##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, DC 20549
 
 FORM
10-Q/A
 (Amendment No. 1)
  þ
    
    Quarterly Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 For the quarterly period ended March 26, 2005
 o
    
    Transition Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
 For
the transition period from 
to
 Commission file number 000-27312
 TOLLGRADE COMMUNICATIONS, INC.
  Pennsylvania
    
    25-1537134(State or other jurisdiction
    
    (I.R.S. Employerof incorporation or organization)
    
    Identification No.)
 493 Nixon Rd.
Cheswick, PA 15024
 412-820-1400
  þ o
  o þ o
 o þ




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2




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##### 



TOLLGRADE COMMUNICATIONS, INC.
 Quarterly Report on Form 10-Q/A
For the Quarter Ended March 26, 2005
 Table of Contents
 PAGE NO.PART I. FINANCIAL INFORMATION RESTATEDItem 1 Condensed Consolidated Financial Statements (unaudited):Condensed Consolidated Balance Sheets as of March 26, 2005 and December
31, 2004
    
    
    4Condensed Consolidated Statements of Operations for the three month
periods ended March 26, 2005 and March 27, 2004
    
    
    5Condensed Consolidated Statement of Changes in Shareholders Equity for
the three month period ended March 26, 2005
    
    
    6Condensed Consolidated Statements of Cash Flows for the three month
periods ended March 26, 2005 and March 27, 2004
    
    
    7Notes to Condensed Consolidated Financial Statements
    
    
    8Report of Independent Registered Public Accounting Firm
    
    
    17Item 2 Managements Discussion and Analysis of Financial Condition and
Results of Operations
    
    
    18Item 3 Quantitative and Qualitative Disclosures about Market Risk
    
    
    44Item 4 Controls and Procedures
    
    
    44PART II. OTHER INFORMATIONItem 2 Changes in Securities, Use of Proceeds and Issuer Purchases of
Equity Securities
    
    
    47Item 6 Exhibits and Reports Filed on Form 8-K
    
    
    47SIGNATURES
    
    
    49EXHIBIT INDEX
    
    
    50Exhibit 15Exhibit 31.1Exhibit 31.2Exhibit 32EXHIBIT 15EXHIBIT 31.1EXHIBIT 31.2EXHIBIT 32
  3




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##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 Item 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 TOLLGRADE COMMUNICATIONS, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED BALANCE SHEETS
 (In thousands except per share amounts) (Unaudited)
 March 26, 2005
    
    
    December 31, 2004*Restated  See Note 2ASSETSCurrent assets:Cash and cash equivalents
    
    $
    23,134
    
    
    $
    32,622Short-term investments
    
    
    28,428
    
    
    
    18,537Accounts receivable:Trade, net of allowance for doubtful accounts of $737
in 2005 and $754 in 2004
    
    
    8,861
    
    
    
    10,691Other
    
    
    706
    
    
    
    106Inventory
    
    
    14,110
    
    
    
    12,941Prepaid expenses and other current assets
    
    
    1,792
    
    
    
    2,543Refundable income taxes
    
    
    652
    
    
    
    964Deferred tax assets
    
    
    1,785
    
    
    
    1,143Total current assets
    
    
    79,468
    
    
    
    79,547Property and equipment, net
    
    
    7,514
    
    
    
    7,860Deferred tax assets
    
    
    249
    
    
    
    197Intangibles, net
    
    
    40,308
    
    
    
    40,518Goodwill
    
    
    22,220
    
    
    
    22,220Capitalized software costs, net
    
    
    5,985
    
    
    
    6,453Receivable from officer
    
    
    157
    
    
    
    156Other assets
    
    
    182
    
    
    
    194Total assets
    
    $
    156,083
    
    
    $
    157,145LIABILITIES AND SHAREHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    1,321
    
    
    $
    1,087Accrued warranty
    
    
    2,061
    
    
    
    2,081Accrued expenses
    
    
    2,627
    
    
    
    1,735Accrued salaries and wages
    
    
    599
    
    
    
    718Accrued royalties payable
    
    
    152
    
    
    
