                        |   |                             |   |   |   |   |   |
| Total tax  expense(benefit) |   |                             |   | $ | 711 |   | $ | (513 | ) |
|                             |        |                                  |        |  |  |  |  |  |  |  |  |

 

The 2007 currentstate tax benefit is a result of prior year true-ups.  The 2007 deferred tax expense is associatedwith an increase to the Company’s valuation allowance in the amount of $717thousand, and represents management’s conclusion that under the more likelythan not criterion of SFAS No.109, the Company’s deferred tax asset will not berealized.  The 2006 current federal taxexpense is comprised of estimated federal Alternative Minimum tax expenseassociated with the 2006 federal income tax return.  The 2006 state income tax expense arises fromstates where the company conducts business and files a return in, and receivesminimal or no benefit from state NOL carryovers to absorb current year taxableincome from current state taxation.  The2006 deferred tax benefit is associated with the release of a portion of theCompany’s valuation allowance in the amount of $579 thousand and representsmanagement’s conclusion that under the more likely than not criterion of SFAS109, a portion of the deferred tax asset would be realized.

 

The Company’s deferred tax assets consist of the following:

 
| **Deferred Tax Assets:**                   | ** ** | **December 31, 2007** | ** ** | **December 31, 2006** | ** ** |
|--------------------------------------------|------------|----------------------------|------------|----------------------------|------------|
| **(in thousands)**                         | ** ** | ** **                 | ** ** | ** **                 | ** ** |
| Net Operating Loss Carryforwards           |       | $                          | 20,771     |                       | $          | 17,362 |   |
| Purchased intangibles                      |       | 3,754                      |       | 4,266                      |       |
| Tax Credit Carryforwards                   |       | 2,541                      |       | 2,484                      |       |
| Reserves, accruals and allowances          |       | 237                        |       | 1,843                      |       |
| Capitalized Research and Development Costs |       | 151                        |       | 226                        |       |
| Deferred Revenue                           |       | 70                         |       | 83                         |       |
| Depreciation and Amortization              |       | 53                         |       | 17                         |       |
|                                       |       |                       |       |                       |       |
| Other                                      |       | 331                        |       | 337                        |       |
|                                       |       |                       |       |                       |       |
|                                       |       |                       |       |                       |       |
| Total Gross Deferred  Tax Asset            |       | 27,908                     |       | 26,618                     |       |
| Valuation Allowance                        |       | (27,908                    | )          | (25,901                    | )          |
| Net Deferred Tax Asset                     |       | $                          | —     |                       | $          | 717 |   |

 

At December 31,2007 and December 31, 2006, the Company has domestic federal NOLcarryforwards of approximately $60.3 million and $51.1 million respectively,available to reduce future taxable income, which expire at various datesbeginning in 2020 through 2027.  TheCompany also has federal research and development tax credit carryforwards ofapproximately $2.4 million at December 31, 2007 available to reduce futuretax liabilities which expire at various dates beginning in 2012 through2027.  The Company has state netoperating loss carryforwards of approximately $7.3 million and $3.1 million,respectively, available to reduce future state taxable income, which expire atvarious dates beginning in 2008 through 2027.

 

 

39

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Under theprovisions of the Internal Revenue Code, certain substantial changes in theCompany’s ownership may result in a limitation on the amount of NOLcarryforwards and research and development credit carryforwards which may beutilized annually to offset future taxable income and taxes payable.

 

As required bySFAS No. 109, management of the Company has evaluated the positive andnegative evidence bearing upon the realizability of its deferred tax assets,which are comprised principally of NOL carryforwards, research andexperimentation credit carryforwards, and capitalized start up expenditures andresearch and development  expendituresamortizable over sixty months straight-line. Management has determined at this time that it is more likely than notthat the Company will not recognize the benefits of its federal and statedeferred tax assets and, as a result, a valuation allowance of approximately$27.9 million has been established at December 31, 2007 and approximately$25.9 million at December 31, 2006, respectively.  Management has determined that no release ofthe valuation allowance should be undertaken in 2007.  Management has determined at this time thatthe net deferred tax asset is appropriate, and that it is more likely than notthat the remaining net deferred tax asset will not be realized.

 

A reconciliationof the expected income tax (benefit) computed using the federal statutoryincome tax rate to the

Company’seffective income tax rate is as follows for the years ended December 31,2007 and 2006.

