Table of Contents

 

 

 

**UNITED STATES****SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

----

 

**FORM 10-Q**

 

| **x**                                                                                                                                                               | ** ** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                |       |
| **For the quarterly period ended June 30, 2008**                                                                                                               |
| ** **                                                                                                                                                          | ** ** |
| **OR**                                                                                                                                                              |
| ** **                                                                                                                                                          | ** ** |
| **o**                                                                                                                                                               | ** ** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|                                                                                                                                                                |       |
| **For the transition period  from              to       ** |

 

**Commissionfile number: 001-33069**

 

----

 

**OCCAM NETWORKS, INC.**

(Exact name ofregistrant as specified in its charter)

 

| **Delaware**(State or other jurisdiction of   incorporation or organization)               | ** ** | **77-0442752**(I.R.S. Employer   Identification No.) |
|--------------------------------------------------------------------------------------------|------------|------------------------------------------------------|
| ** **                                                                                 | ** ** | ** **                                           |
| **6868 Cortona Drive   Santa Barbara, California**(Address of principal executive office)  | ** ** | **93117**(Zip Code)                                  |
| ** **                                                                                 | ** ** | ** **                                           |
| **(805) 692-2900**(Registrant’s telephone number, including area code)           |
| ** **                                                                                 | ** ** | ** **                                           |
| **N/A**(Former name, former address and former fiscal year,  if changed since last report) |

 

Indicate by check mark whether the registrant(1) has filed all reports required to be filed by Section 13 or 15(d) ofthe Securities Exchange Act of 1934 during the preceding 12 months (or forsuch shorter period that the registrant was required to file such reports), and(2) has been subject to such filing requirements for the past90 days.  Yes x No o

 

Indicate by check mark whether the registrantis a large accelerated filer, an accelerated filer, a non-accelerated filer, ora smaller reporting company. See definition of “large accelerated filer,” “acceleratedfiler” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.(check one).

 

| Large accelerated filer o                     |   | Accelerated filer x         |
|-----------------------------------------------|--------|----------------------------------|
|                                          |   |                             |
| Non-accelerated filer o                       |   | Smaller reporting company o |
| (Do not check if a smaller reporting company) |   |                             |

 

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

 

As of July 30, 2008, the number ofshares outstanding of the registrant’s common stock was 19,817,463 shares.

 

 

 

----

Table of Contents

 

**INDEX**

 
| ** **                             | **Page**                                                                                                                  |
|----------------------------------------|---------------------------------------------------------------------------------------------------------------------------|
| PART I—FINANCIAL INFORMATION | 1                                                                                                                         |
| Item 1.                           | Financial Statements                                                                                                      | 1 |
|                                   | Unaudited Condensed Consolidated Balance Sheets as of June 30,  2008 and December 31, 2007                      | 1 |
|                                   | Unaudited Condensed Consolidated Statements of Operations for the  three and six months ended June 30, 2008 and 2007 | 2 |
|                                   | Unaudited Condensed Consolidated Statements of Cash Flows for the six  months ended June 30, 2008 and 2007           | 3 |
|                                   | Notes to Unaudited Condensed Consolidated Financial Statements                                                            | 4 |
| Item 2.                           | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                               | 11 |
| Item 3.                           | Quantitative and Qualitative Disclosures  about Market Risk                                                               | 21 |
| Item 4.                           | Controls and Procedures                                                                                                   | 21 |
| PART II—OTHER INFORMATION    | 24                                                                                                                        |
| Item 1.                           | Legal Proceedings                                                                                                         | 24 |
| Item 1A.                          | Risk Factors                                                                                                              | 26 |
| Item 2.                           | Unregistered Sales of Equity Securities and  Use of Proceeds                                                              | 40 |
| Item 3.                           | Defaults Upon Senior Securities                                                                                           | 40 |
| Item 4.                           | Submission of Matters to a Vote of Security  Holders                                                                      | 40 |
| Item 5.                           | Other Information                                                                                                         | 40 |
| Item 6.                           | Exhibits                                                                                                                  | 40 |
| Signatures                             | 41                                                                                                                        |
| Exhibit Index                     | 42                                                                                                                        |

 

i

----

Table of Contents

 

**PART I—FINANCIALINFORMATION**

 

**ITEM 1.  FINANCIAL STATEMENTS**

 

**OCCAMNETWORKS, INC. AND SUBSIDIARY**

**UNAUDITEDCONDENSED CONSOLIDATED BALANCE SHEETS**

(In thousands, except sharedata)

 
| ** **                                                                                                                                                                                   | ** ** | **June 30,  2008** | ** ** | **December 31,  2007*** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|------------------------------|------------|
| ** **                                                                                                                                                                                   | ** ** | ** **              | ** ** | ** **                   | ** ** |
| **ASSETS**                                                                                                                                                                                   |       |                    |       |                         |       |
| Current assets:                                                                                                                                                                              |       |                    |       |                         |       |
| Cash and cash equivalents                                                                                                                                                                    |       | $                       | 20,440     |                         | $          | 37,637 |   |
| Restricted cash                                                                                                                                                                              |       | 20,976                  |       | 13,103                       |       |
| Accounts receivable, net                                                                                                                                                                     |       | 21,095                  |       | 14,819                       |       |
| Inventories                                                                                                                                                                                  |       | 16,505                  |       | 13,371                       |       |
| Prepaid and other current assets                                                                                                                                                             |       | 2,193                   |       | 2,108                        |       |
| Total current assets                                                                                                                                                                         |       | 81,209                  |       | 81,038                       |       |
| Property and equipment, net                                                                                                                                                                  |       | 11,360                  |       | 8,874                        |       |
| Intangibles, net                                                                                                                                                                             |       | 160                     |       | 890                          |       |
| Other assets                                                                                                                                                                                 |       | 101                     |       | 83                           |       |
| Total assets                                                                                                                                                                                 |       | $                       | 92,830     |                         | $          | 90,885 |   |
|                                                                                                                                                                                         |       |                    |       |                         |       |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                                                |       |                    |       |                         |       |
| Current liabilities:                                                                                                                                                                         |       |                    |       |                         |       |
| Accounts payable                                                                                                                                                                             |       | $                       | 9,891      |                         | $          | 10,135 |   |
| Accrued expenses                                                                                                                                                                             |       | 7,367                   |       | 6,464                        |       |
| Deferred revenue                                                                                                                                                                             |       | 19,218                  |       | 12,420                       |       |
| Deferred rent                                                                                                                                                                                |       | 319                     |       | 237                          |       |
| Capital lease obligations                                                                                                                                                                    |       | 17                      |       | 17                           |       |
| Total current liabilities                                                                                                                                                                    |       | 36,812                  |       | 29,273                       |       |
| Deferred rent, net of current portion                                                                                                                                                        |       | 1,196                   |       | 1,299                        |       |
| Capital lease obligations, net of current  portion                                                                                                                                           |       | 38                      |       | 47                           |       |
| Total liabilities                                                                                                                                                                            |       | 38,046                  |       | 30,619                       |       |
| Commitments and contingencies (note 6)                                                                                                                                                  |       |                    |       |                         |       |
| Stockholders’ equity:                                                                                                                                                                   |       |                    |       |                         |       |
| Common stock, $0.001 par value, 250,000,000  shares authorized; 19,817,463 and 19,773,730 shares issued and  outstanding at June 30, 2008 and December 31, 2007, respectively |       | 289                     |       | 289                          |       |
| Additional paid-in capital                                                                                                                                                                   |       | 181,172                 |       | 179,455                      |       |
| Warrants                                                                                                                                                                                     |       | 331                     |       | 331                          |       |
| Accumulated deficit                                                                                                                                                                          |       | (127,008                | )          | (119,809                     | )          |
| Total stockholders’ equity                                                                                                                                                              |       | 54,784                  |       | 60,266                       |       |
| Total liabilities and stockholders’ equity                                                                                                                                              |       | $                       | 92,830     |                         | $          | 90,885 |   |

 

----

* Derived from audited consolidated financial statements included in itsAnnual Report on Form 10-K.

 

Theaccompanying notes are an integral part of these consolidated financial statements.

 

1

----

Table of Contents

 

**OCCAMNETWORKS, INC. AND SUBSIDIARY**

**UNAUDITEDCONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS**

(In thousands, except per sharedata)

 
| ** **                                                    | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|---------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                    | ** ** | **June 30,  2008**          | ** ** | **June 30,  2007**        | ** ** | **June 30,  2008** | ** ** | **June 30,  2007** | ** ** |
| ** **                                                    | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenue                                                       |       | $                                | 22,826     |                           | $          | 19,237 |   | $ | 42,479 |   | $ | 38,224 |   |
| Cost of revenue                                               |       | 12,731                           |       | 12,125                         |       | 23,951 |   | 24,095 |   |
| Gross margin                                                  |       | 10,095                           |       | 7,112                          |       | 18,528 |   | 14,129 |   |
| Operating expenses:                                           |       |                             |       |                           |       |   |   |   |   |
| Research and development                                      |       | 4,774                            |       | 3,040                          |       | 9,333 |   | 5,740 |   |
| Sales and marketing                                           |       | 5,105                            |       | 3,591                          |       | 10,083 |   | 7,051 |   |
| General and administrative                                    |       | 3,080                            |       | 2,211                          |       | 6,203 |   | 3,812 |   |
| Total operating expenses                                      |       | 12,959                           |       | 8,842                          |       | 25,619 |   | 16,603 |   |
| Loss from operations                                          |       | (2,864                           | )          | (1,730                         | )          | (7,091 | ) | (2,474 | ) |
| Other income (expense), net                                   |       | (48                              | )          | —                         |       | (702 | ) | — |   |
| Interest income (expense), net                                |       | 275                              |       | 784                            |       | 635 |   | 1,557 |   |
| Loss before provision for income taxes                        |       | (2,637                           | )          | (946                           | )          | (7,158 | ) | (917 | ) |
| Provision for income taxes                                    |       | 22                               |       | —                         |       | 41 |   | — |   |
| Net loss                                                      |       | $                                | (2,659     | )                              | $          | (946 | ) | $ | (7,199 | ) | $ | (917 | ) |
|                                                          |       |                             |       |                           |       |   |   |   |   |
| Net loss per share attributable to common  stockholders:      |       |                             |       |                           |       |   |   |   |   |
| Basic and diluted                                             |       | $                                | (0.13      | )                              | $          | (0.05 | ) | $ | (0.36 | ) | $ | (0.05 | ) |
| Weighted average shares attributable to  common stockholders: |       |                             |       |                           |       |   |   |   |   |
| Basic and diluted                                             |       | 19,801                           |       | 19,765                         |       | 19,791 |   | 19,752 |   |

 

The accompanying notes are anintegral part of these consolidated financial statements.

 

2

----

Table of Contents

 

**OCCAMNETWORKS, INC. AND SUBSIDIARY**

**UNAUDITEDCONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS**

(In thousands)

 
| ** **                                                                   | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                   | ** ** | **June 30,  2008**        | ** ** | **June 30,  2007** | ** ** |
| ** **                                                                   | ** ** | ** **                     | ** ** | ** ** | ** ** |
| **Operating activities**                                                     |       |                           |       |   |   |
| Net loss                                                                     |       | $                              | (7,199     | ) | $ | (917 | ) |
| Adjustments to reconcile net loss to net  cash used in operating activities: |       |                           |       |   |   |
| Stock-based compensation                                                     |       | 1,720                          |       | 1,076 |   |
| Depreciation and amortization                                                |       | 1,496                          |       | 652 |   |
| Impairment of intangibles                                                    |       | 981                            |       | — |   |
| Accounts receivable reserves                                                 |       | 751                            |       | — |   |
| Inventory reserves                                                           |       | 28                             |       | 232 |   |
| Loss from disposal of property and  equipment                                |       | 13                             |       | — |   |
| Changes in operating assets and liabilities:                                 |       |                           |       |   |   |
| Accounts receivable                                                          |       | (7,027                         | )          | (2,036 | ) |
| Inventories                                                                  |       | (3,356                         | )          | 1,018 |   |
| Prepaid expenses and other current assets                                    |       | (102                           | )          | (2,828 | ) |
| Accounts payable and accrued expenses                                        |       | 638                            |       | 4,026 |   |
| Deferred revenue                                                             |       | 6,798                          |       | (2,488 | ) |
| Net cash used in operating activities                                        |       | (5,259                         | )          | (1,265 | ) |
| **Investing activities**                                                     |       |                           |       |   |   |
| Increase in restricted cash                                                  |       | (7,873                         | )          | (287 | ) |
| Net purchases of property and equipment                                      |       | (3,928                         | )          | (4,130 | ) |
| Purchase of intangibles                                                      |       | (125                           | )          | — |   |
| Net cash used in investing activities                                        |       | (11,926                        | )          | (4,417 | ) |
| **Financing activities**                                                     |       |                           |       |   |   |
| Exercise of stock options                                                    |       | 65                             |       | 194 |   |
| Payments of payroll taxes for vested  restricted stock units                 |       | (68                            | )          | — |   |
| Payments of capital lease obligations                                        |       | (9                             | )          | — |   |
| Proceeds from employee stock purchase plan                                   |       | —                         |       | 245 |   |
| Common stock issuance costs                                                  |       | —                         |       | (75 | ) |
| Net cash provided by (used in) financing  activities                         |       | (12                            | )          | 364 |   |
| Net decrease in cash and cash equivalents                                    |       | (17,197                        | )          | (5,318 | ) |
| Cash and cash equivalents, beginning of  period                              |       | 37,637                         |       | 59,219 |   |
| Cash and cash equivalents, end of period                                     |       | $                              | 20,440     |   | $ | 53,901 |   |
| **Supplemental disclosure of cash flow  information:**                       |       |                           |       |   |   |
| Interest paid                                                                |       | $                              | 31         |   | $ | — |   |

 

The accompanying notes are anintegral part of these consolidated financial statements.

 

3

----

Table of Contents

 

**OCCAMNETWORKS, INC. AND SUBSIDIARY**

**NOTESTO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

 

**1. Business and Basis of Presentation**

 

Occam Networks, Inc. (“Occam,” the “Company,”“we” or “us”) develops, markets and supports innovative broadband accessproducts designed to enable telecom service providers to offer bundled voice,video and high speed internet, or Triple Play, services over both copper andGigabit Point-to-point fiber optic networks. The Company’s Broadband LoopCarrier (BLC) is an integrated hardware and software platform that usesInternet Protocol (IP) and Ethernet technologies to increase the capacity oflocal access networks, enabling the delivery of advanced Triple Play services.

 

*Basis of Presentation*

 

The accompanying condensed consolidatedfinancial statements are unaudited. The condensed consolidated balance sheet atDecember 31, 2007 is derived from Occam’s audited consolidated financialstatements included in its Annual Report on Form 10-K for the year ended December 31,2007. These unaudited condensed consolidated financial statements reflect allmaterial adjustments, consisting only of normal recurring adjustments, which, inthe opinion of management, are necessary to fairly state our financialposition, results of operations and cash flows for the interim periods. Theresults of operations for the current interim periods are not necessarilyindicative of results to be expected for the entire year.

 

The unaudited condensed consolidatedfinancial statements include management’s estimates and assumptions that affectthe reported amounts of assets and liabilities as of the date of theconsolidated financial statements and the reported amounts of revenue andexpenses during the reporting period. Actual results could differ from thoseestimates, and material effects on consolidated operating results andconsolidated financial position may result.

 

The unaudited interim condensed financialstatements have been prepared in accordance with accounting principlesgenerally accepted in the United States (“GAAP”) for interim financialinformation and with the instructions to Form 10-Q and Article 10 ofRegulation S-X. Accordingly, they do not include all of the information andnotes required by GAAP for annual financial statements. In the opinion ofmanagement, all adjustments consisting of normal and recurring entriesconsidered necessary for a fair statement of the results for the interimperiods have been included in the Company’s financial position as of June 30,2008, the results of its operations for the three months and six months ended June 30,2008 and 2007, and its cash flow for the six months ended June 30, 2008and 2007. The December 2007 condensed consolidated balance sheet data wasderived from audited consolidated financial statements included in the Company’s2007 Annual Report on Form 10-K but does not include all disclosuresrequired by GAAP.

 

Effective January 1, 2007,Occam adopted a fiscal reporting schedule based on calendar quarter and yearend.

 

Certain reclassifications havebeen made to our prior year balances in order to conform to the current periodpresentation.

 

*Use of Estimates*

 

The preparation of financialstatements in conformity with accounting principles generally accepted in theUnited States of America requires management to make estimates and assumptionsthat affect the amounts reported in the consolidated financial statements andthe accompanying notes. Actual results could differ from those estimates andsuch differences may be material to the consolidated financial statements.

 

*Revenue Recognition*

 

Occam recognizes revenue when persuasiveevidence of sales arrangements exist, delivery has occurred or services havebeen rendered, the buyer’s price is fixed or determinable and collection isreasonably assured. We allow credit for products returned within our policyterms.

 

4

----

Table of Contents

 

In addition to the aforementioned generalpolicy, we enter into transactions that represent multiple-elementarrangements, which may include training and post-sales technical support andmaintenance to our customers as needed to assist them in installation or use ofour products, and make provisions for these costs in the periods of sale.Multiple-element arrangements are assessed to determine whether they can beseparated into more than one unit of accounting. A multiple-element arrangementis separated into more than one unit of accounting if all of the followingcriteria are met:

 

·                  thedelivered item(s) has value to the customer on a stand-alone basis;

 

·                  thereis objective and reliable evidence of the fair value of the undelivereditem(s); and

 

·                  thearrangement includes a general right of return relative to the delivered item(s) anddelivery or performance of the undelivered item(s) is considered probableand substantially in our control.

 

If these criteria are not met, then revenueis deferred until such criteria are met or until the period(s) over whichthe last undelivered element is delivered. If there is objective and reliableevidence of fair value for all units of accounting in an arrangement, thearrangement consideration is allocated to the separate units of accountingbased on each unit’s relative fair value.

 

In certain circumstances, the Company entersinto arrangements with customers who receive financing support in the form oflong-term low interest rate loans from the United States Department ofAgriculture’s Rural Utilities Service, or RUS. The terms of certain RUScontracts provide that transfer of title of the Company’s products does notoccur until customer acceptance. In these cases, the Company does not recognizerevenue until payment has been received, assuming the remaining revenuerecognition criteria are met.

 

In certain circumstances, the Company entersinto transactions with value-added resellers where the resellers may not havethe ability to pay for these sales independent of payment to them by theend-user. In these cases, the Company does not recognize revenue until paymenthas been received, provided the remaining revenue recognition criteria are met.

 

We warrant our products forperiods up to five years and record an estimated warranty accrual when shipped.

 

**2. Fair Value Measurements**

 

Effective January 1, 2008, the Companyadopted SFAS No. 157, “Fair Value Measurements” (“SFAS 157”), except as itapplies to the nonfinancial assets and nonfinancial liabilities subject toFinancial Staff Position SFAS 157-2. SFAS 157 clarifies that fair value is anexit price, representing the amount that would be received to sell an asset orpaid to transfer a liability in an orderly transaction between marketparticipants. As such, fair value is a market-based measurement that should bedetermined based on assumptions that market participants would use in pricingan asset or a liability. As a basis for considering such assumptions, SFAS 157establishes a three-tier value hierarchy, which prioritizes the inputs used inthe valuation methodologies in measuring fair value:

 

Level 1 - Observable inputs that reflectquoted prices (unadjusted) for identical assets or liabilities in active markets.