    451Income taxes payable
    
    
    181
    
    
    
    169Deferred income
    
    
    1,287
    
    
    
    2,461Total current liabilities
    
    
    8,228
    
    
    
    8,702Deferred tax liabilities
    
    
    2,299
    
    
    
    2,042Total liabilities
    
    
    10,527
    
    
    
    10,744Commitments and contingent liabilities
    
    
    
    
    
    
    Shareholders equity:Preferred stock, $1.00 par value; Authorized shares,
10,000,000; issued shares, -0- In 2005 and 2004
    
    
    
    
    
    
    Common stock, $.20 par value; authorized shares,
50,000,000; issued shares, 13,622,940 in 2005 and 2004
    
    
    2,725
    
    
    
    2,725Additional paid-in capital
    
    
    71,135
    
    
    
    71,135Treasury stock, at cost, 461,800 shares in 2005 and 2004
    
    
    (4,791
    )
    
    
    (4,791
    )Retained earnings
    
    
    76,487
    
    
    
    77,332Total shareholders equity
    
    
    145,556
    
    
    
    146,401Total liabilities and shareholders equity
    
    $
    156,083
    
    
    $
    157,145
 
 *
    
    Amounts derived from audited financial statements presented in the Companys Annual Report on
Form 10-K for the year ended December 31, 2005




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TOLLGRADE COMMUNICATIONS, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
 (In thousands, except per share amounts) (Unaudited)
 Three Months EndedMarch 26, 2005
    
    
    March 27, 2004Restated  See Note 2Revenues:Products
    
    $
    11,980
    
    
    $
    14,455Services
    
    
    2,295
    
    
    
    3,152Total revenues:
    
    
    14,275
    
    
    
    17,607Cost of sales:Products
    
    
    6,052
    
    
    
    6,014Services
    
    
    796
    
    
    
    860Amortization of intangibles
    
    
    714
    
    
    
    6257,562
    
    
    
    7,499Gross profit
    
    
    6,713
    
    
    
    10,108Operating expenses:Selling and marketing
    
    
    2,238
    
    
    
    2,472General and administrative
    
    
    1,835
    
    
    
    1,934Research and development
    
    
    3,396
    
    
    
    4,192Retirement expense
    
    
    775
    
    
    
    Total operating expense
    
    
    8,244
    
    
    
    8,598(Loss) income from operations
    
    
    (1,531
    )
    
    
    1,510Other income:Interest income (including interest
income from officer receivable of
$1,800 and $1,900 in 2005 and 2004)
    
    
    262
    
    
    
    90(Loss) income before taxes
    
    
    (1,269
    )
    
    
    1,600(Benefit) provision for income taxes
    
    
    (424
    )
    
    
    608Net (loss) income
    
    $
    (845
    )
    
    $
    992(Loss) earnings per share information:Weighted average shares of common
stock and equivalents:Basic
    
    
    13,161
    
    
    
    13,120Diluted
    
    
    13,161
    
    
    
    13,352Net (loss) income per common share:Basic
    
    $
    (0.06
    )
    
    $
    0.08Diluted
    
    $
    (0.06
    )
    
    $
    0.07




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TOLLGRADE COMMUNICATIONS, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS
EQUITY
 For the Three Months Ended March 26, 2005
(In thousands, except per share amounts) (Unaudited)
 AdditionalPreferred Stock
    
    
    Common Stock
    
    
    Paid-In
    
    
    Treasury
    
    
    RetainedShares
    
    
    Amount
    
    
    Shares
    
    
    Amount
    
    
    Capital
    
    
    Stock
    
    
    Earnings
    
    
    TotalBalance at
December 31, 2004 
as originally
reported
    
    
    
    
    
    $
    
    
    
    
    13,623
    
    
    $
    2,725
    
    
    $
    71,135
    
    
    $
    (4,791
    )
    
    $
    78,440
    
    
    $
    147,509Restatement
adjustments (Note
2)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (1,108
    )
    
    
    (1,108
    )Balance at
December 31,
2004  restated
    
    
    