 

| ** ** | **(in thousands)**                                 | ** ** | **December 31, 2007** | ** ** | **December 31, 2006** | ** ** |
|------------|----------------------------------------------------|------------|----------------------------|------------|----------------------------|------------|
|       |                                               |       |                       |       |                       |       |
|       | Income tax computed at  federal statutory tax rate |       | $                          | (1,304     | )                          | $          | 1,163 |   |
|       |                                               |       |                       |       |                       |       |
|       | State taxes, net of  federal benefit               |       | 245                        |       | 4,406                      |       |
|       |                                               |       |                       |       |                       |       |
|       | Change in valuation  allowance                     |       | 2,007                      |       | (6,075                     | )          |
|       |                                               |       |                       |       |                       |       |
|       | R&D and other  credits                         |       | (31                        | )          | 16                         |       |
|       |                                               |       |                       |       |                       |       |
|       | Permanent differences  and other                   |       | (206                       | )          | (23                        | )          |
|       |                                               |       |                       |       |                       |       |
|       | Total                                              |       | $                          | 711        |                       | $          | (513 | ) |

 

The increase in state taxes during the year ended December 31,2006 is predominantly due to the expiration of state tax benefits and a changein effective state rates due to a change in the location of the Company’sheadquarters from Massachusetts to New Hampshire.

 

The change in the Deferred Tax Asset Valuation Allowance is analyzed asfollows:

** **
| ** **         | ** ** | **Balance at**           | ** ** | ** **    | ** ** | ** **     | ** ** | **Balance at**     | ** ** |
|--------------------|------------|--------------------------|------------|---------------|------------|----------------|------------|--------------------|------------|
| **(in thousands)** |       | **Beginning  of Period** |       | **Additions** | ** ** | **Deductions** |       | **End of  Period** |       |
|               |       |                     |       |          |       |           |       |               |       |
| 2007               |       | $                        | 25,901     |          | 10,065     |           | 8,058      |               | 27,908     |   |
|               |       |                     |       |          |       |           |       |               |       |
| 2006               |       | $                        | 31,976     |          | 587        |           | 6,662      |               | 25,901     |   |

 

The Company waspreviously headquartered in Massachusetts and had accumulated approximately $53million and $918 thousand in Massachusetts NOL and credit carryforwards,respectively.  During 2006, the Companyconcluded that it does not expect to have income reportable inMassachusetts.  Accordingly, the Companywrote the Massachusetts NOL and credit carryforwards off against the previouslyprovided valuation allowance.

 

40

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**5*.******                                     *****Commitments and Contingencies**

 

We lease our primary facility in Nashua, New Hampshire, under anoperating lease, which expires in June 2010. In July 2007, we signedan additional lease for 6,000 square feet adjacent to our existing rented spacein Nashua, New Hampshire.  These leaseswill expire in August 2010. We also have leased office space, located inSterling, Virginia for our sales force which expires in 2010.  Future minimum lease obligations at December 31,2007, under all of these non-cancelable operating leases are approximately $120thousand in 2008, $120 thousand in 2009, and $50 thousand in 2010.

 

In December 2007, the Company completed the closure of itsColorado Springs facility.  The Companyrecorded a restructuring charge of $215 thousand to cover the expected leasepayments of the abandoned facility, net of expected sublease proceeds.  The space is currently available forsubleasing.

 

In April 2007, we entered into a new agreement with Microsoft toextend an existing software distribution license agreement through 2008.  Under the agreement, the Company was requiredto purchase a minimum of $1.7 million of product licenses during fiscal year2007, and a minimum of $2.75 million of product licenses during fiscal year2008, with an additional $0.5 million over the life of the agreement.

 

After a review of the current forecast for license sales for thebalance of the agreement, the Company recorded a charge of $1.45 million toreserve for excess purchase commitments under the Microsoft agreement.  The charge was recorded as a component ofcost of product revenue in September 2007. The Company is continuing its efforts to maximize utilization oflicenses on hand and licenses under commitment. The computation of the excess purchase commitment reserve requiresmanagement to make certain significant assumptions regarding future licenserenewals, and sales growth.  Actualresults may differ materially from management’s estimates.