 

Level 2 - Include other inputs that aredirectly or indirectly observable in the marketplace.

 

Level 3 - Unobservable inputs which aresupported by little or no market activity.

 

The fair value hierarchy also requires anentity to maximize the use of observable inputs and minimize the use ofunobservable inputs when measuring fair value.

 

In accordancewith SFAS 157, we measure our cash equivalents at fair value. Our cashequivalents are classified within Level 1. Cash equivalents are valuedprimarily using quoted market prices utilizing market observableinputs. At June 30, 2008, cash equivalents consisted of money marketfunds measured at fair value on a recurring basis. Fair value of our moneymarket funds was $18.4 million at June 30, 2008.

 

**3. Inventories**

 

Inventories consist of thefollowing (in thousands):

 
| ** **         | ** ** | **June 30,  2008** | ** ** | **December 31,  2007** | ** ** |
|--------------------|------------|-------------------------|------------|-----------------------------|------------|
| Raw materials      |       | $                       | 4          |                        | $          | 1,078 |   |
| Work-in-process    |       | 9                       |       | 14                          |       |
| Finished goods (1) |       | 16,492                  |       | 12,279                      |       |
|               |       | $                       | 16,505     |                        | $          | 13,371 |   |

 

----

(1)            $11.3 million and $8.8million of finished goods inventory were shipped to customers as of June 30,2008 and December 31, 2007, respectively. The majority were sent to RUScontract customers and value-added resellers. Revenue and related Cost ofRevenue were not recognized at the time of shipments as defined by the Company’srevenue recognition policy and therefore were included in inventories. For moreinformation regarding our revenue recognition policy, see Revenue Recognitionunder Note 1 to these financial statements.

 

5

----

Table of Contents

 

**4. Intangibles, net**

 

In October 2007, wepurchased certain assets from Terawave Communications, Inc., including abroadband passive optical network (BPON) line of business that addressedMetro-Ethernet/Telemetry applications. We intended to sell this line ofbusiness and recorded an intangible asset of approximately $0.8 million as ofthe asset acquisition date. During the period ended March 31, 2008, wewere unable to secure a feasible offer and therefore decided to terminate thesales efforts and instead focus on bringing new Gigabyte Passive OpticalNetwork (“GPON”) technology to market. As a result of this decision, we wrote-offboth the intangible asset and the related inventory.

 

In June 2008, wedetermined the intangible for customer relationships to be fully impaired andwrote-off the remaining unamortized balance of approximately $37,000. Valuationfor the intangible was based on estimated Broadband Passive Optical Network (“BPON”)revenues through 2009 from certain customers of Terwave Communications, Inc.With final shipments of our last-time-buy promotion of BPON products to formerTerawave customers during the period ended June 30, 2008, customerrelationships ceased to have future value for the Company.

 

**5. Net Income (Loss) Per Share**

 

The following table sets forththe computation of basic and diluted net income (loss) per share (in thousands,except per share data):

 
| ** **                                                                                  | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|---------------------------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                                                  | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**    | ** ** | **June 30, 2008** | ** ** | **June 30, 2007** | ** ** |
| ** **                                                                                  | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net loss attributable to common  stockholders                                               |       | $                                | (2,659     | )                              | $          | (946 | ) | $ | (7,199 | ) | $ | (917 | ) |
| **Shares used in computation:**                                                             |       |                             |       |                           |       |   |   |   |   |
| Weighted average common shares outstanding  used in computation of basic net loss per share |       | 19,801                           |       | 19,765                         |       | 19,791 |   | 19,752 |   |
| Dilutive effect of stock options                                                            |       | —                           |       | —                         |       | — |   | — |   |
| Dilutive effect of common stock warrants                                                    |       | —                           |       | —                         |       | — |   | — |   |
| Shares used in computation of diluted net  income (loss) per share                          |       | 19,801                           |       | 19,765                         |       | 19,791 |   | 19,752 |   |
| Basic and diluted net loss per share                                                        |       | $                                | (0.13      | )                              | $          | (0.05 | ) | (0.36 | ) | (0.05 | ) |
|                                                                                             |            |                                  |            |                                |            |  |  |  |  |  |  |  |  |

 

**6. Commitments and Contingencies**

 

The Company leases its officefacilities and certain equipment under non-cancelable operating leaseagreements, which expire at various dates through 2015. Operating leasescontain escalation clauses with annual base rent adjustments or a cost ofliving adjustment. Total rent expense for the six months ended June 30,2008 and June 30, 2007 was $0.8 million and $0.6 million, respectively.Approximate minimum annual lease commitments under non-cancelable operatingleases are as follows (in thousands):

 
| **Twelve Months Ending June 30,** | ** ** | ** ** | ** ** |
|-------------------------------------------------------|------------|------------|------------|
| 2009                                                  |       | $          | 1,359      |   |
| 2010                                                  |       | 1,415      |       |
| 2011                                                  |       | 1,451      |       |
| 2012                                                  |       | 1,487      |       |
| 2013                                                  |       | 1,524      |       |
| Thereafter                                            |       | 1,672      |       |
| Total Minimum Lease Payments                          |       | $          | 8,908      |   |

 

6

----

Table of Contents

 

***Royalties***

 

From time to time, the Companymay license certain technology for incorporation into its products. Under theterms of these multi-year agreements, royalty payments will be made based onper-unit sales of certain of the Company’s products. The Company incurred$146,000 and $70,000 of royalty expenses for the six months ended June 30,2008 and 2007, respectively.

 

***Legal Proceedings***

 

*2007 Class Action Litigation*

 

On April 26, 2007 and May 16, 2007,two putative class action complaints were filed in the United States DistrictCourt for the Central District of California against Occam and certain of itsofficers. The complaints allege that the defendants violated sections 10(b) and20(a) of the Securities Exchange Act of 1934, or the Exchange Act, and SECRule 10b-5 promulgated thereunder by making false and misleadingstatements and omissions relating to our financial statements and internalcontrols with respect to revenue recognition. The complaints seek, on behalf ofpersons who purchased our common stock during the period from May 2, 2006and April 17, 2007, damages of an unspecified amount.

 

On July 30, 2007, Judge Christina A.Snyder consolidated these actions into a single action, appointed NECA-IBEWPension Fund (The Decatur Plan) as lead plaintiff, and approved its selectionof lead counsel. On November 16, 2007, the lead plaintiff filed aconsolidated complaint. This consolidated complaint added as defendants certainof Occam’s current and former directors and officers, its current and formeroutside auditors, the lead underwriter of its secondary public offering in November 2006,and two venture capital firms who were early investors in Occam. Theconsolidated complaint alleged that defendants violated sections 10(b), 20(a) and20A of the Exchange Act and SEC Rule 10b-5 promulgated thereunder, as wellas sections 11 and 15 of the Securities Act of 1933, or Securities Act, bymaking false and misleading statements and omissions relating to our financialstatements and internal controls with respect to revenue recognition thatrequired restatement. The consolidated complaint seeks, on behalf of personswho purchased Occam’s common stock during the period from April 29, 2004to October 15, 2007, damages of an unspecified amount.

 

On January 25, 2008, defendants filedmotions to dismiss the consolidated complaint. On July 1, 2008, JudgeSnyder issued an order granting in part and denying in part defendants’motions. This order dismissed all claims against certain of our current andformer directors, the 20A claim in its entirety, the section 10(b) claimagainst the auditors and venture capital firms, and the section 11 claimsagainst the venture capital firms. On July 16, 2008, lead plaintiff filedan amended complaint to conform to the Court’s July 1, 2008 order.Defendants must answer this amended complaint on or before August 29,2008.

 

Occam believes that it has meritoriousdefenses in this action, and intends to defend itself vigorously. Failure byOccam to obtain a favorable resolution of the claims set forth in theconsolidated complaint could have a material adverse effect on its business,results of operations and financial condition. Currently, the amount of suchmaterial adverse effect cannot be reasonably estimated.

 

*IPO Allocation Litigation*

 

In June 2001, three putative stockholderclass action lawsuits were filed against Accelerated Networks, certain of itsthen officers and directors and several investment banks that were underwritersof Accelerated Networks’ initial public offering. The cases, which have sincebeen consolidated, were filed in the United States District Court for theSouthern District of New York. The Court appointed a lead plaintiff on April 16,2002, and the plaintiffs filed a consolidated amended class action complaint(the “Complaint”) on April 19, 2002. The Complaint was filed on behalf ofinvestors who purchased Accelerated Networks’ stock between June 22, 2000and December 6, 2000 and alleged violations of Sections 11 and 15 ofthe Securities Act and Sections 10(b) and 20(a) and Rule 10b-5of the Exchange Act against one or both of Accelerated Networks and theindividual defendants. The claims were based on allegations that theunderwriter defendants agreed to allocate stock in Accelerated Networks’initial public offering to certain investors in exchange for excessive andundisclosed commissions and agreements by those investors to make additionalpurchases in the aftermarket at pre-determined prices. The plaintiffs allegedthat the prospectus for Accelerated Networks’ initial public offering was falseand misleading in violation of the securities laws because it did not disclosethese arrangements. These lawsuits are part of the massive “IPO allocation”litigation involving the conduct of underwriters in allocating shares ofsuccessful initial public offerings. We believe that over three hundred othercompanies have been named in more than one thousand similar lawsuits that havebeen filed by some of the same plaintiffs’ law firms. In October 2002, theplaintiffs voluntarily dismissed the individual defendants without prejudice.On February 1, 2003 a motion to dismiss filed by the issuer defendants washeard and the court dismissed the 10(b), 20(a) and rule 10b-5 claimsagainst Occam. On October 13, 2004, the Court certified a class in six ofthe approximately 300 other nearly identical actions (the “focus” cases) andnoted that the decision was intended to provide guidance to all partiesregarding class certification in the remaining cases. The underwriterdefendants appealed the decision and the Second Circuit Court of Appealsvacated the district court’s decision granting class certification in those sixcases on December 5, 2006. The plaintiffs filed a motion for rehearing. OnApril 6, 2007, the Second Circuit denied the petition, but noted that theplaintiffs could ask the District Court to certify a more narrow class than theone that was rejected. On October 3, 2007, the plaintiffs filed a motionto certify a new class and a second amended complaint based on the Second CircuitAppeals Court decision. An opposition brief was filed by both underwriterdefendants and the issuer defendants on December 21, 2007, and a replybrief was filed on January 28, 2008. The plaintiffs filed an amended replybrief on March 28, 2008, in support of their motion to certify the classof plaintiffs. The underwriter defendants and the issuer defendants have until August 31,2008 to file an answer to the amended complaint. The Court has not ruled on themotion. The insurers, the underwriters and the plaintiffs subsequently agreedto global mediation in the interest of trying to resolve this case without thefurther need for litigation. The mediation commenced in late June and willlikely go through the end of August 2008.

 

7

----

Table of Contents

 

Prior to the Second Circuit’s December 5,2006 ruling, we agreed, together with over three hundred other companiessimilarly situated, to settle with the plaintiffs. A settlement agreement andrelated agreements were submitted to the Court for approval. The settlementwould have provided, among other things, a release of the Company and of theindividual defendants for the conduct alleged to be wrongful in the Complaintin exchange for a guarantee from the Company’s insurers regarding recovery fromthe underwriter defendants and other consideration from the Company regardingits underwriters. In light of the Second Circuit opinion, liaison counsel forthe issuers informed the District Court that the settlement cannot be approvedbecause the defined settlement class, like the litigation class, cannot becertified. We cannot predict whether we will be able to renegotiate asettlement that complies with the Second Circuit’s mandate.

 

Due to the inherent uncertainties oflitigation, we cannot accurately predict the ultimate outcome of the matter. Wehave not recorded any accrual related to this proposed settlement because Occamexpects any settlement amounts to be covered by its insurance policies.

 

*Threatened Litigation*

 

In late 2007, Occam received a letter fromVanessa Simmonds, a putative shareholder of the Company, demanding that Occaminvestigate and prosecute a claim for alleged short-swing trading in violationof Section 16(b) of the Exchange Act, by the underwriter of itsinitial public offering (“IPO”) and certain unidentified directors, officersand shareholders of Occam (then known as Accelerated Networks). Occam evaluatedthe demand and declined to prosecute the claim. On October 12, 2007, theputative shareholder commenced a civil lawsuit in the U.S. District Court forthe Western District of Washington against Credit Suisse Group, the leadunderwriter of Occam’s IPO, alleging violations of Section 16(b). Thecomplaint alleges that the combined number of shares of Occam’s common stockbeneficially owned by the lead underwriter and certain unnamed officers,directors, and principal shareholders exceeded ten percent of its outstandingcommon stock from the date of Occam’s IPO on June 23, 2000, through atleast June 22, 2001. It further alleges that those entities andindividuals were thus subject to the reporting requirements of Section 16(a) andthe short-swing trading prohibition of Section 16(b), and failed to complywith those provisions. The complaint seeks to recover from the lead underwriterany “short-swing profits” obtained by it in violation of Section 16(b).Occam was named as a nominal defendant in the action, but has no liability forthe asserted claims. No directors or officers of Occam are named as defendantsin this action.

 

On October 29, 2007, the case wasreassigned to Judge James L. Robart along with fifty-four other Section 16(b) casesseeking recovery of short-swing profits from underwriters in connection withvarious IPOs. The court is in discussion with plaintiffs and defendants on howto proceed including law and motion filings. Occam has waived service and willvigorously defend the litigation.

 

Due to the inherent uncertainties ofthreatened litigation, we cannot accurately predict the ultimate outcome of thematter, but we believe that the outcome of this litigation will not have amaterial adverse impact on our consolidated financial position and results ofoperations. We have not recorded any accruals related to the demand letters or Section 16(b) litigationbecause we expect any resulting resolution to be covered by our insurancepolicies.

 

*Other Matters*

 

From time to time, the Companyis subject to threats of litigation or actual litigation in the ordinary courseof business, some of which may be material. The Company believes that there areno currently pending matters that, if determined adversely to the Company,would have a material effect on its business or that would not be covered byits existing liability insurance.

 

8

----

Table of Contents

 

*Indemnifications and Guarantees*

 

The Company enters intoindemnification provisions under its agreements with other companies in theordinary course of business, typically with its contractors, customers,value-added resellers, and landlords. In connection with its 2006 offering, theCompany also agreed to indemnify the underwriters in the offering and certainstockholders who sold shares as part of the offering with respect to certainliabilities arising from the offering. Under these provisions, the Companygenerally indemnifies and hold harmless the indemnified party for lossessuffered or incurred by the indemnified party as a result of its activities or,in some cases, as a result of the indemnified party’s activities under theagreement. These indemnification provisions generally survive termination ofthe underlying agreement. The maximum potential amount of future payments theCompany could be required to make under these indemnification provisions isgenerally unlimited. As of June 30, 2008, the Company had not incurredmaterial costs to defend lawsuits or settle claims related to theseindemnification agreements and the Company has no liabilities recorded forthese agreements as of June 30, 2008 and December 31, 2007.

 

*Purchase Orders*

 

Under the terms of Occam’scontract manufacturer agreements, Occam is required to place orders with itscontract manufacturers to provide inventory to meet its estimated sales demand.Certain contract manufacturer agreements include production forecast change,lead-time and cancellation provisions. At June 30, 2008, open purchaseorders with contract manufacturers were $16.0 million.

 

*Warranties*

 

Occam provides standardwarranties with the sale of products for up to five years from date ofshipment. The estimated cost of providing the product warranty is recorded atthe time of shipment. Occam maintains product quality programs and processesincluding actively monitoring and evaluating the quality of its suppliers.Occam quantifies and records an estimate for warranty related costs based onOccam’s actual history, projected return and failure rates and current repairand replacement costs. The following table summarizes changes in Occam’saccrued warranty liability that is included in accrued expenses (in thousands):

 
| ** **                                 | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                 | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**    | ** ** | **June 30, 2008** | ** ** | **June 30, 2007** | ** ** |
| ** **                                 | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Balance at  beginning of period            |       | $                                | 3,648      |                           | $          | 2,107 |   | $ | 3,470 |   | $ | 1,862 |   |
| Warranty  provision expensed during period |       | 464                              |       | 1,134                          |       | 951 |   | 1,821 |   |
| Warranty  utilization                      |       | (402                             | )          | (469                           | )          | (711 | ) | (911 | ) |
| Balance at  end of period                  |       | $                                | 3,710      |                           | $          | 2,772 |   | $ | 3,710 |   | $ | 2,772 |   |

 

**7.Accrued Expenses**

 

The majorcomponents of accrued expenses are (in thousands):

 
| ** **                                   | ** ** | **June 30,  2008** | ** ** | **December 31,  2007** | ** ** |
|----------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| ** **                                   | ** ** | ** **              | ** ** | ** **                  | ** ** |
| Warranty  accruals                           |       | $                       | 3,710      |                        | $          | 3,470 |   |
| Payroll,  paid time off and related accruals |       | 2,037                   |       | 1,032                       |       |
| Commissions                                  |       | 466                     |       | 250                         |       |
| Royalty  accruals                            |       | 410                     |       | 368                         |       |
| Other accruals                               |       | 744                     |       | 1,344                       |       |
| Total                                        |       | $                       | 7,367      |                        | $          | 6,464 |   |

 

9

----

Table of Contents

 

**8. Stock Options, Stock Awards, EmployeeStock Purchase Plan, and Share-Based Compensation**

 

A summary of the Company’sequity incentive plan activities is as follows (in thousands):

 
| ** **                            | ** ** | **Shares** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Weighted-  Average  Remaining  Contractual  Term** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|---------------------------------------|------------|------------|------------|-----------------------------------------|------------|------------------------------------------------------|------------|---------------------------------|------------|
| Exerciseable  at January 1, 2008 |       | 3,014      |       | $                                       | 7.17       |                                                 |       |                            |       |   |
| Granted                               |       | 168        |       | $                                       | 4.30       |                                                 |       |                            |       |   |
| Exercised                             |       | (19        | )          | $                                       | 3.53       |                                                 |       |                            |       |   |
| Forfeited or  expired                 |       | (195       | )          | $                                       | 8.22       |                                                 |       |                            |       |   |
| Outstanding  at June 30, 2008    |       | 2,968      |       | $                                       | 6.96       |                                                 | 7.42       |                            | $          | 734 |   |
| Exerciseable  at June 30, 2008   |       | 1,462      |       | $                                       | 7.84       |                                                 | 5.76       |                            | $          | 147 |   |

 

Weighted-average fair value foroptions granted during the six months ended June 30, 2008 was $2.29 per share.

 

During the sixmonths ended June 30, 2008, the Company reserved an additional 593,212shares of the Company’s common stock for issuance pursuant to the 2006 EquityIncentive Plan. The 2006 Equity Incentive Plan provides for annual increases inthe number of shares available for issuance thereunder on the first day of eachfiscal year, beginning with fiscal 2007, equal to the lesser of :

 

·                  3.0% of the outstanding shares of theCompany’s common stock on the first day of the fiscal year;

 

·                  750,000 shares; or

 

·                  such other amount as the Company’sboard of directors or a committee thereof may determine.