    
    
    $
    
    
    
    
    13,623
    
    
    $
    2,725
    
    
    $
    71,135
    
    
    $
    (4,791
    )
    
    $
    77,332
    
    
    $
    146,401Net loss
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (845
    )
    
    
    (845
    )Balance at
March 26,
2005  restated
    
    
    
    
    
    $
    
    
    
    
    13,623
    
    
    $
    2,725
    
    
    $
    71,135
    
    
    $
    (4,791
    )
    
    $
    76,487
    
    
    $
    145,556
  6




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TOLLGRADE COMMUNICATIONS, INC. AND SUBSIDIARIES
 
 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
 (In thousands, except per share amounts) (Unaudited)
 Three Months EndedMarch 26, 2005
    
    
    March 27, 2004Restated  See Note 2Cash flows from operating activities:Net (loss) income
    
    $
    (845
    )
    
    $
    992Adjustments to reconcile net (loss) income to net cash
provided by operating activities:Depreciation and amortization
    
    
    1,368
    
    
    
    1,251Tax benefit from exercise of stock options
    
    
    
    
    
    
    15Deferred income taxes
    
    
    (437
    )
    
    
    216Provision for losses on inventory
    
    
    57
    
    
    
    (158
    )(Reversal) provision for allowance for doubtful accounts
    
    
    (17
    )
    
    
    81Changes in assets and liabilities:Decrease (increase) in accounts receivable-trade
    
    
    1,847
    
    
    
    (922
    )Increase in accounts receivable-other
    
    
    (600
    )
    
    
    (51
    )Increase in inventory
    
    
    (1,226
    )
    
    
    (992
    )Decrease (increase) in prepaid expenses and other assets
    
    
    762
    
    
    
    (375
    )Decrease in refundable taxes
    
    
    312
    
    
    
    273Increase in accounts payable
    
    
    234
    
    
    
    16(Decrease) increase in accrued warranty
    
    
    (20
    )
    
    
    73(Decrease) increase in accrued expenses and deferred income
    
    
    (282
    )
    
    
    337(Decrease) increase in accrued royalties payable
    
    
    (299
    )
    
    
    86(Decrease) increase in accrued salaries and wages
    
    
    (119
    )
    
    
    84Increase in income taxes payable
    
    
    12
    
    
    
    375Net cash provided by operating activities
    
    
    747
    
    
    
    1,301Cash flows from investing activities:Purchase of short-term investments
    
    
    (10,391
    )
    
    
    (6,284
    )Redemption/maturity of shortterm investments
    
    
    500
    
    
    
    1,509Capital expenditures, including capitalized software
    
    
    (344
    )
    
    
    (486
    )Net cash used in investing activities
    
    
    (10,235
    )
    
    
    (5,261
    )Cash flows from financing activities:Proceeds from exercise of stock options
    
    
    
    
    
    
    33Net cash provided by financing activities
    
    
    
    
    
    
    33Net decrease in cash and cash equivalents
    
    
    (9,488
    )
    
    
    (3,927
    )Cash and cash equivalents at beginning of period
    
    
    32,622
    
    
    
    31,060Cash and cash equivalents at end of period
    
    $
    23,134
    
    
    $
    27,133
  7




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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 1. BASIS OF PRESENTATION
   RECLASSIFICATIONS
  2. RESTATEMENT
   8




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BALANCE SHEET
 March 26, 2005
    
    March 26, 2005
    
    December 31, 2004
    
    December 31, 2004As Reported
    
    As Restated
    
    As Reported
    
    As RestatedASSETSCurrent assets
    
    $
    79,468
    
    
    $
    79,468
    
    
    $
    79,547
    
    
    $
    79,547Intangible assets
    
    
    45,072
    
    
    
    40,308
    
    
    
    45,108
    
    
    
    40,518Goodwill
    
    
    19,340
    
    
    
    22,220
    
    
    
    19,340
    
    
    
    22,220Other long-term assets
    
    
    14,065
    
    
    
    14,087
    
    
    
    14,839
    
    
    