 

**6.****                                     ****Stockholders Equity**

 

The Company hasauthorized 2,000,000 shares of undesignated preferred stock. Each series ofpreferred stock shall have such rights, preferences, privileges andrestrictions, including voting rights, dividend rights, conversion rights,redemption privileges and liquidation preferences as determined by the Board ofDirectors.

 

**ShareRepurchase Program**

 

In October 2007, the Board of Directors authorized the repurchaseup to $1.0 million of common stock.  Thisauthority may be exercised from time to time through November 2008, and insuch amounts as market conditions warrant. The repurchases may be made on theopen market, in block trades or otherwise. The program may be suspended or discontinued at any time.  As of December 31, 2007, the Company haspurchased $84 thousand of common stock with a balance of $916 thousandavailable for this repurchase program.

 

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

 

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

###### ** **

The Company’sAmended and Restated 1991 Stock Incentive Plan (the “1991 Plan”) provided forthe sale or award of common stock, or the grant of incentive stock options ornonqualified stock options for the purchase of common stock, for up to6,090,541 shares to officers, employees and consultants.  The 1991 Plan terminated on March 31,2001, and no further options have been granted under the 1991 Plan subsequent tothat date.  At December 31, 2007,there were 650,252 shares of common stock reserved for issuance upon exerciseof outstanding options granted under the 1991 Plan.

 

The Company’s 2001Stock Incentive Plan was approved and adopted by the Board of Directors on April 11,2001 (the “2001 Plan”). The 2001 Plan provided for the sale or award of commonstock, or the grant of non-qualified stock options for the purchase of commonstock, for up to 5,000,000 shares to officers, directors, employees andconsultants of the Company.  Vesting ofoptions granted under the 2001 Plan accelerates upon change of control oracquisition as defined in the 2001 Plan. The 2001 Plan terminated on December 31,2004 and no further options have been granted under the 2001 Plan subsequent tothis date.  At December 31, 2007,there were 109,218 shares of common stock reserved for issuance upon exerciseof outstanding options granted under the 2001 Plan.

 

 

41

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The Company’s 2004Stock Incentive Plan was approved and adopted by the Board of Directors on December 31,2004 (the “2004 Plan”). The 2004 Plan provides for the sale or award of commonstock or the grant of non-qualified stock options for the purchase of commonstock, for up to 7,500,000 shares to officers, directors, employees andconsultants of the Company. The Board of Directors administers the 2004 Plan,and the terms of grants and awards made pursuant to the 2004 Plan.  Vesting of options granted under the 2004Plan accelerates upon change of control or acquisition as defined in the 2004Plan. The 2004 Plan will terminate on December 31, 2014.  At December 31, 2007, there were1,957,245 shares of common stock reserved for issuance upon exercise ofoutstanding options granted under the 2004 Plan.

 

In April 1995, the Board of Directors and stockholders approved theCompany’s Non-Employee Director Stock Option Plan (the “Director Plan”), whichwas amended by the Board of Directors on June 5, 2002 (the “Director Plan”).  The Director Plan provided that the Board ofDirectors, at its discretion, was permitted to grant options to non-employeedirectors, subject to terms and conditions as determined by the Board ofDirectors.  The Director Plan terminated on November 9, 2004,and no further options have been granted under the Director Plan subsequent tothat date.  At December 31, 2006,there were 34,000 shares of common stock reserved for issuance upon exercise ofoutstanding options granted under the Director Plan.

 

A summary of option activity under the 2004 Plan, 2001 Plan, the 1991Plan and the Director Plan is as follows:

 
| ** **                             | ** ** | **Shares** | ** ** | **Weighted  Average  Exercise  Price** |
|----------------------------------------|------------|------------|------------|----------------------------------------|
| Outstanding at  December 31, 2005 |       | 1,845,639  |       | $                                      | 3.65 |
| Granted                                |       | 773,600    |       | 3.15                                   |
| Terminated                             |       | (165,418   | )          | 2.44                                   |
| Exercised                              |       | (56,973    | )          | 0.31                                   |
|                                   |       |       |       |                                   |
| 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 |
|                                   |       |       |       |                                   |

 

The weighted average remaining contractual term and the aggregateintrinsic value for options outstanding at December 31, 2007 were 6.42years and $39 thousand, respectively. The weighted average remaining contractual term and the aggregateintrinsic value for options exercisable at December 31, 2007 were 4.74years and $39 thousand, respectively.