 

***Stock Awards***

 

A summary ofthe Company’s restricted stock unit activities is as follows (in thousands):

 
| ** **                           | ** ** | **Shares** | ** ** | **Weighted-  Average  Remaining  Contractual  Term** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|--------------------------------------|------------|------------|------------|------------------------------------------------------|------------|---------------------------------|------------|
| Outstanding  at January 1, 2008 |       | 390        |       |                                                 |       |                            |       |
| Awarded                              |       | 35         |       |                                                 |       |                            |       |
| Released                             |       | (41        | )          |                                                 |       |                            |       |
| Forfeited or  expired                |       | (21        | )          |                                                 |       |                            |       |
| Outstanding  at June 30, 2008   |       | 363        |       | 1.65                                                 |       | $                               | 906        |   |
|                                      |            |            |            |                                                      |            |                                 |            |  |

 

***Employee StockPurchase Plan***

 

In March 2008, the Board of Directors approved an amendment to the 2006Employee Stock Purchase Plan. The amendment increased the maximum number ofshares of the Company’s common stock that an eligible employee may purchaseduring each offering period from 1,000 shares to 5,000 shares. Employeeparticipation in the plan resumed in November 2007 and the next issuance ofshares under the plan is scheduled for August 2008.

 

10

----

Table of Contents

 

***Stock-Based Compensation***

 

The following table summarizesthe impact of SFAS 123(R) on stock-based compensation costs foremployees on our Consolidated Statements of Operations for the three and sixmonths ended June 30, 2008 and 2007 (in thousands):

 
| ** **                                                                  | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                                  | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**    | ** ** | **June 30, 2008** | ** ** | **June 30, 2007** | ** ** |
| ** **                                                                  | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Employee  stock-based compensation in:**                                  |       |                             |       |                           |       |   |   |   |   |
| Cost of  revenue                                                            |       | $                                | 111        |                           | $          | 21 |   | $ | 218 |   | $ | 123 |   |
| Research and  product development expense                                   |       | 329                              |       | 142                            |       | 625 |   | 378 |   |
| Sales and  marketing expense                                                |       | 221                              |       | 73                             |       | 408 |   | 278 |   |
| General and  administrative expense                                         |       | 237                              |       | 127                            |       | 469 |   | 297 |   |
| Total SFAS  123(R) stock-based compensation in operating expenses |       | 787                              |       | 342                            |       | 1,502 |   | 953 |   |
| Total SFAS  123(R) stock-based compensation                            |       | $                                | 898        |                           | $          | 363 |   | $ | 1,720 |   | $ | 1,076 |   |

 

As of June 30,2008, total unamortized stock-based compensation cost related to non-vestedstock options after accounting for estimated forfeitures was $5.1 million,which the Company expects to recognize over the remaining vesting period ofeach grant, up to the next 48 months.

 

Upon adoptionof SFAS 123(R), we selected the Black-Scholes option pricing model as themost appropriate model for determining the estimated fair value for stock-basedawards. The use of the Black-Scholes model requires the use of extensive actualemployee exercise behavior data and the use of a number of complex assumptionsincluding expected volatility, risk-free interest rate, forfeitures, andexpected dividends. The assumptions used to value options granted are asfollows:

 
| ** **               | ** ** | **Six Months Ended** | ** ** |
|--------------------------|------------|--------------------------------|------------|
| ** **               | ** ** | **June 30,  2008**        | ** ** | **June 30,  2007** | ** ** |
| Risk-free  interest rate |       | 3.3                            | %          | 5.0 | % |
| Expected  term (years)   |       | 4.9                            |       | 4.9 |   |
| Dividend  yield          |       | 0                              | %          | 0 | % |
| Expected  volatility     |       | 60                             | %          | 55 | % |

 

The risk-free interest rate isbased on the U.S. Treasury yield curve in effect at the time of grant. We donot anticipate declaring dividends in the foreseeable future. Expectedvolatility is based on the annualized weekly historical volatility of our stockprice and we believe it is indicative of future volatility. We estimate theexpected life of options granted based on historical exercise and post-vestingcancellation patterns with consideration of our industry peers of similar sizewith similar option vesting periods. Our analysis of stock price volatility andoption lives involves management’s best estimates at the time of determination.SFAS 123(R) also requires that we recognize compensation expense for onlythe portion of options or stock units that are expected to vest. Therefore, weapply an estimated forfeiture rate that is derived from historical employeetermination behavior. If the actual number of forfeitures differs from thoseestimated by management, additional adjustments to compensation expense may berequired in future periods.

 
| **ITEM 2.** | ** ** | **MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND  RESULTS OF OPERATIONS** |
|-------------|------------|-------------------------------------------------------------------------------------------------|

 

*You should read the following discussion and analysis in conjunctionwith our condensed consolidated financial statements and the related notesthereto included in this Report on Form 10-Q and with Management’sDiscussion and Analysis of Financial Condition and Results of Operationscontained in the Company’s Annual Report on Form 10-K for the year ended December 31,2007. The discussion in this Report contains both historical information andforward-looking statements. A number of factors affect our operating resultsand could cause our actual future results to differ materially from anyforward-looking results discussed below. In some cases, you can identifyforward-looking statements by terminology such as “anticipates,” “appears,” “believes,”“continue,” “could,” “estimates,” “expects,” “feels,” “goal,” “hope,” “intends,”“may,” “our future success depends,” “plans,” “potential,” “predicts,” “projects,”“reasonably,” “seek to continue,” “should,” “thinks,” “will” or the negative ofthese terms or other comparable terminology. These*

 

11

----

Table of Contents

 

*statementsare only predictions. Actual events or results may differ materially. Inaddition, historical information should not be considered an indicator offuture performance. Factors that could cause or contribute to these differencesinclude, but are not limited to, the risks discussed in this Report in Part II,Item 1A under the caption “Risk Factors.” These factors may cause ouractual results to differ materially from any forward-looking statements.*

 

*Although we believe that the expectations reflected in theforward-looking statements are reasonable, we cannot guarantee future results,levels of activity, performance or achievements. Moreover, we are under no dutyto update any of the forward-looking statements after the date of this Reporton Form 10-Q to conform these statements to actual results. Theseforward-looking statements are made in reliance upon the safe harbor provisionof The Private Securities Litigation Reform Act of 1995.*

 

**Overview**

 

We develop,market and support innovative broadband access products designed to enabletelecom service providers to offer bundled voice, video and high speedinternet, or Triple Play, services over both copper and Gigabit Point-to-pointfiber optic networks. Our Broadband Loop Carrier, or BLC, is an integratedhardware and software platform that uses Internet Protocol, or IP, and Ethernettechnologies to increase the capacity of local access networks, enabling ourcustomers to deliver advanced services, including voice-over-IP, or VoIP,IP-based television, or IPTV, video-on-demand, or VoD, and high-definitiontelevision, or HDTV. Our platform simultaneously supports traditional voice anddata services, enabling our customers to leverage their existing networks andmigrate to IP without disruption. In addition to providing our customers withincreased bandwidth, our products provide incremental value by offeringsoftware-based features to improve the quality, resiliency and security ofnetwork service offerings. We market our products through a combination ofdirect and indirect channels. Our direct sales efforts are focused on theincumbent local exchange providers, or ILECs, segment of the telecom serviceprovider market. As of June 30, 2008, we had shipped our BLC platform toover 300 service provider customers.

 

From ourinception through June 30, 2008, we have incurred cumulative net losses ofapproximately $127.0 million. We realized income from operations and wereprofitable on a net income basis during the quarters ended September 24,2006 and December 31, 2006 and for the year ended December 31, 2006.Previously, we had not been profitable on a quarterly or annual basis,excluding the quarter ended December 25, 2005, in which we realized modestoperating income of $3,000. We experienced operating and net losses in thesecond, third and fourth quarters of fiscal 2007 and for fiscal 2007 as awhole.

 

In the second and thirdquarters of 2007, we experienced a softening in our business. We believe thissoftening was attributable in part to delays associated with our customers’evaluations of strategic investment decisions concerning their movement fromcopper wire to fiber, in part to a shift in our customer base toward longerterm loan projects funded by the U.S. Department of Agriculture’s RuralUtilities Service, or RUS program, and delays in our financial reporting. Inthe fourth quarter of 2007, we experienced an improvement in our business, withboth revenues and gross margin increasing significantly from the third quarter.In particular, we benefited from strong seasonal spending from our customerbase, a new customer in Guam, and an apparent increase in customer confidence,which we attribute in part to the completion of our restatement and our thenrequired SEC filings. While we expect the transition from copper wire to fiberto continue in 2008, we believe that the pace and impact of this transitionwill vary from quarter-to-quarter.

 

**Critical Accounting Policies and Estimates**

 

Management’sDiscussion and Analysis of Financial Condition and Results of Operationsdiscusses our consolidated financial statements, which have been prepared inaccordance with accounting principles generally accepted in the United Statesof America. The preparation of these consolidated financial statements requiresus to make estimates and assumptions that affect the reported amounts of assetsand liabilities and the disclosure of contingent assets and liabilities at thedate of the consolidated financial statements and the reported amounts ofrevenue and expenses during the reporting period. On an ongoing basis, weevaluate our estimates and judgments, including those related to revenuerecognition, accounts receivable, inventories, litigation, warranty reserve,stock-based compensation, and valuation of deferred income tax assets. We baseour estimates and judgments on historical experience and on various otherfactors that are believed to be reasonable under the circumstances, the resultsof which form the basis for making judgments about the carrying values ofassets and liabilities that are not readily apparent from other sources.

 

We included in our AnnualReport on Form 10-K for the year ended December 31, 2007 a discussionof our most critical accounting policies, which are those that are mostimportant to the portrayal of our financial condition and results of operationsand require management’s most difficult, subjective and complex judgments,often as a result of the need to make estimates about the effect of mattersthat are inherently uncertain. We did not make changes to such criticalaccounting policies during the six months ended June 30, 2008.

 

12

----

Table of Contents

 

**Results of Operations**

 

***Three-months ended June 30, 2008 and June 30,2007***

 

*Revenue*

 
| ** ** | ** ** | **Three Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|------------|------------|----------------------------------|------------|-----------------------------------------------------------|------------|
| ** ** | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** ** | ** ** | ** **                       | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenue    |       | $                                | 22,826     |                                                      | $          | 19,237 |   | $ | 3,589 |   | 19 | % |
|            |            |                                  |            |                                                           |            |  |  |  |  |  |  |  |

 

Our revenue is principallycomprised of our BLC 6000 series system product line, cabinets and relatedaccessories. Revenue increased by $3.6 million or 19% to$22.8 million for the three months ended June 30, 2008 as compared torevenue of $19.2 million for the three months ended June 30, 2007.This increase in our revenue for the three months ended June 30, 2008 wasdue to the expansion of our customer base and repeat orders from existingcustomers. We are noticing a shift in our customer base toward longer term loanprojects funded by RUS, a trend that could affect the timing of revenuerecognition. Additionally, our customers are indicating increased uncertaintyconcerning the current credit situation in the marketplace which couldadversely affect their capital investment decisions and ability to obtainfinancing. We currently expect modest growth in 2008 revenue relative to 2007.

 

*Cost of revenue and gross margin*

 
| ** **               | ** ** | **Three Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|--------------------------|------------|----------------------------------|------------|-----------------------------------------------------------|------------|
| ** **               | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **               | ** ** | ** **                       | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Cost of  revenue         |       | $                                | 12,731     |                                                      | $          | 12,125 |   | $ | 606 |   | 5 | % |
| Gross margin             |       | $                                | 10,095     |                                                      | $          | 7,112 |   | $ | 2,983 |   | 42 | % |
| Gross margin  percentage |       | 44                               | %          | 37                                                        | %          |   |   |   |   |

 

Cost of revenue includes thecost of products shipped for which revenue was recognized, warranty costs,costs of any manufacturing yield problems, field replacements, re-work costs,manufacturing overhead, provisions for obsolete inventory and the cost ofpost-sales support. Cost of revenue increased by $0.6 million or 5% to$12.7 million for the three months ended June 30, 2008 as compared to$12.1 million for the three months ended June 30, 2007. The increasein cost of revenue during the three months ended June 30, 2008 wasattributable primarily to increased shipments and sales of our products.

 

Gross margin increased to 44% of revenue forthree months ended June 30, 2008 compared to gross margin of 37% ofrevenue for the three months ended June 30, 2007. The increase in grossmargin for the three months ended June 30, 2008 was primarily the resultof incremental revenue, lower product costs and a one-time reduction in awarranty provision. For the three months ended June 30, 2007, gross marginwas adversely affected by a $0.5 million warranty accrual related to designissues associated with a transistor that resulted in potential equipmentdisruption. The design issues required a re-engineering effort and resultingspecific warranty accrual.

 

We expect that our grossmargins will fluctuate from quarter-to-quarter due in part to variations inproduct mix, production start-up of new products, increase in costs such asenergy and the transitioning of our manufacturing to China. To the extent thatcabinets and other lower-margin products represent an increased percentage ofour total revenue in any period, it will tend to reduce our gross margin.

 

*Research and development expenses*

 
| ** **                                           | ** ** | **Three Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|------------------------------------------------------|------------|----------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                           | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **                                           | ** ** | ** **                       | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Research and  development                            |       | $                                | 4,774      |                                                      | $          | 3,040 |   | $ | 1,734 |   | 57 | % |
| Research and  development as a percentage of revenue |       | 21                               | %          | 16                                                        | %          |   |   |   |   |
|                                                      |            |                                  |            |                                                           |            |  |  |  |  |  |  |  |

 

13

----

Table of Contents

 

Research and developmentexpenses consist primarily of salaries and other personnel-related costs,prototype component and assembly costs, third-party design services andconsulting costs, and other costs related to the design, development, andtesting of our products. Research and development costs are expensed asincurred, except for capital expenditures, which are capitalized anddepreciated over their estimated useful lives, generally two to five years.Research and development expenses increased by $1.7 million or 57% to$4.8 million for the three months ended June 30, 2008 as compared to$3.0 million for the three months ended June 30, 2007. The increasein research and development expenses was attributable to the development of ourGigabit Passive Optical Networks (“GPON”) products, including expenses relatedto certain assets of Terawave Communications, Inc. purchased on October 25,2007. The development of GPON brought with it an increase in head-count, salaryand personnel-related costs, and third-party design and test costs. Wecurrently expect research and development expenses to continue to increase infuture periods as we continue to make investments in our products andtechnologies.

 

*Sales and marketing expenses*

 
| ** **                                      | ** ** | **Three Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|-------------------------------------------------|------------|----------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                      | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **                                      | ** ** | ** **                       | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Sales and  marketing                            |       | $                                | 5,105      |                                                      | $          | 3,591 |   | $ | 1,514 |   | 42 | % |
| Sales and  marketing as a percentage of revenue |       | 22                               | %          | 19                                                        | %          |   |   |   |   |
|                                                 |            |                                  |            |                                                           |            |  |  |  |  |  |  |  |

 

Sales and marketing expensesconsist primarily of salaries, sales commissions, and other personnel-relatedcosts, development and distribution of promotional materials, and other costsrelated to generating sales and conducting corporate marketing activities.Sales and marketing expenses increased by $1.5 million or 42% to$5.1 million for the three months ended June 30, 2008 as compared to$3.6 million for the three months ended June 30, 2007. This increasewas primarily due to increased headcount, commissions and marketing eventexpenses. Also contributing to the increase was a change to our Sales IncentiveCompensation Plan effective January 2008, which changed from 50% ofcommission earned when orders booked and 50% of commissions earned when ordersshipped to 100% commission earned when orders are booked. We currently expectsales and marketing expenses through the end of 2008 to remain consistent withcurrent expense levels.

 

*General and administrative expenses*

 
| ** **                                             | ** ** | **Three Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|--------------------------------------------------------|------------|----------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                             | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **                                             | ** ** | ** **                       | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| General and  administrative                            |       | $                                | 3,080      |                                                      | $          | 2,211 |   | $ | 869 |   | 39 | % |
| General and  administrative as a percentage of revenue |       | 13                               | %          | 11                                                        | %          |   |   |   |   |
|                                                        |            |                                  |            |                                                           |            |  |  |  |  |  |  |  |

 

General and administrativeexpenses consist primarily of salaries and other personnel-related costs forexecutive, finance, human resources, and administrative personnel.Additionally, general and administrative expenses include professional fees,liability insurance and other general corporate costs. General andadministrative expenses increased by $0.9 million or 39% to$3.1 million for the three months ended June 30, 2008 as compared to$2.2 million for the three months ended June 30, 2007. General andadministrative expenses increased primarily due to increased legal fees relatedto outstanding stockholder litigation, salaries and other costs related tocertain remedial measures to address internal control weaknesses identified in2007. We currently expect legal fees related to outstanding stockholderlitigation to be reimbursed by our are insurance carriers, subject toapplicable retentions. However, legal fees associated with indemnificationobligations to underwriters and certain selling stockholders are not covered byinsurance. The timing of the claim receipts and reimbursements will affect theamount of expense being reported in any given period. We currently expectgeneral and administrative expenses for the remainder of 2008 to remain atcurrent levels.

 

*Stock-based compensation*

 
| ** **                      | ** ** | **Three Months Ended** | ** ** |
|---------------------------------|------------|----------------------------------|------------|
| ** **                      | ** ** | **June 30,  2008**          | ** ** | **June 30,  2007** | ** ** |
| ** **                      | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Cost of  revenue                |       | $                                | 111        |   | $ | 21 |   |
| Research and  development       |       | 329                              |       | 142 |   |
| Sales and  marketing            |       | 221                              |       | 73 |   |
| General and  administrative     |       | 237                              |       | 127 |   |
| Total  stock-based compensation |       | $                                | 898        |   | $ | 363 |   |

 

14

----

Table of Contents

 

Stock-basedcompensation expense increased by approximately $0.5 million or 147% to$0.9 million for the three months ended June 30, 2008 as compared toapproximately $0.4 million for the three months ended June 30, 2007.This increase is primarily attributable to a decrease in the estimatedforfeiture rate used in our stock-based compensation expense calculations andgrants of additional options. We anticipate that the stock-based compensationexpense calculated under SFAS No. 123(R) will continue to have amaterial effect on our consolidated statement of operations.

 

*Other income (expense), net*

 

Other expense,net consisted primarily of an impairment charge related to customerrelationships acquired from Terawave Communications, Inc.

 

*Interest income (expense), net*

 
| ** **                            | ** ** | **Three Months Ended** | ** ** | **Increase (Decrease) 2008 vs.  2007** | ** ** |
|---------------------------------------|------------|----------------------------------|------------|-------------------------------------------------------|------------|
| ** **                            | ** ** | **June 30, 2008**      | ** ** | **June 30, 2007**                           | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **                            | ** ** | ** **                       | ** ** | ** **                                            | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest  income                      |       | $                                | 299        |                                                  | $          | 784 |   | $ | (485 | ) | 62 | % |
| Interest  expense                     |       | (24                              | )          | —                                                |       | (24 | ) | N/A |   |
| Total interest  income (expense), net |       | $                                | 275        |                                                  | $          | 784 |   | $ | (509 | ) | 65 | % |

 

Interest income and expense,net decreased by $0.5 million or 65% to $0.3 million for the threemonths ended June 30, 2008, as compared to $0.8 million for the threemonths ended June 30, 2007. The decrease in interest income was primarilyattributable to lower average cash balances.