    14,860Total assets
    
    $
    157,945
    
    
    $
    156,083
    
    
    $
    158,834
    
    
    $
    157,145LIABILITIES AND SHAREHOLDERS EQUITYTotal current liabilities
    
    $
    8,228
    
    
    $
    8,228
    
    
    $
    8,702
    
    
    $
    8,702Deferred tax liabilities
    
    
    2,939
    
    
    
    2,299
    
    
    
    2,623
    
    
    
    2,042Total liabilities
    
    
    11,167
    
    
    
    10,527
    
    
    
    11,325
    
    
    
    10,744Total shareholders equity
    
    
    146,778
    
    
    
    145,556
    
    
    
    147,509
    
    
    
    146,401Total liabilities and shareholders equity
    
    $
    157,945
    
    
    $
    156,083
    
    
    $
    158,834
    
    
    $
    157,145
 Three Months Ended
    
    
    Three Months EndedMarch 26, 2005
    
    
    March 27, 2004As Reported
    
    
    As Restated
    
    
    As Reported
    
    
    As RestatedTotal revenues
    
    $
    14,275
    
    
    $
    14,275
    
    
    $
    17,607
    
    
    $
    17,607Cost of salesProducts and Services
    
    
    6,848
    
    
    
    6,848
    
    
    
    6,874
    
    
    
    6,874Amortization
    
    
    540
    
    
    
    714
    
    
    
    473
    
    
    
    6257,388
    
    
    
    7,562
    
    
    
    7,347
    
    
    
    7,499Gross profit
    
    
    6,887
    
    
    
    6,713
    
    
    
    10,260
    
    
    
    10,108Total operating expenses
    
    
    8,244
    
    
    
    8,244
    
    
    
    8,598
    
    
    
    8,598(Loss) income from operations
    
    
    (1,357
    )
    
    
    (1,531
    )
    
    
    1,662
    
    
    
    1,510Total other income
    
    
    262
    
    
    
    262
    
    
    
    90
    
    
    
    90(Loss) income before taxes
    
    
    (1,095
    )
    
    
    (1,269
    )
    
    
    1,752
    
    
    
    1,600(Benefit) provision for income taxes
    
    
    (364
    )
    
    
    (424
    )
    
    
    672
    
    
    
    608Net (loss) income
    
    $
    (731
    )
    
    $
    (845
    )
    
    $
    1,080
    
    
    $
    992Weighted average shares of common
stock and equivalents:Basic
    
    
    13,161
    
    
    
    13,161
    
    
    
    13,120
    
    
    
    13,120Diluted
    
    
    13,161
    
    
    
    13,161
    
    
    
    13,352
    
    
    
    13,352Net (loss) income per common share:
 9




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Three Months Ended
    
    
    Three Months EndedMarch 26, 2005
    
    
    March 27, 2004As Reported
    
    
    As Restated
    
    
    As Reported
    
    
    As RestatedBasic
    
    $
    (0.06
    )
    
    $
    (0.06
    )
    
    $
    0.08
    
    
    $
    0.08Diluted
    
    $
    (0.06
    )
    
    $
    (0.06
    )
    
    $
    0.08
    
    
    $
    0.07
  3. ACCOUNTING FOR STOCK-BASED COMPENSATION
  Three Months EndedMarch 26, 2005
    
    
    March 27, 2004(Restated)
    
    
    (Restated)Net (loss) income, as restated
    
    $
    (845
    )
    
    $
    992Add/ deduct: Total
stock-based compensation
expense based on the fair
value method for all awards,
net of related tax effects
    
    
    2
    
    
    
    75Pro forma net (loss) income
    
    $
    (847
    )
    
    $
    917(Loss) earnings per share:Basic  as restated
    
    $
    (0.06
    )
    
    $
    0.08Basic  pro forma
    
    $
    (0.06
    )
    
    $
    0.07Diluted  as restated
    
    $
    (0.06
    )
    
    $
    0.07Diluted  pro forma
    
    $
    (0.06
    )
    
    $
    0.07
 4. ACQUISITION
  10




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5. INTANGIBLE ASSETS
  March 26, 2005 (Restated)
    