 

Relatedinformation for options outstanding and exercisable as of December 31,2007 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      |       | 747,693                 |       | 6.87                                             |       | $                                     | 0.87       |                    | 520,715    |                                  | $          | 0.83 |   |
| 1.02 — 2.01              |       | 209,808                 |       | 8.77                                             |       | 1.48                                  |       | 46,916                  |       | 1.65                                  |       |
| 2.01 — 2.95              |       | 706,079                 |       | 8.78                                             |       | 2.28                                  |       | 113,204                 |       | 2.49                                  |       |
| 3.08 — 4.50              |       | 447,986                 |       | 8.01                                             |       | 3.33                                  |       | 213,520                 |       | 3.36                                  |       |
| 7.81 — 9.13              |       | 635,500                 |       | 1.39                                             |       | 8.33                                  |       | 635,500                 |       | 8.33                                  |       |
|                          |       |                    |       |                                             |       |                                  |       |                    |       |                                  |       |
|                          |       | 2,747,066               |       | 6.42                                             |       | 3.40                                  |       | 1,529,855               |       | 4.44                                  |       |
|                               |            |                         |            |                                                  |            |                                       |            |                         |            |                                       |            |  |  |

 

 

42

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**SavingsPlan**

 

The Company sponsors a savings plan for its employees, which has beenqualified under 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.  Contributions from theCompany are made at the discretion of the Board of Directors and approximated$38,000 and $32,000 in 2007 and 2006, respectively.

 

**Deferred Compensation Plan**

 

Effective March 31, 2006, the Company adopted the Ezenia DeferredCompensation Plan (the “Plan”). Under this Plan, eligible employees may electto defer up to 100% of their base and incentive compensation into the Plan. TheCompany is under no obligation to establish a fund or reserve in order to paythe benefits under the Plan except in the event of a change in control.  If funded, the plan Trustee makes allinvestment decisions for the Trust on behalf of the participants. The Companyhas not guaranteed a return on investment for the participants, however, allearnings and losses on the Plan assets are borne by the participant.  All contributions and earnings are fullyvested to the participant when made but are subject to the Company’s creditorsin the event of bankruptcy.  As a result,the assets held in the Plan have been recorded as cash equivalents in theconsolidated 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 $36 thousand and $195 thousand in theyears ended December 31, 2007 and 2006, respectively.

 

**ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTSON ACCOUNTING AND FINANCIAL DISCLOSURE**

 

**None.**

 

**ITEM 9A. CONTROLS AND PROCEDURES**

 

**Evaluation of Disclosure Controls and Procedures**

 

 As required by Rule 13a-15under the Securities Exchange Act of 1934, as of December 31, 2007, theCompany’s management, under the supervision and with the participation of boththe chief executive officer and the chief financial officer, carried out anevaluation of the effectiveness of the Company’s disclosure controls andprocedures.  Based on this evaluation, the Company’s chief executiveofficer and chief financial officer concluded that the Company’s disclosurecontrols and procedures were effective at the reasonable assurance level toensure that the information required to be disclosed in the reports filed orsubmitted by the Company under the Securities Exchange Act of 1934 wasrecorded, processed, summarized, and reported within the requisite timeperiods, including ensuring that such material information is accumulated andcommunicated to the Company’s management to allow timely decisions regardingrequired disclosure.

 

**Changes in Internal Control Over Financial Reporting**

 

There were no changes in the Company’s internal control over financialreporting that occurred during the quarter ended December 31, 2007 thatmaterially affected, or are reasonably likely to materially affect, the Company’sinternal control over financial reporting.

 

43

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

 

Ezenia’s management is responsible forestablishing and maintaining adequate internal control over financial reportingas defined in Rule 13a-15(f) of the Securities Exchange Act of 1934.Ezenia’s internal control over financial reporting is a process designed toprovide reasonable assurance regarding the reliability of financial reportingand the preparation of financial statements for external purposes in accordancewith generally accepted accounting principles. Ezenia’s internal control overfinancial reporting includes those policies and procedures that (i) pertainto the maintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of Ezenia’s assets; (ii) providereasonable assurance that transactions are recorded as necessary to permitpreparation of financial statements in accordance with generally acceptedaccounting principles, and that Ezenia’s receipts and expenditures are being madeonly in accordance with authorizations of Ezenia’s management and directors;and (iii) provide reasonable assurance regarding prevention or timelydetection of unauthorized acquisition, use, or disposition of Ezenia’s assetsthat could have a material effect on the financial statements.