 

*Income tax expense*

 

For income tax purposes, weconsider our projected annual income and the utilization of our net operatingloss carryforwards among other factors. For the three months ended June 30,2008 and 2007, we provided $22,000 and none respectively, for federal and stateincome taxes.

 

***Six months ended June 30, 2008 and June 30,2007***

 

*Revenue*

 
| ** ** | ** ** | **Six Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|------------|------------|--------------------------------|------------|-----------------------------------------------------------|------------|
| ** ** | ** ** | **June 30, 2008**    | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** ** | ** ** | ** **                     | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenue    |       | $                              | 42,479     |                                                      | $          | 38,224 |   | $ | 4,255 |   | 11 | % |
|            |            |                                |            |                                                           |            |  |  |  |  |  |  |  |

 

Revenue increased by$4.3 million or 11% to $42.5 million for the six months ended June 30,2008 as compared to revenue of $38.2 million for the six months ended June 30,2007. This increase was primarily attributable to an expanded customer base,repeat orders from existing customers and increased sales of BLC 6000 products,related accessories and cabinets, and an increase in the recognition of previouslydeferred revenue. Revenue during the six months ended June 30, 2008,included approximately $1.0 million for a last-time-buy opportunity of BPONproducts to former Terawave customers. We currently expect modest growth in2008 revenue relative to 2007.

 

*Cost of revenue and gross margin*

 
| ** **               | ** ** | **Six Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|--------------------------|------------|--------------------------------|------------|-----------------------------------------------------------|------------|
| ** **               | ** ** | **June 30, 2008**    | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **               | ** ** | ** **                     | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Cost of  revenue         |       | $                              | 23,951     |                                                      | $          | 24,095 |   | $ | (144 | ) | (1 | )% |
| Gross margin             |       | $                              | 18,528     |                                                      | $          | 14,129 |   | $ | 4,399 |   | 31 | % |
| Gross margin  percentage |       | 44                             | %          | 37                                                        | %          |   |   |   |   |

 

15

----

Table of Contents

 

Cost of revenue decreased by$0.1 million or 1% to $24.0 million for the six months ended June 30,2008 as compared to $24.1 million for the six months ended June 30, 2007.The decrease in cost of revenue during the six months ended June 30, 2008was attributable primarily to increased shipments and sales of our products.

 

Gross margin increased to 44%of revenue in the six months ended June 30, 2008 compared to gross marginof 37% of revenue for the six months ended June 30, 2007. The increase ingross margin for the six months ended June 30, 2008 was primarily theresult of incremental revenue, lower product costs and a one-time reduction ina warranty provision.. For the six months ended June 30, 2007, grossmargin was adversely affected by additional costs a $0.5 million warrantyaccrual related to design issues associated with a transistor that resulted inpotential equipment disruption. The design issues required a re-engineeringeffort and resulting specific warranty accrual. These accruals were based uponexperience with failures of certain parts and based on estimated repair costs.

 

We expect that our grossmargins will fluctuate due in part to variations in product mix, productionstart-up of new products, increase in costs such as energy and thetransitioning of our manufacturing to China. To the extent that cabinets andother lower-margin products represent an increased percentage of our totalrevenue, it will tend to reduce our gross margin.

 

*Research and development expenses*

 
| ** **                                           | ** ** | **Six Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|------------------------------------------------------|------------|--------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                           | ** ** | **June 30, 2008**    | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **                                           | ** ** | ** **                     | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Research and  development                            |       | $                              | 9,333      |                                                      | $          | 5,740 |   | $ | 3,593 |   | 63 | % |
| Research and  development as a percentage of revenue |       | 22                             | %          | 15                                                        | %          |   |   |   |   |
|                                                      |            |                                |            |                                                           |            |  |  |  |  |  |  |  |

 

Research and developmentexpenses increased by $3.6 million or 63% to $9.3 million for the sixmonths ended June 30, 2008 as compared to $5.7 million for the sixmonths ended June 30, 2007. The increase in research and developmentexpenses was attributable to increased personnel-related costs and third-partydesign costs. We currently expect research and development expenses to continueto increase in future periods as we continue to make investments in ourproducts and technologies.

 

*Sales and marketing expenses*

 
| ** **                                      | ** ** | **Six Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|-------------------------------------------------|------------|--------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                      | ** ** | **June 30, 2008**    | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **                                      | ** ** | ** **                     | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Sales and  marketing                            |       | $                              | 10,083     |                                                      | $          | 7,051 |   | $ | 3,032 |   | 43 | % |
| Sales and  marketing as a percentage of revenue |       | 24                             | %          | 18                                                        | %          |   |   |   |   |
|                                                 |            |                                |            |                                                           |            |  |  |  |  |  |  |  |

 

Sales and marketing expensesincreased by $3.0 million or 43% to $10.1 million for the six monthsended June 30, 2008 as compared to $7.1 million for the six monthsended June 30, 2007. This increase was primarily due to increasedheadcount, commissions and marketing events. We currently expect sales andmarketing expenses to remain unchanged from their present levels through theend of 2008.

 

*General and administrative expenses*

 
| ** **                                             | ** ** | **Six Months Ended** | ** ** | **Increase (Decrease) 2008 vs. 2007** | ** ** |
|--------------------------------------------------------|------------|--------------------------------|------------|-----------------------------------------------------------|------------|
| ** **                                             | ** ** | **June 30, 2008**    | ** ** | **June 30, 2007**                               | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **                                             | ** ** | ** **                     | ** ** | ** **                                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| General and  administrative                            |       | $                              | 6,203      |                                                      | $          | 3,812 |   | $ | 2,391 |   | 63 | % |
| General and  administrative as a percentage of revenue |       | 15                             | %          | 10                                                        | %          |   |   |   |   |
|                                                        |            |                                |            |                                                           |            |  |  |  |  |  |  |  |

 

General and administrativeexpenses increased by $2.4 million or 63% to $6.2 million for the sixmonths ended June 30, 2008 as compared to $3.8 million for the sixmonths ended June 30, 2007. General and administrative expenses increasedprimarily due to increased legal fees related to outstanding stockholderlitigation, stock-based compensation charges, salaries, and labor-related coststo address internal control weaknesses identified in the audit. We currentlyexpect general and administrative expenses for the remainder of 2008 to remainat the same level.

 

16

----

Table of Contents

 

*Stock-based compensation*

 
| ** **                      | ** ** | **Six Months Ended** | ** ** |
|---------------------------------|------------|--------------------------------|------------|
| ** **                      | ** ** | **June 30,   2008**  | ** ** | **June 30,  2007** | ** ** |
| ** **                      | ** ** | ** **                     | ** ** | ** ** | ** ** |
| Cost of  revenue                |       | $                              | 218        |   | $ | 123 |   |
| Research and  development       |       | 625                            |       | 378 |   |
| Sales and  marketing            |       | 408                            |       | 278 |   |
| General and  administrative     |       | 469                            |       | 297 |   |
| Total  stock-based compensation |       | $                              | 1,720      |   | $ | 1,076 |   |

 

Stock-based compensationexpenses increased by approximately $0.6 million or 60% to$1.7 million for the six months ended June 30, 2008 as compared toapproximately $1.1 million for the six months ended June 30, 2007.This increase is primarily attributable to a change in the forfeiture rate usedin our stock-based compensation expense calculations and grants of additionaloptions. We anticipate that the stock-based compensation expense calculatedunder SFAS No. 123(R) will continue to have a material effect on ourconsolidated statement of operations.

 

*Other income (expense), net*

 

Other expense,net was $0.7 million for the six months ended June 30, 2008 as compared tonone for the six months ended June 30, 2007. During the period endedMarch, 31, 2008, we wrote-off an intangible for technology developed forMetro-Ethernet/Telemetry technology of $0.8 million and its related inventoryof approximately $0.2 million. As part of the purchase of certain assets ofTerawave Communications, Inc. on October 25, 2007, we acquired theintangible and the related inventory. Subsequent to the date of the assetpurchase we had sought potential buyers for the Metro-Ethernet/Telemetry technologyto recover cash paid for the assets. However, by March 31, 2008, wedecided to terminate efforts to sell the Metro-Ethernet/Telemetry technologyand to focus instead on bringing to market GPON technology. Other income of$0.3 million represents payments received that pertained to accounts receivablethat were acquired as part of the purchase of certain assets of TerawaveCommunications, Inc. in October 2007. At the date of purchase, theaccounts were deemed to be uncollectible and no value was recorded on ourbooks.

 

The decision to write-off theintangible and its related inventory is based on the primary intent behind ouracquisition which was to obtain intellectual property rights related toTerawave’s in-development GPON technology. As of the date of the assetpurchase, both Occam and Terawave were independently developing GPON products.Terawave’s product incorporated superior, proprietary hardware technology whileOccam’s product development was being built around a superior software packetengine. Our purchase of the assets of Terawave was intended to allow Occam tomatch its superior packet engine with Terawave’s superior hardware technologyin order to create a best-in-class product.

 

In June 2008,we recorded an impairment charge of $37,000 related to customer relationshipsacquired from Terawave Communications, Inc.

 

*Interest income (expense), net*

 
| ** **                            | ** ** | **Six Months Ended** | ** ** | **Increase (Decrease) 2008 vs.  2007** | ** ** |
|---------------------------------------|------------|--------------------------------|------------|-------------------------------------------------------|------------|
| ** **                            | ** ** | **June 30, 2008**    | ** ** | **June 30, 2007**                           | ** ** | **Amount** | ** ** | **Percentage** | ** ** |
| ** **                            | ** ** | ** **                     | ** ** | ** **                                            | ** ** | ** ** | ** ** | ** ** | ** ** |
| Interest  income                      |       | $                              | 692        |                                                  | $          | 1,557 |   | $ | (865 | ) | 56 | % |
| Interest  expense                     |       | (57                            | )          | —                                                |       | (57 | ) | N/A |   |
| Total  interest income (expense), net |       | $                              | 635        |                                                  | $          | 1,557 |   | $ | (922 | ) | 59 | % |

 

Interest income and expense,net decreased by $0.9 million or 59% to $0.6 million for the sixmonths ended June 30, 2008, as compared to $1.6 million for the six monthsended June 30, 2007. The decrease in interest income was primarilyattributable to lower average cash balances.

 

17

----

Table of Contents

 

*Income tax expense*

 

For income tax purposes, weconsider our projected annual income and the utilization of our net operatingloss carryforwards among other factors. For the six months ended June 30,2008 and 2007, we provided $41,000 and none respectively, for federal and stateincome taxes.

 

**Liquidity and Capital Resources**

 

As of June 30,2008, we had cash and cash equivalents of $20.4 million, restricted cash of$21.0 million, stockholders’ equity of $54.8 million, and working capital of$44.4 million, compared with cash and cash equivalents of $37.6 million,restricted cash of $13.1 million, stockholders’ equity of $60.3 million, andworking capital of $51.8 million as of December 31, 2007. The majority ofthe increase in restricted cash at June 30, 2008, was related toperformance bonds required for our Rural Utilities Service, or RUS 397contracts.

 

Net cash usedin operating activities for the six months ended June 30, 2008, was $5.3million compared to $1.3 million during the same period ended 2007. The sum ofour net loss and certain non-cash expenses, such as stock-based compensation,depreciation and amortization, impairment of intangibles related to developedtechnology and customer relationships, and accounts receivable reservesresulted in an outflow of $2.2 million in the 2008 period, compared to aninflow of $1.0 million in the 2007 period. The overall impact of change incertain operating assets and liabilities on total operating cash flows resultedin a cash outflow of $3.0 million in the 2008 period compared to $2.3 millionin the 2007 period.

 

Net cash usedin investing activities for the six months ended June 30, 2008, was $11.9million compared to $4.4 million during the same period ended 2007. Cash usedin investing activities for the six months ended June 30, 2008, wasprimarily due to an increase of $7.6 million in restricted cash related toperformance bonds required in connection with our RUS contracts and $4.0million for purchases of property and equipment of which $3.1 million was forour new facility in Fremont, California, compared to $4.1 million for purchasesof property and equipment which was primarily leasehold improvements for ournew corporate headquarters in Santa Barbara, California during the same periodin 2007.

 

Net cash used in financingactivities for the six months ended June 30, 2008 was $12,000 compared to$0.4 million provided by for the same period in 2007. Cash used in financingactivities for the six months ended June, 2008, was due to proceeds fromexercise of stock options of $65,000 offset by payments of payroll taxes forvested restricted stock units of $68,000, and payments of capital leaseobligations of $9,000 for office equipment, compared to proceeds of $0.4million for exercises of options and employee stock purchase plan offset by$75,000 for common stock issuance cost for the same period in 2007.

 

**Working Capital**

 

Workingcapital decreased to $44.4 million as of June 30, 2008, compared to$51.8 million as of December 31, 2007.

 

Our futureliquidity and capital requirements will depend on numerous factors, includingthe:

 

· collectabilityof accounts receivable;

 

· amount and timing of revenue;

 

· extent towhich our existing and new products gain market acceptance;

 

· extent towhich funds are restricted due to performance bonds required in connection withour RUS contracts;

 

· cost and timing of productdevelopment efforts and the success of these development efforts;

 

· cost and timing of marketing andselling activities; and

 

· availability of borrowingarrangements and the availability of other means of financing.

 

We believethat our cash and cash equivalents will be sufficient to finance our operationsover the next 12 months. Although we believe these funds will besufficient to maintain and expand our operations in accordance with ourbusiness strategy, we may need additional funds in the future. If we are unableto raise additional financing when and if needed, we may be required to reducecertain discretionary spending, which could have a material adverse effect onour ability to achieve our intended business objectives.

 

18

----

Table of Contents

 

***Contractual Obligations***

 

We lease ourfacilities and certain assets under non-cancelable operating leases expiringthrough 2015, excluding various renewal options.

 

We leasecertain office equipment under capital leases.

 

The followingtable summarizes our minimum purchase commitments to our contractmanufacturers, our minimum commitments under non-cancelable operating leasesand our commitment under capital leases as of June 30, 2008 (inthousands):

 
| ** **                   | ** ** | **Payments Due By Period** | ** ** |
|------------------------------|------------|-------------------------------------------|------------|
| ** **                   | ** ** | **Total**                                 | ** ** | **Less than  1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than  5 years** | ** ** |
| **Contractual  Obligations** |       |                                      |       |   |   |   |   |   |   |   |   |
| Purchase  commitments(1)     |       | $                                         | 15,953     |   | $ | 15,953 |   | $ | — |   | $ | — |   | $ | — |   |
| Operating  leases            |       | $                                         | 8,908      |   | $ | 1,359 |   | $ | 2,866 |   | $ | 3,011 |   | $ | 1,672 |   |
| Capital  leases              |       | $                                         | 63         |   | $ | 21 |   | $ | 41 |   | $ | 1 |   | $ | — |   |
| Licensing  agreements        |       | $                                         | 290        |   | $ | 15 |   | $ | 265 |   | $ | 10 |   | $ | — |   |

 

----

(1)Under theterms of our agreement with our contract manufacturers, we issue purchaseorders for the production of our products. We are required to place orders inadvance with our contract manufacturer to meet estimated sales demands. Theagreement includes certain lead-time and cancellation provisions. Futureamounts payable to the contract manufacturer will vary based on the level ofpurchase requirements.

 

***Off-Balance Sheet Arrangements***

 

As of June 30, 2008, wehad no material off-balance sheet arrangements, other than operating leases andcertain purchase commitments described in the contractual obligations tablereferenced above.

 

***Indemnification Obligations***

 

We enter into indemnificationprovisions under our agreements with other companies in our ordinary course ofbusiness, typically with our contractors, customers, and landlords. Inconnection with our 2006 public offering, we also agreed to indemnify the underwritersin the offering and certain stockholders who sold shares as part of theoffering with respect to certain liabilities arising from the offering. Underthese provisions, we generally indemnify and hold harmless the indemnifiedparty for losses suffered or incurred by the indemnified party as a result ofour activities or, in some cases, as a result of the indemnified party’sactivities under the agreement. These indemnification provisions generallysurvive termination of the underlying agreement. The maximum potential amountof future payments we could be required to make under these indemnificationprovisions is generally unlimited. As of June 30, 2008, we had notincurred material costs to defend lawsuits or settle claims related to theseindemnifications agreements and we have no liabilities recorded for theseagreements as of June 30, 2008.

 

***Recent Accounting Pronouncements***

 

In December 2007,the FASB issued Statement of Financial Accounting Standards No. 160, “NoncontrollingInterests in Consolidated Financial Statements, an amendment of ARB No. 51”(“SFAS 160”). SFAS 160 will change the accounting and reporting forminority interests which will be recharacterized as noncontrolling interestsand classified as a component of equity. SFAS 160 is effective for fiscalyears beginning on or after December 15, 2008. SFAS 160 requiresretroactive adoption of the presentation and disclosure requirements forexisting minority interests. We are currently assessing the impact thatSFAS 160 may have on our financial position, results of operations, andcash flows.

 

In December 2007,the FASB issued Statement of Financial Accounting Standards No. 141(revised 2007), “Business Combinations” (“SFAS 141R”). SFAS 141Rchanges accounting for acquisitions that close beginning in 2009. Moretransactions and events will qualify as business combinations and will beaccounted for at fair value under the new standard. SFAS 141R promotesgreater use of fair values in financial reporting. Some of the changes willintroduce more volatility into earnings. SFAS 141R is effective for fiscalyears beginning on or after December 15, 2008. The adoption ofSFAS 141R will have an impact on accounting for business combinations onceadopted, but the effect on us will depend upon our level of acquisitionactivity.

 

19

----

Table of Contents

 

In December 2007,the Securities and Exchange Commission issued Staff Accounting Bulletin No. 110(“SAB No. 110”), “Certain Assumptions Used in Valuation Methods.” SAB No. 110expresses the views of the staff regarding the use of a “simplified” method indeveloping an estimate of expected term of “plain vanilla” share options inaccordance with the Statement of Financial Accounting No. 123R, “Shared-BasedPayment.” Companies electing to use this method should apply it consistently toall “plain vanilla” employee share options, and disclose the use of the methodin the notes to the financial statements. We are currently evaluating theimpact of applying SAB No. 110 on our business and financial condition.

 

In May 2007,the FASB issued FSP No. FIN 48-1 “Definition of Settlement in FASBInterpretation No. 48,” (FSP FIN 48-1 amends FIN 48 to provideguidance on how an entity should determine whether a tax provision iseffectively settled for the purpose of recognizing previously unrecognized taxbenefits. The term “effectively settled” replaces the term “ultimately settled”when used to describe recognition, and the terms “settlement” or “settled”replace the terms “ultimate settlement” or “ultimately settled” when used todescribe measurement of a tax position under FIN 48. FSP FIN 48-1clarifies that a tax position can be effectively settled upon the completion ofan examination by a taxing authority without being legally extinguished. Fortax positions considered effectively settled, an entity would recognize thefull amount of tax benefit, even if the tax position is not considered more likelythan not to be sustained based solely on the basis of its technical merits andthe statue of limitations remains open. We do not anticipate that the adoptionof FSP FIN 48-1 will have a material effect on our results of operationsor financial position, although we are continuing to evaluate the full impactof the adoption of FSP FIN 48-1.