    
    
    
    
    
    December 31, 2004 (Restated)EstimatedUseful Life
    
    
    
    
    
    
    Accumulated
    
    
    
    
    
    
    
    
    
    
    Accumulated(In Years)
    
    
    Gross
    
    
    Amortization
    
    
    Net
    
    
    Gross
    
    
    Amortization
    
    
    NetNon-amortized intangible
assets:Cheetah trademark
    
    
    
    
    
    $
    1,000
    
    
    $
    
    
    
    $
    1,000
    
    
    $
    1,000
    
    
    $
    
    
    
    $
    1,000LoopCare trade name
    
    
    
    
    
    
    1,300
    
    
    
    
    
    
    
    1,300
    
    
    
    1,300
    
    
    
    
    
    
    
    1,300LoopCare Post warranty
maintenance
service agreements
    
    
    
    
    
    
    32,000
    
    
    
    
    
    
    
    32,000
    
    
    
    32,000
    
    
    
    
    
    
    
    32,000Total Non-amortized
Intangible assets
    
    
    
    
    
    $
    34,300
    
    
    $
    
    
    
    $
    34,300
    
    
    $
    34,300
    
    
    $
    
    
    
    $
    34,300Amortized intangible
assets:Cheetah Maintenance
    
    
    10
    
    
    $
    160
    
    
    $
    26
    
    
    $
    134
    
    
    $
    160
    
    
    $
    21
    
    
    $
    139Exclusivity agreement
    
    
    5
    
    
    
    715
    
    
    
    143
    
    
    
    572
    
    
    
    715
    
    
    
    107
    
    
    
    608Customer Base  Cheetah
    
    
    15
    
    
    
    2,650
    
    
    
    279
    
    
    
    2,371
    
    
    
    2,650
    
    
    
    223
    
    
    
    2,427Base software  LoopCare
    
    
    10
    
    
    
    4,510
    
    
    
    1,579
    
    
    
    2,931
    
    
    
    4,510
    
    
    
    1,466
    
    
    
    3,044Total Amortized
Intangible assets
    
    
    
    
    
    $
    8,035
    
    
    $
    2,027
    
    
    $
    6,008
    
    
    $
    8,035
    
    
    $
    1,817
    
    
    $
    6,218Total Intangible assets
    
    
    
    
    
    $
    42,335
    
    
    $
    2,027
    
    
    $
    40,308
    
    
    $
    42,335
    
    
    $
    1,817
    
    
    $
    40,518Capitalized software:Clear Software Purchase
    
    
    1
    
    
    $
    538
    
    
    $
    38
    
    
    $
    500
    
    
    $
    538
    
    
    $
    11
    
    
    $
    527Proprietary technology
    
    
    10
    
    
    
    1,000
    
    
    
    217
    
    
    
    783
    
    
    
    1,000
    
    
    
    192
    
    
    
    808Base software  Cheetah
    
    
    10
    
    
    
    2,900
    
    
    
    628
    
    
    
    2,272
    
    
    
    2,900
    
    
    
    556
    
    
    
    2,344Developed product software
    
    
    5
    
    
    
    7,627
    
    
    
    5,197
    
    
    
    2,430
    
    
    
    7,591
    
    
    
    4,817
    
    
    
    2,774Total capitalized software
    
    
    
    
    
    $
    12,065
    
    
    $
    6,080
    
    
    $
    5,985
    
    
    $
    12,029
    
    
    $
    5,576
    
    
    $
    6,453Goodwill
    
    
    
    
    
    $
    22,220
    
    
    $
    
    
    
    $
    22,220
    
    
    $
    22,220
    
    
    $
    
    
    
    $
    22,220
  2005 (Remaining 9 months)
    
    $
    2,1482006
    
    $
    2,5592007
    
    $
    1,4792008
    
    $
    1,4312009
    
    $
    1,263Thereafter
    
    $
    3,113
  11




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6. INVENTORY
  March 26, 2005
    