 

Because of its inherent limitations, internalcontrol over financial reporting may not prevent or detect misstatements. Also,projections of any evaluation of effectiveness to future periods are subject tothe risk that controls may become inadequate because of changes in conditions,or that the degree of compliance with the policies or procedures maydeteriorate.

 

Management has assessed Ezenia’s internalcontrol over financial reporting in relation to criteria described in *Internal Control — Integrated Framework,*issuedby the Committee of Sponsoring Organizations of the Treadway Commission. Basedon this assessment using those criteria, we concluded that, as of December 31,2007, Ezenia’s internal control over financial reporting was effective.

 

This annual report does not include anattestation report of the Company’s independent registered public accountingfirm regarding internal control over financial reporting.  Management’sreport was not subject to attestation by the Company’s independent registeredpublic accounting firm pursuant to the rules of the Securities andExchange Commission that permit the Company to provide only management’s reportin this annual report.

 

 

**ITEM 9B.OTHER INFORMATION**

 

**None**

 

 

**PART III**

 

**ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT**

 

The information required by Item 10 will be included in the Company’sdefinitive Proxy Statement to be delivered to stockholders in connection withthe 2008 Annual Meeting of Stockholders. Such information is incorporatedherein by reference.

 

The Company hasadopted a Code of Business Conduct and Ethics (the “Code”) that applies to allof the Company’s employees, including its executive officers and directors. TheCode is available on the Company’s website at www.ezenia.com.  The Company intends to disclose anyamendments to or waivers of the Code of Business Conduct and Ethics on behalfof the Company’s Chief Executive Officer, Chief Financial Officer, Controller,and persons performing similar functions on the Company’s website. The Companyshall also provide to any person without charge, upon request, a copy of theCode.  Any such request must be made inwriting to the Company, c/o Investor Relations, 14 Celina Ave, Suite 17-18,Nashua, New Hampshire 03063.

 

 

44

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**ITEM 11.  EXECUTIVE COMPENSATION**

** **

The information required by Item 11 will be included in the Company’sdefinitive Proxy Statement to be delivered to stockholders in connection withthe 2008 Annual Meeting of Stockholders. Such information is incorporatedherein by reference.

 

 

**ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIALOWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS**

** **

The information required by Item 12 will be included in the Company’sdefinitive Proxy Statement to be delivered to stockholders in connection withthe 2008 Annual Meeting of Stockholders is incorporated herein by reference.

 

**Equity Compensation Plan Information**

 

The following table sets forth information as of December 31, 2007about the Company’s equity compensation plans under which shares of its commonstock are 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     |       | 2,638,373                                                                                        | (1)        | $                                                                                | 3.53       |                                                                                                                                             | 5,524,676  | (2) |
| Equity compensation  plans not approved by securityholders |       | 108,693                                                                                          | (3)        | $                                                                                | 0.37       |                                                                                                                                             | —     |   |
| Total                                                      |       | 2,747,066                                                                                        |       | $                                                                                | 3.40       |                                                                                                                                             | 5,524,676  |   |

 

----

 

**(1)**                                  Includes 650,252 shares of common stock to be issued upon exercise ofoutstanding options under the Amended and Restated 1991 Stock Incentive Plan,34,000 shares of common stock to be issued upon exercise of outstanding optionsunder the 1994 Non-Employee Director Option Plan, and 1,957,245 shares ofcommon stock to be issued upon exercise of outstanding options under the 2004Stock Incentive Plan.

** **

**(2)**                                  Includes 5,524,676 shares of common stock remaining available forfuture issuance under the 2004 Stock Incentive Plan. The Amended and Restated1991 Stock Incentive Plan terminated on March 31, 2001, the 1994 NonEmployee Director Option Plan terminated on November 9, 2004, and the 1995Employee Stock Purchase Plan terminated on January 31, 2005, and noadditional options may be granted under these plans.

** **

**(3)**                                  Represents shares of common stock to be issued upon exercise ofoutstanding options under the 2001 Stock Incentive Plan.  The 2001 Stock Incentive Plan terminated on December 31,2004, and no additional options may be granted under this plan.