 

In February 2007,the Financial Accounting Standards Board (FASB) issued Statement of FinancialAccounting Standards (SFAS) No. 159, “The Fair Value Option for FinancialAssets and Financial Liabilities—Including an Amendment of FASB Statement No. 115”(SFAS 159). SFAS 159 expands the use of fair value accounting butdoes not affect existing standards which require assets or liabilities to becarried at fair value. Under SFAS 159, a company may elect to use fairvalue to measure accounts and loans receivable, available-for-sale andheld-to-maturity securities, equity method investments, accounts payable,guarantees and issued debt. Other eligible items include firm commitments forfinancial instruments that otherwise would not be recognized at inception andnon-cash warranty obligations where a warrantor is permitted to pay a thirdparty to provide warranty goods or services. If the use of fair value iselected, any upfront cost and fees related to the item must be recognized inearnings and cannot be deferred. The fair value election is irrevocable andgenerally made on an instrument-by-instrument basis even if a company hassimilar instruments that it elects not to measure at fair value. At theadoption date, unrealized gains and losses on existing items for which the fairvalue option has been elected are reported as a cumulative adjustment tobeginning retained earnings. Subsequent to the adoption of SFAS 159, changesto fair value are recognized in earnings. SFAS 159 is effective for fiscalyears beginning after November 15, 2007 and is required to be adopted byOccam in the first quarter of 2008. We do not anticipate that SFAS No. 159will have a material effect on our results of operations and financialposition, although we are continuing to evaluate the full impact of theadoption of SFAS No. 159.

 

In September 2006, theSecurities and Exchange Commission issued SAB No. 108, “Considering theEffects of Prior Year Misstatements when Quantifying Misstatements in CurrentYear Financial Statements.” SAB No. 108 provides guidance on theconsideration of the effects of prior year misstatements in quantifying currentyear misstatements for the purpose of a materiality assessment. SAB No. 108establishes an approach that requires quantification of financial statementerrors based on the effects of each of the Company’s balance sheets andstatement of operations and the related financial statement disclosures. SAB No. 108permits existing public companies to record the cumulative effect of initiallyapplying this approach in the first year ending after November 15, 2006 byrecording the necessary correcting adjustments to the carrying values of assetsand liabilities as of the beginning of that year with the offsetting adjustmentrecorded to the opening balance of retained earnings. Additionally, the use ofthe cumulative effect transition method requires detailed disclosure of thenature and amount of each individual error being corrected through thecumulative adjustment and how and when it arose. We implemented SAB No. 108effective January 1, 2006 and considered its effect on our financialposition, results of operations or cash flows for 2006. See Note 2, “Restatementof Consolidated Financial Statements,” of the Notes to Consolidated Statementsfor information regarding the restatement.

 

20

----

Table of Contents

 

**ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK**

 

Because our portfolio of cashequivalents is of a short-term nature, we are not subject to significant marketprice risk related to investments. However, our interest income is sensitive tochanges in the general level of taxable and short-term U.S. interest rates. Ourexposure to market risk due to changes in the general level of United Statesinterest rates relates primarily to our cash equivalents. We generally investour surplus cash balances in money-market funds with original or remainingcontractual maturities of less than 90 days. The primary objective of ourinvestment activities is the preservation of principal while minimizing risk.We do not hold financial instruments for trading or speculative purposes. We donot use any derivatives or similar instruments to manage our interest raterisk.

 

**ITEM 4.  CONTROLS AND PROCEDURES**

 

***(a)  Evaluation of Disclosure Controlsand Procedures***

 

Under thesupervision and with the participation of our management, including our ChiefExecutive Officer and Chief Financial Officer, we conducted an evaluation ofthe effectiveness of the design and operation of our disclosure controls andprocedures, as defined in Rules 13a-15(e) and 15d-15(e) underthe Exchange Act, as of June 30, 2008, which we refer to as the EvaluationDate or the end of the period covered by this Quarterly Report on Form 10-Q.

 

The purpose ofthis evaluation was to determine whether as of the Evaluation Date ourdisclosure controls and procedures were effective to provide reasonableassurance that the information we are required to disclose in our filings withthe Securities and Exchange Commission, (i) is recorded, processed,summarized and reported within the time periods specified in the SEC’s rules andforms and (ii) accumulated and communicated to our management, includingour Chief Executive Officer and Chief Financial Officer, as appropriate toallow timely decisions regarding required disclosure.

 

Based on theirevaluation, our chief executive officer and chief financial officer haveconcluded, as discussed below, that a material weakness existed in ourdisclosure controls and procedures as of the Evaluation Date, and as a result,our disclosure controls and procedures were not effective as of the EvaluationDate.

 

An internalcontrol deficiency exists when the design or operation of a control does notallow management or employees, in the normal course of performing theirassigned functions, to prevent or detect misstatements on a timely basis. A “materialweakness” is a control deficiency, or combination of control deficiencies, thatresults in a more than a remote likelihood that a material misstatement of theannual or interim consolidated financial statements will not be prevented ordetected. A “significant deficiency” is a control deficiency, or combination ofcontrol deficiencies, that adversely affects a company’s ability to initiate,authorize, record, process or report external financial data reliably inaccordance with accounting principles generally accepted in the United States.In the case of a significant deficiency, a more-than-remote likelihood existsof a misstatement of the company’s annual or interim consolidated financialstatements that is more than inconsequential.

 

Our auditcommittee initiated an internal review of our revenue recognition practices. OnSeptember 12, 2007, we announced that our audit committee had identifiederrors in revenue recognition and that our board of directors, based on the recommendationof our audit committee, had concluded that we should restate our financialstatements for fiscal years 2004 and 2005, the corresponding interim quarterlyperiods of fiscal 2004 and fiscal 2005, and the first, second, and thirdquarters of fiscal 2006. Our board of directors also concluded that ourpreviously filed financial statements for those periods should not be reliedon. On October 16, 2007, we announced that our audit committee hadconcluded its investigation, and we announced the final restated financialinformation.

 

Our auditcommittee concluded that the restatement was required because of errors in ouraccounting for (i) commitments to certain customers in connection withsales for features or deliverables that were not available at the time revenuewas originally recognized, including commitments to prospectively provide freeproduct, software, training, and installation services, for which weprematurely recognized approximately $9.3 million in revenue from fiscal2004 to fiscal 2006; (ii) sales to value-added resellers where theresellers did not have the ability to pay us for these sales independent ofpayment to them by the end-user, for which we prematurely recognizedapproximately $20.2 million in revenue from fiscal 2004 to fiscal 2006;and (iii) for certain quarters ending on weekends, our use of a shippingvendor who picked up product for subsequent delivery to another shippingcompany where the terms and conditions of the shipments did not appropriatelytransfer title or risk of loss at the time of shipment, for which weprematurely recognized approximately $2.3 million in revenue from fiscal2004 to fiscal 2006. In addition, we prematurely recognized approximately$1.1 million of revenue from fiscal 2004 through fiscal 2006 relatingprincipally to errors in accounting for software and software maintenance,customer credits, and undelivered free product.

 

21

----

Table of Contents

 

Our auditcommittee determined that the foregoing errors resulted from deficiencies inour internal controls, in particular resulting from internal communicationfailures between our finance and sales departments, a lack of clear understandingby, and communication to, sales personnel of technical accounting rules,understaffed finance functions, and on occasion, failure of finance personnelto apply technical revenue recognition rules correctly. As part of itsinternal control deficiencies letter dated October 15, 2007, our currentindependent registered public accounting firm also identified a materialweakness relating to revenue recognition. Our independent registered publicaccounting firm noted that we did not have policies and procedures in place toensure that modifications to, or side agreements associated with, our standardterms of contract were properly documented and approved. Our independentregistered public accounting firm also cited a lack of understanding of theaccounting consequences of modifications to standard terms by certain salesemployees and a lack of communication among our sales, engineering, and financedepartments to ensure that all sales transactions are properly tracked,documented, approved, and recorded.

 

In their October 2007letter, our independent registered public accounting firm identified additionalcontrol deficiencies that it determined to be significant deficiencies but thatit did not deem to be material weaknesses. In particular, it identified a significantdeficiency relating to segregation of duties, noting among other things that incertain instances journal entries and account reconciliations were approved bythe preparer of the entry or reconciliation. Our independent registered publicaccounting firm also noted a significant deficiency relating to post-closingadjusting journal entries and recommended that we reassess the timeline of ourfinancial statement process to ensure that we have reasonable time to concludea thorough financial statement closing process. Finally, our independentregistered public accounting firm identified significant deficiencies relatingto recording certain purchase transactions, where parts were ordered andaccepted by our engineering department, without approval or involvement of ourfinance department, and where fixed assets were not properly classified fordepreciation purposes.

 

In connectionwith the audit of our consolidated financial statements for the year ended December 31,2007 and the effectiveness of our internal control over financial reporting asof December 31, 2007, our independent registered public accounting firmidentified a material weakness and some significant deficiencies in ourinternal control over financial reporting in a letter dated March 10,2008. Specifically, our independent registered public accounting firm noted acontinuing material weakness relating to revenue recognition and our policiesand procedures to ensure that modifications to, or side agreements associatedwith, our standard terms of contract were properly approved, documented,tracked and recorded.

 

***(b)  Changes inInternal Control Over Financial Reporting***

 

On September 28,2007, our audit committee presented the findings and recommendations of itsinternal investigation to our board of directors, including a proposedremediation plan regarding internal control over financial reporting. Our boardof directors adopted the audit committee’s remediation plan, and we are in theprocess of implementing it. Remedying the material weakness and other controldeficiencies described above will require substantial management time andattention and will result in our incurring substantial incremental expenses,including increasing the size of our finance organization and retaining outsideconsultants to assist in the implementation of new internal controls. Anyfailure on our part to remedy our identified control deficiencies or anyadditional errors or delays in our financial reporting would have a materialadverse effect on our business and results of operations and could have asubstantial adverse impact on the trading price of our common stock and ourrelationships with customers.

 

Subject tooversight by our board of directors, our chief executive officer and chieffinancial officer will be responsible for implementing the internal controlremediation plan recommended by our audit committee and approved by our boardof directors. We have also engaged an outside consultant in connection withimplementing the remediation plan.

 

22

----

Table of Contents

 

Our auditcommittee’s remediation plan consists of the following modifications andimprovements in our internal controls relating to the revenue- recognition transactioncycle. Modifications and improvements to our internal controls completed and inremediation as of June 30, 2008 are also set forth below:

 
| Implemented  as of June 30, 2008 |
|----------------------------------|
|                             |
| Remediation  Plan                |
|                             |
| ·                           |   | adjust our reporting structure so that finance has direct oversight  of sales administration and the sales proposal generation management group; |
| ·                           |   | reorganize our variable compensation plan to ensure that sales  personnel are not incentivized to attempt to influence the timing of revenue  recognition; |
| ·                           |   | retain a senior revenue recognition specialist who will report  directly to our chief financial officer and will possess the appropriate  level of experience, authority, and seniority to independently serve as the  liaison between all levels of corporate functions and finance. This  individual should have some degree of managerial oversight of other “liaison”  areas (e.g., order entry personnel, sales administration, and sales  proposals generation) and be responsible for the review and reconciliation of  terms given to a customer in the bid/quote process as well as in the final  contract; |
| ·                           |   | the revenue recognition specialist, or employees acting under his or  her supervision, should review all documentation relating to a transaction,  including purchase orders, special pricing approval forms, customer quotes,  letters of intent, emails, etc. to determine whether any of the terms will  result in the deferral of revenue; |
| ·                           |   | a revenue recognition checklist should accompany the financial  package for each transaction; |
| ·                           |   | engage an outsourced internal audit group to review all significant  revenue transactions each quarter to ensure that transactions have been  recorded appropriately, to monitor the status of the remediation of control  structure, and report to the audit committee the progress achieved; |
| ·                           |   | implement formal training, which would include a signed  acknowledgement of all attendees certifying that they have attended and  understood the topics covered, from all finance, executive, sales, and sales  administration personnel, to ensure they understand that certain terms impact  revenue recognition, as well as understand how to document and receive  approval for such terms, as well as report them to finance; |
| ·                           |   | institute a formal communication process among marketing, engineering,  and finance to ensure that all functions understand that any changes have  potential accounting implications and to ensure that finance is appropriately  advised as to the impact on existing and future transactions; |
| ·                           |   | implement policies and procedures that delineate clear roles,  responsibilities, and authorization levels for all positions defined as “key”  to the revenue recognition transaction cycle; |
| ·                           |   | compliance with the stated order addendum process, to ensure that all  terms agreed upon with a customer following the issuance of the customer  quote or purchase order have been captured and provided to finance; |
| ·                           |   | implement controls required to ensure that no items are shipped or  provided to the customer without being entered as separate line items in our  systems; |
| ·                           |   | implement controls required to ensure that all requests for price  responses, contract closeout, acceptance documentation, and other delivery  information is provided to and reviewed by the finance department and is  received prior to recording of revenue; |
| ·                           |   | implement controls to ensure that single transactions with a customer  are not split into various contracts, purchase orders, or shipments, unless  these requests are approved by the finance department; and |
| ·                           |   | implement procedures to ensure that credit checks are performed and  the decision-making process as to the credit limit is documented and  maintained. |

 
| In Remediation as of June 30, 2008 |
|------------------------------------|
|                               |
| Remediation  Plan                  |

 
| · |   | implement a policies and procedure document that will be provided to  all sales and sales administration personnel, including an annual sign off  that they have received, read, understood, and complied with the materials,  that will ensure that all terms related to any transaction are evidenced in  the sales quotes and purchase orders, and that all transaction documentation  has been provided to the finance department prior to the recording of  revenue; |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| · |   | standardize language on each customer’s quote and invoice, as well as  on the standard terms and conditions, stating that only those terms listed by  the customer on its purchase order will be deemed part of the final  agreement; and                                                                                                                                                                                                                            |

 

23

----

Table of Contents

 
| · |   | establish a central, virtual repository for all documentation  relating to a transaction, including quotes, emails, letters of intent,  volume pricing agreements, special pricing approval forms, and all other  transaction documents, which are uploaded by sales and sales administration  personnel. |
|--------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|

 

In May 2008, we announced that we had hired a new Chief FinancialOfficer, and since May, we have also hired a new Corporate Controller and otherfinance personnel. Our current Chief Financial Officer, Corporate Controller,and other personnel are currently evaluating our internal controls andprocedures, including changes implemented as part of the remediation plandescribed above. With respect to those changes identified above as having beenimplemented, we expect our finance department will continue to test andevaluate the effectiveness of theses changes over the next few quarters. Inaddition, they may identify and implement additional remedial changes based onany issues they may identify.

 

**PART II—OTHERINFORMATION**

 

**ITEM 1. LEGAL PROCEEDINGS**

 

*2007 Class Action Litigation*

 

On April 26, 2007 and May 16, 2007, two putative class actioncomplaints were filed in the United States District Court for the CentralDistrict of California against us and certain of our officers. The complaintsallege that the defendants violated sections 10(b) and 20(a) ofthe Exchange Act and SEC Rule 10b-5 by making false and misleadingstatements and omissions relating to our financial statements and internalcontrols with respect to revenue recognition. The complaints seek, on behalf ofpersons who purchased our common stock during the period from May 2, 2006and April 17, 2007, damages of an unspecified amount.

 

On July 30, 2007, Judge Christina A. Snyder consolidated theseactions into a single action, appointed NECA-IBEW Pension Fund (The DecaturPlan) as lead plaintiff, and approved its selection of lead counsel. OnNovember 16, 2007, the lead plaintiff filed a consolidated complaint. Thisconsolidated complaint added as defendants certain of our current and formerdirectors and officers, our current and former outside auditors, the leadunderwriter of our secondary public offering in November 2006, and twoventure capital firms who were early investors in us. The consolidated complaintalleged that defendants violated sections 10(b), 20(a) and 20A of theExchange Act and SEC Rule 10b-5 promulgated thereunder, as well assections 11 and 15 of the Securities Act by making false and misleadingstatements and omissions relating to our financial statements and internalcontrols with respect to revenue recognition that required restatement. Theconsolidated complaint seeks, on behalf of persons who purchased our commonstock during the period from April 29, 2004 to October 15, 2007,damages of an unspecified amount.

 

On January 25, 2008, defendants filed motions to dismiss theconsolidated complaint. On July 1, 2008, Judge Snyder issued an order grantingin part and denying in part defendants’ motions. This order dismissed allclaims against certain of our current and former directors, the 20A claim inits entirety, the section 10(b) claim against the auditors and venture capitalfirms, and the section 11 claims against the venture capital firms. On July 16,2008, lead plaintiff filed an amended complaint to conform to the Court’s July1, 2008 order. Defendants must answer this amended complaint on or beforeAugust 29, 2008.

 

We believe that we have meritorious defenses in this action, and intendto defend ourselves vigorously. Failure by us to obtain a favorable resolutionof the claims set forth in the consolidated complaint could have a materialadverse effect on our business, results of operations and financial condition.Currently, the amount of such material adverse effect cannot be reasonablyestimated.

 

*IPO Allocation Litigation*

 

In June 2001, three putative stockholder class action lawsuitswere filed against Accelerated Networks, certain of its then officers anddirectors and several investment banks that were underwriters of AcceleratedNetworks’ initial public offering. The cases, which have since beenconsolidated, were filed in the United States District Court for the SouthernDistrict of New York. The Court appointed a lead plaintiff on April 16,2002, and the plaintiffs filed a consolidated amended class action complaint(the “Complaint”) on April 19, 2002. The Complaint was filed on behalf ofinvestors who purchased Accelerated Networks’ stock between June 22, 2000and December 6, 2000 and alleged violations of Sections 11 and 15 ofthe Securities Act and Sections 10(b) and 20(a) and Rule 10b-5of the Exchange Act against one or both of Accelerated Networks and theindividual defendants. The claims were based on allegations that theunderwriter defendants agreed to allocate stock in Accelerated Networks’initial public offering to certain investors in exchange for excessive andundisclosed commissions and agreements by those investors to make additionalpurchases in the aftermarket at pre-determined prices. The plaintiffs alleged thatthe prospectus for Accelerated Networks’ initial public offering was false andmisleading in violation of the securities laws because it did not disclosethese arrangements. These lawsuits are part of the massive “IPO allocation”litigation involving the conduct of underwriters in allocating shares ofsuccessful initial public offerings. We believe that over three hundred othercompanies have been named in more than one thousand similar lawsuits that havebeen filed by some of the same plaintiffs’ law firms. In October 2002, theplaintiffs voluntarily dismissed the individual defendants without prejudice.On February 1, 2003 a motion to dismiss filed by the issuer defendants washeard and the court dismissed the 10(b), 20(a) and rule 10b-5 claimsagainst Occam. On October 13, 2004, the Court certified a class in six ofthe approximately 300 other nearly identical actions (the “focus” cases) andnoted that the decision was intended to provide guidance to all partiesregarding class certification in the remaining cases. The underwriterdefendants appealed the decision and the Second Circuit Court of Appealsvacated the district court’s decision granting class certification in those sixcases on December 5, 2006. The plaintiffs filed a motion for rehearing. OnApril 6, 2007, the Second Circuit denied the petition, but noted that theplaintiffs could ask the District Court to certify a more narrow class than theone that was rejected. On October 3, 2007, the plaintiffs filed a motionto certify a new class and a second amended complaint based on the SecondCircuit Appeals Court decision. An opposition brief was filed by bothunderwriter defendants and the issuer defendants on December 21, 2007, anda reply brief was filed on January 28, 2008. The plaintiffs filed anamended reply brief on March 28, 2008, in support of their motion tocertify the class of plaintiffs. The underwriter defendants and the issuerdefendants have until August 31, 2008 to file an answer to the amendedcomplaint. The Court has not ruled on the motion. The insurers, theunderwriters and the plaintiffs subsequently agreed to global mediation in theinterest of trying to resolve this case without the further need forlitigation. The mediation commenced in late June and will likely gothrough the end of August 2008.