    
    December 31, 2004Raw materials
    
    $
    6,615
    
    
    $
    7,631Work in process
    
    
    5,656
    
    
    
    4,442Finished goods
    
    
    3,316
    
    
    
    2,28815,587
    
    
    
    14,361Reserve for slow moving and obsolete inventory
    
    
    (1,477
    )
    
    
    (1,420
    )$
    14,110
    
    
    $
    12,941
 7. SHORT-TERM INVESTMENTS
  12




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March 26, 2005
    
    

    December 31, 2004Carrying Amount
    
    
    Fair Value
    
    
    Carrying Amount
    
    
    Fair ValueFinancial assets:Cash and cash
equivalents
    
    $
    23,134
    
    
    $
    23,134
    
    
    $
    32,622
    
    
    $
    32,622Short-term
investments
    
    $
    28,428
    
    
    $
    28,429
    
    
    $
    18,537
    
    
    $
    18,538
 8. RETIREMENT EXPENSE
    9. COST ALIGNMENT
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10. PER SHARE INFORMATION
   Three Months Ended
    
    
    Three Months EndedMarch 26, 2005
    
    
    March 27, 2004(Restated)
    
    
    (Restated)Net (loss) income
    
    $
    (845
    )
    
    $
    992Common and common equivalent shares:Weighted average common shares outstanding
    
    
    13,161
    
    
    
    13,120Effect of dilutive securities  stock options
    
    
    
    
    
    
    23213,161
    
    
    
    13,352(Loss) earnings per share:Basic
    
    $
    (0.06
    )
    
    $
    0.08Diluted
    
    $
    (0.06
    )
    
    $
    0.07
  11. RECEIVABLE FROM OFFICER
  12. PRODUCT WARRANTY
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Three Months Ended
    
    
    Year EndedMarch 26, 2005
    
    
    December 31, 2004Balance at the beginning of the period
    
    $
    2,081
    
    
    $
    2,150Accruals for warranties issued during the period
    
    
    390
    
    
    
    1,435Settlements during the period
    
    
    (410
    )
    
    
    (1,504
    )Balance at the end of the period
    
    $
    2,061
    
    
    $
    2,081
 13. CONTINGENCIES AND COMMITMENTS
  14. ACCOUNTING PRONOUNCEMENTS
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Report of Independent Registered Public Accounting Firm
 
      
 17




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Item 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 Restatement
  The following discussion should be read in conjunction with the Condensed Consolidated Financial
Statements and Notes thereto appearing elsewhere in this report.
 CAUTIONARY STATEMENT FOR PURPOSES OF THE SAFE HARBOR PROVISIONS OF THE PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995.
 will, believes, intends, expects, plans, could or may, ®
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OVERVIEW
 About the Company
     About its customers
  19




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PRODUCTS
 TELECOMMUNICATION TEST SYSTEMS
  DigiTest and LoopCare
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®
  
    
    the Common Object Request Broker Architecture (CORBA)-based
Application Programming Interface;
 
    
    Benchmark Data Base;
 
    
    DSL Testing;
 
    
    the Advanced Testhead Feature Package;
 
    
    Batch Testing;
 
    
    Fax Unalert;
 
    
    Loop Length Reporting;
 
    
    Enabling Flow Through by Re-Classification of VER 55-58 Codes;
 
    
    LoopCare TCP/IP Communications Network; and
 
    
    Testing Voice Services in a Broadband Passive Optical Network (bPON).
 MCU
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CABLE TESTING PRODUCTS
    SERVICES
  BACKLOG
  22




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OPERATING SEGMENT
  INTERNATIONAL SALES
  23




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APPLICATION OF CRITICAL ACCOUNTING POLICIES
  Revenue
Recognition
   24




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Cost of Sales
  Goodwill
and Intangible Assets
  25




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Reviews
for Impairment:
   26




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Inventory
Valuation
   Allowance
for Doubtful Accounts
   Income Taxes
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Warranty
   RESULTS OF OPERATIONS
 FIRST QUARTER OF 2005 COMPARED TO FIRST QUARTER OF 2004
 Revenues
     28