** **

** **

**45**

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** **

A description of the Stock Incentive Plans isincluded in Note 7 to the Company’s Consolidated Financial Statements set forthherein.

 

 

**ITEM 13.  CERTAIN RELATIONSHIPS AND RELATEDTRANSACTIONS; DIRECTOR INDEPENDENCE**

** **

The information required by Item 13 will be included in the Company’sdefinitive Proxy Statement to be delivered to stockholders in connection withthe 2008 Annual Meeting of Stockholders. Such information is incorporatedherein by reference.

 

 

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

 

The information required by Item 14 will be included in the Company’sdefinitive Proxy Statement to be delivered to stockholders in connection withthe 2008 Annual Meeting of Stockholders. Such information is incorporated herein by reference.

 

 

**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 followingconsolidated financial statements and supplementary data are included in Part II-Item8 filed as part of this report:

 

·                  Report of Independent Registered Public Accounting Firm

 

·                  Consolidated Balance Sheets as of December 31, 2007 and 2006

 

·                  Consolidated Statements of Operations for the years ended December 31,2007 and 2006

 

·                  Consolidated Statements of Stockholders’ Equity for the years ended December 31,2007 and 2006

 

·                  Consolidated Statements of Cash Flows for the years ended December 31,2007 and 2006

 

·                  Notes to Consolidated Financial Statements

 

·                  Quarterly Financial Information (unaudited)

 

 

 

46

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

 

·                  Schedule II — Valuation and Qualifying Accounts

 

Schedules not listed above have been omitted because they are notapplicable, not required or the information required is shown in theconsolidated financial statements or the notes thereto.

 

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

 
| **Exhibit  Number** | ** ** | **Description of Exhibit**                                                                                                                                                       |
|---------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1(1)              |       | Amended and  Restated Certificate of Incorporation of the Registrant.                                                                                                            |
| 3.2(1)              |       | Amended and  Restated By-Laws of the Registrant.                                                                                                                                 |
| 4.1(1)              |       | Specimen Stock  Certificate.                                                                                                                                                     |
| 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(3)             |       | Asset Purchase Agreement  dated as of December 28, 2000 between the Registrant and General  Dynamics                                                                        |
|                |       | Government Systems  Corporation, as amended.                                                                                                                                     |
| 10.9(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               |       | Amendment to First Amended and Restated Software  Distribution License Agreement by and between Microsoft                                                                        |
|                |       | Corporation and Ezenia! Inc. dated April 2007.                                                                                                                              |
| 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. ection 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. ection 1350,  as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |

 

 

47

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----

 

Copies of any ofthese exhibits are available without charge upon written request to InvestorRelations, Ezenia! Inc., 14 Celina Avenue, Suite 17-18, Nashua, NH 03063.

 

+                                               Management contract for compensatory planor arrangement required to be filed as an exhibit to this report pursuant toItem 15(c) of this report.

(1)                                        Incorporated by reference from theCompany’s Registration Statement on Form S-1.

(2)                                        Incorporated by reference from theCompany’s Form 8-K filed with the Securities and Exchange Commission on November 14,2007.

(3)                                        Incorporated by reference from theCompany’s Form 10-K filed with the Securities and Exchange Commission forthe year ended December 31, 2000.

(4)                                        Incorporated by reference from theCompany’s Form 10-Q for the quarter ended September 30, 2001.

(5)                                        Incorporated by reference from theCompany’s Registration Statement on Form S-8 filed with the Securities andExchange Commission on December 21, 2001.

(6)                                        Incorporated by reference from theCompany’s Form 10-Q for the quarter ended September 30, 2002.

(7)                                        Incorporated by reference from theCompany’s Form 10-K filed with the Securities and Exchange Commission forthe year ended December 31, 2002.

(8)                                        Incorporated by reference from theCompany’s Form 10-K/A filed with the Securities and xchange Commission forthe year ended December 31, 2004.

(9)                                        Incorporated by reference from theCompany’s Form 10-Q for the quarter ended March 31, 2005.