 

24

----

Table of Contents

 

Prior to the Second Circuit’s December 5, 2006 ruling, we agreed,together with over three hundred other companies similarly situated, to settlewith the plaintiffs. A settlement agreement and related agreements weresubmitted to the Court for approval. The settlement would have provided, amongother things, a release of the Company and of the individual defendants for theconduct alleged to be wrongful in the Complaint in exchange for a guaranteefrom the Company’s insurers regarding recovery from the underwriter defendantsand other consideration from the Company regarding its underwriters. In lightof the Second Circuit opinion, liaison counsel for the issuers informed theDistrict Court that the settlement cannot be approved because the definedsettlement class, like the litigation class, cannot be certified. We cannotpredict whether we will be able to renegotiate a settlement that complies withthe Second Circuit’s mandate.

 

Due to the inherent uncertainties of litigation, we cannot accuratelypredict the ultimate outcome of the matter. We have not recorded any accrualrelated to this proposed settlement because Occam expects any settlementamounts to be covered by its insurance policies.

 

*Threatened Litigation*

 

In late 2007, Occam received a letter from Vanessa Simmonds, a putativeshareholder of the Company, demanding that Occam investigate and prosecute aclaim for alleged short-swing trading in violation ofSection 16(b) of the Exchange Act, by the underwriter of its initialpublic offering (“IPO”) and certain unidentified directors, officers andshareholders of Occam (then known as Accelerated Networks). Occam evaluated thedemand and declined to prosecute the claim. On October 12, 2007, theputative shareholder commenced a civil lawsuit in the U.S. District Court forthe Western District of Washington against Credit Suisse Group, the leadunderwriter of Occam’s IPO, alleging violations of Section 16(b). Thecomplaint alleges that the combined number of shares of Occam’s common stockbeneficially owned by the lead underwriter and certain unnamed officers,directors, and principal shareholders exceeded ten percent of its outstandingcommon stock from the date of Occam’s IPO on June 23, 2000, through atleast June 22, 2001. It further alleges that those entities andindividuals were thus subject to the reporting requirements ofSection 16(a) and the short-swing trading prohibition ofSection 16(b), and failed to comply with those provisions. The complaintseeks to recover from the lead underwriter any “short-swing profits” obtainedby it in violation of Section 16(b). Occam was named as a nominaldefendant in the action, but has no liability for the asserted claims. Nodirectors or officers of Occam are named as defendants in this action.

 

On October 29, 2007, the case was reassigned to Judge James L.Robart along with fifty-four other Section 16(b) cases seekingrecovery of short-swing profits from underwriters in connection with variousIPOs. The court is in discussion with plaintiffs and defendants on how toproceed including law and motion filings. Occam has waived service and willvigorously defend the litigation.

 

25

----

Tableof Contents

 

Due to the inherent uncertainties of threatened litigation, we cannotaccurately predict the ultimate outcome of the matter, but we believe that theoutcome of this litigation will not have a material adverse impact on ourconsolidated financial position and results of operations. We have not recordedany accruals related to the demand letters orSection 16(b) litigation because we expect any resulting resolutionto be covered by our insurance policies.

 

*Other Matters*

 

From time to time, we are subject to threats of litigation or actuallitigation in the ordinary course of business, some of which may be material.We believe that, except as described above, there are no currently pendingmatters that, if determined adversely to us, would have a material effect onour business or that would not be covered by our existing liability insurance maintainedby us.

 

**ITEM 1A. RISK FACTORS**

 

*This Quarterly Report on Form 10-Q, orForm 10-Q, including any information incorporated by reference herein,contains forward-looking statements within the meaning of Section 27A ofthe Securities Act of 1933, as amended, referred to as the Securities Act, andSection 21E of the Securities Exchange Act of 1934, as amended, referredto as the Exchange Act. In some cases, you can identify forward-lookingstatements by terms such as “may,” “will,” “should,” “expect,” “plan,” “intend,”“forecast,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” “continue”or the negative of these terms or other comparable terminology. Theforward-looking statements contained in this Form 10-Q involve known andunknown risks, uncertainties and situations that may cause our or our industry’sactual results, level of activity, performance or achievements to be materiallydifferent from any future results, levels of activity, performance orachievements expressed or implied by these statements. These factors includethose listed below in this Item 1A and those discussed elsewhere in thisForm 10-Q. We encourage investors to review these factors carefully. Wemay from time to time make additional written and oral forward-looking statements,including statements contained in our filings with the SEC. However, we do notundertake to update any forward-looking statement that may be made from time totime by or on behalf of us.*

 

*Before you invest in our securities, youshould be aware that our business faces numerous financial and market risks,including those described below, as well as general economic and businessrisks. The following discussion provides information concerning the materialrisks and uncertainties that we have identified and believe may adverselyaffect our business, our financial condition and our results of operations.Before you decide whether to invest in our securities, you should carefullyconsider these risks and uncertainties, together with all of the other informationincluded in this Quarterly Report on Form 10-Q our Annual Report on Form10-K for the year ended December 31, 2007 and in our other public filings.*

 

**Risks Related to Our Restatement, InternalControl Deficiencies, and Stockholder Litigation**

 

***Matters relating to or arising from our recentrestatement, errors in our historic revenue recognition practices, andweaknesses in our internal controls, including the outcome of pendingstockholder litigation as well as any future litigation, could have a materialadverse effect on our business, revenues, operating results, or financialcondition.***

 

In March 2007,our audit committee initiated a review of our historic revenue recognitionpractices that resulted in the restatement of our previously filed financialstatements for the fiscal years ended December 26, 2004 andDecember 25, 2005, each of the interim quarterly periods of such fiscalyears, and the first, second, and third quarters of the fiscal year endedDecember 31, 2006. On October 16, 2007, we announced the completionof the investigation and filed our Annual Report on Form 10-K for the yearended December 31, 2006, which included our consolidated financialstatements for the year ended December 31, 2006 and our restated financialstatements for the years ended December 26, 2004 and December 25,2005.

 

Among otheradverse effects, the investigation and resulting restatement resulted in theinitiation of securities class action litigation, which is described in greaterdetail below, and could result in other civil litigation or formal or informalregulatory inquiries or litigation, any of which could have a material adverseeffect on our business, revenues, operating results, or financial condition. UnderDelaware law, our bylaws, and certain indemnification agreements, we may havean obligation to indemnify certain current and former officers and directors,as well as certain underwriters and stockholders, in relation to these matters.Such indemnification may have a material adverse effect on our business,results of operations, and financial condition to the extent insurance does notcover our costs. The insurance carriers that provide our directors’ andofficers’ liability policies may seek to rescind or deny coverage with respectto those pending investigations or actions in whole or in part, or we may nothave sufficient coverage under such policies, in which case our business,results of operations, and financial condition may be materially and adverselyaffected.

 

26

----

Table of Contents

 

In particular,we, certain of our directors and executive officers and others are defendantsin a consolidated federal securities class action. The consolidated complaintalleges that defendants violated sections 10(b), 20(a) and 20A of the ExchangeAct and SEC Rule 10b-5 promulgated thereunder, as well as sections 11 and15 of the Securities Act by making false and misleading statements and omissionsrelating to our financial statements and internal controls with respect torevenue recognition that required restatement. We cannot provide any assurancesthat the final outcome of this consolidated securities class action will nothave a material adverse effect on our business, results of operations, orfinancial condition. We may become subject to additional litigation, regulatoryinquiries, including potential SEC inquiries, or other proceedings or actionsarising out of the audit committee review and the related restatement of ourhistoric financial statements. Litigation and any potential regulatory actionsor proceedings can be time-consuming and expensive and could divert managementtime and attention from our business, which could have a material adverseeffect on our revenues and results of operations. The adverse resolution of anyspecific lawsuit or potential regulatory action or proceeding could have amaterial adverse effect on our business, results of operations, and financialcondition.

 

***If we fail to establish andmaintain proper and effective internal controls, our ability to produceaccurate financial statements on a timely basis could be impaired, which wouldadversely affect our consolidated operating results, our ability to operate ourbusiness and our stock price.***

 

Ensuring thatwe have adequate internal financial and accounting controls and procedures inplace to produce accurate financial statements on a timely basis is a costlyand time-consuming effort that needs to be re-evaluated frequently. Failure onour part to have effective internal financial and accounting controls wouldcause our financial reporting to be unreliable, could have a material adverseeffect on our business, operating results, and financial condition and could causethe trading price of our common stock to fall dramatically. We and our currentand former independent registered public accounting firms have identifiedcontrol deficiencies in the past, and in connection with its investigation anddetermination to restate our financial statements, our audit committee,management, and current independent registered public accounting firm haverecently identified deficiencies in our internal controls that contributed tothe need to restate our historic financial statements. As a result of theseidentified control deficiencies, our chief executive officer and chieffinancial officer have determined that, as of June 30, 2008, our internalcontrols over financial reporting were not effective to provide reasonableassurance regarding the reliability of our financial reporting and thepreparation of financial statements for external reporting in accordance withaccounting principles generally accepted in the United States of America.

 

Our auditcommittee’s investigation of revenue recognition issues identified weaknessesand other control deficiencies relating principally to revenue recognition andthe processes and procedures associated with customer transactions andinteraction with and review by our finance department. As part of its internalcontrol deficiencies letter dated October 15, 2007, our currentindependent registered public accounting firm identified a material weaknessrelating to revenue recognition. Our independent registered public accountingfirm noted that we did not have policies and procedures in place to ensure thatmodifications to, or side agreements associated with, our standard terms ofcontract are properly documented and approved. Our independent registeredpublic accounting firm also cited a lack of understanding of the accountingconsequences of modifications to standard terms by certain sales employees anda lack of communication among our sales, engineering, and finance departmentsto ensure that all sales transactions are properly tracked, documented,approved, and recorded.

 

In theirOctober 2007 letter, our independent registered public accounting firmidentified additional control deficiencies that it determined to be significantdeficiencies but that it did not deem to be material weaknesses. In particular,it identified a significant deficiency relating to segregation of duties,noting among other things that in certain instances journal entries and accountreconciliations were approved by the preparer of the entry or reconciliation. Ourindependent registered public accounting firm also noted a significantdeficiency relating to post-closing adjusting journal entries and recommendedthat we reassess the timeline of our financial statement process to ensure thatwe have reasonable time to conclude a thorough financial statement closingprocess. Finally, our independent registered public accounting firm identifiedsignificant deficiencies relating to recording certain purchase transactions,where parts were ordered and accepted by our engineering department, withoutapproval or involvement of our finance department, and where fixed assets werenot properly classified for depreciation purposes.

 

In connectionwith the audit of our consolidated financial statements for the year endedDecember 31, 2007 and the effectiveness of our internal control overfinancial reporting as of December 31, 2007, our independent registeredpublic accounting firm identified a material weakness and some significantdeficiencies in our internal control over financial reporting in a letter datedMarch 10, 2008. Specifically, our independent registered public accountingfirm noted a continuing material weakness relating to revenue recognition andour policies and procedures to ensure that modifications to, or side agreementsassociated with, our standard terms of contract were properly approved,documented, tracked and recorded.

 

27

----

Table of Contents

 

Remedying ourmaterial weakness and other control deficiencies will require substantialmanagement time and attention and will result in our incurring substantialincremental expenses, including with respect to increasing the size of ourfinance organization and retaining outside consultants to assist in theimplementation of new internal controls. Any failure to remedy our identifiedcontrol deficiencies or any additional errors or delays in our financialreporting, whether or not resulting from a failure to remedy the deficienciesthat resulted in the current restatement, would have a material adverse effecton our business and results of operations and could have a substantial adverseimpact on the trading price of our common stock and our relationships withcustomers.

 

Our managementis responsible for establishing and maintaining adequate internal control overfinancial reporting to provide reasonable assurance regarding the reliabilityof our financial reporting and the preparation of financial statements forexternal purposes in accordance with accounting principles generally acceptedin the United States of America. Our management does not expect that ourinternal control over financial reporting will prevent or detect all errors andall fraud. A control system, no matter how well designed and operated, canprovide only reasonable, not absolute, assurance that the control system’sobjectives will be met. Because of the inherent limitations in all controlsystems, no evaluation of controls can provide absolute assurance thatmisstatements due to error or fraud will not occur or that all control issuesand instances of fraud, if any, within the company will have been detected. Asdiscussed in this Quarterly Report on Form 10-Q, our audit committee andmanagement, together with our current and former independent registered publicaccounting firms, have identified numerous control deficiencies in the past andmay identify additional deficiencies in the future.

 

We are required to comply with Section 404 of the Sarbanes-OxleyAct of 2002 in connection with our Annual Report on Form 10-K for our yearending December 31, 2008. We have expended significant resources indeveloping the necessary documentation and testing procedures required bySection 404 of the Sarbanes-Oxley Act. We cannot be certain that theactions we have taken and are taking to improve our internal controls overfinancial reporting will be sufficient or that we will be able to implement ourplanned processes and procedures in a timely manner. In addition, we may beunable to produce accurate financial statements on a timely basis. Any of theforegoing could cause investors to lose confidence in the reliability of ourconsolidated financial statements, which could cause the market price of ourcommon stock to decline and make it more difficult for us to finance ouroperations and growth.

 

**Risks Related to Our Business and Industry**

 

***Our focus onindependent telephone operating companies limits our sales volume withindividual customers and makes our future operating results difficult topredict.***

 

We currently focus our sales efforts on the independent telephoneoperating companies, or IOCs, in North America. These customers generallyoperate relatively small networks with limited capital expenditure budgets.Accordingly, we believe the total potential sales volume for our products atany individual IOC is limited, and we must identify and sell products to newIOC customers each quarter to continue to increase our sales. In addition, thespending patterns of many IOCs are characterized by small and sporadicpurchases. Moreover, because our sales to IOCs are predominantly based onpurchase orders rather than long-term contracts, our customers may stoppurchasing equipment from us with little advance notice. As a result, we havelimited backlog, our future operating results are difficult to predict and wewill likely continue to have limited visibility into future operating results.

 

***Fluctuations in ourquarterly and annual operating results may adversely affect our business andprospects.***

 

A number of factors, many of which are outside our control, may causeor contribute to significant fluctuations in our quarterly and annual operatingresults. These fluctuations may make financial planning and forecasting moredifficult. In addition, these fluctuations may result in unanticipateddecreases in our available cash, which could limit our growth and delayimplementation of our expansion plans. Factors that may cause or contribute tofluctuations in our operating results include:

 

·                  fluctuations indemand for our products, including the timing of decisions by our targetcustomers to upgrade their networks and deploy our products;

 

·                  delays incustomer orders as IOCs evaluate and consider their capital expenditures andinvestments in light of the industry transition from copper wire to fiber;

 

·                  increases inwarranty accruals and other costs associated with remedying any performanceproblems relating to our products;

 

28

----

Table of Contents

 

·                  seasonalreductions in field work during the winter months and the impact of annualbudgeting cycles;

 

·                  the size andtiming of orders we receive and products we ship during a given period;

 

·                  delays inrecognizing revenue under applicable revenue recognition rules, particularlyfrom government-funded contracts, as a result of additional commitments we maybe required to make to secure purchase orders, or with respect to sales tovalue-added resellers where we cannot establish based on our credit analysisthat collectability is reasonably assured;

 

·                  introductions orenhancements of products, services and technologies by us or our competitors,and market acceptance of these new or enhanced products, services andtechnologies;

 

·                  the amount andtiming of our operating costs, including sales, engineering and product costsand capital expenditures; and

 

·                  quarter-to-quartervariations in our operating margins resulting from changes in our product mix.

 

As a consequence, operating results for a particular future period aredifficult to predict and prior results are not necessarily indicative ofresults to be expected in the future. Any of the foregoing factors may have amaterial adverse effect on our consolidated results of operations.

 

***We have a history oflosses and negative cash flow, and we may not be able to generate positiveoperating income and cash flows in the future to support the expansion of ouroperations.***

 

We have incurred significant losses since our inception. As of June 30,2008, we had an accumulated deficit of $127.0 million. We incurredsubstantial losses in 2007. We expect to continue to incur losses in 2008. Wecannot assure you that we will not continue to incur losses or experiencenegative cash flow in the future. We have only generated operating income inthe quarters ended December 25, 2005, September 24, 2006, andDecember 31, 2006. Our continued inability to generate positive operatingincome and cash flow would materially and adversely affect our liquidity,consolidated results of operations and consolidated financial condition.

 

A significant portion of our expenses is fixed, and we expect tocontinue to incur significant expenses for research and development, sales andmarketing, customer support, and general and administrative functions. Giventhe rate of growth in our customer base, our limited operating history and theintense competitive pressures we face, we may be unable to adequately controlour operating costs. In order to achieve and maintain profitability, we mustincrease our revenue while maintaining control over our expense levels.

 

***Because our marketsare highly competitive and dominated by large, well-financed participants, wemay be unable to compete effectively.***

 

Competition in our market is intense, and we expect competition toincrease. The market for broadband access equipment is dominated primarily bylarge, established suppliers such as ADTRAN, Inc., Alcatel-Lucent, andTellabs, Inc. While these suppliers focus primarily on large serviceproviders, they have competed, and may increasingly compete, in the IOC marketsegment. In addition, a number of emerging companies, including CalixNetworks, Inc., have developed, or are developing, products that competewith ours, including within our core IOC segment.

 

Our ability to compete successfully depends on a number of factors,including:

 

·                  the successfulidentification and development of new products for our core market;

 

·                  our ability totimely anticipate customer and market requirements and changes in technologyand industry standards;

 

·                  our ability togain access to and use technologies in a cost-effective manner;

 

·                  our ability totimely introduce cost-effective new products;

 

29

----

Table of Contents

 

·                  our ability todifferentiate our products from our competitors’ offerings;

 

·                  our ability togain customer acceptance of our products;

 

·                  the performanceof our products relative to our competitors’ products;

 

·                  our ability tomarket and sell our products through effective sales channels;

 

·                  our ability toestablish and maintain effective internal financial and accounting controls andprocedures and restore confidence in our financial reporting;

 

·                  the protectionof our intellectual property, including our processes, trade secrets andknow-how; and

 

·                  our ability toattract and retain qualified technical, executive and sales personnel.

 

Many of our existing and potential competitors are larger than we areand have greater financial resources and better-established brands and customerrelationships. Unlike many of our competitors, we do not provide financing topotential customers. In addition, many of our competitors have broader productlines than we do, so they can offer bundled products, which may appeal tocertain customers.

 

As the market for our products is new and evolving, winning customersearly in the growth of this market is critical to our ability to expand ourbusiness and increase revenue. Because the products that we and our competitorssell require a substantial investment of time and funds to install, customersare typically reluctant to switch equipment suppliers once a particularsupplier’s product has been installed. As a result, competition among equipmentsuppliers to secure contracts with potential customers is particularly intenseand will continue to place pressure on product pricing. Some of our competitorshave in the past and may in the future resort to offering substantial discountsto win new customers and generate cash flows. If we are forced to reduce pricesin order to secure customers, we may be unable to sustain gross margins atdesired levels or achieve profitability.