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Gross Profit
  29




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Selling and Marketing Expense
  General and Administrative Expense
 .
 Research and Development Expense
  Retirement Expense
   30




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Interest and Other Income
  Provision (Benefit) for Income Taxes
  Net (Loss) Income and (Loss) Earnings Per Share
  31




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CHEETAH ACQUISITION
  LIQUIDITY AND CAPITAL RESOURCES
    32




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RELATED PARTY TRANSACTION
  KEY RATIOS
  ACCOUNTING PRONOUNCEMENTS
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RISK FACTORS THAT MIGHT AFFECT FUTURE OPERATING RESULTS AND FINANCIAL CONDITION
  We depend upon a few major customers for a majority of our revenues, and the loss of any of these
customers, or the substantial reduction in the products that they purchase from us, would
significantly reduce our revenues and net income.
  -
    
    the conditions of the telecommunications market and the economy in general;-
    
    subscriber line loss and related reduced demand for telecommunications services;-
    
    changes or shifts in the technology utilized in the networks;
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-
    
    labor disputes between our customers and their collective bargaining units;-
    
    the failure to meet established purchase forecasts and growth projections;-
    
    competition among the RBOCs, competitive exchange carriers and wireless
telecommunications and cable providers; and-
    
    reorganizations, including management changes, at one or more of our customers
or potential customers.
  Our operating results may vary from quarter to quarter, causing our stock price to fluctuate.
  The sales cycle for our software products is long, and the delay or failure to complete one or more
large license transactions in a quarter could cause our operating results to fall below our
expectations.
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We depend on sales of our MCU products for a significant portion of our revenues, but this product
is maturing and may result in declining sales.
   We recently emphasized our network assurance and testing software solutions and cable status
monitoring products.
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The sale of our products is dependent upon our ability to satisfy the proprietary requirements of
our customers and to respond to rapid technological change, including evolving industry-wide
standards.
   Our customers are subject to governmental regulations that could significantly reduce the demand
for our products or increase our costs of doing business.
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Our limited ability to protect our proprietary information and technology may adversely affect our
ability to compete.
  Our products could infringe the intellectual property rights of others, and resulting claims
against us could be costly and require us to enter into disadvantageous license or royalty
arrangements.
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Our reliance on third parties to manufacture certain aspects of our products involves risks,
including, delays in product shipments and reduced control over product quality.
  Product quality, performance and reliability problems could disrupt our business and harm our
financial condition.
  We have completed, and may pursue additional acquisitions, which will complicate our management
tasks and could result in substantial expenditures, and the failure of acquired assets to meet
expectations could result in impairment of intangible assets.
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Our future sales in international markets are subject to numerous risks and uncertainties.
  If our accounting controls and procedures are circumvented or otherwise fail to achieve their
intended purposes, our business could be seriously harmed.
  If we ship products that contain defects, the market acceptance of our products and our reputation
will be harmed and our customers could seek to recover their damages from us.
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Our future results are dependent on our ability to establish, maintain and expand our distribution
channels and our existing third-party distributors.
  We face intense competition, which could result in our losing market share or experiencing a
decline in our gross margins.
   We are dependent upon our ability to attract, retain and motivate our key personnel.
  Consolidations in, or a continued slowdown in, the telecommunications industry could harm our
business.
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Our expenses are relatively fixed in the short term, and we may be unable to adjust spending to
compensate for unexpected revenue shortfalls.
  Our restructuring plan may be ineffective or may limit our ability to compete.
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We rely on software that we have licensed from third-party developers to perform key functions in
our products.
  We are affected by a pattern of product price decline in certain markets, which can harm our
business.
  Our common stock price may be extremely volatile.
  
    
    General market and economic conditions;
    
    Actual or anticipated variations in operating results;
    
    Announcements of technological innovations, new products or new
services by us or by our competitors or customers;
    
    Changes in financial estimates or recommendations by stock market
analysts regarding us or our competitors;
    
    Announcements by us or our competitors of significant acquisitions,
strategic partnerships, joint ventures or capital commitments;
    
    Announcements by our customers regarding end market conditions and the
status of existing and future infrastructure network deployments;
    
    Additions or departures of key personnel; and
    
    Future equity or debt offerings or our announcements of these offerings.
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We may be subject from time to time to legal proceedings, and any adverse determinations in these
proceedings could materially harm our business.
  
 Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
  
 Item 4. CONTROLS AND PROCEDURES
 (a) Restatement of financial statements and impact on internal control over financial reporting and
disclosure controls and procedures
 Restatement of Financial Statements
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Impact on Internal Control over Financial Reporting and Disclosure Controls and Procedures
    (b) Evaluation of Disclosure Controls and Procedures
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(c) Evaluation of Changes in Internal Control over Financial Reporting
  (d) Remediation of Material Weakness
  1.
    
    Documentation related to the Companys application of
accounting policies for intangible assets is considered in properly
determining and reviewing the estimates and judgments made relating to
useful or indefinite lives assigned to intangible assets acquired in a
business combination. These estimates and judgments include: (a) the
determination of useful lives of software-related intangible assets under
SFAS #86, (b) the critical review of indefinite life assertions and the
evaluation of the pertinent factors in support of such assertions and (c)
the critical evaluation of the views of experts, and underlying assumptions,
used in reaching complex judgments and estimates by management.2.
    
    The Companys existing periodic reviews consider current
events and circumstances to ensure that all available information continues
to support the indefinite life assertions.
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3.
    
    Management reviews of appropriate accounting literature
encompass current guidance regarding the factors pertinent to determining
and reviewing useful or indefinite lives of intangible assets.
  
 PART II. OTHER INFORMATION
 
 Item 2. CHANGES IN SECURITIES, USE OF PROCEEDS AND ISSUER PURCHASES OF EQUITY SECURITIES
  
 Item 6. EXHIBITS AND REPORTS FILED ON FORM 8-K
   ExhibitNumber
    
    Description15
    
    Letter re audited interim financial information31.1
    
    Certification of Chief Executive Officer, filed herewith31.2
    
    Certification of Chief Financial Officer, filed herewith32
    
    Certification of Chief Executive Officer and Chief Financial
Officer pursuant to 18.U.S.C. Section 350, filed herewith
  1.
    
    A Report Form 8-K was filed on January 21, 2005 relating to (i) the
Company entering into an Agreement with Christian L. Allison, the
Companys former Chief Executive Officer (ii) termination of an
existing agreement with Mr. Allison; (iii) the attachment of an
exhibit which was a press release announcing the Companys preliminary
financial results for the quarter ended December 31, 2004; (iv) the
resignation of Mr. Allison as Chief Executive Officer and as a
Director and the appointment of Mark B. Peterson as Chief Executive
Officer
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and to the Board of Directors to fill the vacancy created by
Mr. Allisons resignation and the election of Daniel P. Barry as
Chairman of the Board; and (v) certain amendments to the Companys
Bylaws.2.
    
    A Report Form 8-K was filed on March 11, 2005 relating to the Company
entering into an Extension and Amendment of Agreement (each, an
Agreement) with each of Carol M. Franklin, Joseph G. OBrien,
Gregory Quiggle, Roger A. Smith and Jeffery J. Tatusko, executives of
the Company.
 
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SIGNATURES
  Tollgrade Communications, Inc.(Registrant)Dated: March 2, 2006
    
    /s/ Mark B. PetersonMark B. PetersonChief Executive Officer
 Dated:
March 2, 2006
    
    /s/ Samuel C. KnochSamuel C. KnochChief Financial Officer and TreasurerDated: March 2, 2006
    
    /s/ Sean M. ReillySean M. ReillyController
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EXHIBIT INDEX
 ExhibitNumber
    
    Description15
    
    Letter re audited interim financial information31.1
    
    Certification of Chief Executive Officer, filed herewith31.2
    
    Certification of Chief Financial Officer, filed herewith32
    
    Certification of Chief Executive Officer and Chief Financial
Officer pursuant to 18.U.S.C. Section 350, filed herewith
 50