 

 

48

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**SIGNATURES**

 

Pursuant to therequirements of Section 13 or 15(d) of the Securities Exchange Act of1934, the Registrant has duly caused this report to be signed on its behalf bythe 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 26,  2008 |

 

Pursuant to therequirements of the Securities Exchange Act of 1934, this report has beensigned below by the following persons on behalf of the Registrant and in thecapacities and on the dates indicated.

 
| **Signature**                | ** ** | **Title**                                   | ** ** | **Date**             |
|------------------------------|------------|---------------------------------------------|------------|----------------------|
|                         |       |                                        |       |                 |
|  /s/ Khoa D.  Nguyen    |       | Chairman, Chief Executive Officer,          |       | March 26, 2008  |
| Khoa D. Nguyen               |       | and President (Principal executive officer) |       |                 |
|                         |       |                                        |       |                 |
|  /s/ Ronald L.  Breland |       | Director                                    |       | March 26, 2008  |
| Ronald L.  Breland           |       |                                        |       |                 |
|                         |       |                                        |       |                 |
| /s/ Gerald P. Carmen         |       | Director                                    |       | March 26,  2008 |
| Gerald P. Carmen             |       |                                        |       |                 |
|                         |       |                                        |       |                 |
| /s/ John A. McMullen         |       | Director                                    |       | March 26,  2008 |
| John A. McMullen             |       |                                        |       |                 |
|                         |       |                                        |       |                 |
| /s/ Robert N. McFarland      |       | Director                                    |       | March 26,  2008 |
| Robert N. McFarland          |       |                                        |       |                 |
|                         |       |                                        |       |                 |
| /s/ Roger N. Tuttle          |       | Chief Financial  Officer                    |       | March 26,  2008 |
| Roger N. Tuttle              |       | and Secretary (Principal financial and      |       |                 |
|                         |       | Accounting officer)                         |       |                 |

** **

 

49

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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 to Other   Accounts** | ** ** | **Deductions — Uncollectible   Accounts   Written-off** | ** ** | **Balance at   End of   Period** | ** ** |
|                                |       |                                   |       |                                               |       |                            |       |                                                         |       |   |   |
| Year Ended  December 31, 2007  |       | $                                      | 412,909    |                                               | —     |                            | —     |                                                         | —     |   | $ | 412,909 |   |
|                                |       |                                   |       |                                               |       |                            |       |                                                         |       |   |   |
| Year Ended  December 31, 2006  |       | $                                      | 339,246    |                                               | (15,967    | )                               | 89,630     |                                                         | —     |   | $ | 412,909 |   |
|                                |       |                                   |       |                                               |       |                            |       |                                                         |       |   |   |

 

 

50

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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(1)              |       | Amended and  Restated By-Laws of the Registrant.                                                                              |
| 4.1(1)              |       | Specimen Stock  Certificate.                                                                                                  |
| 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(3)             |       | Asset Purchase Agreement dated as of December 28, 2000 between  the Registrant.                                          |
| 10.9(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               |       | Amendment to  First Amended and Restated Software Distribution License Agreement by and  between Microsoft                    |
|                |       | Corporation and  Ezenia! Inc. dated April 2007.                                                                          |
| 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.                                                                          |

 

----

 

+                                               Management contract for compensatory planor arrangement required to be filed as an exhibit to this report pursuant toItem 15(c) of this report.

(1)                                        Incorporated by reference from theCompany’s Registration Statement on Form S-1.

(2)                                        Incorporated by reference from theCompany’s Form 8-K filed with the Securities and Exchange Commissionon November 14,2007.

(3)                                        Incorporated by reference from theCompany’s Form 10-K filed with the Securities and Exchange Commission forthe year ended December 31, 2000.

(4)                                        Incorporated by reference from theCompany’s Form 10-Q for the quarter ended September 30, 2001.

(5)                                        Incorporated by reference from theCompany’s Registration Statement on Form S-8 filed with the Securities andExchange Commission on December 21, 2001.

(6)                                        Incorporated by reference from theCompany’s Form 10-Q for the quarter ended September 30, 2002.

(7)                                        Incorporated by reference from theCompany’s Form 10-K filed with the Securities and Exchange Commission forthe year ended December 31, 2002.

(8)                                        Incorporated by reference from theCompany’s Form 10-K/A filed with the Securities and Exchange Commissionfor the year ended December 31, 2004.

(9)                                        Incorporated by reference from theCompany’s Form 10-Q for the quarter ended March 31, 2005.

 

51

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