 

***We have relied, andexpect to continue to rely, on our BLC 6000 product line for the substantialmajority of our sales, and a decline in sales of our BLC 6000 line would causeour overall sales to decline proportionally.***

 

We have derived a substantial majority of our sales in recent yearsfrom our BLC 6000 product line. We expect that sales of this product line willcontinue to account for a substantial majority of our sales for the foreseeablefuture. Any factors adversely affecting the pricing of, or demand for, our BLC6000 line, including competition or technological change, could cause our salesto decline materially and our business to suffer.

 

***If we fail toenhance our existing products and develop new products and features that meetchanging customer requirements and support new technological advances, oursales would be materially and adversely affected.***

 

Our market is characterized by rapid technological advances, frequentnew product introductions, evolving industry standards and recurring changes inend-user requirements. Our future success will depend significantly on ourability to anticipate and adapt to such changes and to offer, on a timely andcost-effective basis, products and features that meet changing customer demandsand industry standards. The timely development of new or enhanced products is acomplex and uncertain process, and we may not be able to accurately anticipatemarket trends or have sufficient resources to successfully manage long developmentcycles. We may also experience design, manufacturing, marketing and otherdifficulties that could delay or prevent the development, introduction ormarketing of new products and enhancements. The introduction of new or enhancedproducts also requires that we manage the transition from older products tothese new or enhanced products in order to minimize disruption in customerordering patterns and ensure that adequate supplies of new products areavailable for delivery to meet anticipated customer demand. If we are unable todevelop new products or enhancements to our existing products on a timely andcost-effective basis, or if our new products or enhancements fail to achievemarket acceptance, our business, consolidated financial condition and consolidatedresults of operations would be materially and adversely affected.

 

We recently enhanced our BLC 6000 platform to support active GigabitEthernet fiber-to-the-premises, or FTTP, services. Although we have investedsignificant time and resources to develop this enhancement, these FTTP-enabledproducts are relatively new, with limited sales to date, and market acceptanceof these products may fall below our expectations. In addition, in 2007 weacquired new GPON technology and we may experience unanticipated delays inimproving or deploying it. The introduction of new products is also expected toplace pressure on our gross margins as most new products require time andincreased sales volumes to achieve cost-saving efficiencies in production. Tothe extent our new products and enhancements do not achieve broad marketacceptance, we may not realize expected returns on our investments, and we maylose current and potential customers.

 

30

----

Table of Contents

 

***Our efforts toincrease our sales and marketing efforts to larger telecom operators, which mayrequire us to broaden our reseller relationships, may be unsuccessful.***

 

To date, our sales and marketing efforts have been focused on small andmid-sized IOCs. A key element of our long-term strategy is to increase sales tolarge IOCs, competitive local exchange carriers, regional Bell operatingcompanies and international telecom service providers. We may be required todevote substantial technical, marketing and sales resources to the pursuit ofthese customers, who have lengthy equipment qualification and sales cycles. Inparticular, sales to these customers may require us to upgrade our products tomeet more stringent performance criteria, develop new customer-specificfeatures or adapt our product to meet international standards. We may incursubstantial technical, sales and marketing expenses and expend significantmanagement effort without any assurance of generating sales. Because we havelimited resources and large telecom operators may be reluctant to purchaseproducts from a relatively small supplier like us, we plan to target thesecustomers in cooperation with strategic resellers. These reseller relationshipsmay not be available to us, and if formed, may include terms, such asexclusivity and non-competition provisions, that restrict our activities orimpose onerous requirements on us. Moreover, in connection with these relationships,we may forego direct sales opportunities in favor of forming relationships withstrategic resellers. If we are unable to successfully increase our sales tolarger telecom operators or expand our reseller relationships, we may be unableto implement our long-term growth strategy.

 

***If we were toexperience payment problems with either resellers or customers for whom we areunable to assess creditworthiness, it could have an adverse impact on ourbusiness, operating results, or financial condition.***

 

Value added resellers, or VARs, account for a substantial portion ofour revenue in a quarter. Some of these VARs are not well capitalized, makingcollection of receivables from them uncertain. In addition, in certaininstances, we are limited in our ability to evaluate the creditworthiness ofdirect customers who decline to provide us with financial information. In 2007,in connection with our restatement, we adopted a revenue recognition policythat we would not recognize revenue from those resellers who lacked anindependent ability to pay us until we received cash payment. Sales to VARs forwhom we are not able to recognize revenue until we receive cash payment arereflected as deferred revenue. Any collection problems we may experience withthese resellers or direct customers could have an adverse impact on ourbusiness, operating results, or financial condition. In particular, when wesell and ship to resellers and other customers, legal title to the equipmentpasses to the reseller or customer on shipment, even though we have notrecognized revenue and, under GAAP accounting requirements, the equipmentcontinues to be reflected as inventory on our balance sheet. Any materialcollection issues with resellers or other customers could result in increasesin bad debt expense or collection costs, inventory impairments, or adjustmentsto our reported revenues or deferred revenues, any of which could result in adecline in our stock price.

 

***We may be unable tosuccessfully expand our international operations. In addition, ourinternational expansion plans, if implemented, will subject us to a variety ofrisks that may adversely affect our business.***

 

We currently generate almost all of our sales from customers in NorthAmerica and have very limited experience marketing, selling and supporting ourproducts and services outside North America or managing the administrativeaspects of a worldwide operation. While we intend to expand our internationaloperations, we may not be able to create or maintain international marketdemand for our products. In addition, regulations or standards adopted by othercountries may require us to redesign our existing products or develop newproducts suitable for sale in those countries. If we invest substantial timeand resources to expand our international operations and are unable to do sosuccessfully and in a timely manner, our business, financial condition andresults of operations will suffer.

 

In the course of expanding our international operations and operatingoverseas, we will be subject to a variety of risks, including:

 

·                  differingregulatory requirements, including tax laws, trade laws, labor regulations,tariffs, export quotas, custom duties or other trade restrictions and changesthereto;

 

·                  greaterdifficulty supporting and localizing our products;

 

·                  different orunique competitive pressures as a result of, among other things, the presenceof local equipment suppliers;

 

31

----

Table of Contents

 

·                  challengesinherent in efficiently managing an increased number of employees over largegeographic distances, including the need to implement appropriate systems,policies, benefits and compliance programs;

 

·                  limited orunfavorable intellectual property protection;

 

·                  changes in aspecific country’s or region’s political or economic conditions; and

 

·                  restrictions onthe repatriation of earnings.

 

***If we lose any ofour key personnel, or are unable to attract, train and retain qualifiedpersonnel, our ability to manage our business and continue our growth would benegatively impacted.***

 

Our success depends, in large part, on the continued contributions ofour key management, engineering, sales and marketing personnel, many of whomare highly-skilled and would be difficult to replace. None of our seniormanagement or key technical or sales personnel is bound by a written employmentcontract to remain with us for a specified period. In addition, we do notcurrently maintain key-man life insurance covering our key personnel. If welose the services of any key personnel, our business, financial condition andresults of operations may suffer.

 

Competition for skilled personnel, particularly those specializing inengineering and sales is intense. We cannot be certain that we will besuccessful in attracting and retaining qualified personnel, or that newly-hiredpersonnel will function effectively, either individually or as a group. Inparticular, we must continue to expand our direct sales force, including hiringadditional sales managers, to grow our customer base and increase sales. Evenif we are successful in hiring additional sales personnel, new salesrepresentatives require up to a year to become effective, and the recent lossof a senior sales executive could have an adverse impact on our ability torecruit and train additional sales personnel. In addition, our industry ischaracterized by frequent claims relating to unfair hiring practices. We maybecome subject to such claims and may incur substantial costs in defendingourselves against these claims, regardless of their merits. If we are unable toeffectively hire, integrate and utilize new personnel, the execution of ourbusiness strategy and our ability to react to changing market conditions may beimpeded, and our business, financial condition and results of operations couldsuffer.

 

***We may havedifficulty managing our growth, which could limit our ability to increase salesand cash flow.***

 

We have experienced significant growth in our sales and operations inrecent years. We expect to expand our research and development, sales,marketing and support activities, including our activities outside the U.S. Ourhistorical growth has placed, and planned future growth is expected to continueto place, significant demands on our management, as well as our financial andoperational resources, as required to:

 

·                  implement andmaintain effective financial disclosure controls and procedures, including theremediation of internal control deficiencies identified in our audit committeeinvestigation;

 

·                  implementappropriate operational and financial systems;

 

·                  manage a largerorganization;

 

·                  expand ourmanufacturing and distribution capacity;

 

·                  increase oursales and marketing efforts; and

 

·                  broaden ourcustomer support capabilities.

 

In addition, as discussed in this Form 10-Q under Part I,Item 3, our internal controls over financial reporting are currentlyineffective, and we will need to expand our finance organization and retainoutside advisors to implement adequate and effective financial controls. If wecannot grow or manage our business growth effectively, we may not be able toexecute our business strategies and our business, consolidated financialcondition and consolidated results of operations would suffer.

 

32

----

Table of Contents

 

***Because we dependupon a small number of outside contractors to manufacture our products, ouroperations could be disrupted if we encounter problems with any of thesecontractors.***

 

We do not have internal manufacturing capabilities and rely upon asmall number of contract manufacturers to build our products. In particular, werely on Flash Electronics, Inc. for the manufacture of our BLC 6000 bladeproducts. Our reliance on a small number of contract manufacturers makes usvulnerable to possible capacity constraints and reduced control over componentavailability, delivery schedules, manufacturing yields and costs. We do nothave long-term supply contracts with our primary contract manufacturers.Consequently, these manufacturers are not obligated to supply products to usfor any specific period, in any specific quantity or at any certain price,except as may be provided by a particular purchase order. If any of our manufacturerswere unable or unwilling to continue manufacturing our products in requiredvolumes and at high quality levels, we would have to identify, qualify andselect acceptable alternative manufacturers. It is possible that an alternatesource may not be available to us when needed or may not be in a position tosatisfy our production requirements at commercially reasonable prices andquality. Any significant interruption in manufacturing would require us toreduce our supply of products to our customers, which in turn could have amaterial adverse effect on our customer relations, business, consolidatedfinancial condition and consolidated results of operations.

 

We recently moved a portion of our manufacturing to the overseasfacilities of our primary contract manufacturer. This transition presents anumber of risks, including the potential for a supply interruption or areduction in manufacturing quality or controls, any of which would negativelyimpact our business, customer relationships and results of operations.

 

***We depend on solesource and limited source suppliers for key components and license technologyfrom third parties. If we are unable to source these components andtechnologies on a timely basis, we will not be able to deliver our products toour customers.***

 

We depend on sole source and limited source suppliers for keycomponents of our products. Any of the sole source and limited source suppliersupon which we rely could stop producing our components, cease operationsentirely, or be acquired by, or enter into exclusive arrangements with, ourcompetitors. We do not have long-term supply agreements with our suppliers, andour purchase volumes are currently too low for us to be considered a prioritycustomer by most of our suppliers. As a result, these suppliers could stopselling components to us at commercially reasonable prices, or at all. Any suchinterruption or delay may force us to seek similar components from alternatesources, if available at all. Switching suppliers may require that we redesignour products to accommodate the new component and may potentially require us tore-qualify our products with our customers, which would be costly andtime-consuming. Any interruption in the supply of sole source or limited sourcecomponents would adversely affect our ability to meet scheduled productdeliveries to our customers and would materially and adversely affect ourbusiness, consolidated financial condition and consolidated results ofoperations.

 

Periodically, we may be required to license technology from thirdparties to develop new products or product enhancements. These third-partylicenses may be unavailable to us on commercially reasonable terms, if at all.Our inability to obtain necessary third-party licenses may force us to obtainsubstitute technology of lower quality or performance standards or at greatercost, any of which could seriously harm the competitiveness of our products andwhich would result in a material and adverse effect on our business,consolidated financial condition and consolidated results of operations.

 

***If we fail toaccurately predict our manufacturing requirements and manage our inventory, wecould incur additional costs, experience manufacturing delays, or lose revenue.***

 

Lead times for the materials and components that we order through ourcontract manufacturers may vary significantly and depend on numerous factors,including the specific supplier, contract terms and market demand for acomponent at a given time. If we overestimate our production requirements, ourcontract manufacturers may purchase excess components and build excessinventory. If our contract manufacturers purchase excess components that areunique to our products or build excess products, we could be required to payfor these excess parts or products and recognize related inventory write-downcosts. If we underestimate our product requirements, our contract manufacturersmay have inadequate component inventory, which could interrupt manufacturing ofour products and result in delays or cancellation of sales. In prior periods wehave experienced excess and obsolete inventory write-downs which impact theCompany’s cost of goods sold. This may continue in the future, which would havean adverse effect on our gross margins, consolidated financial condition andconsolidated results of operations. If we underestimate demand, we will haveinadequate inventory, which could slow down or interrupt the manufacturing ofour products and result in delays in shipment and our ability to recognizerevenue.

 

33

----

Table of Contents

 

***If our productscontain undetected defects, including errors and interoperability issues, wecould incur significant unexpected expenses to remedy the defects, which couldhave a material adverse effect on our sales, results of operations or financialcondition.***

 

Although our products are tested prior to shipment, they may containsoftware or hardware errors, defects or interoperability issues (collectivelydescribed as “defects”) that can only be detected when deployed in livenetworks that generate high amounts of communications traffic. We also continueto introduce new products that may have undetected software or hardwaredefects. Our customers may discover defects in our products after broaddeployment and as their networks are expanded and modified. Any defects in ourproducts discovered in the future, or failures of our customers’ networks,whether caused by our products or those of another vendor, could result in lostsales and market share and negative publicity regarding our products. Forexample, during fiscal 2004, we experienced unusually high repair costs relatedto the effect of lightning strikes on selected BLC 6000 installations. As aresult, we experienced higher than anticipated costs of sales, which managementbelieves were necessary to maintain customer satisfaction. In 2007, weexperienced higher than average failures of certain assemblies that werefabricated between October 2005 and January 2006 and identifieddesign issues associated with a transistor that resulted in equipmentdisruption and that required a re-engineering effort. As a result, we increasedour warranty accruals in 2007. Any similar occurrences in the future could havea material adverse effect on our business, consolidated financial condition andconsolidated results of operations.

 

***Our business isdependent on the capital spending patterns of telecom operators, and any decreaseor delay in capital spending by our customers, such as recently appears to haveoccurred among IOCs evaluating their capital expenditures and investmentdecisions in light of the industry transition from copper wire to fiber, wouldadversely affect our consolidated operating results and consolidated financialcondition.***

 

Demand for our products depends on the magnitude and timing of capitalspending by telecom service providers as they construct, expand and upgradetheir networks. The capital spending patterns of telecom service providers aredependent on a variety of factors, including:

 

·                  competitivepressures, including pricing pressures;

 

·                  consumer demandfor new services;

 

·                  an emphasis ongenerating sales from services delivered over existing networks instead of newnetwork construction or upgrades;

 

·                  the timing ofannual budget approvals;

 

·                  evolvingindustry standards and network architectures;

 

·                  free cash flowand access to external sources of capital; and

 

·                  completion ofmajor network upgrades.

 

Beginning in late 2000 and continuing into 2004, the telecom industryexperienced a severe downturn, and many telecom service providers filed forbankruptcy. Those companies that survived the downturn substantially reducedtheir investments in new equipment. In addition, uncertain and volatile capitalmarkets depressed the market values of telecom service providers and restrictedtheir access to capital, resulting in delays or cancellations of certainprojects. More recently, we believe capital expenditures among IOCs have beenadversely affected as our customers consider their investment and capitalexpenditure decisions in light of the industry transition from copper wire tofiber. Because many of our customers are IOCs, their revenues are particularlydependent upon intercarrier payments (primarily interstate and intrastateaccess charges) and federal and state universal service subsidies. The FCC andsome states are considering changes to both intercarrier payments and universalservice subsidies, and such changes could reduce IOC revenues. Furthermore,many IOCs use government-supported loan programs or grants to finance capitalspending. Changes to those programs, such as the United States Department ofAgriculture’s Rural Utility Service, could reduce the ability of IOCs to accesscapital. Any decision by telecom service providers to reduce capitalexpenditures, whether caused by economic cycles, changes in governmentregulations and subsidies, or other reasons, would have a material adverse effecton our business, consolidated financial condition and results of operations.

 

34

----

Table of Contents

 

***Demand for our products is dependenton the willingness of our customers to deploy new services, the success of ourcustomers in selling new services to their subscribers, and the willingness ofour customers to utilize IP and Ethernet technologies in local access networks.***

 

Demand for ourproducts is dependent on the success of our customers in deploying and sellingservices to their subscribers. Our BLC 6000 platform simultaneously supportsIP-based services, such as broadband Internet, VoIP, IPTV and FTTP, andtraditional voice services. If end-user demand for IP-based services does notgrow as expected or declines and our customers are unable or unwilling todeploy and market these newer services, demand for our products may decrease orfail to grow at rates we anticipate.

 

Our strategyincludes developing products for the local access network that incorporate IPand Ethernet technologies. If these technologies are not widely adopted bytelecom service providers for use in local access networks, demand for ourproducts may decrease or not grow. As a result, we may be unable to sell ourproducts to recoup our expenses related to the development of these productsand our consolidated results of operations would be harmed.

 

***Changes in existing accounting or taxationrules or practices may adversely affect our consolidated results ofoperations.***

 

Changes inexisting accounting or taxation rules or practices, or varyinginterpretations of current rules or practices, could have a significantadverse effect on our financial results or the manner in which we conduct ourbusiness. For example, prior to fiscal 2006, we accounted for options grantedto employees using the intrinsic value method, which, given that we generallygranted employee options with exercise prices equal to the fair market value ofthe underlying stock at the time of grant, resulted in no compensation expense.Beginning in fiscal 2006, we began recording expenses for our stock-basedcompensation plans, including option grants to employees, using the fair valuemethod, under which we expect our ongoing accounting charges related to equityawards to employees to be significantly greater than those we would haverecorded under the intrinsic value method. We expect to continue to usestock-based compensation as a significant component of our compensation packagefor existing and future employees. Accordingly, changes in accounting forstock-based compensation expense under the newer accounting method are expectedto have a material adverse affect on our reported results. Any similar changesin accounting or taxation rules or practices could have a material impacton our consolidated financial results.

 

***We may pursue acquisitions, which may involvea number of risks. If we are unable to address and resolve these riskssuccessfully, such acquisitions could have a material adverse impact to ourbusiness, consolidated results of operations and consolidated financialcondition.***

 

We may makeacquisitions of businesses, products or technologies to expand our productofferings and capabilities, customer base and business. In October 2007,we acquired certain assets and assumed certain liabilities of TerawaveCommunications and we have evaluated, and expect to continue to evaluate, awide array of potential strategic transactions. We have limited experiencemaking such acquisitions. Any of these transactions could be material to ourconsolidated financial condition and results of operations. The anticipatedbenefit of acquisitions may never materialize. In addition, the process ofintegrating an acquired business, products or technologies may createunforeseen operating difficulties and expenditures. Some of the areas where wemay face acquisition-related risks include:

 

·                  diversion of management time andpotential business disruptions;

 

·                  expenses, distractions and potentialclaims resulting from acquisitions, whether or not they are completed;

 

·                  retaining and integrating employeesfrom any businesses we may acquire;

 

·                  issuance of dilutive equitysecurities or incurrence of debt;

 

·                  integrating various accounting,management, information, human resource and other systems to permit effectivemanagement;

 

·                  incurring possible write-offs,impairment charges, contingent liabilities, amortization expense or write-offsof goodwill;

 

·                  difficulties integrating andsupporting acquired products or technologies;

 

·                  unexpected capital equipment outlaysand related costs;

 

35

----

Table of Contents

 

·                  insufficient revenues to offsetincreased expenses associated with the acquisition;

 

·                  under-performance problems associatedwith acquisitions;

 

·                  opportunity costs associated withcommitting capital to such acquisitions;, and

 

·                  becoming involved inacquisition-related litigation.

 

Foreignacquisitions involve unique risks in addition to those mentioned above,including those related to integration of operations across different culturesand languages, currency risks and the particular economic, political andregulatory risks associated with specific countries. We cannot assure that wewill be able to address these risks successfully, or at all, without incurringsignificant costs, delay or other operating problems. Our inability to resolveany of such risks could have a material adverse impact on our business,consolidated financial condition and consolidated results of operations.

 

***Business combinations and other financialrestructurings by telecom service providers or our competitors could adverselyaffect our business.***

 

In recentyears, the telecom service provider market has undergone substantialconsolidation, illustrated by the merger of SBC Communications Inc. withAT&T Inc., the merger of SBC Communications (now renamed AT&T)with BellSouth Corporation (now also renamed AT&T), and the merger ofVerizon Communications Inc. with MCI, Inc. Transactions such as thesegenerally have negative implications for equipment suppliers like us, includinga reduction in the number of potential customers for telecom equipmentproducts, a decrease in aggregate capital spending and greater pricing power byservice providers over equipment suppliers. Continued consolidation of thetelecom service provider industry, including among IOC customers which we focuson, could make it more difficult for us to grow our customer base, increasesales of our products and maintain adequate gross margins.

 

Thetelecommunications equipment industry is also characterized by frequent mergersand acquisitions, as illustrated by the merger of Alcatel with LucentTechnologies and the acquisition of Advanced Fibre Communications, Inc. byTellabs. An acquisition of one of our competitors, or merger between ourcompetitors, could harm our competitive position or cause our target customersto delay purchases of our products while they assess the impact of thecombination. If a larger company with more resources were to acquire acompetitor of ours, they may invest additional resources in developing,marketing and supporting competitive products, which would negatively impactour business, consolidated financial condition and consolidated results ofoperations.

 

***Our customers are subject to governmentregulation, and changes in current or future laws or regulations thatnegatively impact our customers could harm our business.***

 

Thejurisdiction of the Federal Communications Commission, or FCC, extends to theentire telecommunications industry, including our customers. Future FCCregulations affecting the broadband access industry, our customers, or theservice offerings of our customers, may harm our business. For example, FCCregulatory policies affecting the availability of data and Internet servicesmay impede the penetration of our customers into certain markets or affect theprices they may charge in such markets. Furthermore, many of our customers aresubject to FCC rate regulation of interstate telecommunications services, andare recipients of federal universal service subsidies implemented andadministered by the FCC. In addition, many of our customers are subject tostate regulation of intrastate telecommunications services, including rates forsuch services, and may also receive state universal service subsidies. Changesin FCC or state rate regulations or federal or state universal servicesubsidies or the imposition of taxes on Internet access service, couldadversely affect our customers’ revenues and capital spending plans. Inaddition, international regulatory bodies are beginning to adopt standards andregulations for the telecom industry. These domestic and foreign standards,laws and regulations address various aspects of VoIP and broadband use,including issues relating to liability for information retrieved from, ortransmitted over, the Internet. Changes in standards, laws and regulations, orjudgments in favor of plaintiffs in lawsuits against service providers couldadversely affect the development of Internet and other IP-based services. This,in turn, could directly or indirectly materially adversely impact the telecom industryin which our customers operate. To the extent our customers are adverselyaffected by laws or regulations regarding their business, products or serviceofferings, our business, financial condition and results of operations wouldsuffer.

 

36

----

Table of Contents

 

***If we fail to comply with regulations andevolving industry standards, sales of our existing and future products could beadversely affected.***

 

The marketsfor our products are characterized by a significant number of laws, regulationsand standards, both domestic and international, some of which are evolving asnew technologies are deployed. Our products are required to comply with theselaws, regulations and standards, including those promulgated by the FCC. Forexample, the FCC recently required that all facilities-based providers ofbroadband Internet access and interconnect VoIP services meet the capabilityrequirements of the Communications Assistance for Law Enforcement Act byMay 14, 2007. Subject to certain statutory parameters, we are required tomake available to our customers, on a reasonably timely basis and at areasonable charge, such features or modifications as are necessary to permitour customers to meet those capability requirements. In some cases, we arerequired to obtain certifications or authorizations before our products can beintroduced, marketed or sold. There can be no assurance that we will be able tocontinue to design our products to comply with all necessary requirements inthe future. Accordingly, any of these laws, regulations and standards maydirectly affect our ability to market or sell our products.

 

Some of ouroperations are regulated under various federal, state and local environmentallaws. Our planned international expansion will likely subject us to additionalenvironmental and other laws. For example, the European Union Directive2002/96/EC on waste electrical and electronic equipment, known as the WEEEDirective, requires producers of certain electrical and electronic equipment,including telecom equipment, to be financially responsible for the specifiedcollection, recycling, treatment and disposal of past and present coveredproducts placed on the market in the European Union. The European UnionDirective 2002/95/EC on the restriction of the use of hazardous substances inelectrical and electronic equipment, known as the RoHS Directive, restricts theuse of certain hazardous substances, including lead, in covered products.Failure to comply with these and other environmental laws could result in finesand penalties and decreased sales, which could adversely affect our plannedinternational expansion and our consolidated operating results.

 

***We may not be able to protect ourintellectual property, which could adversely affect our ability to competeeffectively.***

 

We depend onour proprietary technology for our success and ability to compete. We currentlyhold 24 issued patents and have several patent applications pending. We rely ona combination of patent, copyright, trademark and trade secret laws, as well asconfidentiality agreements and licensing arrangements, to establish and protectour proprietary rights. Existing patent, copyright, trademark and trade secretlaws will afford us only limited protection. In addition, the laws of someforeign countries do not protect proprietary rights to the same extent, as dothe laws of the U.S. We cannot assure you that any pending patent applicationswill result in issued patents, and issued patents could prove unenforceable.Any infringement of our proprietary rights could result in significantlitigation costs. Further, any failure by us to adequately protect ourproprietary rights could result in our competitors offering similar products,resulting in the loss of our competitive advantage and decreased sales.

 

Despite ourefforts to protect our proprietary rights, attempts may be made to copy orreverse engineer aspects of our products, or to obtain and use information thatwe regard as proprietary. Accordingly, we may be unable to protect ourproprietary rights against unauthorized third-party copying or use.Furthermore, policing the unauthorized use of our intellectual property wouldbe difficult for us. Litigation may be necessary in the future to enforce ourintellectual property rights, to protect our trade secrets or to determine thevalidity and scope of the proprietary rights of others. Litigation could resultin substantial costs and diversion of resources and could have a materialadverse effect on our business, consolidated financial condition andconsolidated results of operations.

 

***We could become subject to litigationregarding intellectual property rights that could materially harm our business.***

 

We may besubject to intellectual property infringement claims that are costly to defendand could limit our ability to use some technologies in the future. Ourindustry is characterized by frequent intellectual property litigation based onallegations of infringement of intellectual property rights. From time to time,third parties have asserted against us and may assert against us in the futurepatent, copyright, trademark or other intellectual property rights totechnologies or rights that are important to our business. In addition, we haveagreed, and may in the future agree, to indemnify our customers for anyexpenses or liabilities resulting from claimed infringements of patents,trademarks or copyrights of third parties. Any claims asserting that ourproducts infringe, or may infringe on, the proprietary rights of third parties,with or without merit, could be time-consuming, resulting in costly litigationand diverting the efforts of our management. These claims could also result inproduct shipment delays or require us to modify our products or enter intoroyalty or licensing agreements. Such royalty or licensing agreements, ifrequired, may not be available to us on acceptable terms, if at all.

 

37

----

Table of Contents

 

***Our business could be shut down or severelyimpacted if a natural disaster or other unforeseen catastrophe occurs,particularly in California.***

 

Our businessand operations depend on the extent to which our facilities and products areprotected against damage from fire, earthquakes, power loss and similar events.Some of our key business activities currently take place in regions consideredas high risk for certain types of natural disasters. Despite precautions wehave taken, a natural disaster or other unanticipated problem could, amongother things, hinder our research and development efforts, delay the shipmentof our products and affect our ability to receive and fulfill orders. While webelieve that our insurance coverage is comparable to those of similar companiesin our industry, it does not cover all natural disasters, in particular,earthquakes and floods.

 

**RisksRelated to Our Common Stock**

 

***Our executive officers, directors and theiraffiliates hold a large percentage of our stock and their interests may differfrom other stockholders.***

 

As ofDecember 31, 2007, our executive officers, directors and their affiliatesbeneficially owned, in the aggregate, approximately 31.3% of our outstandingcommon stock. Investment funds affiliated with U.S. Venture Partners andNorwest Venture Partners, collectively control approximately 27.7% of ouroutstanding common stock. Representatives of U.S. Venture Partners and NorwestVenture Partners are directors of Occam. These stockholders have significantinfluence over most matters requiring approval by stockholders, including theelection of directors, any amendments to our certificate of incorporation andsignificant corporate transactions.

 

***Our stock price may be volatile, and you maynot be able to resell shares of our common stock at or above the price youpaid.***

 

Our shares ofcommon stock began trading on The NASDAQ Global Market in November 2006.An active public market for our shares on The NASDAQ Global Market may not besustained. In particular, limited trading volumes and liquidity may limit theability of stockholders to purchase or sell our common stock in the amounts andat the times they wish. Trading volume in our common stock tends to be modestrelative to our total outstanding shares, and the price of our common stock mayfluctuate substantially (particularly in percentage terms) without regard tonews about us or general trends in the stock market.

 

In addition,the trading price of our common stock could become highly volatile and could besubject to wide fluctuations in response to various factors, some of which arebeyond our control. These factors include those discussed in this “Risk Factors”section of this Quarterly Report on Form 10-Q and others such as:

 

·                  quarterly variations in ourconsolidated results of operations or those of our competitors;

 

·                  changes in earnings estimates orrecommendations by securities analysts;

 

·                  announcements by us or ourcompetitors of new products, significant contracts, commercial relationships,acquisitions or capital commitments;

 

·                  developments with respect tointellectual property rights;

 

·                  our ability to develop and market newand enhanced products on a timely basis;

 

·                  commencement of, or involvement in,litigation;

 

·                  changes in governmental regulationsor in the status of our regulatory approvals; and

 

·                  a slowdown in the telecom industry orgeneral economy.

 

In recentyears, the stock market in general, and the market for technology companies inparticular, has experienced extreme price and volume fluctuations that haveoften been unrelated or disproportionate to the operating performance of thosecompanies. Broad market and industry factors may seriously affect the marketprice of our common stock, regardless of our actual operating performance. Inaddition, in the past, following periods of volatility in the overall marketand the market price of a particular company’s securities, securities classaction litigation has often been instituted against these companies. We arecurrently a defendant in securities class action litigation arising from ourrestatement. This litigation or any additional litigation that may beinstituted against us could result in substantial costs and a diversion of ourmanagement’s attention and resources.

 

38

----

Table of Contents

 

***Provisions in our charter documents and underDelaware law could discourage a takeover that stockholders may considerfavorable.***

 

Provisions inour certificate of incorporation and bylaws, as amended and restated upon theclosing of this offering, may have the effect of delaying or preventing achange of control or changes in our management. These provisions include thefollowing:

 

·                  our board of directors has the rightto elect directors to fill a vacancy created by the expansion of the board ofdirectors or the resignation, death or removal of a director, which preventsstockholders from being able to fill vacancies on our board of directors;

 

·                  our stockholders may not act bywritten consent or call special stockholders’ meetings; as a result, a holder,or holders, controlling a majority of our capital stock would not be able totake certain actions other than at annual stockholders’ meetings or specialstockholders’ meetings called by the board of directors, the chairman of theboard, the chief executive officer or the president;

 

·                  our certificate of incorporationprohibits cumulative voting in the election of directors, which limits theability of minority stockholders to elect director candidates;

 

·                  stockholders must provide advancenotice to nominate individuals for election to the board of directors or topropose matters that can be acted upon at a stockholders’ meeting, which maydiscourage or deter a potential acquiror from conducting a solicitation ofproxies to elect the acquiror’s own slate of directors or otherwise attemptingto obtain control of our company; and

 

·                  our board of directors may issue,without stockholder approval, shares of undesignated preferred stock; theability to authorize undesignated preferred stock makes it possible for ourboard of directors to issue preferred stock with voting or other rights orpreferences that could impede the success of any attempt to acquire us.

 

As a Delawarecorporation, we are also subject to certain Delaware anti-takeover provisions.Under Delaware law, a corporation may not engage in a business combination withany holder of 15% or more of its capital stock unless the holder has held thestock for three years or, among other things, the board of directors hasapproved the transaction. Our board of directors could rely on Delaware law toprevent or delay an acquisition of us.

 

***We may be unable to raise additional capitalto fund our future operations, and any future financings or acquisitions couldresult in substantial dilution to existing stockholders.***

 

While we anticipate our cash balances and any cash from operations willbe sufficient to fund our operations for at least the next 12 months, wemay need to raise additional capital to fund operations in the future. There isno guarantee that we will be able to raise additional equity or debt fundingwhen or if it is required. The terms of any financing, if available, could beunfavorable to us and our stockholders and could result in substantial dilutionto the equity and voting interests of our stockholders. Any failure to obtain financingwhen and as required would have an adverse and material effect on our business,consolidated financial condition and consolidated results of operations.

 

***If securities or industry analysts do not publishresearch or publish misleading or unfavorable research about our business, ourstock price and trading volume could decline.***

*** ***

The tradingmarket for our common stock depends in part on the research and reports thatsecurities or industry analysts publish about us or our business. If no or fewsecurities or industry analysts cover our company, the trading price for ourstock would be negatively impacted. If one or more of the analysts who coversus downgrades our stock or publishes misleading or unfavorable research aboutour business, our stock price would likely decline. If one or more of theseanalysts ceases coverage of our company or fails to publish reports on usregularly, demand for our stock could decrease, which could cause our stockprice or trading volume to decline.

 

39

----

Table of Contents

 

**ITEM 2. UNREGISTERED SALES OF EQUITYSECURITIES AND USE OF PROCEEDS**

 

None.

 

**ITEM 3. DEFAULTS UPON SENIOR SECURITIES**

 

None.

 

**ITEM 4. SUBMISSION OF MATTERS TO A VOTEOF SECURITY HOLDERS**

 

The Annual Meeting of the Stockholders of Occam Networks, Inc. was heldon June 18, 2008. At the Annual Meeting, our stockholders approved thefollowing matters with the respective vote counts indicated:

 

1)                                      Election ofDirectors:

 
| **Name**                  | ** ** | **For**    | ** ** | **Withheld** | ** ** |
|---------------------------|------------|------------|------------|--------------|------------|
| Robert L. Howard-Anderson |       | 15,664,235 |       | 97,837       |       |
| Steven M. Krausz          |       | 15,321,919 |       | 440,153      |       |
| Thomas E. Pardun          |       | 15,672,458 |       | 89,614       |       |
| Robert B. Abbott          |       | 15,671,360 |       | 90,712       |       |
| Robert E. Bylin           |       | 15,323,569 |       | 438,503      |       |
| Albert J. Moyer           |       | 15,703,550 |       | 58,552       |       |
| Brian H. Strom            |       | 15,328,887 |       | 433,185      |       |

 

2)                                      Ratification ofthe appointment of SingerLewak LLP as independent registered public accountingfirm for the 2008 fiscal year:

 

| **For**    | ** ** | **Against** | ** ** | **Abstain** | ** ** |
|------------|------------|-------------|------------|-------------|------------|
| 15,378,013 |       | 35,056      |       | 349,013     |       |

 

**ITEM 5. OTHER INFORMATION**

 

**None**

 

**ITEM 6. EXHIBITS**

 
| **Exhibit  Number** | ** ** | **Exhibit Title**                                                                                                                                                                           | ** ** |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| 10.5                |       | Occam  Networks, Inc. 2006 Employee Stock Purchase Plan, as amended and  restated effective March 24, 2008.                                                                            |       |
|                |       |                                                                                                                                                                                             |       |
| 10.82(1)            |       | Lease  Agreement between Prologis Limited Partnership and Occam Networks, Inc.  dated as of March 14, 2008.                                                                            |       |
|                |       |                                                                                                                                                                                             |       |
| 31.01               |       | Certification  of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002.                                                                                       |       |
|                |       |                                                                                                                                                                                             |       |
| 31.02               |       | Certification  of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002.                                                                                       |       |
|                |       |                                                                                                                                                                                             |       |
| 32.01               |       | Certification  of Chief Executive Officer and Chief Financial Officer pursuant to  18 U.S.C. Section 1350, as adopted pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002. |       |

----

(1)           Incorporated by reference toRegistrant’s Current Report on Form 8-K filed with the SEC on March 18,2008.

 

40

----

Tableof Contents

 

**SIGNATURES**

 

Pursuant to the requirements of the Securities Exchange Act of 1934,the registrant has duly caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 
|                   |   | OCCAM NETWORKS, INC. |
|------------------------|--------|---------------------------|
|                   |   | (Registrant)              |
|                   |   |                      |
|                   |   | By:                       | /s/ JEANNE SEELEY |
|                   |   |                      | Jeanne Seeley |
|                   |   |                      | Chief Financial Officer |
|                   |   |                      | (Principal Financial and Accounting Officer) |
| Dated: August 11, 2008 |   |                      |   |

 

41

----

Tableof Contents

 

**EXHIBITINDEX**

 
| **Exhibit  Number** | ** ** | **Exhibit Title**                                                                                                                                                                           | ** ** |
|---------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| 10.5                |       | Occam  Networks, Inc. 2006 Employee Stock Purchase Plan, as amended and  restated effective March 24, 2008.                                                                            |       |
|                |       |                                                                                                                                                                                             |       |
| 10.82(1)            |       | Lease  Agreement between Prologis Limited Partnership and Occam Networks, Inc.  dated as of March 14, 2008.                                                                            |       |
|                |       |                                                                                                                                                                                             |       |
| 31.01               |       | Certification  of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002.                                                                                       |       |
|                |       |                                                                                                                                                                                             |       |
| 31.02               |       | Certification  of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley  Act of 2002.                                                                                       |       |
|                |       |                                                                                                                                                                                             |       |
| 32.01               |       | Certification  of Chief Executive Officer and Chief Financial Officer pursuant to  18 U.S.C. Section 1350, as adopted pursuant to Section 906 of  the Sarbanes-Oxley Act of 2002. |       |

----

(1)           Incorporated by reference toRegistrant’s Current Report on Form 8-K filed with the SEC on March 18,2008.

 

42

----